China’s Hidden Tech Revolution
How Beijing Threatens U.S. Dominance
By Dan Wang
March/April 2023 https://www.foreignaffairs.com/china/chinas-hidden-tech-revolution-how-beijing-threatens-us-dominance-dan-wangPublished on February 28, 2023
In 2007, the year Apple first started making iPhones in China, the country was better known for cheap labor than for technological sophistication. At the time, Chinese firms were unable to produce almost any of the iPhone’s internal components, which were imported from Germany, Japan, and the United States. China’s overall contribution to the devices was limited to the labor of assembling these components at Foxconn’s factories in Shenzhen—what amounted to less than four percent of the value-added costs.
By the time the iPhone X was released, in 2018, the situation had dramatically changed. Not only were Chinese workers continuing to assemble most iPhones, but Chinese firms were producing many of the sophisticated components inside them, including acoustic parts, charging modules, and battery packs. Having mastered complex technologies, these firms could produce better products than their Asian and European competitors. With the latest generation of iPhones, this pattern has only accelerated. Today, Chinese tech firms account for more than 25 percent of the device’s value-added costs.
Although the iPhone is a special case—as one of the most intricate pieces of hardware in existence, it relies on an exceptional range of technologies—its expanding footprint in China captures a broader trend. In a majority of manufactured goods, Chinese firms have moved beyond assembling foreign-made components to producing their own cutting-edge technologies. Along with its dominance of renewable power equipment, China is now at the forefront of emerging technologies such as artificial intelligence and quantum computing. These successes challenge the notion that scientific leadership inevitably translates into industrial leadership. Despite relatively modest contributions to pathbreaking research and scientific innovation, China has leveraged its process knowledge—the capacity to scale up whole new industries—to outcompete the United States in a widening array of strategic technologies.
In its growing rivalry with Beijing, the U.S. government has sought to limit Chinese access to critical Western technologies and reinforce its own tradition of scientific innovation. Thus, in 2022, the Biden administration imposed broad new restrictions on selling advanced Western chip technology to Chinese firms while bolstering U.S. technology through the $280 billion CHIPS and Science Act. That piece of legislation, in addition to the Inflation Reduction Act, meaningfully helps the United States recover some of its leadership in the production of semiconductors and renewables. But the steadily advancing technological prowess of Chinese firms suggests that this approach may be missing a more central issue: China’s rise is not merely the result of copying and stealing from Western firms; nor has it depended on scientific breakthroughs. To a significant degree, it has been fueled by improvements in China’s own industrial capabilities—gains that have come from the country’s vast and sophisticated manufacturing workforce. Already, these strengths are apparent in China’s response to U.S. chip restrictions of the past few years. Previously, Chinese firms tended to avoid domestic Chinese technologies, preferring to buy the best—which was usually American. Now that Washington is preventing them from doing so, they are working harder to cultivate a thriving domestic chip industry.
For the United States and its allies, China’s arrival as a major tech power holds crucial lessons. Unlike the West, China has grounded its technology sector not in glamorous research and advanced science but in the less flashy task of improving manufacturing capabilities. If Washington is serious about competing with Beijing on technology, it will need to focus on far more than trailblazing science. It must also learn to harness its workforce the way China has, in order to bring innovations to scale and build products better and more efficiently. For the United States to regain its lead in emerging technologies, it will have to treat manufacturing as an integral part of technological advancement, not a mere sideshow to the more thrilling acts of invention and R & D.
China’s Moonshots
Many observers are justifiably skeptical about China’s tech leadership. For one thing, the country has created few multinational firms or globally recognized brands. Unlike Japan and South Korea, China has failed to establish new categories of consumer electronics, such as digital cameras or game consoles; nor has it been able to compete with Europe and the United States in automobiles or airliners. Instead, for the most part, Chinese companies have concentrated on making products they can sell at lower price points in the developing world. The relative lack of prominent Chinese brands has reinforced a Western understanding of China as a factory floor rather than a hotbed of innovation.
China also remains well behind the West in several critical technologies. China’s chip industry has a few notable achievements, including in the design of mobile phone chips and certain advanced memory chips. But in the fabrication of logic chips—the processors inside all digital products—Chinese firms are at least five years behind TSMC, the Taiwanese company that is the global leader in advanced semiconductors. They are even weaker when it comes to developing the specialized tools required for making chips. For the all-important lithography machines, used for printing patterns on silicon wafers, and metrology equipment, used for quality control in a production process that demands hundreds of steps, Chinese firms rely overwhelmingly on imports from Japan, the United States, and Europe. And they are barely out of the starting gate in creating the software tools needed to design the most advanced chips.
A similar dynamic exists in China’s aviation industry. Consider the Commercial Aircraft Corporation of China (COMAC), China’s answer to Airbus and Boeing, a state-owned venture backed by an estimated $71 billion in government funding. Fifteen years after its founding, it has scarcely begun to produce its first operational commercial airliner. Chinese firms in both the chip and the aviation industries are achingly aware that many of their core components continue to be supplied by the West: production equipment and advanced software tools in the case of chip manufacturers, and the engine as well as the avionics systems in the case of COMAC jets. It is this kind of reliance on Western technology that gives new U.S. chip restrictions the potential to throw Chinese firms into turmoil.
China now rivals Japan, South Korea, and Taiwan in its mastery of the electronics supply chain.
But amid these serious vulnerabilities, China is making rapid progress in many other technologies. Chinese firms have quickly gained ground against their European and Japanese counterparts in the production of advanced machine tools such as robotic arms, hydraulic pumps, and other equipment. As the iPhone demonstrates, China now rivals Japan, South Korea, and Taiwan in its mastery of the electronics supply chain. And in the digital economy, despite recent efforts by President Xi Jinping to tighten government control of Internet companies such as Alibaba, Tencent, and Didi, China remains strong. Chinese companies can still offer spirited competition to Silicon Valley’s tech giants, as ByteDance’s TikTok has been doing to Facebook. China leads the world in building modern infrastructure, including ultrahigh-voltage transmission lines, high-speed rail, and 5G networks. In 2019, China became the first country to land a rover on the far side of the moon; a year later, Chinese scientists achieved quantum-encrypted communication by satellite, pushing the country closer to creating unbreachable quantum communications. These achievements are emblematic of China’s steady effort to master more and more difficult tasks.
Taken as a whole, then, China’s technological development is considerably more dynamic than the country’s image suggests. China remains behind in several critical areas, and some of its most important tech firms face regulatory squeezes—whether from Washington or Beijing itself. Regardless of these challenges, Chinese industries are reaching world-class standards, and the country’s science is steadily advancing. Along the way, Chinese firms have begun to make significant innovations of their own, including in strategic areas that the United States has prioritized.
Solar Superpower
One of China’s major tech triumphs in recent years has been in renewable power equipment. When a commercial market emerged for solar technologies early in the twenty-first century, most innovations came from the United States, and it seemed logical that U.S. firms would drive the industry. In 2010, however, China’s State Council, the central government’s executive branch, designated solar power generation as a “strategic emerging industry,” triggering a cascade of government subsidies and business creation, much of it aimed at expanding manufacturing capacity. In the process, Chinese firms learned the basics of solar photovoltaics and began to improve on existing methods of producing them. Today, Chinese firms dominate almost every segment of the solar value chain—from processing polysilicon used in solar cells to assembling solar panels. They have also advanced the technology itself. Chinese solar panels are not only the cheapest on the market; they are the most efficient. The breathtaking decline in solar costs over the past decade has been driven by manufacturing innovations in China.
Over the last few years, Chinese firms have also staked out strong positions in the production of large-capacity batteries that power electric vehicles. As the world moves away from internal combustion engines, advanced battery technology has become the most critical component in car manufacturing. China has led the way: CATL, a Chinese company founded in 2011, is now the biggest battery manufacturer in the world, partnering with major car companies such as BMW, Tesla, and Volkswagen. In addition to having far greater manufacturing capacity than its rivals—which matters for lowering costs—CATL has taken the lead in developing new and more efficient chemical mixtures, for example in its sodium-ion batteries, which can be produced without using scarce lithium and cobalt minerals.
A battery plant in Changzhou, China, November 2019
Aly Song / Reuters
The Biden administration has recognized the risks of depending on China for the critical technologies it needs for the United States’ green transition. But various rounds of U.S. tariffs, as well as U.S. investigations into forced labor allegations in China’s polysilicon supply chain, have failed to dislodge Beijing from its dominant position in the solar industry. One such investigation by the U.S. Commerce Department, which threatened retroactive tariffs on solar imports of up to 250 percent, threw American solar buyers into turmoil, and in June 2022, President Joe Biden was forced to issue an executive order forestalling any tariffs for the next two years. Meanwhile, although Biden’s Inflation Reduction Act, passed in August 2022, aims to dramatically accelerate the transition to electric vehicles in the United States, the legislation is off to a halting start because it has made many current EVs on the market potentially ineligible for federal EV subsidies. For now, the United States and many of its Western allies will remain significantly dependent on China in their drive to decarbonize.
China has not achieved dominance in such industries as solar components, EV batteries, and electronics in a vacuum. This rapid progress connects directly to the country’s strengths in manufacturing and quality control. From the early 1990s to today, the Chinese workforce has moved from producing simple toys and textiles to conducting the extraordinarily complex operations needed to produce sophisticated electronics such as the iPhone. Along the way, Chinese firms have often made significant advances of their own: in China, tech innovations have come not from universities and research labs but through the learning process generated by mass production itself. At the heart of the country’s ascendancy in advanced technology, then, is its spectacular capacity for making things.
Better Chefs, Better Omelets
By any account, China’s technological progress has come at enormous cost. In the most generous reading, Beijing has established the country’s position through a fantastic waste of government resources. These giant subsidies have a distorting effect: a study published in December by the National Bureau of Economic Research in Cambridge, Massachusetts, found that Beijing has a poor record of picking winners and the recipients of Chinese government subsidies tend to have lower productivity growth. More often, according to many critics, Chinese advances have been spurred by extreme protectionism and widespread intellectual property theft.
Although there is some truth to all these claims, they are not sufficient to account for China’s rise. For every example of a Chinese industry that has benefited from protectionism—such as the Internet platform Baidu, which thrived behind the Great Firewall—there is another, such as China’s car industry, for which such measures have failed to produce world class companies. Forced technology transfers and intellectual property theft may well have helped the development of some industries, and it is right for the United States and its allies to push back on these practices. But they do not explain China’s emergence in such fields as batteries, hydrogen, and artificial intelligence.
Instead, the most important factor in China’s burgeoning tech industries is its manufacturing ecosystem. Over the past two decades, China has developed an unrivaled production capacity for tech-intensive industries, one that is characterized by a deep labor pool, dense clusters of suppliers, and extensive government support. This strength draws in part on China’s industrial history. In earlier decades, the government gave industry special importance: disastrously during Mao Zedong’s Great Leap Forward, and more effectively under Deng Xiaoping in his Four Modernizations. Beginning in the 1990s, central government initiatives were less important than market drivers, with China’s manufacturing capacity taking off in the wake of the country’s accession to the World Trade Organization in 2001.
Over the past decade, Xi has put China’s industrial obsession into overdrive. Two years after taking office, he launched Made in China 2025—a sweeping policy framework aimed at lifting China’s manufacturing base from labor-intensive industries to high-technology sectors. And in 2021, in its latest five-year plan, the central government announced a campaign to turn China into a “manufacturing superpower.” That is not an idle goal: over the past few decades, Beijing has directed vast sums of cheap credit and energy to advanced tech firms, even when they are years away from profitability.
China’s tech innovations have been made in factories, not labs.
The solar industry is a case in point. By showering subsidies on all comers, the government encouraged too many firms to enter the field. But it also provoked greater entrepreneurial risk-taking, creating a brutally competitive industry in which the strong muscled out the weak. As a result, Chinese firms today dominate a strategic industry that the rest of the world depends on. This approach—promoting manufacturing to the point of excess capacity—is in sharp contrast to the economic orthodoxy in much of the West, which stresses high-value activities such as R & D and product branding while downplaying the value of physical production as something that can be done cheaply offshore, often in Asia.
Beijing’s manufacturing-driven approach has become critical to its ability to challenge the West in advanced technology. To understand why, it is crucial to recognize the forces that go into successful innovations. Producing new technology can be likened to preparing an omelet: ingredients, instructions, and a well-equipped kitchen are helpful, but they will not in themselves guarantee a good result. Even people with the fanciest equipment and the most exquisite recipe may not be able to make a delicious omelet if they have never cooked before. An additional element is required: practical experience—skills that can only be learned by doing. These skills can be referred to as process knowledge, and they are part of what has helped China become a major tech innovator.
Although process knowledge is difficult to measure, it can be gauged by a workforce’s general level of experience and by the creation of clusters of varied industrial activity. China has notable strengths in both. The country’s most significant technological achievement over the past two decades has been its development of a vast and highly experienced skilled workforce, which can be adapted as needed for the most tech-intensive industries. For example, Apple still counts on China as the only country that can call up hundreds of thousands of highly trained workers on short notice, quickly access dense networks of component suppliers, and rely on government support to help solve the manifold problems that come with producing millions of iPhones each year.
Equally striking, however, is the way that China has used foreign firms to help build industrial clusters, or what economist Brad DeLong calls “communities of engineering practice.” American firms such as Caterpillar, General Electric, and Tesla have become large employers in China. And most of Apple’s products are produced by contract manufacturers such as Foxconn and Pegatron, which manage workers in China. Unlike Japan, which maintained a mostly closed market during its decades of postwar growth, China has significantly boosted its industrial rise by learning directly from foreign firms. Despite U.S. President Donald Trump’s trade war, Beijing refrained from significant retaliation against U.S. firms in China, partly because it recognizes the managerial expertise they bring and their transmission of manufacturing skills to Chinese workers.
Through continual exposure to the world’s leading manufacturing processes, Chinese workers have acquired skills they can take to domestic firms. Consider the production of EV batteries. Manufacturing these units requires around a dozen discrete steps, each of which demands a near-perfect handoff from the preceding stage. Chinese engineering managers have gained the process knowledge needed for this task through experience in consumer electronics. This transfer of manufacturing know-how has also been one of the keys to China’s dominance of the solar industry. Goosed by subsidies and aided by their ready access to skilled labor, Chinese firms were soon producing better and cheaper solar panels than their U.S. and German counterparts. And these manufacturing innovations have increasingly defined the global industry: the advances in solar over the last decade have been driven less by breakthroughs in science—America’s specialty—than by driving costs down through more efficient production, which is China’s strength.
The rise of Shenzhen as a global tech center is itself a validation of the importance of process knowledge. In the years after it began mass producing the iPhone in 2007, the city developed a vibrant local tech industry optimized for producing intricate devices; soon, workers used their engineering and production expertise to invent other products. With R & D labs right next to manufacturing facilities, Shenzhen’s engineers had unparalleled access to component suppliers, experienced workers, and skilled designers. Today, Shenzhen has staked out a leading position in consumer drones, virtual reality headsets, and other novel electronics. Behind this dominance is a skilled workforce that has spent years mixing with daring entrepreneurs in an era in which electronics components such as cameras, batteries, and screens plummeted in cost. Thus Shenzhen now resembles the Bay Area, where university researchers, entrepreneurs, workers, and investors continually rub elbows. Small wonder that Shenzhen has become the Silicon Valley of high-tech hardware.
Science, Not Industry
In the decades after World War II, the United States used its scientific leadership to dominate many emerging tech industries, from computers to aviation. For Washington, this made sense at a time when design breakthroughs and laboratory innovations were a major part of the Cold War rivalry with the Soviet Union. The science-driven approach also seemed to find support in the market. In the 1990s, Stan Shih, the Taiwanese electronics entrepreneur, observed that most of the profits in tech industries are made at the beginning of the value chain—design, research, and development—and at the end, in marketing the product. The least amount of profit is made in actual manufacturing, which is the middle of the value chain. This so-called smiling curve is exemplified by Apple, the world’s most valuable company, which handles the development and marketing of its products, leaving the low-margin manufacturing work to be done by its partners in China and elsewhere in Asia. Drawing on this insight, U.S. companies have spent much of the past two decades concentrating on R & D and marketing while relying on China in particular for many of their manufacturing needs.
One result of this longtime emphasis is the continued U.S. leadership in some industries that demand the complex integration of different scientific disciplines. Although Intel and Boeing have seen better days, the United States continues to be an industry leader in semiconductor production equipment and aircraft engines. Significantly, both industries are highly interdisciplinary: semiconductor technologies demand synthesizing fields that include electrical engineering, chemistry, and computer science; aviation involves aerodynamics, materials science, mechanical engineering, and other highly specialized fields. Unlike the United States, China does not have a tradition of pushing scientific frontiers. In fact, it does less of the groundbreaking science in these industries and has a relatively poor track record of commercializing useful research.
A circuit board production line in Wuhan, China, August 2021
China Daily / Reuters
But all is not well with the U.S. tech sector. Many companies have taken the logic of the smiling curve too far in recent decades, putting ever more resources into the tips of the curve while leaving manufacturing capabilities to wither. Since 2000, the United States has lost around five million manufacturing jobs—about a quarter of its manufacturing workforce—prompting cascades of skill loss among not just line workers but also machinists, managers, and product designers. In the long term, this decline has left the United States in a poor position to dominate emerging technologies. For example, with its own science leading the way, the United States should have dominated the solar industry. And Washington was prepared to help it do so: as early as 2012, U.S. President Barack Obama imposed tariffs on Chinese solar imports in an effort to protect domestic producers. But even with these protections, U.S. manufacturers could not compete. Whereas China had ready access to a huge base of skilled workers and suppliers and could scale up production almost without limit, the United States, after successive layoffs of millions of workers, had lost much of its stock of process knowledge and did not have the capacity to build a healthy manufacturing base. As a result, by 2022, U.S. imports of solar technology reached $8 billion, much of it coming from Chinese companies producing in Southeast Asia.
The failure of the U.S. solar industry is part of a bigger story of decline in U.S. manufacturing. To a degree, this trend has been driven by increasing automation. But the sector is also beset by internal weaknesses. Consider the early days of the COVID-19 pandemic. Like other countries, the United States needed vast quantities of personal protective equipment and other medical supplies. Yet U.S. firms struggled to adapt their production lines to make facemasks and cotton swabs— uncomplicated products by any measure—because they had lost much of the requisite process knowledge. By contrast, Chinese manufacturers were quickly able to retool for the emergency and produced many of the medical supplies that the United States and other countries needed.
So far, U.S. efforts to reshore manufacturing jobs from Asia have been disappointing. A big push by Apple to make more desktop computers in Texas, for example, floundered after 2012 because it lacked a supporting industrial ecosystem of component parts. One exception has been the United States’ rapid production of messenger RNA vaccines, which have proved more effective than China’s inactivated virus vaccines. To compete against China’s advanced industries in the years to come, however, the United States will need far more than a one-off biotech victory.
Scale Up Or Lose Out
Even as it challenges the West’s approach to tech advances, Beijing has recognized its weakness in scientific knowledge. In his report to the 20th National Congress of the Chinese Communist Party in October 2022, Xi declared that science and technology will be one of the party’s top priorities. And although improving its research culture will take time, China has been making steady progress, including in such areas as space exploration and quantum communications. Beijing is especially keen to augment domestic semiconductor development now that Chinese telecommunications giant Huawei and Chinese chip maker SMIC have been denied access to U.S. and European semiconductor technologies. One unintended result of Washington’s new chip restrictions has been to jump-start Chinese investments in science and R & D.
By contrast, the United States has not yet come to grips with its own deficit in process knowledge. Certainly, Congress’s passage of the CHIPS Act and the Inflation Reduction Act in 2022 constitute major steps forward in industrial policy, given that both allocate billions of dollars of federal funding for advanced industries. But too much of U.S. policy—including this legislation—is focused on pushing forward the scientific frontier rather than on building the process knowledge and industrial ecosystems needed to bring products to market. As such, Washington’s approach to its growing tech rivalry with China risks repeating the mistakes it made in the solar industry, with U.S. scientists laying the foundation for a new technology only to see Chinese firms take the lead in building it. Take the production of electrolyzers, which extract hydrogen from water and have become the crucial tool in the production of green hydrogen. As with solar, China is poised to dominate the green hydrogen industry by manufacturing the most efficient products at scale.
The United States will always be a difficult place to make things.
To avoid repeating the solar story, the United States will have to give greater priority to advanced manufacturing. Andy Grove, the legendary CEO of Intel, recognized this problem a decade ago, when he urged the country to focus less on “the mythical moment of creation” and more on bringing innovations to market. “This is the phase where companies scale up,” he wrote in an influential article in 2010. “They work out design details, figure out how to make things affordably, build factories, and hire people by the thousands.” But to get better at scaling up, the United States will also have to learn to think differently about the value of manufacturing work. Policymakers must resist the urge to scorn manufacturing as a mere “commoditized activity” that can be done overseas. Instead, the mass production of new technologies needs to be seen as equal in importance to the innovations themselves—an activity that depends on the kinds of deep process knowledge that can only come from the better training and integration of workers, engineers, and scientists.
The new U.S. investments in tech industries that flow from the CHIPS Act and the Inflation Reduction Act will help reverse the tide. But as China understands well, money is only the beginning of the process of building a durable technology sector. Such investments must also be accompanied by efforts to end the cost overruns that plague U.S. efforts to build better infrastructure. Local colleges and elite universities must better train students for advanced manufacturing. And Washington should learn to follow Beijing’s lead and court greater foreign investment. Like the Trump administration before it, the Biden administration has invited Japanese, South Korean, and Taiwanese firms to build chip factories in the United States; these companies should also be welcomed for their expertise in batteries and the broader electronics supply chain.
The economic reality, of course, is that the United States will always be a relatively difficult place to make things. Because of its smaller population and higher wage requirements—and the fact that the U.S. dollar remains the global reserve currency, raising the relative cost of producing goods domestically—the United States cannot outcompete China in most high-volume manufacturing. Nor is a campaign to revitalize U.S. manufacturing capability likely to create many jobs; any such effort will involve highly automated lines that rely more on capital than on labor. And of course, the United States should not attempt to make absolutely everything. U.S. policy must target strategic industries in which it has a plausible comparative advantage.
Indeed, in several such industries, the United States is well-positioned to outperform China. By strengthening its manufacturing potential, the United States could expand its lead in biotech, semiconductor production equipment, and aircraft engines. It should make sure it does not lose next-generation energy technologies such as hydrogen electrolyzers. And it could attempt to recover some of the electronics supply chain from Asia. Moreover, in the wake of Beijing’s repeated COVID-19 lockdowns and after Russia’s invasion of Ukraine, investors are increasingly rattled about the risks of investing in China, and the United States has an exceptional opportunity to win back manufacturing jobs. But as an ideological starting point, a new industrial policy will need to be centered on workers and their process knowledge rather than on financial margins. Otherwise, it is likely to be China, not the United States, that leads the next technological revolution.