Is the U.S. Still Financing China’s Military Might?

Washington has enacted rules to restrict funding and support for China’s military-industrial base. There are Wall Street bans on investing. And there are Entity List restrictions that make it harder for U.S. tech companies to sell hardware to China, though many people in Washington —- and throughout the country —- have said those restrictions are pretty weak.

China knows this is happening and is turning toward internal capabilities escalation, trying to speed its way up the high-tech equipment supply chain, and gain know-how through joint ventures with American companies and acquisitions of European ones.  What, if anything, can be done?

“I’m mostly interested in basic enabling technologies. Look at (German robotics manufacturer) Kuka and how critical those manufacturing capabilities are and now China bought that in Europe,” said Robin Cleveland, a commissioner for the U.S. China Economic and Security Review Commission. The Commission held a day-long hearing titled China’s Military Diplomacy and Overseas Security Activities on Jan. 26.

It was Cleveland that really asked the million-dollar question on the day. “Are there any China acquisitions that aren’t just on the list of super high-tech purchases, but would also be of significant concern?” she asked.

This is where China’s military-civil fusion comes into play – where private sector consumer-facing companies are sharing know-how, and sometimes contracting for the Chinese military.

Panelist Meia Nouwens, Senior Fellow for Chinese Security and Defence Policy at the International Institute for Strategic Studies, said that the U.S. should be more worried about high-end computer technologies, and less concerned with robotics (though it is robotics that makes the tanks and the ships). Nouwens gave an example of how China’s private sector operates in Europe, often in bed with the Chinese military through civil-military fusion. A lot of it is happening in the venture capital space, something the U.S. often overlooks.

“We saw it with the acquisition of a German start-up, bought by Alibaba,” Nouwewns said of the Chinese company mostly known for being the Chinese Amazon. “It was a full purchase of a German start-up (Data Artisans, $103 million sale to Alibaba) that had a strength in being able to sort and analyze large-scale data. Alibaba said they wanted it because they wanted the know-how behind the technology, so Alibaba could learn more, and innovate.”

Missing from the roughly six-hour session were talks of the U.S. Commerce Department’s Bureau of Industry and Security’s (BIS) Entity List, and whether that is working.

It seems that China is at least taking those Entity List restrictions as a signal to the U.S. business community and Silicon Valley to not work with them in high-tech industries. As a result, panelists said China was producing more of what it needed at home.

“China’s defense industrial base has modernized and is no longer fully dependent on imports,” Nouwens said in her opening remarks. “The defense base is complex and is mostly dominated by state-owned companies. They are large and cumbersome but are becoming more competitive. Seven of China’s top defense contractors are ranked in the top 20 defense firms globally in terms of revenue. They are also becoming more competitive and innovative. And they are encouraged to do that via the civilian-military infusion focus of the CCP. Most of that innovation comes from the private sector,” she said.

Wall Street used to be investors in those companies above, but have been banned from buying specified Chinese military company shares since August 2021. (Though there are parent and subsidiary companies that Wall Street maintains access to and also robust confusion about trading prohibitions due to unclear rules and murky guidance from the Treasury Department on the matter.)

The Entity List continues to expand, but there has been enough testimony on Capitol Hill of late to suggest that the majority of companies looking to sell computer hardware to companies on the Entity List, such as Huawei, are given the license to do so. And, being on the Entity List does not stop Wall Street from investing in the companies that theoretically are acting against U.S. foreign policy interests.

The Huawei Example

While Huawei is subject to some sanctions and restrictions from the U.S. government, it is not a fully blocked entity and maintains access to the U.S. banking system, for example.

At the end of the last Congress, Senator Tom Cotton (R-AR), supported by Senator Chuck Schumer (D-NY,) sought to change that with legislation that would designate Huawei under the Specially Designated National category of the U.S. Treasury. The legislation was never signed into law.

As operations continue for Huawei, it is highly possible that Huawei uses imported U.S. technology to power the communications system on armed Chinese swarm drones or aircraft carriers, and thus the argument can be made that the U.S. is still supporting its greatest adversary. This is just one example of one particular company and capability.

What is particularly perplexing about this continued debacle is the U.S. government — and in particular Congress — have tools they can impose and actions they can take to curb a rising China, People’s Liberation Army and Navy, and our assistance to them, said Robby Smith Saunders, Vice President of National Security for CPA. She was not at the hearing.

“Government actors simply lack the political will to do so. While there is boundless tough rhetoric on China or talks of needing to have a U.S. military posture prepared to put American lives on the lines to jump to Taiwan’s defenses, no actions of actual consequence are widely supported in Congress or from the Executive branch,” she said.

“Economic statecraft ought to be our number one objective right now when it comes to China and mitigating their threats to the U.S. and democratic values, as well as U.S. economic and security interests. But instead of making a few tough financial, investment, export, and business decisions now, our policymakers want to keep as much of the money and knowledge flowing as possible between China and the U.S. for as long as they can, while simultaneously drawing up war plans for Taiwan. It does not make sense to me. We should be focused on becoming more economically independent from China, protecting our business interests such as intellectual property and American producers who cannot compete against China’s illegal dumping and forced labor schemes. We should be shifting our supply chains away from China – especially for critical materials, essential medicines, and future energy sources. And we should be countering their malign influence in the American think tank, business, academic, real estate, and state and local government communities, as well as globally in Latin America and the world’s standard-setting bodies. This is what our policymakers should be focused on.” – Robby Smith Saunders, VP, National Security at CPA

The COSCO Shipping Company Example

It is a tough task for Commerce to decide who gets put on the Entity List, and what products are ultimately allowed to be sold to companies on that list.

Take China Ocean Shipping Corporation, best known as COSCO. If anyone has seen the acronym COSCO on a tractor-trailer or stacked at a port, it’s a Chinese maritime company and its cargo is surely loaded with Made in China goods bound for the U.S.

The company is not a defense contractor and its shares are owned by all the big Wall Street players, from the usual “own-everything with a ticker” firms like BlackRock and Vanguard, to Federated Hermes funds and specialty funds owned by State Street Bank of Boston under their ETF product, the SPDR Global Infrastructure Fund, based on the most recent Morningstar data. American retail investors own COSCO shares.

COSCO is a good example of civilian-military fusion, notes Isaac B. Kardon of the Carnegie Endowment for International Peace in his statement for the record before the U.S.-China Economic and Security Review Commission last week.

Chinese Naval vessels make extensive use of Chinese firms’ network of commercial transport infrastructure around the globe. The most significant observations of this existing dual-use capability emerge from the network of nearly 100 ocean ports owned and/or operated by China companies in foreign jurisdictions.

Chinese Navy warships have now docked at over one-third of these facilities, utilizing China’s trade-centric infrastructure network with growing scope and intensity to fulfill an increasingly global mission set, Kardon wrote.

“The scale and concentration of assets under the control of firms like COSCO and China Merchants Group (owned by Fidelity, Vanguard, DFA and more, according to Morningstar) create a globally-distributed, vertically-integrated transport and logistics network serving many of China’s international trade needs. The primary functions of this network are plainly commercial; but its secondary and tertiary functions, however, enable the Chinese military to sustain a range of peacetime operations far from its shores. These dual-use functions are prescribed in China’s domestic law and policy, which oblige Chinese companies to give preferential access to military vessels at their terminals, share information, and actively support defense transportation and mobilization.” — Isaac B. Kardon, Senior Fellow for China Studies at the Carnegie Endowment for International Peace, Statement for the Record for the U.S. China Economic and Security Review Commission, Jan. 26, 2023.