Let's transfer more technology to China By Scott Sumner

Noah Smith has a new Bloomberg column that expresses worry about too much technology being transferred to China. This partly reflects a widespread concern about China stealing technology, which might reduce the incentive of inventors to create new ideas. But most of Smith’s column focuses on more legitimate forms of technology transfer, such as Chinese foreign investments and joint ventures with Western firms. Smith worries about the effects of this sort of technology transfer, and is sympathetic to the idea that the US government might want to slow this process:

Suppose a Chinese electric carmaker wants to win market share by selling cars with the best cutting-edge battery technology. How does it get that technology? It can hire some engineers, build a lab and try to develop it inhouse. It can partner with a university research lab to create it. Or alternatively, it can buy an American company that already has the technology. The latter move might be profitable for both the acquirer and the target, but it can stifle a whole ecosystem from developing around that company in the U.S. The Chinese company will likely take the battery technology back to China with it, producing the batteries in China and sourcing the parts in China. Had the company not been acquired, it might have spawned a network of American suppliers and customers. Some of its employees would have left and gone to work for those suppliers and customers, or for competitors, or spun off their own businesses. They would have taken their knowledge of the first company’s technologies with them, where those ideas — whether protected by nondisclosure agreements or not — would combine with those of others, potentially creating whole new innovations. Instead, since a Chinese company now takes the tech back with it, that virtuous cycle will now happen in China instead, and the U.S. economy as a whole will lose out.

The beauty of information is that use by one person does not preclude use by others. I see technology transfer to China as a huge win/win for the global economy. Let’s start with the obvious:

1. Technology transfer to China is a huge win for China itself, as Smith himself notes:

China’s government can therefore be expected to take drastic measures to escape the dreaded middle-income trap — and that means acquiring foreign technology by hook or by crook.

Moving a country of 1.4 billion people from middle income to high income is a huge gain in welfare. In fairness, this will occur regardless of what policy the US adopts regarding technology transfer, but it will happen faster with a liberal regime. Some might ask why we should care about the welfare of the Chinese. I’d ask people to first consider why we should care about the welfare of anyone outside our friends and family. The answer is simple; it’s the right thing to do.

2. Technology transfer is also a huge win for the US, in several different ways. The direct advantage is that the US can then concentrate on what it does best—creating new ideas, and then earning profits from selling those ideas to China. China concentrates on what it does best, which is manufacturing goods like batteries, and uses the revenue to buy more new ideas from the US. That’s the standard argument for free trade. It’s true that one can create models involving assumptions such as increasing returns and agglomeration, where “strategic trade policies” can produce gains for the domestic country, but even the developers of those models (such as Paul Krugman) are often skeptical of whether real world governments have the ability to pick the appropriate sectors to protect. And again, there’s a big hurdle for protectionists to overcome, as the direct effect of investment barriers is negative.

3. I think that Smith also underrates the advantage to the US of a rich China. Let’s start with economics. If you look at where American companies earn their biggest profits, it’s highly skewed toward high-income economies. Thus the Netherlands provides a bigger market for US products than the much more populous Tanzania. Per capita income is a huge factor in determining the size of the market for the products of companies such as Apple, Disney, GM and Coke.

But that’s not all. China is not just much bigger than the US, it’s also more culturally homogeneous (at 92% Han). And that has resulted in a situation where, despite its size, China has a comparative advantage in a fairly small set of sectors—particularly mid-level manufacturing. In contrast, the US has important advantages in a wide range of sectors, including food, energy, high tech equipment, software, entertainment, consulting, finance, military hardware, commercial airliners, capital goods, and many others. A market with 1.4 billion affluent Chinese would be a mind-boggling fertile playground for American companies to sell into. We should welcome a rich China, even if we are evil people who don’t care about the welfare of 1.4 billion fellow human beings.

4. A rich China is also likely to be a more peaceful China. In recent decades, wars are increasingly less likely to be fought in rich areas. Think Eastern vs. Western Europe, or Latin America vs. North America, or Japan vs. South Asia. WWII convinced rich nations that they had too much to lose from modern weapons. That doesn’t mean that things can’t swing back the other way (as during 1914-45), and certainly a rich China would pose a greater military threat to Taiwan. On balance, however, the evidence points to wealth making the world a more peaceful place, at least in the era since the invention of the atomic bomb. My guess is that if China ever decides to put the screws on Taiwan, it will be via economic warfare, not military. Also note that Taiwan would probably be more comfortable joining a high-income mainland China than a middle-income China. And finally, transition to democracy is extremely highly correlated with income, and I emphasize “extremely”. Again, that doesn’t prove that a rich China would become democratic, but it’s certainly a more likely outcome than for a middle-income China.

PS. Speaking of China, this is just the tip of the iceberg: