The Rising Risk of China’s Intellectual-Property Theft

DEREK SCISSORS

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Congress must protect new intellectual property while promoting its development

The most important dimension of U.S.–China relations is technology, which is vital to economic, military, and even ideological competition.

In the economic competition, the main American challenge is not, as is sometimes implied, inadequate innovation. The U.S. is the world’s wealthiest country by tens of trillions of dollars. The number of U.S. patents granted to Ameri­cans set a record in 2019 and nearly matched it in 2020. That more than tripled the number of patents granted to second-place Japanese filers in our market.

The main challenge is not even Chi­nese innovation. Beijing’s preference for large firms and state funding at the expense of genuine competition ensures it will struggle in key areas, from aircraft development to shale. The main challenge is China’s acquisition of intellectual property (IP) and use of regulatory and financial subsidies to develop products from that IP to drive the U.S. out of global markets.

Pending legislation may, if passed, increase these risks. The United States Innovation and Competition Act (USICA) has passed the Senate, while the National Science Foundation for the Future Act has passed the House. Each spends at least $100 billion over five years on U.S. research and development, but the Senate included many more provisions attempting to limit Chinese access than the House has to date. Without stronger safeguards than even the Senate currently includes, China will be able to capture the technology developed by additional U.S. re­search, subsidize its deployment, and actually bring harm to American companies and workers rather than the benefits Congress imagines.

That the People’s Republic of China (PRC) will continue seeking to acquire American research is not seriously debatable. The U.S. Department of Justice reports that 80 percent of its economic-espionage cases involve the PRC. There are multiple documented cases of Chinese trade-secret theft for almost every year this century, from Datang’s receipt of information stolen from now-defunct Lucent in 2001 to China State Nuclear Technology’s receipt of information stolen from Westinghouse in 2010 to X-Motors’ receipt of information stolen from Apple in 2019.

In the area of capturing personal data, Chinese hackers attacked the Office of Personnel Management starting in late 2013 and Equifax in 2017, among other incidents.

Theft of military secrets is nominally a separate topic but is related to commercial theft and appears to be extensive. Technology with dual military and commercial uses must be transferred on demand from Chinese firms to the People’s Liberation Army under the PRC’s much-discussed “military–civil fusion,” a policy and a term created by the Chinese government. It also must be transferred on demand to any other entities the Chinese government considers suitable. When confronted by the government, there is no recourse for a Chinese firm holding American IP.

Despite this pointed and multifaceted threat, almost no Chinese beneficiary of illegal IP acquisition has faced even the mildest of consequences (that are publicly known). The U.S. has been unwilling to create policy tools to target recipients of stolen IP. For instance, the Trump administration’s investigation into this huge problem, conducted under Section 301 of the U.S. Code, degenerated into the poor policy of across-the-board tariffs punishing every­one regardless of behavior.

What happens post-theft is vital and often overlooked. Having spent less on innovation, Chinese firms have more resources available for production. If the sector in question is deemed valuable by the central or local government, firms will receive heavy subsidies. As a result, they can underprice foreign competitors, driving these competitors first out of the PRC, then out of overseas markets. Legal and illegal technology acquisition followed by enormous state support helps account for the speed and extent of the rise of Chinese telecom-equipment makers, for example. It might enable China to copy mRNA tech­nology and then try to bankrupt Ameri­can vaccine-makers.

Technology loss is thus only the first risk. Defenders of a system of globally open innovation, where American re­search is easily shared with foreign counter­parts, acknowledge Chinese pilfering but see research protections as worse. They argue that the U.S. should maximize innovation and accept some leakage. But they underestimate the danger. The PRC’s record is clear: New technology is not primarily a means to improve people’s lives; it’s primarily a means to enhance party supremacy. The commercial dimension of that is the CCP’s use of anticompetitive practices to create Chinese-dominated global industries, undercutting the benefits from developing new products and services.

This one-two punch justifies strenuous efforts to protect American IP. As it stands, USICA is inadequate to that purpose, while the House process is embryonic. There are USICA sections banning transfer of IP to Chinese entities, but they entail no punishment for American violators, much less for foreign beneficiaries, and will hardly slow Chinese acquisition. Another provision creates a list of Chinese state-owned beneficiaries of IP violations but entails no action. Finally, there are sections using existing authority more fully to punish violators, but those options feature near-useless sanctions on individuals, when the threat from Chinese subsidies instead indicates that the target should be global sales by beneficiaries of IP theft.

The key, as it always is with IP, is enforcement. Enforcement with respect to PRC entities is difficult and will re­quire the American government’s attention not just now but for the full lifespan of any USICA-like spending program.

At the moment, even existing en­force­ment possibilities are being ignored. China can offer access to a very large market in which to sell products developed from the IP, with no questions asked. In the case of its citizens or American citizens with family in the PRC, Beijing can also coerce IP transfer. Any Chinese participation in American technology ventures is therefore a risk. If blocking all Chinese participation in federally funded research is undesirable, enforcement of no-transfer rules must be vicious. To have any chance of matching Chinese inducements, a final version of the bill must prescribe felony criminal penalties as well as heavy fines. As always with industrial policy, those who object to these laws are free to opt out.

Another important aspect of enforcement is export control. In principle, ex­ports can occur without involving technology transfer. Yet the U.S. does not have a properly functioning export-control regime. Congress, eyeing China, voted over­whelmingly to tighten export controls in August 2018. Yet the Depart­ment of Commerce has failed to take any action on “founda­tional” technologies — established tech­nologies that should not be freely shared, such as high-performance semi­conductors. And, after originally identifying 45 “emerging” technologies whose export might need restriction, Commerce now claims that no specific actions are required.

To shield research-program results from Chinese acquisition and the resulting predatory competition, an outright ban is needed on ensuing exports to the PRC and to countries that lack adequate controls on resales that end in Chinese hands. The term of the ban would be limited and depend on the evolution of the specific technology, but no discretion should be granted for exemptions. Otherwise, developers will take taxpayer funds, then lobby Commerce or another implementing agency to favor their business interests in China at the expense of the economic and strategic interests of the United States. As with the breaking of rules on participation in research and development, export violations by Americans must be subject to severe punishment.

Enforcement within the U.S. is the easier part. With regard to PRC beneficiaries of illegal IP acquisition, the starting point should be to treat their behavior as criminal and to recognize that the U.S. has no obligation to allow new business of any kind with accused criminals.

Penalties should feature prohibition of all new transactions with American counter­parts anywhere in the world, including transactions through third parties. This must extend to barring receipt of U.S. capital, directly or indirectly, and prohibition of all sales in the American market. The idea is to erase the commercial advantages of using illicitly acquired technology. New or small-scale violators could receive short suspensions. Repeat violators should face indefinite exclusions from global transactions and blocks on their assets, like any other criminal entity.

American participants in the new federally funded research programs should be obliged to provide information about both the status of their research and any PRC contacts. This will make it more difficult for Chinese entities to pretend that, amazingly, they had an independent research program in the same field at approximately the same stage. Ameri­can companies later alleging losses to Chinese competitors using illegally acquired technology will have a base of evidence available.

That base of evidence will justify an initial suspension of transactions. Ameri­can companies have found it difficult to prove criminal Chinese behavior to a high standard of evidence given the lack of the rule of law in the PRC. But when technologies developed in a new federal program show up in China, the presumption for a certain number of years (varying by sector) should be that the PRC acquired them illegally. Over time, the base of evidence could expand to include the records of the Chinese entities and industries involved — are they clear or tarnished? If further incriminating evidence does not come to light, the ban should be removed. If it does, assets should be seized, or the transaction ban should be made global.

Even if the legislative process yields ideal IP rules and penalties, the actual implementation will still be challenging. Business lobbying of executive-branch regulatory agencies can undermine congressional intent. Executive offices must be properly funded, staffed, and monitored. And the nature of commercial research means this will be a long-term effort — Congress must ensure that rules are followed and penalties are applied years down the road.

Funding basic research is a legitimate function of government. If IP is left un­protected, however, the results will be the opposite of what Congress de­sires. It is certain that China will try to acquire IP generated through new American research and then subsidize goods produced using that IP. The U.S. must be far better at countering the PRC at both the acquisition and the sales stages, or American research success will again lead to Chinese economic and strategic success.