The U.S.-China Economic and Security Review Commission was created by the United States Congress in October 2000 with the legislative mandate to monitor, investigate, and submit to Congress an annual report on the national security implications of the bilateral trade and economic relationship between the United States and the People’s Republic of China, and to provide recommendations, where appropriate, to Congress for legislative and administrative action. Harris Sliwoski partner Dan Harris was asked to testify before the Commission on the subject of “The CCP’s Control of Markets and Data”. Below is a transcript of his testimony (modified slightly). Following the speakers’ prepared remarks, Commission members engaged in a lengthy Q&A with the panelists. Full video, including Q&A here:
U.S.-China Relations in 2021: Emerging Risks
My name is Dan Harris. I am an international lawyer who has for the last 20 years been helping mostly American and European companies navigate China’s legal landscape. I mention this upfront because what I am going to discuss today is based largely on what I have seen while representing companies that do — or at least try to do — business with or in China.
I will mostly be talking about how China’s Communist Party (CCP) wields its laws and regulations to maximize its power and control to the detriment of foreign and domestic businesses.
My firm’s lawyers see the crushing of businesses in China every day and that has become increasingly true since Xi Jinping became China’s president in 2013, and especially since he effectively became president for life in 2018.
1. The CCP is Cracking Down on Private Businesses
CCP antipathy towards private business is nothing new; it is as old as communism itself. By way of an example, my law firm has represented many of the big U.S. and Australian movie studios in their China legal matters and several of them have remarked how China “hates foreign movie companies” after learning how difficult it is to make movies that pass China’s censorship requirements. Our response has usually been that China hates all movie companies because movies can speak directly to the people.
China also does its utmost to wall off its Internet from foreign companies. It does this by not giving foreign companies Internet content provider (ICP) licenses, which in turn forces them to pay Chinese companies with ICP licenses to host their websites on Internet servers within China. The CCP does this to control online content. Because Chinese domestic companies fear the CCP, they usually do not put anything on the Internet that the CCP does not want there. And if a Chinese company does put something on the Internet that the CCP does not like, a Chinese government official can threaten that Chinese company or even arrest someone from that Chinese company. Doing this to a company whose leadership is in New York is considerably more complicated. As a result, the Chinese company that allows a New York company to use its ICP license will make sure the New York company does not put anything on the Internet that might offend the CCP.
As another example, the CCP does not allow foreign companies to operate schools that teach Chinese children and it recently banned private tutoring in core school subjects. Again, the CCP worries quite a lot about individuals and companies that have the ability to reach large audiences.
Does China not care about foreign investment? Does China not care about its own economy? My answer to these questions today is the same answer I’ve given 5, 10, and 15 years ago: China cares about both foreign investment and its own economy, but only to the extent that those bolster CCP power and help ensure its survival.
As a lawyer, the best example I see of the tension between investment and economics on the one hand and CCP power and control on the other hand is China’s court system. Our clients often ask me about the fairness of China’s courts and my answer is always the same. If you are suing a Chinese company for breaching your contract to make rubber duckies, you will get a fair trial. If you are suing a Chinese government company for stealing your cutting-edge semiconductor IP, well . . . good luck. Many China lawyers call this the 90-10 rule. Ninety percent of the time the Chinese courts will rule fairly because that allows China’s economy to function and that benefits the CCP. But when a case is important for the CCP, fairness instantly gets tossed out the window as the court will always rule to benefit the CCP. Legal scholars describe this as rule by law, as opposed to rule of law.
The same is true for Chinese IPOs in the United States and for VIEs. China allows select companies to IPO in the US — oftentimes via VIEs – because it wants the money. But if for any reason the balance shifts the CCP will – as it has done frequently lately – block them.
Variable interest entities (VIEs) are an excellent example of how the CCP operates. The CCP has allowed VIEs because they bring in foreign capital, but it has never formally legalized them. Now that the CCP is making clear in various ways it no longer values VIEs as much as it once did, investors and underwriters are panicking. But this writing – actually, more accurately, lack of any writing – has been on the walls all along for anyone interested in looking. VIEs have always operated in a legal grey zone; never clearly legal or illegal. This grey zone allows China to permit them while also allowing them at any moment to prohibit them or shut them down.
The same is generally true for China’s new laws and regulations on data privacy, which are geared more towards giving the Chinese government access to data than towards protecting Chinese consumers. The media has recently come out with many articles on China’s “new” data privacy laws, but at their core, the new laws do not differ much at all from those that preceded them. The Chinese government has for years had essentially full access to all data, even data held by foreign companies operating overseas. The new laws mostly just reiterate and clarify this and should be viewed not so much as new laws, but as the CCP signaling that companies that collect data the CCP does not want them to collect or that seek to hide data from the CCP are at risk of government action.
2. Why is the CCP Accelerating its Crackdown on Private Businesses Now?
First off, let me make clear again that the CCP has been cracking down on private businesses and free speech and the rule of law pretty much since Xi Jinping assumed power.
The CCP’s recent crackdowns on private businesses should not be surprising, both because similar crackdowns have been going on for so long and because they were entirely predictable. What I find more surprising is how many people are expressing surprise about the crackdowns. When people tell me they did not see them coming, my response is, “Right, how could you possibly have known there were communists in China?” “And why would you not expect a country that is – at the very minimum – engaging in a cultural genocide against its Uyghur and Tibetan populations to respect private property, private businesses, and the rule of law?”
On July 27, in an article headlined “Wall Street Gets a Chinese Education: The Communist Party Control Always Trumps the Needs of Investors”, the Wall Street Journal’s editorial board had this to say about the CCP’s antipathy towards private business and lack of concern for the economy: “The big surprise from this week’s slump in Chinese company stocks is that people are claiming to be surprised. President Xi Jinping has made plain for years that he intends to bring ever greater swathes of China’s private economy under the state’s control. Guess what, Wall Street: He meant it.”
Western businesspeople have been getting China wrong for a long time, largely because they tend to assume that everyone acts strictly out of economic self-interest. But for the CCP, the economy is a means to an end, with the end being a socialist state fully controlled by the CCP.
Xi Jinping and the CCP are Marxists, and Marxists believe that after capitalism comes socialism and after that comes stateless communism. China has been moving along Marx’s stages of development since Mao, and Xi Jinping appears to believe China is nearing the socialism stage, so it can start throwing away more and more capitalist elements. That is exactly what its crackdown on private businesses is doing. The West’s recent efforts to disengage from China are another reason why the CCP is accelerating this crackdown now.
Did foreign investors not know these things about China? Many did not. Businesspeople and investors typically are trained to look at industries and companies, not governments.
However, many did know, but for monetary reasons, did not want others to know. When my firm’s lawyers write anything remotely critical of China, expats in China (who profit from China) will often tell us they wish we would not write about such things because our articles might encourage their companies to pull out of China and put them out of their jobs. Few businesspeople have any incentive to tell the truth about China.
3. What Should the U.S. Government do About China?
Xi Jinping does not care about world opinion, and he certainly does not care about being liked. He also does not care about following international law, rules, or customs. And why should he, when China’s size and money and bullying have allowed them to get away with so much already?
Because no country, including the United States, can exert much influence on Xi Jinping or the CCP, the United States should focus more on what it can do to keep growing its economy, technology and political standing, and less on how to stop China from doing the same.
The U.S. government should encourage U.S. companies — and even companies from other countries – to cease doing business in or with China, especially manufacturing. The U.S. government should be forthright with the American people about how — even if American companies reduce their manufacturing in China — we still should not expect a wholesale return of manufacturing to the United States, but every dollar that goes from China to Mexico or Poland or Thailand is a victory for the United States.
Virtually all our clients who have their products made in China would prefer to have them made somewhere else. Invariably, one of three things are stopping them from exiting China. One, they can’t afford the upfront costs of moving. Two, they lack knowledge about where and how to find a good manufacturer elsewhere. And three, in some cases there are currently no viable alternatives to China (e.g. due to supply chain issues) for manufacturing their products.
Number one can be ameliorated with government subsidies and other incentives. Number two can be addressed with information. Number three will require the U. S. government to work with manufacturers in the United States and elsewhere to help them develop necessary manufacturing capabilities.
The U.S. government also should do more to protect U.S. investors from publicly traded Chinese companies. It makes no sense for Chinese companies on U.S. exchanges to have lesser auditing requirements than other companies, but they do, and few investors – especially retail investors – know this. As someone who has literally never seen Chinese company accounting records that are not at least highly suspect, I think Chinese companies should be removed from all U.S. stock exchanges. But if they are to be allowed, they should at least be required to meet the same standards as other companies and the SEC needs to alert investors to their special risks.
The U.S. government should also do more to protect its citizens and companies from China. It blocked a Chinese company from purchasing Tinder due to data privacy concerns, but consumer data is just the tip of the iceberg in terms of how China uses “private” companies to digitally invade the United States. Chinese companies are scooping up personal information about Americans with few regulatory roadblocks in place to stop them. For example, as was pointed out by Voice of America, “A Chinese gene company is collecting genetic data through prenatal tests from women in more than 50 countries for research on the traits of populations, raising concern that such a large DNA database could give China a technological advantage and the strategic edge to dominate global pharmaceuticals ….” Any Chinese company that operate in the United States is a potential threat. These companies may be private and their owners may have no other goal than to maximize profits, but few if any of them are in a position to say “no” to the CCP if the CCP decides it has an interest.
