The US-China Trade War and the Global Supply Chain (Part 2 of 2)

Who will Dominate the Digital Supply Chain

In Part 1 of the blog, we took a holistic look at the triggers, objectives and the intended (and unintended) consequences of the ongoing US-China trade war. We found that the trade war, at its core, is really about the domination of the global supply chain landscape.

We saw how China’s economic rise since the early 1990s caused the balance of power in global trade to shift from high-income countries like the US, Europe and Japan toward China. We looked at how China’s superlative ability to move its products thanks to its efficient supply chain and logistics capabilities placed it firmly in the position of the factory of the world.

China’s supply-chain might has been further strengthened by its ability to swiftly modernize and expand its physical infrastructure not only within its borders, but also well beyond. Its ambitious BRI (Belt Road Initiative) which envisions the formation of a global logistics, trade infrastructure and transportation network, already involves the participation of 124 countries and 29 international organizations. In response, in November 2019 the US-based OPIC (Overseas Private Investment Corporation), in co-operation with the Japan Bank for International Cooperation and Australia’s Department of Foreign Affairs and Trade launched an initiative called the Blue Dot Network that will vet and certify projects to promote sustainable infrastructure development in Asia and around the world. It’s too early to say what impact the initiative will have on China’s BRI.

By all accounts, the ongoing trade war has begun to chip away at China’s dominance of physical supply chains. Because of the growing costs of production and compliances, U.S.-linked manufacturing has begun to move away from China to other Asian countries like Vietnam, Thailand, Indonesia, Malaysia and India that offer better costs and are US allies. (Read more on it in Part I.)

The only way for China to stop the emaciation of its supply-chain influence will be to build a superior digital infrastructure. It is estimated that if China is able to build a superior digital infrastructure atop its existing (and expanding) physical supply-chain infrastructure, it will be able to dominate over 65 percent of the global trade by 2050.

In the second part of the blog, we take a look at China’s efforts to build a superior digital infrastructure.

Digital supply chain: Its role in the trade war

Data is the new container. In the same way that containerization, introduced in the 1940s, revolutionized logistics, digitalization of supply chain has brought in hitherto unimagined efficiencies.

Today, supply chains of major manufacturing companies like Apple, Toyota, and Boeing constitute two layers – physical and digital – best optimized to deliver maximum profitability and operational efficiency. The digital layer of the supply chain deploys advanced technologies such as AI, machine learning, IOT, blockchain, predictive analytics, virtual reality (VR) and many others that augment decision making, speed and predictability and reduce dependence on human inputs.

Given the limitations of the physical infrastructure part of the supply chain, it’s the digital layer that lends it the competitive edge. By the same token, any economy aiming for global supply chain dominance must have a superior digital infrastructure for competitive advantage.

Digital is a winner-takes-all game – it is the dominant player who sets the standards, owns the latest and the important intellectual property rights and therefore gets the lion’s share of the deal. The best example is that of the US, whose technology and innovation leadership has remained unchallenged for the better part of the time since the industrial revolution.

China, on its part, has miles to go. An IMF paper released early this year provided a comprehensive view of China’s present status on the global digital supply chain map. China’s overall digitalization ranking lies in the middle of the range, lagging far behind the advanced economies of the US, Europe, Japan, and South Korea. The World Bank Digital adoption index puts China at the 50th position out of the 131 countries ranked globally, the World Economic Forum index puts China at the 59th position out of 139 countries in digital adoption, and the Tuft University’s Fletcher School digital evolution index ranks it at 32 out of 62 countries.

However, China is fast emerging as a global leader in some significant technological domains namely fintech, big data, artificial intelligence, e-commerce, cellular network communication technology, cloud computing, and ICT exports. China has poured in significant investments and resources into these areas during the past two decades, where it today rubs shoulders with the global leaders.

To delve deeper, let’s start with the domain that forms the backbone of any supply chain system: fintech. China is miles ahead of the US in two areas: mobile payment transaction volume and the payment processing capacity. During the first three quarters of 2017, China’s e-payment transaction volume amounted to $12.8 trillion, much bigger than the US’s $49.3 billion. China’s tech companies also outscore on their payment processing capacity. On Singles Day 2016, Alipay, Alibaba’s payment platform, processed 120,000 transactions per second, three times faster than at least one leading global payment platform, noted McKinsey. Alipay and its homegrown rival WeChat Pay are available at retailers in 28 countries outside China, both well-poised to provide the needed digital payment layer to China’s expanding physical supply-chain infrastructure.

However, the domination of fintech part is not really complete without a state-backed digital currency, and that’s where China’s warm embrace of blockchain becomes relevant.

China’s blockchain bid

“Seize the opportunity,” said China’s president Xi Jinping of Communist Party of China (CPC) Central Committee, of which Mr. Xi is also the general secretary, at a CPC meet held in October last year. The opportunity that the Chinese president spoke of was the development of blockchain technology. To a blockchain analyst, Mr. Jinping’s clarion call could appear interesting on two counts. One, it sounded a tad exuberant. A mix of factors such as technological immaturity (a lack of a broad agreement on consensus protocols), a lack of strong uses cases, and a subdued global economic growth, still limit the potential real world applications of blockchain and may well lead to, to quote a Gartner report, a blockchain fatigue. Two, China’s leadership style is not very consonant with blockchain’s basic philosophical tenets of decentralization, immutability and user empowerment.

Regardless, China has pressed ahead. A week before the October’s CPC meet, China launched its first nationwide blockchain-based service network, BSN, which, according to Xinhua, “would provide services for the development of smart cities and the digital economy.” As importantly, China’s central bank plans to launch a state-backed cryptocurrency, according to a Forbes report.

One of the biggest obstacles in the way of the real-world use of digital currencies like Facebook’s Libra has been a lack of regulatory support. That base was also covered – the People’s Bank of China has announced a new regulatory system to certify digital payment services, including blockchain products.

In summary, China’s aim is to take a significant lead in the development of blockchain technology and introduce a state-backed digital currency as a counterweight to cryptocurrencies like Libra which exclude Yuan from their basket of global currencies.

China’s 5G push

In November 2019, in one of the world’s largest 5G deployments, three Chinese state-owned carriers China Mobile, China Unicom and China Telecom together rolled out a 5G network. Huawei, the controversial Chinese telecom equipment maker was the chosen supplier for most of the network equipment. Shenzhen-based Huawei is also pushing for 5G deployment in countries like India and Russia, in the face of stiff opposition from the US and its allies.

In the 5G power struggle, Beijing trails behind the US, UK, and South Korea which rolled out their 5G networks much earlier during the year. But it won’t be so for 6G, apparently. Even before the dust settled on the China’s massive 5G push, its science and technology ministry kicked off the research and study of 6G, the new frontier of internet networks.

The AI race

China has soldiered on in the field of Artificial Intelligence (AI) even in the face of challenges like talent shortage at home and the US government’s 2015 ban on sales of high-end supercomputer chips to its supercomputer makers. In 2017, China’s State Council unveiled a plan for AI development for making the country a world leader in AI technology and applications by 2030. Thanks to these initiatives, China has already overtaken the European Union in the AI race. Even more, its AI push has provided a much-needed boost to its domestic semiconductor industry.

The seeds of democracy

The Sino-American trade war is the latest saga in the age-old economic-sociopolitical interplay between the western democracies and the eastern civilization-states of India and China. From a big-picture perspective, China’s economic transformation was brought about not only by its well-documented economic transformation, but also with the well-meaning support of the western democracies, particularly the US, which hoped that the resulting prosperity of millions will make a strong case for democracy – a sentiment expressed by Representative Bill Alexander, a Jimmy Carter supporter from Arkansas, in the House of Representatives on January 24, 1980 – the day the US granted the most favored nation status (MFN) to China – who posited that the “seeds of democracy are growing in China.”

After three decades of continued support, it seems to have dawned on America’s economists and policymakers that while China was accomplishing the task of building its economy, it was also establishing tighter controls over the democratic rights of its people. Instead of America making an economic case for democracy, it has ostensibly emerged that China unbundled the system of democratic capitalism, and developed a Manichaean system where a society can enjoy the fruits of capitalism, while at the same time pay scant regard to the democratic values of individual freedom and pluralism. And this mutant socioeconomic system is one that many underdeveloped and developing economies, particularly along the BRI belt, would be very keen to emulate.

The shape of the future

What should be the economic-growth model that integrates learnings emerging from the current imbroglio? Should it be based on the western democracies’ bottom-up growth model, where governments tend to play a subdued approach and it is the industry that drives innovation? Or should it be based on China’s top-down growth model? Or a combination of both, wherein an economy follows a unifying vision determined and driven by a strong leadership, much like Singapore’s public-private partnership (PPP) model envisioned and implemented by its visionary leader Lee Kuan Yew, who led the transition of his country into a first-world economy within a single generation?

In my humble opinion, a PPP model driven by a well-honed strategy-based governance model appears to be the best approach, where the economic growth comes from driving innovation and there is no compromise on democratic values.

What will the economic model that emerges from the ongoing trade war mean for global supply chains? Will the race for the domination of physical and digital infrastructures embody and empower human rights, or will it be purely for commercial ends. Will it stop the depletion of natural resources? Will it ensure prosperity for people everywhere

The collective wisdom is that, economic systems that stand the test of time are often the Ones that integrate Mother Nature’s way of life, enabling a holistic development of socioeconomic resources.

Historically, the global supply-chain landscape has evolved over thousands of years societies fighting for superiority through war and colonization. In modern times, it’s not the quest for subjugation but the shared aspirations of prosperity driven by rapid technological advancements that drive the evolution of supply chains. I believe that there is a need for a redesigning of supply chains factoring in the most important value of all – sustainability. I believe that we must find ways to build smarter and sustainable global supply chain networks that enable us to collaborate and prosper together.

All things considered, it’s not about who will dominate tomorrow’s supply chains, it’s about how we as a species will build supply chains that sustain and strengthen our fragile biosphere and shape a better future for all humanity.