US economy

Do not underestimate the risk of an iron curtain in tech


Shut your eyes and imagine a world where American technology companies were prevented from sourcing components from Chinese suppliers, or exporting equipment to them. What would that new iron curtain do to global economic growth? Or the lofty valuations of western tech groups?

Until recently — say, two years ago — those questions almost seemed preposterous. After all, the US tech sector has soared in recent decades with a tightly knit, complex, trans-Pacific supply chain. Just think of how Apple has relied on factories in Shenzhen to assemble its iconic iPhones, using components sourced from dozens of Asian (and non-Asian) suppliers.

But last week this once-fanciful question sparked some heated — and nervous — debate at private dinners at the World Economic Forum in Davos. And this week, two of the biggest US financial groups told me they had quietly asked their investment committees to conduct scenario planning for these formerly outlandish ideas. “It’s a big talking point now,” said one top finance executive.

That is not because western executives assume that the current round of US-China trade talks will fail. On the contrary, many CEOs in Davos expressed cautious optimism that Robert Lighthizer, the US trade representative, would cut a deal with Liu He, China’s de facto economic tsar now visiting Washington, to defuse the US threat to raise trade tariffs on March 1.

After all, their argument goes, Donald Trump’s administration has often cut trade deals after belligerent sabre-rattling. Just look at what transpired with the US and Canada last year. And the Chinese seem ready to offer some concessions, on tangible — tweetable — issues such as soyabeans, or intellectual property rights. Axel Weber, chairman of UBS, told Davos attendees that the tail risk of US-China trade war “is probably receding”. Ivan Glasenberg, head of Glencore, suggested a deal could emerge before Chinese new year, on February 5.

While these predictions sound reassuring, there is a catch: executives are realising that the Liu-Lighthizer talks are only half the battle. Yes, the Trump administration cares about steel, soyabeans and the (allegedly) unfair threat to US jobs. But the president’s policy is not just economic competition, but national security concerns, affecting the longer-term outlook for supply chains. That will not dissipate soon, whatever Liu and Lighthizer do next.

To appreciate this, look at a White House report that emerged last autumn sporting the un-snappy title “Assessing and Strengthening the Manufacturing and Defense Industrial Base and Supply Chain Resiliency of the United States”. The report warns that the US military industrial complex is dangerously vulnerable because of its reliance on sole suppliers and Chinese entities in the supply chain, in sectors ranging from munitions to electronics.

An optimist might note that this analysis was driven by people such as Peter Navarro, the longstanding China hawk and Trump adviser, and thus has emerged from one White House faction. Steven Mnuchin, Treasury secretary, would describe these issues differently. But such sentiments have spread across the Washington establishment in recent months with tangible effects, whether last year’s threatened sanctions against ZTE, the state-controlled Chinese telecoms group, or the current US attempts to knock Huawei, another Chinese group, out of its supply chains.

Maybe these will end up being isolated cases or those transpacific supply chains will adapt to absorb these blows. That, at least, is the hope of many American executives. This week, for example, it emerged that Foxconn (a key Apple supplier) is quietly preparing to expand capacity outside China in places such as Vietnam and India, to reduce trade risks. Huawei has reportedly told some of its non-Chinese suppliers that they will need to move some production on to the Chinese mainland, apparently in another coping strategy. “Every CEO is talking about shifting supply chains,” says one US industrial executive.

But even if such moves help absorb the blows from tariffs or sanctions, that bigger question will not disappear: what if US-China relations deteriorate so rapidly in the next couple of years that the global tech supply chain completely splits into two? The risk of this still seems small(ish) — but then the risk of Brexit or a Trump presidency seemed pretty outlandish a few years ago too.

If nothing else, it is time for investors to start pricing that “remote” risk into tech valuations and for economists to model the possible growth shocks. Then they can fervently hope this “what if” scenario does not come true.

gillian.tett@ft.com



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