The China Challenge: Washington Would Be a Major Casualty in a Trump Trade War

This article appears in print in the January 2018 issue. Click here for a free subscription.

Washington state has long benefited from its close business ties to China. Companies like Starbucks and Boeing depend on the Asian giant for major portions of their revenue growth. China is Washingtons No. 1 export market, accounting for $16 billion of the states $80 billion in exports in 2016 more than double the amount sold to Japan and Canada, the states second- and third-largest export markets.

Fraser Mendel, a Seattle attorney who advises companies doing business with China, believes the relationship cant be overstated. Washington state has probably the highest level of engagement with China of any of the 50 states, he asserts.

These close ties have prompted visits to Washington by at least two Chinese presidents: Xi Jinping in 2015 and Hu Jintao in 2011. And the University of Washington joined with Tsinghua University, Chinas MIT, to create the Global Innovation Exchange (GIX), a graduate program in technology that will bring together students from the United States and China to collaborate on solving technological and design challenges.

Gary Locke, Washingtons former governor and a U.S. ambassador to China during the Obama administration, ascribes the close business ties between China and Washington in part to geography and to history. Our proximity makes transportation costs cheaper, he reasons. I also think there is a cultural affinity between China and the western United States that helps promote trade.

But Washingtons close ties to China also mean the state could be more vulnerable to any rupture in the broader U.S.-China trade relationship, a breach that has seemed increasingly likely as Chinas trade surplus with the United States ballooned to $347 billion in 2016, up from $234 billion a decade earlier.

President Donald Trump has roiled the metaphorical waters between the Puget Sound region and China with his unusual brand of roller-coaster diplomacy alternating between vague promises of closer relations and apocalyptic threats on issues ranging from trade to North Korea.

After meeting with Xi in China in November, Trump boasted of his close ties to the Chinese president. People say we have the best relationship of any president-president, Trump said. But since returning to the United States, his administration has been threatening unilateral sanctions against China.

Ive seen U.S. companies questioning whether they should wait a few months before moving forward on a project in China because [of Trump], says a Seattle-based consultant who asked not to be named.

Theres a lot of uncertainty out there, agrees Robert Hamilton, Governor Jay Inslees trade adviser. Hamilton points out that even with minor trade tensions, there has been trouble brewing, with overall state exports falling to $79.6 billion in 2016, from $90.4 billion in 2014.

With relatively weak demand overseas, says Hamilton, were kind of muddling through.

AWKWARD: President Trump says he and Chinese leader Xi Jinping have an excellent relationship, but this photo embodies the sense of unease surrounding China-U.S. trade. Photo by Artyom Ivanov/Tass via Getty Images

One area that remains healthy is Chinese direct investment in the United States, which has climbed 359 percent in 2016, to $54 billion. The Seattle area has been a significant beneficiary of these investments. The region is now the top foreign choice of Chinese homebuyers, according to Juwai.com, a Chinese real estate site that serves potential Chinese buyers looking for properties in North America. According to the National Association of Realtors, Chinese buyers spent approximately $1.6 billion on homes in Washington state in 2016.

I think theyre looking for good deals and California is very expensive, notes Locke. Vancouver, B.C., was until recently the preferred destination, but the Canadians have basically imposed a tax on foreigners.

Out of concern for mushrooming housing prices, the British Columbia provincial government imposed a 15 percent surcharge on property transfers to foreign buyers in the Vancouver metropolitan area in August 2016. Although the move has not done much to hold down price increases in Vancouver, it is adding fuel to the fire driving Seattles highest-in-the-nation increases in housing prices.

Chinese money is pouring into other areas as well. In October 2016, HNA Holdings of China bought 10 Seattle golf courses for $137 million. Earlier that year, Visual China Group paid $100 million for the assets of Corbis Entertainment, founded by Microsoft cofounder Bill Gates.

On the technology front, Tencent Holdings, a Chinese gaming and social media company, and Baidu, the Beijing-based search giant, both announced plans to establish research labs in Bellevue focused on artificial intelligence. Baidus office will be built around its acquisition last July of local startup Kitt.ai.

Meanwhile, telecommunications giant Huawei, which already has 100 employees in Belle-vue, is moving to the region the headquarters for its United States consumer business, which sells smartphones, PCs and cloud services.

In terms of creating local jobs, some of the biggest trade-related benefits come from expanding exports by U.S. companies. A growing number of firms are doing just that, looking to tap into Chinas growing population of affluent consumers.

China now has folks who have some discretionary income, says Justin Dempsey-Chiam, director of international business development for Seattle-based Brooks Sports. They have time, they have energy and interest to pursue some health and leisure activity. Running has become a very, very popular outlet for Chinese citizens.

Brooks has long manufactured running shoes in China, but only began selling shoes there last July. It estimates there are 26 million runners in China, compared to about 50 million in the United States.

Dempsey-Chiam warns companies considering a move into Chinese markets that a successful effort requires much more than leasing a storefront and hiring local staff. There is a ramping-up period and a lot of back-end work that needs to get done before you can just plop your products into the market, he says. Brooks hired Full Jet, a Shanghai-based business management company, to help navigate the Chinese market.

For example, Full Jet advised Brooks to use WeChat as its primary social media point of contact with Chinese runners. Facebook is our largest social media platform in the United States, Dempsey-Chiam says, but there is no Facebook in China.

Washington state businesses would benefit from more support for their export efforts.

We have lots of smart businesses and organizations that look at cross-border trade as really important, but are not coordinated, says Mendel, who is vice chair of the Washington State China Relations Council and a member of the board of the Trade Development Alliance of Greater Seattle. They are not getting the proper leadership and guidance.

Mendel suggests the state could get more bang for its economic development buck if the organizations could figure out some cost-sharing arrangement.

But many of the biggest obstacles to selling in China have been crafted by the Chinese government in the form of tariffs and regulations designed to keep out imports.

Mark Anderson, CEO of Friday Harbor-based Strategic News Service, points out that Chinas Made in China 2025 initiative aims to replace foreign imports with domestic products in such strategic sectors as information technology, automation, aerospace and alternative energy. The government is helping its local industries by providing them with government subsidies, protecting them from foreign competition and forcing foreign companies interested in accessing Chinese markets to share their technology with their Chinese competitors.

Tsinghua University, which is partnering with the University of Washington to establish the GIX program in Bellevue, for example, is far more than a university. It owns Tsinghua Holdings, which has a goal of establishing a robust semiconductor industry in China.

Tsinghua was rebuffed in its effort to acquire memory chip technology by buying Western Digital and Micron Technology, so last year it received government backing to spend $30 billion on a new memory chip factory in Nanjing to reduce Chinas dependence on foreign chips.

Anderson has an Inventing Nations vs. Nation-sponsored Theft of IP initiative that catalogs efforts by national governments to favor its own companies. China requires that you transfer your intellectual property your crown jewels to China if you want to have access to the markets, he says. This destroys the companies eventually, because that same crown jewel intellectual property comes back at half price over onto the global market and wipes them out.

Anderson argues that focusing on short-term profits has led many U.S. firms to make unwise deals with the Chinese. We cant necessarily count on the CEOs of tech companies to have the separation from their own compensation plans that is required for doing right by their company or their country, he declares.

Washingtons biggest exporter to China Boeing has been especially lax in giving up critical intellectual property in exchange for being allowed to sell jets into that giant market, Anderson maintains. They have given away more and more of their IP every year, he says. I think it is suicidal.

And under a Chinese cybersecurity law made public in late 2016, tech companies such as Amazon and Microsoft are required to reveal source code for their products.

Microsoft, IBM and Intel have filed objections to the new law with the Chinese government.

And its not just technology. China closed its markets to Washington apples for several years with complaints about pests and pathogens concerns widely regarded as bogus and could easily close its markets again. Too, the country regularly cuts off access to Washington wheat exports when China has a big crop, opening again only when there are domestic shortages.

The reality is that U.S. companies have little choice but to do what the Chinese government says if they want to sell into what will soon be the worlds largest market.

In November, Amazon was forced to sell the computing equipment it uses in China for its cloud services to its local partner after the Chinese passed a law forbidding non-Chinese companies from owning or operating certain technology used to provide cloud services. Amazon says the deal did not involve the transfer of any intellectual property.

As Alain Crozier, Microsofts CEO for greater China, told The Wall Street Journal last summer, You have to change your business model one way or another and say, Hey, you know what? I want to really do something in this country. I find a partner. I work with this partner. I share maybe more than I used to share.

That kind of flexibility is important if American firms are to engage with China. And engaging with China is critical, says Vikram Jandhyala, the University of Washingtons vice provost for innovation, who has traveled to China nine times in recent years.

While 20 years ago, U.S. companies might have been able to dismiss China as a copier and stay out of that market, now China is much different, says Jandhyala. Chinese scientists today are publishing in the best journals in such cutting-edge fields as quantum physics, he notes. Its technology companies are developing innovative tools such as WeChat that are superior to Facebook.

It doesnt help to be isolationist, Jandhyala suggests. The vector of growth is in China; we have to be engaged. They will keep our creative juices going.

Jandhyala adds that one of the most powerful elements of the GIX masters degree program the UW established in Bellevue with its Chinese partner will be the opportunity for the talented students from opposite shores of the Pacific to collaborate, but also for the students to have the option of spending six months in China toward the end of their program to learn about the emerging innovators in China.

But even as collaborations like GIX move forward, typhoon winds may be about to buffet the trans-Pacific relationship. Many worry the Trump administration, not up to the delicate diplomacy required of balancing carrots with sticks, could end up triggering a trade war.

When the United States imposed antidumping and countervailing duties on imported Chinese solar panels in 2012, China responded the following year by imposing a 57 percent import duty on polysilicon. The duty forced the temporary closure of REC Silicons polysilicon manufacturing facility in Moses Lake.

But the Trump administration is now raising the stakes. Last summer, the administration launched an investigation into Chinas alleged misappropriation of intellectual property. And the administration is giving a sympathetic ear to U.S. industries that say they are hurt by Chinese imports and want sanctions imposed on those products.

SHARING BRAINPOWER: The Global Innovation Exchange in Bellevue involves a partnership between the University of Washington and China’s Tsinghua University.

American export firms that once pressured the U.S. government to do more to pry open Chinese markets are now asking the administration not to overreact.

Erin Ennis, senior vice president of the U.S. China Business Council, a trade group of 200 companies that do business in China, told the U.S. International Trade Commission in June that surveys of its members found that only one-third of them had been asked to transfer technology and that there was a minority that were forced to transfer technology without compensation.

She urges the government to be diplomatic. The administration has the opportunity to lead like-minded countries, she says, to encourage China to play by the rules rather than to take unilateral steps that could put trade relations at risk.

Many believe Trump gave up important bargaining power vis-a-vis China when he pulled the United States out of negotiations to build the Trans-Pacific Partnership, a multilateral trade agreement that would have bound the United States more closely to nations around the Pacific such as Japan and Vietnam, while excluding China. Without a TPP- type agreement, China can leverage its considerable power to negotiate advantageous deals with its far smaller Asian neighbors.

Meanwhile, the Trump administrations unpredictable approach to China has regional companies on edge about the potential for dangerous disruptions in U.S.-China trade relations.

If China shut off the taps and said they were not taking any more exports from the United States, that would be a pretty big blow to the ports and all of the logistic infrastructure that we have here, says Mendel. It would be catastrophic.

The answer may be in quiet, firm diplomacy rather than angry rhetoric.

China depends on the external markets and there are a lot of nice ways to get tough, says Ed Schweitzer, president of Schweitzer Engineering, a Pullman-based power equipment company that gets a third of its

$1 billion in annual revenues from China.

Selling is teaching, says Schweitzer. It should be embarrassing to China that they are tariffing our cars at 25 percent and we arent tariffing their stuff that bad. During the Cold War, he adds, When the U.S. and the former Soviet Union had piled up too many nuclear missiles, President Reagan worked with [Russian President Mikhail] Gorbachev to start to dial all that stuff back. Maybe thats what we should do with these trade wars dial them back.

Locke, who as an ambassador dealt with China first-hand, believes it may actually be happening. Despite President Trumps rhetoric, he says, There has been a lot of activity to address some of the concerns the United States has long had. I think the trends are very, very good.

Additional reporting by Leslie Helm.

This article appears in print in the January 2018 issue. Click here for a free subscription.