Europe and the global competition of industrial policy
The heated debate about the role of government in increasing national competitiveness was already in full swing before the Covid crisis, due to growing pressures from China’s state capitalism, and the US’ protectionist turn. But now, the massive expansion of the state’s role in the economy, owing to governments’ efforts to mitigate the disastrous effects of the crisis, has put industrial policy even further at the center of the global fight for competitiveness. Global competition today occurs not only among firms but also among trade blocks through their industrial policies. The EU is in the midst of developing a new industrial policy paradigm to help it compete better against China and the United States. In line with this novel approach, the Commission started rolling out its first flagship industrial project in 2017, the European Battery Alliance. This came at a time when only 3% of the lithium ion battery sector’s output came from Europe. Is the EU’s approach up for the task?
Industrial policy is any government policy intended to stipulate economic development and often encourages shifts of resources from one sector or industry to another. Horizontal industrial policy tries to create the right framework conditions for all sectors to strive, while vertical industrial policy favors some industries over others. These political decisions therefore affect profoundly the survival and future growth possibilities of market actors operating in the different sectors. Importantly in Western democratic contexts, a government’s industrial policy must be congruent with its competition policy. In the EU, but also the US, competition policy aims to ensure the conditions that make free (and fair) competition between companies possible. In this case, competition policy aims to curtail excessive market power and assure the lowest possible consumer prices, and importantly, it is fundamental to avoid distortions in the internal market, like monopolies, unfair state-aid, and cartels. In line with European treaties, competition policy is strictly meant to ensure competition within the single market, while industrial policy is thought as a tool for achieving external competitiveness. However, this paradigm has lately been at odds with several member states who are looking for industrial policy to override competition policy.
China doubled down in its effort to direct its own version of capitalism with its Made In China 2025 strategy (the Chinese government now tries to avoid using the initial name of its industrial strategy that was first introduced in 2015, because of the concern for competition it created among Western policy circles. The current strategy itself, however, did not change and remains within in the structure of MIC 2025). Coherent with earlier vertical strategies, it identified the economic sectors up for support on the basis of their “distortion centrality” (Liu 2019): i.e. potential for positive spill-over effects to other national industries.
China, as do the US and the EU, uses a particular combination of four basic tools to implement its strategy: Extensive subsidies or tax benefits; R&D funding (according to some estimates as high as 2.2% GDP [Zenglein and Holzmann 2019, p. 11]); State-owned banks’ funding; and lastly -what distinguishes it most notably from the US and EU- using extensively state-owned enterprises (SOEs) and, increasingly favored private corporations.
However, contrary to popular belief, domestic competition is fierce in China, as different SOEs (regional, local, national…) compete with each other in order to draw the government’s attention. In the past, this sector-led approach, in part mirroring earlier development strategies of countries like South Korea and Japan, has resulted in Asia producing more than 85% of lithium ion batteries, a technology heavily linked with the future of car manufacturing and decarbonization.
Recently, Huawei illustrates Chinese industrial policy in a different field. As early the start of the 1990’s, China had selected the telecoms industry as strategic. Today the world’s largest seller of telecommunications equipment and leader in advancing 5G infrastructure, the Shenzhen-based company is officially owned by its workers’ union and was founded by a former member of the military, Ren Zhengfei. However, between Deng Xiaoping’s reforms, until the late 1980’s, China relied exclusively on foreign telecommunications companies. Becoming aware of the potentially strategic value of this industry, state policies moved toward a strategy of “indigenous innovation”. Through discretionary regulatory enforcement and financing, foreign providers were thus increasingly crowded out.
Huawei initially produced telephone switches and started gaining domestic market share in the early 1990’s by focusing on rural areas and customer service. By 1994, it had been able to develop the most advanced controlled telephone switch, winning it a crucial contract for supplying the first telecommunications network to the Chinese military. And in the race for national dominance, the company even left behind mighty competitors such as then state-owned ZTE, but also Xiaomi, Oppo, and Vivo (In 2019, the latter three rivals entered into a partnership to curtail Huaweis’s further lead in the domestic smartphone market.) By 2005, Huawei’s oversea revenues had outweighed its domestic sales for the first time. Today, China’s national champion is able to offer 5G network equipment at 60% below its strongest competitor, Ericsson.
During its ascent to global leadership, the Wall Street Journal claims, Huawei has profited from massive state support—two times larger than that received by its main US competitor, Cisco (worth 75 billion dollars, ranging from grants and tax breaks, over access to cheap resources, to financing.) In 1995, Huawei first began receiving official government aid, including tax waivers. Between 2008 and 2018, the Chinese government reduced taxes for the country’s tech sector, which in Huawei’s case, according to some calculations, amounted to savings of $25 billion (between 2013 and 2018, the volume in tax grants received were 17 times higher than those e.g. Nokia, received in the same period by the Finish government.) Then, over the course of the last decades, it further received $46 billion in favorable loans from state financial institutions. Moreover, its customers, both domestic and international, received up to $30 billion in state sponsored credits (from the Export-Import Bank of China and the China Development Bank) over the last twenty years (The state-owned Export-Import Bank of China provided the state of Pakistan with an incredibly cheap 20 year loan to finance a $123,7 million surveillance system inaugurated in 2016. The loan came with the condition they abandon otherwise legally required competitive bidding and make Huawei the sole supplier.) And then, a decade ago the tech giant further secured state-held properties for its new Dongguan research campus for up to 50 percent below market price, saving it an additional $2 billion. And Huawei has close links to the Chinese military, through conducting joint research and its founder’s past. Although Chinese companies have become internationally competitive under this type of industrial strategy, capture of special interests remains likely, and technological innovation could be severely limited without ongoing support by the state.
Contrary to China, the US has traditionally avoided the label and concept of industrial policy, but it has for a long time selectively pushed technologies linked to its national security. Importantly, the US has supported and incentivized key technologies (e.g. internet, touch screen, etc.) rather than whole sectors (Block and Keller 2011, Mazzucatto 2015). The policy tools favored by the US have consequently been government (mostly military) contracting and research funding. The US Department of Defense, NASA, or the Defense Advanced Research Projects Agency (Darpa) are known examples of government affiliated institutions that crucially helped to kickstart technological innovations, e.g. in computers, computer languages, or semiconductors. Darpa, a government agency created during the early stages of the Cold War, funded and conducted break-through research into robust and decentralized computer networks, later leading to the creation of the “network of computer networks”, known as the internet. But even in recent years, Darpa and similar institutions have advanced research in critical areas where private investment lagged behind1. In this context, competition among firms occurs first when accessing the research contracts. However, conducting industrial policy through institutions linked to the military can limit its range, both in relation to the type of technologies that are supported, as well as the markets those technologies supply.
Traditionally, the EU has used a horizontal approach to industrial policy in that it focuses mainly on the entire internal market integration and on competition enforcement. Yet, this approach was recently updated with the creation of the European Battery Alliance (EBA), the prime example of the EU’s new industrial policy strategy. The EBA is a network of European industrial firms present in the entire electric storage industry value chain. The public-private energy venture EIT InnoEnergy is the alliance’s investor-broker, tasked with mobilizing and co-funding from scratch the development of a domestic lithium ion battery industry. Potential members for the European industrial ecosystem are not only brought together at regular workshops and networking events, but EIT InnoEnergy also prepares them for meeting the requirements of investors through its so-called Business Investment Platform. Three years after its inauguration, the development of a European battery sector is underway, with more than 250 companies involved, and Northvolt’s first battery gigafactory will be built in Sweden. An additional Volkswagen joint-venture site in Germany is also in planning. Coordinating industry actors and matchmaking for funding are crucial here.
While China focuses on high centrality sectors and the US on key technologies, the EU’s novel approach is to focus on value chains, in order to support specific ecosystems of different complementary sectors. The ecosystem approach implies mobilizing firms that provide raw materials, chemical engineering services, all the way to auto manufacturers themselves. The approach is necessary given the dearth and scarcity of EU players within the entire electric battery industrial value chain. A key policy tool are the IPCEI (Important Projects of Common European Interest), which allows a delimited and defined suspension of state-aid rules in such a way that more government funding (member states, Commission or EIB) is possible for projects spanning various EU countries. Horizon 2020 funds are also used to finance R&D. Uniquely, the role of an institutional broker (in this case the EIT InnoEnergy) is also crucial since it maps the ecosystem, mobilizes the different actors, and facilitates investment rounds with both government and private financiers. Competition is enforced in the access to funding.
In the face of both the Chinese state-directed competition, as well as the American military-technological government funded complex, the EU was until previously still only reactively evolving its own version of industrial policy. Given the lack of a minimum population of businesses operating in the battery industry value chain, it has had to design a strategy that is eco-system centered, and which is essentially about brokering relations between finance and novel projects and enterprises. Importantly, the EU is now proactively applying this strategy as an early starter, and not as a late-comer, to build an ecosystem of clean hydrogen. Modelled after the Battery Alliance, the new Clean Hydrogen Alliance could consolidate a type of industrial strategy that shall allow the EU to compete in this new era of global competition.
Angel Saz-Carranza is the Director of EsadeGeo – Centre for Global Economy and Geopolitics
Konstantin Brosch is a Research Assistant at EsadeGeo – Centre for Global Economy and Geopolitics