China’s Dual Circulation Policy and the U.S. Response

As the PRC plans for the next decade of Xi Jinping rule, economic planning is at the forefront. Xi Jinping’s core policy for that decade is his new concept of dual circulation 双循环. The concept is that for economic development China must rely both on domestic economic development and on China’s participation in the international economy. Though much has been made in China and the West on the dual circulation concept, Xi himself has not provided any detailed description of how this policy will operate in practice.

Since Xi won’t tell you, I will.

1. China’s Dual Circulation Concept

The dual circulation policy is intended to deal with fundamental weaknesses in China’s development model. China has long relied on export led growth. But export led growth eventually runs out of gas, leading to the middle income trap. See also China, Malaysia, Thailand, Korea and the “Middle Income Trap”. The standard argument has been that to avoid the middle income trap, any country must develop a domestic economy driven by domestic consumption. Chinese policy makers during the Hu Jintao era accepted this argument sought to promote China’s domestic consumer economy while weaning China off dependence on exports and reliance on foreign technology and capital. These policies failed and China remains in the same position with the same foreign dependency.

Xi Jinping and his advisors are aware of the failure. They are also aware of the risks this failure poses to China. The dual circulation concept has been developed as export led growth with Chinese characteristics. Under this policy, the domestic market will be developed, but not to benefit Chinese consumers. Instead, the domestic market will be developed to enable Chinese manufacturers to move up the technology ladder. China will then dominate the world in the digital, high technology economy in the same way it now dominates in low-tech manufacturing. But, as Xi fully understands, the dual circulation model requires  cooperation from the outside world. China policy makers once believed China could achieve success entirely through domestic consumption, domestic capitalization and domestic research and development, but Xi’s team does not see this as possible. The dual circulation policy is now being pushed as the only realistic alternative.


2. The Three Stages of China’s Dual Circulation Policy

So how does the dual circulation policy work? There are three stages. All three stages are essential: eliminate one and the policy fails.

       Stage One: Induce the transfer of high technology to China and the transfer of capital into China. On the technology side, this is a continuation of the technology policy announced by MOFCOM in 2010: introduce, digest, absorb and innovate (引进、消化、吸收、再创新) (for the official MOFCOM opinion on this policy, see 关于⿎励引进技术消化吸收再创新的指导意见 ). These terms must be read “with Chinese characteristics”. Introduce does not mean “purchase” or “license”; it means obtain the technology free of cost or commitment to the foreign developer. It means cyber-theft, forced technology transfers, trade secrecy theft, defaults on license agreements, defaults on purchase agreements, and study in a foreign university or research center. The other terms will be explained at Stage Two below.

The use of foreign capital to defeat the foreigners is a longstanding Leninist/Stalinist policy. The use of this policy to combat the stranglehold of foreigners on China is well understood in China. A clear description of the capital injection policy and its justification in a communist state is provided by Li Lingling in a 2010 article, 列宁利用外国资金和技术的思想是对马克思主义的贡献.

       Stage Two: Commercialize and militarize the “introduced” technology within a hermetically sealed Chinese market. The role of the internal Chinese market in the dual circulation policy is described by Jiang Jinquan (江金权) in an article released in China immediately after the Biden-Trump election. Mr. Jin is the new head of the PRC Central Policy Research Office (中共中央政策研究室) and the article has been read in China as specifically directed at U.S. programs designed to prevent China’s peaceful rise. See 把握构建国内大循环的着力点 ——学习习近平总书记在省部级专题研讨班上重要讲话精神的体会.

Mr. Jin clarifies that the role of China’s domestic market is not to provide material benefits for Chinese consumers. Rather, China’s domestic market is the foundation for what is most critical for China’s future development as a high-tech power: China must become both self sufficient and militarily powerful on the basis of the introduced technology.

Self-sufficient: the technology is commercialized within a hermetically sealed Chinese economy. This is an economy that is led by the Party entirely unified under that leadership: public/private fusion. No foreign participation or interference can be permitted under this system, and none is permitted. Powerful: the technology is militarized in a system of civil/military fusion. As Jin notes, the two goals are mutually supportive. The commercialization process is a source of power for China and the commercialization process is the R&D center for the Chinese military.

The key here is that Xi and his team realize that genuine innovation is of no benefit to China. First, China’s goals are very short term and genuine innovation would take too much time. Second, under the Party control system, it has been demonstrated that innovation rarely occurs. On the other hand, the Party control system has shown that commercialization and militarization works very well. So “digest, absorb and innovate” now means: “commercialize and militarize”.

       Stage Three: On the commercial side, sell the commercialized product back to the people who created the technology. The products are inferior, but far cheaper than the domestic version. China then dominates the market for the product, driving the domestic innovator either into bankruptcy or into a new round of innovation. The foreign exchange earned from the sales then fuels the Chinese system and only China benefits from the process. On the military side, China will use the advanced weaponry to project Chinese power to intimidate the foreign innovator. The foreign innovator is then forced to either capitulate to Chinese demands or to make increased and potentially debilitating investment in the military, both in terms of defense spending and in the form of continued R&D spending on more advanced technology: the arms race.

Consider the way this cycle benefits China. Both for commercial and military technology, this is a virtuous cycle for China. The system forces foreign companies and foreign militaries to continuously innovate. That innovation results in technology that is then introduced into China. The newly introduced technology is then commercialized and militarized in China and the cycle continues. The benefits go to China and the costs are loaded onto the foreigner. This then is what is meant by dual circulation: the benefit side is all with China while the cost side is all offloaded outside China. So it is a dual, but parasitical relationship. China is the parasite, advanced foreign countries (the United States, the EU, Australia, and Japan, among others) are the hosts. China’s challenge is to manage this process without killing its hosts.

The Chinese dual circulation system can only survive with the cooperation of the foreign host. Conversely, the dual circulation system can only be defeated by the refusal of the foreign host to cooperate. This would mean a) no transfer of technology, b) no injection of capital, c) no tolerance for a closed Chinese market, d) no purchase of Chinese goods that incorporate “introduced” technology.

3. What Is the West Doing About China’s Dual Circulation System?

But it is pretty clear that neither the U.S. tech industry nor the U.S. government are interested in shutting down China’s dual circulation system. So what is going on?

In terms of U.S/China strategy, note that not all parasitic relationships are negative. In the natural world, many parasitic relationships have developed in ways that allow for both the host and the parasite to mutually benefit. The possibility of developing a mutually beneficial parasitic relationship with China has become very attractive in U.S. commercial/technology circles. For example, the U.S. Chamber of Commerce argues that decoupling from China would be too expensive. Certainly the costs of the dual circulation policy are well known to the Chamber, so its unstated argument must be that the Chamber believes China’s parasitic behavior can be managed in a way that the U.S., as the host, will actually benefit. See Rhodium Group/U.S. Chamber of Commerce, Understanding US-China Decoupling: Macro Trends and Industry Impacts

In the same way, The China Strategy Group — made up mostly of America’s largest high tech companies — advocates a policy of asymmetric competition with China on technology matters. See Asymmetric Competition: A Strategy for China & Technology Actionable Insights for American Leadership. The key elements of asymmetric competition are: a) take no direct action against China so Apple and other large tech companies can continue to make short term profits, b) invest in technology R&D in the U.S. so the U.S. will out-innovate China and c) fund this innovation R&D NOT from profits earned from sales to China, but rather through U.S. government funding.

On its face, this “policy” does nothing to combat the parasitic dual circulation system. The new technology that results from this program will flow directly back to China. Purchasing Chinese technology products and continued IPOs for Chinese tech companies will provide the capital support for Chinese commercialization of these new technologies while American companies and taxpayers will bear the development costs for the new technology. Moreover, the defense spending required to contain the high-tech PLA will also be born by the U.S. taxpayer.

This is not a form of asymmetric competition; it is a capitulation to China’s dual circulation system. But it is unlikely the China Strategy Group simply plans to capitulate. Though not argued by the China Strategy Group, the only reasonable basis for its asymmetric policy is the belief that this policy will result in a beneficial parasitic relationship with China. Briefly, it works this way. The dual circulation policy forces the U.S. companies to continuously innovate. The “China threat” will induce the U.S. government to manage and fund domestic U.S. innovation. As a result, the U.S. companies that do the R&D work get a free ride. The parasitic relationship with China is then transformed into a system that is actually beneficial to the host, so long as the host is defined as America’s largest technology companies.