China has trade weapons to fight back, and is not afraid to use them

As the US continues to close off China’s access to the most advanced semiconductors vital to powering artificial intelligence systems, China is demonstrating it can hit back, with one of America’s most valuable companies as the latest target.

During the first outbreak of the US-China trade wars, when Donald Trump was first in office, China responded to his tariffs on its exports fairly passively and conventionally with a somewhat weaker set of retaliatory tariffs because it exports far more to the US than it imports.

As the Biden administration tries to close the loopholes in its efforts to deny China access to advanced chips, and with the spectre of Trump and his threat of a 60 per cent tariff on all Chinese exports to the US looming, China is showing it has learned from its experiences and is now surgically targeting America’s vulnerabilities.

My tariffs are bigger than yours: Financial markets are concerned about a trade war between the world’s two largest economies.Credit: AP

Last week, China responded to new US export controls on advanced high-bandwidth memory chips and the tools for manufacturing them by announcing it would prohibit exports to the US of four critical minerals with a number of strategic applications, from semiconductors to military equipment.

The US restrictions on chip-making equipment apply not only to China but to foreign companies using US technology. At the weekend, it emerged that China’s ban on exports of rare earths and super-hard materials to America had a similar extraterritorial reach as it extends to companies from third countries that export to the US after acquiring the minerals from China. It appears to be the first time China has deployed such a broad ban on the “trans-shipment” of strategic exports.

That, however, wasn’t the totality of China’s response.

On Monday, its antitrust regulator, the State Administration for Market Regulation, launched an investigation into the company that dominates the chips vital to developing artificial intelligence systems, Nvidia.

Nvidia’s share price fell 2.6 per cent on the news, wiping $US89 billion ($138 billion) from the market capitalisation of the company, which generated about $US5.4 billion of its revenue from sales to Chinese companies in its most recent quarter, about 15 per cent of its total revenues.

The antitrust investigation is supposedly focused on suspicion that Nvidia has violated the terms of the conditional approval it received from China in 2020 for its acquisition of an Israeli networking equipment company, Mellanox Technologies.

At the time, Nvidia committed to an uninterrupted supply of its graphics processing units and Mellanox’s networking equipment. It also promised not to discriminate against Chinese customers, according to the Chinese regulator.

If China used its dominance of supply chains and global manufacturing strategically, it could add significantly to the inflation that Trump’s trade, tax and immigration policies are likely to ignite.

With France already pondering whether to investigate Nvidia’s dominance of advanced chips and the extent of that dominance – it has a global market share of about 90 per cent in the supply of the most advanced semiconductors – there is a plausible rationale for an antitrust investigation by China. Even the US competition regulators are likely to have Nvidia on their radar.

It would be naive, however, to see the timing of the announcement of the probe, four years after Nvidia won China’s conditional approval, as coincidental.

By targeting critical minerals and America’s second-most valuable company (it was, until quite recently, the most valuable company), China is highlighting its capacity to respond to US trade sanctions in ways that cost it little but cost America a lot.

Nvidia is prohibited from selling its most advanced chips, which are the key to training the large language models central to AI, to China. But it does sell a lot of lower-performing modified chips there, which makes the threat latent in the antitrust investigation quite potent.

It’s not the first time China has targeted a US tech company. Last year, after an earlier round of US restrictions on sales of chips to China, it used a cybersecurity investigation to prohibit Chinese companies from buying chips from Micron Technology.

The ban, however, only applied to chips used within critical infrastructure, and as Micron’s chips were predominantly used in consumer electronics, the sanction was more of a warning shot (or perhaps a trial run) than impactful.

Advanced semiconductors are the front line of the battlefield for technological supremacy being waged between the US and China.

The US has a significant edge in that battle, and in Japan, South Korea and Europe it has significant allies for its efforts to prevent China from accessing chips that confer economic and military advantage.

China, while using third parties, front companies and smugglers to acquire those US chips and the tools for manufacturing them, is also ploughing billions of dollars into trying to build a domestic industry that can compete with America’s to reduce its reliance on Western technologies.

Beijing and the powerful state-linked trade associations have been urging Chinese companies to buy fewer foreign chips, including Nvidia’s, and more from China’s technology flag bearer, Huawei.

Huawei’s chips aren’t as powerful or as reliable as Nvidia’s, but it has been closing the technology advantage gap more rapidly than the US anticipated, which probably explains why there has been more urgency in the Biden administration’s efforts to close the loopholes in restrictions on China’s access to its advanced chips and chip-making tools.

The export controls for critical minerals and the antitrust investigation have two-dimensional effects. They secure China’s supply chain of semiconductors and other technologies, including those critical for its military, while disrupting America’s.

They showcase China’s dominance of some critical minerals and their processing, but also the significance of China’s markets for the US and other Western companies.

If Trump does press ahead with his proposed 60 per cent tariff rate for China’s exports to the US – as he said he would at the weekend in an NBC News interview – an extension of the range of critical minerals covered by export bans, along with other measures targeted at soft and politically sensitive segments of the US economy like agribusinesses, are obvious, relatively low-cost and highly effective ways for China to respond.

They – and the Biden administration’s highly targeted export bans – are more effective and less costly than tariffs. While Trump said in the interview that he doesn’t believe that US consumers will bear the cost of the tariffs, he also said he couldn’t guarantee that they wouldn’t.

The overwhelming majority of economists, along with US companies on the wrong end of the tariffs during his last term, could guarantee that they will – and if China used its dominance of supply chains and global manufacturing strategically, it could add significantly to the cost pressures and inflation that Trump’s trade, tax and immigration policies are likely to ignite.

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