You are here

U.S.- China Economic and Security Review Commission, "2014 Annual Report to Congress," November 20, 2014

The U.S.-China Economic and Security Review Commission was created by the United States Congress in October 2000 to monitor, investigate, and submit to Congress an annual report on the national security implications of the bilateral trade and economic relationship between the United States and the People’s Republic of China.
November 20, 2014
View reports from other years:

This past year, the new Chinese leadership sought to consolidate political power and keep the economy expanding at a predictable pace even if it meant shelving many of the reforms it embraced in the National People’s Congress. Party leaders placed their highest priority on maintaining public support through rapid economic growth and job creation. The Party set as a goal an annual gross domestic product growth rate of 7.5 percent, and toward the end of the year, appeared to be on track to meeting that objective. While Chinese Communist Party General Secretary Xi Jinping moved more cautiously than anticipated on the economic restructuring approved by the top Party leadership in March, he acted quickly on some fronts, particularly in removing from power his political opponents as well as those opposed to his reform agenda. General Secretary Xi surprised most observers with his widely publicized campaign for fighting corruption among government and Party officials. Despite expectations some had for change, China’s formula of authoritarian one-party rule and state-directed capitalism prevailed. By most accounts, Xi positioned himself to be the most powerful Party and government leader in two decades as he took direct command of the military and a strengthened internal security apparatus while installing longtime loyalists in key economic policy positions.

Although China’s leaders promised to restructure its economy to one based on domestic consumption rather than fixed investment and exports, in 2014 they continued their traditional ways—borrowing heavily to stimulate the economy by building nfrastructure, such as railways, highways, and oil and gas distribution systems. Rather than moving forward with the broad reform agenda proposed by General Secretary Xi when he first took office a year ago—by allowing market forces and financial liberalization to play a ‘‘decisive role’’ in the economy—the government continued to subsidize favored industries and maintain an artificially low value of the renminbi in order to boost exports and inhibit imports. The predictable result: Chinese government spending rose 25 percent in the first half of 2014 while the value of the renminbi tumbled and exports to the United States continued to grow. Meanwhile, the trade imbalance headed toward another record figure for 2014, likely surpassing last year’s record $318.7 billion U.S. trade deficit in goods with China.

Structural problems in China’s economy persist, to the continuing detriment of China’s trading partners and its own citizens. Chinese government-directed excess capacity in industries such as steel, cement, glass, construction, solar panels, and shipbuilding has unfairly harmed international competitors. The lack of opportunity for Chinese citizens to safely and productively invest their savings in the state-owned banking system or the underdeveloped stock and bond markets or with foreign financial firms has driven China’s citizens to speculate in the volatile real estate sector. State-owned banks—the primary source of commercial finance—continue to favor Chinese government-owned companies rather than private companies or entrepreneurs. Promises to provide banking customers with deposit insurance and floating interest rates remain unfulfilled.

During the course of 2014, foreign companies investing in China faced increased regulatory burdens and barriers to business dealings that do not similarly encumber China’s highly favored ‘‘national champions.’’ China’s anti-monopoly laws, in particular, appear to be focused on disadvantaging foreign invested companies rather than being applied equitably.

For the first time, in 2014, foreign direct investment (FDI) from China into the United States exceeded FDI from the United States to China. While this may spur job growth in the United States, investment by Chinese state-owned or state-controlled companies in the United States risks creating a hybrid economy where privately owned U.S.-based business must compete with Chinese state-financed companies motivated more by Beijing’s policy directives than profit. Moreover, there are potential national security concerns associated with investments by Chinese state-owned or state-controlled companies in U.S. critical infrastructure.

China’s cyber espionage continued unabated in 2014, despite a concerted U.S. effort since 2013 to expose and stigmatize Chinese economic espionage. In May, the U.S. Justice Department charged five Chinese military officers with cyber-theft from five U.S.-based corporations and a major international labor union. China responded to the allegations by suspending its participation in a bilateral dialogue on cyber security and by retaliating against U.S. based computer software and hardware firms. China’s material incentives for continuing this activity are immense and unlikely to be altered by small-scale U.S. actions.

As expected, the 25th anniversary of the Tiananmen Square massacre was noted by Chinese dissidents and by sympathizers in Hong Kong. But it received scant attention by the Chinese government-controlled media and provoked an early crackdown on Chinese political activists in an attempt to muzzle opposition. Amid the pronouncements of coming economic, educational and social improvements, the promise of political reform was notably absent. The central government in Beijing has continued to stifle dissent through use of internal security forces, legal and extralegal measures, and media censorship. Disputes over working conditions and pay in factories, as well as farmland seizures by local and provincial governments and the subsequent sale to business interests, continue to be a source of injustice and protest.

Nevertheless, 2014 was marked by some positive developments. China’s government has followed through on its promise to extend better health care and health insurance, particularly to the underserved rural population, although rural-urban inequities persist. The leadership also took the first steps to lift China’s onerous residency permit system that discriminates against China’s 200 million migrant workers and their families. Leaders began to implement plans for a free trade zone in Shanghai that might provide greater access to foreign financial services and health care companies.

However, many key issues remain unresolved. Market access for U.S. providers of health care goods and services remains restricted. Furthermore, increased spending has not stemmed rising costs and poor delivery in the healthcare sector, and drug safety remains a pressing concern for Chinese patients, as well as for U.S. patients who consume the drugs and drug ingredients that China exports.

During 2014, China’s military modernization continued at a fast pace, creating additional challenges for the United States and its allies, and China’s neighbors. Most notably, China conducted its first test of a new hypersonic missile vehicle, which could enable China to conduct kinetic strikes anywhere in the world within minutes to hours, and performed its second flight test of a new road-mobile intercontinental missile that will be able to strike the entire continental United States and could carry up to 10 independently maneuverable warheads. Meanwhile, the People’s Liberation Army (PLA) increased its inventory of modern submarines, surface ships, and combat aircraft while upgrading its legacy platforms with new weapon systems.

In the maritime domain, the PLA Navy continued its transformation from a coastal force into a technologically advanced navy capable of projecting power throughout the Asia Pacific. Since the Commission’s 2013 Annual Report, the PLA Navy has expanded its presence in the East and South China Seas and for the first time begun combat patrols in the Indian Ocean. Additionally, China’s first aircraft carrier in January conducted its first long-distance training deployment. The nature of the deployment suggests China is experimenting with multiple types of carrier formations, including those resembling U.S. combined expeditionary groups.

China’s growing confidence in its military capabilities has emboldened Beijing to aggressively advance its territorial ambitions. Since approximately 2009, China has increasingly used coercive military and economic measures to assert control over its territorial claims in the East and South China Seas. Since late 2013, however, China has been more willing to advance its sovereignty claims without seeking to justify its actions as responses to perceived provocations by rival claimants. The three most significant manifestations of this new, even more assertive turn are China’s establishment of an Air Defense Identification Zone in the East China Sea; China’s relocation of an oil rig to waters disputed by Vietnam in the South China Sea; and China’s ongoing attempts to prevent the Philippines from resupplying its military outpost at Second Thomas Shoal in the South China Sea.

China in 2014 continued construction work on various land reclamation projects in disputed waters of the South China Sea. In addition to dredging sand to create islands where there previously were none, China appears to be expanding and upgrading military and civilian infrastructure—including radars, satellite communication equipment, antiaircraft and naval guns, helipads, and docks— on some of the islands.

Perhaps of most concern is Beijing’s apparent willingness to provoke incidents at sea and in the air that could lead to a major conflict as China’s maritime and air forces expand their operations beyond China’s immediate periphery. China already has initiated dangerous encounters at sea on several occasions. In December 2013, a U.S. Navy ship was forced to maneuver to avoid a collision with a PLA Navy ship that had intentionally stopped in front of it. Both ships were operating in international waters. Later in 2014, a China Coast Guard ship rammed Vietnamese government ships following China’s placement of a state-owned deep-sea drilling platform inside Vietnam’s exclusive economic zone, and a Chinese fighter flew within 30 feet of a U.S. Navy reconnaissance aircraft in international airspace.

This pattern of unilateral Chinese actions in sensitive and disputed areas is raising tensions in the Asia Pacific and alienating many of its neighbors. China’s deepening economic, diplomatic, and military influence on its geographic periphery has led its neighboring countries to reconsider their security strategies and relationships, particularly those involving the United States. As the United States seeks to reaffirm its alliances and boost its security links with associates in East Asia and Oceania, it must contend with China’s competing vision of a China-led regional security architecture. This uncertain environment is further complicated by China’s support for North Korea, which continues to pose the most dangerous threat to East Asian security.

Across the Taiwan Strait, Beijing continued its efforts to promote eventual unification by increasing Taiwan’s economic interdependence with the mainland while expanding its ability to project military power across the Strait. Some of China’s efforts met opposition, however, when more than 100,000 Taiwan citizens protested the proposed ratification of the Cross-Strait Service Trade Agreement. The protests, which came to be known as the Sunflower Movement, illustrated the growing unease in Taiwan over economic interdependence. Concerns over China’s creeping influence were not limited to Taiwan, however. Hong Kong’s Occupy Central and student protest movements were motivated by China’s efforts to control the nomination process for the election of the chief executive. Developments there were closely monitored by Taiwan, which China has suggested might someday wish to join Hong Kong and Macau as another Special Administrative Region.

The United States has fundamental interests at stake in the evolving geopolitical situation in East Asia and the Western Pacific. China’s rise as a major military power in the Asia Pacific challenges decades of air and naval dominance by the United States in a region in which Washington has substantial economic and security interests. However, as a result of China’s comprehensive and rapid military modernization, the regional balance of power between China, on the one hand, and the United States and its allies and associates on the other, is shifting in China’s direction.

The Commission’s 2014 Annual Report examines these and other issues as part of its mandate from Congress to monitor the evolving economic and security relationship between our two countries.