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Accelerating the Clean Energy Revolution by Working with China

Beautiful modern city scenery at night in Shanghai, China
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It has become axiomatic in Washington that America must get tough on China. This is evident in clean energy, an industry that is critical to the future, where Chinese suppliers are treated as existential threats rather than vital to America’s success.

This approach will backfire. America is already lagging behind China in important ways. Collaboration and competition, not hostility, are how we can catch up to the world’s largest supplier of clean technology products. Big tariffs and barriers to Chinese firms doing business in the United States will undermine that strategy. These anti-Chinese policies are already making it harder for American firms to stay abreast of the world’s best innovations and redefine the technological frontier with their own ideas. In the end, isolating ourselves from China won’t just fail—it will also harm American companies, workers, and innovators. Moreover, it will drive up the cost of green technology, making it even harder to clean up the world’s energy system.

U.S. strategy should help American companies compete at the frontier while avoiding excess dependence on China. Success requires understanding how China became so dominant in so many clean technologies and how trade and investment can help American industry, workers, and communities thrive as well.

Understanding China’s dominance—and our dependency

David Victor, professor of innovation and public policy at the School of Global Policy and Strategy
David Victor, professor of innovation and public policy at the School of Global Policy and Strategy

There is no question that the world has become too dependent on China, especially in the raw ingredients of the clean energy economy. China refines 60% of the world’s lithium and nearly 90% of rare earth metals (used in magnets for motors and generators such as on wind turbines). Demand for such minerals will soar as the clean energy revolution advances.

The big opportunities in competition and collaboration aren’t in ingredients but in products—the place where China is really excelling through innovation and excellence in design and manufacturing. Chinese battery and solar producers are world-class—they operate and, increasingly, define the global frontier. Their competitiveness comes from manufacturing innovations geared to producing huge volumes with minimal cost and defects. For example, the leading Chinese producers have all automated battery and electric vehicle production lines because human workers can’t assure quality except when they manage robots rather than compete with them. If defects spoil just a few percent of batteries, for example, a plant can’t compete with the world’s best. In fact, Chinese factories are often more automated than their Western competitors, because the Chinese gear is newer.

Understanding how China got so dominant is the key to crafting an American strategy. Chinese industrial policy, including big subsidies, set a foundation for leaps in productivity. Local governments in China have attracted firms and entrepreneurs through lucrative tax breaks and other benefits like free land and expedited approvals to build facilities—policies that can be highly effective in creating local industrial ecosystems that attract still more firms in complementary industries. Competition in clean energy technologies is fierce inside China and spilling into other markets (e.g., robots to supply car manufacturers); as China gets more competitive, there have been ripple effects globally as other firms, such as Tesla, have been forced to slash margins in some markets and deliver better value to customers. These local subsidies create advantages, but China is hardly alone in adopting those policies. Industrial location incentives, mainly in the form of tax breaks, are widespread in the United States. And at the federal level, the United States has its own industrial policy—centered on the Inflation Reduction Act and other federal legislation with hefty spending.

Michael Davidson, an assistant professor at UC San Diego’s School of Global Policy and Strategy and at the UC San Diego Jacobs School of Engineering
Michael Davidson, an assistant professor at UC San Diego’s School of Global Policy and Strategy and at the UC San Diego Jacobs School of Engineering

Responding to Chinese dominance

A strategy that gains from trade with China isn’t the same as throwing open the border to crushing competition, but the right way to respond to Chinese dominance isn’t with extensive tariffs—Washington’s bipartisan strategy. Donald Trump called in March for a 100% tariff on Chinese electric vehicles, and the Biden administration more or less implemented what Trump wanted last month. The administration is also readying still more tariffs and retaliation.

There’s certainly a role for tariffs, especially when countries use dominant positions and a history of hefty subsidies to dump products on global markets—actions that undermine competition in many ways, including the extinction of rival firms allowing for monopolistic behavior. But the United States has allowed that proper role to spiral beyond control with huge tariffs that apply across whole industries. A much narrower approach to tariff retaliation—along with one that follows the rules of the World Trade Organization, where the United States has also been unhelpfully obstructionist—would be much smarter.

Tariffs harm the United States in two ways. First, by driving up the cost of Chinese imports, tariffs make it harder for anyone who wants to use solar panels or batteries to reduce emissions. Along the way, these tariffs temporarily make some American firms more profitable, but the main effect so far has been to encourage Chinese firms to relocate their supply chains—first to Southeast Asia and now globally. Second, and more perniciously, tariffs are politically destabilizing. As the United States attacks China’s supply chains, from Vietnam to Mexico, it undermines our trading relationships with important trading partners. And when China retaliates, trade wars over batteries and lithium metastasize to harm exports of other products, such as soybeans, where American producers have big advantages.

Even more shortsighted are the escalating barriers to Chinese firms investing in America. When Chinese firms partner with expert local American firms, both sides learn and local communities benefit from the investment and jobs. The United States learned that lesson when it faced the threat of competition from Japan around 1990—a dose of managed trade along with allowing (even encouraging) joint ventures created value here at home.

However, obstacles to this kind of productive collaboration abound in the United States. In the electric vehicle sector, for example, an opaquely applied rule known as the Foreign Entities of Concern, a wonky element of the Inflation Reduction Act (IRA), prohibits any enterprise with Chinese ownership greater than 25% or any control by Chinese managers from receiving U.S. subsidies. Nobody really knows how this will work, or even if the letter of the rule can be trusted. Many states are also piling in with their own legislation that wrongly targets Chinese residents and investors. The result: Chinese firms that could compete in one of the world’s largest clean energy markets are shunning America.

Getting industrial policy right

The ongoing subsidy race for clean technology has breathed life into climate policy ambitions. Yet subsidy-rich industrial policies face both fiscal and political limits, blunt the power of markets, and cause friction with our closest clean tech trading partners. We have a common interest in focusing industrial policies in areas where markets have failed, such as in encouraging adequate investment in innovation and the demonstration of early-stage technologies. (By that standard, the IRA’s role still has a way to go.)

Many of those opportunities for innovation would benefit from U.S.-Chinese collaboration, including academic collaboration. Tentative early signs of a possible U.S.-China thaw have included pledges for advanced clean energy collaboration, like carbon capture, though they remain politically fragile in both countries. One benefit of a better U.S.-Chinese geopolitical relationship could be a forum where the two countries discuss paring back excessive subsidies—akin to what the United States, Europe, and other countries have done for decades in agriculture. On subsidy reform, the United States would be pushing, to some degree, on an open door in China. In the early years of the clean technology revolution, the Chinese central government backed Chinese industry with local content rules and an array of subsidies including loans from state-linked banks; much of that support is now unnecessary and starting to be rolled back.

We must diversify the global suppliers for the ingredients of a clean energy revolution. This will require international cooperation and using the market, not anti-China mandates. (The market is already delivering to some degree—recent lithium price volatility has prompted supply to expand, for example, mostly not in China.) We must also demand, as Europe already does, that Chinese supply chains meet the same environmental standards as those in the West. Chinese battery makers already know this and are putting in place the monitoring systems needed to comply.

It’s also important that we pay close attention to places where the Chinese government might manipulate supplies and undermine national security. Some manipulations are already evident in markets for graphite (used in batteries) and rare earths. The best way for America to secure its supply chains is to work alongside other countries that want greater security in critical minerals to encourage a diversity of global suppliers and monitor the market for abuses. Lithium isn’t the new oil; moving lithium supplies onshore, even if that were feasible, is a much less effective and more costly way to secure supplies. Furthermore, today’s “America First” approach all too easily leads to overreactions as every behavior from China gets treated as a national security threat.

Learning from China

Rather than erect barriers, we should emulate China’s approach. Through permitting reform—an area where nascent bipartisanship is making some headway—we should be cutting red tape on projects and plants. Solar panel factories, for example, are far smaller than China’s behemoth wafer, cell, and module factories. More and bigger plants offer huge gains from scale. Getting out of the way of—and even encouraging—U.S. communities to adopt newer Chinese manufacturing technologies and methods will also help push local firms to the global frontier.

The clean energy revolution is well underway and accelerating—in red and blue states alike. Gaining the most from this revolution requires that we quickly catch up to the global technological frontier by learning from—not locking out—Beijing.

—Authored by David Victor, professor of innovation and public policy at the UC San Diego School of Global Policy and Strategy and Michael Davidson, assistant professor at UC San Diego’s School of Global Policy and Strategy and at the UC San Diego Jacobs School of Engineering.

Learn more about research and education at UC San Diego in: Climate Change

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