Calhoun The NPS Institutional Archive Theses and Dissertations Thesis Collection 2014-12 A rising China shifting the economic balance of power through cyberspace Kihara Stacy A Monterey California Naval Postgraduate School http hdl handle net 10945 44593 NAVAL POSTGRADUATE SCHOOL MONTEREY CALIFORNIA THESIS A RISING CHINA SHIFTING THE ECONOMIC BALANCE OF POWER THROUGH CYBERSPACE by Stacy A Kihara December 2014 Thesis Advisor Co-Advisor Carolyn Halladay Wade L Huntley Approved for public release distribution is unlimited THIS PAGE INTENTIONALLY LEFT BLANK REPORT DOCUMENTATION PAGE Form Approved OMB No 0704–0188 Public reporting burden for this collection of information is estimated to average 1 hour per response including the time for reviewing instruction searching existing data sources gathering and maintaining the data needed and completing and reviewing the collection of information Send comments regarding this burden estimate or any other aspect of this collection of information including suggestions for reducing this burden to Washington headquarters Services Directorate for Information Operations and Reports 1215 Jefferson Davis Highway Suite 1204 Arlington VA 22202-4302 and to the Office of Management and Budget Paperwork Reduction Project 0704-0188 Washington DC 20503 1 AGENCY USE ONLY Leave blank 2 REPORT DATE December 2014 3 REPORT TYPE AND DATES COVERED Master’s Thesis 5 FUNDING NUMBERS 4 TITLE AND SUBTITLE A RISING CHINA SHIFTING THE ECONOMIC BALANCE OF POWER THROUGH CYBERSPACE 6 AUTHOR S Stacy A Kihara 7 PERFORMING ORGANIZATION NAME S AND ADDRESS ES Naval Postgraduate School Monterey CA 93943-5000 9 SPONSORING MONITORING AGENCY NAME S AND ADDRESS ES N A 8 PERFORMING ORGANIZATION REPORT NUMBER 10 SPONSORING MONITORING AGENCY REPORT NUMBER 11 SUPPLEMENTARY NOTES The views expressed in this thesis are those of the author and do not reflect the official policy or position of the Department of Defense or the U S Government IRB Protocol number ____N A____ 12a DISTRIBUTION AVAILABILITY STATEMENT Approved for public release distribution is unlimited 13 ABSTRACT maximum 200 words 12b DISTRIBUTION CODE The growing evidence of Chinese government complicity in commercial cyber espionage and theft of intellectual property costing the United States billions of dollars has blurred the distinction between the geopolitical and economic realms complicating an already complex relationship Yet China’s cyber activity takes place in the context of an extensive economic interdependence between the two countries that may be seen as a source of stability in the relationship Taking into consideration the economic interdependence between the United States and China the rise of China as a potential global power and the threat of state-sponsored malicious cyber activity the major question driving this thesis is What does China’s cyber behavior tell us about the role of economic interdependence in U S China relations This thesis applies the complex interdependence framework to demonstrate that China has systematically conducted cyber-enabled economic espionage against the United States in an effort to shift the economic balance of power Furthermore this thesis shows China’s ability to use asymmetric interdependence as a source of power and instrument of political coercion and prove its willingness to use these instruments against the United States Finally this thesis reasons that if China continues its persistent cyber espionage campaign it would indicate that the potential costs of its cyber programs outweigh the benefits of its relationship with the United States 14 SUBJECT TERMS China Economic Interdependence Complex Interdependence Cyberspace International Relations Economic Espionage Intellectual Property Economic Growth U S -China Relations Balance of Power Internet Indigenous Innovation Economic Rebalancing 15 NUMBER OF PAGES 125 16 PRICE CODE 17 SECURITY CLASSIFICATION OF REPORT Unclassified 20 LIMITATION OF ABSTRACT 18 SECURITY CLASSIFICATION OF THIS PAGE Unclassified NSN 7540–01-280-5500 19 SECURITY CLASSIFICATION OF ABSTRACT Unclassified UU Standard Form 298 Rev 2–89 Prescribed by ANSI Std 239–18 i THIS PAGE INTENTIONALLY LEFT BLANK ii Approved for public release distribution is unlimited A RISING CHINA SHIFTING THE ECONOMIC BALANCE OF POWER THROUGH CYBERSPACE Stacy A Kihara Major United States Air Force B A St John’s University 1997 Submitted in partial fulfillment of the requirements for the degree of MASTER OF ARTS IN SECURITY STUDIES HOMELAND SECURITY AND DEFENSE from the NAVAL POSTGRADUATE SCHOOL December 2014 Author Stacy A Kihara Approved by Carolyn Halladay Thesis Advisor Wade L Huntley Co-Advisor Mohammed M Hafez Chair Department of National Security Affairs iii THIS PAGE INTENTIONALLY LEFT BLANK iV ABSTRACT The growing evidence of Chinese government complicity in commercial cyber espionage and theft of intellectual property costing the United States billions of dollars has blurred the distinction between the geopolitical and economic realms complicating an already complex relationship Yet China’s cyber activity takes place in the context of an extensive economic interdependence between the two countries that may be seen as a source of stability in the relationship Taking into consideration the economic interdependence between the United States and China the rise of China as a potential global power and the threat of state-sponsored malicious cyber activity the major question driving this thesis is What does China’s cyber behavior tell us about the role of economic interdependence in U S -China relations This thesis applies the complex interdependence framework to demonstrate that China has systematically conducted cyber-enabled economic espionage against the United States in an effort to shift the economic balance of power Furthermore this thesis shows China’s ability to use asymmetric interdependence as a source of power and instrument of political coercion and prove its willingness to use these instruments against the United States Finally this thesis reasons that if China continues its persistent cyber espionage campaign it would indicate that the potential costs of its cyber programs outweigh the benefits of its relationship with the United States v THIS PAGE INTENTIONALLY LEFT BLANK Vi TABLE OF CONTENTS I INTRODUCTION 1 A CHINA’S EMERGING ECONOMY 2 B CYBER REVOLUTION 3 C LITERATURE REVIEW 5 1 Economic Interdependence War and Peace 5 2 The Rise of China and U S -China Relationship 8 3 Strategic Questions of the U S -China Relationship 9 4 The U S -China Cyberspace Race 14 D COMPLEX INTERDEPENDENCE 18 E THESIS ORGANIZATION 19 II U S -CHINA ECONOMIC INTERDEPENDENCE 21 A THE ROAD TO INTERDEPENDENCE 21 B ALMOST PERFECT SYMMETRY 29 C CHINA TIPPING THE SCALES 39 III CHINESE CYBER-ENABLED ECONOMIC ESPIONAGE 43 A COSTS TO THE U S ECONOMY 44 B SEIZING THE ADVANTAGE 46 C ECONOMIC GROWTH PLANS OR CYBER ROAD MAPS 52 D CHINESE RESOLVE 58 IV U S -CHINA RELATIONS CAN CHINA RISE PEACEFULLY 59 A CHINA’S USE OF ASYMMETRIC ECONOMIC INTERDEPENDENCE AS A SOURCE OF POWER 60 B U S STRONGHOLD ON INFORMATION POWER 65 C CHINA’S WILLINGNESS TO USE CYBERSPACE 72 D POTENTIAL FOR CONFLICT 75 E CONCLUSION 78 APPENDIX DEPARTMENT OF JUSTICE CASES OF CHINESE CYBER ESPIONAGE AGAINST THE UNITED STATES 83 LIST OF REFERENCES 95 INITIAL DISTRIBUTION LIST 107 vii THIS PAGE INTENTIONALLY LEFT BLANK LIST OF FIGURES Figure 1 Figure 2 Figure 3 Figure 4 Figure 5 Figure 6 Figure 7 Figure 8 Figure 9 U S Personal Consumption as percent of GDP 1960–2011 23 U S Personal Savings Rate 1959–2009 percent 24 Balance of Payment Statistics US $ millions 2010–2013 25 Chinese Real GDP Growth 1979–2013 percent 27 Chinese Gross Savings Gross Fixed Investment and Private Consumption as a Percent of GDP 1990–2013 percent 28 Projections of U S and Chinese Real GDP Growth Rates 2014–2030 32 Major Net Exporters and Importers of Foreign Capital in 2013 34 Timeline of APT1 Compromises by Industry Sector 55 Similarities Among China’s 12th Five-Year Plan National Medium LongTerm Plan for Science and Technology 2006–2020 and Specific Cases of Chinese Cyber Espionage Against the United States 57 ix THIS PAGE INTENTIONALLY LEFT BLANK LIST OF TABLES Table 1 Table 2 Table 3 Table 4 Table 5 Table 6 Chinese Japanese and U S GDP and Per Capita GDP in Nominal U S Dollars and a Purchasing Power Parity Basis 2013 30 Twelve Largest Economies by Share of World GDP 2011 32 Estimated Ownership of U S Treasury Securities $ billions 35 The Top 10 Foreign Holders of Federal Debt by Country 2009 and 2013 36 China’s Year-End Holdings of U S Treasury Securities 2003–2012 and as of May 2013 $ Billions and as a Percentage of Total Foreign Holdings 37 Top 5 Foreign Holders of U S Treasury Securities as of June 2013 37 xi THIS PAGE INTENTIONALLY LEFT BLANK Xii LIST OF ACRONYMS AND ABBREVIATIONS FBI Federal Bureau of Investigation FDI foreign direct investment FYP five-year plan GAO Government Accounting Office GDP gross domestic product HPSCI House Permanent Select Committee on Intelligence IMF International Monetary Fund IP intellectual property IR international relations LOC lines of communication MLP Medium to Long-Term Plan for the Development of Science and Technology OSD Office of the Secretary of Defense PLA People’s Liberation Army PPP purchasing power parity PRC People’s Republic of China REE rare earth element R D research and development RMB Renminbi WTO World Trade Organization xiii THIS PAGE INTENTIONALLY LEFT BLANK ACKNOWLEDGMENTS Although the thesis is just a portion of the graduate education I received at Naval Postgraduate School it became a labor of love for me I was lucky enough to have family friends and advisors who encouraged and supported me throughout this academic process and to which I owe a debt of gratitude I would like to give a sincere thank-you to Dr Robert Looney for the considerable help and guidance he provided me on this thesis It was during his Global Economic Relations class that I really became interested in the economic relationship between the United States and China and was able to turn the subject into a premise for a thesis Chapter II would not have been possible without his guidance support and remarkable expertise I would also like to thank my co-advisor Dr Wade Huntley for his assistance He introduced me to the concept of complex interdependence When I presented a proposal he guided me to the analytical framework that made my thesis possible Additionally I would like to offer a special thank-you to Dr Carolyn Halladay for the guidance and assistance throughout the thesis process and my educational journey at NPS She was a perfect match as my advisor immediately understanding my personality and helping me use it to my advantage Her support and counsel allowed me to find a topic I was truly interested in and turn it into a thesis I am proud to have written Last but certainly not least thank you to my amazing husband and children This thesis and my success at NPS would not have been possible without their unwavering support My husband Shane had the toughest job of all staying home with our babies yet he always found time to read my papers listen to my ideas and walk every step through this thesis process with me I don’t know many partners that would do their own independent research to make sure they understood the thesis topic enough to provide valuable feedback His dedication to my success and our family is incredible and I can never thank him enough Finally I would like to thank Scarlett and Sai the little loves of xv my life They pushed me without even knowing that and kept me going when I wanted to quit I only hope that I inspire them as much as they both inspire me xvi I INTRODUCTION In an environment of greater global economic interdependence astounding technological advancement the challenge of U S hegemony with the rise of new global superpowers and the ease with which conflict and war can and have been waged the nature of interstate relationships has never been more important While U S-China economic ties have significantly increased over the past three decades the bilateral relationship continues to be riddled with complexities friction and tension The growing evidence of Chinese government complicity in commercial cyber espionage and theft of intellectual property IP costing the United States billions of dollars has blurred the distinction between the geopolitical and economic realms further complicating the relationship During bilateral discussions in June 2013 President Barack Obama warned Chinese President Xi Jinping that if cyber security issues such as the theft of U S property were not addressed it would “be a very difficult problem in the economic relationship and was going to be an inhibitor to the relationship really reaching its full potential ”1 The possibility of this distrust spilling over into other areas of U S -China relations is a major concern that could determine whether the relationship becomes one of cooperation or more adversarial in nature 2 “Distrust of each other’s actions in the cyber realm is growing between the U S and China ” according to Kenneth Lieberthal and Peter Singer political scientists and senior fellows at Brookings Institute 3 The effect of cyber security on other aspects of the U S -China relationship is more important than with any other bilateral relationship because of the emerging world order and potential challenge to U S hegemony 1 Wayne M Morrison China-U S Trade Issues CRS Report No RL33536 Washington DC Congressional Research Service 2014 1 http fas org sgp crs row RL33536 pdf 2 Ibid 6 3 Kenneth Lieberthal and Peter W Singer Cybersecurity and U S -China Relations Washington DC Brookings Institute 2012 6 http www brookings edu media Research Files Papers 2012 2 23%20cybersecurity%20china%20us%2 0singer%20lieberthal 0223_cybersecurity_china_us_lieberthal_singer_pdf_english PDF 1 China is believed to have engaged in cyber espionage and intelligence collection as far back as 2004 when the Federal Bureau of Investigation FBI investigated intrusions code-named Titan Rain by Chinese hackers against U S military labs 4 In 2012 computer networks and systems around the world continued to be targets of intrusions and data theft many of which originated in China and were attributable directly to the Chinese government and military 5 Though it would seem that China took a step in the direction of cooperation by agreeing in a 2013 United Nations report that international law does extend to cyberspace there are no indications that China’s cyber espionage and the theft of IP against the United States has waned 6 China’s cyber activity against the United States takes place in the context of an extensive economic interdependence between the two countries that could be seen as a source of accommodation and stability in the relationship Taking into consideration the economic interdependence between the United States and China the rise of China as a potential global power and the threat of state-sponsored malicious cyber activity the major question driving this thesis is What does China’s cyber behavior tell us about the role of economic interdependence in U S -China relations Other aspects of this question include Is China’s current use of cyberspace intended to shift the symmetry within U S China economic interdependence and create a source of power for China Does the use of cyberspace strengthen or weaken China’s position within the U S-China relationship How has China’s cyber behavior been shaped by U S -China interdependence A CHINA’S EMERGING ECONOMY Economists agree that there is no emerging economy more important than China to the health of the global economy and that China will face difficult challenges that will 4 Timothy Thomas “Google Confronts China’s ‘Three Warfares ’” Parameters Summer 2010 102 5 Office of the Secretary of Defense Annual Report to Congress Military and Security Developments Involving the People’s Republic of China 2013 Washington DC Department of Defense 2013 37 http www defense gov pubs 2013_china_report_final pdf 6 U S -China Economic and Security Review Commission 2013 Annual Report to Congress Washington DC Government Printing Office 2013 249 http www uscc gov Annual_Reports 2013annual-report-congress 2 require both economic and political change 7 Where economists diverge is in predicting whether China can maintain the significant growth seen of the last three decades to surpass the United States as the largest global economy and what that means for the global power structure “The next 40 years may see one of the greatest shifts in economic and military power in history ” according to Uri Dadush an author and economist with the Carnegie Endowment for International Peace 8 By 2050 the world’s three largest economies will be the United States China and India 9 This shift in economic power will significantly affect global economic governance and regional and global interstate relationships However “distortive economic policies that have resulted in over-reliance on fixed investment and exports for economic growth rather than on consumer demand government support for stateowned firms a weak banking system widening income gaps growing pollution and the relative lack of the rule of law in China” have been identified as potential weak points in China’s economic development according to a U S Congressional Research Service report 10 Predicting the economic growth or potential for any nation is difficult but for China it is especially difficult with the significant economic reforms identified in the country’s Twelfth Five-Year Plan FYP B CYBER REVOLUTION Similar to the degree of difficulty in predicting the economic growth of China forecasting and analyzing China’s behavior in cyberspace is equally problematic There is no space more unpredictable than cyberspace yet states are becoming increasingly dependent on information technology to drive political and economic development The United States and China are two of the major players in cyberspace but they hold vastly 7 Robert E Looney Handbook of Emerging Economies ed Robert E Looney London and New York Routledge 2014 5 8 Uri Dadush “Key Trends in the World Economy” in Handbook of Emerging Economies ed Robert E Looney London and New York Routledge 2014 26 9 Ibid 16 21 10 Wayne M Morrison China’s Economic Rise History Trends Challenges and Implications for the United States CRS Report No RL33534 Washington DC Congressional Research Service 2014 1–2 http fas org sgp crs row RL33534 pdf 3 different views on acceptable behavior in the cyber domain Even among close allies there is little consensus among researchers on what constitutes a cyber attack or the threshold for an act of war in cyberspace James Lewis author and preeminent expert on cyber security reasons that “an obstacle to managing cyber competition among states is the blurred boundaries between cyber-crime cyber-espionage and cyber-attack among states ”11 The Internet was originally designed for the free flow of information with security as an afterthought “The only distinction between computer network exploitation and attack is the intent of the operator at the keyboard ” argues Brian Krekel author and subject matter expert on China 12 Despite the difficulty in attribution of cyber operations and ability of a nation to potentially disguise cyber operations the interdependence between two nations may be enough of a deterrence to prevent a cyber attack “Even when the source of an attack can be successfully disguised under a ‘false flag ’ other governments may find themselves sufficiently entangled in interdependent relationships that a major attack would be counterproductive China for example would itself lose from an attack that severely damaged the American economy and vice versa ” argues Joseph Nye Distinguished Service Professor at Harvard University and co-founder of complex interdependence theory 13 But knowing where these lines are is a serious problem for both the United States and China Offensive cyber operations require a deep knowledge of cultural or military sensitivities potential “red lines ” and how an attack or intrusion will be perceived For instance China’s government sees Tibetan exiles and Falun Gong hackers as national security threats while the United States sees them as hacktivists advancing human rights and Internet freedom Similarly U S leaders view Twitter and YouTube as outlets for personal expression but their Beijing counterparts identify the websites as 11 James Lewis Hidden Arena Cyber Competition and Conflict in Indo-Pacific Asia Washington DC Center for Strategic and International Studies 2013 2 http csis org publication hidden-arena-cybercompetition-and-conflict-indo-pacific-asia 12 Bryan Krekel Capability of the People’s Republic of China to Conduct Cyber Warfare and Computer Network Exploitation Falls Church VA Northrop Grumman 2009 8 http www2 gwu edu nsarchiv NSAEBB NSAEBB424 docs Cyber-030 pdf 13 Joseph S Nye Jr “Cyber Power ” Belfer Center for Science and International Affairs Harvard Kennedy School May 2010 16 http belfercenter ksg harvard edu files cyber-power pdf 4 instruments of attack 14 “Failure to understand an enemy’s potential ‘red lines’ can lead to unintentional escalation of the conflict ” states Krekel 15 In addition cyberspace represents a domain in which a nation’s economic political and military capabilities and vulnerabilities converge “The Internet thus may have no formal state borders but it is increasingly a place that state entities both operate in and care deeply about ” affirm Lieberthal and Singer 16 IP sensitive source code proprietary data business records research and development sensitive economic information and advanced technology all exist in digital medium enabling foreign actors to quickly gather massive quantities of data with little risk The most important change facilitating economic espionage through cyberspace or cyber-enabled economic espionage is the sheer quantity of data produced digitally and stored electronically With China’s long-term economic growth and prosperity riding on technological innovation China’s actions in cyberspace will be a major factor in determining future U S -China political and economic relations as well as whether the rise of China as a regional hegemon will be peaceful C LITERATURE REVIEW Work for this thesis draws on and conjoins four distinct areas of prior research the role of economic interdependence in the relationships of states the “rise of China” and how China’s rise is shaping U S -China relations and the impact of cyber technologies on such relationships 1 Economic Interdependence War and Peace Understanding International Relations IR theory is key to understanding the nature of the changing relations between nation states and there is no relationship more important to the international system than the relationship between the United States and China As China continues its rise the United States struggles with how to address 14 Ibid 18 15 Krekel Capability of the People’s Republic of China 21 16 Lieberthal and Singer Cybersecurity and U S -China Relations 6 5 China’s emergence as a potential great power Each school of thought provides a different perspective on China’s rise and what it means for U S -China relations From one perspective the economic interdependence between the United States and China makes conflict impractical 17 From another perspective there is a real likelihood that the United States and China will engage in an intense security competition that could very well lead to conflict 18 While this literature review will examine a number of IR perspectives the complex interdependence framework seen as an integration of realist and liberal thought is the framework used throughout this thesis In The Great Illusion originally published in 1909 Norman Angell disputes the idea that nations could gain from war conquest or armed conflict 19 Rather than bringing profit or other advantages Angell argues that the prevailing economic interdependence between industrial countries made war obsolete in the 20th century since even military victors lose far more than they gain 20 This proposition became an article of faith among policy- and opinion-makers of the age and informed the heady promises that the “boys” who marched into the battles brewing in Europe in August 1914 would “be home by Christmas” that year When instead World War I wore on for several years expending the blood and treasure of the leading western powers in unprecedented measure critics lambasted Angell and his argument The critics missed a key point however Angell did not say war was impossible but rather that the economic consequences would devastate the participants 21 Some observers believe that Angell’s principle—of economic prowess inhibiting all-out military conflict—operates in China today Thomas Friedman advanced a position similar to Angell arguing that “to the extent that countries tied their economies and futures to global integration and trade it would act as a restraint on going to war with their neighbors As countries got woven into the fabric of global trade and rising living 17 Norman Angell The Great Illusion New York and London Garland Publishing 1972 54–55 18 John J Mearsheimer “China’s Unpeaceful Rise ” Current History April 2006 160–161 http www currenthistory com pdf_org_files 105_690_160 pdf 19 Angell The Great Illusion 27 20 Ibid 21 Ibid 54–55 6 standards the cost of war for victor and vanquished became prohibitively high ”22 Friedman believes that China’s push toward a more free-market economy is in the best interest of the United States and of the world Political upheaval or a potential war could devastate economic progress risk a state’s place in the global supply chain and ruin business credibility He contends that countries intertwined in global supply chains will have to carefully consider engaging in anything but a war of self-defense 23 Kenneth Waltz argues the contrary by stating that the structure of the international system limits cooperation and forces states to compete in order to ensure survival “States do not willingly place themselves in situations of increased dependence In a self-help system considerations of security subordinate economic gain to political interest ”24 Furthermore states seek to maximize their relative power in order to ensure their own survival and “because any state may at any time use force all states must constantly be ready either to counter force with force or to pay the cost of weakness ”25 Waltz states that “in the end power will balance power and there isn’t any doubt that the Chinese are very uncomfortable with the extent to which the United States dominates the world militarily But China if it maintains its political coherence its political capabilities will have in due course the economic and the technological means of competing ”26 While countries have always competed for security it has often led to conflict The world is witnessing what Waltz describes as “the all-but-inevitable movement from unipolarity to multipolarity” in Asia as China emerges as a great power 27 John Mearsheimer reiterates this point when he states that “the ultimate goal of every great power is to maximize its share of world power and eventually dominate the 22 Thomas L Friedman The World is Flat Brief History of the Twenty-First Century New York Picador 2007 586 23 Ibid 587 24 Kenneth N Waltz Theory of International Politics McGraw-Hill 1979 107 25 Kenneth N Waltz Man the State and War A Theoretical Analysis New York Columbia University Press 2001 160 26 Kenneth N Waltz “Conversations with History Conversation with Kenneth Waltz ” Institute of International Studies University of California at Berkeley February 10 2003 5 http globetrotter berkeley edu people3 Waltz waltz-con5 html 27 Kenneth N Waltz “Structural Realism after the Cold War ” International Security 25 no 1 2000 32 http www columbia edu itc sipa U6800 readings-sm Waltz_Structural%20Realism pdf 7 system ”28 He writes that “the best way to survive in the international system is to be as powerful as possible relative to potential rivals ”29 Great powers don’t only strive to be the strongest power but to be the only great power in the system and prevent others from accomplishing the same This type of intense security competition has the potential to lead to conflict or war 30 Mearsheimer states “China cannot rise peacefully and if it continues its dramatic economic growth over the next few decades the United States and China are likely to engage in an intense security competition with considerable potential for war ”31 2 The Rise of China and U S -China Relationship It is no secret that China has developed into a major global economic and trade power over the last three decades While many experts expect that China will surpass the United States as the world’s largest economy others argue that China’s ability to maintain the rapid economic growth it has seen over the past decade will depend on whether it implements comprehensive economic reforms and completes the transition to a free market economy 32 Uri Dadush contends that China will overtake the United States as the world’s largest economic power to become a global economic leader Even under a lower-growth scenario China will emerge as one of the three largest economies in the world Although it will remain smaller than the United States in dollar terms it will surpass the purchasing power parity PPP gross domestic product GDP of the United States to become the largest in the world by 2050 33 The World Bank affirms this position stating that China’s economic performance over the last three decades has been impressive “Even if China grows a third as slowly in the future compared with its past 6 6 percent a year on average compared with 9 9 percent over the past 30 years it will 28 John J Mearsheimer “China’s Unpeaceful Rise ” Current History April 2006 160 http www currenthistory com pdf_org_files 105_690_160 pdf 29 Zbigniew Brzezinski and John J Mearsheimer “Clash of the Titans ” Foreign Policy no 146 January February 2005 48 30 Mearsheimer “China’s Unpeaceful Rise ” 160–161 31 Brzezinski and Mearsheimer “Clash of the Titans ” 47 32 Morrison China’s Economic Rise Summary page 33 Dadush “Key Trends in the World Economy ” 13 28 8 become a high-income country sometime before 2030 and outstrip the United States in economic size its per capita income however will still be a fraction of that in advanced countries ”34 On the contrary an International Monetary Fund IMF paper in January 2014 shows a continued decline in China’s growth since 2007 despite high levels of investment and credit growth The authors contend that these factors “would imply diminishing returns to investment a misallocation of resources and a limit to how far an economy can grow by reallocating labor from the country side into factories ” and suggest significant reform implementation is needed 35 Wayne Morrison makes the same assessment claiming that China’s ability to maintain the rapid economic growth it has seen over the past decade will depend on the implementation of comprehensive economic reforms and completion of the transition to a free market economy 36 Although Friedman argues that China has the potential to become a free-market version of the United States without implementation of a standard rule of law free press and a more open political system that allows people to vent their grievances China will never become efficient eradicate corruption nor be capable of coping with the inevitable downturns in its economy 37 3 Strategic Questions of the U S -China Relationship One aspect of Chinese economic rise that seems to be clear is the growing trade relationship between the United States and China and “sharp expansion in U S -China commercial ties” since its entrance into the World Trade Organization WTO in 2001 38 34 The World Bank “China 2030 Building a Modern Harmonious and Creative Society ” 2013 3 http www worldbank org content dam Worldbank document China-2030-complete pdf 35 Rahul Anand Kevin C Cheng Sidra Rehman and Longmei Zhang “Potential Growth in Emerging Asia ” IMF Working Paper International Monetary Fund 2014 6 13 http www imf org external pubs ft wp 2014 wp1402 pdf 36 Morrison China’s Economic Rise Summary page 37 Friedman The World is Flat 149 38 Morrison China-U S Trade Issues 1 9 What is relatively unclear among experts is whether the relationship will remain cooperative and peaceful or end in eventual conflict 39 In 2011 both the United States and China committed to building a more cooperative partnership and a military-to-military relationship in an effort to encourage China’s cooperation in the international forum and as a responsible power 40 In a visit to China in February 2014 Secretary of State John Kerry spoke about the U S and China’s relationship as having great potential and a partnership that can come together to build stability and prosperity in the region Secretary Kerry reiterated the commitment to a bilateral relationship based on “practical cooperation” and “constructive management of differences ”41 Additionally the Office of the Secretary of Defense OSD contends that China’s priorities for the early 21st century are economic growth and development maintaining peace and stability in the region expanding their influence to access new markets and resources and avoiding direct confrontation with the United States and other nations 42 Zbigniew Brzezinski argues that China is “determined to sustain economic growth” and that a “confrontational foreign policy could disrupt that growth harm hundreds of millions of Chinese and threaten the Communist Party’s hold on power ”43 A position that China confirmed in a December 2012 essay when State Councilor of China Dai Bingguo wrote “The notion that China wants to replace the United States and dominate the world is a myth ”44 Brzezinski posits that the leadership in China is conscious of its strengths but also of its weaknesses “In a conflict Chinese maritime 39 Lieberthal and Singer Cybersecurity and U S -China Relations 1 Adam Lowther et al “ChineseUS Relations Moving Toward Greater Cooperation or Conflict ” Strategic Studies Quarterly Winter 2013 20 http www au af mil au ssq digital pdf winter_13 2013winter-Lowther pdf 40 John Kerry Solo Press Availability in Beijing China Washington DC Department of State 2014 http www state gov secretary remarks 2014 02 221658 htm 41 Ibid 42 Office of the Secretary of Defense Annual Report to Congress Military and Security Developments Involving the People’s Republic of China 2013 Washington DC Department of Defense 2013 15–16 43 Brzezinski and Mearsheimer “Clash of the Titans ” 47 44 Dai Bingguo “坚持走和平发展道路 Stick to the road of peaceful development ” December 6 2010 http www gov cn ldhd 2010-12 06 content_1760381 htm Translated with the assistance of Karen Li 10 trade would stop entirely The flow of oil would cease and the Chinese economy would be paralyzed ”45 In contrast Mearsheimer argues against the conjecture that China’s desire for continued economic growth makes conflict with the United States unlikely “One of the principle reasons that China has been so successful economically over the past 20 years is that it has not picked a fight with the United States ”46 Both the German and Japanese economies were growing strongly prior to World War II but Hitler still started World War II and Japan started conflict in Asia combatting the idea that economic strength predominates all else or that economic interdependence will restrain states from engaging in war 47 Many U S policymakers and senior leaders have similar concerns Michael Schuman argues that while the rise of China is good for the global economy it concerns the United States in the same way that Japan’s economic might did back in the 1980s 48 Fear that a competing economic system that challenges U S ideals can generate superior results According to Schuman “China is not just competing with the U S in the world markets but offering up an entirely different economic and political system China is succeeding based on ideas that Americans despise ”49 But possibly the biggest concern for some U S policy makers is the increasing trade deficit between the United States and China with China having amassed $2 5 trillion in foreign exchange reserves $1 3 billion of it in U S Treasury securities as of 2013 50 Adam Lowther John Geis Panayotis Yannakogeorgos and Chad Dacus argue that if China faces economic stagnation Chinese Communist Party leaders could alter their behavior to ensure power is maintained 51 They argue that “considering China’s 45 Brzezinski and Mearsheimer “Clash of the Titans ” 47 46 Ibid 49 47 Ibid 48 Michael Schuman “Why Do We Fear a Rising China ” Time June 7 2011 http business time com 2011 06 07 why-do-we-fear-a-rising-china 49 Ibid 50 Morrison China-U S Trade Issues 13 51 Lowther et al “Chinese-US Relations ” 26–27 11 strategic culture and the geopolitical environment antagonistic actions by the PRC toward the United States are more likely to be economic than military ”52 In 2010 People’s Liberation Army academic advisers called on China to dump U S Treasuries in retaliation for a proposed arms deal between the United States and Taiwan 53 The United States responded that “the ability of China to affect the market for U S Treasuries and U S financial markets more broadly is limited ”54 While China held $1 17 trillion in U S Treasury Securities in 2012 and $1 3 trillion in 2013 China’s holdings of U S Treasury securities accounted for 11 percent of federal debt held by the public 7 5 percent of total public debt and only slightly more than 2 percent of total U S credit market debt in 2012 according to the OSD 55 The report asserts that in the most aggressive scenario China could abruptly dump its holdings of U S Treasuries causing short-term market disruptions decreased secondary market values and increased interest rates—though such a move also would impose significant direct financial losses for itself Thus “attempting to use U S Treasury securities as a coercive tool would have limited effect and likely would do more harm to China than to the United States ”56 Still Lowther et al believe that movement away from the dollar would serve to destabilize U S hegemony 57 The question then is only which economy would suffer more Lowther et al argue that it is when—not if—China will become the world’s largest economy and eventually lead to military superiority 58 “Even with modest economic growth by Chinese standards a consistent share of its gross domestic product devoted to defense spending and relatively optimistic projections of U S defense expenditures China’s military outlays are likely to eclipse U S defense spending shortly 52 Ibid 53 Office of the Secretary of Defense Report to Congress Assessment of the National Security Risks Posed to the United States as a Result of the U S Federal Debt Owed to China as a Creditor of the U S Government Washington DC Department of Defense 2012 3 https www hsdl org view did 723112 54 Office of the Secretary of Defense Annual Report to Congress Military and Security Developments Involving the People’s Republic of China 2012 3 55 Ibid 56 Ibid 4 57 Lowther et al “Chinese-US Relations ” 26 58 Ibid 26–27 12 after 2025 ”59 While there is little perceived danger of offensive U S military economic or other policy actions according to Robert Sutter China’s emergence as a power in the region alarms many regional states 60 As China’s economy grows so does its military strength making many of its regional neighbors Australia South Korea Vietnam Japan and Taiwan nervous 61 Mearsheimer claims that it is unlikely that China will build its military force to conquer nations but rather to gain regional hegemony “An increasingly powerful China is also likely to try to push the United States out of Asia much the way the United States pushed the European great powers out of the Western Hemisphere ”62 Mearsheimer points out that the United States has a historical track record of intolerance toward peer competitors “As it demonstrated in the twentieth century it is determined to remain the world’s only regional hegemon ”63 He reasons that much like the behavior the United States displayed toward the Soviets during the cold war the United States will likely look to a policy of containment against China In addition China’s neighbors will look to the United States to build a coalition of nations aimed at preventing China from achieving regional hegemon status 64 Despite the U S and Chinese rhetoric that maintaining peace and stability in the Pacific remains a priority for both nations Lowther et al believe that the “regular employment of ambiguity disinformation and secrecy in PRC foreign affairs has left the United States and countries throughout Asia reticent to believe that China’s military modernization is solely for defensive purposes ”65 Consequently they maintain that many of China’s acquisition and development choices such as the DF-21D missile system dubbed the “carrier killer ” are subtle indicators that China sees a threat arising 59 Ibid 26 60 Robert Sutter “Rebalancing China and Asian Dynamics – Obama’s Good Fit ” Center for Strategic and International Studies January 6 2014 https csis org publication pacnet-1-rebalancing-china-andasian-dynamics-obamas-good-fit 61 Schuman “Why Do We Fear a Rising China ” 62 Mearsheimer “China’s Unpeaceful Rise ” 162 63 Ibid 64 Ibid 65 Lowther et al “Chinese-US Relations ” 35 13 from the United States that requires a military modernization program aimed at mitigating U S strengths 66 While many experts believe the potential for military conflict remains low China’s military modernization cyberspace endeavors weapons proliferation activities and aggressive behavior in the South China Sea in 2012 and East China Sea in 2013 and 2014 continue to be a concern for the U S and regional allies Daniel Russel assistant secretary of state of the Bureau of East Asian and Pacific Affairs testified that “well over half the world’s merchant tonnage flows through the South China Sea and over 15 million barrels of oil per day transited the Strait of Malacca last year with most of it continuing onward through the East China Sea to three of the world’s largest economies ”67 China’s provocative actions and lack of clarity with respect to territorial claims in the region increase tensions lead to concerns about China’s overall objectives and are a great concern to the United States as a maritime nation dependent on freedom of the seas and unimpeded lawful commerce for economic and security interests 68 4 The U S -China Cyberspace Race In spite of perceived aggression and provocation by China Lowther et al contend that unless there is a serious challenge to China’s core interests their domestic and international political and economic environments will ensure they remain nonaggressive in the near term 69 They continue “Historically great powers have found it difficult to become close friends At the same time a non-confrontational relationship is possible and preferred by China Chinese cultural writings place particular importance on avoiding direct confrontation especially with a superior adversary”70 China may very well have 66 Ibid 34 67 Maritime Disputes in East Asia Hearings Before House Committee on Foreign Affairs Subcommittee on Asia and the Pacific House Committee on Foreign Affairs 113th Cong 1 2014 statement of Daniel R Russel Assistant Secretary of State Bureau of East Asian and Pacific Affairs http www state gov p eap rls rm 2014 02 221293 htm 68 Ibid 69 Lowther et al “Chinese-US Relations ” 22 70 Ibid 22 38 14 identified cyberspace as the mechanism to compete with the United States while avoiding direct confrontation According to the OSD “Chinese actors are the world’s most active and persistent perpetrators of economic espionage Chinese attempts to collect U S technological and economic information will continue at a high level and will represent a growing and persistent threat to U S economic security ”71 In 2013 The U S government openly accused the Chinese government of directing and executing cyber espionage against U S diplomatic economic and defense industrial base sectors in order to “benefit China’s defense industry high technology industries policymaker interest in U S leadership thinking on key China issues and military planners building a picture of U S network defense networks logistics and related military capabilities that could be exploited during a crisis 72 In what might be the most significant unclassified analytic report released on cyber espionage against the United States the Mandiant Intelligence Report bridged the gap between one of the most persistent Chinese cyber actors and the Chinese government attributing global cyber intrusion victims to the 2nd Bureau of China’s People’s Liberation Army PLA 73 Krekel asserts China’s cyber exploits are more economic in nature “China’s defense industry is producing new generations of weapon platforms with impressive speed and quality and while these advancements are due to a variety of domestic factors Chinese industrial espionage is providing a source of new technology without the necessity of investing time or money to perform research ”74 Lowther et al support this view stating “China’s rapid rise as an economic power is in part the result of effective economic reforms but also of its use of cyberspace to conduct wide-spread statesponsored espionage against governmental and industrial targets to ‘catch up’ with 71 Office of the Secretary of Defense Annual Report to Congress Military and Security Developments Involving the People’s Republic of China 2012 10 72 Office of the Secretary of Defense Annual Report to Congress Military and Security Developments Involving the People’s Republic of China 2013 36 73 Mandiant APT1 Exposing One of China’s Cyber Espionage Units Alexandria VA Mandiant 2013 2–3 http intelreport mandiant com Mandiant_APT1_Report pdf 74 Krekel Capability of the People’s Republic of China 58 15 advanced nations ”75 Lewis observes that “information technology and cyberspace occupy a central position in Chinese politics strategy and economic policy ” He submits that economic espionage through the use of cyberspace is standard practice in China aimed at gaining a military and economic advantage 76 Robert Keohane and Joseph Nye reason that information technology will likely be the most important power resource in the next century 77 Nye suggests that “information technology is likely to be the most crucial power resource” and “asymmetries in information can greatly strengthen the hand of the less vulnerable party ”78 Lewis attests to Keohane and Nye’s position by stating “China uses cyber techniques to redress what it sees as an imbalance of power using cyber espionage to compensate for its technological lag and weak national innovation capability as well as an element of a larger strategy on how to gain advantage in any military conflict ”79 However China maintains that U S allegations are groundless China continues to deny claims of cyber espionage arguing that the anonymity of cyberspace and the lack of verifiable technical forensic data make it near impossible to identify China as the origin China’s leadership insists that the “accusation that the Chinese government participated in cyber attacks either in an explicit or inexplicit way is groundless and aims to denigrate China We are firmly opposed to that ”80 China asserts that it has the same concerns about cyber security as other nations claiming to also be subject to hacking and online threats “The Ministry of Public Security has noted that the number of cyber attacks on Chinese computers and websites has soared by more than 80 percent annually and by the raw numbers China is the world’s largest victim of cyber 75 Lowther et al “Chinese-US Relations ” 29 76 Lewis Hidden Arena 2 77 Robert O Keohane and Joseph S Nye Jr “Power and Interdependence in the Information Age ” Foreign Affairs 77 no 5 September October 1998 87 78 Joseph S Nye Jr American Power in the Twenty-First Century Two Examples Berkeley CA University of California at Berkeley 1999 34 36 79 Lewis Hidden Arena 6 80 “Accusation of Chinese Government’s Participation in Cyber Attack “Groundless” Ministry ” Xinhua News January 25 2010 http news xinhuanet com english2010 china 201001 25 c_13149276 htm 16 attacks ”81 Lewis concurs that China is genuinely concerned about the risk of malicious cyber activity occurring against large nation states and more importantly the ability of cyberspace to affect policies and political stability in China such as they did in the Middle East during the Arab Spring in 2010 when social media became a critical component in the social revolutions that occurred in much of the Arab world 82 Contrary to the denial of allegations of cyber espionage Chinese professional military literature highlights the importance of information superiority to China and its military leaders Major General Wang Pufeng writes that information warfare will “control the form and future of war” and that the goal is to use “information superiority to achieve greater victories at a smaller cost ”83 Wei Jincheng takes Major General Wang’s position one step further by declaring that “the multidimensional interconnected networks on the ground in the air or outer space and under water as well as terminals modems and software are not only instruments but also weapons ”84 Despite the diverging theories on China’s cyber activity Lowther et al suggest that by observing Chinese behavior in cyberspace the United States can develop an accurate sense of the U S -China relationship 85 While they look at economic interests and activity in cyberspace to determine the direction U S-China relations may take even identifying China’s use of cyberspace to advance economic power they fall short of identifying what China’s cyber behavior tells us about the role of economic interdependence in U S -China relations Keohane and Nye address the economic interdependence between the United States and China and the importance of information technology as a future source of power but do not explore how it could affect U S -China political or economic relations Stephen Roach dedicates massive amounts of research on economic interdependence between the United States and China but limits his focus to 81 Lieberthal and Singer Cybersecurity and U S -China Relations 4 82 Lewis Hidden Arena 2 4 83 Wang Pufeng “The Challenge of Information Warfare ” in Chinese Views of Future Warfare revised ed ed Michael Pillsbury Washington D C National Defense university Press 1998 318 84 Wei Jincheng “Information War A New Form of People’s War ” in Chinese Views of Future Warfare revised ed ed Michael Pillsbury Washington D C National Defense university Press 1998 411 85 Lowther et al “Chinese-US Relations ” 29 17 the economic aspect of the relationship with little attention paid to economic espionage or cyberspace as a means to conduct economic espionage In addition research exists that either independently addresses China’s cyber activity or its economic interdependence failing to establish any predictive relationship between these two variables As the literature review illustrates researchers have given extensive attention to the role of economic interdependence in international relations the rise of China as an economic power and the contentiousness of Chinese cyber behavior This thesis examines the intersection of these three topics D COMPLEX INTERDEPENDENCE This thesis applies the complex interdependence framework to demonstrate China’s efforts to gain leverage through cyberspace in an effort to shift the balance of power within its economic interdependent relationship with the United States Within the structure of complex interdependence Keohane and Nye argue that the more states become economically interconnected the more states will seek to structure their interdependence to achieve joint gains and create asymmetries in order to increase power relative to the other state 86 They propose that states try to forge issue linkages by creating an asymmetric advantage in one area to overcome a disadvantage in another 87 Nye argues that “manipulating the asymmetries of interdependence is an important dimension of economic power If both states value the interdependent relationship the state that stands to lose the least possesses a source of power ”88 Nye asserts that a relationship of interdependence has developed today between the United States and China both vulnerable to the actions of the other “The asymmetries reveal a ‘balance of financial terror’ analogous to the Cold War military interdependence mutually assured destruction in which the United States and the Soviet Union each had the potential to destroy the other in a nuclear exchange but never did ”89 31 86 Robert O Keohane and Joseph S Nye Jr Power and Interdependence HarperCollins 1989 30– 87 Ibid 88 Joseph S Nye Jr The Future of Power New York Public Affairs 2011 55 89 Nye Jr The Future of Power 56–57 18 He argues that although some analysts believe that China’s impressive success in overcoming the financial crisis and its increased holdings of dollars have greatly increased its power over the United States China’s reliance on the United States’ economic well-being levels the playing field While China threatening to sell its dollars would cause a shift in the global balance of power and bring the United States to its knees it “might also bring itself to its ankles ”90 Neither the United States nor China is willing to break the symmetry of their interdependence yet both nations continue to shape the structure of their market relationship in an attempt to create asymmetrical advantages over the other Nye argues that this type of balance does not guarantee stability and it is likely that both nations will seek to reduce their vulnerabilities 91 This thesis employs the analytic concept of complex interdependence to show that China’s use of cyber-enabled economic espionage and cyber theft is used as a mechanism to overcome scientific and technological innovation and intellectual property deficits that threaten economic stagnation prevent long-term economic growth and ensure China’s dependence on the United States for sustained economic expansion E THESIS ORGANIZATION This research examines whether China is using cyberspace as a mechanism to create asymmetries in the economic interdependent relationship between the United States and China in order to shift the current balance of power This first chapter established the basic framework for further examination of U S -China economic interdependence China’s cyber behavior and the implications for future U S -China relations Chapter II examines the economic interdependence that has transpired between the United States and China over the last 30 years resulting in a somewhat symmetrical dependence that has enabled both nations to sustain long-term economic growth This chapter provides a historical look at the development of U S -Chinese economic interdependence followed by a section on how the current economic growth models of 90 Joseph S Nye Jr “American and Chinese Power after the Financial Crisis ” Washington Quarterly 33 no 4 October 2010 148 doi 10 1080 0163660X 2010 516634 91 Nye Jr The Future of Power 60 and Nye “American and Chinese Power after the Financial Crisis ” 148 19 each nation have resulted in a symmetrical dependence The chapter concludes by describing how China is attempting to implement an economic rebalancing that will ensure long-term economic growth while shifting the balance of power within U S Chinese economic interdependence Chapter III analyzes Chinese use of cyberspace to conduct economic espionage and IP theft in an effort to create an asymmetrical advantage over the United States This chapter provides case studies of Chinese cyber-enabled economic espionage that show the pervasiveness of China’s economic espionage and how cyberspace is being used to alter the balance of economic power between the United States and China Additionally this chapter will identify parallels between China’s cyber-enabled economic espionage its Twelfth FYP and its 2006 National Medium to Long-Term Plan for the Development of Science and Technology 2006–2020 MLP Taking into consideration the assessments made in Chapters II and III that China is using cyberspace as a mechanism to create asymmetries in their economic interdependent relationship Chapter IV examines how China’s cyber economic espionage could affect the economic relationship between the United States and China and what it may mean for the future of U S -China relations It is important to note that this thesis is purposely kept at the unclassified level utilizing only unclassified sources and material While the primary source material for this thesis is unclassified it is understood that there may be a number of classified sources that would add to this research topic The intent is for this thesis and the methodologies used within this thesis to be used as a future framework for additional research incorporating materials at higher levels of classification The source material for this thesis consists of U S government documents strategies and policy as well as cybersecurity sources with extensive knowledge and understanding of cyberspace such as Mandiant McAfee Northrup Grumman and the Rand Corporation Although most of the source material on China will consist primarily of U S -authored literature translated Chinese works such as Chinese Views of Future Warfare and The Art of War will be used whenever possible 20 II U S -CHINA ECONOMIC INTERDEPENDENCE Since opening up to foreign trade and investment and implementing free market reforms in 1979 China has been among the world’s fastest-growing economies with real annual GDP growth averaging nearly 10 percent through 2013 92 In recent years China has emerged as a major global economic and trade power It is currently the world’s second-largest economy largest trading economy second largest destination of foreign direct investment FDI largest manufacturer and largest holder of foreign exchange reserves 93 Although the economic relationship between the United States and China was mutually beneficial at the start with each nation drawing on the other’s strengths to expand economic growth the connection has its downsides as well The United States enabled by China’s surplus capital and low-cost production has pushed its consumption to the max while continuously spending its savings China supported by the perpetual U S demand for Chinese products has focused solely on its export-led growth causing significant economic imbalances and a “destabilizing surplus in its international current account balance ”94 As time goes on China and the United States need each other more than ever to sustain the economic growth each desires building a symbiotic relationship neither is comfortable maintaining Although both the United States and China continue to voice growing concerns over the interdependence that has developed over the previous two decades neither has been able to rebalance the economy enough to create an asymmetrical advantage over the other A THE ROAD TO INTERDEPENDENCE The second half of the 20th century was considered by many as the golden age of American capitalism Postwar economic expansion and consumer prosperity from the end 92 Morrison China’s Economic Rise 1 93 Morrison China’s Economic Rise Summary page 94 Stephen S Roach Unbalanced The Codependency of America and China New Haven and London Yale University Press 2014 3 21 of World War II to the early 1970s led to an increased middle-class upsurge in productivity and steady GDP growth Sara Burke and Claudio Puty assert “Spectacular conditions of profitability in the system during the Golden Age made it possible to redistribute gains from increased productivity back to workers in the form of real wage increases The result was increased middle-class demand which created a growing market for mass-produced goods that is now one of the fundamental features of modern industrialized societies ”95 Unable to maintain the post-war economic expansion economic growth began to slow in the late 1960s and by the early 1970s Americans faced soaring inflation collapse of the Bretton Woods system rising interest rates a stock market crash and an oil crisis 96 Additionally the post-World War II reconstruction of Japan and Germany and emergence of new centers of manufacturing in Asia in the 1960s led many American companies to shift manufacturing and production overseas Industrial cities such as Chicago and Detroit lost more than 50 percent of the manufacturing jobs that existed 30 years prior 97 Between 1960 and 1980 the number of manufacturing workers decreased by 10 percent and by 1975 unemployment rose to 9 percent—levels not seen since the Great Depression see additional information below 98 Despite weakening income growth increasing trade deficits and mounting national debt the United States had solidified itself as a consumption-based economy by the 1980s U S monetary and fiscal policies encouraged consumer spending by identifying new ways to increase purchasing power allowing Americans to live beyond 95 Sara Burke and Claudio Puty “The Post-World War II Golden Age of Capitalism and the Crisis of the 1970s ” Gloves Off accessed July 23 2014 http www glovesoff org features gjamerica_1 html 96 E Philip Davis “Comparing Bear Markets - 1973 and 2000 ” National Institute Economic Review 183 no 78 January 2003 78–79 http ner sagepub com content 183 1 78 full pdf html and Floyd Norris “1974 Redux Why Bear Market May Be Over ” New York Times online October 4 2002 http www nytimes com 2002 10 04 business 1974-redux-why-bear-market-may-be-over html 97 Eric Foner Give Me Liberty An American History 3rd ed New York W W Norton Company 2011 1094–1095 1096 and U S Department of Labor Bureau of Labor and Statistics “Labor Force Statistics from the Current Population Survey ” data extracted July 23 2014 http data bls gov timeseries LNS14000000 While Public Law 95–523 95th Congress H R 50 Full Employment and Balanced Growth Act Humphrey-Hawkins Act states that unemployment rates should be no more than 3% for persons aged 20 or over and not more than 4% for persons aged 16 or over a NonAccelerating Inflation Rate of Unemployment NAIRU or “full employment” rate between 4 percent and 5 5 percent has been deemed acceptable 98 Foner Give Me Liberty An American History 1095 22 their means Personal consumption rose to a record 69 percent of GDP in 2011 from 64 percent in 1990 the highest of any nation see Figure 1 99 Figure 1 U S Personal Consumption as percent of GDP 1960–2011100 Increased spending combined with weak labor income growth resulted in a personal savings rate in 2005 that mirrored the post-World War II low of 2 3 percent 7 percent below the norm 101 By 2008 household sector indebtedness swelled to 132 percent of disposable personal income resulting in a “savings-short U S economy ”102 Financial experts contend that the insatiable spending habits of Americans caused U S personal savings rates to dip below 50-year averages between 1993 and 2009 103 Following deregulation in the late 1970s and 1980s credit became increasingly easier to 99 Roach Unbalanced 8–10 100 Federal Reserve Bank of St Louis “Graph Personal Consumption Expenditures Gross Domestic Product ” Federal Reserve Bank of St Louis website accessed July 22 2014 http research stlouisfed org fred2 graph g hh3 101 Roach Unbalanced 9 102 Roach Unbalanced 9 103 Federal Reserve Bank of St Louis “Graph Personal Consumption Expenditures Gross Domestic Product ” 23 obtain Households financed large purchases instead of saving for them often spending more than their real wage earnings The lack of personal savings and decrease in personal net worth was a major contributor to financial market instability leading up to and exacerbating the financial crisis that started in 2008 see Figure 2 104 Figure 2 U S Personal Savings Rate 1959–2009 percent 105 Seeking ways to increase growth with stagnant labor income generation the United States “aggressively borrowed surplus savings from abroad running massive current account and foreign trade deficits ”106 In 2011 the United States accounted for 17 percent of global consumer demand spending $10 7 trillion on personal consumption 104 Patrick J Catania “Lack of Personal Savings The Weakest Link ” Baxter Credit Union website accessed July 22 2014 https www cdwcu com FRCPersonalSavingsarticle aspx and Catherine Rampell “Savings Rates Rising Toward Mediocrity ” Economix blog New York Times June 26 2009 http economix blogs nytimes com 2009 06 26 savings-rates-rising-towardmediocrity _php true _type blogs _r 0 105 Catania “Lack of Personal Savings ” 106 Roach Unbalanced 9–10 24 The United States accounts for only 4 5 percent of the world’s population but U S consumption is 35 percent larger than pan-European consumption and four times Chinese and Indian combined consumption 107 With U S consumers businesses and government spending well beyond U S export income and an inability to draw on domestic savings the United States turned to savings from abroad to fund excess spending The United States has run a balance of payments deficit almost every year since 1982 with a deficit in 2013 of $379 billion—approximately $295 billion more than the world’s secondlargest deficit held by the United Kingdom 108 The tremendous disparity between the United States and other top current account balance holders appears in Figure 3 Figure 3 Balance of Payment Statistics US $ millions 2010–2013109 107 Roach Unbalanced 10 108 International Monetary Fund “World Economic Outlook Database Current Account Balance Statistics ” April 2014 http www imf org external pubs ft weo 2014 01 weodata index aspx The secondlargest current account balance deficit was the United Kingdom at -$84 624 109 IMF eData Library “Balance of Payment Statistics ” International Monetary Fund http elibrarydata imf org FindDataReports aspx d 33061 e 170784 Statistics and chart were downloaded and reformatted to reduce query size and make the data readable Actual data has not been altered 25 Economist and Yale lecturer Stephen Roach argues that “an economy as large as America’s with an outsize savings shortfall must run trade deficits with many countries in order to secure the incremental funding it needs to maintain economic growth ”110 In essence lack of savings and excess spending by the United States resulting in substantial trade and current account deficits and reliance on foreign investment has ultimately led to the development of an economic interdependent relationship with China The history of China’s economic growth is vastly different After the establishment of the People’s Republic of China in 1949 Chairman Mao Zedong adopted a Soviet economic model that incorporated a series of five-year economic plans aimed at Chinese socialist industrialization based on the self-sufficiency of Chinese producers and consumers see additional information below 111 Unfortunately the 1950s through the 1970s in China were fraught with major economic recessions as a result of unrealistic development ambitions and political upheaval during the first four five-year economic plans The First and Second FYPs resulted in a drop in national income from 21 3 percent in 1952 to 8 3 percent in 1957 112 The Great Leap Forward implemented by Chairman Mao from 1958 to 1960 during the Second FYP was an economic campaign designed to transform China from an agrarian economy into an industrialized communist society that resulted in mass famine and took the lives of approximately 40 million people 113 China’s Third and Fourth FYPs fared just as poorly because of the political chaos that arose during the Cultural Revolution from 1966 to 1976 Although China’s economic policies and basic economic model remained the same during this period the political and social 110 Roach Unbalanced 129 111 Thomas R Gottschang “A Country Study China ” Library of Congress Library of Congress Call Number DS706 C489 1988 Chapter 5 http lcweb2 loc gov frd cs cntoc html#cn0149 Under Communist Party of China CPC leadership Chairman Mao Zedong adopted the Soviet economic model of rapid industrial growth and socialization China’s economic development plans were manifested in a series of Five-Year Plans FYPs aimed at achieving high rates of economic growth through industrial development China’s five-year economic plans continue to be a detailed outline for the country’s economic goals for a given five-year period aligning China’s economy with government policy goals The FYPs are broken down as follows First FYP 1953–1957 Second FYP 1958–1962 Third FYP 1966–1970 Fourth FYP 1971–1975 Fifth FYP 1976–1980 Sixth FYP 1981–1985 Seventh FYP 1986–1990 Eighth FYP 1991–1995 Ninth FYP 1996–2000 Tenth FYP 2001–2005 Eleventh FYP 2006–2010 Twelfth FYP 2011–2015 112 Roach Unbalanced 12–13 113 Roach Unbalanced 12–13 and Morrison China’s Economic Rise 3 26 instability that ensued had negative long-term effects on the economy Production halts extensive disruption of transportation to support the Red Guards curtailment of foreign equipment imports required for technological advancement and a critical shortage of highly educated personnel due to the closing of universities and demotion or imprisonment of technical experts led to a 14 percent decrease in industrial production by 1967 114 While the FYP framework has been a mainstay of Chinese economic policy Deng Xiaoping led China from a Soviet-style economy to a socialist market economy in the 1980s in an effort to develop growth by opening the nation to the forces of market competition From 1979 to 2007 China’s “opening up” led to a rise in exports and largescale fixed investment from 31 percent to 75 percent of the GDP surging China’s real GDP an average of 10 percent annually between 1979 and 2013 see Figure 4 115 Figure 4 Chinese Real GDP Growth 1979–2013 percent 116 114 Gottschang “A Country Study China ” Chapter 5 115 Morrison China’s Economic Rise 4 116 Ibid 27 Exports alone increased from 5 percent of GDP to 36 percent from 1979 to 2007 while internal consumption dropped from 50 percent to 35 percent during the same period The steep drop in consumption and diminishing import demand was driven largely by economic policies that encouraged high savings rates and favored exportoriented industries 117 Because China lacked the ability to generate growth internally it became heavily dependent on production and exports to sustain its phenomenal economic growth 118 Although China has pushed to modernize its economy through major economic reforms in the Eleventh and Twelfth FYPs a continued overdependence on exports and fixed investment and sharp decline in private consumption was evident through 2013 see Figure 5 Figure 5 Chinese Gross Savings Gross Fixed Investment and Private Consumption as a Percent of GDP 1990–2013 percent 119 117 Roach Unbalanced 12–13 and Morrison China’s Economic Rise 3 118 Roach Unbalanced 14 15 21 119 Morrison China’s Economic Rise 28 28 “Just as the world has never seen a consumer like the American consumer it has never seen a producer like China ” posits Roach 120 He argues that a marriage of convenience has occurred with the ever-increasing consumer demand of the United States and a never-ending supply of goods and surplus savings offered by China 121 While neither nation intended to develop the interdependence that has occurred between both economies disestablishing the relationship would require long-term economic restructuring for both nations 122 B ALMOST PERFECT SYMMETRY China’s unprecedented economic growth and performance over the last three decades has increased the importance of its role in the world economy and transformed it into a global economic power but China’s growth remains dependent on U S economic strength and health Likewise U S reliance on Chinese foreign investments to fund budget deficits is equally dependent on China’s economic well-being Though Nye argues that perfect symmetry in an interdependent relationship is quite rare because “most cases of economic interdependence also involve a potential power relationship ” the United States and China appear to have unintentionally achieved a nearly equivalent economic dependence such that neither nation has accrued a particular power advantage over the other 123 With economic strength as a dominant source of state power the current economic interdependent relationship between the United States and China has been fraught with tension yet sustained to ensure continued economic growth Most economists agree that China’s economy will continue to grow over the next 15–20 years however there is little consensus on the rate of China’s growth or when it will rival the United States as the world’s largest economy 124 Estimating the actual size 120 Roach Unbalanced 16 121 Ibid 21 122 This is an argument also made by Stephen Roach in Unbalanced and “China’s 12th Five-Year Plan Strategy vs Tactics ” Morgan Stanley April 2011 http www law yale edu documents pdf cbl China_12th_Five_Year_Plan pdf 123 Nye The Future of Power 55 124 “China 2030 Building a Modern Harmonious and Creative Society ” 3 Morrison China’s Economic Rise 6 Dadush “Key Trends in the World Economy ” 26 29 of China’s economy is a major debate among economists and is dependent on how GDP and GDP per capita are measured For instance in 2013 China’s nominal GDP was $9 4 trillion 56 percent the size of the of the U S nominal GDP of $16 8 trillion 125 However because the PPP basis increases the estimated measurement of China’s economy when looking at China’s GDP for 2013 on a PPP basis China’s GDP increases to $13 6 trillion making it 81 percent the size of the U S economy and significantly closer to reaching parity with the U S economy see Table 1 and additional information on PPP below 126 Despite the significant jump in GDP from nominal to PPP per capita GDP paints a much starker picture for China when comparing economies Even with a per capita increase from $6 960 to $10 060 China was still only 19 percent of the U S level and relatively poor in per capita terms see Table 1 127 Table 1 Chinese Japanese and U S GDP and Per Capita GDP in Nominal U S Dollars and a Purchasing Power Parity Basis 2013128 125 Morrison China’s Economic Rise 6 126 Wayne M Morrison and Marc Labonte China’s Holdings of U S Securities Implications for the U S Economy CRS Report No RL34314 Washington DC Congressional Research Service 2013 7 http fas org sgp crs row RL34314 pdf There are two ways to measure GDP per capita nominal and PPP Nominal is a fixed standard that remains the same from country to country reflecting the prices of foreign currency to the U S dollar and excluding differences in the prices for goods and services between countries For example $1 exchanged for 1 yuan RMB would buy more in China than it would in the United States because prices for goods and services in China are relatively cheaper than in the United States PPP is an attempt at estimating exchange rates based on actual purchasing power taking factors of each country into consideration in order to put a number on a person’s standard of living within that country According to Joe Kern http applebutterdreams wordpress com the-difference-between-gdpnominal-and-gdp-ppp “PPP is how much of a local good a person can buy in their country and nominal is roughly how much of an internationally traded good a person can buy in their country ” 127 Morrison China’s Economic Rise 7 128 Ibid 7 30 Although some analysts project that China may overtake the United States as the world’s largest economy on a PPP basis as early as 2015 it will take years for its living standards to catch up to the United States see additional information below 129 China’s PPP position may be used to improve its global economic stature and decision-making power within financial organizations like the IMF but “China can’t buy missiles and ships and iPhones and German cars in PPP currency ” contends Tom Wright 130 Even as the second-largest world economy on a PPP basis China ranked 99th on a per capita basis and contributed half as much as the United States to the world GDP in 2011 see Table 2 With China’s real GDP growth projected to slow significantly and U S real GDP growth projected to maintain its current trajectory it would be approximately 2030 before China truly challenges the United States as the world’s largest economic power see Figure 6 129 Tom Wright China’s Economy Surpassing the U S Well Yes and No ” Real Time Economics blog The Wall Street Journal April 30 2014 http blogs wsj com economics 2014 04 30 chinaseconomy-surpassing-u-s-well-yes-and-no In April 2014 the International Comparison Program under the World Bank introduced new calculations on the size on economies using a PPP basis Based on the new calculations China could overtake the United States in GDP on a PPP basis by late 2014 early 2015 The current GDP on a PPP basis for the United States is $16 8 trillion while China is now at $16 2 However on a per capita basis China still trails the U S by 78 percent 130 Ibid 31 Table 2 Figure 6 Twelve Largest Economies by Share of World GDP 2011131 Projections of U S and Chinese Real GDP Growth Rates 2014–2030132 131 International Comparison Program “Purchasing Power Parities and Real Expenditures of World Economies Summary of Results and Findings of the 2011 International Comparison Program ” The World Bank 2014 81 http siteresources worldbank org ICPINT Resources 270056-1183395201801 Summaryof-Results-and-Findings-of-the-2011-International-Comparison-Program pdf The country ranked number 11 was blank in the original report and no further details were provided explaining which country may be filling that position 132 Morrison China’s Economic Rise 6 32 While bilateral tensions continue to grow over the current economic relationship each equally encourages unsustainable monetary and fiscal policies In the United States despite an increase in personal savings rates since 2007 significant government budget deficits have slowed any real growth in U S savings With the U S net national savings rate of only 1 4 percent of gross national income in the first quarter of 2014 the U S economy remains dependent on foreign capital inflows from China to fund the federal budget deficit meet domestic investment needs and keep U S real interest rates low 133 Equally reliant on foreign capital China’s sizeable current account surpluses and an exchange rate policy that limits appreciation of Chinese currency—renminbi RMB — has led China to accumulate $3 5 trillion in foreign exchange reserves 70 percent of which are estimated to be dollar holdings 134 By 2013 the United States was the world’s largest importer of foreign capital and China was the second largest exporter of foreign capital see Figure 7 135 133 Morrison and Labonte China’s Holdings of U S Securities summary page and U S Department of Commerce Bureau of Economic Analysis “National Income and Product Accounts Tables 2010–2014 ” last revised June 25 2014 Section 5 – Savings and Investment http www bea gov iTable iTable cfm ReqID 9 step 1#reqid 9 step 3 isuri 1 904 2010 903 137 906 q 905 2014 910 x 911 0 134 Morrison and Labonte China’s Holdings of U S Securities 1 135 International Monetary Fund “Global Financial Stability Report Moving from Liquidity- To Growth-Driven Markets ” April 2014 Statistical Appendix http www imf org external pubs FT GFSR 2014 01 index htm 33 Figure 7 Major Net Exporters and Importers of Foreign Capital in 2013136 136 “Global Financial Stability Report Moving from Liquidity- To Growth-Driven Markets ” 34 Decades of budget deficits and savings shortfalls in the United States have led private holdings of U S public debt to soar to $12 3 trillion in 2013 with 47 percent $5 8 trillion held by foreign private investors see Table 3 137 Of that 47 percent China held 21 9 percent of all foreign holdings in U S federal debt totaling $1 3 trillion by the end of 2013 see Table 4 138 Table 3 Estimated Ownership of U S Treasury Securities $ Billions 139 137 Marc Labonte and Jared C Nagel Foreign Holdings of Federal Debt CRS Report No RS22331 Washington DC Congressional Research Service 2014 1 http fas org sgp crs misc RS22331 pdf 138 Labonte and Nagel Foreign Holdings of Federal Debt 2 According to Morrison and Labonte in China’s Holdings of U S Securities The People’s Bank of China as the largest holder of U S public debt 139 Ibid 1 35 Table 4 The Top 10 Foreign Holders of Federal Debt by Country 2009 and 2013140 According to Wayne Morrison and Marc Labonte “rather than hold dollars and other foreign currencies which earn no interest the Chinese central government has converted some level of its foreign exchange reserve holdings into U S financial securities including U S Treasury securities U S agency debt U S corporate debt and U S equities ”141 With U S Treasury securities as the main mechanism for the U S government to finance the federal debt and the largest category of U S securities foreign holdings of U S Treasury securities grew to $5 6 trillion by June 2013 China alone held $1 3 trillion of that $5 6 trillion in U S Treasury securities see Table 5 This substantial amount accounts for 22 8 percent of total foreign holdings of U S Treasury securities see Table 6 142 140 Ibid 2 141 Morrison and Labonte China’s Holdings of U S Securities 1 142 Ibid 8 36 Table 5 China’s Year-End Holdings of U S Treasury Securities 2003– 2012 and as of May 2013143 $ Billions and as a Percentage of Total Foreign Holdings Table 6 Top 5 Foreign Holders of U S Treasury Securities as of June 2013144 Although a number of U S policymakers have raised concerns over the U S dependency on China to help fund the U S budget deficit through purchase of U S securities the ability to borrow from China keeps U S interest rates low increases private investment and prevents GDP stagnation In 2010 and 2011 the U S Congress attempted to enact trade sanctions against China to counter its alleged currency manipulation failing to understand that the steep tariffs placed on goods from China 143 Ibid 9 144 Ibid 10 37 could backfire on the United States by raising the costs of U S imports rapidly depreciating the dollar’s value and causing interest rates to soar 145 Simply put by Labonte and Nagel “foreign purchases of Treasury securities reduce the federal government’s borrowing costs and reduce the costs the deficit imposes on the broader economy ”146 The problem for the United States is not foreign holdings of U S debt but rather massive and sustained deficits According to Derek Scissors the longer the United States maintains enormous budget deficits “the more likely it is that U S treasuries will become relatively less attractive thereby tipping the balance of influence toward China ”147 China has also voiced concerns over the growing economic interdependence and the safety of its large accumulation of U S debt 148 Morrison and Labonte write “Chinese officials have criticized U S fiscal and monetary policies such as quantitative easing by the U S Federal Reserve arguing that they could lead to higher U S inflation and or a significant weakening of the dollar which could reduce the value of China’s U S debt holdings in the future ”149 Despite China’s apprehensions U S securities continue to be its investment of choice for a number of reasons U S securities are considered to be safe and liquid compared to other types of investments interest and principal payments are guaranteed and backed by the full faith and credit of the U S government and “in order to maintain the exchange rate effects that lay behind the acquisition of U S dollars those dollars must be invested in dollar-denominated securities ”150 145 Roach Unbalanced x xi and Morrison and Labonte China’s Holdings of U S Securities 14 146 Labonte and Nagel Foreign Holdings of Federal Debt 4 147 China’s Role in the Origins of and Responses to the Global Recession Testimony before the U S China Economic and Security Review Commission 2009 statement of Derek Scissors Research Fellow for Asia Economic Policy The Heritage Foundation http www heritage org research testimony testimony-before-the-us-china-economic-and-security-reviewcommission-on-chinas-role-in-the-origins-of-and-responses-to-the-global-recession 148 Morrison and Labonte China’s Holdings of U S Securities 10 149 Ibid summary page 150 Ibid 5 38 Above all the massive accrual of foreign reserve holdings is likely the biggest driver in Chinese investment in U S securities As the world’s largest economy and biggest capital market the United States is the only global market large enough to accommodate China’s substantial foreign holdings The financial crisis in Europe and economic issues in Japan have left China with few options to invest its sizeable foreign reserves 151 In his hearing before the U S -China Economic and Security Review Commission Research Fellow for Asia Economic Policy at The Heritage Foundation Derek Scissors testified that “Chinese investment is largely involuntary a function of having a great deal of money and no place else to put it Who needs the other more varies with American and international financial conditions The more money the U S borrows the more the American economy needs the PRC The more desirable Treasury bonds are the more China needs us ”152 The ultimate goal in any interdependent relationship between states is to create asymmetries in order to become the less dependent and increase power relative to another state Less dependence can mean more power Clearly articulating the dangers to the United States of a Chinese economic rebalancing Stephen Roach writes Therein lies what could be a critical source of global tension – an asymmetrical global rebalancing scenario China the world’s largest surplus saver could well rebalance before the United States the world’s largest deficit saver Such an outcome could prove quite problematic for the U S economy and for world financial markets 153 C CHINA TIPPING THE SCALES In March 2007 Premier Wen Jiaboao publicly stated that China’s economy had become unstable unbalanced uncoordinated and unsustainable 154 China has recognized the need for major economic structural rebalancing Economic reforms in China are not 151 Morrison and Labonte China’s Holdings of U S Securities 5 14 and Labonte and Nagel Foreign Holdings of Federal Debt 4 152 China’s Role in the Origins of and Responses to the Global Recession 153 Stephen S Roach “China’s 12th Five-Year Plan Strategy vs Tactics ” Morgan Stanley April 2011 8 http www law yale edu documents pdf cbl China_12th_Five_Year_Plan pdf 154 Stephen S Roach The Next Asia Opportunities and Challenges for a New Globalization Hoboken NJ John Wiley Sons Inc 2009 229 39 only required to lessen dependence on the United States but to fix substantial underlying structural problems that threaten to hamper its long-term growth The question is now more about how China will go about such a significant economic transformation Acknowledging the need for major economic restructuring to sustain economic growth China’s last two FYPs Eleventh FYP from 2006 to 2010 and Twelfth FYP from 2011 to 2015 shifted economic emphasis from an export and investment-led economy to a consumer-led economy placing heavy emphasis on indigenous innovation 155 Thus far China’s real GDP growth has been dependent on fixed investment and exports but as China’s technological development reaches the levels of major developed nations it must implement widespread economic reforms and become a major center for new technology and innovation to prevent economic stagnation 156 In 2013 Chinese President Xi Jinping re-emphasized the need for increased indigenous innovation to strengthen economic development by stating “Implementing a strategy of innovation-driven development will be fundamental in accelerating the transformation of China’s growth pattern solving deep-rooted problems concerning economic development and enhancing economic vitality ”157 Deeming science and technology crucial to economic development and international competitiveness China adopted a policy of indigenous innovation zizhu chuangxin in 2006 defining indigenous innovation as “enhancing original innovation through co-innovation and re-innovation based on the assimilation of imported technologies ”158 Consequently the 2006 National Medium to Long-Term Plan for the Development of Science and Technology 2006–2020 MLP was developed in an effort 155 Joseph Casey and Katherine Koleski Backgrounder China’s 12th Five-Year Plan Washington DC U S -China Economic and Security Review Commission 2011 1 3 8 http www uscc gov Research backgrounder-china%E2%80%99s-12th-five-year-plan 156 Morrison China’s Economic Rise 5 157 “Xi Urges Innovation-Driven Growth ” Xinhua March 4 2013 http news xinhuanet com english china 2013-03 04 c_132207617 htm 158 James McGregor “Drive for ‘Indigenous Innovation’ A Web of Industrial Policies ” APCO Worldwide July 2010 4 https www uschamber com sites default files legacy reports 100728chinareport_0 pdf 40 to shift from its current growth model to a more sustainable model by making scientific modernization and indigenous innovation the drivers of future economic growth 159 Micah Springut Stephen Schlaikjer and David Chen argue however that indigenous innovation means something vastly different in China than it does in the United States For China indigenous innovation is not necessarily technological selfsufficiency or the creation of new ideas but rather extracting desired technology and adapting it for the needs of the nation 160 The MLP clearly identifies foreign technology as a key component to the development of Chinese IP and technological innovation 161 “As a result the plan is considered by many international technology companies to be a blueprint for technology theft on a scale the world has never seen before ” writes James McGregor 162 Despite China’s push for a significant reduction in foreign technology dependence Chinese policies that inhibit research creativity favor particular government industries and neglect protection of IP rights prevent Chinese indigenous innovation from reaching its full potential and have led to technological gaps that can only be filled by foreign research and technology As China’s dependence on foreign technology has grown so have its conflicts with the United States over IP rights and technology transfer standards Unfair trade practices policies that support and protect particular government favored Chinese industries widespread infringement of U S intellectual property rights and trade and investment barriers that limit opportunities for U S in China have done little to quell U S concerns 163 159 Micah Springut Stephen Schlaikjer and David Chen China’s Program for Science and Technology Modernization Implications for American Competitiveness Prepared for The U S -China Economic and Security Review Commission Arlington VA CENTRA Technology Inc 2011 6 11 http origin www uscc gov sites default files Research USCC_REPORT_China%27s_Program_forScience _and_Technology_Modernization pdf The 2006 National Medium to Long-term Plan for the Development of Science and Technology 2005-2020 is also commonly referred to as the MLP and 15-Year Science and Technology Plan 160 Ibid 7 161 McGregor “Drive for ‘Indigenous Innovation ’” 4 162 Ibid 4 163 Morrison China-U S Trade Issues 1 41 William Hannas James Mulvenon and Anna Puglisi argue that “China’s quest for foreign technology goes well beyond the modest efforts to supplement indigenous research that most countries pursue as common practice Rather it is part of a deliberate state-sponsored project to circumvent the costs of research overcome cultural disadvantages and ‘leapfrog’ to the forefront by leveraging the creativity of other nations ”164 Given the economic interdependence between the United States and China and the fact that the United States is one of the biggest leaders in technology and innovation it makes sense that China would seek to fill important capability gaps through espionage and theft of U S IP Roach argues that although China and the United States have become increasingly more reliant on each other for economic growth “there are no guarantees that both nations are equally afflicted ” resulting in the development of an “asymmetrical coping mechanism ”165 The following chapter investigates how because U S innovation and IP is a critical source of U S economic growth and global competitiveness China has chosen cyber-enabled illicit acquisition of U S technology and intellectual property as its asymmetrical coping mechanism to shift the balance of power within U S -China economic interdependence 164 William C Hannas James Mulvenon and Anna B Puglisi Chinese Industrial Espionage Technology acquisition and military modernization New York Routledge 2013 78 165 Roach Unbalanced ix 42 III CHINESE CYBER-ENABLED ECONOMIC ESPIONAGE Although concerns about cyberspace and cyber security have leapt to the forefront of U S -China relations China’s cyber behavior cannot be dissociated from its political and economic relations “China poses an especially difficult problem to the United States given the size and importance of its economy and the interdependence of the Chinese economy with those of the United States Europe and Japan ” argues the IP Commission 166 As the interdependence between U S and China expands U S markets it also provides Chinese government agencies and Chinese businesses greater opportunities to collect sensitive U S economic information while leapfrogging the Research and Development R D phase 167 Hannas Mulvenon and Puglisi emphasize how important timing has been for China reasoning that China is “emerging as a global economic power at a time when nearly every secret worth stealing sits on a computer server ”168 With the global rise of the Internet the United States has witnessed massive intrusion and data exfiltration campaigns against U S public and private industries by the Chinese government and Chinese government-owned enterprises According to McAfee “Numerous sources of intellectual property exist inside today’s global companies…to say these intellectual property sources represent the heart and core value of companies worldwide is an understatement When these intellectual property sources get compromised capitalism and commerce are compromised on a global scale ”169 166 The Commission on the Theft of American Intellectual Property The IP Commission Report Washington DC The National Bureau of Asian Research 2013 21 http www ipcommission org report IP_Commission_Report_052213 pdf 167 Office of the National Counterintelligence Executive Foreign Spies Stealing U S Economic Secrets in Cyberspace Report to Congress on Foreign Economic Collection and Industrial Espionage 2009–2011 Washington DC Office of the Director of National Intelligence 2011 8 http www ncix gov publications reports fecie_all 168 Hannas Mulvenon and Puglisi Chinese Industrial Espionage 78 169 McAfee “Protecting Your Critical Assets Lessons Learned from ‘Operation Aurora ’” McAfee Labs and McAfee Foundstone Professional Services January 2010 4 http www wired com images_blogs threatlevel 2010 03 operationaurora_wp_0310_fnl pdf 43 Economic espionage not only affects revenue and income but undermines corporate innovation having devastating effects on the national and global economy “In a world where the highest-value assets are intangible and easy to transfer over networks espionage has taken on a new dimension ” argues the IP Commission 170 China has swiftly adapted to this new environment by shifting its traditional intelligence collection operations to cyber collection operations “Given the choice between traditional espionage and cyber espionage it is only natural that intelligence services would increasingly pick the less risky cheaper and faster way of doing business ” state Hannas Mulvenon and Puglisi 171 China has taken economic espionage to a new level through cyberspace stealing sensitive U S economic data at an unprecedented rate and with significant costs to the U S economy A COSTS TO THE U S ECONOMY Many analysts believe that trade secrets proprietary information copyrights patents and trademarks all considered IP represent the U S advantage in the global economy Theft of IP by foreign economic competitors jeopardizes this advantage by inhibiting the business sector’s “ability to create jobs generate revenues foster innovation and lay the economic foundation for prosperity and national security ”172 The IP Commission Report assesses the damage to the U S economy to be approximately $300 billion a year with 50 percent to 80 percent of international IP theft originating in China see additional information below 173 Yet the cost of cyber-enabled economic espionage includes more than the stolen property itself James Lewis argues that “there are opportunity costs damage to brand 170 The Commission on the Theft of American Intellectual Property The IP Commission Report 43 171 William C Hannas James Mulvenon and Anna B Puglisi Chinese Industrial Espionage Technology acquisition and military modernization New York Routledge 2013 218 172 Administration Strategy on Mitigating the Theft of U S Trade Secrets Washington DC The White House 2013 1 3 http www whitehouse gov sites default files omb IPEC admin_strategy_on_mitigating_the_theft_of_u s _ trade_secrets pdf 173 The Commission on the Theft of American Intellectual Property The IP Commission Report 2 According to the U S -China Economic and Security Review Commission in its 2013 Annual Report to Congress although the economic impact of cyber espionage to the United States is significant precise economic costs are difficult to calculate because of the intangible nature of the assets themselves 44 and reputation consumer losses from fraud the opportunity costs of service disruptions ‘cleaning up’ after cyber incidents and the cost of increased spending on cyber security ”174 Moreover IP theft slows the development of new inventions and new industries by undermining the means and the incentive for entrepreneurs to innovate causing stagnation of innovation and inhibiting expansion of the world economy 175 To put the intellectual property loss into perspective the U S Department of Commerce identified 75 of 313 U S industries as IP-intensive that directly accounted for 27 1 million U S jobs and 18 8 percent of all employment in the 2010 economy These IP-intensive industries also accounted for 34 8 percent of U S GDP while indirectly supporting 12 9 million additional supply-chain jobs throughout the economy All in all the most IP-intensive industries either directly or indirectly accounted for 27 7 percent of all jobs 40 million jobs in the United States and 60 7 percent of total U S merchandise exports $775 billion in 2010 176 China however has threatened U S technological competitiveness and economic prosperity for more than a decade through the use of cyberspace In a hearing before the House Committee on Foreign Affairs Lewis stated the United States has always been upfront with China that “espionage is a two-way street something that all great powers do and that espionage against military and political targets is legitimate” but that the United States “objects to economic espionage” and “rampant commercial cyber espionage ”177 The U S International Trade Commission estimates Chinese theft of U S intellectual property in the form of lost sales royalties and license fees to be $48 2 billion in 2009 alone with another $4 8 billion spent by firms to address Chinese 174 James Lewis and Stewart Baker The Economic Impact of Cybercrime and Cyber Espionage Washington DC Center for Strategic and International Studies 2013 5 6 http www mcafee com us resources reports rp-economic-impact-cybercrime pdf 175 The Commission on the Theft of American Intellectual Property The IP Commission Report 10 176 Economics and Statistics Administration and U S Patent and Trademark Office Intellectual Property and the U S Economy Industries in Focus Washington DC U S Department of Commerce 2012 vi-viii http www uspto gov news publications IP_Report_March_2012 pdf 177 Asia The Cybersecurity Battleground Hearings Before House Committee on Foreign Affairs Subcommittee on Asia and the Pacific House Committee on Foreign Affairs 113th Cong 1 2013 statement of James A Lewis Director and Senior Fellow Technology and Public Policy Program Center for Strategic International Studies https foreignaffairs house gov hearing subcommittee-hearing-asiacyber-security-battleground 45 infringement 178 Because “the entire U S economy relies on some form of IP ” with every industry using or producing it the theft of IP by China directly affects U S strength in the global economy 179 B SEIZING THE ADVANTAGE With cyber espionage forming such a significant portion of Chinese economic growth Chinese leadership likely will be unwilling to put this at risk “There will be a domestic political price for Beijing to bring cyber espionage under control and little incentive for the party’s leadership to pay this price absent external pressure and a changed view of what best serves China’s own interests ” asserts Lewis 180 Lewis continues “China uses cyber techniques to redress what it sees as an imbalance of power using cyber espionage to compensate for its technological lag and weak national innovation capability ”181 While economic espionage is a problem in many developing nations it is especially prevalent in China where its future as a regional hegemon rests on continued economic growth and prosperity Despite U S condemnation the number of cyber-espionage and cyber-theft intrusions attributed to private Chinese companies Chinese state-owned enterprises and the Chinese government continues to grow The following cases of Chinese cyberenabled economic espionage clearly show the pervasiveness of China’s economic espionage and how cyberspace is being used to alter the balance of economic power between the United States and China Night Dragon Beginning in late 2009 China conducted coordinated covert cyber attacks against the global energy sector specifically sensitive competitive proprietary operations and project-financing information on global oil energy and petrochemical 178 China Effects of Intellectual Property Infringement and Indigenous Innovation Policies on the U S Economy USITC Publication No 4226 Washington DC U S International Trade Commission 2011 xiv xv http www usitc gov publications 332 pub4226 pdf 179 Economics and Statistics Administration and U S Patent and Trademark Office Intellectual Property and the U S Economy vi 180 Asia The Cybersecurity Battleground 181 Ibid 46 companies 182 Using servers in the United States and the Netherlands files focusing on operational oil and gas field production systems and financial documents related to field exploration and bidding were copied and downloaded from oil energy and petrochemical companies as well as executives in Kazakhstan Taiwan Greece and the United States for at least two years 183 Based on the operations originating from several locations within China and the use of cyber tools and techniques developed in China McAfee publicly attributed these attacks named Night Dragon to China in 2011 184 APT1 In one of the most important unclassified documents released on cyber attacks against the United States the Mandiant Intelligence Report attributed 141 cyber intrusion victims to the 2nd Bureau of the People’s Liberation Army PLA also known by its cover name of Unit 61398 bridging the gap between one of the most persistent Chinese cyber actors and the Chinese government 185 Since 2006 APT1 has stolen hundreds of terabytes of data including technology blueprints proprietary manufacturing processes minutes from meetings involving high-ranking personnel test results business plans pricing documents partnership agreements and emails of high-ranking employees from 20 major industries 186 The Mandiant report claims the reason the economic espionage was so persistent extensive and successful was because it received direct support from the Chinese government The report states “APT1 has demonstrated the capability and intent to steal from dozens of organizations across a wide range of industries virtually simultaneously…The scope of APT1’s parallel activities implies that the group has significant personnel and technical resources at its disposal ”187 Although Mandiant has witnessed the exfiltration of massive volumes of valuable intellectual property from 182 McAfee “Global Energy Cyberattacks ‘Night Dragon ’” McAfee Foundstone Professional Services and McAfee Labs February 10 2011 4 7 http www mcafee com us resources whitepapers wp-global-energy-cyberattacks-night-dragon pdf 183 Ibid 184 Ibid 3 7 185 APT1 2–3 186 Ibid 187 Ibid 22 47 APT1 they believe this is only a small portion of the cyber espionage that APT1 has executed since its inception 188 Operation Shady Rat In 2011 McAfee published the results of a five-year targeted cyber operation that hit at least 71 global organizations including U S federal county and state governments defense contractors Fortune 100 companies the United Nations and the International Olympic Committee Of the 71 victims 49 were U S companies government agencies defense contractors and non-profit organizations The most heavily targeted victims were U S government entities 15 total and U S defense contractors 12 total While McAfee does not directly attribute the attacks to a specific actor one only has to read the facts in the report to understand that a direct finger was being pointed at China 189 McAfee emphasizes the importance of these intrusions stating What we have witnessed over the past five to six years has been nothing short of a historically unprecedented transfer of wealth—closely guarded national secrets including those from classified government networks source code bug databases email archives negotiation plans and exploration details for new oil and gas field auctions document stores legal contracts supervisory control and data acquisition SCADA configurations design schematics and much more has “fallen off the truck” of numerous mostly Western companies and disappeared in the ever-growing electronic archives of dogged adversaries 190 Operation Aurora Operation Aurora also referred to as the Google hacking attack that occurred in January 2010 targeted at least 34 companies in the technology financial and defense sectors to gain access to and potentially modify source code repositories that Dmitri Alperovitch states are “the crown jewels of most of these companies” and “much more valuable than any financial or personally identifiable 188 Ibid 2–4 20 Of the 141 victims 115 were in the United States 189 Dmitri Alperovitch Revealed Operation Shady RAT Santa Clara CA McAfee 2011 3–6 http www mcafee com us resources white-papers wp-operation-shady-rat pdf 190 Ibid 2 48 data ”191 McAfee which attributes the attacks to the Chinese government called these attacks a “watershed event” for two reasons First a new precedent had been set by a company as large as Google with openly admitting to a security breach Second while cyber espionage is common between foreign governments it was a “big game-changer” for corporations to witness attacks from a government into corporate entities 192 Alperovitch stated that “we have never ever outside of the defense industry seen commercial industrial companies come under that level of sophisticated attack ”193 Directly after the attacks were identified Google publicly announced that the highly sophisticated attacks successfully targeted IP at Google and other high-value companies 194 American Superconductor Corporation Between 2008 and 2011 the American Superconductor Corporation AMSC lost 90 percent of its stock value after its windenergy software code was stolen by a major customer in China While AMSC engineers were troubleshooting a turbine malfunction in China they discovered the hardware had been running on a pirated version of AMSC’s software In March 2011 China’s Sinovel Wind Group AMSC’s largest customer abruptly ended the contract which accounted for more than $210 million in 2010 revenue causing investors to flee Within six months AMSC lost 84 percent of its value 195 In 2011 a software engineer for AMSC’s research facility confessed to being hired by Sinovel to create turbine software using stolen source code from AMSC’s server According to Michael Riley and Ashlee Vance the Chinese government was equally complicit Sinovel was given advanced information on state-planned wind farms 191 Kim Zetter “‘Google’ Hackers Had Ability to Alter Source Code ” Wired March 3 2010 http www wired com 2010 03 source-code-hacks 192 William Jackson “How Google attacks changed the security game ” Global Compliance Network Sep 01 2010 http gcn com articles 2010 09 06 interview-george-kurtz-mcafee-google-attacks aspx 193 Kim Zetter “Google Hack Attack Was Ultra Sophisticated New Details Show ” Wired January 14 2010 http www wired com 2010 01 operation-aurora 194 Zetter “Google Hack Attack Was Ultra Sophisticated New Details Show ” 195 Michael A Riley and Ashlee Vance “China Corporate Espionage Boom Knocks Wind Out of U S Companies ” Bloomberg Businessweek March 15 2012 http www bloomberg com news 2012-0315 china-corporate-espionage-boom-knocks-wind-out-of-u-s-companies html 49 by the Chinese government prior to government bidding for a mega-wing project in 2008 and eventually awarded 47 percent of the project Adding insult to injury the day after the IP theft went public AMSC computer networks were hit by a cyber attack in which company executives were emailed spyware designed to copy confidential data and internal communications 196 Fortune 500 Manufacturing Company In 2010 Mandiant reported that an APT compromised computers of senior executives within a U S Fortune 500 manufacturing company that was negotiating the acquisition of a Chinese corporation During the negotiation period between the two companies sensitive pricing data and details on U S negotiation strategies was exfiltrated on a weekly basis Mandiant assessed that because the executives targeted were directly involved in the negotiations with the Chinese company it was most likely an effort by the Chinese company to gain an advantage during negotiations Although early notification of the compromise allowed the U S manufacturing corporation to cancel the acquisition their business objectives were unable to be fulfilled 197 DuPont and Cargill In 2011 a Chinese scientist was convicted of Economic Espionage and Theft of Trade Secrets for providing scientists at Hunan Normal University the National Natural Science Foundation of China and China’s 863 Program all three funded by the Chinese government with sensitive data on agrochemical and biotechnology products from Dow AgroSciences and Cargill Inc Kexue Huang a research scientist and research leader in the development of biotechnology development for organic insecticides for Dow AgroSciences from 2003–2008 and as a biotechnologist for Cargill Inc from 2008–2009 transferred stolen proprietary data with the intent of benefiting the government of China Huang used the stolen materials to conduct unauthorized research with students from Hunan Normal University earning grant money from the National Natural 196 Ibid 197 Mandiant Mandiant M-Trends the advanced persistent threat Alexandria VA Mandiant 2010 20 https dl mandiant com EE assets PDF_MTrends_2010 pdf elq 3c9ad31542594c9184e8dcf552d66792 e lqCampaignId 50 Foundation of China to conduct further research and publish findings in scientific journals in China Additionally Huang identified manufacturing facilities in China that could produce products based on the stolen research and compete directly with Dow in the established organic pesticide market 198 Huang also admitted to downloading DNA sequences for a key component in the manufacture of a new food product while at Cargill and providing it to scientists at Hunan Normal University The Department of Justice estimates the loss from misappropriated trade secrets somewhere between $7 million and $20 million 199 Chinese Telecommunications In October 2012 the House Permanent Select Committee on Intelligence HPSCI issued an investigative report on two Chinese telecommunication companies Huawei Technologies and ZTE Inc concluding that “risks associated with Huawei’s and ZTE’s provision of equipment to U S critical infrastructure could undermine core U S national-security interests ”200 During a yearlong investigation requested by Huawei Technologies the HPSCI discovered evidence of both economic espionage through the extraction of sensitive information and IP from U S companies and state-sponsored support from the Chinese government with Huawei having direct ties to China’s Signals Intelligence Division 201 During testimony before the HPSCI during the investigation Huawei and ZTE attested that the backdoors illegal remote access to a computer found in their software were not intentional vulnerabilities but rather flaws in the software itself 202 Though the 198 United States of America versus Kexue Huang Plea Agreement Docket Number 1 10-cr-00102 August 9 2011 http tsi brooklaw edu sites tsi brooklaw edu files filings united-states-vhuang 20110809plea-agreement pdf 199 Administration Strategy on Mitigating the Theft of U S Trade Secrets Annex B 23 200 House Permanent Select Committee on Intelligence Investigative Report on the U S National Security Issues Posed by Chinese Telecommunications Companies Huawei and ZTE Washington DC U S House of Representatives 2012 vi https intelligence house gov sites intelligence house gov files documents HuaweiZTE%20Investigative%20Report%20 FINAL pdf 201 House Permanent Select Committee on Intelligence Investigative Report on the U S National Security Issues Posed by Chinese Telecommunications Companies Huawei and ZTE 14 and Michael S Schmidt Keith Bradsher and Christine Hauser “U S Panel Cites Risks in Chinese Equipment ” New York Times October 8 2012 http www nytimes com 2012 10 09 us us-panel-calls-huawei-and-zte-nationalsecurity-threat html pagewanted all _r 0 202 Schmidt Bradsher and Hauser “U S Panel Cites Risks in Chinese Equipment ” 51 precedence set by the HPSCI report has significant national security implications it also signifies U S government understanding of China’s attempts to shift the economic balance of power in their favor using advanced technology in cyberspace The report affirms “The capacity to maliciously modify or steal information from government and corporate entities provides China access to expensive and time-consuming research and development that advances China’s economic place in the world ”203 While China continues to deny allegations of economic espionage and cyber intrusions into U S systems the depth of resources necessary to sustain the current scope of computer network exploitation far exceeds the capabilities of hackers and cyber criminals and is nearly impossible without some type of state-sponsorship 204 The overwhelming evidence presented by Mandiant in its APT1 report is a testament to this premise 205 Furthermore the existence of a government program identified by the Office of the National Counterintelligence Executive as Project 863 aimed at directing and funding the procurement of sensitive economic data and U S technology through clandestine means highlights the magnitude of the operations China is undertaking to shift the balance of power C ECONOMIC GROWTH PLANS OR CYBER ROAD MAPS The proliferation of cyberspace and upsurge in computer technology combined with a number of major economic challenges has made cyber-enabled economic espionage vital to China’s economic development Cyber-enabled economic espionage allows China to produce new sources of technology without having to invest the time and money to conduct R D and without having to address distortive economic policies such as government support for state-owned firms and the lack of the rule of law in China 206 While China continues to deny allegations of economic espionage and cyber intrusions into U S systems China’s cyber-enabled economic espionage clearly corresponds to the 203 House Permanent Select Committee on Intelligence Investigative Report on the U S National Security Issues Posed by Chinese Telecommunications Companies Huawei and ZTE 3 204 Krekel Capability of the People’s Republic of China 8 205 APT1 6 19 206 Morrison China’s Economic Rise 1–2 52 technological advancement and indigenous innovation initiatives identified in both its Twelfth FYP and National Medium to Long-Term Plan for the Development of Science and Technology 2006–2020 MLP This section discusses how essentially China is using advanced cyber tools to steal the data it needs to meet the technology and innovation goals outlined in both plans China’s Twelfth FYP designed like previous FYPs as an economic roadmap to communicate policy goals differs from previous plans by placing a much larger emphasis on scientific development and indigenous innovation 207 One of the major features of the Twelfth FYP is the concept of seven strategic emerging industries SEIs that are instrumental in China’s push for a more advanced technology-driven economy and increasing the global competitiveness of Chinese businesses to support sustained economic growth Three of the SEIs are designed to promote sustainable growth while the remaining four are designed to move China up in global competitiveness The seven SEIs within the Twelfth FYP are as follows 208 Sustainable Growth 1 Clean Energy Technology Including high-efficiency and energy saving equipment pollution control and advanced environmental protection 2 Alternative Energy Including smart power grids and nuclear solar wind and biomass power 3 Clean Energy Vehicles Including electric hybrid cars pure electric cars and fuel cell cars Increase Global Competitiveness 4 Next-Generation Information Technology Including cloud computing integrated circuits smart devices high-end software and servers nextgeneration Internet equipment and telecommunications 5 Biotechnology Including biopharmaceuticals biomedicine biomanufacturing marine biology and innovative pharmaceuticals 6 New Materials Including high-performance composites new function materials semiconductors LED special glass and structural materials 207 Casey and Koleski Backgrounder China’s 12th Five-Year Plan 1 4 8 208 Ibid 1 4 8 53 7 High-End Equipment Manufacturing Including aerospace and space rail and transportation ocean engineering and smart assembly Intended as “the backbone of China’s next phase of industrial modernization and technological development ” the Twelfth FYP may also be viewed as a blueprint for economic espionage and theft of IP 209 Mandiant states that “organizations in all industries related to China’s strategic priorities are potential targets of APT1’s comprehensive cyber espionage campaign” pointing out that 115 of the 141 APT1 victims “match industries that China has identified as strategic to their growth including four of the seven strategic emerging industries that China identified in its 12th Five-Year Plan” see Figure 8 210 209 The U S -China Business Council “China’s Strategic Emerging Industries Policy Implementation Challenges Recommendations ” March 2013 1 http uschina org sites default files sei-report pdf 210 APT1 Exposing One of China’s Cyber Espionage Units 4 54 Figure 8 Timeline of APT1 Compromises by Industry Sector211 The similarities among major policy plans and Chinese cyber-enabled economic espionage are not restricted to just China’s Twelfth FYP China’s MLP designed as a 15year science and technology plan shares similar goals to the Twelfth FYP while focusing more specifically on technological development and indigenous innovation The MLP is China’s plan to turn the Chinese economy into a “technology powerhouse by 2020 and a global leader by 2050” through indigenous innovation 212 According to 211 Ibid 23 212 McGregor “Drive for ‘Indigenous Innovation ” 4 55 Springut Schlaikjer and Chen “the MLP calls for an unprecedented mobilization of resources for R D projects in 11 ‘priority fields ’ eight areas of ‘frontier technology ’ and another eight areas of ‘cutting-edge science’ challenges ”213 The eight areas of “frontier technology” within the MLP are as follows 1 Advanced Energy 2 Information Technology 3 Biotechnology 4 New Materials 5 Advanced Manufacturing 6 Aerospace and Aeronautics 7 Lasers 8 Ocean Technologies The areas share an uncanny resemblance to the Twelfth FYP’s SEIs as well as Chinese cyber intrusions and cyber-enabled economic espionage against the United States Although the MLP calls for “establishing the nation’s credibility and image in international cooperation” and “to perfect the nation’s intellectual property rights system ” preferential government policies forced technology transfer lacking incentives for research creativity and innovation and disregard for IP rights create an environment in which illicit technology transfer is necessary to meet national priorities 214 McGregor argues that “with these “indigenous innovation industrial policies it is very clear that China has switched from defense to offense ”215 Using Mandiant and McAfee cyber intrusion reports and Department of Justice economic espionage and trade secret criminal cases see Appendix for the Department of Justice cases presented Figure 9 depicts the similarities among China’s Twelfth FYP and MLP and specific cases of Chinese cyberenabled economic espionage against the United States The unmistakable overlaps 213 Springut Schlaikjer and Chen China’s Program for Science and Technology Modernization 42 214 McGregor “Drive for ‘Indigenous Innovation ” 4 215 Ibid 4 56 between the MLP Twelfth FYP and cases of Chinese cyber-enabled economic espionage are difficult to dispute Figure 9 Similarities Among China’s 12th Five-Year Plan National Medium Long-Term Plan for Science and Technology 2006– 2020 and Specific Cases of Chinese Cyber Espionage Against the United States 216 216 Alperovitch Revealed Operation Shady RAT 7–9 Mandiant M-Trends the advanced persistent threat 20 Riley and Vance “China Corporate Espionage Boom Knocks Wind Out of U S Companies” “Global Energy Cyberattacks ” 3 7 “Administration Strategy on Mitigating the Theft of U S Trade Secrets ” Annex B 23 U S Department of Justice “Hawaii Man Sentenced to 32 Years in Prison for Providing Defense Information and Services to People’s Republic of China ” January 25 2011 http www justice gov opa pr hawaii-man-sentenced-32-years-prison-providing-defense-information-andservices-people-s U S Department of Justice “Former CME Group Software Engineer Pleads guilty to Stealing Globex Computer Trade Secrets While Planning Business to Improve Electronic Trading Exchange in China ” September 19 2012 http www justice gov usao iln pr chicago 2012 pr0919_01 pdf 57 D CHINESE RESOLVE Recognizing the power potential in the cyber domain China has aggressively used cyberspace to gain a competitive advantage in the economic and political domains Lewis echoes this point when he writes “China has integrated the use of cyber techniques into its military doctrine and economic policies far more comprehensively than any other nation in the region ”217 Through cyber-enabled economic espionage China has not only identified a mechanism to overcome its lacking domestic innovation but also a way to weaken the U S economy If a major problem for China’s continued economic growth is the lack of innovation and the United States is the largest innovator in the world why expend the time and resources on domestic innovation when it can be retrieved through cyber espionage As China continues to syphon U S trade secrets and IP at an alarming rate it races to overtake the United States as the world’s largest economy and possibly challenge U S hegemony Despite international backlash public exposure and direct accusations from the U S government China continues to maintain its persistent state-sponsored economic espionage Rightly stated in Mandiant’s 2104 Threat Report China’s unwillingness to discontinue its intrusive cyber operations suggests China “believes the benefits of its cyber espionage campaigns outweigh the potential costs of an international backlash ”218 This chapter’s demonstration of China’s extensive use of the cyber domain to conduct economic espionage demonstrates China’s resolve to shift the balance of economic power given by asymmetric interdependence away from the United States This chapter also underscores the importance of the next chapter’s investigation on China’s use of asymmetric interdependence as a coercive political tool and potential source of power against the United States 217 Lewis Hidden Arena 8 218 Mandiant 2014 Threat Report Beyond the Breach Alexandria VA Mandiant 2014 18 21 https dl mandiant com EE library WP_M-Trends2014_140409 pdf 58 IV U S -CHINA RELATIONS CAN CHINA RISE PEACEFULLY With China’s rise as a potential great power—owing much to its significant economic growth that in turn has expanded its political and military power—the U S China relationship has become one of the most important bilateral relationships in the world The ascent of China is changing the international order making global stability increasingly more dependent on U S -China relations 219 This relationship is not without its problems however “Hanging over the relationship is the larger question of whether as China grows in economic and military power the United States and China can manage their relationship in such a way as to avoid debilitating rivalry and conflict that have accompanied the rise of new powers in previous eras ” states Susan Lawrence 220 If the past provides any indication of the future history does not offer a favorable outcome for U S -China relations Looking solely at the rise and fall of great powers over the last 500 years in “11 of 15 cases since 1500 in which a rising power rivaled a ruling power the outcome was war ”221 As the United States struggles with how to address China’s massive cyberenabled economic espionage campaign threatening U S economic growth and stability it does so in an environment in which China is emerging as a potential great power “China’s rise has occurred within a world system still dominated by American unilateral authority Because of these imbalances China has naturally sought to find asymmetrical advantages and cyberspace at first glance appears to be a dimension of national power in which the United States is asymmetrically vulnerable ” state Hannas Mulvenon and Puglisi 222 What is clear so far is that both the United States and China are entangled in an 219 Joshua Cooper Ramo The Beijing Consensus London Foreign Policy Centre 2004 12 220 Susan V Lawrence U S -China Relations An Overview of Policy Issues CRS Report No R41108 Washington DC Congressional Research Service 2013 33 http fas org sgp crs row R41108 pdf 221 Graham T Allison “Obama and Xi Must Think Broadly to Avoid a Classic Trap ” New York Times June 6 2013 http www nytimes com 2013 06 07 opinion obama-and-xi-must-think-broadly-toavoid-a-classic-trap html _r 0 222 Hannas Mulvenon and Puglisi Chinese Industrial Espionage 217–218 59 economically interdependent relationship that neither is comfortable maintaining in its current state With the United States leading the world in global innovation and China’s longterm economic growth relying on innovation and technological advancement China continues to seek cyber-enabled economic espionage as a mechanism to create an asymmetry in the interdependent economic relationship China’s use of cyberspace allows China to increase the global competitiveness of Chinese businesses and overcome its lacking domestic innovation in order to support sustained economic growth all the while weakening the U S economy While China has demonstrated its willingness to use cyber-enabled economic espionage to shift the balance of economic power it its favor the larger question is whether China is willing to then use the asymmetric interdependence as a source of power to affect other areas of the U S -China relationship This chapter explains why previous patterns of Chinese behavior indicate that the answer is yes A CHINA’S USE OF ASYMMETRIC ECONOMIC INTERDEPENDENCE AS A SOURCE OF POWER In September 2010 a Chinese fishing boat collided with a Japanese Coast Guard vessel near the disputed Senkaku Islands in the East China Sea resulting in a major diplomatic dispute between China and Japan When China’s numerous demands for the captain’s release were refused China halted shipments of rare earth elements REEs to Japan—vital elements in high-tech products and cutting-edge modern technology 223 Consisting of 17 related chemical elements essential to the production of hybrid cars wind turbines guided missiles Unmanned Aerial Vehicles computer hard-drives and cellphones REEs are actually not that rare REEs can be found throughout the world however their geochemical properties limit concentration as minerals making exploitation 223 Keith Bradsher “Amid Tension China Blocks Vital Exports to Japan ” New York Times September 22 2010 http www nytimes com 2010 09 23 business global 23rare html pagewanted all _r 0 60 extremely difficult and potentially devastating to the environment 224 China however is willing to overlook the environmental effects in order to meet the needs of a growing market and maintain a dominant foothold in a lucrative REE business According to Ed Dolan with China’s embargo against Japan “suddenly the world became aware that China home to some 95 percent of global REE production held an alarming strategic monopoly ”225 Although China’s market share does not represent a true natural monopoly according to Dolan the ownership of these unique resources does create an asymmetry within the China-Japan economic interdependent relationship With Japan being the principal consumer of Chinese REEs China was willing and able to leverage this vulnerability as a coercive tool that succeeded in gaining the release of the Chinese fishing boat and its captain Keith Bradsher echoes this sentiment when he states that “until recently China typically sought quick and quiet accommodations on trade issues But the interruption in rare earth supplies is the latest sign from Beijing that Chinese leaders are willing to use their growing economic muscle ”226 Key to what China deemed as successful diplomatic negotiations was the ability of China to manipulate the system “Despite a widely confirmed suspension of rare earth shipments from China to Japan Beijing has continued to deny the existence of an embargo ” Bradsher states 227 China’s denial of the export suspension and lack of official policy trail prevented Japan from immediately lodging a WTO complaint for violating free trade rules and allowed China to “wield an undeclared trade weapon ”228 Bradsher argues that “China has refrained until now from using its near monopoly on rare earth 224 David Stringer “China’s Rare Earth Toxic Time Bomb to Spur Mining Boom ” Bloomberg June 4 2014 http www bloomberg com news 2014-06-03 china-s-rare-earth-toxic-time-bomb-to-spur-12-billion-of-mines html The mining of REEs run the risk of radiation leaks and release of carcinogens The U S mine in California was closed in 2002 as a result of a radiation leak and was unable to renew its operating license until 2012 225 Ed Dolan “China’s Fragile Rare Earth Monopoly ” Ed Dolan’s Econ blog October 24 2010 http dolanecon blogspot com 2010 10 chinas-fragile-rare-earth-monopoly html 226 Keith Bradsher “China Said to Widen Its Embargo of Minerals ” New York Times October 19 2010 http www nytimes com 2010 10 20 business global 20rare html pagewanted all 227 Ibid 228 Ibid 61 elements as a form of leverage on other governments ”229 Yet China’s use of asymmetric economic interdependence as a source of diplomatic power was not only directed at Japan but extended to the United States as well With China the sole sources of REEs and Japan the main manufacturing capacity of REEs at the time disruption of REE exports to Japan would make the United States completely reliant on China for crucial components used in defense assets such as jet fighter engines missile guidance systems antimissile defense space-based satellites and communication systems 230 “Rare earth elements are essential for a diverse and expanding array of high-technology applications which constitute an important part of the industrial economy of the United States ” emphasizes the U S Geological Survey 231 Although China’s original intent was to leverage its asymmetric economic interdependence to politically coerce Japan China simultaneously created an asymmetry in the U S -China economic interdependent relationship with the same embargo This asymmetry would almost instantly be leveraged by China when approximately a month after the exports to Japan stopped flowing so too did the flow of REEs to the United States Just days after U S trade officials announced an impending investigation against China for imposing export restraints on raw materials and breaking WTO rules by distorting trade and competition in the green technology sector Chinese customs officials imposed broader REE export restrictions halting nearly all shipments of REEs to the United States 232 But as Keohane and Nye argue “strategies of manipulating interdependence are likely to lead to counterstrategies ” and the United States was unwilling to let China use its dependence on REEs as a coercive political tool 233 Instead the United States met 229 Bradsher “Amid Tension China Blocks Vital Exports to Japan ” 230 Marc Humphries Rare Earth Elements The Global Supply Chain CRS Report No R41347 Washington DC Congressional Research Service 2013 Summary page http fas org sgp crs natsec R41347 pdf 231 Gordon B Haxel James B Hedrick and Greta J Orris Rare Earth Elements—Critical Resources for High Technology Fact Sheet 087–02 Reston VA U S Geological Survey 2005 http pubs usgs gov fs 2002 fs087-02 232 Bradsher “China Said to Widen Its Embargo of Minerals ” 233 Keohane and Nye Jr Power and Interdependence 16 62 China’s challenge by filing a two formal cases with the WTO citing China’s steady reduction of REE quotas since 2005 and exorbitant export taxes on rare earths were “illegal attempts to force multinational companies to produce more of their hightechnology goods in China ” giving domestic companies in China a competitive advantage in particular markets 234 Unlike Japan the United States has the luxury of directly challenging China With China home to only around 37 percent of world reserves and the United States sitting on significant REE reserves a once self-reliant United States could once again look to extract REEs at home 235 In fact as a result of China’s embargos and unfair trade practices in rare earths U S policy makers continuously seek legislation to fiscally support reinvigoration of the U S REE industry in addition to negotiating additional capacity from Australia Canada Malaysia and India 236 Nonetheless Keohane and Nye point out that “sensitivity interdependence can provide the basis for significant political influence only when the rules and norms in effect can be taken for granted or when it would be prohibitively costly for dissatisfied states to change their policies quickly ”237 With production lines in the United States and Japan set up to produce specific high-tech products REE-dependent technologies cannot simply be shifted to alternative methods of production 238 “You can’t just substitute nickel for the neodymium in a magnet and expect the product still to do its job ” states Dolan 239 Although both Japan and the United States are sensitive to a Chinese REE embargo with Japan more so than the United States “the underlying capabilities of the United States reduces its vulnerability and makes its sensitivity less serious politically ”240 234 Bradsher “China Said to Widen Its Embargo of Minerals ” 235 Keith Bradsher “After China’s Rare Earth Embargo a New Calculus ” New York Times October 29 2010 http www nytimes com 2010 10 30 business global 30rare html 236 Valerie Bailey Grasso Rare Earth Elements in National Defense Background Oversight Issues and Options for Congress CRS Report No R41744 Washington DC Congressional Research Service 2013 8 http fas org sgp crs natsec R41744 pdf and Humphries Rare Earth Elements Summary page 237 Keohane and Nye Jr Power and Interdependence 18 238 Dolan “China’s Fragile Rare Earth Monopoly ” 239 Ibid 240 Keohane and Nye Jr Power and Interdependence 13 63 Keohane and Nye continue that “the vulnerability dimension of interdependence rests on the relative availability and costliness of the alternatives various actors face ”241 Japan’s vulnerability stems from a lack of available organic resources and costliness of finding substitutions making it a prime target for Chinese manipulation Despite numerous joint venture agreements and potential partnerships to obtain REEs thus far Japan has been unable to secure enough sources of particular REEs to break its vulnerability dependence with China While economic interdependence can be used as a source of power actors face potential consequences in doing so In the case of China although it holds a dominant position in the global supply chain the temporary embargo immediately raised the global prices of rare earths and damaged China’s long-term trade interests 242 Chinese efforts to exploit its market advantage pushed dependent countries to develop alternative REE sources and new technologies states Dolan Dolan argues that “after the East China Sea incident concerns over reliability of supply as much as concerns over price are triggering research and investment to an extent that suggests that the long run—as in “long-run elasticity”—is fast approaching ”243 The United States Japan Canada Australia and India started looking both internally and externally for alternate sources of REEs With more than 400 exploration projects popping up outside of China between 2011 and 2013 prices of most REEs dropped approximately 60 percent 244 Additionally both WTO cases filed by the United States against China resulted in rulings against China for violation of trade obligations and WTO commitments In the second WTO case filed against China for rare earth export restrictions the United States was joined by the European Union Japan and Canada as complainants on the case “indicating a degree of cooperation among some of the world’s largest economies which 241 Keohane and Nye Jr Power and Interdependence 13 and Saurav Jha “China’s Rare Earths Advantage ” The Diplomat April 29 2014 http thediplomat com 2014 04 chinas-rare-earths-advantage 242 Shiro Armstrong “Rare earth metals export ban a Chinese own goal ” East Asia Forum September 19 2011 http www eastasiaforum org 2011 09 19 rare-earth-metals-export-ban-a-chineseown-goal 243 Dolan “China’s Fragile Rare Earth Monopoly ” 244 Grasso Rare Earth Elements in National Defense 8 64 also constitute China’s largest trading partners ”245 China’s embargo against Japan demonstrated China’s willingness to use economic interdependence as a source of power to bend the political will of other states in its favor This episode did little to build trust or credibility with major players within the international community therefore also demonstrating the potential long-term costs of wielding such power for short-term gain in another issue area China’s future willingness to use economic interdependence as a source of power in the broader U S -China relationship therefore is likely conditioned by Beijing’s perception of whether such long-term costs are manageable or avoidable Based on China’s continued cyber espionage against the United States it would appear that China believes the long-term costs of such behavior are manageable In fact according to Lowther et al “a refusal by the Chinese government to control state sponsored cyber espionage will serve as a clear indication of how China’s leadership views the United States—with a lack of cooperation indicating it views the United States as a weakening power ”246 But just as China seeks the use of power derived from asymmetric interdependence so too does the United States B U S STRONGHOLD ON INFORMATION POWER For decades the United States has maintained a deliberate policy of using information as a source of power and a strategic instrument used to shape political economic and military behavior U S doctrine identifies information as one of the four instruments of national power U S presidential administrations publish a National Strategy for Strategic Communication and Public Diplomacy and military service branches possess information warfare units—highlighting the importance of information power to U S strategy The Chinese embargo of REEs provides more than just an example of Chinese use of asymmetric economic interdependence as an instrument of political 245 Wayne Morrison and Rachel Tang China’s Rare Earth Industry and Export Regime Economic and Trade Implications CRS Report No R42510 Washington DC Congressional Research Service 2012 35 http fas org sgp crs row R42510 pdf 246 Lowther et al “Chinese-US Relations ” 31 65 coercion It also provides an example of how the United States leverages its asymmetric advantage in the information domain to create a source of power against China In the REE embargo example the WTO dispute settlement cases filed by the United States served these two purposes in terms of information power The first was to discredit China as a reliable economic and trade partner emphasizing its disregard for following basic rules of free trade to which China agreed when it joined the WTO in 2001 As Keohane and Nye point out “credibility is the crucial resource in information power and asymmetrical credibility is a key source of power ”247 By formally filing a WTO case the United States brought China’s credibility into question publicizing that China violated global trade rules by imposing export restrictions on rare earths to create an unfair competitive advantage at the “expense of the economic interests of other countries ”248 Keohane and Nye argue that “much of the traditional conduct of foreign policy occurs through the exchange of promises which can be valuable only insofar as they are credible Hence governments that can credibly assure potential partners that they will not act opportunistically will gain advantages over competitors whose promises are less credible ”249 China’s implementation of trade embargoes distortive economic and trade policies and aggressive territorial disputes provides the United States with a distinct advantage over China in terms of credibility—one the United States is more than willing to exploit The second purpose for filing a settlement case against China is to leverage the information power inherent in the collective action of international institutions The United States having helped create influential international organizations such as the United Nations the IMF the World Bank and the General Agreement on Tariffs and Trade later becoming the WTO understands the power in bringing “a measure of law 247 Keohane and Nye Jr “Power and Interdependence in the Information Age ” 89 248 Morrison and Tang China’s Rare Earth Industry and Export Regime 35 249 Keohane and Nye Jr “Power and Interdependence in the Information Age ” 87 66 and reciprocity to international politics ”250 As the world’s largest economy and sole superpower the United States possesses great shaping power in the establishment of multilateral partnerships and development of international norms—especially when its interests are at stake The U S use of the WTO for dispute resolution in the REE case established legitimacy in U S grievances against China’s trade restrictions It was no longer simply a bilateral disagreement between the United States and China but rather a legitimate complaint lodged to a recognized international arbiter such as the WTO The settlement case and subsequent WTO ruling in favor of the United States not only forces China to take corrective action action that would likely not be taken otherwise but validates the U S position and highlights China’s missteps to the international community To China its accession into the WTO in 2001 substantiated its position as a global economic power but to the United States it means the ability to formally hold China accountable through the collective action of member states without having to threaten economic sanctions or a potential military show of force The use of international organizations by the United States is not limited to the REE issue Through the WTO alone the United States has submitted 15 of the 31 cases brought against China since its acceptance into the organization in 2001 indicating the willingness of the United States to leverage international institutions in an attempt to achieve desired behaviors from China 251 The use of information power by the United States against China is not limited to traditional economic issues With cyberspace enabling foreign economic espionage activities against U S enterprises and government agencies risking long-term economic growth the United States has a vested interest in leveraging information power to shape its interests in the cyber domain “If a state can make its power legitimate in the eyes of others and establish international institutions that encourage others to define their interests in compatible ways it may not need to expend as many costly traditional 250 David M Kennedy “What Would Wilson Do ” The Atlantic January 1 2010 http www theatlantic com magazine archive 2010 01 what-would-wilson-do 307844 3 251 “Dispute Settlement The Disputes Disputes by country territory ” The World Trade Organization accessed October 20 2014 http www wto org english tratop_e dispu_e dispu_by_country_e htm 67 economic or military resources ” state Keohane and Nye 252 As China continues its cyberenabled economic espionage campaign against the United States the United States works diligently with other nations to develop an international consensus on acceptable behavior in cyberspace that reflects U S interests and normative principles “The U S Government Accounting Office GAO states that U S involvement in developing international agreements and standards on cyberspace security and governance is essential to promoting U S national and economic security to the rest of the world ”253 With the United States and China holding very different views on the rights and obligations of states in cyberspace cyber security initiatives with a heavy U S influence could give the United States a significant source of power Of the 19 organizations identified by the GAO as “key entities and efforts whose international activities significantly influence the security and governance of cyberspace ” the United States is either the lead or a key member 254 A U S led cyber security initiative leveraging international institutions benefits the United States in three ways first it shows a U S willingness to adhere to internationally established rules adding legitimacy to its position as a global leader second it allows the United States to encourage China’s participation in international forums on cyber security as a show of U S good faith and acceptance of China as a rising power and third it makes China accountable for adhering to normative behavior in cyberspace heavily influenced by the United States “As this effort to create norms and agreement on state behavior in cyberspace progresses and there is international consensus on responsible behavior in cyberspace China’s cyber espionage will be difficult to sustain ” states Lewis 255 Lewis argues that China’s maritime and cyber actions have created an “implicit commonality of interests among other regional powers” that “creates a powerful 252 Keohane and Nye Jr “Power and Interdependence in the Information Age ” 86 253 Cyberspace U S Faces Challenges in Addressing Global Cybersecurity and Governance GAO- 10-606 Washington DC U S Government Accountability Office 2010 1 http gao gov assets 310 308401 pdf 254 Ibid 255 Asia The Cybersecurity Battleground 68 incentive for cooperation and collective action ”256 Even without ratified international norms the United States and other nations affected by China’s illicit cyber behavior could move beyond information power and seek to use existing international mechanisms such as the WTO to address China’s government-sponsored cyber espionage The United States has made clear in its Administration Strategy on Mitigating the Theft of U S Trade Secrets that it will use “trade policy tools to increase international enforcement against trade secret theft to minimize unfair competition against U S companies ”257 The United States long having used information as a strategic instrument of power has also executed a persistent information campaign against China and its cyber behavior After numerous failed attempts to address the cyber espionage issues directly with China the United States took the issue public to call attention to China’s cyber espionage behavior  In 2010 after Google announced China as being responsible for computer hacks into its corporate infrastructure Secretary of State Clinton specifically asked the Chinese government for an explanation 258  In 2011 the Office of the National Counterintelligence Executive released a report to Congress specifically naming “China as the ‘most active and persistent’ perpetrator of cyber intrusions into the United States ”259  In 2011 McAfee indirectly accused China of a five-year targeted cyber operation that hit at least 71 global organizations 260  In 2012 the HPSCI “issued a blistering bipartisan report” accusing two of China’s largest telecommunications companies Huawei and ZTE of being Chinese proxies empowered to steal intellectual property from American companies 261 256 Lewis Hidden Arena 12 257 Administration Strategy on Mitigating the Theft of U S Trade Secrets 3 258 Bobbie Johnson “US asks China to explain Google hacking claims ” The Guardian January 13 2010 http www theguardian com technology 2010 jan 13 china-google-hacking-attack-us 259 Office of the National Counterintelligence Executive Foreign Spies Stealing U S Economic Secrets in Cyberspace i 260 Alperovitch Revealed Operation Shady RAT 3–6 261 Schmidt Bradsher and Hauser “U S Panel Cites Risks in Chinese Equipment ” 69  In 2013 a number of U S senior officials publicly demanded that China cease its cyber-enabled economic espionage 262  In February 2013 with U S government knowledge Mandiant released its report on APT1 Exposing One of China’s Cyber Espionage Units linking economic espionage conducted since 2006 directly to the Chinese government 263 One goal in publicizing China’s cyber behavior is to tarnish China’s credibility as a responsible world power “Governments compete with each other and with other organizations to enhance their own credibility and weaken that of their opponent ” states Nye 264 By continuously publicizing technical details on China’s illicit cyber endeavors the United States seeks to systematically weaken China’s position as a responsible stakeholder within the international community China has done little to change public perceptions China’s repeated denial of cyber espionage in the face of credible evidence has caused significant damage to its reputation Additionally China’s emphasis on cyber security cooperation and coordination while simultaneously maintaining its cyber espionage undermines its efforts to build trust with its international partners and plays right into the hands of the United States With asymmetrical credibility a key source of power the United States increases its power by drawing attention to China’s hypocrisy on cyber security issues The information campaign against China however has not occurred without engagement and strategic dialogue between the two nations In June 2013 during a oneon-one meeting between President Obama and President Xi cyber security was made the main focus of economic discussions in which President Obama “made clear the threat posed to U S economic and national security by cyber-enabled economic espionage ”265 In July 2013 the first meeting of the U S -China Working Group on Cybersecurity 262 Editorial Board “Getting China to talk about cyberespionage ” Washington Post June 5 2013 http www washingtonpost com opinions getting-china-to-talk-aboutcyberespionage 2013 06 05 d69f5446-cdec-11e2-8845-d970ccb04497_story html 263 Alperovitch Revealed Operation Shady RAT 2–4 20 264 Nye Jr American Power in the Twenty-First Century 38 265 Tom Donilon Press Briefing by National Security Advisor Tom Donilon Washington DC The White House 2013 http www whitehouse gov the-press-office 2013 06 08 press-briefing-nationalsecurity-advisor-tom-donilon 70 successfully took place in which both nations engaged in straightforward dialogue in an effort to improve cooperation in cyberspace 266 Additionally “representing a new milestone in Sino-U S military-to-military information-sharing ” the U S Secretary of Defense traveled to Beijing in April 2014 to provide details on U S cyber forces cyber policies and potential red lines in cyberspace in the hopes of Chinese reciprocation and sharing 267 Not only did the Chinese fail to reciprocate after the U S government laid their cards on the table but after years of continued pressure by the United States to stop cyber economic espionage China has proved unwilling China’s unwillingness to address cyber-enabled economic espionage and its persistent economic espionage campaign against U S companies has pushed the U S government to take a different approach In a bold move rarely taken against other foreign government employees the Department of Justice charged five China’s People’s Liberation Army members on May 19 2014 with economic espionage and requested extradition of the individuals to stand trial 268 Knowing that the PLA members will not show up for trial the indictment served more of a “signaling tool” to China that the United States “will not remain silent on statesponsored acts that harm U S national interests including the competitiveness of U S firms ”269 China immediately suspended its participation in the bilateral Cybersecurity Working Group “given the U S lack of sincerity in resolving Internet security issues through dialogue and cooperation ” putting a halt to cooperation between the two nations 266 Adam Segal “The Positive That Might Have Come Out the U S -China Cybersecurity Working Group ” Asia Unbound blog Council on Foreign Relations July 10 2013 http blogs cfr org asia 2013 07 10 the-positive-that-might-have-come-out-the-u-s-china-cybersecurityworking-group 267 Joe McReynolds “In a Fortnight Cyber Transparency for Thee But Not for Me ” China Brief 14 no 8 April 2014 1 http www jamestown org chinabrief 268 Michael S Schmidt “U S Charges Chinese Army Personnel With Cyberspying ” New York Times May 19 2014 http www nytimes com 2014 05 20 us us-to-charge-chinese-workers-withcyberspying html action click contentCollection World region Footer module MoreInSection pgty pe article 269 Ankit Panda “Why Did the U S Indict PLA Officers for Hacking Economic Espionage ” The Diplomat May 21 2014 http thediplomat com 2014 05 why-did-the-us-indict-pla-officers-for-hackingeconomic-espionage 71 on cyber security and signaling the limits of the previous U S approach to China’s illicit cyber behavior 270 C CHINA’S WILLINGNESS TO USE CYBERSPACE Despite the U S advantage in information power China is keenly aware of the importance of the power in the information domain Like the United States China too has used strategic communications to discredit the United States and its cyber security agenda After release of the U S indictment against PLA members China’s state news agency called the actions a “deliberate fabrication” that “grossly violates the basic norms governing international relations and jeopardizes China-U S cooperation and mutual trust ”271 Xinhua news alleged that information revealed during the recent intelligence leaks demonstrates U S “hypocrisy” on cyber security issues and a “typical case of a thief crying thief” with the United States is at the center of the largest global hacking network 272 China also highlights what it believes is an unfair advantage in the U S use of its development of the Internet and major cyber technologies to influence cyber security initiatives 273 Additionally China argues that its own cyber capabilities are a “defensive response to what it views as ‘hegemonic’ efforts by the United States to militarize cyberspace with offensive capabilities ”274 China’s use of information power however goes well beyond influence and propaganda China’s strength in the information domain is in its willingness to use cyberspace as a mechanism to create asymmetries in its interdependent relationships— asymmetries that could potentially be used as a source of power in other issue areas Hannas Mulvenon and Puglisi assert that “China seems much more comfortable with 270 Schmidt “U S Charges Chinese Army Personnel With Cyberspying ” 271 Zhu Dongyang “Commentary Cyber-spying charges against Chinese officers an indictment of U S hypocrisy ” Xinhua May 20 2014 http news xinhuanet com english china 201405 20 c_133347543 htm 272 Ibid 273 Lieberthal and Singer Cybersecurity and U S -China Relations 5 274 Kimberly Hsu and Craig Murray China and International Law in Cyberspace Washington DC U S -China Economic and Security Review Commission 2014 1 http origin www uscc gov sites default files Research China%20International%20Law%20in%20Cybersp ace pdf 72 cyber power as a legitimate overt tool of state power especially compared with the United States which still treats cyber operations as a highly classified compartmented capability ”275 Although China’s cyber-enabled economic espionage provides China with a longterm economic advantage in the U S -China economic interdependent relationship it could also provide China with a significant source of power The ability to go from stealing information to manipulating information to possibly destroying information in cyberspace can be a very powerful tool against a nation whose infrastructure and economic survivability has become dependent on cyberspace China has proven its willingness to steal and manipulate information through cyber operations to shift the balance of power in particular issue areas but its willingness to sacrifice key relationships with major powers such as the United States by conducting cyber attacks aimed at political coercion is a topic of debate According to Jayson Spade China is “conducting cyberspace reconnaissance creating the ability to do economic harm and damage critical infrastructure preparing to disrupt communications and information systems necessary to support conventional armed conflict and readying to conduct psychological operations to influence the will of the American people 276 If China’s REE embargo against Japan and subsequently the United States is any indication of its willingness to use asymmetric interdependence as a source of power the likelihood of using cyber power as a coercive tool against the United States is more than feasible In fact during periods of heightened tension between the United States and China Chinese hackers initiated cyber-attack campaigns against U S government entities In 1999 after a U S aircraft accidently bombed the Chinese Embassy in Belgrade Chinese hackers attacked government websites causing the Department of Energy website to go down for an entire day 277 Again in 2001 Chinese hackers 275 Hannas Mulvenon and Puglisi Chinese Industrial Espionage 218 276 Jayson M Spade “Information as Power China’s Cyber Power and America’s National Security ” U S Army War College May 2012 3 http www2 gwu edu nsarchiv NSAEBB NSAEBB424 docs Cyber-072 pdf 277 Ann Kellan “Hackers hit government Websites after China embassy bombing ” CNN May 11 1999 http www cnn com TECH computing 9905 10 hack attack 02 index html _s PM TECH 73 launched a number of cyber-attacks against U S Government websites following the collision of a U S Navy EP-3 Aries reconnaissance aircraft and a People’s Liberation Army Navy PLAN F-8 Finback fighter aircraft 278 In addition to the cyber-attacks against the United States Chinese hackers were deemed responsible for attacks against the Japanese government in 2004 after a Senkaku Island dispute the French Embassy website in 2008 in protest over a meeting with the Dalai Lama and South Korean banks in 2013 amid tensions with North Koreas over nuclear weapons and missile testing 279 The attacks against South Korea were attributed to North Korea but reportedly supported by China when the attacks were traced back to IP address in China 280 While there is no direct evidence of Chinese government sponsorship of these attacks China has long been known to use hackers to carry out cyber espionage and “engage in politically coercive acts ”281 Lowther Geis Yannakogeorgos and Dacus argue however that “whether such activities are state-sponsored or not China is proving unwilling to undertake efforts to stop them ”282 China’s cyber behavior indicates a level of comfort in the use of cyberspace as a coercive tool which if left unchecked strengthens China’s position within the U S -China relationship For instance in response to the U S indictment of the five PLA members China’s state-owned news agency wrote “China needs to respond Suspending the operations of a bilateral group on cyber affairs is a reasonable start but more countermeasures should be prepared in case Washington obstinately sticks to the wrong track ”283 The statement is a clear warning that China may look beyond diplomatic processes to address what it sees as an injustice 278 William Hagenstad II 21st Century Chinese Cyberwarfare Cambridgeshire IT Governance Publishing 2012 269 279 Hagenstad II 21st Century Chinese Cyberwarfare 270 274 and K J Kwon Jethro Mullen and Michael Pearson “Hacking attack on South Korea traced to Chinese address officials say ” CNN March 21 2013 http edition cnn com 2013 03 21 world asia south-korea-computer-outage 280 Kwon Mullen and Pearson “Hacking attack on South Korea traced to Chinese address officials say ” 281 Lewis Hidden Arena 4 282 Lowther et al “Chinese-US Relations ” 29 283 Dongyang “Commentary Cyber-spying charges against Chinese officers an indictment of U S hypocrisy ” 74 The use of offensive cyber operations against the United States as a means of political coercion cannot be ruled out In fact as the United States continues to become more dependent on cyberspace for its economic growth and national security it becomes more vulnerable to illicit Chinese cyber behavior The National Strategy to Secure Cyberspace claims that “the threat of organized cyber attacks capable of causing debilitating disruption to our Nation’s critical infrastructures economy or national security” is a major concern 284 Lowther et al argue that China could use cyber attacks against U S commercial lines of communication LOC having potentially devastating effects on both the economy and national security They state that “while closing sea and air LOCs to commercial traffic would clearly be seen as antagonistic and cause a loss of global goodwill cyber attacks aimed at commercial interests LOCs can serve much the same purpose without arousing the same ire from the international community ”285 The difficulty of attribution in cyberspace provides China the ability to plausibly deny responsibility Although China might consider certain actions to be below the threshold of what could be considered the use of force or an act of war especially when denying responsibility the United States has made clear in its Department of Defense Strategy for Operating in Cyberspace “that harmful action within the cyber domain can be met with a parallel response in another domain ”286 Should China be willing to use cyber power as a coercive tool against the United States it risks the potential for conflict D POTENTIAL FOR CONFLICT “Because of the newness of technology the lack of agreement on norms and the potential to misidentify an espionage exploit as the opening phase of a military action cyber conflict entails a greater risk of miscalculation and inadvertent escalation of 284 The National Strategy to Secure Cyberspace Washington DC The White House 2003 viii https www us-cert gov sites default files publications cyberspace_strategy pdf 285 Lowther et al “Chinese-US Relations ” 31 286 Department of Defense Strategy for Operating in Cyberspace Washington DC Department of Defense 2011 10 http www defense gov news d20110714cyber pdf 75 conflict ” states Lewis 287 While it would be naïve to assume that nations would not preserve some cyber capability for intelligence collection and to support military actions lack of agreement on the acceptable use of cyber capabilities plagues U S -China relations The United States considers China’s cyber-enabled economic espionage intolerable behavior not only because of the damage it does to the U S economy but also because of the ease at which a cyber exploit can become a cyber attack The strategic goal for China however is to avoid conflict viewing armed conflict as an indication of failure 288 According to Joshua Cooper Ramo “asymmetry represents the most efficient way to deal with the incredibly complex security environment China inhabits China is in the process of building the largest asymmetric superpower in history ”289 Ramo argues that “true success” to China is the ability to manipulate a situation so effectively that the outcome favors Chinese interests in a way that enables China to acquire the power to avoid conflict 290 Thomas validates this notion when he asserts that China’s persistent cyber reconnaissance efforts against global powers indicate that China is trying to seek vulnerabilities that can be exploited to achieve an economic or military victory 291 Despite China’s desire to avoid conflict and its assurance that it seeks a peaceful rise to great power status its recurrent acts of aggression undermine its efforts to build confidence among its regional neighbors and strategic partners 292 Lewis points out that “China’s cyber activities cannot be divorced from the larger security and political context in Asia where Chinese actions have alienated many of its neighbors and have increased tensions by attempting to assert its regional authority ”293 As a result no matter what China does to signal good intentions China’s aggressive behavior coupled with its 287 Lewis Hidden Arena 2 288 Joshua Cooper Ramo The Beijing Consensus London Foreign Policy Centre 2004 39 289 Ibid 37 48 290 Ibid 39 291 Thomas “Google Confronts China’s ‘Three Warfares ’” 108 292 Lowther et al “Chinese-US Relations ” 35 293 Asia The Cybersecurity Battleground 76 strategic culture of “ambiguity disinformation and secrecy ” make other nations skeptical of a peaceful Chinese rise 294 The United States holds a similar view to China’s in that it too wants to prevent the escalation of hostilities by developing cooperative mechanisms on cyber security If China ignores U S overtures to deal with illicit cyber behavior such as cyber-enabled economic espionage the United States has conveyed its willingness to respond with military force In a speech on Defense Department’s Cyber Strategy former Deputy Secretary of Defense William Lynn III stated that “just as our military organizes to defend against hostile acts from land air and sea we must also be prepared to respond to hostile acts in cyberspace Accordingly the United States reserves the right under the laws of armed conflict to respond to serious cyber attacks with a proportional and justified military response at the time and place of our choosing ”295 Though China may have prescribed a peaceful rise to great power status its manipulation of asymmetrical interdependence as a means of achieving its rise could very well push the United States to the brink of conflict Keohane and Nye submit the following It must always be kept in mind furthermore that military power dominates economic power in the sense that economic means alone are likely to be ineffective against the serious use of military force Thus even effective manipulation of asymmetrical interdependence within a nonmilitary area can create risks of military counteraction When the United States exploited Japanese vulnerability to economic embargo in 1940–41 Japan countered by attacking Pearl Harbor and the Philippines 296 Although war between the United States and China is not inevitable the persistent and mutual mistrust between the United States and China exacerbated by China’s illicit cyber behavior continues to afflict U S -China relations and could determine whether China’s rise will be a peaceful one Thus far the United States and China have made the overall stability of the bilateral relationship a priority with accommodation and 294 Sun Tzu Art of War Boulder CO Westview Press 1994 185–95 295 William J Lynn III “Remarks on the Department of Defense Cyber Strategy ” As Delivered by Deputy Secretary of Defense William J Lynn III National Defense University July 14 2011 http www defense gov speeches speech aspx speechid 1593 296 Keohane and Nye Jr Power and Interdependence 16 77 cooperation central to its success Lewis argues that “the rise of China means that other Asian nations must decide where to accommodate and where to confront a newly powerful China with aspirations to restore its regional position and power In turn China’s leaders must decide where an acceptance of international norms and systems best serves China’s interest and where challenging the existing order provides greater benefit ”297 Should China continue its persistent cyber-enabled economic espionage campaign or threaten to use the cyber domain as a source of coercive power it would likely indicate China’s willingness to sacrifice relations with the United States to meet its own core interests and that the costs of that sacrifice no longer exceed the tangible benefits E CONCLUSION While it would be difficult to say with any certainly what the future holds for U S -China relations or if China’s ascent to great power status will be a peaceful one China’s cyber behavior does provides some indication about the role of economic interdependence in U S -China relations Over the last three decades the United States and China have become heavily reliant on each other as a major source of economic growth The United States has turned to China for its inexpensive goods and abundance of foreign capital to support its consumption model 298 Similarly China has turned to the United States as the world’s single largest import market to support an export- and investment-led growth model 299 “Two large economies had large gaps to fill and they quickly became hooked on what each could offer the other in their collective quest for economic growth ” states Roach 300 Now intertwined in a somewhat balanced economic interdependent relationship both the United States and China seek to manipulate the relationship in an effort to become the less dependent actor Despite increasing concerns from both nations neither 297 Lewis Hidden Arena 6 298 Roach Unbalanced 3 299 Ibid According to the WTO the European Union is the largest import market in the world but the United States is the single largest import market when looking at individual nations 300 Ibid 78 has been able to rebalance their economies enough to create an asymmetrical advantage over the other Instead through cyberspace operations China has systematically conducted an economic espionage campaign against U S companies and government entities to acquire technology and IP and shift the economic balance of power in its favor China’s theft of IP costing the United States billions of dollars annually clearly provides China an advantage 301 With China’s push for increased indigenous innovation to strengthen economic development cyber-enabled economic espionage allows China to bypass the costs of R D and jump to the forefront of technological innovation by stealing other nations’ hard work As a result China’s cyber espionage threatens U S technological competitiveness and economic prosperity Although China denies accusations of cyber-enabled economic espionage the capacity to conduct computer network exploitation operations to the extent that has been attributed to China is nearly impossible without some type of state-sponsorship 302 Furthermore China’s Twelfth FYP and National Medium to Long-Term Plan for the Development of Science and Technology 2006–2020 MLP both focusing on indigenous innovation and technological advancement read like a cyber espionage blueprint when compared directly to Chinese cyber intrusions and cyber-enabled economic espionage against the United States 303 While the United States uses its power in the information domain to call attention to China’s brazen cyber espionage behavior and gain collective support against China’s cyber-enabled economic espionage there are no indications the public exposure of Chinese cyber espionage has led China to stop its cyber-enabled economic espionage 304 Beyond China’s use of cyber-enabled economic espionage to shift the balance of power in the U S-China economic interdependent relationship China also recognizes the 301 The Commission on the Theft of American Intellectual Property The IP Commission Report 2 302 Krekel Capability of the People’s Republic of China to Conduct Cyber Warfare and Computer Network Exploitation 8 303 Alperovitch Revealed Operation Shady RAT 7–9 Mandiant Mandiant M-Trends the advanced persistent threat 20 Riley and Vance “China Corporate Espionage Boom Knocks Wind Out of U S Companies” “Global Energy Cyberattacks ” 3 7 Administration Strategy on Mitigating the Theft of U S Trade Secrets Annex B 23 304 U S -China Economic and Security Review Commission 2013 Annual Report to Congress 253 79 power potential in the cyber domain China has aggressively used cyberspace to gain a competitive advantage in the economic domain But is China willing to then leverage the asymmetric economic interdependence as a source of power Furthermore is China willing to use its cyber capabilities as a means of political coercion Based on the research conducted for this thesis the answer is yes China has used asymmetric economic interdependence as a source of power and instrument of political coercion and China would likely be willing to do so against the United States should the economic balance of power shift in its favor However even if the United States becomes the more dependent party in the economic relationship China’s ability to use the asymmetry as a source of power will depend on United States sensitivity and vulnerability dependence to particular Chinese actions For instance if after understanding the implication to its own economy China decided to use U S Treasury securities as a coercive tool against the United States by dumping mass quantities on the market in an effort to destabilize the U S economy the United States would be sensitive to the immediate effects of U S Treasury security devaluation and increased inflation Yet with the Federal Reserve prepared to purchase U S Treasuries dumped on the market in such a situation the economic impact to the United States is significantly reduced as is its vulnerability to this particular Chinese action 305 Alternatively if China decided to conduct cyber attacks against U S banks in response to U S trade sanctions or arms deals with Taiwan devoid of any changes to U S policy the United States would be substantially more vulnerable since U S government protection is in cyberspace is not extended to most of the private sector 306 With the United States having articulated its intent to respond to serious cyber attacks with a proportional and justified response in another domain China’s potential use of cyberspace to conduct offensive operations makes escalation of hostilities and the potential for conflict a real possibility 307 305 Office of the Secretary of Defense Report to Congress Assessment of the National Security Risks Posed to the United States as a Result of the U S Federal Debt Owed to China as a Creditor of the U S Government 3 306 The National Strategy to Secure Cyberspace viii 307 Department of Defense Strategy for Operating in Cyberspace 10 80 China’s approach to cyber espionage reflects its willingness to risk its economic relationships to achieve its own economic and political policy goals China “motivated by the desire to achieve economic strategic and military parity with the United States” will likely continue to use cyber espionage as a means to acquire U S technology and sensitive economic information 308 China has little need to accept international norms especially in cyberspace if it is willing to bully its way to the top However to peacefully maintain its continued ascent to great power status China will have to demonstrate a willingness to accept normative behavior set by international institutions and multilateral agreements or face potential collective action by embittered major powers “Cyber security is a fundamental test of China’s willingness to play by the rules and whether its integration into the international system will be peaceful ” states Lewis 309 Should China continue its cyber-enabled economic espionage campaign against the United States it could indicate that China judges that the potential costs of its cyber espionage programs outweigh the benefits of its relationship with the United States 308 Office of the National Counterintelligence Executive Foreign Spies Stealing U S Economic Secrets in Cyberspace 7 309 Asia The Cybersecurity Battleground 81 THIS PAGE INTENTIONALLY LEFT BLANK 82 APPENDIX DEPARTMENT OF JUSTICE CASES OF CHINESE CYBER ESPIONAGE AGAINST THE UNITED STATES The following cases are a select number of Department of Justice Economic Espionage and Trade Secret Criminal Cases that were identified in Chapter III Figure 9 page 57 of this thesis The information included in each case was taken verbatim from source material 310 Military Technical Data and Trade Secrets to China – On Sept 26 2012 Sixing Liu aka Steve Liu a native of China with a PhD in electrical engineering who worked as a senior staff engineer for Space Navigation a New Jersey-based division of L-3 Communications was convicted in the District of New Jersey of exporting sensitive U S military technology to China stealing trade secrets and lying to federal agents The jury convicted Liu of nine of 11 counts of an April 5 2012 second superseding indictment specifically six counts of violating the Arms Export Control Act one count of possessing stolen trade secrets in violation of the Economic Espionage Act one count of transporting stolen property and one count of lying to federal agents The jury acquitted Liu on two counts of lying to federal agents According to documents filed in the case and evidence presented at trial in 2010 Liu stole thousands of electronic files from his employer L-3 Communications Space and Navigation Division The stolen files detailed the performance and design of guidance systems for missiles rockets target locators and unmanned aerial vehicles Liu stole the files to position and prepare himself for future employment in China As part of that plan Liu delivered presentations about the technology at several Chinese universities the Chinese Academy of Sciences and conferences organized by Chinese government entities However Liu was not charged with any crimes related to those presentations On Nov 12 2010 Liu boarded a flight from Newark to China Upon his return to the United States on Nov 29 2010 agents found Liu in possession of a non-work-issued computer found to contain the stolen 310 “Administration Strategy on Mitigating the Theft of U S Trade Secrets ” Annex B 23 “Hawaii Man Sentenced to 32 Years in Prison for Providing Defense Information and Services to People’s Republic of China ” “Former CME Group Software Engineer Pleads guilty to Stealing Globex Computer Trade Secrets While Planning Business to Improve Electronic Trading Exchange in China ” 83 material The following day Liu lied to ICE agents about the extent of his work on U S defense technology The State Department later verified that several of the stolen files on Liu’s computer contained technical data that relates to defense items listed on the United States Munitions List The jury also heard testimony that Liu’s company trained him about the United States’ export control laws and told him that most of the company’s products were covered by those laws Liu was first arrested on March 8 2011 in Chicago on a complaint in the District of New Jersey charging him with one count of exporting defense-related technical data without a license The investigation was conducted by the FBI ICE and CBP Motorola Trade Secrets to China – On Aug 29 2012 Hanjuan Jin a former software engineer for Motorola was sentenced in the Northern District of Illinois to four years in prison for stealing trade secrets from Motorola specifically Motorola’s proprietary iDEN telecommunications technology for herself and for Sun Kaisens a company that developed products for the Chinese military According to court documents filed in the case Motorola spent more than $400 million researching and developing iDEN technology in just a matter of years On Feb 8 2012 Jin was found guilty of three counts of stealing trade secrets Jin a naturalized U S citizen born in China possessed more than 1 000 electronic and paper Motorola proprietary documents when she was stopped by U S authorities at Chicago’s O’Hare International Airport as she attempted to travel to China on Feb 28 2007 The judge presiding over the case found her not guilty of three counts of economic espionage for the benefit of the government of China and its military According to the evidence at trial Jin began working for Motorola in 1998 and took medical leave in February 2006 Between June and November 2006 while still on sick leave Jin pursued employment in China with Sun Kaisens a Chinese telecommunications firm that developed products for the Chinese military Between November 2006 and February 2007 Jin returned to China and did work for Sun Kaisens on projects for the Chinese military On Feb 15 2007 Jin returned to the United States from China and reserved a flight to China scheduled to depart on Feb 28 2007 Jin advised Motorola that she was ready to return to work at Motorola without informing Motorola that she planned to return to China to work for Sun Kaisens On Feb 26 2007 84 she returned to Motorola and accessed hundreds of technical documents belonging to Motorola on its secure internal computer network As she attempted to depart from Chicago to China authorities seized numerous materials some of which provided a description of communication feature that Motorola incorporates into its telecommunications products Authorities also recovered classified Chinese documents describing telecommunication projects for the Chinese military Jin was charged with theft of trade secrets in an April 1 2008 indictment A superseding indictment returned on Dec 9 2008 charged her with economic espionage The investigation was conducted by the FBI with assistance from U S Customs and Border Protection Military Technical Data and Trade Secrets to China – On April 5 2012 a second superseding indictment was returned in the District of New Jersey against Sixing Liu aka “Steve Liu ” a native of China with a Ph D in electrical engineering who worked as a senior staff engineer for Space Navigation a New Jersey-based division of L-3 Communications from March 2009 through Nov 2010 The superseding indictment charged Liu with six counts of illegally exporting defense articles technical data to China one count of possessing stolen trade secrets one count of interstate transportation of stolen property and three counts of false statements to federal agents Liu of Deerfield Ill was first arrested on March 8 2011 in Chicago on a criminal complaint filed in the District of New Jersey charging him with one count of exporting defenserelated technical data without a license At Space Navigation Liu allegedly worked on precision navigation devices for rocket launchers missile launch systems field artillery smart munitions and other components being used by and prepared for the U S Department of Defense Liu was never approved to present information related to Space Navigation’s programs or the technology underlying its programs to any outside person or audience In 2009 and again in 2010 the indictment alleges that Liu traveled to China where he attended and delivered presentations on export restricted technical data at technology conferences sponsored by Chinese government entities including the 863 Program Before leaving for the 2010 conference in China Liu allegedly downloaded some 36 000 computer files from Space Navigation to his personal laptop Upon his return to the United States in November 2010 U S Customs inspectors found him to be 85 in possession of a laptop computer that contained hundreds of documents related to the company’s projects as well as images of Liu making a presentation at a technology conference sponsored by the PRC government Many of the documents on his computer were marked as containing sensitive proprietary company information and or exportcontrolled technical data The State Department verified that information on the Liu’s computer was export-controlled technical data that relates to defense items on the U S Munitions List The investigation was conducted by the FBI and ICE DuPont Trade Secrets to China – On March 2 2012 former DuPont scientist Tze Chao pleaded guilty in the Northern District of California to conspiracy to commit economic espionage admitting that he provided trade secrets concerning DuPont’s proprietary titanium dioxide manufacturing process to companies he knew were controlled by the government of the People’s Republic of China PRC On Feb 7 2012 a grand jury in San Francisco returned a superseding indictment charging Chao and four other individuals as well as five companies with economic espionage and theft of trade secrets for their roles in a long-running effort to obtain U S trade secrets from DuPont for the benefit of companies controlled by the PRC The five individuals named in the indictment were Walter Liew his wife Christina Liew Hou Shengdong Robert Maegerle and Tze Chao The five companies named as defendants are Pangang Group Company Ltd Pangang Group Steel Vanadium Industry Company Ltd Pangang Group Titanium Industry Company Ltd Pangang Group International Economic Trading Co and USA Performance Technology Inc According to the superseding indictment the PRC government identified as a priority the development of chloride-route titanium dioxide TiO2 production capabilities TiO2 is a commercially valuable white pigment with numerous uses including coloring paint plastics and paper To achieve that goal companies controlled by the PRC government specifically the Pangang Group companies named in the indictment and employees of those companies conspired and attempted to illegally obtain TiO2 technology that had been developed over many years of research and development by DuPont The Pangang Group companies were aided in their efforts by individuals in the United States who had obtained TiO2 trade secrets and were willing to sell those secrets for significant sums of money Defendants Walter Liew 86 Christina Liew Robert Maegerle and Tze Chao allegedly obtained and possessed TiO2 trade secrets belonging to DuPont Each of these individuals allegedly sold information containing DuPont TiO2 trade secrets to the Pangang Group companies for the purpose of helping those companies develop large-scale chloride route TiO2 production capability in the PRC including a planned 100 000 ton TiO2 factory at Chongqing PRC The Liews USAPTI and one of its predecessor companies Performance Group entered into contracts worth in excess of $20 million to convey TiO2 trade secret technology to Pangang Group companies The Liews allegedly received millions of dollars of proceeds from these contracts The proceeds were wired through the United States Singapore and ultimately back into several bank accounts in the PRC in the names of relatives of Christina Liew The object of the defendants’ conspiracy was to convey DuPont’s secret chloride-route technology to the PRC companies for the purpose of building modern TiO2 production facilities in the PRC without investing in time-consuming and expensive research and development DuPont invented the chloride-route process for manufacturing TiO2 in the late-1940s and since then has invested heavily in research and development to improve that production process The global titanium dioxide market has been valued at roughly $12 billion and DuPont has the largest share of that market This investigation was conducted by the FBI Trade Secrets to U S Subsidiary of Chinese Company – On Jan 17 2012 Yuan Li a former research chemist with the global pharmaceutical company Sanofi-Aventis pleaded guilty in the District of New Jersey to stealing Sanofi’s trade secrets and making them available for sale through Abby Pharmatech Inc the U S subsidiary of a Chinese chemicals company According to court documents Li worked at Sanofi headquarters in Bridgewater N J from August 2006 through June 2011 where she assisted in the development of several compounds trade secrets that Sanofi viewed as potential building blocks for future drugs While employed at Sanofi Li was a 50 percent partner in Abby which sells and distributes pharmaceuticals Li admitted that between Oct 2008 and June 2011 she accessed internal Sanofi databases and downloaded information on Sanofi compounds and transferred this information to her personal home computer She 87 also admitted that she made the stolen compounds available for sale on Abby’s website This investigation was conducted by the FBI Dow Trade Secrets to China – On Jan 12 2012 Wen Chyu Liu aka David W Liou a former research scientist at Dow Chemical Company in Louisiana was sentenced in the Middle District of Louisiana to 60 months in prison two years supervised release a $25 000 fine and was ordered to forfeit $600 000 Liu was convicted on Feb 7 2011 of one count of conspiracy to commit trade secret theft for stealing trade secrets from Dow and selling them to companies in China and he was also convicted of one count of perjury According to the evidence presented in court Liou came to the United States from China for graduate work He began working for Dow in 1965 and retired in 1992 Dow is a leading producer of the elastomeric polymer chlorinated polyethylene CPE Dow’s Tyrin CPE is used in a number of applications worldwide such as automotive and industrial hoses electrical cable jackets and vinyl siding While employed at Dow Liou worked as a research scientist on various aspects of the development and manufacture of Dow elastomers including Tyrin CPE The evidence at trial established that Liou conspired with at least four current and former employees of Dow’s facilities in Plaquemine Louisiana and in Stade Germany who had worked in Tyrin CPE production to misappropriate those trade secrets in an effort to develop and market CPE process design packages to Chinese companies Liou traveled throughout China to market the stolen information and he paid current and former Dow employees for Dow’s CPErelated material and information In one instance Liou bribed a then employee at the Plaquemine facility with $50 000 in cash to provide Dow’s process manual and other CPE-related information The investigation was conducted by the FBI Dow and Cargill Trade Secrets to China – On Dec 21 2011 Kexue Huang a Chinese national and former resident of Indiana was sentenced to 87 months imprisonment and three years’ supervised release on charges of economic espionage to benefit a foreign university tied to the People’s Republic of China PRC and theft of trade secrets On Oct 18 2011 Huang pleaded guilty in the Southern District of Indiana to these charges In July 2010 Huang was charged in the Southern District of Indiana with misappropriating and transporting trade secrets to the PRC while working as a 88 research scientist at Dow AgroSciences LLC On Oct 18 2011 a separate indictment in the District of Minnesota charging Huang with stealing a trade secret from a second company Cargill Inc was unsealed From January 2003 until February 2008 Huang was employed as a research scientist at Dow In 2005 he became a research leader for Dow in strain development related to unique proprietary organic insecticides marketed worldwide Huang admitted that during his employment at Dow he misappropriated several Dow trade secrets According to plea documents from 2007 to 2010 Huang transferred and delivered the stolen Dow trade secrets to individuals in Germany and the PRC With the assistance of these individuals Huang used the stolen materials to conduct unauthorized research to benefit foreign universities tied to the PRC Huang also admitted that he pursued steps to develop and produce the misappropriated Dow trade secrets in the PRC After Huang left Dow he was hired in March 2008 by Cargill an international producer and marketer of food agricultural financial and industrial products and services Huang worked as a biotechnologist for Cargill until July 2009 Huang admitted that during his employment with Cargill he stole one of the company’s trade secrets – a key component in the manufacture of a new food product which he later disseminated to another person specifically a student at Hunan Normal University in the PRC According to the plea agreement the aggregated loss from Huang’s conduct exceeds $7 million but is less than $20 million This investigation was conducted by the FBI Ford Motor Company Trade Secrets to China – On Nov 17 2010 Yu Xiang Dong aka Mike Yu a product engineer with Ford Motor Company pleaded guilty in the Eastern District of Michigan to two counts of theft of trade secrets According to the plea agreement Yu was a Product Engineer for Ford from 1997 to 2007 and had access to Ford trade secrets including Ford design documents In December 2006 Yu accepted a job at the China branch of a U S company On the eve of his departure from Ford and before he told Ford of his new job Yu copied some 4 000 Ford documents onto an external hard drive including sensitive Ford design documents Ford spent millions of dollars and decades on research development and testing to develop and improve the design specifications set forth in these documents On Dec 20 2006 Yu traveled to the 89 location of his new employer in Shenzhen China taking the Ford trade secrets with him On Jan 2 2007 Yu emailed his Ford supervisor from China and informed him that he was leaving Ford’s employ In Nov 2008 Yu began working for Beijing Automotive Company a direct competitor of Ford On Oct 19 2009 Yu returned to the U S Upon his arrival he was arrested At that time Yu had in his possession his Beijing Automotive Company laptop computer Upon examination of that computer the FBI discovered that 41 Ford system design specifications documents had been copied to the defendant’s Beijing Automotive Company work computer The FBI also discovered that each of those design documents had been accessed by Yu during the time of his employment with Beijing Automotive Company Yu was ultimately sentenced to 70 months in prison in April 2011 This case was investigated by the FBI DuPont Trade Secrets to China – On Oct 26 2010 Hong Meng a former research chemist for DuPont was sentenced in the District of Delaware to 14 months in prison and $58 621 in restitution for theft of trade secrets Meng pleaded guilty on June 8 2010 Meng was involved in researching Organic Light Emitting Diodes OLED during his tenure at DuPont In early 2009 DuPont’s OLED research efforts resulted in the development of a breakthrough chemical process trade secret that increased the performance and longevity of OLED displays In the Spring of 2009 while still employed at DuPont and without DuPont’s permission or knowledge Meng accepted employment as a faculty member at Peking University PKU College of Engineering Department of Nanotechnology in Beijing China and thereafter began soliciting funding to commercialize his OLED research at PKU In June 2009 he emailed to his PKU account the protected chemical process from DuPont He also downloaded the chemical process from his DuPont work computer to a thumb drive which he uploaded to his personal computer In August 2009 he mailed a package containing 109 samples of DuPont intermediate chemical compounds to a colleague at Northwestern University and instructed his colleague at Northwestern to forward the materials to Meng’s office at PKU Eight of the 109 samples were trade secret chemical compounds Meng also made false statements to the FBI when questioned about these samples This investigation was conducted by the FBI 90 GM Trade Secrets to China – On July 22 2010 an indictment returned in the Eastern District of Michigan charging Yu Qin and his wife Shanshan Du both of Troy Michigan was unsealed The indictment charged the defendants with conspiracy to possess trade secrets without authorization unauthorized possession of trade secrets and wire fraud According to the indictment from December 2003 through May 2006 the defendants conspired to possess trade secret information of General Motors Company relating to hybrid vehicles knowing that the information had been stolen converted or obtained without authorization The indictment alleges that Du while employed with GM provided GM trade secret information relating to hybrid vehicles to her husband Qin for his benefit and for the benefit of a company Millennium Technology International Inc MTI which the defendants owned and operated Five days after Du was offered a severance agreement by GM in January 2005 she copied thousands of GM documents including trade secret documents to a computer hard drive used for MTI business A few months later Qin moved forward on a new business venture to provide hybrid vehicle technology to Chery Automobile a Chinese automotive manufacturer based in China and a competitor of GM The indictment further alleges that in May 2006 the defendants possessed GM trade secret information without authorization on several computer and electronic devices located in their residence Based on preliminary calculations GM estimates that the value of the stolen GM documents is over $40 million This investigation was conducted by the FBI Economic Espionage Theft of Space Shuttle and Rocket Secrets for China – On Feb 11 2010 former Rockwell and Boeing engineer Dongfan “Greg” Chung was sentenced to 188 months imprisonment and three years’ supervised release after his July 16 2009 conviction in the Central District of California Chung was convicted of charges of economic espionage and acting as an illegal agent of the People’s Republic of China PRC for whom he stole restricted technology and Boeing trade secrets including information related to the Space Shuttle program and the Delta IV rocket According to the judge’s ruling Chung served as an illegal agent of China for more than 30 years and kept more than 300 000 pages of documents reflecting Boeing trade secrets stashed in his home as part of his mission of steal aerospace and military trade secrets from Boeing to 91 assist the Chinese government Chung sent Boeing trade secrets to the PRC via the mail via sea freight via the Chinese consulate in San Francisco and via a Chinese agent named Chi Mak On several occasions Chung also used the trade secrets that he misappropriated from Boeing to prepare detailed briefings that he later presented to Chinese officials in the PRC Chung was originally arrested on Feb 11 2008 in Southern California after being indicted on eight counts of economic espionage one count of conspiracy to commit economic espionage one count of acting as an unregistered foreign agent one count of obstruction of justice and three counts of making false statements to the FBI The investigation was conducted by the FBI and NASA Illegal Export of Military Technology Money Laundering Illegal Communication of Classified Information for China–On Aug 9 2010 following six days of deliberation after a trial spanning nearly four months in Honolulu a federal jury found Noshir S Gowadia guilty of five criminal offenses relating to his design for the PRC of a low-signature cruise missile exhaust system capable of rendering a PRC cruise missile resistant to detection by infrared missiles He was sentenced late yesterday to 32 years in prison for communicating classified national defense information to the People’s Republic of China PRC illegally exporting military technical data as well as money laundering filing false tax returns and other offenses The jury also convicted Gowadia in three counts of illegally communicating classified information regarding lock-on range for infrared missiles against the U S B-2 bomber to persons not authorized to receive such information The B-2 bomber is one of America’s most critical defense assets capable of utilizing its stealth characteristics to penetrate enemy airspace and deliver precision guided weapons on multiple targets Gowadia was also convicted of unlawfully exporting classified information about the B-2 illegally retaining information related to U S national defense at his home money laundering and filing false tax returns for the years 2001 and 2002 According to information produced during the trial Gowadia was an engineer with Northrop Grumman Corporation from approximately 1968 to 1986 during which time he contributed to the development of the unique propulsion system and low observable capabilities of the B-2 Spirit bomber sometimes referred to as the 92 “Stealth” bomber Gowadia also continued to work on classified matters as a contractor with the with the U S government until 1997 when his security clearance was terminated Evidence at the trial revealed that from July 2003 to June 2005 Gowadia took six trips to the PRC to provide defense services in the form of design test support and test data analysis of technologies for the purpose of assisting the PRC with a cruise missile system by developing a stealthy exhaust nozzle At the time of his arrest Gowadia had been paid at least $110 000 by the PRC The jury convicted Gowadia of two specific transmissions of classified information a PowerPoint presentation on the exhaust nozzle of a PRC cruise missile project and an evaluation of the effectiveness of a redesigned nozzle and a computer file providing his signature prediction of a PRC cruise missile outfitted with his modified exhaust nozzle and associated predictions in relation to a U S air-to-air missile This case was investigated by FBI the U S Air Force Office of Special Investigations the IRS’s Criminal Investigation Division U S Customs and Border Protection U S Immigration and Customs Enforcement and the State Department’s Directorate of Defense Trade Controls Theft of Computer Trade Secrets for China – September 19 2012 Chunlai Yang a former senior software engineer for Chicago-based CME Group Inc pleaded guilty to theft of trade secrets for stealing computer source code and other proprietary information while at the same time pursuing plans to improve an electronic trading exchange in China Yang admitted to downloading more than 10 000 files between late 2010 and June 30 2011 containing CME computer source code that made up a substantial part of the operating systems for the Globex electronic trading platform The government maintains that the potential loss was between $50 million and $100 million while Yang maintains that the potential loss was less than $55 7 million According to the plea agreement Yang began working for CME Group in 2000 and was a senior software engineer at the time of his arrest His responsibilities included writing computer code and because of his position he had access to the software programs that supported the Globex electronic trading platform which allowed market participants to buy and sell CME Group products from any place at any time The source code and algorithms that made up the supporting programs were proprietary and confidential business property of 93 CME Group which instituted internal measures to safeguard and protect its trade secrets Yang also admitted that he and two unnamed business partners developed plans to form a business referred to as the Tongmei Gateway to America Futures Exchange Software Technology Company Gateway whose purpose was to increase the trading volume at the Zhangjiagang China chemical electronic trading exchange the Zhangjiagang Exchange The Zhangjiagang Exchange was to become a transfer station to China for advanced technologies companies around the world Yang expected that Gateway would provide the exchange with technology through written source code to allow for high 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