The Remaking
of the Chinese Defense Industry and the Rise of the Dual-Use Economy
Dr. Tai Ming Cheung,
Research Fellow
Institute on Global
Conflict and Cooperation,
July 13 2007
Testimony Before the
US-China Economic and Security Review Commission
Hearing on
Panel VII: The Status
and Accomplishments of
A
two-pronged approach is being pursued in the modernization of the Chinese
defense industry.[2] First is
the internal re-engineering of the defense industry that focuses on breaking
down bureaucratic barriers and paring back the role of the state in conjunction
with the nurturing of a more competitively minded and entrepreneurial
institutional culture that encourages the nurturing, diffusion and absorption
of technology and knowledge.
The second
plank of the strategy is to realign the defense industry and integrate it into
the civilian economy to form a dual-use technological and industrial base that
serves both military and civilian needs. The Chinese authorities view a
strategy of embedding the defense industry within the broader civilian economy
as playing a central role in supporting the long-term modernization of the
country’s military capabilities, especially in technological innovation, as
well as in the development of the country’s science and technology (S&T) establishment.
In the
late 1990s, the Chinese defense industry adopted a more forward-looking, dynamic and coordinated approach to reform to
replace a highly conservative, hesitant and piecemeal attitude that had led to
stagnation during the 1980s and 1990s. Defense industry mandarins were pressed to
establish a more streamlined, competitive and open structure without the
barriers that had led to the rigid compartmentalization of activities and
restricted knowledge flows within the system. This required a substantial
curtailing of the role and reach of the state within the defense S&T and
production systems, the adoption of market-based mechanisms to promote
competition, evaluation, and initiative, and numerous other corporate,
financial and structural reforms that were being pursued in the civilian
economy.
Reform measures
included providing greater funding for research institutions, improving the
management of research funds, introducing a competitive mechanism for defense
research, adoption of a contract system for research projects, speeding up the
application of research findings for production and improving the integration
of military and civilian technologies. Far-reaching organizational changes were
also undertaken that led to a restructuring of the management hierarchy, a
revamping of the country’s military-industrial conglomerates, and a more
influential and direct role for the People’s Liberation Army (PLA) in the
management of the defense S&T process.
Reducing
the Role of COSTIND and Separating its Relationship with the PLA
A key reform measure
was the separation of the military and civilian components of Commission for
Science, Technology and Industry for National Defense (COSTIND). Under the old
state planning system, COSTIND’s role was to represent and balance the
interests of both the defense industry and the military. But this had led to
constant bureaucratic infighting because these two groups had widely divergent
interests. As the consumer, the military wanted weapons that could be produced
on time, met its specifications and were cost-effective. But the defense
industry had little incentive to meet the PLA’s requirements because it faced
little competition.
Under the new system
that was introduced in 1998, the military portion of COSTIND was incorporated
into the PLA General Armament Department and the civilian component was
retained and kept its COSTIND title. A crucial change under this newly
separated system was that the defense industry no longer enjoyed monopoly
control in the production and supply of arms to the PLA.
COSTIND’s role following
the restructuring was the making and administration of government policies
towards the defense industry. A dearth of planning guidelines and detailed
regulations had contributed to the woes and lack of direction for the defense
industry during the 1980s and 1990s.
A central cause of the
plight of the defense industry during the 1990s was the faltering performance
of its industrial conglomerates. With little competition to encourage efficiency
or innovation and continuation of soft budget constraints, firms steadily
accumulated losses. But the implementation of far-reaching cost-cutting
measures, debt restructuring and access to new sources of capital combined with
a strong pickup in defense orders led to an impressive turnaround in the
business operations of the defense conglomerates from the end of the 1990s.
After nearly a decade
of losses, the defense industry finally broke even in 2002 and has since posted
rising profits, which in 2006 totaled a record-breaking US$2.6 billion.[3] Earnings
were strong for both civilian and military products.
Comparatively, six of
the 11 defense conglomerates were listed among the top 100 best performing
enterprises in
But compared with
reforms undertaken by their counterparts in civilian sectors, the defense
industrial conglomerates have a long way to go to fundamentally improve their
efficiency and corporate governance. For example, none
of the 11 corporations have introduced supervisory committees or boards of
directors that are essential to improving management practices. This lack of
basic modern management and business structures indicates that economic performance
of defense enterprises is still measured through metrics such as output and
value of assets rather than through profitability or returns on invested
capital.
A glaring deficiency of
the defense industry up until the late 1990s was the absence of a comprehensive
and coherent institutional framework of regulations and technical standards
that is essential in guiding technological development. In an environment of
conflicting standards and competing rules and practices, the diffusion of
technological know-how and sharing of information was seriously impeded.
One of the first
priorities for defense industrial policy makers after the 1998 reorganization
was to strengthen and expand the regulatory regime. A key focus was on the
drafting of detailed administrative regulations and laws governing armaments
research and development, production and management issues. [4] A
steady flow of new rules and regulations concerning defense technological and
weapons-related matters have since been issued.
Implementation of
these laws and regulations though has been problematic. Military units and defense
enterprises had previously enjoyed wide-ranging freedom in their activities and
were unencumbered with the need to adhere to laws and regulations. Despite this
resistance, the gradual adoption of a rules-based institutional culture will
eventually lead to the emergence of a more effective and regularized
environment that will enhance competition, diffusion and other processes
essential to the nurturing of innovation and absorption capabilities.
The establishment of a
common and comprehensive technical standards and military specifications regime
has been another important mission for the defense industry.[5] This
task has taken on added urgency since the mid 1990s in the face of growing
leadership calls to the military establishment to pursue technological
leapfrogging. This is because the development of complex weapons systems is
dependent on thousands of standardized parts and components that must be of
high quality and reliability.
Beginning in 1983 when
the first 15 national military standards were issued, an average of around 400
standards were passed annually over the next 15 years, totaling around 5,700 by
the end of 1998. The Chinese military specifications and standards regime
though has a long way to catch up with its more established counterparts in
advanced industrial countries. The US Defense Department had an active list of
more than 26,000 military specifications and standards in 2001[6].
Expanding access to
foreign technological knowledge, products and practices, both in the military
and civilian sectors, have had a profound impact in promoting the technological
development of the Chinese defense industry in the reform era and this trend
has accelerated and deepened since the late 1990s. Although self-sufficiency
remains a cornerstone of the country’s defense technological and industrialization
modernization goals, this is a long-term strategic aspiration and the focus
over the next couple of decades is to pursue a parallel but complementary
development strategy of acquiring and absorbing foreign technology that both
complements and supports indigenous weapons R&D. With increasing priority
attached to leapfrogging and catching up with advanced military powers, the
importation of foreign technology is crucial in meeting this objective.
The Chinese defense
industry has employed a number of approaches in the pursuit of foreign
technological products and processes:
A fundamental weakness
of the defense industry has been its poor ability to diffuse technological
achievements. At the end of the 1990s, it was estimated that less than 15% of
the military inventions annually developed by defense R&D institutes was
able to be popularized and less than 3% were eventually adopted for large-scale
serial production.[9]
A principal reason
behind the ineffectiveness of the diffusion process is the lack of incentives
that research institutions have to pursue their activities to fruition in the
marketplace or on the production line. Most importantly, the absence of an
effective patents system and intellectual property rights culture has meant that
researchers and their institutions have received little or no reward from the
exploitation of their work.[10]
Without any benefits to provide encouragement, scientists and engineers have
had little motivation to carry on with the development of their research output
for commercial dissemination.
Diffusion of defense
technological R&D has also been obstructed by other factors. The backward
state of the military technical standards regime has been one bottleneck.
Another obstacle has been the dominance of technology push in R&D projects,
in which government requirements have determined priorities and goals and the
demands of end-users have been ignored.[11]
Yet another deficiency has been the lack of a comprehensive regulatory
framework to provide rules and laws to guide the development of the commercialization
of defense S&T achievements.[12]
Concerns over the potential leaking of defense secrets have also been a
powerful barrier to preventing dissemination flows.
Steps have been taken
to strengthen the organizational mechanisms to promote diffusion since the late
1990s. This includes the establishment of defense technological commercialization
centers such as the Ordnance Industry’s
These efforts will
likely see an incremental improvement in technology dissemination over the
long-term, but the fundamental cultural and structural barriers that have
impeded diffusion flows remain deeply ingrained in the defense industrial
R&D apparatus. Any improvement in the mechanisms and processes to enhance
diffusion over the next couple of decades will be limited and gradual,
especially in the absence of high level political attention.
Chinese defense and
economic policy-makers engaged in an intensive debate over the development of a
dual-use civil-military strategy from the late 1990s to the early part of this
decade as part of overall efforts to chart the long-term course of the
country’s economic and military industrial development. The policy outcome that
emerged from these deliberations was a new set of guiding principles contained
in the 10th Five Year Plan that replaced Deng Xiaoping’s original 16
character policy that was laid down at the end of the 1970s that called for a
far-reaching demilitarization of the defense-industrial complex.[13]
This new 16 character
list of principles were: “Junmin Jiehe (Combining
Civil and Military Needs), Yujun Yumin (Locating
Military Potential in Civilian Capabilities),
Dali Xietong (Vigorously Promoting Coordination and Cooperation), Zizhu Chuangxin” (Conducting
Independent Innovation).[14] The
most important of these concepts is Yujun
Yumin that refers most directly to the forging of an integrated
civil-military dual-use system, especially the establishment of a civilian apparatus
that has the technological and industrial capabilities to meet the needs of the
military and defense economy.
The third plenum of
the 16th Party Congress in 2003 gave the go-ahead for the
construction of a new civilian technological and industrial base with embedded
military capabilities. “The Decision of the Chinese Communist Party Committee
on Several Issues in Perfecting the Socialist Market Economy” called for the
building of an innovative “Junmin Jiehe,
Yujun Yumin”-based system that focuses on the “mutual promotion and
coordinated development of the defense and civilian technological sectors.”[15]
This elevated the Yujun Yumin guiding
principle into the strategic outline for the future dual-use economy.
This decision to press
for an amalgamated civil-military technological and industrial base was
described by MOST Minister Xu Guanhua as of far-reaching strategic significance
for protecting the country’s national security and strengthening its innovation
system.[16]
Another senior MOST official said that the decision would have important
ramifications for the coordinated development of the technological capabilities
of the civilian and defense sectors over the next couple of decades.[17]
The structural reform
and downsizing of the defense industry since the late 1990s has created a
strategic opportunity for the involvement of civilian enterprises with no prior
participation in defense industrial operations. A central goal of the overhaul
of the defense economy is to establish a small inner core of dedicated defense
prime contractors that is complimented by a large supporting base of secondary
sub-contractors.[18] The defense industrial
bureaucracy is keen to attract not only existing military and former military
entities into this outer pool but also mainstream civilian companies with
advanced expertise and technology in areas of high military demand.[19]
To attract civilian
participation in this scheme, COSTIND has organized exhibitions and conferences
targeting the participation of non-governmental enterprises. One of the first
events took place in the spring of 2004 and was an exhibition entitled
“Civilian Industrial Enterprises and Technological Products Participating in Defense
Construction” that was attended by nearly 150 firms, many of whom were non-state
entities.[20]
The building of the
Chinese dual-use economy is in its infancy and the task of the laying of the
foundation stones of this ambitious new system will require the full attention
and active support of the country’s leadership over the course of at least the
next couple of decades. A key task of the medium and long-term (2006-2020) plan
for the development of the country’s science and technology system is the
forging of the Yujun Yumin system.[21]
The future dual-use
economy will essentially consist of two distinct but connected parts. One is a
new high-technology-focused base that is embedded within the civilian economy.
The bulk of the entities that will be linked into this new apparatus will be
non-governmental civilian companies engaged in industries such as information
and communications technology, nano-technology and electronics. They will
include R&D-intensive enterprises that are leaders in product innovation as
well as component sub-contractors. The other half of the dual-use economy will
be largely made up of legacy state-owned defense industrial entities that are
seeking to transform themselves into more nimble, new technology outfits able
to meet the information warfare needs of the military.
The future performance
and shape of the dual-use economy will depend on how two critical tasks are
implemented. The first is the type of rules, routines, established practices
and laws that will be drawn up and applied, as this will define the operating
framework and guide the activities of the actors involved in this system. Will
the focus be, for example, on transparency, market-based rather than
administrative regulations, rules that seek to promote interaction and
openness, and the adoption of commercially accepted business practices and
standards? Many of these concepts and practices are alien to the defense
economy and its willingness to adapt and conform to a more open system will
significantly determine how well the Yujun
Yumin system will be able to initiate and diffuse innovation.
As major portions of
the foundations of the dual-use economy will be built on the existing defense
industrial apparatus, the second crucial issue is how far and how fast the
restructuring of the current defense economy will take place. This includes the
overhaul of key institutional arrangements such as the acquisition and
standards systems as well as organizational reforms to the management and
enterprise system.
The potential benefits
from the establishment of an effective and capable dual-use economy are
numerous and wide-ranging. Fundamentally, this will lead to the building of an
environment that will be more encouraging and supportive of the kinds of
innovation and leap-frogging activities that the Chinese authorities are
actively seeking to promote. This includes the marrying of commercial
entrepreneurship and risk-taking with the support of substantial state
resources and R&D capabilities. If successful, the results should be the
development of technology and equipment that is cheaper, better and available
in shorter timescales.
A strenuous reform effort has enabled the Chinese defense industry to make long-awaited generational advances in the development and production of weapons systems. While this progress is significant, the defense industry still lags between one to two generations behind the latest global standards in many areas. Can the defense industry maintain this reform momentum and continue to advance up the ladder of technological innovation?
Some military planners point out that the defence industry “must not follow the conventional path of development”, but must instead “act with daring to skip certain stages” of the modernisation process[22] and focus on the adoption of transformational information technology-related capabilities in place of conventional mechanized systems. This alternative pathway to modernisation though entails considerable risks. It involves the development of unproven technologies, the diversion of substantial resources from other parts of the defense industry, and the unpredictable nature of the technological development process.
The risks are even higher if the focus is on the development of ‘frontier’ technologies rather than the adaptation and imitation of already existing designs and products. Moreover, much of the information technology-related knowledge and technology lies outside of the boundaries of the defense industry and within the civilian and dual use sectors. This means that the establishment of an effective dual-use technological and industrial base is critical.
The Chinese defense industry would also
need to devote significantly more capital investment and other resources if it
is to realistically pursue the goal of catching up the world’s advanced
military industrial powers. In the late 1990s, China’s defence S&T budget
was reported to be equivalent to just 5% of the amount that the US spent in the
same area,[23] although R&D
expenditures have surged over the past decade as part of an overall effort by
the state authorities to boost S&T spending in general. This huge gap in funding strongly suggests
that any Chinese broad-based leapfrogging efforts would fall far short of
reaching the technological standards enjoyed by the
A more attainable strategy is the concentration of limited resources in a select number of areas where chances of success in narrowing technological gaps are greatest. These pockets of technological excellence include portions of the dual-use information and communications technology dual-use sectors and elements of the missile, aviation, space and shipbuilding industries.
[1] Zhang Zhaoyin, “Firmly Seize the Period of Important Strategic
Opportunities to Promote Leap-Type Development”, Jiefangjun Bao,
[2] For a more detailed and extensive treatment of this topic, see Tai Ming Cheung, Remaking of the Chinese Defense Economy: Nurturing Innovation, Forging Civil-Military Integration (Forthcoming).
[3] “Defense Industry Reaps US$2.5b in Profits”,
[4] Jiao Qiuguang (Chief Ed), Junshi Zhuangbei Guanli Xue (The
Study of Military Armaments Management) (
[5] Kong Xianlun (Chief
Ed), Jungong
Biaozhunhua [Military Standardization] (
[6] US Department of Defense, Office of the Undersecretary of Defense
(Acquisition, Technology & Logistics) Logistics Plans & Programs MilSpec
Reform: A Final Report (Washington; Defense Standardization Program
Office, April 2001), p11.
[7] US Defence Department, Annual Report to Congress: Military Power of the People’s Republic of
China 2007 http://www.defenselink.mil/pubs/pdfs/070523-China-Military-Power-final.pdf p28.
[8] Mikhail Kukushkin, “
[9] Zhu Qinglin and Meng
Renzhong (Chief Eds), Zhongguo Caijun Yu Guofang Ziyuan Peizhi
Yanjiu [China’s Disarmament and Research into the Disposal of Defense
Resources] (Beijing: Junshi Kexue Chubanshe [Military Sciences Press], 1999),
p152-153; and Xin Guoping, “Research on the
Industrialisation and Commercialisation of Science and Technology Achievements
from Military Industry”, Ranqi Wolun Shiyan Yu Yanjiu [Gas
Turbine Experimentation and Research], No.2, Vol. 14, 2001, pp55-58. The
commercialisation rate for the NDSTU was 3 percent. See Zeng Huafeng (Ed), Zhujian Weili (Casting Swords
into Ploughshares), (
[10] See Du Ying, “Guofang Jishu Zhishi Chanquan Baohu Yanjiu” [Research
into the Protection of Defence Technological Intellectual Property Rights], Zhishi
Chanquan [Intellectual Property], April 2002, pp21-24.
[11] Carl J. Dahlman and Jean‑Eric Aubert, China and the Knowledge Economy
(
[12] Chen Lin & Chen Kai, “Tuiguang Zhuanhua Gongzuo” [Working to
Transform Popularisation], Guofang Keji Gongye, March 2003,
pp36-37.
[13] Zhang Nanzheng & Zhang Shengwang (Eds), Dangdai Guofang Jingji Lilun
Qianyan Wenti Yanjiu [Research into the Forward Problems of
Contemporary Defence Economic Theory] (
[14] “Outline of the 10th People’s Republic of
[15] “’Decision’ on the Direction of the Science and Technology Industry”, Zhongguo Gaoxin Jishu Changye Daobao [China High New Technology Industry Newspaper], 29 October 2003, http://www.cutech.edu.cn/zhonghe/000070.asp
[16] “Goujian Junmin Ronghe De Chuangxin Tixi” [The Construction of a Merged Civil-Military Innovation System],], Liaowang, 24 November 2003, p24.
[17] “Sanzhong Quanhui Shi Zhongguo Keji Tizhi Gaige De Desange Lichengbei” [The Third Plenum is the Third Milestone in the Reform of China’s Science and Technology System], Zhongxinwang [China News Network], 22 October 2003.
[18] See Sun Guangyun, Zhongguo Guofang Keji Gongyede Gaigehe
Fazhan Wenti (The Problems of the Reform and Development of the Chinese
Defence Technology Industry (
[19] See Wu Yuanping, Zhao Xinli & Zhao Junjie, Xin Zhongguo Guofang Keji Tixi De Xingcheng Yu Fazhan Yanjiu [Research into the Formation and Development of New China’s Defence Science and Technology System] (Beijing: Guofang Chubanshe [Defence Industry Press], 2006), pp389-400.
[20] “Tuozhan ‘Minpin Junyong’ De Guofang Jianshe Xin Luzi” [Expand the
[21] “Wen Zongli Shitiao Zhidao Fangzhen, Yunniang Zhongde Zhongchangqi Keji Jihua” [Premier Wen Holds Deliberations on the Ten Guiding Principles of the Medium and Long Term Science and Technology Plan], Liaowang, 27 March 2004.
[22] Fan Xizhong, “Grasp the Core of Informization”, Jiefangjun
Bao, 8 February 2004, p2, in FBIS, 8 February 2004.
[23] Liu Jingshu, “New
Military Changes in the World and Research on the Distribution of China’s Defense
Economic Resources”, Junshi Jingji Yanjiu (Military
Economic Research), March 2004, p6.