Towards a Better Understanding of “Forced Technology Transfer” Policies in China and Their Strategic Implications

In August 2017, President Trump issued an executive order setting in motion an investigation of China’s trade policies including IP, technology transfer, and investment policies. The “Section 301” report on this investigation came out earlier this year. The Report itself uses the word “force” or “forced” 47 times and identifies a range of practices that result in “forced technology transfer.” However, there is a significant amount we still do not know regarding how these controversial Chinese policies actually work and the degree to which a technology owner’s behavior has in fact been compelled by state actors. A new paper by Dan Prud’homme, Max von Zedtwitz, Joachim Jan Thraen, and Martin Bader published in Technological Forecasting & Social Change explores this important issue.

The authors evaluate the ability of “forced technology transfer” (FTT) policies – which they define as policies meant to increase foreign-domestic technology transfer that simultaneously weaken appropriability of foreign innovations – to contribute to technology transfer. They draw on a survey of foreign firms, interviews with foreign firms, and case studies of Chinese firms.

The authors identify three categories of FTT policies that have significantly impacted foreign-Sino technology transfer in recent years:

(1) Policies which risk market loss (including market access preconditioned on meeting technology transfer requirements),

(2)  Policies that offer no choice regarding compliance (including unfair court rulings in IP civil litigation), and

(3) Policies that are based on legal obligations (including provisions in the technology import-export regulations; and certain policies related to the intersection of anti-trust and IP, and IP and technical standards).

Several other controversial policies were also identified, including disclosure of confidential business information through regulatory approvals, pharma patent issues, and certain tax schemes and subsidies.

The authors find that, with the exception of no-choice policies, foreign firms are allowed some flexibility to decide whether or not they want to comply with China’s FTT policies. Therefore, even though non-compliance with the policies is always met with consequences, the technology is not actually “forced” against a party’s will. After noting this limitation of the term, the authors explain that they retain the term “FTT policies” in their research for readability and because it is part of well-established lingo, but only use it to the extent that it meets their aforementioned definition.

Much of the research focuses on foreign-Sino transfer of frontier technology, i.e. the most advanced technology emerging from research and development which is generally not at the point of mass commercial adoption. According to the authors, not only the design of FTT policies per se helps determine if they exert substantial leverage over (i.e., force) frontier technology transfer, but the environment in which they are deployed is equally important. The authors find that FTT policies appear to exert the most leverage over frontier technology transfer when accompanied by seven conditions: (1) strong state support for industrial growth; (2) oligopoly competition; (3) other policies closely complementing FTT policies; (4) high technological uncertainty; (5) policy mode of operation offering basic appropriability and tailored to industrial  structure; (6) reform avoidance by the state, and (7) stringent policy compliance mechanisms.

Based on each of these conditions, the authors developed an FTT Strategy & Risk Forecasting Matrix with corresponding strategies the state may adopt to fully exploit, i.e. maximize the leverage of, FTT policies.

The authors’ analysis has several possible implications for technology transfer policymaking. In the authors’ view, Chinese FTT policies may enable domestic acquisition of frontier foreign technology if all seven conditions determining policy leverage are fully exploited by the state. However, if the state does not fully exploit all seven conditions, the FTT policies have less leverage. Moreover, if the state exploits none or only a few of the conditions, the FTT policies may result in a lose-lose game where foreign firms are discouraged from transferring valuable technology and domestic firms’ acquisition of new technology is made more difficult.

With this analysis, the authors provide evidence that can be used to appeal to the Chinese authorities to change some of their FTT policies: some of the policies are actually counterproductive in meeting their aims. The risks of loss of technology acquisition posed by Chinese policies is an important phenomenon which this blog has also identified, particularly as an unintended consequence of China’s Technology Import/Export Regulations (especially for start-ups and litigation-prone technologies, but also for technological collaboration) and which has been mentioned by the US Chamber of Commerce in its IP Index and its report on licensing.

The authors argue that in order to increase the chance that FTT policies will spur sustained transfer of frontier technology, Chinese regulators should not deprive foreign firms of  minimum level of appropriability. The policies should also allow foreign firms to benefit in at least minor ways from technology transfer arrangements.

The research also has important implications for technology strategy formulation and risk management. The authors’ FTT Strategy & Risk Forecasting Matrix can guide foreign firms to anticipate risks associated with FTT policies and serve as a starting point for understanding how to further quantify or mitigate these risks. The risks are of course compounded by potential trade secret theft, cyber intrusions, and less formal pressure points on foreign licensors to assign or transfer their technology in China. And these risks must be considered alongside major rising challenges to doing business in China, which Prud’homme and Zedtwitz have also discussed (in MIT Sloan Management Review), including: problematic areas of regulation in China and rising competition from Chinese rivals in terms of their recruiting and retaining top talent, more large-scale and strategic use of intellectual property, and ever faster time-to-market of products and services. Mitigating these many risks requires carefully integrated intellectual property, innovation, non-market, and human capital strategies, alongside yet other responses.

Edited of June 23, 2018:  An interview with Prof. Liu Chuntian of Renmin U. Law School on this same topic of forced technology transfer is found on page 2 of the People’s Daily (June 22, 2018, 2nd edition) (reporter Wang Yu)   A machine translation by Google is found here.  Liu focuses primarily on market access as a separate discpline from intellectual property under the WTO and as being essentially voluntary; he does not support formal and informal incentives in place (including the Technology Import/Export Regulations as noted in the article by Dan Prud’homme.

Edit of July 15, 2018: Here’s a link to Prof Prud’homme’s article outside of a paywall.  It may only be available for a short period of time.

US-China Security Commission – Readout of Hearing on June 8, 2018

On June 8, 2018, I testified before the US-China Economic and Security Review Commission on “U.S. Tools to Address Chinese Market Distortions.” This was my second time testifying in the past three years.  My written submission is available here.  The written submissions of other speakers, including a video of the proceedings is available through this link.  The presentations of my colleagues were all excellent.

I suggested several non-tariff alternatives for dealing with IP-related concerns with China, and underscored the necessity of developing appropriate domestic government structures to engage China on technology and innovation issues.  For example, the Commission seemed generally supportive of raising the diplomatic rank of USPTO attaches overseas.   I also discussed the importance of data-driven analysis, including use of the case database to look at how foreigners actually fare in the courts.  The Commission seemed skeptical that the data captured some of the more egregious judicial cases of foreign mistreatment, which they viewed as undercutting the credibility of the data that is being generated.  In my written submission, I encouraged the Commission to consider a hearing devoted solely to transparency in the courts.

The President’s recent decision to impose tariffs on Chinese imports in response to Chinese IP practices may render many of suggestions superfluous for now.  Nonetheless, I believe the increasing complexity of China’s IP and innovation environment are issues that cannot be ignored.  As I noted in my written testimony:

“The US experience suggests that innovation flourishes in open ecosystems where there is a free flow of capital, talent and technology. At the same time, the US needs to address mercantilistic practices which not only pose competitive threats to the United States but can also undermine the innovative ecosystems that have driven growth in the US economy, such as exist in Silicon Valley. Any steps taken to reduce collaboration with China or any other country needs to be carefully evaluated about its potential impact on our own technological competitiveness.”

In a separate, but nonetheless related matter, I spoke at the IPBC Global 2018 Conference in San Francisco on June 12 regarding developments in IP monetization in China.  Here’s a good summary of my presentation.  I thought one of the more telling moments in the panel I participated in involved China’s Technology Import/Export Regulations.   One lawyer acknowledged that “the regulations are stupid” and that “what we try to do is have parties to a technology transaction acknowledge that the regulations exist and agree not to enforce them.”  I discussed the regulations as potential “landmines” which could be invoked at a later time by a licensee.  Many licensors appeared to be unaware of these regulations.

US Files Consultation Request at WTO on Chinese Technology Licensing Practices

Fresh on the heels of the Section 301 announcement, USTR on March 23, 2018 made a  consultation request  of China regarding China’s discriminatory licensing practices.  This is the first step in initiation of  a WTO dispute.  Here is a link to the press announcement.

The consultation request broadly speaking alleges discriminatory treatment in licensing pursuant to China’s joint venture regime as well as the  Administration of Technology Import/Export Regulations (“TIER”), as compared to provisions under China’s contract law that may govern purely domestic technology transfers or Chinese exports of technology.  The complaint is based on the National Treatment provisions of the TRIPS agreement as well as Article 28.2, which provides that “Patent owners shall also have the right to assign, or transfer by succession, the patent and to conclude licensing contracts.”  The Section 301 Report of USTR also discusses these issues.

Update of June 2, 2018:  On June 1, the EU filed its own complaint against China at the WTO involving China’s technology licensing practices, including the TIER.  A copy of the request for consultations, which appears somewhat more extensive is available here.