WHITE PAPER THEFT NATION: HOW IP THEFT DRIVES THE CHINESE NATIONAL BUSINESS MODEL, AND ITS EFFECT UPON THE GLOBAL ECONOMY by Evan R. Anderson Foreward by Mark R. Anderson INVNT/IP NOFORN/PROPRIETARY 07/05/15 A Publication of the INVNT/IP Consortium, A Global Initiative Sponsored by the Strategic News Service 1 On Intellectual Property Theft “There are two kinds of big companies in the United States. There are those who’ve been hacked by the Chinese and there are those who don’t know they’ve been hacked by the Chinese.”1—James Comey, Director, FBI “The ongoing cyber-thefts from the networks of public and private organizations, including Fortune 500 companies, represent the greatest transfer of wealth in human history.”2 —Gen. Keith Alexander, Former Director, US Cyber Command and the National Security Agency “Nation-states like China are stealing intellectual property at a breathtaking pace, taking it back, repurposing and then using it to compete against those very same companies around the world, at a huge disadvantage to the company they just stole it from.” —Mike Rogers, Former House Intelligence Committee Chairman “From the US Congress, to the Department of Defense, to the private sector, we have never, ever not found Chinese malware embedded in a system so that they can extract it.”3—Vice Admiral Mike McConnell, Senior Executive Advisor, Booz Allen Hamilton; Former Director, National Security Agency “Cyber threats pose one of the most serious economic and national security challenges to the United States, and my Administration is pursuing a comprehensive strategy to confront them.”—President Barack Obama, in his April 1, 2015, press conference announcing a new sanctions regime via presidential directive “[China is] trying to hack into everything that doesn’t move in America. Stealing commercial secrets ... from defense contractors, stealing huge amounts of government information, all looking for an advantage.” – Hillary Clinton, 2016 US Presidential Candidate “China’s economic cyber espionage ... has grown exponentially in terms of volume and damage done to our nation’s economic future. The Chinese intelligence services that conduct these attacks have little to fear because we have no practical deterrents to that theft. This problem is not going away until that changes.” — Mike Rogers, Former House Intelligence Committee Chairman “All of our nation’s IP is being stolen as we sleep. Literally. And not by some 2-bit hacker, but by countries that say they are our friend…but are paying hackers in their country to steel our best IP and hand it to their companies to gain a competitive edge. We had better wake up and act right now. It truly is grand theft USA, and it scares the hell out of me.”—Kevin Surace, CEO, Appvance 2 On the INVNT/IP Consortium “The best non-classified briefing on China I’ve ever heard.”—Sir Richard Dearlove, KCMG OBE; Former Head of the British Secret Intelligence Service; Master, Pembroke College “You are addressing a rich problem of strategic proportions – and it will take all the executive bandwidth in the USA to prevent nation-sponsored theft of IP.”—Vice Admiral Mike McConnell, Senior Executive Advisor, Booz Allen Hamilton; Former Director, National Security Agency “I’ll do everything I can to help INVNT/IP.”—Kevin Mandia, SVP and COO, FireEye; Founder and Former CEO, Mandiant “INVNT/IP is doing God’s work.”—Scott Taylor, Executive Vice President, General Counsel, and Corporate Secretary, Symantec “I have talked with everyone involved with this problem. No one knows more about China’s IP theft practices than [INVNT/IP CEO] Mark Anderson.”—Kevin Swailes, Executive Leader, Global Intellectual Property Protection Center of Excellence, General Electric “INVNT/IP was the first to bring this critical problem to Washington’s attention....”—Richard Marshall, CEO, XSES; Former Director, Global Cyber Security Management, National Cyber Security Division, Department of Homeland Security (DHS), by special arrangement between the director, National Security Agency (DIRNSA) and the Secretary of DHS 3 Critical Acclaim for Theft Nation: “Brilliant work.”—Richard Marshall, CEO, XSES; Former Director, Global Cyber Security Management, National Cyber Security Division, Department of Homeland Security (DHS), by special arrangement between the director, National Security Agency (DIRNSA) and the Secretary of DHS “China’s economic model is laid out better in this paper than in any other place I’ve ever seen, with all of the moving parts – an incredible accomplishment.” – Larry Smarr, Founding Director, Calit2 (a UCSD / UCI partnership) “The issues that Theft Nation deals with will shape not just the business environment of today and tomorrow, but literally geopolitics itself. They cut across everything from the competitiveness of individual firms to the future of both China and the US. It is a core matter that the Consortium has taken on. Well done!”—P.W. Singer, author of Ghost Fleet: A Novel of the Next World War and Cybersecurity and Cyberwar: What Everyone Needs to Know “You do a strong job of marshaling relevant information to make the case that the Chinese national program is new and different in its scale, scope, aggressiveness and – above all – in the degree of state orchestration.”— Bill Janeway, Author, Doing Capitalism in the Innovation Economy; and Managing Director, Technology, Media and Communications, Warburg Pincus “This is great work.”—David Cox, CEO, MiMTiD “The best overview of a big problem I have seen in years. This paper is a sure wake-up call to those still asleep.”—Kevin Surace, CEO, Appvance “The pirates of the planet – and this includes some nation states – are using economic espionage to alter the balance of power among nations and undermine the competitiveness of US businesses. INVNT/IP has researched this dangerous trend and started a dialogue that is seriously overdue if we are to protect US national and economic security interests.” – Jody Westby, Founder and CEO, GlobalCyberRisk.com; and Columnist, Forbes. 4 Table of Contents OVERVIEW FOREWORD 7 INTRODUCTION 10 EXECUTIVE SUMMARY 11 THE VALUE OF INTELLECTUAL PROPERTY 12 technology and the global economy 12 understanding wealth 12 national business models: a new age 14 cheap labor: the sole driver of growth? 15 MEASURING INTELLECTUAL PROPERTY 19 patents and pretense: substantive or junk? 19 going further: ip’s deeper role 21 defining value 22 CHINA UNVEILED 24 THE CHINESE ECONOMY: THE INCEPTION OF GLOBAL INFOMERcantilism 24 indigenous innovation: a lasting policy 25 bogus banking: an artificial financial system 26 currency manipulation: “pegging” and china’s central bank 31 subsidies over substance 32 who needs profits? operating at a loss for long-term gain 35 legally blind: outlawing foreign competition 38 “THE DEADly DEAL”: WESTERN GREED, CHINESE NEED, AND HOW TO BE playED FOR A FOOL 40 CASE STUDY: HUAWEI’S RISE 44 innovating theft 44 banking on support 50 low wages, low imports, low prices 51 exports away 51 market domination: sitting pretty 52 DESCRIBING THE LOSS: “TELL ME WHEN IT HURts” 56 A BROAD APPLICATION WITH BROAD IMPLICATIONS 60 the tip of the iceberg: publicly declared losses from chinese ip theft to date 61 numbers to remember 68 APPENDICES: 69 appendix a: the 402 sectors of the 12th mlp 69 appendix b: the invnt/ip attack database 79 appendix c: 7 memes to ignore 82 appendix d: methodology 85 citatiONS 87 5 6 Foreword In the post-Information Age, technology drives every sector of the global economy. Today, nations can best be described not by their politics, but by their business models, and so fall into two distinct groups: those that have chosen invention for increasing productivity and positive economic outcomes, and those that have based their national business model on stealing those inventions. Unfortunately for Inventing Nations, and, in the long term, for the global economy, China has chosen the latter, which we have labeled “InfoMercantilism.” This paper describes, for the first time, how all of the major parts of this Chinese model are integrated into a single economic engine, what part Intellectual Property (IP) theft and forced IP disclosure play in making it work, and how these thefts are converted into global domination of targeted industries. Although illegal in almost every sense, there is no doubt that the InfoMercantilist model works. It is not surprising that, when there are no police to call, bank robbers make out “like bandits.” And today, enforcement is the exception, which is the reason for this white paper. The world needs to learn about China’s national business model, how it works, and what will happen to Inventing Nations if it continues unchecked. It is not enough to say “China steals,” or “China’s banks are not banks,” or other similar complaints, just as it is not enough for individual Cabinet-level officials – or even country leaders – to attack these individual transgressions through their own departments and countries. Nothing that has been done to date, no matter how well-intentioned, has slowed China’s use of the InfoMercantilist model; in fact, China continues to ramp these practices while doing everything possible to keep its economic victims – its trading partners – quiet and at bay. Legislators interested in solving this problem always (justifiably) ask for numbers. Having reviewed the best numbers available to Congress and the UK Parliament, we find the supporting research generally well-intended, but insufficiently informed of the connection between technology and economics, and of the focused negative results stemming from large-scale “InfoMerc” practices. The government-sponsored UK paper most often cited completely ignores the valuing of stolen crown jewel intellectual property (the most valuable type of IP), because this work is “too difficult.” And the most-cited US study applies a 6% across-the-board figure for damages, a practice subsequently (and properly) ridiculed in Congressional committee.