Thomas Donahue is a Cipher Brief expert and former Senior Director for Cyber Operations on the U.S. National Security Council Staff. His article was originally published by National Defense University Press PRISM.
In case you missed it, you can read The Worst Possible Day: US Telecommunication and Huawei – Pt. 1 here
Options for the Nation
Given the shortfalls of a “just say no” policy, the United States will need to compete in the telecommunications equipment integration sector, both in terms of products and trade strategy. The U.S. Government typically seeks to use procurement for federal networks and research and development investment as the primary levers for influencing high technology. U.S. industry already leads in component and subsystem technologies (notably in optics); however, that advantage has not overcome the boom and bust cycles of the equipment integration market. Thus, a new element will be required that will involve some combination of direct investment, subsidies, loans, and tax incentives as has been done for other industries, either for national security purposes or to preserve national economic or industrial capabilities. In addition, the USG could include preferred telecommunications equipment manufacturers (no matter where they are from) in U.S. trade, defense, and foreign policy packages that the United States seeks to implement with other nations that are upgrading their telecommunications infrastructure.
Similar ideas have been raised before, including by this author and by James Lewis of the Center for Strategic and International Studies. Lewis cited three options: build networks from insecure components, build a national champion, or subsidize European producers. According to Lewis, the Obama Administration considered funding a national champion using the Defense Production Act, “but it could at most allocate 1 percent of what China spent. The discussion of how to respond to the telecom problem made it as far as a Deputies Committee meeting, but none of the major information technology companies wanted to reenter this field. Though a few medium-size companies could have been candidates for investment, the administration ultimately decided to rely on Google and Silicon Valley to innovate our way out of the problem without the need for the government to spend anything.”
The U.S. Defense Science Board’s June 2019 report on “Defense Applications of 5G Network Technology” notes that “the lack of a U.S. integrator and Radio Access Network vendor industrial base” creates challenges. The report recommends that the Department of Defense “should provide seed funding for western industrial base alternatives of key system components, e.g., Radio Access Networks.”
The scale of investment required—as can be seen from the size of the European companies—would require the U.S. Congress to appropriate additional funds, even if implemented under existing authorities, such as Title III of the Defense Production Act (annual appropriations typically range only in the 10s to 100s of millions of dollars). Ericsson and Nokia each employ about 100,000 or more workers (although not just for telecommunications integrated equipment manufacturing), and each as of 2018 had net equities in the range of $10-20 billion and net assets in the range of $25–45 billion. Nokia spent $16.6 billion acquiring Alcatel–Lucent in 2016.
Maintaining leadership requires huge research investments. Huawei is participating comprehensively in the international standards process and makes large investments in research and development, now increasing to $15–20 billion per year from levels of $13–15 billion in 2017–18. European firms lag significantly. Nokia has increased investment in research and development to about 20 percent of its revenue or roughly $5 billion per year after a significant decline during 2013–15. In addition, the European Investment Bank in August 2018 provided a $583 million five-year loan to Nokia in 2018, and Canada in January 2019 provided Nokia with a $40 million research grant. Ericsson in 2017 increased investments to at least 15 percent of its revenue—a bit more than $4 billion per year—despite concurrent net income losses.
The major U.S. telecommunications service providers with operations in the United States and abroad would need to be included at least in the planning process for such an investment policy given that they would be the ultimate customers for most of the equipment, have expertise on the markets and systems and, most likely, would serve as the final systems integrators and operators during implementation and deployment. Indeed, the service providers could be provided incentives to participate directly in the investment strategy; however, they are also burdened with high levels of debt from capital expenditures. Other operators of critical infrastructure (financial systems, electric power, oil and gas distribution, transportation, etc.) also might benefit by participating in the planning and investments.
The following three options are not mutually exclusive.
Option 1: Champion the European and South Korean Companies
U.S. telecommunications infrastructure already depends on Ericsson and Nokia (and to a much lesser degree on Samsung), each of which have a significant economic presence through their U.S. subsidiaries. As noted previously, these companies include some of the residual capabilities that once belonged to now-defunct U.S. integrated telecommunications equipment companies. The USG, perhaps working primarily through the U.S. subsidiaries, might be able support these companies with stock investments, tax policies, debt guarantees, loans, and procurements, particularly to stabilize their finances and to boost their research and development investments that lag significantly behind those of Huawei. Both companies have undergone significant adjustments in management and business portfolios to stabilize their financial situation while investing for future growth. Both companies expect global demand to grow as most countries seek to take advantage of the benefits of 5G. In the unlikely event that the two Nordic companies merged to gain economies of scale relative to Huawei (despite potential EU, Chinese, and U.S. anti-monopoly concerns and challenges merging product lines), the USG could support the new merged entity in the same way.
As a sign of the Samsung’s commitment to diversifying its product line, press reports in July 2019 indicated that Samsung plans to invest more than $100 billion over the next 10 years to gain prominence in global chip processors. Samsung, however, in November 2019 announced the closure of its US-based research lab for mobile phone chips after failing to win market share from Qualcomm from external customers.
Option 2: U.S. Entities Acquire Either or Both European Companies
If the United States needs to have a home-based champion for 5G and beyond, the fastest approach might involve working with the private sector to acquire a controlling interest in parts of one of the existing European companies, possibly using authorities under the Defense Production Act Title III or else with a separate Congressional authorization. Nokia Networks would be the primary division of interest from Nokia along with Bell Labs, and Business Area Networks would be the key division within Ericsson. Samsung’s 5G segment may not be a good target for acquisition because it has much less market share and is part of a growth strategy for the otherwise very large vertically integrated South Korean conglomerate.
- The USG could use past models of loan guarantees, tax incentives, and direct investment. Either of these companies would benefit from significant U.S.-based investment and more innovative and agile management to help them stabilize their finances and close the gap in research and development that these companies have with Huawei.
- Both companies have significant presence in the United States and recently have sought to expand their U.S. research and production. For example, Ericsson plans to open a fully automated factory for advanced antenna systems in the United States by 2020 and previously set up a design center in Texas for 5G-related application specific integrated circuits (ASICs). Nokia is expanding its operations in Texas and operates the original Bell Labs facilities in New Jersey.
- These companies, however, are major contributors to the economies of their home countries, suggesting a major acquisition might be resisted by those governments and the European Union.
- For example, Nokia owns Alcatel Submarine (undersea cables) that competes with the U.S. company now known as Subcom, as well as the optical networking capabilities of Alcatel–Lucent, and is likely to be seen by the Europeans (particularly Paris) as an asset that needs to remain European. Meanwhile, Ericsson is not a major player in optical networks and depends more on microwave for backhaul communications.
- In addition, these companies have facets unrelated to integrated telecommunications equipment manufacturing that are, in part, artifacts of prior mergers and acquisitions. Culling out the equipment manufacturing alone, however, might leave behind unsustainable business organizations. Also, as Lucent experienced, the equipment manufacturing by itself may not be sustainable through demand cycles. These companies also have existing business arrangements and obligations, in some cases with China, that may create complications for U.S. trade policy.
Option 3: Create a U.S.-Based Consortium
The USG could seek to create business conditions through a combination of procurement, investment, and financing to bring together the robust, diverse capabilities of existing U.S. private sector capabilities and patent rights that foreign integrated telecommunications equipment manufacturers already depend on under an integrated corporate management. Private equity could supplement USG funds, leading over time to an eventual reduction in the share of government investment while maintaining U.S. financial guarantees and trade support in the background.
Over time, this “consortium” could be led by a “prime” company comparable to the big integration companies that dominate U.S. defense contracting. Such an entity could add or even subtract “sub-prime” capabilities as needed in accordance with changes in technology, fluctuating demand, and maturation of national infrastructures. Again, the USG could use combinations of past strategies to drive the formation of this consortium, with the ultimate goal of leaving the private sector in control.
- Rather than be treated as direct competitors, Nokia and Ericsson could contribute subsystems (particularly for radio access networks)—as might other companies from trusted international partners, notably the Five Eyes, Germany, France, Japan, and South Korea.
- Such an approach could in effect create a single, trusted U.S.-based, international consortium with the financial backing of the USG for use by U.S. allies and any nation that would trust such an alliance more than Chinese providers.
- Success would depend on a competitive pricing strategy in combination with U.S. and allied incentives to participate. Such a consortium also would benefit from strong relationships with the U.S. and allied defense departments and ministries.
A Bottom Line Comparison of Options
Each option involves positive and negative tradeoffs. All of them face potential resistance from overseas, including the Nordic countries, the EU (especially France), and possibly China. The resistance could be regulatory or through the WTO.
- Support to an existing foreign firm would involve the least commitment from either the USG or private sector; however, this option offers the least influence or certainty of a useful result.
- Buying one of the two Nordic firms would be easier than creating a new corporate entity and the fastest way back into the telecommunications equipment integration business but would require greater investment than simply supporting a firm with its current ownership. The United States would not have as much leverage on the outcome as would occur with the purchase of both firms.
- Creating a new consortium would be the hardest to implement in terms of creating product lines, gaining market share, and licensing patents but would offer the greatest control of the outcome and thus the best opportunity to invest for longer-term technologies. As a result, this option potentially would require the greatest investment but also has the potential for the greatest return in terms of U.S. jobs and stimulating the U.S. high-technology sector.
Economic success of the strategy would depend on international trust of the equipment provider. In some parts of the world, U.S. ownership would provide comfort; however, in other parts of the world even some friendly countries might prefer “neutral” European products, a potentially useful outcome if the U.S. policy goals include not undermining a viable European competitor. In any case, western entities will need to persuade potential customers that the reliability and quality of products combined with transparent security policies is an attractive feature in comparison to what is offered by Chinese alternatives.
The final implementation of 5G will represent more than an upgrade to 4G technology components; the new systems over many years will evolve to a fundamentally different architecture and drive massive changes in the infrastructures and businesses that will benefit from 5G. With this longer perspective in mind, the best U.S. strategy might involve a combination of the options. In the near-term, the United States needs to “get in the game,” perhaps through options 1 or 2, to avoid surrendering future incumbent advantages to China and to gain experience in working with the new systems. For the long run, however, the United States as a second step might need to focus on the broader U.S. high-technology industry with Option 3 to drive innovation and to be in the best position for future generations.
The deployment of 5G technology across all of the infrastructure will take at least 10 years; however, discussion of 6G technology has already begun. In November 2018 a Chinese official claimed that the Ministry of Information and Industry Technology had already begun work on 6G with a view toward initial commercial deployments as early as 2030. Finland’s Oulu University’s 6Genesis Project seeks to develop communication networks with bandwidths over 1 terabit per second with a grant of more than $250 million. As the Finnish researchers note, 6G will build on 5G infrastructure and applications, and thus any investment in 6G will need to build on a prior investment in 5G.
Find a USG Champion
Justification for the amount of resources needed to reboot the nation’s supply chain for integrated telecommunications systems would need to be framed in terms of ongoing U.S. strategies for resilient global command and control systems for national security and for maintaining control of critical infrastructure functions under the most stressful circumstances of a war with a peer adversary, such as Russia or China. This level of demand is a unique national-level governmental requirement and thus must be met at least in part by the USG. The measure of success would be determined by whether U.S. defense and critical infrastructure planners could demonstrate greater resilience against the full spectrum of threats. The U.S. military already is seeking to improve the resilience of critical systems, including for nuclear command, control and communications (NC3).
The biggest player within the USG, and the most likely center point for a successful effort, would have to be DOD. This is the only department with the global reach and mission requirements, technical depth, procurement and large-scale integration experience, budgetary capacity, and existing authorities to handle such a large project. The Office of the Secretary of Defense would need to work with the Joint Chiefs of Staff to incorporate military strategic requirements and with the Department of Homeland Security and other government agencies that work with private sector critical infrastructure.
Conclusion: Resiliency Strategy Must Determine Way Forward
As noted by West Point authors Borghard and Lonergan, the United States needs to examine its policies toward the next generation of telecommunications in the context of strategic requirements for resilient global command and control of U.S. military forces and other U.S. interests, to include how the U.S. military depends on commercial communications. This discussion must consider the worst possible day, not the routine day. The challenge is primarily one of availability on that worst day, not espionage. These requirements abroad and for critical infrastructure at home are uniquely the purview of government, and thus the government must step up and make the strategic investment in what is essentially the central nervous system of the nation. An effort of this magnitude will require a unified approach across the Executive Branch and broad bipartisan support from the U.S. Congress.
Trade policy alone, particularly one given to broader compromise, will not allow the United States to define how other nations choose to implement infrastructure that U.S. national security communications may need to pass through. The United States needs a unified vision of how to compete in terms of technology and closing deals for U.S. advantage. As with the defense industrial base, the USG in the long run should seek to have the private sector operate any new manufacturing capability and thus would need to work in partnership with the industries that best understand the technology and customer needs. The USG would need to stand behind industry efforts to gain deals with other nations—just as it has for other vital industries with national security implications, notably aviation.
The USG, as it has with most national security efforts abroad, would need assistance from traditional national security allies and countries located at what already are or should be key communications junctures. For example, new pathways might be needed that are less vulnerable to disruption as compared to the ones now passing where they are vulnerable to adversary disruption, through areas of dense commercial activities, or in regions of longstanding conflicts. As has been done for some military systems, the United States would need to work with trusted nations that can provide useful technology and manufacturing capacity, in part to gain their support for a new player in the integrated telecommunications marketplace.
It will not be enough for the private sector with government support just to create a company to manufacture and integrate telecommunications systems. The USG, in partnership with the private sector, will need to consider how it will remain competitive over the long term.
- This may require financial support to help industry get through demand lulls, including if demand lags expectations, as occurred from 2000 to 2010, because of slower than expected implementation of applications elsewhere in U.S. infrastructure and businesses.
- In addition, a long-term strategy would require reinvigoration of investment in the hardware elements all across the U.S. high-technology sector that have either moved to Asia or been too long dependent on investments made years ago. A telecommunications equipment integrator based in the United States would provide an anchor for investment in all of the component technologies and their associated supply chains, including future generations of semiconductors. The success of innovation in the U.S. high technology sector will depend on preserving homeland-based manufacturing and supply chain ecosystems.
Key challenges going forward include mobilizing the USG to act and then drawing in the right elements of the private sector as investors or participants in product development. Then the real work would begin with developing a product line that can compete in terms of the best combination of technology, pricing, and financing. Additional incentives from U.S. and allied governments might be needed to overcome incumbent advantages or to walk back some past infrastructure decisions in key, strategic locations.
This will be a “long march” (as China’s President Xi would say). But better to start now than repeat this conversation in 10 years.
In case you missed it, here’s part one of The Worst Possible Day: U.S. Communications and Huawei, by Cipher Brief expert and former Senior Director for Cyber Operations on the U.S. National Security Council Staff. Thomas Donahue.
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