Donald Trump’s trade war with China over steel and aluminum seems like a battle from the last century. It begs the question: What would happen if we had a trade war over things that really mattered, like intellectual property? The counterfeiting of physical goods certainly amounts to billions of dollars in theft, but that doesn’t cover digital goods.
Intellectual property theft, piracy, censorship, and unfair trade barriers can make life tough for tech, entertainment, and game companies. If Trump went after this part of the trade relationship, some experts say that as much as $600 billion a year could be at stake. And if Trump and his nationalistic followers examined the U.S.-China trade relationship in games, what would they find? For sure, it would be easy for them to notice that the biggest game conference in the world, ChinaJoy, just took place in Shanghai with hundreds of thousands of attendees.
A little-noticed report from the U.S. China Economic and Security Review Commission, a research arm of Congress, addressed this issue back in May. It found fairness issues when it comes to trade and competition in video games between the U.S. and China. Legally, U.S. game companies can only enter the Chinese market by licensing the U.S. games to Chinese operators, who use a protected position in the market to generate a larger revenue share from the U.S. companies.
A perfect example of this is World of Warcraft. Blizzard Entertainment, now owned by Activision Blizzard, was only able to take its enormously successful massively multiplayer online role-playing game into China by teaming up with partner The9. Blizzard switched partners in 2009 to NetEase. That helped turn NetEase into China’s second-largest game company and one of the biggest game companies in the world with more than $4 billion in revenues last year.
Assuming Trump heard about this, he would say that’s unfair. Blizzard is forced to share its revenues in China with NetEase, whether it gets value out of that or not. The Chinese government could say this is sound policy because it promotes the health of China’s local game companies, which can in turn produce games that are culturally relevant to the Chinese people. But the U.S. places no restrictions on what the Chinese companies can do in the U.S. In other words, it’s unfair competition. If the Chinese companies can collect profits from their U.S. partners in China, they can use that to compete in the U.S.
For many years, nobody needed to care about this lopsided business competition. China’s game companies couldn’t compete on the world stage against Japan, Europe, and the U.S. game companies. But economists have long considered barriers like this to be economically detrimental to industries. In the 1980s, Japan used the same tactics against the dominant U.S. semiconductor industry. It virtually barred U.S. companies from selling chips to electronics companies in Japan, as the Japanese keiretsu (a group of affiliated companies) had interlocking agreements that kept the foreigners out as they sold chips among themselves.
This allowed Japanese companies to reap artificially high profits. They were able to cut their prices below costs and drive U.S. memory chip makers out of business. One of the companies that almost died from this was Intel. Once the competitors were gone, the survivors could raise prices and reap monopoly profits.
The U.S. chip industry banded together and complained, and that resulted in a U.S.-Japan semiconductor agreement that forced the Japanese to open their market to U.S. suppliers. Eventually, the trade policy leveled the playing field, and the U.S. chip makers recovered. Then Intel started to dominate the industry with the invention of the PC microprocessor.
If you look at today’s $137.9 billion global game business, you can see why this now matters. The global conglomerate Tencent is the world’s biggest game company. The Chinese Internet company also accounts for $4 of every $10 invested in game companies worldwide. Since 2015, Chinese companies accounted for 70 percent of all digital game company acquisitions, the economic and security commission report said.
Tencent has invested in U.S. companies such as Activision Blizzard, Glu Mobile, Epic Games, and Riot Games and European firms such as Supercell. Should it be so free to do so, even though U.S. companies cannot do the same in China? Tencent has been propelled by the growth of China’s game market, which is now the biggest in the world, according to Niko Partners (which contributed to the commission report). U.S. games are only about 5 percent of China’s game market, in part due to market restrictions such as censorship and piracy.
But Tencent’s investments have been welcomed by many in the game industry, thanks to a benevolent approach. It generally acquires minority stakes in companies, keeps the founding management in place, and allows the company to proceed unfettered. It also serves as a white knight, as when it saved France’s Ubisoft from a Vivendi takeover.
Trump could intervene in games and bar the acquisitions or impose tariffs so long as the trade barriers stay in place. But the U.S. has largely been asleep, and we can see signs that intervention isn’t really necessary. The Chinese government, for instance, does a lot to hold back the Chinese game companies.
For example, it imposes censorship requirements on games, and that can hurt the commercial viability of games, in China or abroad. It barred game consoles from being sold in China for many years, saying they were bad for Chinese youth. China’s government has asked the Chinese companies to limit their games in the name of curbing addiction, it censors games for political reasons, and it has discouraged investments into games by companies that don’t currently have game operations.
The Chinese government has finally allowed game console sales in parts of the country, but sales are tepid. The Chinese game companies have become overly reliant on PC and mobile games. Google’s decision to stay out of China also meant Google Play, the dominant store on Android, wasn’t available. China instead has hundreds of Android stores, splintering the market and effectively imposing a lot of barriers that hurt all kinds of game companies.
The U.S. government, by contrast, hasn’t restricted its game companies in the same way. One byproduct of that is that we have strong game platforms. That includes companies such as Google, Facebook, Apple, Microsoft, Valve, and Amazon. These companies wield a lot of power as platform owners, and that translates into power over the game industry, as they collect 30 percent of all game revenues flowing through their platforms.
But China’s companies have the free reign to participate in PC and mobile games, which are 75 percent of the global market, and they can invest in console games in the rest of the world. And the U.S. platform companies are not invulnerable. Google was weakened by staying out of China, and big companies such as Tencent and Alibaba arose in China because of the vacuum left by Google. And Tencent has a new WeGame service that is competing directly with Valve’s Steam store in China.
The U.S. still tends to lead in new technologies and markets for games, such as virtual reality, augmented reality, esports, social games, game spectating, and other areas. But China follows fast and can blow these markets up much bigger if they catch hold.
The U.S. government report expressed concerns about the data that China’s government collects about its citizens through its technology companies, and it is concerned that, through the ownership of Chinese companies, such data could be collected on U.S. citizens.
U.S. China Economic and Security Review Commission concluded that Chinese firms have the power to acquire more game companies, the Chinese government can enable them to collect data on U.S. citizens, China blocks U.S. companies from fully accessing China’s game market, and it still doesn’t entirely circumvent piracy in China.
Ultimately, this matters to the U.S. because the game industry employs more than 220,000 direct and indirect jobs across 2,457 game companies in the U.S., according to the Entertainment Software Association, the U.S. game trade group. The average wage for the jobs is $83,000. That level of talent of game creators has been stable over the years, but the rest of the world has become increasingly competitive at making games, especially in the era of mobile, which is now a $70 billion business. The world is flat when it comes to game talent, and China may very well be tilting the playing field in its direction, based on the economic and security commission report.