October 1, 2020 5:14PM

China’s Critical Minerals, National Security, and the Meaning of Supply Chain Interdependence

Yesterday, President Trump invoked his authorities under the International Emergency Economic Powers Act (IEEPA) to deem U.S. dependence on imports of “critical minerals” from foreign adversaries a national emergency. Among those minerals are so‐​called rare earth elements, which are inputs used in the production of high technology and defense‐​related equipment and systems.

In a statement to Congress announcing his executive order, the president noted, “Though these minerals are indispensable to our country, we presently lack the capacity to produce them in processed form in the quantities we need… [Our] national security, foreign policy, and economy require a consistent supply of each of these minerals.”

The EO instructs the Secretary of the Interior (in consultation with the Departments of Treasury, Defense, and Commerce) to investigate the degree of U.S. reliance on critical mineral imports and submit a report to the president in 60 days. That report should recommend executive actions, “which may include the imposition of tariffs or quotas or other import restrictions against China and other non‐​market foreign adversaries whose economic practices threaten to undermine the health, growth, and resiliency of the United States, or other appropriate action, consistent with applicable law.”

The specter of China restricting its exports of rare earths to the United States in response to the ever‐​tightening U.S. restrictions on exports of semiconductors, semiconductor manufacturing equipment, and other high‐​tech components to China is a real possibility—one of the significant costs Huan Zhu and I warned about, when the administration was considering broadening its restrictions earlier this year (which it did). Indeed, China has already demonstrated willingness to leverage its dominance in the production of rare earths back in 2010, when it refused to export the critical minerals to Japan in response to Tokyo’s detention of a Chinese ship. Subsequently, China imposed broader export restrictions on rare earths and other minerals that lead to formal challenges at the World Trade Organization by the United States, Japan, and the European Union, resulting, ultimately, in Beijing withdrawing its offending practices.

Now that the WTO dispute settlement process is defunct—thanks to U.S. actions and inactions—and the access of Chinese companies to U.S. semiconductors and other technology has been severely hampered by U.S. export restrictions, Beijing calculations have surely changed.

Over the past few decades, U.S. manufacturers of advanced electronics, medical equipment, automotive batteries, vehicles, green energy components, and nearly every advanced weapons system, including Tomahawk missiles and F-35 fighters have grown increasingly dependent on Chinese sources for rare earths. In 2018, China accounted for 71 percent of the volume of rare earths produced globally and 74 percent of the volume of U.S. imports.

It’s not that rare earths don’t exist in the United States, but that domestic production became less viable because U.S. production costs were relatively high, and the regulatory costs of U.S. mining and refining operations were increasing. Extraction and processing of rare earths requires techniques considered especially taxing on the environment and have been subject to fairly tight regulations in the United States and in most other developed countries.

As inputs to some of our most sophisticated technology and defense systems, rare earths are vital to U.S. economic security and defense. The administration and Congress already know this, and they already know that U.S. manufacturers depend significantly on Chinese refined rare earths. Fifteen months ago, the Commerce Department released a report required by a December 2017 executive order aimed at creating a “Federal Strategy to Ensure Secure and Reliable Supplies of Critical Minerals,” which found the United States to be “import‐​reliant (imports are greater than 50 percent of annual consumption) for 31 of the 35 minerals designated as critical by the Department of the Interior.”

That brings us to an obvious question: Why tariffs or other import restrictions? We already know domestic rare earths are in short supply. We already know our dependence on imports from China is significant. We already know tariffs are taxes. We already know that when you tax something, you get less of it. Well, on more than one occasion, U.S. Trade Representative Robert Lighthizer has argued that tariffs are a legitimate tonic for excessive dependence on imports. He argues that tariffs—on medical equipment, for example—will encourage domestic capacity building and production. Well, maybe after a long period of high tariffs, some intrepid investor will take note of the rents to be had and be willing to absorb the higher production and regulatory costs to build production facilities in the United States. Of course, that portends much higher costs and a reduction of national welfare, but maybe that’s a justifiable part of the price of purchasing more (or the perception of more) economic and national security.

Excessive dependence on any one source is a recipe for perpetual uncertainty and risk. The optimal response to uncertainty is diversification. Restricting imports to compel supply chain repatriation and autarky is not diversification. It’s just another form of dependence at higher cost.

Instead of import restrictions, the tools of U.S. policy should aim to remove the unnecessary impediments to producing and refining domestically, while working with other countries to do the same. When national security is legitimately and convincingly demonstrated to be exposed to the risk of supply shortages, policy should encourage domestic stockpiling and a program to oversee its efficient, non‐​market distorting operation.

This recent Bloomberg piece written by former Defense Secretary James Mattis and others offers some good ideas and provides more background and a lot of important facts about the production, refinement, and consumption of rare earth minerals.