The Future of Britain’s Economic Statecraft

How countries turn productive capacity into geopolitical advantage

In the last few years I have felt that the relationship between technology and national power has not been widely understood or well-articulated in a lot of UK policy debates.

This essay is an attempt to address that. It is about how countries use their technological and industrial capacity to protect themselves and influence other states, and how Britain has failed to reckon with this.

Summary

Britain has consistently overlooked the interdependence between economic policy and national power. This is a substantial hole in any national strategy in any era of history, but is especially damaging in a world of increasingly powerful technology and clashing great powers.

Some forms of geopolitical influence can only be harnessed by countries with firms in strategically significant industries, like robotics or vaccine manufacturing, as influence is derived from scale and market presence.

Countries have always used their economy for geopolitical influence, whether it was Britain tapping telecommunications networks in WW1 to get German intelligence, or the US using its industrial base to produce colossal amounts of armaments in WW2. The only difference today is that technology is much more powerful and pervasive.

China understands these dynamics. Since 2015 it has explicitly pursued a policy of augmenting its power through technology. China has deliberately ascended the economic value chain so it can control the supply of technologies that will shape power in the 21^st century. Aware that this poses a significant threat to American power, the US government is taking steps to reshore manufacturing and strengthening its military by working with its AI companies.

Britain, however, remains trapped in economic paradigms that equate progress with deindustrialisation and a purely service-based economy. This undermines our economic competitiveness and sovereignty.

Significant shifts in attitudes and policy are needed in Britain. We must recognise that not all economic activity has equal value to the UK. A country with an economy built on drone production is far better-equipped to engage in the world than one based on building dating apps.

Aggressive pro-growth energy, planning and infrastructure reforms are essential to the future prosperity of Britain. But these are not sufficient to cultivate a well-rounded 21^st-century economy. They must be paired with a long-term industrial policy that aims to cultivate strategically valuable firms which provide geopolitical leverage and protection from external shocks.

Executing the long-term national coordination needed to deliver this also requires structural reforms to Britain’s state capacity and fostering willing cooperation between patriotic entrepreneurs and political elites. Without urgent reform, Britain risks not only further economic stagnation but also losing its autonomy.

Introduction: Countries use their large industrial and technology companies to influence other states

It is testament to Britain’s dire state that economic policy discourse is dominated by planning disputes over bat tunnels and a foot bridge taking 10 years to construct. Yet while Whitehall has been producing paperwork, the balance of power in the global economy has shifted in ways that the British state has failed to grasp.

As correctly predicted by Edward Luttwak in 1990, rather than being the end of history, the relative peace of the post-1990s era simply constituted a period of ‘geoeconomics’ in which state conflicts were not borne out in the battlefield but rather confined to markets. Contrary to liberal optimism, the ensuing development of the internet and advance of globalisation did not flatten global hierarchies. Instead, they increased the power disparity between great powers and smaller states.

In the decades that followed, the US famously used its control over the dollar clearing system to sanction adversaries like Iran. Similarly, both the US and China have leveraged the infrastructure underpinning the internet and telecommunications to intercept emails, browsing data, and phone calls for intelligence purposes.

While technology changes, states’ behaviour does not. Indeed, using control over information networks for intelligence-gathering is itself nothing new. In WW1, Britain tapped telecommunications networks to collect intelligence on the German war effort. The only difference today is the penetration of the internet into everyday life, which massively increases the power asymmetry between the network controller and user.

More broadly, the internet has fueled the growth and dominance of a number of tech firms. Nowhere is this more apparent than when comparing the respective market dominance of American and Chinese tech giants to the rest of the world. These firms have leading products in domains ranging from search to e-commerce, and from smartphones to social media.

The heft of these tech firms can be used to project economic and political power. Take, for example, data privacy and cloud computing. In 2018, the EU implemented GDPR to provide protections for the use and transfer of individuals’ data. In the same year, the US introduced the Cloud Act, which allows the US government to access, for national security reasons, any data stored on the servers of its cloud companies, even if those servers are based abroad. The year prior, China introduced similar, more wide-ranging legalisation. Both of these nakedly contravene GDPR. But in lacking a substantial European alternative, with US cloud firms AWS, Google and Microsoft Azure comprising 72% of the EU market and European firms occupying just 13%, the EU’s attempts to protect their citizens’ data can be undermined and the bloc’s sovereignty eroded.

For the last decade, China has explicitly aimed to control production of technologies that will shape power in the 21^st century. It has a commanding position in a host of critical domains as a result

The enduring truth that trade and economic production are essential to political power was never forgotten outside the West. Since its Reform and Opening, China has patiently and consciously climbed the economic value chain. The Made in China 2025 policy announced a decade ago articulated a clear ambition to domestically produce the world’s most advanced technologies. Combining Marxism, Confucian-Legalism and a laser-like focus on national interests, the CCP understands that power accrues to countries with firms who control the means of production.

Mirroring the industrial protectionism that brought America to industrial and geopolitical pre-eminence in the 19^th and early 20^th centuries, China’s policy, thus far, has been massively successful. The country has deliberately turned its manufacturing prowess from cheap consumer goods to high-tech drones, cutting-edge electric vehicles and pillars of the energy transition like batteries. Chinese firms are projected to constitute 45% of global manufacturing by 2030 (a position comparable to the US after WW2), possess roughly 3 times more lithium-ion battery manufacturing capacity than the rest of the world combined, and dominate civil drone manufacturing through companies like DJI and XAG.

Source: United Nations Industrial Development Organisation

This has put China in a formidable geopolitical position. It has accrued vast amounts of influence by developing massive manufacturing capabilities that are fundamental to hard power in products like drones, and surplus production capacity that provides significant advantages in war. Similarly, China’s leadership in clean tech gives it the potential to not only dominate critical 21st-century industries and shape norms in these fields that reflect its political and economic interests, but also create a pathway to reduce dependence on foreign oil.

Source: RAND

In the last few decades the US has neglected its industrial base, but is now reshoring manufacturing and bolstering its military through AI, aware that these are critical inputs to national policy

Having, for decades, neglected key industries and increasingly deindustrialised, the US has woken up to some of the enduring realities of international politics. Recalling that American strength in WW2 came from translating leadership in construction and automotive mass production into prodigious ship, aircraft and tank manufacturing, US elites fear China’s domestic industry affords it greater war-fighting capacity, and therefore global influence. This has driven concerted attempts to reshore production of strategic industries. Biden’s industrial policies for semiconductors and renewable tech were just the beginning. Despite his criticisms of the CHIPS Act, Trump has already pledged to go further through massive tax incentives to manufacture in the US, tariffs on industries like steel and aluminium and high-level energy pledges to drive down production costs.

The collision of the AI race and geopolitics is driving even deeper changes in the US. The recognition that cutting-edge AI companies are vital to the US security interest is spurring an integration between these firms and the US government. Already, Anthropic and OpenAI have respectively agreed partnerships with defence tech firms Palantir and Anduril as the US begins the process of augmenting its military through general-purpose AI systems.

For years, tech companies have worked closely with US security services. Top AI labs are now beginning to do the same. There is also talk of deeper integration through a public-private partnership between the US government and AI companies to accelerate the development of advanced AI. While such a project parallels the relationship that dual-use firms–civilian companies whose products have military applications, like Ford Aerospace had with the Federal government during the Cold War, a new state-tech nexus is all the more potent given the power of the technology in their hands. While there are obvious political and military benefits to bringing top AI companies closer to the state, the Biden administration’s willingness to pressure social media giants to remove online content highlights the perilous temptations that states face when technology is centralised.

Britain has consistently failed to understand the importance of large domestic tech firms to national power

Britain, by contrast, has not even started grappling with these forces. We have relatively few large R&D intensive domestic firms compared to our peers and lack basic qualities to prosper economically. We have the infamous distinction of having the highest industrial energy costs in the developed world, and there is increasing evidence that a lack of energy supply could be the source of our productivity problems. When combined with a planning system that suffocates anything that even threatens to be built, this renders our domestic firms thoroughly uncompetitive compared to peers due to the vastly higher operating costs that they face. To say that addressing our economic foundations are critical for future growth understates their importance: they are essential for our national security and sovereignty.

Source: Peel Hunt

Source: BNP Paribas

The lack of comprehension of this fact speaks to a deeper issue within the mindset of British elites. Over decades there has been a consistent failure to appreciate the importance that dynamic domestic industries like tech and advanced manufacturing hold for national power. Stories abound in newspapers about the disastrous state of the British military, but few recognise that the composition of our economy is just as important, if not more so, for maintaining Britain’s autonomy.

Source: Financial Times

Being a ‘services superpower’ does not translate into geopolitical influence, and makes Britain highly exposed to external shocks

Nowhere was this tired politics embodied more than in the Economy 2030 Report by Resolution Foundation, an influential Westminster think tank. Despite its aim of comprehensively assessing the UK’s economy, the report gave little mention to the changing world order or the impact of technology on geopolitics and their implications for domestic economic policy. This came in spite of the fact that the US and China had developed substantial industrial policies of their own by the time of its publication. Instead the report simply argued that Britain’s low growth and high inequality should be addressed through public investment, redistribution and building on our strengths as a “services superpower”.

A similar sentiment was expressed in a recent FT op-ed exalting the virtues of free trade written by Minouche Shafik, a high-profile economist who has held top positions in the UK government, the Bank of England, IMF, LSE and Columbia University. She warned against “politically expedient but often ultimately ineffective imposition of tariffs, provision of subsidies and state aid, and localisation of public procurement”, noting that “there is nothing better about dollars earned from manufacturing exports than dollars earned from services exports.”

In purely economic terms these arguments make sense and can be the subject of legitimate debate among economists. Yet they rest on the misplaced faith in the neat division of politics and economics. History has shown us time and time again that the realities of politics pervade decisions about the economy. Political power is in part grounded in economic power. In turn, economic power reflects not just an economy's overall size, but the specific economic activity that it contains. Clearly, an economy built on the production of drones is better equipped to engage in the world than one based on building dating apps.

Advanced manufacturing is an obvious sector from which states derive an enormous power dividend, even when the sector is composed of FDI. This was demonstrated when, during the Covid-19 pandemic, the US attempted to seize all Moderna vaccines and diagnostics supplies manufactured in the States using the Defense Production Act. As Kate Bingham detailed in ‘The Longshot’, her book on the creation of the Vaccine Taskforce, The White House only stood down when Germany threatened to withhold access to its domestically manufactured reagents from a plant run by Swiss pharma giant Roche.¹

For too long Britain has equated deindustrialisation with progress and lacked a clear conception of technological leadership

Yet despite its importance to hard power, the prevailing orthodoxy in Britain has for too long seen deindustrialisation and factory closures as a sign of progress in a sequence of economic and societal stages. This view sees a post-industrial age in which a country deals solely in services that transcend sectoral and national borders as a logical end point after the transition from an agrarian to an industrial economy. Yet viewing a country’s economy as irrelevant to geopolitics presupposes a degree of inter-country harmony that has never existed among humans, and, indeed, will never exist.

Our political class’ naïve view of national power is reflected in our meek attempts to develop footholds in key technologies. Repeatedly, governments identify ‘great technologies’ or ‘critical technologies’ without a clear understanding of what technological leadership looks like. This leads to folly, like during multiple Conservative administrations the UK’s R&D agency funnelling tens of millions of pounds of AI R&D money to an AI adoption programme for the creative industries at a time when many AI researchers lacked access to basic infrastructure. Although creative industries are undoubtedly essential to our culture, they on the whole contribute little to Britain’s security, leadership in AI or hard power² and have ample market incentives to adopt technology.³ Meanwhile, the Treasury institutionally fails to understand the value that powerful domestic firms in key industries bring to the country, as demonstrated by its recent failure to support Astra Zeneca’s vaccine manufacturing plant. For the Treasury, companies and investment are all the same, regardless of their country of origin.

The UK should combined energy, planning and transport reforms with an industrial policy focused on cultivating domestic firms in strategically significant industries

It's time that Britain rid itself of these 1990s fantasies and once again took its economic security seriously. It’s clear we need growth. The likes of Sam Bowman and Lawrence Newport have persuasively argued why we need to transform our energy, planning and transport systems to achieve this. Their proposals must be implemented urgently as they are prerequisites of any effort to bolster sovereignty.

Yet these measures are not sufficient to create a well-rounded 21^st-century economy. Transformation of our economic foundations and driving down industrial energy costs should be paired with an industrial policy that seeks to cultivate domestic strategic and dual-use firms, whilst attracting international investment that bolsters our national security and sovereignty.

In a world dominated by clashing great powers, Britain, with its small internal market and few natural resources, will, on our current path, increasingly lose autonomy over domestic affairs. Britain will, of course, not be able to indigenise entire supply chains. We should instead aspire to foster firms that occupy key niches or chokepoints in supply chains, provide domestic alternatives in key platforms like cloud computing, or produce products that can bolster state capacity or are valuable in crises like vaccines. Focusing on security doesn’t just keep us safe, it gives us national agency when responding to disasters like pandemics or dealing with other countries.

This aspect of our economic policy should be entirely centred on augmenting our security. Our current growth-focused Industrial Strategy leads to a lack of focus. Its 8 sectors cover large swathes of the economy, making prioritisation incredibly difficult. Given the well-documented challenges of executing an industrial policy, government should instead focus this particular arm of economic policy on security, a goal that only the state will care about. The result would be an approach that tackles a relatively small part of the economy, albeit one with outsized importance.

The justification for such an industrial policy is simple. The market does not internalise the benefits of Britain’s national security and therefore under-values firms that contribute to it. Left to its own devices, the free market will see industry decline and our top founders move to America to benefit from their brilliant tech ecosystem and plentiful scale-up finance.

The narrow scope of such an enterprise does not mean that we should not be ambitious. Reindustrialising Britain through widespread nuclear build-out should be a long-term political objective. A coalition of hardware industries in the north and software firms in the south could prove potent.

Yet this should not be an exercise in beating up US tech firms. Deploying technologies using US tech in particular areas will help us. Having greater tech and productive capacity will actually bolster our alliance with the US, regardless of the administration, as they have an interest in Britain being strong.

Britain will need to substantially reform its state capacity to successfully execute an industrial policy

A security-focused industrial policy does not, and must not, mean that a state uses its power to coerce domestic firms. UK founders have a lot of options and understandably would not remain in the UK if the government is heavy-handed with them. Even well-intentioned state regulation in complex markets often has inadvertent consequences and perverse outcomes. We can and should use the state to empower our founders, not hamstring them.⁴ Nor should we embark on an industrial strategy for security, only for companies and the government to collude against citizens.

Instead, executing a successful industrial policy requires a willing cooperation between patriotic founders and political elites. Beyond companies’ market presence, one of the most valuable aspects of national champions is having a group of industrialists who understand technology and are invested in strengthening their country. This was as true in WW2, when the US federal government drafted in the world’s greatest automotive industrialists to orchestrate war production, as it was when Kate Bingham and Patrick Vallance called on their networks of pharmaceutical experts from companies like GSK to lead the British state’s most successful initiative in 80 years.

Even more important, however, is the state’s own capability. An involved government must be an effective government. As far back as the 1968 Fulton Report, the state’s lack of expertise, weak management, inertia and rigidity have been widely known, but completely unaddressed. Government will need to deliver complex energy projects, make judgements about technology and work effectively with companies. This necessitates people in the state being able to think clearly, make decisions quickly and understand how the complex dynamics of highly technical industries interact with the national interest. Without these substantial changes to the functioning of government, we have little chance of reviving our productive capacity.

1. Although a number of examples that I provide are about manufacturing, these are not the only firms that provide a strategic advantage for countries. Many software applications meet the ‘strategic’ criteria.

2. Some sub-sectors of the creative industries, like gaming, do offer strategic advantages to the UK. However, this is not specified by Innovate UK and is not the focus of the programme, a fact that further highlights the UK’s muddled thinking on its use of funding earmarked for the UK’s strategic advantage in technology.

3. This should also not be considered a general critique of the creative industries. I favour government support for the creative industries given their importance to national indentity. But programmes aimed at the creative industries should have a clear purpose of supporting Britain’s culture, and not be confused with other objectives as they are in the case of BridgeAI.

4. This principle applies to trade, as well as domestic regulation, where the UK should focus on export promotion rather than tariffs.