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21 March 2023

Vultures at the gate: The national security risk of Silicon Valley Bank’s failure

NATHAN PICARSIC AND EMILY DE LA BRUYÈRE

In 2008, as the U.S. financial sector melted down, Beijing saw opportunity. “The financial crisis was a rare opportunity for Chinese enterprises lacking resources and advanced technology to go abroad and acquire foreign companies at low cost,” wrote Chinese researchers at Beihua University in a government-funded report, published in 2010. In a more acute example, in 2012, when emergent U.S. electric vehicle battery company A123 went bankrupt, China’s Wanxiang swept in to pick up the pieces — at a bargain.

The point: China loves a fire sale.

And in today’s post-Silicon Valley Bank bailout environment, there’s nothing to prevent China from gaining closer proximity to the sale rack — and access to critical and foundational emerging technology.

Right now, the U.S. and international tech ecosystem risks standing on the precipice of another crisis-turned-China opportunity. You may have heard that Silicon Valley Bank, and its customers, have had a tough week. SVB, known as the start-up bank, surprised investors with the news that it would need to raise $2.25 billion to shore up its balance sheet. Mass hysteria ensued, ricocheting across international hubs of innovation from San Francisco to Boston to London.

A day later, customers had withdrawn $42 billion in deposits and the bank’s stock had plummeted by some 60 percent. By last Friday, Silicon Valley Bank officially had failed and the Federal Deposit Insurance Corporation (FDIC) had been appointed receiver. Then the Treasury and Federal Reserve stepped in, guaranteeing uninsured deposits, a de facto bailout of the banking system.

The U.S. government is also working behind the scenes to try to facilitate a sale of SVB. In the United Kingdom, that has already happened: HSBC stepped up on Monday to buy the UK arm of SVB, for £1 ($1.21).

The follow-on effects reverberating throughout the global tech ecosystem risks creating a fire sale environment. Even with SVB deposits guaranteed, the dominant banking partner of the American tech ecosystem has vanished overnight, with no immediate alternative; founders will continue to scramble to make payroll and fund managers may be on the lookout for more stable partners and sources of capital in a new, less-certain “normal.” As such, this moment risks granting China a strategic opportunity. HSBC’s acquisition of SVB’s UK subsidiary underscores as much. That bank’s top shareholder is China’s State-backed Ping’An Insurance.

The U.S. should be wary of China sweeping into the vacuum, or foothold, created by SVB’s collapse — or that of any other key player in the U.S. tech ecosystem. But if history is any guide, Beijing will try to do just that. And those efforts, if successful, will feed directly into China’s military modernization program and tech-enabled surveillance state.

Right now, there aren’t enough barriers to prevent China from doing so. Yes, foreign investment review exists; in theory, U.S. regulations (read: CFIUS) can be activated to prevent China from acquiring strategic and sensitive U.S. technologies and positions.

But U.S. investment review has enormous loopholes, including a focus on direct acquisitions and “controlling” investment stakes. Investment review does not apply to limited partnership stakes in U.S. funds. No regulations restrict Chinese entities from investing in banks or as LPs in funds that, in turn, invest in strategic and sensitive technologies. So, even if China can’t acquire U.S. innovation directly through an operating company, it can back players that do and gain access to and influence over core technology all the same.

What does all of this mean?

First, if SVB is going to dominate the conversation in the weeks ahead, that conversation should include China and the risk that it takes advantage of this American crisis. Beware of vultures at the gates.For ethical lessons from Silicon Valley Bank, turn to spiesHomeland Security’s fusion centers show the dangers of mission creep

Second, the U.S. desperately needs more effective government systems for regulating (and restricting) Chinese investments, both direct and indirect, in foundational and critical technologies. And the private sector needs to shoulder its share of the burden, waking up to the risks of Chinese investments and taking its own preventative actions from both the founder and fund manager perspectives. American LPs, too, need to take this reset of the sector as an opportunity to impose new expectations on fund managers and the risks they invite by accepting Chinese investments or by positioning as bridges for bilateral capital flows between the U.S. and China.

SVB’s fall has created an inflection point for the investment community. Let’s not let China define the period ahead. Instead, let’s treat this moment as a warning that underscores the strategic importance of private market capital flows. And let’s treat them as a competitive domain.

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