Below assessment of Google vs China confrontation as seen from Washington is from a report by Chris Nelson prepared for clients of Samuels International Associates, a trade and political consultancy. Chris usually has a pretty good sense of what is being spoken about in DC officialdom with relation to Asia.

The emphasis below is mine to highlight some interesting thoughts.

In public, President Obama is trying to keep the China/Google situation from ballooning into a crisis in the US-China relationship, for obvious reasons…see today’s press briefing trying to say it’s all about censorship.

In private, sources confirm the most serious White House concentration on the facts of China’s cyberwar capabilities and actions now and over the past decade, including how these are used with potentially devastating economic and security effect on both the USG, and major US corporations.

Sources also confirm the accuracy of the Daily Beast “leak” of the classified FBI report on China’s activities but remain unwilling to openly confirm the accuracy of the FBI’s findings per se…even while saying the overall thrust of the FBI’s analysis of China’s actions and threat is “spot on”.

Closed WH “cybersecurity” conference call yesterday saw all major involved US players, and “China/Google” was the major topic, participants say…the facts of how Google penetrated, the implications of a China potentially out of control, and other vital questions.

Some US corporate and business group critical comment today on Google is being mis-interpreted as selling-out to China; experts say this misunderstands how Google perceived by much of US business; also how Google is somewhat unique in having no capital investment in China to lose, so pulling out is a profit loss, nothing more….with some implication of grand-standing.

There were some Congressional statements today demanding that other major US firms “follow Google’s example”.

But major international corporations don’t have this feel-good option, so must continue to try and seize China’s predatory policies as a “teachable moment” which can lead to constructive, remedial reform in Chinese practices…see the international business group letter we’ve been highlighting since December, and again last night.

Assuming, of course, Chinese leaders give a damn and are sincere. A dangerously open question, given the increased tendency toward arrogance and taking a victory lap in bilateral dealings with US negotiators for the past year, and some disappointing multilateral performance, as at Copenhagen.

So whether China IS “teachable” remains to be determined, and is a major part of the challenge facing the Obama Administration. Most US business has no option but to try…same for Obama.

Even without “new” cyber scandals, once the FBI report circulates around Congress, and the media, the question of “trust” is likely to be an increasing problem for supporters of stronger economic ties with China, as with those who continue to argue Beijing is playing a constructive role at the UN on Iran and N. Korean nukes.

Obama needs to find a way to seriously address the cyber problems without endangering the mutual self-interest so far governing “geostrategic” issues. If things fall apart, not just Google may be faced with little option but to quit…and since 1972, US policy toward China has been exactly the opposite.

The world has no realistic option but to help China be a success…but as any good business person will tell you, you have to have a walk-away price. Google is a warning that China may be forcing this Hobson’s Choice, bad news all around.

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WHITE HOUSE BRIEFING TODAY/GOOGLE:

Q Two questions — one is on China and Google. Is there any concern within this administration that this issue could explode to affect the rest of the relationship with China, particularly if it gets wings or legs on Capitol Hill or within the American public? And how do you –

MR. GIBBS: Wings or legs, how?

Q I mean, if this strikes a chord with the American public or with Congress.

MR. GIBBS: Oh, I’m sure it does.

Q This — I mean, you’ve talked a lot –

MR. GIBBS: I think the notion that — right, I think the notion that — the notion of what we’ve seen happen, I can’t imagine that it hasn’t struck a chord. You heard — Helene, you heard the President in Shanghai take a question from the Internet about the universal right of a free Internet. He strongly supports that, and we support Google’s action in a decision to no longer censure searches that happen using the Google platform.

Whether or not it affects our relationship — look, we have, the President has, strong beliefs about the universal rights of men and women throughout the globe. Those don’t — those aren’t carved out for certain countries. That’s why the President answered the way he did in a town hall in Shanghai about the importance of that freedom.

Q So how do you manage — how do you keep it contained, then, to just — you have several different issues with China. You have China on Iran, you have the Google-China issue, but if you start — if we start getting things coming out of Congress, for instance, and this starts to actually strike more of a cord with the public, do you think — how do you manage the larger relationship?

MR. GIBBS: What do you mean — do you mean like legislation or — I don’t know what.

Q I mean, are you worried at all about managing this within the frame of the larger relationship?

MR. GIBBS: I think our concern is with actions that threaten the universal rights of a free Internet.

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So for now, in public, the White House “line” is to try to limit the discussion to internet freedom. OK, fair enough in that this IS a real issue in and with China.

But concerned observers who fear the criticisms of Google today will be misunderstood as some of the business community apologizing for Chinese predatory and other negative actions warn that the free internet question is secondary to the main point:

China increasingly is pursuing industrial policy and promulgating domestic financial, IPR and any other policy it can dream up which will have the effect of promoting its national champion companies against foreign competition.

This certainly applies to Google, where Chinese censorship requirements, and the now-revealed cyberhacking, seems likely to force Google out of China…to the benefit of Google’s domestic Chinese competition.

So as we’ve implied, there’s a potential major PR problem for US companies electing to stay in China, especially any which seem to be criticizing Google.

Here’s the Dow Jones report today on relevant Capitol Hill remarks, including from House Speaker Pelosi:

“A group of Republican lawmakers Thursday called on three U.S. information technology giants to follow Google Inc.’s (GOOG) lead and conduct a full review of their business operations in China.

The lawmakers urged executives at Cisco Systems Inc. (CSCO), Microsoft Corp. ( MSFT) and Yahoo Inc. (YHOO) to engage in a similar review of
their presences in China, saying not to do so is effectively “complicity with this kind of evil.”

“I urge others in the business community who have found themselves victim of China’s spying and flagrant intellectual property violations…to join Google and speak out and take action,” Rep. Frank Wolf (R., Va.) said at a press conference on Capitol Hill on Thursday.

Wolf said Google’s move reminded him of U.S. companies withdrawing from South Africa during the Apartheid Era, rather than helping to serve the motives of that regime.

Rep. Chris Smith (R., N.J.), the senior Republican on the House Foreign Affairs Committee, said that until Google’s announcement Tuesday, it, along with the other three high-tech companies, had been the “chief violators” in terms of cooperating with the Chinese Government.

House Speaker Nancy Pelosi (D., Calif.) said in a statement Wednesday she hoped other companies would follow Google’s lead.”

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So what’s the prognosis? Some experienced business observers continue to feel that progress is not only possible, but can be seen. Here’s something which may offer hope:

“(as you note in referring to the group letter) China’s latest efforts to tie Indigenous Innovation accreditation to government procurement preferences is indeed problematic, as the business community (including USCBC) response has shown, and will be a top bilateral commercial issue in 2010–but let’s see how the advocacy work plays out.

Still, China on Monday released draft government procurement regulations that appear to resolve last year’s big “problem” issue-”domestic products” (which do receive preferences in China’s government procurement generally, as they do in the US) are defined in the draft to include products produced in China by foreign-invested enterprises, whereas previously foreign-invested companies frequently found themselves blocked from government procurement opportunities because they were deemed ‘foreign.’

This is an important step forward and shows advocacy can work. The Indigenous Innovation product preferences are a half-step back, unfortunately – but again, let’s see if we can get that addressed, too. Won’t be easy, but the effort is in the early stages. We win some, we lose some, but the hard work continues and is vitally important.”

But other experienced business observers are more skeptical, and point out continued emerging Chinese government procurement policies which they hope the Obama Administration will seriously (and effectively) challenge.

GW prof and Obama campaign advisor Susan Aaronson adds this:

“Some will jump to challenge China–others will smile and say everything is fine. And while in dollar amount China is world’s largest recipient of investment, one has to wonder if China will remain the fastest growing. I think this is the beginning of the souring…and that people are realizing it’s not just protectionist rhetoric…that the weird mix of business/government that China is creating both a hostile and dangerous environment for socially responsible firms and for information /ideas based firms.“