By Anne VanderMey
September 17, 2012

FORTUNE — Richard D’Aveni has a message for American politicians: Get out of the way, sort of. The renowned management professor at Dartmouth College’s Tuck School of Business says the government should spend less and give less power to elected officials. But when it comes to business, he also thinks the state should do a lot more. The looming threat posed by China requires rethinking our laissez-faire system, D’Aveni says, and even questioning the free market itself. Author of the forthcoming book, Strategic Capitalism: The New Economic Strategy for Winning the Capitalist Cold War, D’Aveni spoke with Fortune’s Anne VanderMey about how the U.S. should adapt to compete with China’s ascendant brand of state-sponsored capitalism, before China is the only superpower left. Edited excerpts:

Q. Why is China such a major threat?

A. China is not the friend we think it is, and trading with it isn’t going to turn it into a friend. All we’re really doing is dealing with a country that is undermining our strengths through its version of capitalism. We have to do something about it soon, because we’re getting weaker and weaker, and we don’t have a lot of time left before it’s an irreversible process where we end up falling into its sphere of influence rather than converting it into ours.

What’s wrong with our version of capitalism?

A lot of things that we take for granted — like that laissez-faire always wins — are a lot of crap. Another example is the idea that government can’t pick winners and losers. All they pick are losers. The Chinese government is proving the exact opposite. They’re creating winners. And they’re going to work that way for solar energy and wind energy technology because everything is coordinated. The free market has basically got a disadvantage when you’re against a smart strategic capitalist. It’s different when you’re against a dumb one, you know, like France.

How do we fix the system?

The first thing is to balance the budget. Mitt Romney and Paul Ryan — that’s one of their centerpieces, and I agree with that. But they also talk about asking China to open up their market to the U.S. I think they’re being incredibly naïve, based on the trips I’ve made there — that somehow the Chinese will do things against their interests. They’re winning, and they know they’re winning, and they’re seeking hegemony. They’re not seeking cooperation.

How does the U.S. compete with that?

We need to go on the offensive. Let me give you an example. I think that we are on the verge of a third industrial revolution. There are all kinds of new technologies that are just on the verge of coming out in the United States, including 3-D printing and molecular manufacturing. How does that manufacturing revolution change things? It’s not going to create a lot of jobs in the United States, but on the other hand, it’s going to upend the business model that puts China at the center of global economic power and political power. China’s employment engine, mass manufacturing, is going to die.

Are all the companies that are focused on selling to China chasing an overblown promise there?

I think that it’s a lose-lose proposition. First of all, if they’re successful, they become dependent on China for exports. Then the tail will wag the dog, and American companies will become instruments for Chinese propaganda. Also, only a relatively small group of companies can be very successful that way. It’s almost a lottery mentality. But Wall Street wants to know, “What’s your China story?” Really, we’ve simply legitimated authoritarianism for the first time in my lifetime, at least with a major power. Most of my father’s life and in my life, the U.S. has been opposing dictators like Hitler and Stalin and the Soviet Union in general. Suddenly we’re now illegitimating that because we think we can make a few dollars from it, when in fact there’s no pot at the end of the rainbow.

You don’t have a whole lot of hope for the 2012 election cycle?

I’m hoping that the press will get serious and not allow these ads where they’re pushing grandmothers over the cliff. Instead, say, let’s look at what should be the Obama ad where he’s pushing 13 grandmothers over the cliff. Nobody wants to hear the bad news that some people aren’t going to get their benefits any more, but we really need to downsize the social side of our government. When the Supreme Court approved Obamacare, forcing people to buy things, they essentially approved state capitalism.

But you mention that China forces companies to buy renewables with good results.

The Chinese make it work. Their government is run by technocrats. Their political system is more of a meritocracy. They have a long-term plan. In our system, the mantra in politics is, “Just survive one more day.” We should recognize that we already have industrial policy and take politicians out of it. I’m arguing for a new agency, a Federal Industrial Policy Board, that would be responsible for a more strategic approach to competing with China. It would encompass the Commerce Department, the U.S. Trade Representative, industry-specific regulatory agencies, the Environmental Protection Agency, the Occupational Safety and Health Administration, and others to create a one-stop-shop for businesses seeking approvals, licenses, and other government permissions in a timely manner.

Your views don’t seem to line up with either party.

I don’t fall into the party line. You’d expect me as a business professor to completely be laissez-faire. But I’m looking at it as a strategist. And as a strategist I’m thinking: Can we out-educate 1.3 billion people? Especially people who have Confucian values that put honor on education and respect educators? Romney and Ryan talk about improving education in their plan for the United States, and I believe that’s a lot of hokey. Let’s suppose we can train everybody to be software engineers. Every innovation they make is going to be copied within minutes by the Chinese. Both parties tout education because it sounds great to people, but it’s almost a racist thought to think that we have 300 or so million Americans, and we’re going to out-educate the Chinese when they have 1.3 billion people. Their top 1% of smart people are going to be a lot smarter than our top 1%, just by the law of averages.

A shorter version of this interview originally appeared in the September 24, 2012 issue of Fortune.

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