“We’re in a race with China and other countries to win the 21st century,” Joe Biden noted in his inaugural presidential address to Congress in April 2021. It’s a race the US president is determined to win, and the program his trade policy since arriving at the White House, China’s access to key technologies to help the US maintain its competitive edge was severely restricted.
One of those technologies is semiconductors, with export controls in place to stop Chinese companies from buying advanced US-made chips and the kinds of equipment Chinese foundries need to design their own. A new tranche of restrictions unveiled last week restricts US businesses from selling to Chinese customers the machinery used to make sub-14 nanometer semiconductors, the same ones used to make the world’s most advanced chips. In addition, any business with US operations is now prohibited from exporting chip-making equipment to Chinese customers that cannot be provided by foreign competitors.
The ban is already having an impact. Dutch company ASML, the world’s only maker of lithography machines vital to the semiconductor manufacturing process, has reportedly instructed US-based staff not to contact Chinese customers (ASML was already prohibited by the US from selling its state-of-the-art EUV machines to China). ASML said it expects impact of sanctions to be ‘limited’ as part of the third quarter results announcement.
Other key companies in the chip supply chain, such as Lam Research, Applied Materials and KLA Corporation, are also taking steps to comply, while US suppliers AMD and Nvidia were previously instructed not to sell AI chips to China or face government action, while other technology companies including Dell and HPE, which offer servers with advanced chips in them to Chinese customers, could be affected.
While these measures make sense for the US on a geopolitical level, further restrictions are likely to hit businesses hard.
China has semiconductor strengths
The size of the Chinese market means it is vital to many chip makers. Research by GlobalData shows that China consumes approx 40% of semiconductors produced worldwide, but is only 12% self-insured. The market is expected to to grow to over $1 trillion by 2030according to an analysis by industry group SEMI, with China accounting for 90% of growth over the next eight years.
Foreign companies make money. China is the biggest market for South Korea’s Samsung Electronics and memory chip maker SK Hynix, while ASML currently gets 20 percent of its revenue from China, and power chip makers STMicroelectronics, Infineon and NXP are also heavily dependent on Chinese customers.
The sanctions imposed by the US in recent weeks will not come as a surprise to Beijing, according to John Lee, director of East-West Futures consultancy and an expert on China’s digital economy. “As Huawei has been targeted by US export controls on semiconductor technology, the prospect of such broader export controls to China has certainly been on the minds of Chinese policymakers,” he says. “There is also a lot of anecdotal evidence that individual Chinese companies have made more serious import substitution efforts over the past few years.”
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In fact, China is investing heavily in its own capabilities. SMIC, China’s largest chip maker, is building foundry capacity and appeared to make a breakthrough earlier this year when it was reported to have developed its the first chips built on 7nm technology nodes, one of the most advanced chip manufacturing technologies. That still lags behind Samsung and Taiwan’s TSMC, the chip market leader, both of which operate on 3nm technology. However, the supposed breakthrough came as a surprise to many.
Memory maker YTMC is also growing its business, but both companies are feeling the impact of US export controls. YTMC saw Apple’s memory supply deal canceled as a result of the new rules, while Bloomberg analysts wrote last week that they expect SMIC’s revenue growth to be 50% lower than previously planned as a result of the sanctions.
While important at home, SMIC remains a relatively minor player in the global chip manufacturing space, which is dominated by TSMC.
Will China’s export controls work?
U.S. sanctions on the supply of chip-making equipment are likely to halt any ambitions for China to produce flagship chips, at least for the time being, Lee says. “It is highly unlikely that the Chinese industry will be able to completely replace foreign equipment suppliers in sub-14nm process nodes in the near future,” he says. “What is certain is that China’s domestic suppliers of semiconductor manufacturing equipment currently account for only a small fraction – about 8% at the start of last year – of Chinese industry demand.”
However, he added: “State-led efforts to replace imports of such cutting-edge semiconductor manufacturing equipment have been underway for some time, and may soon bear fruit.”
The new export controls will likely help the U.S. maintain some edge when it comes to artificial intelligence systems, said Mike Orm, who covers the semiconductor market for GlobalData.
“Washington believes that weaponizing the intellectual property of American semiconductor technology is the best chance of stopping China from supplanting it as a global superpower by 2035,” says Orm. “Banning Nvidia and AMD from selling their cutting-edge AI chips to Chinese research institutes and companies such as Huawei, Alibaba, Horizon Robotics and Baidu will hamper China’s ability to train large AI models and build inference platforms because China does not have internal capabilities to make such powerful chips.”
China is “already on par with the U.S. and many areas of AI,” Orm says, and “there’s an opportunity for global dominance in AI superiority.”
But most of the chips used in the Chinese market are not flagship designs for new smartphones and data centers. The biggest demand is for more basic semiconductors used in IoT-related devices and other electronics that can be manufactured on older process nodes.
In that regard, China is well-positioned to become more self-reliant, Orm says, adding that SMIC’s investment in these older processes could serve it well as it seeks to win business in other parts of the world.
“I see SMIC becoming a prominent global foundry by the end of 2023 for 14nm and low-process chips, given that China is good at packaging, testing and assembly,” he says. “It builds extra capacity like crazy, especially in 22nm technology.”
Lee agrees that Chinese chip companies can continue to thrive despite the sanctions. “The concentration of globalized manufacturing in China and the size of China’s domestic markets means that Chinese firms can do very well working at home,” he says. “It is important to remember that many foreign industry leaders, in the semiconductor sector and other manufacturing verticals, are still doing business in China. So, even operating in China, Chinese companies are still participating in the international economy.”
US chip makers could be collateral damage
While the new rules serve the U.S. government’s political goals, executives at top chipmakers may be left calculating costs at a time when they already face an economic slowdown and the end of global chip shortages.
While the government can point to the CHIPS and Science Act, which promises to invest up to $52 billion in the country’s semiconductor sector to boost manufacturing and research and development, the new restrictions on working with Chinese customers will hit the profit margins of some of the the largest American semiconductor manufacturing companies.
“Nvidia and AMD can still sell older and less powerful AI chips to China, and Nvidia has significant research and development in China, where it gets about a quarter of its total revenue,” Orm says. “The ban will leave a $400 million hole in that revenue.”
In addition, he says, the structure of the semiconductor market means that continued actions against Beijing will affect other companies as well. “The semiconductor industry relies on both US IP and the Chinese chip market, and the US chip industry derives over 30% of its revenue from its sales in China,” says Orm. “A further Chinese blockade would threaten the future of US chip companies. This is the serious conundrum facing the industry – by hurting China to protect its sovereignty, the US will harm its most important strategic industry.”
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