During the last few weeks of 2022, the US-China tech war matured in complexity, leaving China weighing its options as more countries join the picture.
China has shifted its focus to securing semiconductor manufacturing equipment (SME), as US restrictions have left few paths forward for China to advance its domestic chip industry. While China was developing these plans, the US was in talks with key countries to persuade them to place their own restrictions on their semiconductor rival, to potentially cut off China from their supply of SME entirely. The current situation is a timely example of how the US is leveraging its diplomatic might to shift the global semiconductor supply chain.
In mid-December, reports surfaced that China was planning a $143B stimulus to help Chinese companies acquire SME. China has long been the world’s leading importer of SME, however, US sanctions on October 7 cut off the country from many of their main sources. The stimulus would reportedly provide a 20% subsidy for SME purchases, which would allow Chinese companies to request larger orders and receive top priority from the few countries that are still allowed to sell to them.
However, more recent news has said that China is pivoting away from this effort, and it may be because of one diplomatic move on the part of the US.
Though the US ban on October 7 significantly hobbled China’s aspirations for a world-class domestic chip industry, the Asian giant still has a path forward through supply channels with countries that were not impacted by the restriction. Lately, the US is looking to fully box China in by insisting that these countries issue their own bans, creating a more comprehensive web of restrictions around their rival.
While Beijing was developing this stimulus, Washington simultaneously identified China’s SME supply as the next bone of contention.
When talking about SME, it’s almost impossible not to mention the Dutch giant ASML. While the company is known for their dominance in the EUV market, they have not exported a single unit to China since 2019, due to Dutch restrictions. They have, however, sold their less sophisticated DUVs, which Chinese titan SMIC used to manufacture 7nm chips in a breakthrough development.
Within the DUV market, ASMLs only other competitors are Canon and Nikon, the latter of which has recently produced a DUV capable of manufacturing 5nm chips, set to hit the market in early 2023.
Despite pressure from the US in recent years, the Netherlands have been reluctant to restrict ASML from selling DUVs to China for fear of their two competitors in Japan filling the gap in the market. This would also accomplish very little for the US, as China would still have a free flow of DUVs and a path forward to producing 5nm chips. The opposite is also true, as Japan would likely not agree to halt their supply of DUVs unless the Netherlands also agreed to do the same.
Interestingly enough, just one day before the announcement that China was working towards their SME stimulus, Bloomberg broke the news that Japan and the Netherlands had “agreed in principle to join the US in tightening controls over the export of advanced chipmaking machinery to China.” While DUVs were not explicitly listed, the fact that Japan and the Netherlands coordinated their sanctions leads many to believe that DUVs were part of the restrictions.
If this is indeed the case, China’s $143B stimulus will be effectively moot, as there will be no eligible vendors for the equipment. China’s pivot away from this deal after the Japan-Netherlands news seems to indicate their anticipation of the news.
Along with Japan, US has been busy fortifying its relationships in the larger Indo-Pacific region in its attempt to turn supply chains away from China. The US is leveraging the benefits of existing alliances, and even going as far as proposing new alliances that are postured against China. Chief among these is the Chip 4 Alliance.
Comprising Japan, Taiwan, South Korea and the US, this alliance would represent 82% of the global semiconductor output. The proposed plan would create a formal semiconductor ecosystem in which each country could support each other’s specific needs. The US controls 47% of the total semiconductor market share, due mostly to their incumbent position in the EDA market. Taiwan is the manufacturing giant, producing 65% of all chips worldwide and a whopping 90% of all advanced chips. South Korea and Japan are both major players in the memory market, who when combined with the US would hold a 95% of all DRAM and NAND manufacturing. This ecosystem of support is already in motion as TSMC planned factories in Japan and the US, satisfying the needs of major companies such as Sony and Apple. US-based IBM has also recently partnered with Japanese foundry Rapidus to bring 2nm chip technology to the island nation.
Although it is not yet formalized, the Chip 4 Alliance already serves as a diplomatic tool for the US; keeping Taiwan, Japan and South Korea close adds a degree of assurance that each country will comply with future US requests to issue their own restrictions against China. We have seen this happen with Japan already, where at the request of the US, the country agreed to their own chip restrictions in tandem with the Netherlands to formally align itself against China.
Zooming out, we can see that another US-initiated coalition is attempting to achieve a similar goal in rallying a region against China. Proposed in mid-2022, the Indo-Pacific Economic Framework (IPEF) represents 40% of the world’s GDP. It contains all the major economies of the region, with the notable exceptions of China and Taiwan. The framework aims to set in place what the US calls “rules of the road” around trade and economic practices that all member countries can agree with.
In doing this, the IPEF seeks to combat many of the practices that the US has accused China of — the exact practices that spurred the trade war in 2018 and are the foundation of this tech war — intellectual property theft, forced labor, unethical use of artificial intelligence and anti-competitive practices.
The framework also looks to set in place a “first-of-their-kind supply chain commitment” among members. Details concerning this supply chain structure are lacking, however, Taiwanese-based semiconductor publication DigiTimes suspects that this may manifest in a formal system in which member countries can access an emergency stockpile of chips. Whichever form this supply chain commitment takes, one thing is clear: China will be locked out of it.
The IPEF is structured in diametric opposition to China’s economic and trade practices. This opens the possibility for the US to insist that member countries place trade or chip restrictions on China, using the IPEF structure as precedent. Since October 7, we have seen countries around the world fall in line with US restrictions and requests from the US to issue their own bans on China, despite the immense economic burden such moves carry. Therefore, using the IPEF to actively mobilize the majority of the Indo-Pacific’s economy against China would be difficult, but not unprecedented.
Currently, China is issuing a lawsuit through the World Trade Organization (WTO) to reverse the US’s October 7 ban. The US issued the chip ban on the grounds of “national security,” insisting that through China’s civil-military fusion, the exported chips were finding their way to the Chinese military, aiding in its modernization and underpinning practices that the US deemed as a national security risk, such as intellectual property theft and economic espionage.
The WTO has a long history of granting countries permission when issuing a ban on the grounds of national security. However, China is asserting that the US has over-generalized this term, and that the restrictions "threatened the stability of the global industrial supply chain." This effort would have the chance to unravel the entire web of restrictions placed on China, although some find the US’s position in this case to be “ironclad.”
In the event that the lawsuit fails, China will find its domestic semiconductor supply chain backed into a corner. In 2020, Chinese President Xi Jinping rolled out a monumental $1.4T plan to revolutionize China’s technological infrastructure; a national movement which is virtually impossible, given current circumstances. As China’s newly elected congress prepares to start in March and Xi begins his unprecedented 3rd term, Beijing will look for a new way forward amid an increasingly complex gridlock of sanctions.
Secretary of State Antony Blinken is expected to meet with his Chinese counterpart in early 2023. Barring any major changes in the situation, the US will enter negotiations from a position of strength. Perhaps this meeting can yield compromises on both ends and initiate a de-escalation. If not, China will likely have to respond with a significant counterstrike to find any way forward.
Fusion Worldwide will continue to monitor the situation closely and bring you updates related specifically to the semiconductor industry.