Chipping away at global semiconductor supply chains

The new rules are a significant shift in an export control policy that the United States has been pursuing for nearly 30 years. The previous policy was designed to keep adversaries, primarily China, one or two generations behind the US technologically. Under this policy, the US would raise the level of controls as new technology emerged, before releasing older generations for export.

In other words, the controls were a deliberate moving target. That had three effects. China was denied access to the most advanced technology. US companies were able to sell older technology to China and used the revenue generated for research and development. And the provision of older US technology to China reduced the incentive for the development of Chinese alternatives.

The US has shifted its policy from simply trying to keep China behind to actively seeking to degrade its military capabilities. Maintaining export controls at the same level regardless of future technology developments means that the universe of controlled items and technologies will become much larger over time. It also means that enforcement will become more difficult and the cost to US producers will increase.

The short-term impact of the new rules appears to be fairly small for chip makers, since a relatively small number of chips were directly affected. But it has been larger for the equipment manufacturers, who have a significant market in China. Assessing the long-term impact requires examining three questions. What will be the effect of the new rules on US company revenue? Will the new controls accelerate China’s policy of indigenous technology development? Will the new controls eventually lead to ‘designing out’, a scenario where other countries develop products that contain no US technology and are therefore outside the scope of US export controls?

With respect to China’s policies, the new US rules will almost certainly accelerate China’s plans for indigenous technology development. Those were already underway, but the sweeping nature of the new rules will push China to move more quickly. A report to the 20th Party Congress in October 2022 included the mandate to ‘achieve greater self-reliance and strength in science and technology’. They may also increase Chinese overcapacity of legacy chips that would further reduce revenue for US firms.

The third question is harder to predict. We have seen the ‘design out’ phenomenon before—most notably in the case of commercial communications satellites in the late 1990s and early twenty-first century. In the short run, there do not appear to be any countries capable of developing chips or equipment entirely free of US technology, but the ‘short run’ in the semiconductor industry is a matter of a few years.

In the long term, the rules could present significant challenges to US companies in maintaining market share and revenue expectations. US companies will inevitably face more competition from China as it continues down its own path of independent development, and companies could also face new competition from other sources lured into the market by the US export constraints. That will not be an immediate issue since entry barriers in this industry are very high in terms of both capital and technological expertise. But the longer the controls stay the same or expand in scope, the more likely it is that competition will grow.

This situation presents opportunities for other Asian nations from two opposite directions. First, as existing companies seek to remove Chinese content from their supply chains, they will look for alternative locations for manufacturing. Southeast Asia is an obvious choice, though the opportunities vary in individual countries. Second, new entrants to the market seeking to develop products without US technology could look to Asia as a suitable location for parts of their new supply chains.

Several countries in the region have significant experience both in manufacturing chips and in other parts of the supply chain, including assembly, testing, and packaging. Japan has already joined the US in applying additional controls on semiconductor products, and others, such as South Korea and Taiwan, are under increasing pressure to join. As the US considers the effects of the current and future controls, it must take into account not only the limitations and costs of the controls but also the political and economic costs it is asking allied countries to incur.