John Calabrese
Semiconductors — chips that can process digital information — have become an essential part of daily life. They can be found in almost everything from computers and mobile phones to cars, home appliances, and medical equipment. They are a key enabling technology that will shape the future of digital economies worldwide. But the semiconductor market is notoriously cyclical, subject to gluts and shortages.[1] The current chip shortage,[2] which began in early 2020, is the result of surging demand for products containing chips and pandemic-driven production disruptions, as well as other unforeseen events that have snarled supply chains and logistics.[3]
The US Department of Commerce reported that shortages of semiconductors dented economic growth by nearly a quarter-trillion dollars in 2021 and revealed the worrying extent to which the US relies on Taiwan for the most advanced chips.[4] The economic fallout and heightened concern about vulnerabilities and dependencies resulting from the disruptive shortage has also fueled the tech war between the United States and China. Spurred to action, Washington has adopted a strategy that not only seeks to boost US competitiveness and tackle supply chain fragility but to thwart China’s aim to produce advanced semiconductors.
What began in 2019[5] as an effort by the Trump administration to cripple Huawei has lately expanded, as the US has introduced sweeping rules aimed at cutting China off from key chips and components for supercomputers. Washington has signaled that it will not hesitate to pursue extraterritorial measures if partners fail to fall in line with the new restrictions. Thus, the US-China battle over microchips has emerged as a proxy for geopolitical competition which Washington’s allies and partners might prefer to avoid but are nonetheless likely to be drawn into. For America’s Gulf allies and Israel, this development poses fresh challenges and difficult choices.
Critical Chips and Chokepoint Threats
Semiconductor chips and chip-making equipment are the backbone of modern digital economies. A multitude of applications, such as artificial intelligence and machine learning (AI/ML), Internet of Things (IoT), autonomous and electric vehicles, high-performance computing (HPC), aerospace, satellite communications, 5G/6G, and smart cities depend on advancements in semiconductor technologies. Semiconductors are also the raw material for nearly every aspect of modern warfighting and battlefield management — radar systems, satellites, GPS receivers, missiles, tanks, and planes.
Semiconductors are produced in a capital-intensive, time-consuming, and complex value chain[6] — a value chain characterized by chokepoints and critical dependencies. Advanced semiconductor manufacturing capabilities are highly concentrated among relatively few countries and companies.[7] Nearly three-quarters of fabrication capacity for logic chips lies in East Asia.[8] Taiwan, led by Taiwan Semiconductor Manufacturing Co. (TSMC), dominates the foundry industry with a 53.6% global share of the market.[9] Korea’s Samsung Electronics Co., though a distant second to industry leader TSMC, nonetheless has captured 16.5% of the market.[10] ASML Holding NV of the Netherlands has a near-monopoly on high-end semiconductor equipment fabrication.[11] Japanese companies Shin-Etsu Chemical and Sumco alone control 60% of the global market for silicon wafers.[12]
The industry-wide shortage of chips was a wake-up call for American policymakers, confirming US supply chain vulnerabilities and the dire risks they pose to the economy. Although five of the world’s biggest eight semiconductor companies — Intel, Micron, Qualcomm, Broadcom, and Nvidia — are based in the US, microchip production largely takes place in Asia. The United States once led the world in manufacturing and as recently as the 1990s 37% of microchips were made on US soil, but today just 12% are made in America.[13] US companies have maintained a strong grip on the Fabless IC segment (i.e., design and sale of hardware and chips), though America’s edge in microchip design has been eroding.[14]
American chipmakers are “highly dependent” on sales to China.[15] Under the “Made in China 2025” initiative, launched in 2015, Beijing has targeted US dominance in chips, artificial intelligence (AI), and supercomputers. Since then, China has closed the gap with the United States in state-of-the art technology.[16] But foreign dependence is not a one-way street. China relies heavily on foreign suppliers for critical equipment and software at each stage of the value chain. China’s high degree of external dependence, especially for high-end chips, has not substantially changed despite massive investments.[17] China imports more than $300 billion in semiconductors and relies on equipment from the US and its allies.[18] In fact, China has no viable alternative to using American technology, at least in the short term.[19] This dependence has left the Chinese semiconductor industry greatly exposed to US export restrictions — a vulnerability that the Biden administration, building upon the actions of its predecessor, is determined to exploit. Indeed, as a recent CSIS report put it: “In weaponizing its dominant chokepoint positions in the global semiconductor value chain, the United States is exercising technological and geopolitical power on an incredible scale.”[20]
Choking Off China’s Chip Capacity
Over the past decade, US officials have come to view technological interdependence with China as a threat and have sought to decrease the flow of technology products, services, and inputs to and from China.[21] The semiconductor sector has emerged as a focal point of these efforts, with concerns centering on military end use (MEU) diversion and commercial exploitation of American technological innovation. Both the Trump and Biden administrations have tightened export restrictions;[22] added Huawei and its affiliates[23] as well as China’s top chip producer SMIC to the Entities List,[24] thereby limiting their access to key US enabling technology; and blocked Chinese attempts to acquire US-listed technology companies.[25]
But with the passage of the CHIPS and Science Act of 2022 in August and the regulatory filing issued by the Commerce Department Bureau of Industry and Science (BIS), the United States entered a new era of industrial policy and took its tech war with China to a new level.[26]
On August 9, after more than two years of wrangling and revisions, the Creating Helpful Incentives to Produce Semiconductors and Science Act of 2022 (CHIPS Act) was signed into law, having garnered strong bipartisan support in the otherwise polarized Congress.[27] The ACT aims to surge production of US-made semiconductors, revitalize America’s scientific research and technological leadership, and bolster economic and national security. But in addition to seeking to foster a robust domestic semiconductor manufacturing ecosystem, the CHIPS Act takes aim at China. The Act prohibits funding recipients from expanding semiconductor manufacturing in China for a period of ten years from receipt of the award and countries defined by US law as posing a national security threat to the United States.[28]
On October 7, the Commerce Department’s Bureau of Industry and Security (BIS) issued a comprehensive package of export restrictions targeting China’s indigenous development of critical technologies, with an emphasis on semiconductors.[29] Under the rules, US companies must cease supplying Chinese chipmakers with semiconductor manufacturing equipment (SME) — including SME components — that can produce relatively advanced chips unless they first obtain a license. In addition, the new regulations add controls on some semiconductor production items and transactions for specific end-uses. The rules also require a license for any “U.S. persons” (i.e., citizens, permanent residents, or green-card holders) to work with Chinese companies contributing to advanced semiconductor production in China. A second set of regulatory actions added China’s top memory chipmaker YMTC and 30 other Chinese entities to a list of companies that American officials cannot verify as trusted to receive sensitive US technology exports.[30]
The new regulatory measures reflect Washington’s concern that cutting-edge chips and equipment are fueling China’s development of new weapons and enhancing its surveillance network.[31] They also reflect the firm conviction that seems to be widely shared among US policymakers, that enhancing America’s long-term economic competitiveness requires a determined effort to prevent China from producing leading-edge chips. Here, the speech delivered in September by National Security Adviser Jake Sullivan is telling. Sullivan stated the administration was seeking to shed the old approach of maintaining a “relative” advantage in key technologies to achieving “as large of a lead as possible.”[32] Chinese officials slammed the administration’s move, calling it “sci-tech hegemony.”[33] Experts have referred to it variously as “tech containment,”[34] “a new U.S. policy of actively strangling large segments of the Chinese technology industry,”[35] and “a massive escalation of technology decoupling.”[36]
Within a week of the filing, American chip equipment suppliers Lam Research, Applied Materials, and KLA Corporation had suspended sales and services to Chinese semiconductor manufacturers.[37] Yet, although the US remains the undisputed overall leader in the semiconductor industry,[38] other countries possess highly advanced technologies and lead in critical niches. For the new US approach to prevail will require bringing allies on board. Washington appears to have made some initial headway in doing so. Taiwan’s Economy Ministry issued a statement signaling its chip companies would abide by the new regulations.[39] Bloomberg reported in mid-December that Japan and the Netherlands were planning to announce curbs on the sale of advanced SME to China, thus aligning their policies with US restrictions.[40]
US Mideast Allies: On the Cutting Edge or the Bleeding Edge?
Israel is already one of the world’s leading innovation hubs,[41] while digital transformation is at the center of economic diversification strategies across the GCC.[42] For Israel — deeply burrowed into the global semiconductor supply chain — and for the Gulf Arab states — seeking to accelerate the digital transformation of their economies — the recent US curbs on semiconductors cannot have been welcome news.
The Israeli semiconductor industry, several decades in development, is flourishing.[43] The “startup nation,” which has become a significant player in the intricate semiconductor global supply chain, has placed its focus on the R&D aspect of semiconductors. Almost all the major international chip developers have a presence in Israel, including American tech giants Intel, Apple, Amazon, and Microsoft. In fact, over the past decade, Intel has acquired a half dozen Israeli chip companies.[44] Chinese tech companies’ engagement with the Israeli semiconductor sector has grown as well,[45] drawing increasing US scrutiny and pressure to “develop risk mitigation” measures to protect research and technology.[46] Plugged as they are into the global chip ecosystem, some Israeli semiconductor companies face potentially substantial revenue losses and staff layoffs as the result of the new US export restrictions.[47]
Although the technology landscape in the Gulf differs from and is far less mature in the semiconductor space than that of Israel, US export controls nonetheless do pose challenges. Digital transformation is central to the national strategies of all six GCC states. Earlier this year, for example, the UAE Cabinet approved the creation of the Council for Digital Economy and launched a Digital Economy Strategy that seeks to double the contribution of the sector to the national GDP from 9.7% (2022) to over 20% by 2031.[48] Indeed, UAE and the Kingdom of Saudi Arabia (KSA) are in many ways the Gulf pace-setters — forging ahead in efforts to digitalize their economies, including by attempting to breaking into the global semiconductor market through the localization of production and talent. Investing in and localizing the manufacturing of critical products and semiconductors is perforce high on the list of priorities of the UAE,[49] as it is for Saudi Arabia,[50] if only to guard against delays in achieving their economic diversification goals but also to fulfill their ambitions to establish themselves as tech powers.[51]
Within the Gulf, the UAE was the first-mover in pushing the localization agenda, with prominent players such as Mubadala investing in tech services, including artificial intelligence (AI), cloud computing, space systems, and telecommunications. Likewise, Saudi Arabia has launched ambitious programs and megaprojects. The Kingdom’s NEOM Tech & Digital Company is building advanced digital infrastructure in Oxagon[52] to support new data centers, Artificial Intelligence (AI) and advanced robotics operations, and high-speed networking. These activities by the Gulf’s economic heavyweights have dovetailed with China’s Digital Silk Road (DSR) efforts to create a digitalized, supporting environment for Chinese Belt and Road port-production activities in the region.[53] It is this alignment of interests and ambitions that has enabled China to embed its physical and digital technology into the economies of the Gulf states,[54] in turn lending momentum to US efforts to curb the use of Chinese technology.
Yet, Huawei has participated in building 5G networks in most Gulf states despite US concerns.[55] Furthermore, Gulf officials have plainly stated that they remain open to cooperating with China in AI, for example, “as long as it makes economic sense.”[56] Against this backdrop, it seems likely that the recent US semiconductor export restrictions will test the resilience of Gulf-China technology cooperation and incur the risk of further straining US-Gulf relations.
At the same time, it is important to take note of new and promising areas of cooperation in the semiconductor space involving US Mideast allies that do not run counter to Washington’s efforts to hobble China’s capabilities. UAE’s strategic investments in the semiconductor sector have been deployed in the United States.[57] Taiwan-based Foxconn, Apple Inc.’s biggest assembler, has been in discussions to set up a chip foundry in NEOM.[58] Last March, Saudi Arabia’s Advanced Electronics Company (AEC), Tokyo-based Yokogawa Electric Corporation, and Aramco signed an MoU aimed at accelerating the Kingdom’s digital ecosystem development, including localization of semiconductor chip manufacturing.[59] International Semiconductor Consortium (ISMC) — a joint venture between Abu Dhabi-based Next Orbit Ventures and Israel’s Tower Semiconductors (recently acquired by Intel Corp) has reportedly partnered to invest in the establishment of India’s first semiconductor manufacturing plant, in Mysuru, Karnatika.[60] Ultimately, US interests would be best served by a balanced approach, one that seeks not just to starve Chinese tech companies of cutting-edge chips and equipment but promotes cooperation among its Mideast and other allies to develop and maintain access to trusted, assured, and state-of-the-art semiconductors.
Conclusion
Heightened concerns about lagging competitiveness plus critical vulnerabilities and dependencies have converged with intensifying strategic competition to spur US policymakers to action. Whichever way one chooses to label or describe these recent efforts, they lead to the same conclusion: Washington has pivoted from an “outcompete” to a “damage-and-delay” approach to addressing the China challenge in the semiconductor space. This not only serves as additional confirmation that the ‘China hawks’ are ascendant in Washington but portends harsher US measures in other tech sectors, a further attenuation of US-China relations, and a ratcheting up of the pressure on third parties, including MENA countries and companies, to choose sides or take cover.
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