(Bloomberg Businessweek) — There’s nothing like a supply shock to illuminate the tectonic shifts in an industry, laying bare the accumulations of market power that have accrued over years of incremental change. That’s what’s happened in the $400 billion semiconductor industry, where a shortage of certain kinds of chips is shining a light on the dominance of South Korean and Taiwanese companies.
Demand for microprocessors was already running hot before the pandemic hit, fueled by the advent of a host of new applications, including 5G, self-driving vehicles, artificial intelligence, and the internet of things. Then came the lockdowns and a global scramble for computer displays, laptops, and other work-from-home gear.
Now a resulting chip shortage is forcing carmakers such as Daimler, General Motors, and Ford Motor to dial back production and threatens to wipe out $61 billion in auto industry revenue in 2021, according to estimates by Alix Partners. In Germany, the chip crunch is becoming a drag on the economic recovery; growth in China and Mexico might get dinged, too. The situation is spurring the U.S. and China to accelerate plans to boost their domestic manufacturing capacity.
The technological prowess and massive investment required to produce the newest 5-nanometer chips (that’s 15,000 times slimmer than a human hair) has cemented the cleavage of the industry into two main groups: those that own their fabrication plants and those that hire contract manufacturers to make the processors they design. South Korean and Taiwanese companies figure prominently in the first camp. “South Korea and Taiwan are now primary providers of chips like OPEC countries once were of oil,” says Ahn Ki-hyun, a senior official at the Korea Semiconductor Industry Association. “They don’t collaborate like OPEC. But they do have such powers.”
It’s true the chip industry has no equivalent to the mighty oil cartel. Yet like a Saudi Arabia or a Russia, Taiwan Semiconductor Manufacturing Company (TSMC) and South Korea’s Samsung Electronics Co. can move markets with a turn of the spigot. Samsung’s decision at the start of 2019 to reduce capital spending on memory chips in a bid to bolster profits caused prices in the segment to rise after years of declines. TSMC’s Jan. 14 announcement that it had earmarked as much as $28 billion for investments in new plants and equipment in 2021, a 37% increase from the previous year, sparked a global rally in chip stocks and fanned speculation that the company was creating the conditions for troubled Intel to sharply scale down, or even exit, manufacturing.
Taiwan and South Korea became chipmaking powerhouses by occupying territory ceded by others. Beginning in the 1980s, U.S. manufacturers began transitioning to “fabless” designing, which besides being less capital-intensive, relieved companies and their workers of the need to handle an assortment of cancer-causing chemicals. A report published last September by Boston Consulting Group (BCG) and the Semiconductor Industry Association (SIA), estimated that in 2020 the U.S. accounted for just 12% of semiconductor manufacturing capacity, while Taiwan and South Korea together made up 43%.
TSMC supplies the processors that power everything from Apple’s iPhones to Google’s artificial intelligence. It also counts several of the world’s largest fabless chip companies among its customers, including Advanced Micro Devices, Nvidia, and Qualcomm. Samsung Electronics and its compatriot SK Hynix Inc. together control more than two-thirds of the market for memory chips that handle an ever-expanding sea of data.
“This pandemic has really been an inflection point in terms of the transition toward a digital economy and Asia is poised to benefit,” said Tim Uy, an economist at Moody’s Analytics, speaking at an online seminar on Feb. 24. It’s already happening: The boom in sales of work-from-home equipment helped South Korea post one of the smallest economic contractions in the world last year, while Taiwan clocked faster growth than China for the first time in three decades.
Automakers have been scrambling to get hold of chips that control antilock brake systems and dashboard displays, prompting the governments of several nations, including Germany, Japan, and the U.S., to appeal to Taiwan’s leadership for help in resolving the issue. The situation underscores the strategic importance of Taiwan, which remains the most dangerous potential flashpoint between the world’s two superpowers. China claims the island as its own territory, and the U.S. for decades has supplied Taiwan’s government with weapons to defend against an attack from the mainland.
On Feb. 24, President Biden signed an executive order mandating a review of supply chains for semiconductors, pharmaceuticals, and other leading-edge technologies, with an eye toward reinforcing America’s self-sufficiency. SIA, which bills itself as the voice of the semiconductor industry in the U.S., has taken a “when you can’t beat them, join them” stand on the subsidies, tax breaks, and other supports Asian governments lavish on their chipmakers, launching a push last year for billions of dollars in federal incentives to spur the construction of new fabs on American soil.
While the fracking revolution lessened U.S. dependence on Middle East oil, beefing up the country’s chipmaking capacity would probably require much higher levels of investment. Samsung’s newest fab, in Pyeongtaek, south of Seoul, has a price tag of around $15 billion. For reference, that’s almost 10 times the $1.6 billion Toyota Motor Corp. and Mazda Motor Corp. have committed for an auto plant they’re building in Huntsville, Ala.
One solution may be to invite Asian manufacturers to expand their U.S. footprints. TSMC said last year it would spend $12 billion to build a plant in Arizona that’s slated for completion in 2024. Samsung is scouting locations in Texas and Arizona for a logic-chip facility that would be the most advanced of its type in the U.S. Both companies are seeking government subsidies to compensate for what they say is the increased cost of setting up a fab in the U.S.
China, which buys more processors than any other country—some $300 billion worth annually—has invested massively to wean itself off its reliance on geopolitical rivals like the U.S. Its share of global manufacturing capacity now stands at 15%, three percentage points above the U.S., according to the BCG report, but none of its national champions are considered world-class. The soon-to-be-unveiled 14th Five-Year Plan may provide fresh guidance on Beijing’s intentions.
So for now, Washington and Beijing are in a similar bind: heavily reliant on the flow of chips from Taiwan and South Korea, which are allied with the U.S. strategically but also entwined with China economically. Says Lee Kyung-mook, a professor of business management at Seoul National University: “They may now have more power than OPEC did going forward, because at least oil producers were spread all over the world.”
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