China gears up to fight back in tech war over chips

For years, China’s race with the US for global tech supremacy has been a boon for its chip industry.

Rapid advances in artificial intelligence, a growing domestic consumer technology market, supercomputer programmes and a rapid military build-up have all fuelled demand for semiconductors. This has intensified an urgency to make more of the chips domestically.

Over the past decade, Beijing poured more than $100bn in subsidies into enterprises such as Shanghai-based Semiconductor Manufacturing International Corporation. As a result, SMIC and its peers built new fabrication capacity faster than chipmakers anywhere else in the world, and their revenues ballooned to Rmb756bn last year, up from Rmb144bn 10 years ago.

But now, as the US-China tech race has become a tech war, China needs its semiconductor companies to fight. The question is: can they win?

Jolted into action by a proliferating web of US sanctions against companies such as telecom equipment maker Huawei and SMIC, Beijing issued a rallying cry last week: the nation must “make technological self-sufficiency the strategic backbone of national development”. By 2025, the government has decreed, the country should make 70 per cent of its semiconductors domestically, up from barely a third today.

That might have been achievable if Washington had stopped at Huawei. The latest US moves against the technology group block any shipments of chips made with US technology to Huawei or any other party for the Chinese company’s products without a special export licence. While that is a blow to Huawei and threatens the survival of its subsidiary HiSilicon, China’s largest chip design company, it did not affect the rest of the country’s chip sector.

But that changed when the US told its semiconductor equipment companies last month that their supplies to SMIC were now also subject to export controls. That means Washington can put the brakes on expansion by China’s largest contract chip manufacturer.

The machines used to etch the surface of silicon wafers, apply microscopic layers of chemicals to them, or clean and test the chips remain a technology frontier. And US companies hold a commanding share in segments of this market. China has its own stable of budding chip equipment makers, but they accounted for only 8 per cent of the $11.4bn China’s chipmakers invested in equipment last year.

Analysts at brokerage Jefferies believe that aggressive expansion plans for fabrication capacity in China “provide a significant opportunity” for Naura, AMEC and ACMR, the largest Chinese equipment makers. Jefferies estimates that Chinese chipmakers are set to spend about $100bn on machinery between 2021 and 2026. The problem is that none of them are quite there yet. Despite China’s push towards localisation, the chip manufacturers supported by Beijing’s cash tap such as SMIC preferred to use equipment from global market leaders including Applied Materials, Lam Research and KLA-Tencor of the US, Dutch equipment maker ASML or Tokyo Electron of Japan.

“Each time Chinese equipment makers received a piece of the subsidiary pie, they made some breakthrough, declared victory and then stopped,” said an executive at a foreign supplier to SMIC. That could change now. Companies, government officials and research institutes are hatching plans to build “de-Americanised” fabrication plants.

But any such project would have to run on machinery cobbled together from different vendors because no single Chinese company can offer equipment for the whole chip manufacturing process. For some particularly sophisticated segments, it would have to buy gear from ASML and Tokyo Electron or even find used US equipment.

According to Douglas Fuller, an expert in the Chinese chip industry at City University of Hong Kong, a private industry study involving US equipment makers explored options for circumventing Washington’s export controls. One possibility discussed was creating a production line at SMIC, equipped with machinery from American companies but made outside the US.

Any such move could trigger US government steps to close loopholes. On the other hand, Beijing could respond to resistance by Chinese chipmakers to buy local by making subsidies for new chip plants conditional on the use of local equipment. Either way, backed by the world’s largest market, China’s chip companies have more than a fighting chance. But they are in for a long, messy battle.

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