Amid Geopolitical Gale, Taiwan’s Chipmakers Chart New Course

In light of rising tensions between China and the free world, resilience is becoming paramount, while a bifurcation of supply chains seems inevitable.

Eyebrows were raised in December when Taiwan Semiconductor Manufacturing Co. (TSMC) founder Morris Chang, speaking at the opening ceremony of the chipmaking giant’s Arizona fab, remarked that “free trade is almost dead and globalization is almost dead.” He added that “a lot of people still wish they would come back, but I don’t think they will be back.”  

Chang’s comments appear to reflect that geopolitical tensions between China and the world’s democracies, with the United States at the forefront, are now a major influence on how the world’s semiconductor supply chains are organized. This change matters enormously for TSMC, the world’s largest contract chipmaker, and for Taiwan overall.  

Accounting for 64% of global foundry revenue, Taiwan is the world’s top chip manufacturer, according to Taipei-based research firm TrendForce. Taiwan also accounts for 27% of IC design revenue and 20% of packaging and testing revenue – second and first, respectively, in the world.  

The rising impact of geopolitics on the industry has been swift. Less than a decade ago, leading international chipmakers barely gave any thought to the national security implications of close cooperation with China and its ruling Chinese Communist Party (CCP). Today, intense great-power competition between the U.S. and China requires them to adjust their business strategies to reduce their China exposure or risk falling afoul of American law.  

Since the U.S.-China trade dispute began in 2018, Washington has imposed a series of ever-harsher sanctions on China’s semiconductor industry. These measures aim to stymie Beijing’s unflagging military buildup and quest to dominate crucial next-generation technologies.  

“The belated realization that TSMC was dominating the manufacturing of the most advanced chips, to the tune of around 90% or more on any given day, finally got the attention of national security agencies in the U.S.,” says Paul Triolo, senior vice president for China and technology policy lead at the Albright Stonebridge Group, an advisory firm.  

But, Triolo adds, this new development happened “only in the context of deteriorating U.S.-China relations” and the late realization that unification of China and Taiwan, peaceful or not, now seemed to be a possibility. 

In the short run, the U.S. bid to kneecap China’s semiconductor industry will hit TSMC’s bottom line, given its many Chinese customers. TSMC reportedly stopped making AI chips for Chinese startup Biren in October while the Taiwanese chipmaker reviewed U.S. regulations. Biren’s products are believed to outperform Nvidia A100 chips, which the U.S. has now banned from being sold to the Chinese market.  

Some analysts reckon that the U.S.-China tech race could also adversely affect Taiwan’s IC makers in the long run. Joanne Chiao, an analyst at TrendForce, says the bifurcation of semiconductor supply chains will increase operating costs for foundries worldwide.  

“This means that every foundry will be facing increasing pressure related to pricing regardless of where they put their fabs,” she says. At the same time, with the construction of new fabs in the U.S., Japan, Singapore, and possibly Europe, “Taiwan’s importance as the world’s main chip production base will diminish somewhat over time because of the deglobalization trend.”  

Just how much it will diminish is the subject of heated debate, with Chinese outlets accusing the U.S. of hollowing out Taiwan’s semiconductor industry. The Communist Party tabloid Global Times said in December that TSMC “is turning into ‘USSMC.’” Similar accusations were also made by Taiwanese media and opposition party KMT lawmakers, who accused the government of “gifting” TSMC to the U.S. 

The Tsai administration has refuted that claim. “There is no such issue as ‘de-Taiwanization’ of our semiconductor industry,” Foreign Minister Joseph Wu said in December. He added that Taiwan’s industry is “very strong” and can’t be replaced by other countries. “This is a demonstration of our industrial strength, as we are expanding into other markets,” he said. 

J. Travis Mosier, an independent semiconductor analyst and former senior official at the Department of Commerce, says Taiwan can be expected to keep its most advanced technology at home and thus “safeguard the crown jewels.” However, by cooperating with key allies and partners to build new manufacturing facilities outside of Taiwan, it can garner considerable goodwill and support while raising its international profile.  

“TSMC is the tip of the spear for Taiwan’s techno-diplomacy,” says Mosier.  

Putting down new roots  

Arizona is ground zero for TSMC’s global expansion drive. The company is spending US$40 billion to build two fabs there, making it the largest foreign direct investment in the state’s history. The first plant is scheduled to begin producing chips with its N5 family of manufacturing processes in 2024, while the second is expected to start producing chips on its 3-nanometer process technology in 2026.  

The two fabs are expected to create 20,000 jobs divided equally between construction and high-paid tech positions, according to a TSMC press release in December. The fabs will manufacture more than 600,000 wafers annually, with an approximate end-product value exceeding US$40 billion.  

There are compelling commercial reasons for TSMC’s U.S. expansion. More than 60% of the company’s revenue comes from North American customers, including major IC design companies such as AMD, Apple, Broadcom, NVIDIA, and Qualcomm, notes Cheng Kai-an, a senior industry analyst at the semi-governmental Market Intelligence & Consulting Institute (MIC).  

“Having advanced fabs in the U.S. allows more convenient and direct access for branded customers to conduct new trials and/or process optimization to accelerate the chip development process,” he says.  

“Proximity to customers is important,” says Rupert Hammond Chambers, president of the U.S.-Taiwan Business Council. Customers are “demanding a shorter supply chain, and while that may be hard to place a dollar figure on, TSMC is responding to customer demand.” 

To be sure, the Biden administration’s determination to strengthen the U.S. domestic IC sector undoubtedly influenced TSMC’s decision to expand to Arizona. “TSMC wants to ensure that it is responding to the geostrategic pressure now being applied to the semiconductor sector,” Hammond-Chambers says. “In so doing, it can chart a cooperative and in-sync strategy to future investment demands by critical markets.”  

While China once seemed destined to be among TSMC’s most important markets, decoupling has changed the chipmaker’s calculations. Its US$3 billion Nanjing fab, once a symbol of its expectations for the Chinese market, is likely TSMC’s last facility of its kind in the country.  

Barring a dramatic improvement in Sino-U.S. ties or a détente in cross-Strait relations, “China as an important market for Taiwan’s semiconductor industry will gradually decrease over time,” says Stephen Su, a senior vice president at the semi-governmental Industrial Technology Research Institute (ITRI), which incubated TSMC in the company’s fledgling years.  

TSMC is also looking for growth opportunities in other major democracies, especially Japan. In 2022 the company began construction on a fab in Kumamoto prefecture, expected to create about 1,500 high-tech jobs and have a monthly production capacity of 45,000 12-inch wafers. The US$7 billion plant, which will be completed in 2024, is being built “with strong support from the Japanese government,” TSMC said in a press release.  

TSMC grew its global foundry market share to 56.1% in the third quarter of 2022.

Of the expansion into Japan, MIC’s Cheng says: “Again, the main reason is to meet the needs of branded customers.” He notes that TSMC has already obtained orders from leading Japanese brands like Sony and Denso to ensure its Japanese fab has good capacity utilization. 

C.C. Wei, TSMC’s CEO, said in a January earnings call that the company is considering building a second Japan fab “as long as the demand from customers and the level of government support makes sense.”  

Further down the line, a European production facility could be in the cards, most likely in Germany, given the country’s industrial clout and huge automotive sector. During the earnings call, Wei said TSMC is evaluating the prospects of setting up “a specialty fab focusing on automotive-specific technologies” in Europe based on customer demand and government support. Europe, the Middle East, and Africa account for 6% of TSMC’s revenue, according to the company’s annual report.  

There are several advantages to building a new production facility in Europe, says TrendForce’s Chiao, including proximity to several automotive and industrial customers, as well as abundant raw materials and equipment for chip manufacturing. “However, strict environmental policies and lack of electricity would still be a big challenge for foundries to operate production facilities in Europe,” she adds.  

ITRI’s Su notes that certain cultural differences between Taiwan and the West may pose challenges for TSMC in the U.S. as well as in Europe if it decides to build a fab there. “The round-the-clock operations and service mindset cultivated in Taiwan over the years would be difficult to duplicate in Western culture,” he says. “Operational efficiency, manufacturing engineering, and speed of technological innovation might be impacted in overseas operations when compared with those in Taiwan.”  

Silicon island  

Though international expansion will become an increasingly important part of TSMC’s business in the coming years, Taiwan will remain its paramount knowledge and production hub for practical reasons. “Some believe that TSMC’s investment in the U.S. may lower the importance of Taiwan’s semiconductor industry,” says MIC’s Cheng. “However, this accusation is not true.”  

He notes that the Arizona fabs will at most account for 4% of TSMC’s production capacity by 2026. Thus, global IC design companies will continue to rely on foundries in Taiwan, allowing the island to maintain its lead in semiconductor fabrication. 

To that end, TSMC plans to boost its production capacity at home. In November, it began construction on a factory in Kaohsiung that will produce 28-nanometer chips, with mass production set to start in 2024. 

Rick Tsai, chief executive officer of leading Hsinchu-based chip designer MediaTek, told Reuters in a November interview that his company would be sourcing chips from the Arizona fab in the future but that it would not be a substitute for facilities in Taiwan.  

Noting that the Arizona fab will account for a minuscule share of TSMC’s overall production capacity, Triolo from Albright Stonebridge cautions that it would not provide a sufficient buffer in the event of a cross-Strait contingency. “That facility will still be tied umbilically to the TSMC mothership in Hsinchu, Taichung, and Tainan,” he adds. “Hence any disruption created by U.S.-China-Taiwan tensions will ripple through the TSMC production chain and the global IT market as a whole.” 

Concern about a cross-Strait conflict spiked in the wake of then-U.S. Speaker of the House Nancy Pelosi’s August visit to Taiwan, but no evidence exists to suggest that China has jettisoned its stated preference for a peaceful solution to what it calls the “Taiwan question.” If anything, Beijing appears to be quietly courting Taiwanese politicians it deems friendly while continuing to use coercion to show its displeasure with the Tsai administration and the U.S.  

China’s use of military exercises to intimidate Taiwan, often mistaken by businesspeople as a sign of impending conflict, is a potent form of psychological warfare. “The military coercion that is ever-present is designed to make Taiwan a less attractive place to do business,” says U.S.-Taiwan Business Council’s Hammond-Chambers.  

To counter it, he urges other countries to enter into bilateral and multilateral trade agreements with Taiwan to offset the attempt to undermine Taiwan economically. “The U.S. should make a bilateral trade agreement its top priority with Taiwan,” he says. “Regionally, Taiwan’s inclusion in the CPTPP is a must. These two actions should provide a gateway for economies such as Japan, the UK, and the EU to walk through and consummate their own agreements telegraphing confidence in Taiwan to their own businesses, as well as the global economy.”  

As for the costly bifurcation of supply chains, semiconductor analyst Mosier says that it is unavoidable, given Taiwan’s importance as a chipmaker and U.S. determination to secure chip supply.  

“People love the efficiencies of the global economy, but those no longer are as reliable given geopolitical risk,” he says. “As a result, we’re seeing a shift from efficiency to resilience.”