China Notches Up Chip War With US

CHINA’S BAN ON on the US semiconductor maker Micron is retaliation for US export controls restricting chip sales to China and a possible sign that Beijing feels confident that domestic suppliers can replace US chip imports, at least of low-end memory chips.

The Cyberspace Administration of China (CAC) said over the weekend that the company’s products had failed to pass a cybersecurity review without giving details. It advised against Chinese companies and proscribed the country’s ‘critical national infrastructure operators’ from buying the company’s products, saying it had found ‘relatively serious’ cybersecurity risks that posed “significant security risks to [China’s] critical information infrastructure supply chain’.

China is the world’s biggest semiconductors market. At 10-11% of its sales, it is a significant market for Micron, though not as relatively as important as for other US chipmakers; two-thirds of Qualcomm’s sales are in China, for example. Furthermore, Micron’s China sales are primarily lower-end memory chips that go into consumer electronics, not its advanced chips used by data centres.

The outcome of the security review announced in March was made public as G7 leaders meeting in Hiroshima agreed to combat what they called Beijing’s ‘weaponisation’ of economic coercion. It also suggests US President Joe Biden’s expectation of an imminent thaw in bilateral relations, based on Commerce Minister Wang Wentao’s visit to Washington this week, the first by a senior Chinese official since 2020, is misplaced.

Meanwhile, Beijing’s concern about China’s reliance on US technology will likely mean more actions against US companies and those from US-aligned nations.

TikTok Is Short-Form China-US Decoupling

THE CONUNDRUM OVER what to do about the US business of ByteDance video app TikTok is a microcosm of China-US tech decoupling.

The US government wants to disengage TikTok’s US business from any governance structure in which the Chinese government could have legal access to the data of US users or potentially use the app as a channel for propaganda and disinformation campaigns.

In 2018, former President Donald Trump ordered TikTok’s US business to be sold to a US company or be banned in the United States. Neither happened after legal challenges to the order, and Trump’s successor Joe Biden eventually rescinded it.

However, almost five years on, Biden finds himself in the same position as Trump — threatening TikTok with a ban if it does not sell its US business to US owners.

Months of negotiations under the auspices of the Committee on Foreign Investment in the United States (CIFIUS) between TikTok and the Biden administration to ringfence the US business in a way that would satisfy Washington’s security concerns are deadlocked. Under TikTok’s proposed Project Texas, US tech giant Oracle would store US TikTok users’ data and safeguard the US service against any Chinese influence over what content US users see.

However, what would be considered an acceptable outcome to Washington would not necessarily be similarly regarded in Beijing, where ByteDance’s recommendation algorithm, considered the secret sauce of TikTok’s commercial success, is viewed as a national security asset that should not fall into the hands of a foreign owner.

There is the rub. Without the algorithm, TikTok has significantly less value to any US purchaser than with it. With the algorithm, any purchaser would face the same US national security concerns as TikTok.

Beijing would likely block ByteDance from selling TikTok’s US business under any arrangements — either a spin-off or an outright sale — that included the algorithm or the capacity to replicate it.

At this point, Beijing’s public stance is to admonish the United States for using national security grounds to hobble and suppress foreign companies, a line repeated by Foreign Ministry spokesman Wang Wenbin on March 16.

However, this Bystander understands that the guidance officials are giving the company is to protect its intellectual property and overseas operations.

ByteDance is a private, not a state, company, with 60% of its shares owned by global investors. However, the 20% owned by its Chinese founders have outsized voting rights, and the company is based in Beijing and subject to Chinese law.

After the crackdown on the sector in the past couple of years, Chinese tech firms understand their unstated obligation to align with national interests determined by central leadership.

Few US companies would be able to acquire TikTok’s US business, which could cost up to $100 billion. The giant tech platforms Meta and Google would be ruled out on anti-trust grounds. Microsoft and Oracle, which was part of an abortive bid from WalMart for TikTok in 2018, are among the most likely bidders, along with a consortium of private equity firms, probably involving Sequoia Capital, KKR and General Atlantic, three US venture firms that are investors in ByteDance; Sequoia Capital was involved in the Oracle/WalMart bid.

Even if a sale could be pulled off, separating TikTok’s US operations from the rest of its business would be complex, especially if the recommendation algorithm has to be extracted. Like the broader China-US relationship, the systems are tightly enmeshed and would take a long time to separate.

China Revamps Tech, Financial And Data Governance

THE NATIONAL PEOPLE’S CONGRESS will rubber-stamp sweeping reforms to China’s governance in the coming days.

New institutions will oversee the financial and technology sectors, which multiple state organisations currently regulate.

Most notably for this Bystander, a new Party central work commission for the technology sector will oversee the restructuring of the science and technology ministry, which is intended to channel more resources to achieving breakthroughs.

President Xi Jinping is likely to chair the new commission as the intent of the governance reform is to move faster toward self-reliance in the face of what the State Council said were “the severe situation of international scientific and technological competition as well as external containment and suppression”.

Hitherto, the development of an indigenous semiconductor industry, for example, has underwhelmed. However, putting tech development under high-level Party leadership that will impose top-down policymaking will be no guarantee of more successful outcomes, even if policy implementation is less bedevilled by bureaucratic in-fighting and more responsive to the top leadership’s direction.

A new national financial regulatory administration will replace the existing banking and insurance watchdogs and bring supervision of the industry, apart from the securities sector, into a body directly under the State Council. Some powers will be removed from the People’s Bank of China. Details are yet to be made public. The securities regulator will also be directly overseen by the State Council.

The Party’s central financial work commission will likely be revived to enable Party direction of the new financial regulatory architecture which appears to be separating macroprudential regulation from market supervision. The new premier would likely chair the work commission.

Data is the third area of sweeping governance reform. A new national data bureau will be responsible for coordinating the sharing and development of data resources and planning the digital economy. The country’s top state-planning agency, the National Development and Reform Commission, will oversee it.

New central party committees overseeing ministries have been a hallmark of Xi’s governance. Yet, the latest reforms are the most sweeping since the creation of the National Supervisory Commission in 2018 to oversee anti-corruption work.

They reflect what top leadership considers China’s priorities: scientific and technological self-reliance and development, reducing systemic risk in the financial system and tighter control over data collection by private companies and cross-border data transfers.

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China Steals A March In Global Battle For EV Battery Market

IN THE BATTLE to control the critical industries of the future, score one for China.

Bolivia has chosen a Chinese-led consortium, CBC, to extract the lithium, a rare earth essential to the batteries that power electric vehicles (EVs), that lies in significant quantities under the South American country’s salt flats.

CATL, China’s leading EV battery maker, and the mining company CMOC (the old China Molybdenum) are prominent members of CBC. Bolivia’s state-owned Yacimientos de Litio Bolivianos (YLB) will front the project.

Bolivia’s laws require the state to exploit the country’s natural resources. Bolivia’s energy minister, Franklin Molina, made a point of saying the deal with CBC showed there were ‘sovereign alternatives to the privatisation models of lithium exploitation’.

Bolivia and neighbours Argentina and Chile sit atop the so-called ‘lithium triangle’, which contains more than half the world’s reserves. Hitherto, YLB has not been particularly successful in commercialising Bolivia’s deposits, which is why the government in 2021 called for foreign partners to participate. CBC outbid Lilac Solutions from the United States, the Uranium One Group from Russia and three other Chinese companies.

China already dominates the world’s lithium production through its processing capacity, which gives Chinese battery makers a cost advantage over foreign rivals.

CATL’s decision to squeeze efficiency gains from an older-generation lithium-ion phosphate battery technology rather than betting on newer alternatives has further enhanced its market position, generating the revenue to reinvest in other technological development that keeps it as a world leader.

German automakers have been courting it as a partner, as have several EU governments keen to create jobs in the sector and feeling irked that they have been cut out of the subsidies for EV production under last autumn’s US Inflation Reduction Act.

These subsidies are diverting investment from Europe, potentially including investment by Europe’s leading homegrown battery maker, Northvolt, which is reconsidering its plans to open a plant in Germany.

CATL, exploiting the opportunity, is considering opening a third battery factory in Europe.

China Formalises State Guidance Of Its Tech Platforms

AN INVESTMENT FUND set up by the Cyberspace Administration has acquired a stake and a seat on the board of an Alibaba subsidiary to control the content of one of China’s leading video streaming services, Youku.

The ‘rectification‘ of the tech sector is being completed — or at least having a line drawn under the current phase — by government agencies acquiring golden shares in many of the country’s major domestic internet platforms.

The ‘special management’ shares confer a 1% stake and special powers over a company’s operations. The aim, as in the case of Youku, is to control the content hosted on the platforms and the data they create more tightly.

A government entity yet to be decided will reportedly take a stake in the video business of Tencent, the gaming and social media conglomerate. ByteDance, which owns TikTok, and Weibo reportedly already have such an arrangement.

The policy appears to have been quietly pursued for some time in less prominent companies and subsidiaries of the major platforms. The special management shares formalise for the tech platform giants the ultimate and arbitrary power that authorities already hold over businesses in China.

Doing so will allow for it to be exercised more routinely and precisely, removing the need for the heavy-handed and disruptive measures taken during the crack-down on tech over the past couple of years to rein in the tech platforms’ power.

It also cements the intention of aligning the tech companies with Party and state policy, and delegates implementation to the appropriate agency.

Since 2017, the Party has pursued closer guidance of entrepreneurs and made clear its expectation that entrepreneurs will be ‘patriotic’. The tardiness of the sector in responding led to the use of the stick in preference to the carrot over the past two years.

Tech company resources will henceforth be more diligent in redirecting resources to upgrading the ‘real economy’ and other policy goals such as preventing private monopolies, improving conditions for gig workers and regulating fintech.

There is nothing particularly novel in the concept of the Party or state being in the vanguard of the organisation of economic activity.

In traditional industry, state-owned enterprises played the industrial policy steering role. The tech sector never had those, allowing private companies to flourish in their absence.

That vacuum has now been filled, and government agencies will set about the competitive business of building the next generation of national champions.

China Scrambles For The High Ground In Chip War

HARD ON THE heels of the World Trade Organization (WTO$ ruling against the Trump-era US tariffs on steel and aluminium from China and other countries. China has filed a complaint about US export controls on sales of advanced semiconductors and the equipment to make them.

Beijing is alleging that these are protectionist, an overreach of national security arguments for trade measures and undermine the international economic and trade order.

To this Bystander, China seems to be scrambling to attain the high ground rather than escalating the trade and technology confrontation between the two countries.

With Japan and the Netherlands, the two other significant players in advanced chip making, falling into line with the US strategy of denying China the technology, a complaint to the WTO is likely to have little practical impact, especially in the short and medium terms.

Chinese companies’ efforts to find loopholes in and workarounds to the US sanctions are likely to be more productive.

Mainly, filing a WTO complaint will let Beijing portray Washington as a unilateralist willing to build coalitions of its allies outside multilateral institutions, a message mostly directed at developing nations.

US Further Closes The Door To Chinese Tech Companies

THE FIRST RESTRICTIONS on Chinese telecom equipment being used in US networks because of security concerns came from the Obama administration. The Trump administration stepped them up dramatically, particularly against kit made by Huawei and ZTE. The Biden administration has now widened the restrictions further.

On November 26, the US Federal Communications Commission (FCC) said no equipment produced by Huawei, ZTE, two companies that make video surveillance equipment, Hikvision and Dahua, and two-way radio systems supplier, Hytera, would be authorised for use in the United States, citing national security grounds.

The ban is not retroactive, so the five firms can still sell their products and services previously approved for sale in the United States. However, the FCC is seeking comment on future revisions to the rules regarding equipment already authorised to be imported or sold. To this Bystander, that appears to be a step down the path towards future revocation of existing approvals.

The FCC specifically mentioned a threat to US citizens’ data security. The five companies have previously all denied supplying data to Chinese authorities.

Hikvision is the only one of the five to respond publicly so far, saying the ruling will 

make it more harmful and more expensive for US small businesses, local authorities, school districts, and individual consumers to protect themselves, their homes, businesses and property.

Its security cameras, like those made by Dahua, are widely used by US government agencies. Many police departments in the United States use Hytera radios.

The latest bans fit a broader pattern of containing the development of China’s indigenous tech industry. The Biden administration has also expanded US export controls to prevent the sale of advanced US hardware and software to China, especially that for making cutting-edge semiconductors. 

It is also pressuring US tech companies to move their supply chains out of China. The reported decision by the Taiwanese contract manufacturer Foxconn to move half its global iPhone production for Apple from China to India would be a significant win for the Biden administration; it would also disrupt the huge networks of sub-contractors and component makers and assemblers that feed into Foxconn’s Chinese supply chains. That would diminish the economies of scale benefiting the smaller Chinese companies, which also supply indigenous brands.

US officials and the US arm of ByeDance’s short-form video platform, TikTok, are also discussing how TikTok can assuage concerns that the data it collects on its US users will not be shared with Chinese authorities. Calls for the app to be banned in the United States are increasing, particularly from Republican lawmakers. 

However, the politics of banning a popular consumer app, especially among younger US citizens who vote 2-1 Democrat rather than Republican, complicate any decision the Biden administration might take, including following through on a Trump administration proposal that TikTok be forcibly divested to a US owner.

Biden Kicks Xi When He’s Up

WITH THE 20TH Party Congress starting on Sunday, the United States has timed two announcements that are only likely to reinforce the sense in Beijing that Washington is bullying it.

The more recent, the newly published unclassified version of the US National Security Strategy, identifies China as the main threat to US interests, saying it is the only country with both the intent and the means to reshape the international order.

It repeats a phrase used by US Secretary of State Antony Blinken earlier this year, emphasising how the United States must ‘invest, align and compete’ with China, which he described in the same speech as ‘the most serious long-term challenge to the international order’.

US President Joe Biden sees President Xi Jinping as an authoritarian leader who is antipathetical to Western democracy and needs to be checked not only by hard power but also by strengthening the US economy and its political institutions to negate Xi’s narrative that this is ‘China’s moment’..

The earlier announcement was regarding new restrictions on the export to China of US advanced technology, notably chipmaking equipment, published on October 7. These will significantly slow China’s development of advanced semiconductors and dependent technology, a high priority for Beijing for economic development and military applications.

They constitute a significant escalation in Washington’s confrontation with Beijing.

In both technology and security, Biden is making sure that the United States does not soften its focus on China, deflected by Russia’s invasion of Ukraine.

Corruption Probes Aim To Kickstart China’s Lagging Semiconductors Sector

THE SEMICONDUCTOR INDUSTRY has been hit with a series of anti-corruption investigations over the past month.

On August 9, the Central Commission for Discipline Inspection announced that three senior executives connected to the management of the investments of the National Integrated Circuit Industry Investment Fund, the main channel through which the government has provided more than $100 billion of state support for the sector, were under investigation for corruption.

In addition, the Commission is sending a team into the Ministry of Industry and Information Technology, whose minister, Xiao Yaqing, is already facing disciplinary proceedings.

The latest investigations follow hard on those of six other senior figures. These include Ding Wenwu, president of the National Integrated Circuit Industry Investment Fund, Lu Jun, president of Huaxin Investment, an asset manager for the Fund, and four top executives of Tsinghua Unigroup, the Tsinghua University-owned chipmaker and technology business beset by debt problems. Yangtze Memory Technologies was one of the Tsinghua Unigroup companies backed by the National Integrated Circuit Industry Investment Fund.

One of the four is former Unigroup Chairman Zhao Weiguo, who is associated with several businesses backed by the National Integrated Circuit Industry Investment Fund. He will be remembered outside China for leading a $23 million takeover bid for the US chip maker Micron Technology in 2015, which Washington blocked at the last minute.

China’s semiconductor industry has expanded rapidly since 2014 under government direction. Yet, despite the massive state support, China has not caught up to the cutting edge of chip manufacturing. Semiconductors remain its largest category of goods imports.

The anti-corruption crackdown reflects top leadership’s frustration with the semiconductor sector’s lack of progress even as its strategic importance grows in the face of US export controls on semiconductor manufacturing equipment and a new multi-billion-dollar programme to develop the US semiconductor sector. A further source of frustration is that the world’s largest supplier of advanced chips is Taiwan.

Public investment in state-backed sectors commonly has large inefficiencies. In this case, these appear to have been greater than usual — returns and outcomes look very poor compared to, say, the investment in the space industry — and worsened by who at this point knows what side deals were cooked up in the shadows of that mountain of money.

The shake-up of the sector that the anti-corruption investigations will cause will likely leave it better managed than before, though not necessarily better able to deliver ‘technological breakthroughs’ to order.

US Stacks The Chips In High-Stakes High-Tech Game With China

REPORTS FROM THE NETHERLANDS say that Washington is pressing the Dutch government to ban exports of semiconductor fabrication equipment to China.

ASML, one of the key manufacturers in the sector, is headquartered in Veldhoven near Eindhoven in the southern Netherlands. China is the company’s third-largest market after Taiwan and South Korea, worth $2.1 billion in 2021, one-sixth of total annual sales.

Since 2019, a Dutch-US agreement on export licences for dual-use technologies has prevented the company from selling Chinese firms its most advanced lithography systems — the machines that use ultraviolet light to trace the circuitry on computer chips (a detail of which can be seen in the photograph above).

According to the reports, Washington wants to expand the scope of the restrictions as it moves to slow Beijing’s drive for technological self-sufficiency. Last year, the US National Security Commission on Artificial Intelligence recommended that the United States ask its allies to prevent all lithography tool exports to China.

The Catch-22 for Washington is that restrictions on sales of advanced Western technology to China only spur Bejing’s development of its indigenous tech industries to end run US sanctions.

Last month, Bloomberg reported that China’s chip industry was growing faster than any other, with 19 of the world’s 20 fastest-growing chip industry firms being Chinese, compared to just eight a year earlier.

Beijing is pouring billions of dollars of investment into chipmaking by funding national champions, encouraging Chinese firms to ‘buy Chinese’ and through industrial policy programmes like ‘Little Giants’, which backs high-tech start-ups. It is also lobbying as discretely as it can manage against a bill in the US Congress that would provide $52 billion to supercharge US semiconductor manufacturing.

The long-term opportunity for China lies in developing a globally competitive chip industry that would dethrone its US rival and perhaps fatally damage US technological leadership. Former Google chief executive Eric Schmidt and Harvard scholar Graham Allison wrote in the Wall Street Journal last month that:

If Beijing develops durable advantages across the semiconductor supply chain, it would generate breakthroughs in foundational technologies that the US cannot match.

Schmidt and Allison proposed that Washington use carrots (tax incentives and subsidies) and sticks (leaning on their governments) to encourage chipmakers TSMC and Samsung to partner with US chip designers and fabricators to manufacture advanced chips in the United States. That would do nothing but escalate Beijing’s reaction to what it already calls ‘technological terrorism’.