Taiwan greeted Nancy Pelosi as a true friend when the US House Speaker visited the country in August in what was seen as a demonstration of support against Chinese military threats.
But when President Tsai Ing-wen hosted Pelosi for lunch at a neo-baroque palace in Taipei, two men at the table were a reminder that the friendship is coming under strain: Morris Chang, founder of Taiwan Semiconductor Manufacturing Company, and Mark Liu, chair of the world’s largest contract chipmaker.
The global semiconductor industry is now dominated by Taiwan, thanks to TSMC’s meteoric rise. Chang told Pelosi in stark terms that Washington’s efforts to rebuild chip manufacturing at home were doomed to fail.
“He was pretty blunt, and the esteemed guests were a bit surprised,” says one person who heard the conversation.
TSMC now finds itself at the centre of both a tug of war between Washington and Taipei and the fiercest front in the new cold war between China and the US.
Nicknamed the “godfather of the chip industry” in Taiwan, 91-year-old Chang is defending his life’s work: founded 35 years ago with start-up capital from the Taiwanese government and technology licensed from Dutch semiconductor company Philips, TSMC has grown into a giant with an effective stranglehold on the global chip supply chain.
Taiwan sees this dominance as a crucial security guarantee — sometimes referred to as its “silicon shield”. The government believes that the concentration of global semiconductor production in the country ensures the US would come to the rescue if China were to attack.
“Everyone needs more advanced [ . . . ] semiconductors,” economy minister Wang Mei-hua said during a visit to Washington this month. Being a key global player in this way will “make Taiwan [ . . . ] safer and [secure] peace”, she added.
But Taiwan’s determination to keep as much of the industry as it can on the island is clashing with US strategic goals and its fears of China.
As competition between the US and China heats up and the risk of a military conflict over Taiwan increases, Washington is seeking to both cut Beijing off from supplies of key advanced semiconductors and reduce its own dependency on Taiwan for chip supplies.
Both of those objectives potentially undermine TSMC, whose success is built on serving customers in all markets and on doing so from a cost-efficient cluster of plants almost entirely in Taiwan.
“The silicon shield is becoming a tripwire,” says Jason Hsu, a former Taiwanese lawmaker and now a senior fellow at the Harvard Kennedy School.
“On the one hand, the US pressures TSMC to move to the US. On the other, it is waging technology war on China, pushing tension to a higher level that puts Taiwan at risk,” he adds. “If you have something that both sides want, you have leverage. But if you don’t play that card, you become a pawn. We are kind of playing along with what the US wants.”
The US stepped up its campaign to hamper China’s economy earlier this month, introducing sweeping controls that block exports of some chip manufacturing equipment and restrict sales of certain semiconductors to the country — measures clouding the future of China’s entire chip industry.
Although TSMC says the impact on its business is limited for now, chief executive CC Wei told investors it was too early to assess the true influence in the longer term.
The problem for TSMC is that Washington is simultaneously pushing to diversify chip manufacturing away from Taiwan.
The Pentagon has long been concerned that US dependency on Taiwan could put its defence industry’s chip supplies at risk. Last year, Eric Schmidt, the former Google CEO who chaired a national commission on artificial intelligence, said the US was “very close to losing the cutting edge of microelectronics which power our companies and our military because of our reliance on Taiwan”.
Now, the chip shortage triggered by disruptions during the pandemic, Washington’s desire to slow down China in its pursuit of technology leadership, and fears that Beijing could seize Taiwan by force are all catalysing US efforts to revive semiconductor manufacturing at home. Europe, Japan, Singapore and India are making similar efforts.
Wearing his trademark aviator sunglasses on a bright Ohio day in early September, President Joe Biden bragged that “America is back” as he attended the groundbreaking ceremony for a $20bn chip fabrication plant, or “fab”, that Intel will build.
“Folks, the future of the chip industry is going to be made in America,” Biden said, one month after the US Congress passed legislation to provide $52bn to help rebuild US semiconductor manufacturing.
The geopolitical and business implications of the new US strategy are starting to become apparent. “Everyone realises that there is a big watershed moment here for the whole industry,” says Peter Hanbury, a partner and expert in semiconductor and technology supply chains at Bain, the consultancy. “But it kind of snuck up on people.”
The relentless rise of TSMC is one of the most important and least told chapters in the era of globalisation.
Different from peers such as Intel and Samsung, which continue to both design and manufacture chips, TSMC is a contract manufacturer that produces semiconductors designed by other companies. The efficiency and cost savings of this foundry model have convinced so many other chipmakers to outsource fabrication to TSMC that Taiwan now accounts for 20 per cent of global wafer fabrication capacity, the single largest concentration in one country, and a staggering 92 per cent of capacity for the most advanced chips. The US share in global chip manufacturing has dwindled from 37 per cent in 1990 to 10 per cent in 2020.
The risks are clear: Credit Suisse analysts estimate that if the world were to lose access to Taiwan’s chip plants, the production of everything from computers to cars would be severely disrupted.
A major disruption in that capacity would be “massive” compared with recent incidents such as a 2021 outage in a Samsung fab due to power cuts in Texas, Covid-related disruption in south-east Asian factories and earthquakes in Japan, according to Credit Suisse. TSMC’s capacity footprint by the end of 2023 could reach $171bn, “over 3x the scale of the US Chips Act allocations through the next decade”, it adds.
Breaking up this hub challenges not only TSMC but the global ecosystem that has formed around the company.
Chang started TSMC in 1987 after the Taiwanese government recruited him from the US to help create an electronics industry. Industry executives credit the company’s success to its single-minded focus on technological detail, customer needs and execution.
Chang started honing those skills when semiconductors were still in their infancy. Born in China and educated as an engineer at MIT, he began working alongside the pioneers of the industry in the 1950s and showed his knack for improving manufacturing processes from the very beginning.
At US chipmakers Sylvania and Texas Instruments, Chang became an expert in increasing the yield — the proportion of non-defective transistors on a production line — according to Chris Miller, an economic historian at Tufts University and author of Chip War, a book about the industry. That became a core strength that boosts both TSMC’s profits and reliability for its customers.
TSMC’s foundry services spawned an entire new breed of “fabless” chip companies, such as Nvidia, the graphics chip design house founded in 1993. The increasing technical difficulty of chip manufacturing and the ballooning cost of building fabs also convinced ever larger numbers of chipmakers to go fabless.
One of them was AMD, Intel’s rival in the market for central processing units, the chips that power PCs. After falling behind Intel, AMD sold its fabs in 2008. It now relies almost completely on TSMC, a strategy that helped it recover.
The next boost came when Apple started designing chips for the iPhone in-house and picked TSMC to manufacture them. Its iPhone chips are now exclusively made by TSMC in Taiwan.
“I have been surprised by Apple and AMD deciding to allow themselves to get so reliant on one supplier,” says Dan Nystedt, vice-president at TriOrient, an Asia-based private investment company. “That’s risky. Even without geopolitics, there are earthquakes, power shortages. Why does Apple accept that their whole company would have to shut down if TSMC were shut down?”
Some fabless companies’ decision to put all their eggs in one basket reflects the efficiency of the symbiotic system TSMC has built.
“There has been an unwillingness to even think about shifting away from TSMC for a lot of the industry [because] it was inconceivable for the business model that was functioning so well,” Miller says.
TSMC was further strengthened when Intel stumbled. The company, long focused on CPUs, missed both the rise of the smartphone and of artificial intelligence applications, letting TSMC grab much of the market for chips used by cloud services providers such as Google. Then Intel struggled to master mass production in two consecutive process technology generations. This allowed TSMC to pull ahead not only in scale but also in technology.
“That, combined with the geopolitical tension, led to a crisis of confidence in the US: if something were to go wrong in the Taiwan Strait you could not credibly tell yourself that you could rely on US technology solely to build up the capacity you need if, in fact, by some key metrics TSMC had leaped ahead of Intel in terms of technology,” Miller says.
By the time Barack Obama prepared to hand the presidency over to Donald Trump, concerns over the US’s heavy dependence on Taiwan-made chips had spread from the Pentagon to the commerce department.
Although it took a trade war with China, a pandemic and an escalation in China’s threats against Taiwan, Washington is now moving quickly. In 2019, Trump administration officials leaned on TSMC to place some advanced capacity in the US, its largest market.
The company complied — it is building a fab in Arizona that is scheduled to start mass production in 2024.
But the plant has neither the scale nor the technological level of TSMC’s newest fabs — in Taiwan, the company is building a fab for N2 chips, the newest generation of chips that is expected to follow the N3 one about to go into mass production.
“Progress on reducing the dependence on TSMC . . . for the most advanced processes will not be reduced significantly until TSMC, Samsung and Intel all site advanced facilities at scale in the US,” says Paul Triolo, a China and technology expert at Albright Stonebridge Group.
Even then, only part of the supply chain will benefit. The fabs that Intel, TSMC and Samsung are building in the US are all for advanced chips, so they will mostly support the PC, smartphone and server industry. However, automakers, which saw production disrupted due to chip supply bottlenecks, use less advanced chips that struggle to be viable in the US, where costs are higher.
“A lot of the investment will not help with the defence supply chain either,” says Hanbury. “The only government applications that run on advanced nodes are AI, cryptography and supercomputers, and those account for less than 5 per cent of bleeding-edge chips.”
An uphill struggle
Despite Biden’s upbeat rhetoric, the Chips and Science Act may fall far short of what is needed.
“The way the fab funding section has evolved and is now playing out is a train wreck waiting to happen,” says Dick Thurston, former general counsel for TSMC and now a consultant in the US. “There will be a lot of disillusionment — actually, US semiconductor manufacturing will suffer because of it. In order for this to succeed, you need several multiples of the money committed over a period of 10 to 15 years at least.”
Underlining the size of the challenge, the Semiconductor Industry Association and Boston Consulting Group estimate that upfront investment of up to $1.2tn would be needed for each region to have fully localised supply chains at 2019 levels, followed by continuous spending of up to $125bn a year.
Edlyn Levine, chief science officer at America’s Frontier Fund, which aims to invest in companies that will help the US stay ahead in critical technologies, says it is “a fantasy” to think that the US could completely decouple from TSMC. “The idea . . . is technically not feasible,” says Levine.
Despite its Arizona investment, TSMC is trying to sit things out as the concentration of its fabs and suppliers in a tight cluster in Taiwan has enhanced its efficiency. “There are a lot of benefits to the way they are running things — especially the close connection between R&D and high-volume manufacturing where you can send an engineer to a fab just an hour away,” Hanbury says. “The cost savings and benefits of expertise are part of the TSMC model.”
The company refuses to discuss how the push for change affects it. “We recognise that there has been increased attention on geopolitical issues between China and Taiwan, which are not new and go back decades,” says TSMC. “However, we do not see these tensions affecting TSMC operations at the current time. The current plan of TSMC operations is also sustainable in Taiwan. The success and functioning of the highly complex and diverse semiconductor ecosystem require global collaboration, as all nations and corners of the technology industry know.”
Still, the heightened sensibility over global dependence on Taiwan is certain to force change.
“There have been some concerns among TSMC customers since two years ago,” says Sebastian Hou, managing director at Neuberger Berman, an investment management company. “It was the time when in Taiwan we started to have more fighter jets from China hovering around the Taiwan Strait, and that has become a daily routine.”
Wireless chip company Qualcomm said in August it was more than doubling manufacturing orders to GlobalFoundries under a strategic co-operation with the TSMC rival, specifically at a plant the foundry is expanding in New York.
Nvidia is splitting its product portfolio with data centre chips being produced at TSMC and some of its personal gaming chips by Samsung.
Hanbury says it will take years to see whether more TSMC customers follow that example because changing manufacturing partners is so difficult and risky. “The big question is if Apple is also going to do a split,” he adds.
A decisive factor will be how smoothly TSMC’s rivals can scale up capacity in the US. Both Intel and Samsung are planning much bigger US fabs than TSMC’s initial Arizona commitment, theoretically allowing for a better cost structure and market share gains. However, TSMC has acquired enough land to build several more fabs.
Industry experts believe that diversifying its footprint might become necessary for TSMC for reasons beyond geopolitics. It is already getting harder for the company to find the thousands of engineers for its larger and larger fabs. Another question is whether Taiwan will be able to provide enough water and power to keep expanding chip manufacturing.
Some analysts argue that Taipei’s reliance on TSMC for its security is flawed in the first place.
Brad Martin, director of the National Security Supply Chain Institute at the Rand Corporation, warns that instead of functioning as a “silicon shield”, Taiwan’s dominance in the semiconductor market could make it more vulnerable.
If China were to impose a quarantine — a limited, non-violent blockade — on Taiwan, other countries could shy away from supporting the country out of concern that an escalation would lead to permanently cutting off or even destroying their chip supplies, Martin says.
“The monopoly in semiconductor production creates instability,” he adds. “If the US is faced with a need to make a decision between protecting its economy and defending Taiwan, that starts to become a very stark decision.”