Chip Manufacturing: Further Exercising the Geo-economic Power of the U.S. FDPR Could Have Consequential Effects

Although once praised for its disciplinary economic collaboration, the semiconductor industry has faced the negative impact of the interconnected nature of its supply chain. President Biden’s latest announcement on the 7th of October unveiled its newest provision to restrict technology exports to China, limiting the usage and manufacturing of semiconductor chips containing critical U.S. materials in developing military weapons. The provision marks a new attempt to decouple China from the U.S. in cutting-edge technologies, threatening an already weakened semiconductor supply chain from sanctions against Russia in the Ukraine war. 

This provision is called the foreign direct product rule (FDPR), which considers products made using American technology under the regulatory control of the U.S. government, regardless of production by a foreign party. Initially introduced in 1959 to control the trading of U.S. technologies, the FDPR was expanded in 2020 to give the U.S. restrictive powers against Huawei Technologies Co. by limiting the latter’s supply of chips needed to dominate global 5G telecommunications networks, tanking company earnings by 29% in 2021. It was further employed as part of widened trade sanctions against Russia following the invasion of Ukraine, resulting in a 90% decrease in chip exports to Russia. In its latest application, the Biden Administration will block the acquisition of sophisticated U.S.-manufactured chipmaking tools by leading Chinese firms of ‘supercomputer status’ and limit their employment of U.S. talent. China’s reliance on semiconductor chips is evidenced by its growing trade deficit in electrical machinery from $15bn in 2001 to $217bn in 2021. The new controls will be a significant blow to its semiconductor industry.

This effect likens the impact of the FDPR to that of a geo-economic weapon. Biden’s restrictions under the FDPR have been deemed a preventative measure to stop advanced chip use in Chinese supercomputers, which can be used to develop nuclear weapons and other military applications. The gap between the U.S. and non-U.S. global research and development (R&D) is the smallest its ever been at 30%, and restrictions offer a buffer period to maintain a technological lead. However, the long-term implications of the regulation will not only stunt growth in weapon building but also set China back in terms of advancement and force the possibility of developing their independent chips. 

The predominant risk of these new restrictions lies in their scope, with many actors, foreign markets, and countries involved. On the surface level, these regulations are an inevitable resumption of the U.S. crackdown on independent companies like Huawei and are unsurprising in the context of limiting China’s technological prowess. However, the new FDPR ruling is broader and affects a much more significant portion of the market rather than simply crippling a major competitor for U.S. firms. Restricting chip exports to China could negatively impact U.S. companies by significantly reducing their market share. It would further slow foreign investment from China into U.S. technology firms, with a recent white paper revealing that over 58% of U.S. companies reported being directly affected by tensions within the China- U.S. relationship.

The U.S. CHIPS and Science Act signed in July 2022 buffers some of this impact by pledging $52bn in subsidies to the U.S. national semiconductor industry to bolster domestic manufacturing. However, the technicalities of advanced chip manufacturing are still heavily dependent on foreign companies such as the Taiwan Semiconductor Manufacturing Company (TSMC), and reduced U.S export would trigger supply chain disruption. Increased export controls may further deter investment from the U.S., with companies choosing to operate offshore to bypass restrictions in the event that the subsidies run out. Similarly, given the massive rates needed to build and maintain chip plants, $52bn is not a viable long-term solution. U.S. companies require significant investment in R&D to maintain an edge in the global tech competition, but China’s market, with 1.4 billion people, is of enormous importance to technology firms. Should China impose its own retaliatory restrictions against U.S. companies, it could lock the U.S. out of a crucial market and consumer base. This could threaten the compliance of supercomputer restrictions for U.S. allies such as Taiwan, South Korea, and Singapore, stall international collaboration, and trigger a new global chip shortage. TSMC is currently caught up in the technological cold war as it struggles to balance securitization against China with U.S. compliance. The CHIPS Act may offer a major step towards development but does not guarantee U.S. semiconductor independence. Combined with the FDPR regulations, it will do little to ensure American semiconductor supply chain resilience. 

The interconnectivity of commercial chips has been an equalizing factor for many economies, but now this is challenging. It lends itself to the mutually assured economic destruction thesis, where the U.S. and China or alternatively China and Taiwan could never find themselves in a conflict due to costly outcomes. The recent decoupling of Russia and the rest of Europe is a clear example of an economically integrated system that ended up in conflict. Therefore, the risk of China localizing its semiconductor manufacturing adds new regional and global geo-political security concerns. 

What could happen next? 

There are many unclear questions on how these controls will play out under the FDPR ruling. For instance, it is unknown whether the legislation encompasses older-generation chips, which China could easily use to develop its own semiconductors and thwart U.S. limitation efforts. Similarly, any expected loss on U.S companies depends on the unilateral effect of this policy and how well it is enforced. These dependencies lend themselves to the true superpower of the FDPR; the scope of its legislative reach and the broadness of what constitutes as ‘supercomputer status.’ Without this clear-cut outline, the U.S could enact the FDPR on other competitive markets such as electric vehicles, aerospace companies, and smartphone gadgets. It could also be possible that major Chinese companies such as ByteDance, the owner of TikTok, may reach ‘supercomputer’ status and become regulated. Although these outcomes are yet to be determined, the FDPR has cemented itself as part of the U.S arsenal for economic securitization and significantly contributed to closing the gap in U.S export control jurisdiction.