How the US is onshoring production to avoid China weaponizing key imports

Tim Richardson CFA, Investment Specialist

Big moves are underway to onshore production of the essential building blocks of the US economy. This follows concern that dependence on key imports from China could be weaponised in a future dispute.

This is creating exciting opportunities for businesses well aligned to the shifting sands of global trade.

“Free trade and economic stability do not, by themselves, guarantee success”
– Ildefonso Guajardo Villarreal, Mexican economist

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What’s powering onshoring now?

The long-term geo-political struggle between the US and China is driving ‘the great dislocation’. This is the breakdown of established global trading arrangements between countries as economies gradually separate into distinct trading blocks.

The Covid pandemic highlighted supply chain vulnerabilities. Blockages of minor components halted production and delayed deliveries, bringing shortages and fuelling inflation. War in Ukraine then showed how dependence on insecure essential supplies – such as natural gas – can constrain foreign policy.

Concerns grew that almost all advanced semiconductors are now manufactured in Taiwan, leading to the Biden Administration’s Chips and Science Act which has two aims:

1. Prevent China creating the advanced semiconductors it needs to establish an advantage in technologies such as automated vehicles and artificial intelligence
2. Support advanced chip manufacture in the US to guarantee future supplies

Globalisation – has it had its chips?

The Act provides US$52 billion in subsidies for US chip manufacturing, along with US$100 billion of science and technology support. This is encouraging production of advanced semiconductors to switch to the US. These are currently produced almost entirely in Taiwan, which is subject to increasing threats from nearby China.

Taiwan Semiconductor Manufacturing Company (TSMC) in 2020 began building a new US$40 billion semiconductor fabrication plant (or fab) in Phoenix, Arizona. Some 40 suppliers are also reported to be opening facilities in the area to service the fab.

Apple is TSMC’s largest customer, accounting for 26% of its revenue in 2021. Apple is expected to switch to sourcing some of its semiconductors to the new Arizona fab when it opens in 2024, reducing its Taiwan concentration risk. Chips will initially be exported to China for assembly in iPhones, but the company is already diversifying its manufacturing base.

New global trends are emerging

This implies a much more extensive re-allocation of advanced manufacturing back to North America over many years, as firms prioritise supply chain resilience (and subsidies).

Fabless companies such as Nvidia and Advanced Micro Devices develop their own computer processors but outsources production to a fab. Eager to diversify their chip sourcing, they are expected to follow Apple to Arizona.

The challenge faced by fabs and others who re-shore manufacturing is the cost disadvantage incurred in high wage North America. Automating processes to maintain global competitiveness will provide opportunities for automation enablers such as Schneider Electric that optimise fab efficiency.

Preventing China from accessing the most advanced US-designed chips will disadvantage its manufactured products, which will require larger numbers of less advanced semiconductors. China is currently thought incapable of developing the most advanced, i.e. smallest, semiconductors.

What does this mean for investors?

This impacts Chinese companies who face a cost and technology disadvantage. The Financial Times¹ reports that this has led to 500 Chinese firms quietly redomiciling in Singapore over the last 12 months.

Large chip makers are expected to onshore supply chains, but must carefully manage the cost implications.

Consumer brands that are heavy users of advanced semiconductors and fabless chip developers will also adapt their business models and supply chains.

As technological development reduces the impact of wage cost differentials, a wider range of manufacturing will be onshored. Companies able to help manufacturers reduce costs through automation and process improvement stand to benefit.

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¹ Financial Times, Mercedes Ruehi and Leo Lewis, ‘Chinese Companies set up in Singapore to hedge against geopolitical risk’, 30 November 2022