An important question for all stakeholders, from supply chain bottlenecks to rising inflation, is whether we will see an end to the chip shortage crisis.
While limited supply of chips has led to higher consumer prices, other impacts include disruptions to industrial activity and supply chain security.
There are cyclical and structural reasons for the dramatic increase in semiconductor demand. Cyclically, COVID-19 has unleashed a strong pent-up demand for electronics as massive workforces and education move online. The shipping bottlenecks we're seeing in 2021 are also impacting inventory.
Structurally, electrification such as mass production and digitalization of electric vehicles requires semiconductors, mainly high-end varieties that can only be produced by the most advanced semiconductor foundries, and these semiconductors happen to be concentrated in Taiwan.
In response to this rapid increase in demand, established players in the semiconductor industry have responded in two ways.
First, capital expenditures have increased significantly, most notably at the world’s largest foundry, TSMC, whose capital expenditures will increase from $30 billion in 2021 to $44 billion this year. year. This growth can only be justified by the expectation that global demand for semiconductors will continue to grow.
Second, governments in several major economies have implemented huge spending programs to try to boost local chip production. China started the race in 2014 with two successive large funds to support indigenous innovation in the semiconductor industry, which they have identified as one of the most important steps China must take if it is to move up the technology ladder.
According to the plan, China's total investment has reached about tens of billions of dollars. This will more or less have an impact on future chip supply, but likely only on less advanced semiconductors.
Combined with the approval of similar strategies by the US and EU to support their own semiconductor industries, this could indeed lead to a prolonged oversupply, especially at the lower end of the industry.
It is clear that manufacturing capacity for less advanced semiconductors will grow rapidly starting next year as more investment plans come to fruition. Despite TSMC's increasing focus on advanced manufacturing, the company will still allocate up to 20%, or about $9 billion, of its expanded capital expenditures to less advanced chips. That's more than the rest of Asia combined, with more companies lining up to ramp up chip production.
UMC, the third-largest foundry focused on mature nodes, will also increase its capex by 66% to $3 billion in 2022. As for China's largest semiconductor company, Semiconductor Manufacturing International Corporation (SMIC), it is also ramping up investments, meaning its production capacity will grow rapidly, but still only for those chips used in everyday electronic equipment.
Another trend-setting development in the semiconductor industry is the overseas expansion of leading chipmakers through acquisitions.
As global supply chains are increasingly affected by U.S. sanctions on major Chinese companies, many semiconductor foundries are caught in the crossfire. After all, China accounts for 35% of global semiconductor demand, even though its companies only produce 6% of global supply.
Against this backdrop, TSMC announced plans to further invest in the United States and Japan, and possibly Germany and the Czech Republic in the future. Likewise, electronics contract manufacturing giant Foxconn, which has more than 1 million employees in China, has just announced plans to invest in chip production in India.
In the specific case of Taiwan and TSMC, another oft-overlooked reason for expanding overseas production is the island's relatively high seismic risk, as well as engineers and limited power supplies for the large-scale investments planned by many semiconductor companies.
All in all, chip shortages will ease slightly in 2022 as production in Asia increases, but 2023 will see a surge of new supply. Given that most of the production will be for mature node semiconductors only, only high-end chips will face shortages.
Of course, another potential bottleneck for the industry as a whole is the supply of vital rare earths and other raw materials needed to make the semiconductors themselves, which could be threatened due to escalating geopolitical tensions.
Other uncertainties include climate change and the need to meet various emissions targets, which are also bound to affect semiconductor production, and the resulting upward pressure on energy prices.
Nonetheless, the heavy investment in mature node semiconductors does suggest a potential divergence in semiconductor supply, with the least advanced semiconductor supply increasing substantially if geopolitics and rare earths allow, while the most advanced chips hold the key to new semiconductor supply. Supply will remain scarce.
That means the largest sector of the semiconductor industry could end up saddled with excess capacity. Conversely, as demand continues to outstrip supply, producers that shift operations to the higher end of the market, such as TSMC, will see their profit margins increase.