US chip sanctions may push Brazil, others right into China's arms

Comment For years, the United States has leveled waves of sanctions and export bans on Chinese firms in an effort to squelch the Middle Kingdom's fledgling semiconductor industry, all the while rallying allies.

As the US crusade has grown more aggressive, however, this places several nations, including Brazil, in the strategically difficult position of choosing a side in a global trade war.

Brazil's newly elected President Luiz Inácio Lula da Silva – serving his second term after a break of over a decade – wants to establish a semiconductor industry in his country. Lula was reportedly scheduled to meet Chinese officials this week on that topic until health complications forced him to postpone.

Despite US efforts to discourage its friends and acquaintances from doing business with China, Brazil's foreign minister Celso Amorim has claimed the country can't afford to pick sides in the US-China chip war.

"We have no preference for a Chinese semiconductor factory. But, if they offer good conditions, I don't see why we refuse. We are not afraid of the big bad wolf," he told Reuters late last month, in reference to the US's behavior.

Why China?

One of the most reasonable factors is cost. The US and Europe have committed billions in subsidies and tax breaks to convince foundry operators to build fabs in their countries. The US CHIPS and Science Act dedicated $39 billion to this cause, while the European version of the bill, once passed, would allocate €43 billion ($46.6 billion).

The US and EU represent two of the largest economies in the world. Brazil's gross domestic product tops $1.6 trillion, which pales in comparison to America's $23.3 trillion and the European Union's $15.5 trillion.

As such, Lula is likely to face financial difficulty attracting US-aligned chipmakers to set up shop in Brazil. The facilities are not cheap to build, especially as rising inflation drives up the cost of materials. For context, Intel now expects each of its two Arizona fabs to cost roughly $15 billion, meanwhile TSMC will spend $43 billion on two fabs in the state. While they might work out cheaper to operate in a country like Brazil, it's safe to say, it wouldn't be that cheap.

Where Lula may have difficulty wooing the likes of Intel, TSMC, or Samsung, he may have better luck convincing Chinese firms to invest in his country. Despite the high cost of semiconductor manufacturing, it's an opportunity for China to demonstrate its significance on the global semiconductor stage, while also expanding its addressable market.

In the absence of cash or tax breaks, access to a largely untapped semiconductor market, like South America, is certainly a reason to build in Brazil. "They are the largest nation in Latin America, and they are one of the largest automotive producers in Latin America," IDC analyst Mario Morales told The Register.

US chipmakers have previously considered expanding their presence in Brazil for this very reason, he explained. However a lack of infrastructure, talent, and a history of political unrest have largely deterred long-term, large-scale investment.

"When you're building something out for the next five to seven to 10 years, you have to have stability," Morales said. "You have to have infrastructure, and that's why most companies did not."

China however, has a long history of investing in infrastructure as a means to instill goodwill, under what's commonly known as the Belts and Roads Initiative, which seeks to create trade routes, and ultimately establish a dependence on Chinese-made goods and services.

Whereas the US has shied away from countries that lack adequate infrastructure, China, Morales says, has taken the opportunity to cultivate a fertile ground for which it can expand its influence. "That's what makes China so strong," he told us.

Meanwhile, from Lula's perspective, courting Chinese technology has numerous upsides. Chinese investment in semiconductor manufacturing in the country will not only create jobs at home — something that's politically positive — but also has the potential to attract complementary business, and guarantees a steady supply of inexpensive semiconductors. The latter point isn't something that can't be taken for granted after the past three years of shortages.

What does China offer?

Ultimately, China has a bit of a technological problem to solve. The country has been denied extreme ultraviolet (EUV) lithography machines necessary to produce the most advanced chips today, had its access to older deep ultraviolet (DUV) machines severally restricted, and if that weren't enough, many of its largest fabs have found themselves on the US entities list. That's a roster of out-of-favor foreign companies Uncle Sam will make American organizations jump through hoops to do business with, if at all.

While the deck may appear to be stacked against China's semiconductor industry, it's worth remembering the timescales on which fabs and foundries are built and operationalized. As we've already pointed out, it takes a few years and billions of dollars to build a fab.

So, although China lacks the ability to mass produce chips with process nodes smaller than 14nm today, that may not be the case five years from now.

And if what Lula is after is a fab to cement Brazil's position on the global semiconductor stage, he wouldn't even have to wait that long. A partnership, perhaps with memory vendor YMTC, using existing technologies, could achieve that goal within a few years.

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What's more, some believe US efforts to slow innovation in semiconductors will also have the side effect of ending the Middle Kingdom's reliance on foreign supply chains in the future. In a 2020 report, Boston Consulting Group (BCG) warned that China was on track to achieve semiconductor self-sufficiency as early as 2025.

We also know that China doesn't have a problem with stealing trade secrets if it means closing a technological gap sooner. Earlier we reported that a former ASML employee accused of stealing trade secrets for advanced lithography equipment was now suspected of spying for the Chinese government. Another former ASML employee is wanted for allegedly funneling trade secrets from the US to China.

A foothold

China already has a foothold. Brazil, like many countries, is already reliant on Chinese technology — particularly networking equipment from Huawei used in its 4G and 5G networks. The US has pressured its allies to pull equipment from their networks, citing national security concerns that Huawei's ties to the Chinese government leave them vulnerable to remote espionage or sabotage, and Brazil is no exception.

While countries like Germany are weighing the very costly prospect of ripping and replacing nearly 60 percent of all 5G network equipment deployed in the country, Brazil has already rebuffed the US.

Under former President Jair Bolsonaro, Brazil briefly considered joining US efforts, but abandoned the plan after carriers complained about competing vendor's higher equipment prices.

It appears that a similar line of logic is being employed by Lula's administration. "I cannot condition where I am going to buy a chip, or something else, to these values. In fact, the chip is not impregnated with these values, it's value free," Amorim told Reuters.

In other words, the country isn't going to decide whether to invest in or buy chips from one country over the other, based on some perception of good or evil, or as Amorim put it: "International communism or the war of democracies against autocracies."

(We're also reminded of the time Brazil led a charge to remake the internet in the wake of Ed Snowden's revelations of American-British online surveillance.)

Is the US driving others into China's arms

While Lula has yet to pen any concrete deals that would irrevocably align his administration with China, it appears the current trajectory of the trade war is spiraling toward that conclusion.

The world's largest economies are desperately trying to secure their semiconductor supply chains, and Lula among others sees an opportunity to lift his country up by joining in this effort. And if not Brazil, there are loads of other nations friendly to China that are hungry for a means to grow their economies on the back of technology.

"You are seeing countries, whether because of opportunity, or because of the fact that they're dependent on another nation choosing a side," Morales said.

The question is whether US efforts to discourage cooperation with China could have the opposite effect.

We've already seen the US toe this line with South Korea, when Uncle Sam's Commerce Department announced that recipients of the CHIPS and Science funding would have to promise not to expand their presence in or association with China for a period of ten years. This was a point of contention for South Korean leaders as Samsung and SK hynix, among the country's largest employers, operate massive facilities in China or are in the process of acquiring them. South Korean leaders and chipmakers are still grappling with all of the red tape.

For all the work the US has done to sway its allies in Asia-Pacific and Europe to combat China's growth, Morales notes Beijing has been investing heavily in emerging regions for a long time. 

However, it's not hard to envision a scenario in which the US pushes too hard, asks for too much, and when the numbers no longer add up, their allies and others jump ship, and potentially even switch sides. ®