In another turn of the screw in its ban on tech and chip exports to China, the US is proposing to block direct company investment in advanced tech areas such as artificial intelligence, 5G wireless and quantum computing. How much China suffers will depend on whether the country has enough knowledge to sustain its own development of advanced tech. There is evidence that it has.
The latest US restriction could damage China in the short term as the country is deeply integrated into the global semiconductor value chain and depends heavily on advanced microchip imports. Over the longer term, we believe the move will delay, but probably not derail, China’s technological progress. It may have only a limited effect on China’s productivity and growth outlook.
From an investment perspective, public markets are not included in the proposed ban. However, pending details from Washington on its breadth, China’s car and health care sectors may feel the pinch as US investment in those areas is bigger than in other tech-related fields.
The US’ anti-China tech policy may benefit other Asian players as the West itself seeks alternative tech suppliers.
China’s own software industries should not be damaged; they may even increase their market share catering for the huge domestic market as the digitalisation of the economy accelerates.
The US ups the ante
As well as considering a ban in direct investment in China’s advanced tech industries, the US government agreed with Japan and the Netherlands in February to curb exports of advanced microchip fabrication equipment to China.
This followed a proposed alliance in January with the largest microchip-producing economies, including Taiwan, Japan and South Korea, to coordinate tech export control policies.
Short-term damage to China
If not mitigated by China’s own technological advances, such restrictions could set back its semiconductor technology by decades. Data show that China excels in the low-tech end of the supply chain; it is a net exporter of basic devices. However, China is running a massive trade deficit as a net importer of advanced chips, which are used in consumer products and capital equipment (Exhibit 1).
World Trade Organization data on the global value chain shows that China relies heavily on importing advanced semiconductors to make technology goods for both export and domestic use. By contrast, the US makes and exports technology goods using domestically produced advanced microchips.
This high foreign-tech dependency means China could be constrained by restrictions of foreign supplies. Japan and the US together provided almost 60% of China’s microchip fabrication equipment, and the Netherlands is also an important supplier.
By targeting these critical inputs, the US appears to be seeking to impede China’s semiconductor manufacturing capability from advancing beyond 2022 levels.
Long-term impact could be limited
Despite the bleak short-term outlook, some industry experts – even in the US – warn that the latest proposed restrictions might not hold back China’s microchip technology for long. Most Chinese tech systems rely on locally made, less sophisticated microchips – products that US export controls do not cover.
Furthermore, if China needs cutting-edge semiconductors to further its development of AI, 5G and quantum technology, it is technically capable of producing them; it only lacks the commercial capability to scale up production.
Indeed, China is rapidly catching up on research & development spending (see Exhibit 2). The country has more than eight million university graduates each year and more science, technology, engineering and math (STEM) PhDs than the US. This implies that China has the wherewithal to further its own tech development, even in the face of the latest restrictions.
The impact on China’s long-term growth outlook may also be limited. US high-tech investment in China is estimated to have accounted for only 0.5% of China’s total foreign direct investment (FDI) in recent years.
China’s medium-term annual growth rate could be higher than the consensus average of 3% for much longer if Beijing’s latest reforms succeed in raising productivity and renewing industrialisation momentum.
Will the US shoot itself in the foot?
While we believe tit-for-tat retaliation is not a plausible option given China’s heavy dependence on foreign technology, US semiconductor companies are unlikely to emerge unscathed from Washington’s export ban policy. China is the largest market for many such firms: in recent years, exports to China have accounted for 27% of sales at Intel, 31% at Lam Research and 33% at Applied Materials.
Both Applied Materials and Nvidia have said they expect the new export controls to cut USD 400 million (or 6% and 7%, respectively) from their sales in Q2 2023. Lam Research has said it expects the controls to cut USD 2.5 billion (15%) from its 2023 sales.
Some market participants estimate that the damage from the proposed export controls on US semiconductor R&D and capital investment would exceed Washington’s subsidies for that industry by at least a factor of five.
 “Key Lawmaker: Biden Mulling Broad Prohibitions on U.S. Investments in Chinese Tech”, Gavin Bade, Politico, 27 January 2023 (here)
 “Choking Off China’s Access to the Future of AI”, Gregory C. Allen, Center for Strategic & International Studies, 7 November 2022 (here)
 The advanced tech goods trade deficit disappeared during Covid-19 as China was the only functioning exporting economy when the rest of the world was shut down. The deficit is expected to return and widen when the world economy normalises.
 “Sino-US Rivalry Over Chips”, Jing Liu & Junyu Tan, HSBC Global Research, Economics China, 3 February 2023
 “Securing the Microelectronics Supply China”, Jared Mondschein, Jonathan W. Welburn & Daniel Gonzales, RAND Corporation, February 2022 (here)
 “US Godfather Makes a Chip Offer You Can’t Understand”, David P. Goldman, Asia Times, 5 November 2022 (here)
 “Chi on China: China’s Structural Growth (II) – Thinking Outside the Growth Box”, 14 February 2023 (here)
 “FAQs on Proposed US Investment Ban on China”, Morgan Stanley Research, China Macro & Strategy, Asia Pacific, pp. 7, 6 February 2023
 See reference in footnote 7
 “Assessing the New Semiconductor Export Controls”, Matthew Reynolds, Centre for Strategic & International Studies, 3 November 2022 (here)
 “China Chip Ban a US Exercise in Extreme Self-harm”, David P. Goldman, Asia Times, 13 October 2022 (here)