The Semiconductor Boondoggle

"President Biden last week signed the $280 billion Chips and Science Act, or Chips+, to subsidize domestic semiconductor production and ease shortages. Big mistake. This comes on the heels of China's banning exports of natural sand to Taiwan in retaliation for Speaker Nancy Pelosi's visit. Sand!

There should never be a shortage of semiconductors. Semiconductor chips are made by melting sand and slicing it into thin wafers for processing. Shortages? Just go to the beach. Yet shortages still happen, though the current one is almost over.

You can't just throw money at the problem. Yes, to process those wafers companies spend billions on fabrication facilities, or fabs, and expensive ultraprecise machines that stay state-of-the-art for maybe five years. They spend constantly on lithography, implanting, annealing, sputtering and polishing, with constant tinkering to improve yields. In semiconductor manufacturing, a tiny fleck of dust is like an asteroid hitting a city. One speck can ruin months of work. Intel founder Andy Grove once told me the story of someone who accidentally spilled ink into a fab's distilled-water supply. Engineers freaked out, but bizarrely yields went up. Making chips is more art than science. It isn't only sand plus capital; brains play a huge role.

I once visited a fabrication plant in Dayton, Ohio, where General Motors had decided to make its own chips. GM was shocked when the plant couldn't produce any usable chips. Nothing worked. It turned out the tweezers that employees used to hold and move wafers were kicking up contaminants.

In the early 1990s in Taipei, I met with Morris Chang, founder of the new fab-for-hire Taiwan Semiconductor Manufacturing Co. He proudly showed me enclosed carriers for their wafers, no tweezers needed. That's really how TSMC got its start.

A new "fabless" semiconductor model emerged. Rather than own fabs, companies could design chips in California and have them made in Taiwan and assembled in the Philippines or Indonesia. Of course, those with expensive facilities protested. Advanced Micro Devices founder Jerry Sanders declared "real men have fabs." Yet today, AMD is fabless -- its processors are made by TSMC in Taiwan -- and AMD is worth more than Intel. Amazing.

Intel, with huge profit margins on its Pentium microprocessors, could spend more than its competitors on state-of-the-art fabs, but innovation eventually was pushed aside for predictability. Intel would get one fab working and then "copy exactly" new cookie-cutter fabs. For smaller feature sizes, Intel looked at the new Extreme Ultraviolet technology from Dutch equipment company ASML and thought it too expensive and risky to use. TSMC embraced ExtremeUV and won, especially for lower-power chips for mobile devices. TSMC can now spend more than anyone else on fabs.

With the Chips+ Act chock full of $52 billion in subsidies and tax credits for chip makers, Congress is saying that real countries have fabs. The act also authorizes $1 billion for carbon removal -- weird, because chips are made from silicon. Worse, the U.S. is rewarding Intel, which just announced a disastrous quarter, for coming in third place behind TSMC and Samsung.

Nothing is free. Even Commerce Secretary Gina Raimondo admitted "there's a lot of strings attached" in the 1,054-page law. National Economic Council director Brian Deese endorsed command-and-control industrial policy: "The question should move from 'Why should we pursue an industrial strategy?' to 'How do we pursue one successfully?'" This is as wrong as Soviet or Chinese five-year plans. Industrial policy eventually leads to disaster. Japan's Ministry of International Trade and Industry micromanaged the country's domestic semiconductor industry and ended up presiding over its decline. Today no Japanese semiconductor company sits in the global top 10. Because China doesn't have access to ASML ExtremeUV equipment, it has made little progress in advanced chips.

Yes, we need domestic supplies of advanced chips in case China invades Taiwan. But subsidies are the wrong approach. Handouts are almost always allocated based on what's good for politicians rather than on sound economics. Money often ends up in swing states. Lo and behold, that's where Intel is building its new fabs, Ohio and Arizona. Concerning subsidies, Elon Musk told the Journal's CEO Council Summit (yes, hypocritically): "Just delete 'em all."

Instead, the U.S. could enable suppliers to place large orders for chips for the military, intelligence agencies, whatever. They could even prepay. Silicon Valley was originally built on orders for transistors for intercontinental missiles and the space program. Ask nicely and maybe Apple and Alphabet would prepay for domestic-made processors and machine-learning chips as well.

Don't let lobbyists allocate capital, because Wall Street always views handouts as a huge negative, resulting in lower valuations and higher costs of private capital. Last week I noted that chips were the magic beans that fed the stampeding 40-year super-bull market. They don't work as pork and beans. It's a mistake we make again and again. Don't "copy exactly" bad policy." [1]

1. Inside View: The Semiconductor Boondoggle
Kessler, Andy. 
Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 15 Aug 2022: A.15.