Deglobalisation was always going to come at a cost but we're only just finding out exactly how much.
The West has taken cheap international labour for granted for the past few decades but Taiwan Semiconductor Manufacturing Company’s (TSMC) latest results give an insight into how painful reorganising supply chains will be.
TSMC is the largest manufacturer of microchips in the world and got to this position because of globalisation and a stable world order. It doesn’t design chips; it just makes them, and a lot of them. In fact, it has more than 50 per cent of the global market. When it comes to advanced chips, up to 90 per cent of them are produced in Taiwan. For comparison, OPEC produces just 40 per cent of the world’s oil.
The US has always been the leader in designing chips. Fairchild Semiconductor in California patented the first integrated circuit in 1961. Intel then designed the central processing unit in 1971 which went onto power the personal computer. But Taiwan realised its cheap and well-educated labour force could manufacture the chips at a fraction of the cost. Morris Chang launched TSMC with the support of the government in 1987 and it has been making US designed chips ever since.
This deal worked well for everyone for a while. But last year the US decided it no longer wanted all its chips made on an island being threatened by China. It passed the Chips and Science Act which pressured and subsidised TSMC to build a fabrication plant in Arizona. This is a good idea from a security perspective. But it turns out costs are going to be “four to five times greater for a US fab versus a fab in Taiwan”, according to TSMC’s chief financial officer Wendell Huang.
Huang said the extra costs came from labour, permits, health and safety regulations and the cost of training people. So not only is American labour more expensive but it is also less well qualified. TSMC is not too worried about the costs though. It plans to maintain its 53 per cent gross margin because of the US government subsidies and by raising prices for customers. Management is confident in their ability to raise prices because “semiconductors have become more essential and more pervasive in people’s lives”.
In other words, the costs will fall on the US taxpayer and TSMC’s customers. Some of its biggest customers are Amazon and Microsoft. Both these companies use graphics processing units (GPUs) designed by Nvidia and built by TSMC to run their data centres. This is big business. Nvidia’s revenue from data centres has risen from $1.14bn in Q1 2021 to $3.8bn last quarter. It now makes up 65 per cent of its business, up from 39 per cent.
Amazon and Microsoft are also not slowing down investment. It’s the GPUs that make the AI models such as ChatGPT possible and, in July last year, Microsoft and Nvidia announced it was building a new supercomputer specifically for this. Last week it was announced Amazon would spend $35bn on new data centres in Virginia by 2040. Microsoft is investing $10bn into OpenAI. Part of that deal will almost certainly be predicated on the fact it can provide OpenAI with more GPUs and more computing power.
The problem for the cloud companies is they must compete, while TSMC has a monopoly on manufacturing. The cost of deglobalisation will not fall on TSMC, it will fall on Amazon and Microsoft and the rest of TSMC’s customers. Microsoft’s cloud revenue slowed in the most recent quarter and chief executive Satya Nadella warned customers were being more economical with their spending. Cloud computing margins are going to be squeezed and eventually these costs will trickle down to the rest of us.
US semiconductor manufacturing may catch up with Taiwan in time. Workers are being sent to Taiwan to be trained in this specialist manufacturing. But that supply chain has been optimised over decades. Guaranteeing US security is going to be costly for cloud computing, costly for the US taxpayer and for consumers across the world. TSMC’s margins will be just fine though.
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