When it comes to bargaining chips, President Xi Jinping is hedging his bets. The leader of China and the chairman of the country’s ruling Communist Party made that crystal clear last week when he stressed that increasing semiconductor production had become a priority.

As the trade dispute with the United States develops into a battle of technology, the world’s second-largest economy is being forced to revamp its small domestic chip sector or face being frozen out of the market.

If that happened, the consequences for the country’s high-tech industries, and Xi’s cornerstone ‘Made in China 2025’ policy, would be catastrophic.

To underline the problem, Xi talked openly about the enormous challenges during a visit to inspect integrated circuit assembly lines at the Xinxin Semiconductor Manufacturing Corporation in Wuhan.

“No matter how big a person is, he or she can never be strong without a sound and strong heart,” he said, using a typical home-spun metaphor to urge domestic tech companies to strive for major breakthroughs in semiconductor technology.

The task will be daunting. A glance at the global industry illustrates how far behind the nation is when it comes to chip manufacturing, and research and development.

Last year, revenue from the semiconductor sector in the US edged close to US$250 billion compared to China’s miserly $24.7 billion, statistics from IEK, which is part of the government-sponsored Industrial Technology Research Institute in Taiwan, showed.

Technological powerhouse

With such a disparity, it is hardly surprising that Chinese companies have to import about $200 billion worth of chips from the US each year.

In turn, this has left Beijing exposed, threatening the whole concept of Xi’s plan to turn China into a technological powerhouse and putting at risk ‘smart’ companies such as ZTE, Huawei and Xiaomi.

Even online giants like Baidu, Alibaba and Tencent, or the BAT grouping, as well as JD.com, could feel the aftershocks if the supply of semiconductors dried up.

For China Aerospace Science and Technology Corporation, it would also seriously curtail its satellite and space programs.

While this is strictly a ‘doomsday scenario,’ it cannot be ruled out as President Donald Trump’s team prepares to visit China in the next seven days for tough trade talks in Beijing.        

“Chinese companies have a large task ahead, given their talent and capability gaps, the high bar for global leadership, and the need for the country’s global champions to be the top one or two players in their segments,” Christopher Thomas, a principal at global consulting firm McKinsey in Beijing, said in a report back in 2015.

“The more segments and technologies in which China attempts to be number one, the more diffuse industry and government efforts will be. The more companies that attempt to become the Chinese champion for a certain segment, the more the best talent will be spread across too many teams,” he added.

Three years later, very little has changed. Data from Bloomberg showed that Intel, Broadcom and Qualcomm, the US suppliers of semiconductors for smartphones and computers, had at least 10 times the market value of China’s biggest chipmaker Shenzhen Huiding Technology.

As for processors used in high-end electronic products, American companies dominate the landscape. Chinese chips tend to be used in low-end items such as bank and key cards.

“The gap is still huge and the semiconductor industry is capital- and labor-intensive” Dai Ming, a money manager at Hengsheng Asset Management in Shanghai, told the South China Morning Post. “It requires massive investment and technology accumulation. In the short term, it’s difficult for China to catch up with the US.”   

In a move to address the problem, The National Integrated Circuitry Investment Fund, or “Big Fund,” plans to roll out new investment opportunities to boost local chip production and R&D.

Backed by the Chinese government, NICIF announced it was close to closing a 120 billion yuan ($18.98 billion) investment round for a second fund to support the industry, Reuters news agency reported.

Indeed, urgency has become the buzzword around Beijing’s corridors of power after the US Justice Department started investigating Huawei for suspected violations of export sanctions to Iran.

Last week’s decision came after fellow tech conglomerate ZTE was barred in April from buying US-made components, such as semiconductors, for seven years.

Spooked Beijing

The incidents have spooked Beijing and are seen by Xi’s administration as an attempt to wreck the country’s booming high-tech sector.

“Following the ZTE incident, China has basically reached a consensus to develop its own chip technology,” Zhang Lili, a research fellow with the Pangoal Institution, a public policy think tank in Beijing, said in an opinion piece for Global Times.

“However, making semiconductors is very complicated, involving more than 50 industries and 2,000 to 5,000 processes. Some observers have said that mere enthusiasm alone won’t lead to success and China may not achieve chip breakthroughs on its own,” he added in the state-owned newspaper.

Finding partners in any ’semiconductor war’ with Washington might be difficult as the other major players, Japan, South Korea and Taiwan, would probably be reluctant to break ranks with the US in an industry which generated more than $420 billion last year, Statista, an online statistics portal, revealed.

They will be hoping that cooler heads prevail before the broader trade dispute escalates into a trade war. Yet hopes of a quick settlement appear to be fading, judging by the rhetoric from both sides.

“High technology is the core competitiveness of the US, but with China’s development getting more attention in recent years, the US fears losing its advantages and may adopt stricter measures against China,” Zhang wrote. “We need to prepare mentally for this.”

Still, in this particular game of ‘cold war trade’ poker, China holds very few chips.

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