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Jason Hsu, a former at-large member of Taiwan’s Legislative Yuan, is a senior research fellow at the Ash Center for Democratic Governance and Innovation at Harvard Kennedy School.

A chip is pictured at the Taiwan Semiconductor Research Institute (TSRI) at Hsinchu Science Park in Hsinchu, Taiwan.ANN WANG/Reuters

Often referred to as the “Silicon Shield,” Taiwan produces a staggering 65 per cent of the world’s semiconductors and over 90 per cent of the highest-end chips. As such, no company is more singularly important to the global economy than Taiwan Semiconductor Manufacturing Company.

TSMC’s advanced microchips are indispensable to iPhones, medical devices, missile launch platforms, and many other technologies, and they are largely unrivalled. Countries and companies that cannot avail themselves of TSMC’s most advanced semiconductors simply cannot develop certain critical technologies. The company’s decisions thus can bear directly on matters of global security.

Earlier this month, SMC announced plans to invest US$40-billion to build a second fabricating plant in Arizona, where it will make three-nanometer chips (the first plant, for four-nanometer chips, is scheduled to be up and running in 2024). The company’s decision to site more production in the United States is understandable; following then-U.S. House Speaker Nancy Pelosi’s visit to the island in August, China has conducted unprecedentedly aggressive military exercises around Taiwan, launching missiles nearby and simulating a blockade in the Taiwan Strait.

Then, in October, U.S. President Joe Biden’s administration announced sweeping new export controls designed to cripple China’s ability to produce advanced chips and pursue other high-tech manufacturing. The results have been disappointing, however, and now, Xi Jinping’s regime could retaliate by terminating U.S. tech firms’ contracts to build data centres for provincial governments.

While TSMC has received a one-year exemption from the U.S. export controls, there could come a time when Washington will push it to cut off most of its business in China. The Biden administration worries that China is using TSMC chips in a new class of hypersonic missiles, and to pursue global dominance in artificial intelligence.

China’s dependence on Taiwanese chips has served as a form of deterrence and protection for Taiwan, because the Chinese government simply cannot seize the island’s highly sensitive chip-manufacturing facilities by force. While some observers worry that China may regard TSMC as a reason in and of itself to take Taiwan, TSMC chair Mark Liu has pointed out that a war would inevitably destroy TSMC’s fabs or render them inoperable.

Still, TSMC finds itself caught in the middle of a great-power competition, because it produces chips that both sides want and has operations on both sides. While the Chinese market accounts for 10 to 12 per cent of the company’s total revenue, the U.S. is its largest customer base, and Taiwan is still its major production base and research and development centre.

TSMC is diversifying its chip-manufacturing capacities precisely to avoid becoming entangled in geopolitical complexities. Beyond Arizona, it plans to open fabs in Japan, and it is evaluating sites in Europe. But there is a limit to how far TSMC’s diversification can go before it deprives Taiwan of its silicon shield.

China will almost certainly fall behind in the semiconductor race. Nonetheless, it is likely to dominate the market in legacy chips (ranging from 28 to 44 nanometres), and it is working quickly to develop its own technology standards.

While the U.S. has sought to reduce its own dependence on Taiwanese chips by increasing federal support for U.S. semiconductor producers through the 2022 CHIPS and Science Act, that will not resolve the issue entirely. TSMC will still make the most advanced chips for the foreseeable future, and much of the supply chain will remain in Taiwan. U.S. policy-makers therefore must be prudent when it comes to export controls. Policies that succeed in cutting China off entirely from advanced chips could change the deterrence calculus and leave China with nothing to lose by invading. As Taiwanese President Tsai Ing-wen noted recently, the superpowers’ shared dependence on Taiwanese chips must continue to be seen as “not a risk, but … the key to the reorganization of the global semiconductor industry.”

As geopolitical tensions rise, maintaining deterrence in the Taiwan Strait is more important than ever. Mr. Xi has made clear that he is serious about unifying Taiwan with mainland China – by force, if necessary. As the U.S. and Taiwan head into presidential election cycles, politicians may feel increased domestic pressure to act provocatively.

That said, TSMC’s goal remains the same: to maintain its status as the unrivalled industry leader. To do so, it will have to play a smart long game. That means making necessary sacrifices in its Chinese business, pacing itself with new investments and diversification overseas, and ultimately keeping its most advanced chips in Taiwan.

Copyright: Project Syndicate, 2022.