US vs. China Semis Industrial Policy: Tale of the Tape
“Our differences are policies; our agreements, principles” — William McKinley
All eyes are on Washington to see how US Department of Commerce officials allocate an unprecedented $39 billion in semiconductor manufacturing incentives. With CHIPS Act grant applications now open, Americans will see whether the industrial policy tools Congress selected effectively address supply chain security and competitiveness concerns. With a strict mandate to soften the US’s economic woes, Commerce Department officials are scrambling to identify the specific industry holes they need to plug.
Across the Pacific, however, China prefers to let a hundred flowers bloom. Chinese semiconductor subsidies are much less centralized than those in the US, with different national and local programs experimenting with a range of policy tools. Additionally, whereas US lawmakers have focused on incentivizing the construction of new semiconductor fabrication facilities (fabs), Chinese policymakers are using public funds to both incentivize new chip industry developments and reward investments that have already been made.
These differences highlight the unique nature of each country’s approach to industrial policy: the US tightly limits subsidies by incentivizing only activities companies would not otherwise do. This reticence is primarily due to Americans’ concern over regulatory capture by big businesses. In contrast, China often rewards companies post-facto for exemplary investments supporting key areas of national development, suggesting that Chinese politics is more welcoming of government support for business.
Grants, tax credits, technology parks, local integrated circuit (IC) funds, major strategic projects, human capital support — the US and China’s semiconductor support programs use all these tools to varying degrees, but the clearest division between them is whether government support comes before or after completion of a project. Today’s article will:
Contextualize the industry conditions that both countries seek to remedy;
Dive into the US’s and China’s pre-completion and post-completion chip subsidies;
Consider how semiconductor subsidies showcase different approaches to federalism and industrial policy.
Why Fund Chips?
Prior to diving into the US’s and China’s policy tools, we should reflect on what drives each country’s policymakers. This section shows how differently situated semiconductor industries and different political contexts incline American and Chinese policymakers to choose different subsidization mechanisms.
US Crisis Prevention
US lawmakers are traditionally averse to subsidizing industry, with Democrats decrying such policies as “corporate welfare” and Republicans bemoaning distortion of the free market. Even so, short-term supply chain disasters, combined with a long-term decline in the US’s share of global semiconductor manufacturing, have pushed American lawmakers toward embracing industrial policy.
a) Supply Chain Challenges
In 2021 and 2022, nearly everything imaginable went wrong with the global semiconductor supply chain. At the onset of the COVID-19 pandemic, automobile manufacturers around the world canceled their orders for new chips, fearing a sudden drop in demand for new cars. Meanwhile, consumer electronics companies and cloud service providers sharply increased their demand for the most advanced chips used in cellphones and 5G infrastructure. For their part, the demand for cars rapidly recovered after a few months, but production lines for auto chips needed months more to switch back into gear. Factories could not finish production without semiconductor inputs, leaving consumers without new cars and auto workers without jobs.
Beyond demand shocks, a slew of natural disasters exacerbated the already tight supply for all sorts of chips. The February 2021 winter storm in Texas knocked out power for facilities across the state, including Texas Instruments facilities supplying analog chips for automobiles and Samsung’s facilities in Austin manufacturing advanced processors for 5G infrastructure and mobile devices. A March 2021 fire at a Renasas fab in Japan further strained automotive chip supplies, and in spring 2021 TSMC had to cut production due to a drought in Taiwan.
These immediate supply chain crunches played into longer-term concerns over the US’s waning share of global semiconductor manufacturing. Taiwan and South Korea have formed a duopoly on the global supply of the most advanced logic chips at 92% and 8%, respectively. Of greatest concern for US policymakers, mainland China’s share of global manufacturing has risen from 3% in 2000 to 15% in 2020.
b) Policy Response
These supply chain issues were serious enough to spur action by Congress. Because US lawmakers are generally hesitant to subsidize private industry, however, the subsidies in the CHIPS and Science Act narrowly target the weakest links in the US’s chip supply chain.
Lawmakers wanted to ensure funds would secure automakers’ access to chips, addressing, in their view, the most acute crisis. A bipartisan letter by members of Congress and governors from states with significant automobile industries urged funding for the CHIPS Act to prevent car production from stalling and causing mass layoffs. Thus, lawmakers set aside $2 billion of the CHIPS Act’s funding specifically for fabs producing older-generation (mature node) semiconductors, which are used in vehicles.
In contrast to its declining share of global chip manufacturing, the US maintains 46% of global semiconductor design activity (a high value-add stage creating the layout and structure of chips). So, when the semiconductor industry advocated for an investment tax credit for both manufacturing and design, Congress agreed to support only manufacturing. Not seeing a short-term or long-term crisis in American semiconductor design leadership, lawmakers were not willing to further interfere with the free market.
China Industrial Catch-Up
a) Supply Chain Challenges
China plays a critical role in the global semiconductor supply chain, accounting for over half of the world’s chip demand. China’s indigenous industry, however, lags behind in its level of advancement. It lacks leading firms in advanced logic chip production, electronic design automation (EDA) tools, chip design IP, semiconductor manufacturing equipment, and semiconductor materials — resulting in “chokepoints” and thereby rendering the Chinese chip industry largely dependent on imports. The only stage of the semiconductor supply chain where China commands the largest global share — chip assembly and packaging at 38% — is a relatively low value-add step.
Chinese policymakers are increasingly concerned about the impact of these chokepoints on China’s supply chain security. A rise in broad restrictions on China’s access to foreign semiconductor products has impeded Chinese chipmakers’ growth, making China’s semiconductor supply chain more fragile.
b) Top Policy Guidance
In September 2022, President Xi Jinping announced the New Whole Nation System 新型举国体制, a system mobilizing resources nationwide to achieve breakthroughs in key technologies. In his report to the 20th National People’s Congress, President Xi reiterated the need to secure supply chains and become self-reliant in national security critical technologies amid escalating US export controls.
Critically, China’s socialist political system makes it easier to achieve national consensus on broad policy goals. It is then left to local governments to implement the central government’s goals, alongside their own.
The key feature of China’s New Whole Nation System is the elevated role of private industry. During the era of Chairman Mao Zedong, there was an old Whole Nation System that resulted in many successes, notably the development of nuclear bombs in the 1960s — but China’s old Whole Nation System focused on state-owned enterprises, without private sector or market involvement. Under the new system, government plays a leadership role at the macro level, while market rules dominate local ecosystems.
Importantly, the new system is centered around national strategy needs, targeting breakthroughs in dual-use technologies critical in both the military and commercial realms. Key priorities include next-generation telecommunications, artificial intelligence, biotechnology, new energy, new materials, advanced manufacturing equipment, green industry, and integrated circuits (semiconductors).
Regarding the integrated circuit industry, local governments set specific targets in the 14th Five-Year Plan. For example, Beijing, Shanghai, and Chengdu are each aiming to spend 300 billion yuan ($43 billion), 100 billion yuan ($14 billion), and 200 billion yuan ($28 billion), respectively, on the integrated circuit industry. Other localities have set development targets instead of spending targets. Hubei, for instance, plans to develop five semiconductor equipment and materials companies which produce sales topping 1 billion yuan ($140 million) in 2025; Shaanxi similarly plans to refine its semiconductor and integrated circuit industry chains.
“Let’s See Your Plans First”: Pre-Completion Subsidies
Providing public funds prior to the completion of a project gives governments maximal control over the types of activities they incentivize. These pre-completion subsidies involve application processes through which companies must demonstrate how their projects align with government policy goals. Officials in turn scrutinize the applicant’s proposed budget to ensure the government spends the minimum amount of public funds needed to make its jurisdiction more attractive to build in than other jurisdictions.
GRANTS — The CHIPS Act’s crown jewel is a $39 billion fund incentivizing companies to expand semiconductor manufacturing capacity in the US. Eligible projects include semiconductor fab construction, purchases of chip manufacturing equipment, and factories producing semiconductor tools and materials.
Companies can apply for grants of up to $3 billion per project (or more if the President permits a larger grant), and these grants need not be repaid. $2 billion of the $39 billion fund is reserved specifically for mature node manufacturing to support automotive chip supply chains, and Congress issued non-binding guidelines prioritizing projects critical to national security. Other than the auto chip set-aside and non-binding priority guidelines, however, the Secretary of Commerce exercises vast discretion in deciding who receives funding.
For example, though Congress did not impose a strict cap on how much federal support individual projects may receive, the Commerce Department’s February 2023 Notice of Funding Opportunity notes that it “is generally expected that most CHIPS Direct Funding awards will range between 5-15% of project capital expenditures.” Congress explicitly gave the Secretary this discretion so she could prioritize funds for areas in which the US has lost global leadership.
Because these are pre-completion grants, companies can apply for funds only if they either have not yet begun construction or still have significant work left before completion. This limitation allows the Commerce Department to ensure applicants 1) are financially capable of maintaining the facility after completion, 2) have secured additional support from local governments, and 3) document what types of chips or equipment they plan to produce (as well as to whom they plan to sell).
LOAN GUARANTEES — In addition to issuing grants, the Secretary of Commerce can also use up to $6 billion of the $39 billion fund to make or guarantee loans. Though there is reason to doubt how popular these loans will be, Commerce Department officials have argued this tool gives them greater flexibility to maximize the fund’s impact. As with the grants, loan guarantees are a pre-completion tool that allows the Secretary of Commerce to screen applicants’ financial soundness and their projects’ relevance to the US’s semiconductor supply chain needs.
STATE & LOCAL TOOLS — Nearly all semiconductor-specific incentives on the state and local level in the US also function as pre-completion grants. Local politicians share federal politicians’ concern over padding companies’ profit margins with taxpayer dollars — so local programs similarly focus on supporting projects that would otherwise not be financially competitive in their jurisdictions. Notably, the federal CHIPS Act’s manufacturing grants require applicants to have also received support from a state or local government — meaning applicants are screened twice, once by the federal government for alignment with nationwide supply chain needs, and once by local governments for alignment with local job-creation needs.
States offer incentives in the form of tax credits to incentivize semiconductor manufacturing in their jurisdictions. As examples: Texas’s Chapter 313 credit gives local governments the power to reduce chipmakers’ property-tax liabilities by $10 million to $100 million, as with Samsung in Austin. Arizona’s Qualified Facility credit empowers its Commerce Authority to issue up to $125 million every year in tax credits to companies, as with TSMC. New Mexico’s Local Economic Development Act authorizes its Economic Development Department to approve tax rebates for strategic projects, as with Intel’s chip packaging facility. Ohio’s Job Creation credit allows its Tax Credit Authority to refund tax liabilities on the basis of job creation; it issued over $400 million to Intel via that scheme. These local tax credits may appear to be post-completion subsidies because companies do not receive benefits until after making expenditures. Eligibility under all these state programs, however, requires approval by a government authority, making the mechanisms pre-completion subsidies.
Though tax policies are more common, some states also use grant tools for strategic economic development. The Texas Enterprise Fund offers “deal closing” cash grants based on a potential project’s economic benefit to the state; Samsung received $27 million of such grants for its fab. Similarly, Ohio’s economic development agency, JobsOhio, issues grants to attract strategic projects, like Intel’s fab. As with the federal CHIPS Act grants and state-level tax credits, these grants are entirely discretionary, making them pre-completion tools.
GRANTS — China’s local governments issue grants to support new investments in integrated circuit design, EDA tool development, R&D and production of manufacturing equipment, and advanced materials production. For example, Shanghai reimburses 30% of new investment in such projects up to 100 million yuan ($14 million). (Consider this 30% share in light of the US Commerce Department’s notice that CHIPS Act shares would only cover 5 to 15% of most projects.)
These grants, subject to application review, allow the Shanghai government to incentivize chip firms to invest in China’s supply chain chokepoints. Here, the mechanics of grants function similarly to those under the US CHIPS Act — but they are directed even more narrowly at key strategic areas.
INDUSTRIAL CLUSTER GRANTS — Industrial clustering helps firms use resources more efficiently and increases firms’ competitiveness by lowering switching costs between competing providers. Accordingly, local governments promote cluster development by using grants to draw chip firms to designated high-tech zones. In 2023, the city of Hefei in Anhui Province included settlement incentives of up to 5 million yuan ($720,000) in its integrated circuit industry development plan. Hunan Province in 2022 similarly planned a total of 50 million yuan ($7 million) to encourage integrated circuit companies to build a chip industry cluster in its high-tech zone.
DIRECT INVESTMENT — Both local governments and the national government in China use direct investment tools to support their most ambitious integrated circuit projects. These tools range from direct subsidies from government coffers to specialized investment vehicles designed to implement development targets.
Major Construction Projects: Projects selected as national or local “major construction projects” receive direct investment from the central government or local governments, receiving both monetary investments and eased permitting. For instance, Shanghai announced in 2023 it would invest at least 215 billion yuan ($31 billion) across all its major construction projects, covering seventeen semiconductor projects by SMIC (中芯国际半导体), Jita (积塔半导体), and Geke (格科半导体).
National Integrated Circuit Industry Investment Fund: China’s largest state capital-backed semiconductor investment vehicle (a.k.a. the “Big Fund”) is propelling China toward its goal of building a world-class semiconductor industry amid urgent calls from Beijing to increase technological self-reliance. Each phase of the Big Fund exists as a stock corporation, an independent entity. This investment flows directly to companies, not to local governments or industrial parks (as funds from other national-level policy tools do).
The first phase of the “Big Fund” raised 139 billion yuan ($20 billion) in total and invested in eighty-one projects by twenty-three listed companies from September 2014 to May 2018. There are sixteen shareholders in the first phase of Big Fund, among which the Ministry of Finance accounts for the highest at 36.47%; the rest shareholders are all SOEs. Among projects receiving investment, integrated circuit manufacturing accounted for 67%, chip design 17%, packaging and testing 10%, and equipment and materials 6%. Currently, funds from the first phase have started exiting via buybacks, M&A, and IPOs.
In October 2019, the stock corporation embodying the Big Fund’s second phase was established, aiming to raise 201 billion yuan ($29 billion). Besides government and SOE contributors, some private companies also joined this round, though the Ministry of Finance still accounts for the largest share at 11.02%. As of March 2022, the second phase fund has announced 79 billion yuan ($11 billion) in investments in 38 companies, with design accounting for 10%, packaging and testing 2.6%, and equipment and materials 10%.
TAX — Integrated circuit enterprises registered on the Chinese mainland which meet certain standards can qualify for tax benefits. A State Council policy excuses corporate income tax for the initial five years of a semiconductor project and levies a reduced rate of 10% in the following years. The requirements allow the government to ensure enterprises have technological achievements in line with national development goals.
LOAN GUARANTEES — Jiangsu encourages all financial institutions in the province to offer an average 1% interest guarantee fee to all integrated circuit companies. It is not clear how this tool is actually implemented, so it is hard to say whether government authorities exercise much discretion in choosing which projects’ financing to support.
“Bravo, Here’s Your Prize”: Post-Completion Subsidies
If the value of pre-completion subsidies is that they are more likely to incentivize investment that would not otherwise occur, the strength of post-completion subsidies lies in their ability to deepen firms’ commitment to jurisdictions they have already entered. Companies can receive post-completion subsidies only if they keep (or in some cases continue) expanding facilities in a specific jurisdiction. This approach creates a long-term bond with the incentive-providing government that grows hard to cast off.
As this section will demonstrate, however, the dynamics of post-completion subsidies vary significantly between the US and China. Whereas in the US all semiconductor projects fitting statutorily defined criteria automatically qualify, Chinese post-completion subsidies are just as discretionary as pre-completion support. To that end, Chinese government agencies can also use post-completion tools to advertise exemplars of the projects they want to promote.