Where does China stand in the chip war amid sanctions?

China has spent years and trillions of dollars to achieve chip independence. Meanwhile, the United States has launched sanctions to limit China's access to high-end chips and chip-making tools, including cutting-edge lithography machines. On September 9, China's Ministry of Industry and Information Technology, MIIT, announced breakthroughs in making its own DUV lithography machines and recommended their use by state-linked organizations. The Chinese celebrated the news as a major milestone in countering U.S. sanctions. Others warned that China is catching up in the chip war faster than we think. Industry experts, however, believe the reality may be far from meeting Beijing's ambition. So, how should we interpret China's announcement, and where does China stand in the chip war? Hello, welcome to my program. I'm Lei. The announcement of the new DUV machines in the Ministry of Industry and Information Technology's guidance catalog took many by surprise. A Taiwanese expert who monitors China's semiconductor industry said it's the first time lithography machines are included in the guidance catalog. But the catalog didn't specify which Chinese companies manufactured the new machines, nor did it indicate their production capacity. No Chinese company has confirmed seeing these machines, so it's suspected to be a prototype. This maneuver seems more political than technological-driven. But what did Beijing try to accomplish through it? After MIIT made the announcement through its guidance catalog, stocks in several Chinese linked to semiconductors immediately surged. Part of the goal was to boost China's poorly performing stock market. However, we know that's not all of it. Let's first understand China's chip strategy. ASML is barred from selling to China its EUV lithography machines used in making the most advanced chips. Without access to EUVs, it's incredibly challenging for China to mass-produce chips at 7nm nodes and below. China has thus focused on dominating the production of mature chips or legacy chips, which are process nodes of 28nm and above. These nodes are considered mature because they are no longer cutting-edge but are still widely used in industries like automotive, Internet of Things, and industrial applications. China leads the market for mature process chips with 31% of global production as of 2023, and is expected to grow to 39% by 2027. China's domestically produced EUV lithography machines, such as those developed by Shanghai Micro Electronics Equipment, or SMEE, are capable of producing mature process chips typically at 55-90nm nodes. The two EUV lithography machines announced by MIIT recently are capable of producing 55-65nm nodes if they can be mass-produced. For production of 28-65nm chips, China has been relying on ASML's EUV machines. China was ASML's second-largest market in 2023, accounting for 26.3% of its total sales, surpassing South Korea and behind Taiwan, which remains ASML's largest market with 29.3%. However, after the American and Dutch governments expanded the scope of the ban to include some EUV in March 2024, China ramped up orders of semiconductor manufacturing tools. Its market share jumped to 49% of ASML's total sales in the second quarter of 2024, and half of the orders was for the immersion DUV systems. According to a mailing Chinese expert, the sales of lithography machines above 65nm account for 40% of ASML's total sales in China, and the DUV machines mentioned in the MIIT announcement, if commercially produced, can replace ASML's systems above 55nm. In other words, if China starts to switch to Chinese-made lithography machines for legacy chips, ASML will lose up to 20% of its revenue. MIIT's announcement was a strong warning to ASML and the Dutch government. Cooperate with China or you will lose money. Among the mature process chips, 28nm nodes are the most popular due to their long life cycle, broad application, and relatively low costs. It's widely used in automobiles, telecom and network equipment, memory chips, and consumer electronics, among others. It's also at the very center of Beijing's legacy chip strategy. Taiwan's TSMC was the first to commercialize 28nm technology and is the leader in this segment. China's SMIC has been competing with TSMC and has invested heavily in expanding its capacity for 28nm nodes, aiming to overtake Taiwan's TSMC to be the largest maker of 28nm chips. The Chinese government's support has allowed SMIC to ramp up its capacity for producing 28nm chips despite the challenges posed by export restrictions. Beijing's priority on 28nm nodes has another agenda. That is, the advanced UV lithography machines used for 28nm nodes can also be used to make 7nm nodes by using multi-exposure lithography. Without access to the most advanced UV lithography machines, Chinese chip makers have turned to DUV machines to create advanced chips by using a technique called multi-exposure lithography. This process allows manufacturers to create smaller patterns than a single exposure would allow by carefully aligning the multiple layers of patterns on the wafer. In essence, it simulates the high resolution of an EUV machine by using additional exposure steps and more precise alignment. Chips made with this approach suffer a low yield because of the lack of precision. The precision with which these layers are aligned is a crucial factor known as overly accuracy. The smaller the error, the more advanced the lithography machine is. One of the DUV machines, cited by China's MIIT, operates with an overly accuracy below 8nm, which doesn't meet the requirements for more advanced nodes. Experts say that the two-sided new domestic models are equivalent to ASIMO's products from 18 years ago. China doesn't produce DUV machines capable of 28nm processes. For mass production of 28nm chips, they used ASIMO's NXT1980i model, which has an overly accuracy of less than 2.5 nm and can support multi-exposure lithography, enabling the manufacture of 7nm chips. For 28nm node production, China also uses two other advanced immersion DUV machines, NXT2000i and NXT2050i. NXT2050i can produce 5nm chips through multi-exposure technology. These DUV machines are extremely important to the Chinese because of their versatility in producing both legacy chips and advanced chips. The Dutch government announced in April 2024 that it would restrict ASIMO from servicing certain lithography machines already sold to China. And at the beginning of September, the Dutch Minister of Foreign Trade and Development Cooperation announced that ASIMO would need to apply for a license before selling these advanced DUV machines to Chinese customers. And ASIMO must also apply for licenses to provide spare parts and software updates for the systems it has previously sold to the Chinese. Although the Dutch government hasn't completely banned the sales of DUV machines and servicing to the Chinese, these restrictions are a significant blow to Beijing's technological ambition. China's own experts say that their country could regress to the 65nm or even 90nm process nodes and SMIC will lose the competition to TSMC in the 28nm competition. Some Western experts are still concerned with the speed at which China is catching up in the chip war. Japan's Semiconductor Industry Research Institute recently dissembled a Huawei smartphone and found that China is only three years behind Taiwan's TSMC in chip making. On September 19, The Economist magazine published an article titled Chinese AI Companies Innovate Cleverly to Bypass Chip Sanctions. The report mentioned that some Chinese tech companies, such as the Hangzhou-based startup DeepSeek, have been adjusting software to mitigate hardware deficiencies, and they have achieved unexpected results. Reuters reported on August 23 that Chinese entities are using cloud services provided by American service providers such as Amazon to access advanced U.S. chips and AI capabilities. The CCP has been accused in the past of using third countries, shell companies, or undercover civilian programs to indirectly obtain restrictive technologies in sensitive fields. For example, lithography machine maker ASML has 1,500 employees in China. The presence of ASML employees in China raises security concerns amid recently reported cases of data theft and espionage. It's very possible that ASML's Chinese employees are pressured to use their position to steal from ASML. So, if Chinese companies adopt various methods, legitimate or illicit, to bypass China's high-tech limitations, is it possible for China to achieve some level of breakthrough? According to Professor Xu Chenggang, a senior researcher at Stanford University, Beijing's biggest obstacle may be its own political system. China produced its first integrated circuit in 1964, seven years after the world's first integrated circuit was made in the U.S. China began manufacturing lithography machines in 1980, when Tsinghua University produced the first lithography machine. It claimed that China's technology was only two years behind international standards. China lagged the world by no more than 10 years in technology, before the economic reforms. Now, after millions of Chinese students have studied and worked in the U.S. and other developed countries, with many of them returning to China, bringing with them the most advanced technologies and ideas, the gap China has with the world's most advanced technology has not decreased, and there are no clear signs that this gap is shrinking. China's biggest obstacle to the success of its semiconductor industry is its centrally planned, command-driven economy, where political loyalty takes precedence over expertise and market. Professor Xu said that China leads the world in having the most patents in the chip industry, but the country's patent licensing revenue is less than 1% of that of the United States. It shows that a large number of has no innovative quality or commercial value because Chinese scientists apply for patents to meet political quota. A 2020 joint report by Accenture and the Global Semiconductor Alliance highlighted the global dispersion of the semiconductor supply chain, noting that wafer fabrication involves 39 countries in the supply chain and 34 in market support, with direct involvement in wafer design spanning 12 countries and product testing and packaging across 25 countries. Peter Wernick, the former CEO of Asmol, once revealed that Asmol is a system integrator that integrates the technologies of hundreds of companies to create a lithography machine that cannot be copied by others. He said, The lens comes from ZEISS in Germany, the electromechanical equipment comes from Spartan in the United States, the eczema laser source comes from GigaPhoton in Japan, and the electron beam detection equipment comes from Panweki in Taiwan. The chip sector thrives on international collaboration, with China being more separated from the world. Establishing a fully self-reliant supply chain is impossible. Professor Xu believes that a full technology sanction will be an effective way to restrain China's ambition because it worked once before. But it is very likely that the concept of a new Cold War will be clear after the U.S. If we compare today's Cold War with the Cold War in the past, what is the difference? The biggest difference is that there has not been a full technical blockade against China. The Cold War at that time was a full-scale technical blockade against all the Communist countries. I was the first to work at a computer. When we were working at a computer, I was a graduate student in the late 1970s. I was a graduate student in the early 1980s, and I was doing engineering work. At that time, it was very difficult for China to use its own digital computers for scientific calculations. But at that time, there was a full-scale technical blockade against China. At that time, Beijing used French-made computers imported from Romania. So there was actually a loophole. It was not until 1981 that China was able to buy IBM computers from the U.S. They had already been sold to China. Today, China is still able to acquire a large number of advanced equipment from the West. I have repeatedly emphasized that if China starts a full-scale technical blockade against China, it will be very difficult. And now we can see that the full-scale technical blockade has just begun to be discussed. such as photoresist, China has been hoarding Japanese supplies too. According to 2024 trade statistics from Japan's Ministry of Finance, half of Japan's exports of semiconductor manufacturing equipment and components were sold to China. In the first quarter of 2024, exports of related equipment to China increased by 82%, reaching approximately 3.32 billion U.S. dollars, setting a new record since 2007. It seems that a full technological sanction is the most effective way to prevent China from catching up in this chip war. That's all for today. Thank you for watching. 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