Breaking-Up the Tech Ecosystem

October 20, 2020


The joint top-selling smartphone brand (Huawei), a video-sharing platform (TikTok) and a messaging app (WeChat) all have come under fire from the U.S. Administration, which accuses them of spying on users. That has “stoked concerns in the global online sector,” wrote Hu Xijin, editor-in-chief of Global Times, in September. “The situation seems to be heading down a dangerous path, that is an internet decoupling between the U.S. and China.”

His analysis came days after U.S. President Donald Trump asserted that America seeks economic separation from the world’s second-largest economy. “We will make America into the manufacturing superpower of the world and will end our reliance on China once and for all. Whether it’s decoupling or putting in massive tariffs like I’ve been doing already, we will end our reliance on China,” Trump stressed during a Labor Day news conference September 15.

The high-tech industry has been the most visibly affected. “The United States and China have an increasingly competitive relationship, but they need each other, too, like conjoined twins,” wrote David Ignatius, a columnist covering foreign affairs for The Washington Post, in September. “Hasty attempts at separation could harm them both. Open research made U.S. technology great; making it more difficult for the best brains to live and work here would be folly.”

For Europe and emerging countries, that separation raises critical questions and tough choices. One dilemma is which platform to use; another is whether governments can use both platforms and still avoid political fallout with either the United States or China. Egypt will face this dilemma as it digitally transforms its economy, potentially having to choose between the


platform of its biggest political ally (the United States) or the one developed by its biggest trading partner (China), according to the Central Bank data.

U.S.-China dynamic

The manufacturing relationship between the United States and China is delicate, especially when it comes to high-tech industries. The former manufacturers semiconductors, which are the building blocks of microchips used in digital devices from watches to the most sophisticated electronics. American companies also design those chips, build the tools used to manufacture them and develop the software that controls them.

Capitalizing on its enormous, low-cost and scalable manufacturing potential, China mass-produces those U.S.-designed microchips, which enables the electronic devices to be sold at affordable prices. Epitomizing this cooperative relationship is iPhone’s famous back label: “Designed in California. Assembled in China.”

Additionally, China is the world’s biggest market for digital devices, with 63 percent of its population (904 million) connected to the internet between 2008 and 2020, according to Statista. It also has the most advanced 4G and 5G networks, a young population and a forecast of 9.1 percent GDP growth in 2021. According to Statista, that would be the country’s highest economic growth rate since 2011. “Internet-based technology innovations and new business models will create enormous markets for hardware and software, including microchips and apps,” wrote Xijin, adding that shutting out U.S. firms from China would significantly hurt their sales and revenues.

“A divorce is going to be messy, with lots of near-term pain on both sides,” wrote Ina Fried, chief technology correspondent at Axios, in August. “The end result may be a diminished, more fractured world compared to the one that existed just a couple of years ago.”

Two ecosystems

Nevertheless, Trump issued several executive orders (which don’t require congressional approval) to prevent U.S. companies from doing business with Huawei, the largest Chinese tech firm. They also prohibit the American government from using network equipment from Huawei or ZTE. U.S.-based companies that use hardware from China are not eligible to bid for federal contracts.

Part of that executive order is that dealerships in America can’t officially represent or sell Huawei and ZTE products. Meanwhile, the Securities and Exchange Commission is looking to delist 200 of the 246 listed Chinese companies from the New York Stock Exchange, as Kenneth Rapoza, a senior contributor at Forbes, reported in August.

Additionally, any third-party company that uses American hardware to design or build semiconductors or microchips can’t sell them to any business associated with China. It is unclear whether American companies with factories in China, notably Apple, can purchase those chips.

The Trump administration has also pressured political allies in Europe to stop using Huawei’s smartphones and 5G networks, in particular. The government of the U.K., which is expected to leave the EU by the end of the year, has agreed to remove all 5G kits from its networks by 2027, reported the BBC. The rest of the EU has yet to give a definitive response.

Those actions are part of America’s Clean Network program launched in August.

Meanwhile, the Chinese government has expedited its strategy to phase out all foreign-made computers and software from government offices within three years. “China has been pushing for self-reliance for several years,” Joey Yen, a tech analyst at research agency IDC, told the Nikkei Asia, the Japanese stock exchange news services, in July 2019. “Starting with government procurement is always an effective way.”

Changing game plan

With the tech decoupling showing no sign of abating, the United States needs to find an alternative to China, at least in the short term. “The U.S. high-tech sector is a critical element in both economic and military strength and stability,” wrote Jack Liu of the Elliott School of International Affairs at George Washington University to The Diplomat in August. “Semiconductors, in particular, are the backbone of the U.S. high-tech industry.” However, he noted that the most successful American high-tech companies produce their microchips in China.

Liu believes America needs to consider the 10 countries comprising the Association of Southeast Asian Nations (ASEAN), saying Vietnam, Malaysia, Thailand, Indonesia and the Philippines all have the potential to collectively replace China as America’s main high-tech manufacturing partners.

The U.S. government also is looking to develop its own semiconductor industry. To that end, U.S. lawmakers introduced a bill to allocate $22.8 billion to aid American semiconductor manufacturers. According to CNBC, $10 billion would be used to build factories, with the rest earmarked for research and development.

China’s government also prioritizes the localization of the entire high-tech manufacturing supply chain. “China will have to accelerate its development of indigenous alternatives, many of which will require architectural changes,” according to research by the Boston Consulting Group (BCG) published in July. The document pointed out that Chinese produced-microchips account for 27 percent of domestic demand with the remainder mostly from the United States.

To that end, the Chinese government in August announced that semiconductor and microchip companies at least 15 years old will be exempt from income tax for five to 10 years. “These tax incentives are relatively higher than those to ordinary manufacturing industries,” said Martin Ngai, EY Greater China TMT tax leader, to the South China Morning Post in August. “It shows the Chinese government is willing to support growth in high-tech industries.” China also launched a $204.2 billion fund in October 2019 to nurture the domestic microchip industry.

However, achieving self-sufficiency in making microchips is complicated, since only U.S.-made machinery can manufacture them. And the Trump administration currently bans sales of such equipment to China. “China would have to develop a homegrown set of design tools or find new suppliers capable of designing these critical alternative components,” noted a March BCG report.

Sand wars

One crucial aspect for the United States and China when decoupling high-tech industries is to secure enough high-grade silica sand, which is the building block of semiconductors. According to Tridage Intelligence, a specialized think tank, the United States is the largest producer and top exporter of silica sand, accounting for 27.7 percent of the global market.

China is in a critical situation as the fifth-largest importer of silica sand in 2019, according to Tridage’s research. Demand in 2019 was 11.2 percent higher than in 2018. Meanwhile, Beijing’s  silica sand exports dropped by 3.5 percent.

Tridage’s analysis, published in 2020, noted the country would increasingly rely on imported silica sand to fuel its plan to become 70 percent self-sufficient in semiconductor manufacturing by 2025.

Egypt and five EU countries accounted for 40 percent of silica sand exports in 2019. If China further strengthens trade and political relations with those six countries, it could secure enough silica sand to grow its microchip industry.

Other ecosystems

The EU is a silent yet critical player in the drive to dominate the global high-tech market, given its substantial silica sand exports. Member countries don’t have many digital and high-tech multinational companies or startups to convert silica sand to semiconductors and, ultimately, microchips.

That may change soon with the European Processor Initiative, which launched last November. The initiative targets “European independence in high-performance computing processor technologies.” By 2023, it aims to produce enough semiconductors and processors to meet rising demand from automotive companies developing autonomous vehicles. The vision is to meet the EU’s needs for processors used in all servers, cloud processing and storage.

In April 2019, Japan’s Fujitsu announced its K and Post-K Supercomputer programs that move away from U.S.-made processors and microchips in favor of inhouse designs and production.

The July BCG report noted that the European and Japanese strategies indicate that they are “actively working to move away from U.S. CPU suppliers and architecture.”

The decoupling of the tech ecosystems between China and the United States will reshape individuals’ and corporations’ purchase decisions, which would be influenced by product affiliation, not just quality or capabilities.

One example is WeChat, a Chinese app that Trump wants to remove from Apple and Google’s smartphone stores. A research note published by TF International Securities estimated that if Trump goes through with the ban, “iPhone annual shipments will decline 25 to 30 percent while other hardware, including AirPods, iPads, Apple Watches and Mac computers, may fall 15 to 25 percent,” reported Bloomberg.

The new internet[s]

Fully decoupling Chinese and American ecosystems, including the use of undersea optic-fiber cables, would likely put governments worldwide in a dilemma. Their options are to adopt one ecosystem and shut themselves out of the other from day one or invest in both but risk alienating the United States or China. “The China-U.S. spat is hastening steps toward the day when the internet, even one with global standards that allow for interoperability, will feature separate China-led and U.S.-led sets of hardware and software for the internet, telecommunications, social media, apps and data storage,” noted Micheal Collins, an investment specialist at Magellan Group, to Belt and Road News in August.

One casualty of such a scenario is online business models, such as e-commerce who must develop apps and platforms for each of the internet ecosystems that may arise. “While Chinese apps will have a hard time getting adopted in U.S. and Europe and English-speaking countries, I think they’re proving their rapid acceptance in IndiaSoutheast AsiaSouth AmericaMiddle East and even a little bit in Africa,” Kaifu Lee, CEO of Sinovation Ventures. “So I think in five years, if you look at all the people in the world that took their phone and counted how many Chinese apps and American apps, I’d say it would be fifty-fifty.”

The situation could become exponentially more complicated, added Colins, if Europe “pushes for ‘digital sovereignty,’ and the worldwide web could easily be a discernible three-way split,” he said.