Janet Yellen has a good point about government support of the chip industry

There’s a lot about Bidenomics that represents a departure from the US economic status quo, most notably the administration’s willingness to engage in industrial policy by subsidizing efforts to lessen dependence on fossil fuels and bring the manufacturing of computer chips back to the United States.

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Economists are typically dubious that government planners can arrange for companies and workers to hit production targets—market measures of demand are more efficient signals for investment. But markets don’t have all the information they need to get these particular jobs done. After all, there’s no price on the damage caused by climate change, and when it comes to chips, even after the shortages that occurred in the covid-19 pandemic, investors aren’t incentivized to take into account what might happen if silicon supply chains are disrupted again by, say, trade wars or real ones.

The US government, however, is thinking about that quite a bit, and has decided (not incorrectly) that silicon supremacy will be key to protecting its global position in the decades ahead. That led to the CHIPS Act, a $280 billion spending package to incentivize more chipmaking in the US.

Why Janet Yellen is suddenly a fan of US industrial policy

While American companies like Nvidia, Intel, and Apple design advanced chips, most of them are actually made abroad in Taiwan and South Korea. The US only accounts for about 12% of global chip manufacturing.

Critics say Washington is wasting money on an effort that could leave the US industry reliant on the government and thus uncompetitive. But US Treasury secretary Janet Yellen has an empirical rejoinder to those concerns.

“Throughout my career, I’ve not been a strong believer in industrial policy generally,” she told a roundtable organized by Fortune Magazine this week. “But I think if you look at the semiconductor industry, and the way in which it’s evolved globally, over decades, what you see are enormous government interventions in virtually every country that plays a significant role.”

The US semiconductor industry has roots in TVs and the space program

Silicon chips first emerged in the United States in the 1950s, initially for replacing vacuum tubes in radios and televisions. But it was the space race that made semiconductors (and computers) a reality.

The US space program made up over 70% of the worldwide demand for transistors as late as 1965. The purpose and ultimate benefit of the Apollo program has long been debated, with the $283 billion spent on it balanced against the scientific progress and geopolitical signaling, but certainly funding the initial years of what would become a thriving semiconductor industry counts for a lot.

In Taiwan, the world’s largest producer of silicon chips, the semiconductor industry was the result of direct government intervention, according to Genda J. Hu, a Taiwan Semiconductor Manufacturing Company executive interviewed by the National Academies of Science in 2003. Taiwanese policymakers made a conscious decision to fund research and development, and then provided start-up capital to the first three Taiwanese chip-makers, including TSMC.

South Korea, the second-largest producer of chips, saw its industry emerge with government support as well, if less than in Taiwan. But its chipmakers were chaebol, the large, family-run industrial conglomerates that cooperated closely with the government. Today, policymakers in Seoul aren’t debating whether to support their chip industry, but how.

And Japan, which was the first country to overtake US chipmakers in the 1980s, also deployed government power. According to one history of Intel, the Japenese government helped private companies track US patent filings to gain an edge and subsidized chip sales at artificially low prices abroad.

Now, all these countries—not to mention China, with its massive program to take the lead in semiconductor manufacturing—are thinking about how to maintain or increase their share of the global chip market. That may end up being a race to the bottom. But it’s not clear how any of the participants can opt out, at least to Yellen.

“We’re fooling ourselves if we think that abandoning, for all practical purposes, semiconductor manufacturing is a smart strategy for the United States,” she said.

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