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October 20, 2020updated 12 Apr 2021 11:38am

Dark factories and decoupling: China-US tensions suggest a tectonic supply chain shift

"We’re talking a maximum of five to ten years before this model becomes mainstream.”

By Ed Targett

Automation, national security concerns, rising Chinese labour costs: these are just three of the influences putting increased pressure on a long-symbiotic relationship between the US and China, new analysis by the New Statesman Media Group’s Monitor titles emphasises, as combined foreign direct investment (FDI) and venture capital between the two countries plummeted to the lowest six-month total in nine years in the first half of 2020: just $4.1bn.

The global pandemic, needless to say, has been a major contributor to that abrupt decline in H1, but as data from research house Rhodium analysed by our sister publication Investment Monitor demonstrates, Chinese investment into the US has been falling notably since 2016.

technology supply chains

A staff member checks on a wafer at a semiconductor fab. (Photo courtesy of Intel)

This emerging decoupling between China and the US is having an increasingly visible impact across the technology supply chain, as geopolitical tensions exacerbate a broader trend towards “reshoring” — given impetus by the tailwind of a raucous national security debate — and as a growing appetite for once-unfashionable dirigisme emerges in traditionally laissez-faire Anglosphere capitals.

Companies are rethinking their supply chains

The trend to shortened supply chains is not new, even if Covid-19 did cast a particularly fresh light on existing vulnerabilities.

An early-2020 report by the Bank of America, for example, found that across 12 industries ranging from semiconductors to capital goods, companies in more than 80% of those industries are thinking of shortening some of their supply chains.

As Candace Browning, head of global research at BoA put it at the time: “We weren’t surprised that companies are shifting from China towards lower labour costs in Southeast Asia and India. What really did surprise us was the number of companies, particularly in North America and Asia, that intend to ‘reshore’ supply chains to their own country or region. Firms in almost all industries plan to make the transition work using robots and automation.”

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The bank’s analysts added in the report: “We see potential conflicts brewing in the financial and technology sectors, risking the decoupling of China and the US in these spheres.

“So far”, they noted, “the developments are largely in the realm of rhetoric as far as financial decoupling is concerned.”

The data this year suggests such developments are steadily moving beyond rhetoric alone; a shift turbo-charged by the way in which Covid-19 emphasised the need for supply chain resilience, amid a desperate scramble to ramp up cloud and data centre infrastructure as supplies from Chinese plants dried up.

(Chipmaker AMD said in an April 2020 earnings call that one unnamed cloud provider had added 10,000 servers to their data centres in just ten days during the crisis; Dropbox has spoken of upgrading 30,000 components in eight weeks and Microsoft acknowledged supply chain disruptions during the early days of the pandemic’s outbreak, which caused it to throttle a range of services).

National security has become a key tailwind…

Whether to demonstrate supply chain resilience, win political capital, or to target an emerging, security-conscious market for indigenously produced technologies, both companies and policy leaders are beginning to shift strategy and urge greater diversity across technology supply chains, if not outright onshoring.

Concerns at supply chain compromise are among the security concerns, as IT leaders and national security specialist fret over the potential backdooring of hardware coming out of China. As “smart procurement” expert Alex Saric, who works for supply chain intelligence firm Ivalua puts to Tech Monitor: “Just a couple of years ago there wasn’t much concern about using Chinese technology in western supply chains, but it is fast emerging as a risk consideration in many countries and may become a point of non-compliance in the U.S.

“As the geopolitical landscape continues to shift, organisations may have to decouple suppliers from other countries as well, so they have to make sure supply chains are diverse and flexible.”

Born in the USA

HPE, one of the world’s largest server providers, is among those making market adjustments as a result. The company this month launched a new “Trusted Supply Chain” initiative, featuring US factory-made servers with a range of “hardened” data protection capabilities built in during the manufacturing process.

It plans to follow the programme with a range of made-in-the-EU secure servers in 2021 and is actively assessing sites for a new factory, where the 4,000+ components (yes, many made in China) that comprise a modern server can be turned into a functional piece of hardware that’s shipped to clients to support a range of workloads.

“This is not to be confused with thinking that we’re pulling our entire supply chain back into the US” emphasises Bob Moore, director of product security at HPE. He adds: “But concern over securing the supply chain has been increasingly big and important for our customers globally.

“They want to have more visibility and more assurances of security is through the production and then shipping, receiving, supply chain distribution; that whole process that makes them certain that those products are getting to their location very securely.

“The financial services sector, as well as critical infrastructure nationally, [are] also concerned with making sure that we don’t have any type of issues or products getting interdicted or an account are counterfeited in the supply chain.”

He adds: “[With this Trusted Supply Chain initiative] we lock down the configuration, all hardware, all firmware at the factory, then we’ll ship that… the customer can unlock that server and be assured that no compromise firmware code or substituted NICs [network interface cards] or hard drives have been inserted.”

He declines to put a hard number on how many “made in the US” servers HPE anticipates shipping annually, but suggests the figure will be significant as federal and critical national infrastructure buyers eye the ability to demonstrate more robust supply chain compliance, which can also reduce their cyber insurance premiums.

Think locally?

Tobias Ellwood, chairman of the UK’s Defence Committee, is among the policymakers emphatic that a shift in technology supply chains is needed.

He says: “The West must urgently unite to advance a counterweight to China’s tech dominance. We must develop a feasible, practical and cost-effective alternative to the cheap, high-tech solutions which can be preyed upon and which come stooped with conditions which ensnare a state into long-term allegiance to China. We must not surrender our national security for the sake of short-term technological development.”

In a recent Defence Committee report, he urged the government to “encourage the development of industrial capability in the UK” and pushback against the supposed “technological dominance of authoritarian states”.

Such heated rhetoric is increasingly easy to come by – yet also increasingly backed up with hard policy.

As with the pushback against Huawei, legislative efforts in the US intended to drive a wedge into deeply interconnected US-China supply chains are not hard to spot: the July 2020 National Defense Authorization Act (NDAA), for example, contains an amendment passed by a 96-4 margin, that provides billions in federal support for the US semiconductor sector; other efforts include a move in September to restrict exports to Semiconductor Manufacturing International Corp, China’s biggest chipmaker.

Critics argue that such moves are little more than thinly-veiled pork-barrel politics and that cutting-edge semiconductor fabrication is already heavily US-centric. Chart credit: Cato Institute.)

These series of isolated policy “tremors” increasingly begin to look like they will result in a longer-term tectonic shift, however.

China is beginning to hit back.

Beijing’s National People’s Congress said this week that it would also move to more tightly control exports of “controlled” products from December 1 – without explicitly specifying the export types it would be targeting. “China will take countermeasures against countries and regions that abuse export-control measures and pose a threat to China’s national security and interests” an early draft of the legislation read.

Yet to Christian Lanng, the CEO of global supply chain and payments marketplace Tradeshift, ultimately the greatest shift will come not from geopolitical tensions reverberating down the technology supply chain — this shift with leadership anyway — but as technology itself transforms supply chains, and industry more broadly.

He tells Tech Monitor: “We need to have a bigger imagination about what we mean by reshoring. Robotics and automation will accelerate bringing manufacturing back to the US and Europe but not the jobs.

“Rather than simply moving what we have today into other locations, we’ll see more of a diversification of services to build up this capacity. The whole process will be very technology-driven.”

He adds: “We’re talking to large manufacturers who are starting to explore the potential of so-called ‘dark factories.’

“These facilities operate using a mix of robots that are completely autonomous, and others which are controlled remotely by humans. Security aside, there’s no reason that these human operators will need to be based in the same location as the factory itself.

“Production facilities will be based in close-to-dock locations to satisfy capacity requirements, with teams of operators based in locations such as India, where there is access to a cheap and skilled workforce. We’re talking a maximum of five to ten years before this model becomes mainstream.”

More from our special report across the New Statesman Media Group:

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