Communities and businesses play a crucial role in shaping the Federal Reserve’s monetary policy. To inform our decision-making, the San Francisco Fed hosts discussions with the people we serve so we can hear their stories and perspectives on how economic data translates into real impacts in the Twelfth District. Our “Beyond the Numbers” series shares some of those insights with you.
During the pandemic, a severe shortage of microchips was a visible and consequential snarl in the global supply chain. Since chips are integrated into a wide variety of consumer, industrial, and business products, the shortage had effects far beyond the semi-conductor industry. Most notably, the shortage was an early contributor to high inflation.
As the lack of chips become more acute in 2021, the SF Fed convened a roundtable of leaders from the semiconductor industry to better understand the situation. From these conversations, our economic researchers gained key data points. They learned that the shortage and its contribution to higher prices would last longer than expected.
We recently revisited the conditions in this vital area of the economy. Sylvain Leduc, Executive Vice President and Director of Research, and Laura Choi, Executive Vice President of Public Engagement again sat down with a group of executives from the semi-conductor industry. Sylvain and Laura were interested in current industry supply and demand trends and the lingering effects of the chip shortage. They also asked the roundtable participants to look ahead and discuss what they anticipate as future challenges and opportunities.
End of the Shortage?
While the balance between supply and demand for microchips has improved markedly, the roundtable participants noted that some effects of the shortage have continued to linger.
They noted that there are some industries, most prominently car manufacturers, that continue to face difficulties securing enough chips.
Secondly, they also indicated that there has also been an imbalance on the demand side. As the chip shortage worsened, they said that businesses scrambled to buy whatever chips were available even at the risk of over-ordering. As a result, inventories ballooned and demand for new chips softened. A number of participants noted that over the course of the last year these inventories have been worked down, and they see demand now rebounding.
Artificial Intelligence and Geo-politics
These specific supply and demand dynamics notwithstanding, the participants generally agreed that the chip shortage is no longer the primary driver of the industry’s market trends. Instead, they cited developments in artificial intelligence and the geo-political situation as significant sources of change and risk for the industry.
The leaders noted the increasing demand for artificial intelligence and its inclusion in more and more devices. They did not feel this is just a passing development, but in fact is a fundamental, long-lasting shift in the market that will drive incremental demand for chips that can enable more powerful artificial intelligence experiences.
Participants expect that meeting the demand for these new chips will entail a structural shift, including bringing new production facilities on-line. Chip production is a complex, high-tech endeavor, and it can take up to four years to build a new facility and up to a decade for such an investment to pay dividends. The participants highlighted the challenge of managing uncertainty and risk over such an extended timeframe.
Microchip production is heavily concentrated in just a few countries with a notable concentration in Taiwan. The participants pointed to this reality to explain why geo-political instability and the related volatility are key issues for the industry. They noted that initiatives to diversify chip production’s geographic base are underway. For example, companies are exploring moving production capacity to India. In addition, the participants noted that recently adopted legislation in the United States, e.g., the CHIPS Act, provides new tools to support onshoring chip manufacturing capacity.
The participants were careful to note that all of these developments will take a considerable amount of time to bear fruit. For this reason, they forecast that geo-political factors will remain crucial sources of uncertainty in the short- and medium-term.
The Importance of Dialogue
Microchips help to power the modern economy. Thanks to the participants in this roundtable, we have a deeper understanding of the opportunities and challenges facing this crucial industry.
Dialogues with business and community leaders like this one provide critical insights into the economic conditions in our district and beyond. With such knowledge in hand, we are better able to fulfill our mission to advance the nation’s monetary, financial, and payment systems to build a stronger economy for all Americans. That is why we will continue to listen and learn from the communities we serve.
The views expressed here do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco or of the Board of Governors of the Federal Reserve System.