Computer Chip Pact Backfires on U.S. Industry : Americans Barely Increase Market Share in Japan as Cost to Users Skyrockets

In September, 1986, when U.S. and Japanese trade negotiators signed a landmark accord governing trade in semiconductors, both sides hailed it as a breakthrough for ailing U.S. semiconductor manufacturers.

But now an accord that was designed to solve one problem has apparently done little more than aggravate another. Not only have American semiconductor manufacturers reaped only marginal gains, but users of semiconductors--the tiny silicon chips that are the key component of today’s computers--complain that the agreement has devastated them.

Computer manufacturers and electronics companies, which use chips in their products, protest that the arrangement has mostly sent chip prices soaring and worsened shortages. That, they argue, has made their own goods less competitive and given their Japanese and South Korean competitors an edge.

Under the accord, Japan promised informally to allow American and other foreign chip manufacturers to increase their sales in Japan. And Japanese companies were to quit “dumping” their chips in the United States--that is, selling them below the prevailing price in the home market--to drive out competitors.

So far, however, American chip makers have barely increased their market share in Japan. And although Japanese chip companies have stopped dumping their products here, the most notable result has been higher prices for chips--and for the products that use them.

Critics say U.S. chip makers have not moved quickly enough to use the opening provided by the accord to expand production capacity and develop new technology. One result, says Kenneth Flamm of the Brookings Institution, is that South Korean chip makers are establishing a presence in the U.S. market.

“I get the impression that 95% of the people in this world object to this arrangement and say it is not workable,” Makoto Kuroda, the Japanese vice minister of International Trade and Industry, said in a recent interview. But, he insisted, “the progress is there. It isn’t as simple as buying steel.”

Vital Components

Some analysts believe that the semiconductor industry’s cyclical nature, more than the accord with Japan, is responsible for the recent surge in prices. William Finan, a former Commerce Department official who follows the industry closely, predicts that price pressures may ease later this year when production capacity increases both in the United States and in Japan.

“It’s really not true that the accord has had a major disruptive effect on supplies,” Finan asserted.

Because semiconductors are vital components of so many high-technology products, Congress considers the chip-making industry one of America’s major hopes for ensuring U.S. economic competitiveness. Furious that American chip makers had been having difficulty selling in Japan, Congress was on its way to enacting trade restrictions on Japanese chips when the semiconductor agreement was signed two years ago.

At that time, George Scalise of the Semiconductor Industry Assn., the trade group for U.S. chip manufacturers, predicted that the agreement would end trade frictions between the United States and Japan and “set the stage for a new era of cooperation.”

Now the accord is coming under pressure from various quarters:

- Japan’s system for enforcing the 1986 pact--denying export licenses to companies that are selling their chips abroad below “fair-market value,” effectively curbing exports--has been challenged as illegal by the 96-country General Agreement on Tariffs and Trade.

- Last week, U.S. semiconductor manufacturers and Japanese users met in Tokyo to work out new ways for American producers to increase their market share in Japan--an aim that the accord was supposed to achieve. But the American chip makers went away unsatisfied when Japanese users refused to guarantee them a larger market share.

- American chip users are slated to confer soon to decide whether to ask the government to modify the 1986 accord to ease the pressure on them.

- Japan is pressing Washington to lift the tariffs that the United States imposed 14 months ago on Japanese goods after Japan initially lagged in carrying out the 1986 pact. Tokyo wants President Reagan to announce the move at this year’s annual seven-nation economic summit in Toronto June 19-21.

So far, however, top Administration trade officials are refusing to budge. “The sanctions are the only leverage we’ve got,” a senior U.S. strategist said.

No Sales Below Floor

Even the critics concede that the semiconductor accord has forced Japanese chip makers to stop dumping their products, both here and in countries where they compete with U.S. manufacturers.

The Commerce Department has computed a series of floor prices that it contends constitute fair market value for Japanese-made chips. Since April, 1987, when the United States imposed its sanctions, no Japanese producer has been caught selling below that floor outside Japan.

With the dumping threat gone, some U.S. producers have resumed production of sophisticated memory chips that they earlier had abandoned as unprofitable. They have also established an industrywide research center--financed partly by the federal government--to develop new technology.

“We have regained a beachhead in memory (chips), and memory is considered the key to survival,” said Alan Wolff, a former U.S. trade official who now represents the SIA in trade negotiations. Chips with high memory capacity are where chip makers generally expect to make most of their profits.

But U.S. chip makers are disappointed over their seeming inability to increase their market share in Japan. Under the accord, Japan promised informally to allow American and other foreign chip manufacturers to increase their share of the Japanese market to “more than 20%” by 1991, when the accord is to expire, up from 8.2% in 1986.

Yet non-Japanese manufacturers so far have garnered only 9.8% of the Japanese market. American and other foreign chip makers increased total sales in Japan by a whopping 38% last year, but only because the Japanese market has grown so fast.

Wolff says that the top seven chip users in Japan have been responding to the U.S. appeal, but some 53 smaller Japanese firms have been reluctant to stray from their traditional Japanese suppliers. Wolff believes that last week’s meetings between U.S. manufacturers and these users may have helped “sensitize” these second-tier companies.

“The Japanese are working with us,” he said, “but it’s a slow, painful process.”

Megabit Chips in Future

While U.S. manufacturers are looking for buyers in Japan, U.S. users are complaining that they are being ill served. Roger Majak of Oregon’s Tektronix Corp., a computer manufacturer, says American chip makers have not developed the production capacity both to serve the burgeoning U.S. chip market and to increase their market share in Japan.

Majak suggests that U.S. chip makers have only themselves to blame for not taking advantage of the opening in the Japanese market. U.S. manufacturers, he says, have been slow to match the Japanese in producing the industry’s hot new item--the one-megabit chip, which can store a million or more pieces of information.

Only one U.S. chip maker, Texas Instruments, is producing one-megabit chips in volume, although Motorola has started to market some. In Japan, about six firms are already mass-producing one-megabit chips.

Adam Cuhney, an analyst for Kidder, Peabody & Co., argues that the semiconductor trade accord actually may have helped propel Japanese chip makers into producing one-megabit chips. By increasing prices of all chips, he says, the accord gave Japanese manufacturers the profits they needed to shift production sooner, Cuhney says. He attributes production delays in this country--and in Japan as well--to technical problems.

What’s more, demand for one-megabit chips is outstripping supply far beyond what most forecasters had expected. Cuhney estimates that worldwide demand for the new chip has surged to 310 million units a year, well above the 250-million level that the industry earlier had considered a target. Cuhney figures that chip makers worldwide will be able to produce only 190 million units in 1988 and will not catch up with demand until well into 1990.

Tektronix now pays about $20 for a one-megabit chip that cost only $9 to $10 in 1987. That has forced it to raise prices substantially on its sophisticated computer workstations, which use 45 chips each.

“Our marketing people are extremely concerned that Japanese (computer makers) are going to be getting those chips more cheaply and therefore will not have to raise their prices,” Majak said.

Tektronix and other U.S. chip users worry that unless the Commerce Department abandons its floor prices soon, both European producers will become dependent on such props and eventually form a global cartel with their U.S. and Japanese counterparts.

“Enough is enough,” Majak insisted. “The longer it (the floor-price mechanism) stays in effect, the greater the likelihood that there will be a cartel.”

Flamm, the Brookings Institution economist, says the enforced higher prices for Japanese chips have given South Korean chip makers such as Samsung and Hyundai, which were losing money before the accord was signed, an opening to establish a presence in the market.

Criticism Rejected

Higher prices, he wrote recently, “will be a significant obstacle to the U.S. computer industry’s game plan to maintain a competitive edge over Asian clones by aggressively introducing new technology.”

Semiconductor manufacturers reject the criticism being heaped upon them. James Peterman, vice president of Texas Instruments’ semiconductor group, asserts that U.S. chip makers have done as well as they could in gearing up to meet current demand and urges chip users to be more patient in waiting for the American industry to get back on its feet.

Many U.S. producers, he says, were wary about investing in new capacity until the accord had proved its worth. And they had to divert at least part of their resources to preparing for production of the new one-megabit chip.

Charging that American chip makers have not taken adequate advantage of the accord “is an easy inference to draw if you’re sitting in an office in Washington,” he said, but it’s different if you’re in a factory and you have a lot of shareholders to consider.

Some chip manufacturers that had abandoned production in 1985 decided to rebuild their facilities only after the accord was signed in 1986, Peterman says. Those companies will need two or three years to resume production.

The semiconductor accord is also taking its lumps outside the United States. European chip manufacturers, worried at first that the U.S.-Japanese pact might threaten their own markets, challenged the accord in GATT and won an initial--if not altogether clear-cut--victory.

In a preliminary finding earlier this year, a GATT dispute-settlement panel ruled that the Japanese government’s system for enforcing the industry’s anti-dumping pledge--by effectively requiring Japanese firms to cut their exports--violated GATT rules. But it did not suggest any alternative.

Most analysts believe that the pact will continue, despite the GATT decision. Japan is expected eventually to propose a plan that modifies the guidance mechanism but keeps its Ministry of Trade and Industry in firm control.

“We have to do something to respond,” Kuroda conceded, “but we won’t scrap the anti-dumping pact. The necessity has not disappeared.”

And U.S. officials say that they do not expect European chip makers to protest much if the accord continues. As Tektronix’s Majak points out, the floor price that the agreement establishes for Japanese chips has put European companies ahead in price competition.

Also looming is the question of whether the United States should lift the trade sanctions that it imposed in April, 1987, to prod Japan into enforcing the semiconductor accord.

The White House originally announced prohibitive 100% tariffs on some $300 million worth of Japanese exports to the United States--the amount U.S. producers said they lost in late 1986 and early 1987 as a result of Japan’s initial failure to comply with the accord. The duties were targeted carefully at chip-containing products such as laptop computers and power tools.

In recognition of Japan’s anti-dumping measures, Washington lifted tariffs on $135 million worth of trade at the Venice economic summit last summer and in a second stage in early November. Tariffs affecting some $165 million in Japanese exports--the portion of the total that policy-makers linked to losses suffered by U.S. chip makers on account of Japan’s closed market--remain in effect.

Jury Still Out

The semiconductor accord provides for a formal review by U.S. and Japanese negotiators on Aug. 2, the second anniversary of its signing. Strategists for chip users say that they must decide early this month if they will seek a revamping of the floor-price system.

Industry strategists say one possible compromise would be for the users to seek a suspension of the minimum price floors when chips are in short supply. “If they do decide to go after the accord, it’s going to be one wild deal,” one strategist said.

Meanwhile, the jury is still out on whether the accord will ultimately prove the turning point that its sponsors predicted.

“Everybody’s going to read into it what they want to read into it,” said Pat Choate, vice president for policy analysis of TRW and one of the accord’s bigger supporters. “If you’re a card-carrying free trader, you’re going to condemn it. I think it’s done quite a lot.”

But Henry Nau, a former National Security Council staff member in the Reagan Administration and now a professor of political economy at George Washington University, contended that the accord has “done nothing that I can see that is substantial for our industry” and has backfired by helping Japanese computer makers.

“The justification for this was that we had to maintain our ability to manufacture, but the only beneficiaries have been a few (smaller) manufacturers,” Nau asserted. “Anybody who believes that keeping a few manufacturers alive is going to maintain that ability is just whistling in the wind.”