Offshoring vs. Reshoring: Who Really Wins?

What are offshoring and reshoring?

Offshoring occurs when companies move production to factories in other countries and then import the resulting products to the domestic market. Companies have two main incentives to offshore. First, foreign countries often have lower labor, transportation, and trade costs, reducing the price of producing goods. Second, offshoring can address shortages in domestic labor markets – especially for lower-skilled work.

The U.S. has experienced multiple waves of offshoring: manufacturing in the 1960s, information technology activities in the late 1990s, and more knowledge-intensive functions like Research & Development and engineering in the 2000s.

In the last decade, offshoring has slowed. Some companies have brought production back to the U.S. One reason is that cost savings in foreign markets have declined as governments institute stricter environmental, health, safety, and wage policies. Governments worldwide have also spurred reshoring through protectionist trade policies, tax incentives, and subsidies (for details on trade policy, see our brief here). Such policies are motivated by the desire to preserve domestic manufacturing capacity, maintain economic and technological power, boost blue-collar employment, and safeguard national security.

Why did microchip manufacturing get offshored?

The semiconductor industry produces microchips through an incredibly costly and complex process. For this reason, the industry mostly follows a “foundry model” in which one company (such as Apple) designs and uses the chips, while another company manufactures them. This strategy allows many companies to avoid the high costs of building and operating chip factories.

Many American semiconductor companies began to offshore their production during the second half of the 20^th century. The chart below shows that the U.S. share of global semiconductor manufacturing has declined considerably from its peak in 1990. Since then, most chip production has been offshored to Japan, Taiwan, South Korea, and China.

Until recently, the U.S. largely lacked the production facilities necessary to make the most advanced semiconductors. While this strategy helps American firms maximize their profits, it creates jobs in other countries rather than in the U.S. Moreover, there is also the possibility of an international conflict, such as a Chinese invasion or boycott of Taiwan. American firms could face widespread shortages of chips used in a wide range of products, including computers, cell phones, military hardware, automobiles, and home appliances.

How does the CHIPS and Science Act seek to reshore chip production?

The COVID-19 pandemic highlighted longstanding problems with offshoring semiconductor production. The disruption of supply chains, combined with elevated consumer demand, created a chip shortage. Many elected officials linked this problem to another preexisting issue: China, an adversary of the U.S., was playing an increasingly central role in chip production. Chips are essential for many defense materials, creating a potential national security issue.

The 2022 Creating Helpful Incentives to Produce Semiconductors for America Act (the CHIPS Act) sought to address both problems. The bipartisan legislation allocated $52.7 billion in spending and $24 billion in tax credits to reshore chip production and reduce reliance on foreign manufacturing. It also invested in research programs and workforce education.

How successful has the CHIPS Act been?

CHIPS has led to the construction of new production facilities in the U.S. Research suggests that without CHIPS investments, the U.S. share of global production would have diminished to just 8% by 2032. Now, that share is on track to increase to 14% by 2032.

There is also evidence that CHIPS produced jobs in the U.S., both directly (for those making the chips) and indirectly (for those constructing and supporting new facilities).

However, these reshoring efforts face significant hurdles. First, the U.S. is not the only country with policies that encourage microchip production. This increased competition makes it more difficult to attract domestic investment.

Second, the total amount of subsidies in the CHIPS Act is quite low: a single fabrication facility for the most advanced chip production costs between $20 to $40 billion to open, and older facilities cost between $700 million and $1.3 billion.

Third, the CHIPS Act did not fundamentally alter the underlying cause of offshoring. It is still more costly to build and operate chip manufacturing facilities in the U.S. than in most Asian countries. Offsetting this imbalance would require continued investments, which may be politically difficult to secure.

Lastly, most CHIPS funding went to chip fabrication. The U.S. remains reliant on foreign countries for importing the materials used to make semiconductors and for downstream parts of the production process, like assembling, testing, and packaging chips – most of which still happens in China, even for chips produced in the U.S.

The Takeaway

The CHIPS Act sought to reshore American jobs in a critical industry. Its bipartisan passage shows how events like COVID-19 can draw attention to a pressing problem and spur action, especially when the problem is framed in terms of national security.

As with all policies, there are significant tradeoffs involved. In the case of chip manufacturing, it is difficult to have both low costs and domestic production. This fact helps explain why offshoring is so common.

The CHIPS Act also illustrates how a policy initiative’s actual impact can be less than its advocates claim. Even if the CHIPS Act succeeds in increasing semiconductor manufacturing in the U.S., the U.S. will remain reliant on facilities in Asia to produce most of the semiconductors used in American-made products.