Unless you’ve been living under a rock, you’ve probably heard about the ongoing chip shortage somewhere on TV or in an article. No, I’m not referring to edible chips, like the ultimate guilty pleasure, Doritos. Although, I’m sure if there were a Dorito shortage we’d probably be seeing just as many, if not more, reactions on social media. Anyway, before I go on a Dorito tangent of marketing budget cuts = no super bowl commercial, the chips I’m referring to are semiconductor chips that enable the systems and products of so many things that we use daily. That phone in your hand. Chips. That thing you park in the garage. Chips. That thing that washes your clothes. Chips. Semiconductors are found in so many consumer products that revolve around our everyday lives. So why am I having trouble getting a new washing machine?

The primary issue has to do with very simple economics: demand outweighing supply. That’s the short answer. This unforeseen issue came at the onset of the pandemic as many industries had pulled back on production either because they had to or were expecting consumer spending to drag. Large industries, like the auto industry, had cut back on manufacturing and ordered fewer of the chips needed to run their cars. Since many industries were expecting a decline in consumption, orders for semiconductors that supply processing power to their products declined as well. Unfortunately, this dramatically backfired when many people working from home poured their money into electronics instead of amusement parks, movie theaters, vacations, etc. The rush for consumer electronics, like computers, TVs, and video games, led to tech companies picking up all the available chips to meet the demand. Thus, when the auto industry realized that people were still buying cars, it was too late.

There have been chip shortages in the past, but these aren’t apples to apples comparisons given the significant number of industries that integrate semiconductors into their products today. In the auto industry, a single vehicle can easily have more than 3,000 chips that power different functions like airbags, collision warning, seat controls, audio, etc. The second chart below shows the growth of the digital economy as a portion of U.S. GDP over 2 decades and that directly correlates with semiconductors which are the backbone of the digital economy. The semiconductor supply chain is our newest, and one of the most reliable forward economic indicators we have. Additionally, semiconductor manufacturing is heavily capital intensive (it costs over $1 billion to build one fabrication facility – with state-of-the-art fab facilities costing over $10 billion) and the chips themselves must be built in highly controlled environments. Hastening the production line is no small feat. Something as insignificant as a speck of dust could cause the chip to be defective. One of the reasons why there’s a whole sub-industry dedicated to inspection equipment and yield management for semiconductor manufacturers, companies like KLA-Tencor.

Many analysts and industry experts expect supply pressures won’t start easing until 2022 going into 2023. This seems to be a fair estimate as semiconductor manufacturers attempt to pick up the pace as overall demand continues to increase with the economic recovery. Especially with recent economic results showing growth in the manufacturing and service sectors and the moderate job growth. While the short term will experience continued supply pressures, chip manufacturers are making significant efforts to address forward concerns. Both Taiwan Semiconductor and Intel have announced multi-billion-dollar projects to establish more fabrication facilities in Arizona to ramp up production, but they likely won’t be operational until 2023. In addition, bipartisan support for funding to improve the U.S. semiconductor industry will also support chip production and research (Biden currently proposing $50 billion as a portion of his infrastructure bill).

While the long-term solution is in the works, that doesn’t mean the economy is going to stall because chip production isn’t at optimal levels. And though it’s going to take a while for supply to meet demand, people will continue to purchase goods and services and contribute to the economy. It may just take longer to get that new PS5.

Matt Kawashima