Fighting Off the Suitcase Brigade

By Philip Elmer-DeWitt

The tiny computer chips known as semiconductors are wizards at running just about everything, from talking bears to ballistic missiles -- but they cannot yet settle an argument. In fact, they are the cause of a fierce controversy between the U.S. and Japan, whose ill-matched trade balances have become a perennial source of friction. The conflict is rich in intrigue and deception, involving illegal practices, predatory salesmen, a suitcase brigade and even a smoking gun. At stake is not only the future of the $11.4 billion U.S. semiconductor industry but also the fate of the sophisticated weapons systems on which national security depends.

When the U.S. and Japan signed an accord on semiconductors last summer, it appeared to be one of the best trade pacts ever extracted from the Japanese. Japan agreed to stop dumping chips in the U.S. and third-country markets at prices that were below production costs. It also promised foreign chipmakers increased access to semiconductor sales in Japan, an important market from which the Americans had been largely shut out.

Now, as complaints rise that the Japanese are cheating on the deal, the semiconductor pact is in danger of unraveling. Moreover, a panel of experts investigating the military's chip supplies has concluded in a report to the Pentagon that only major Government intervention can save the U.S. chipmakers. The report recommends that the Defense Department invest some $2 billion over the next five years for research and development in chip-building technology. Says Martin Marietta President Norman Augustine, who chaired the advisory panel: "If we don't do this or something akin to this, the U.S. semiconductor industry will die."

If something is done to help the chipmakers, it will be the result of + sustained lobbying by a trade group that boasts some of the country's biggest and most dynamic firms: IBM, AT&T, Texas Instruments, National Semiconductor and Advanced Micro Devices. For nearly two years they have vigorously complained that a vital and innovative industry was being destroyed not by bad business practices but by predatory competition. In a series of complaints filed with the U.S. Government, the industry alleged that the Japanese were using unfair trade practices in their zeal to penetrate the U.S. market. The smoking gun: a memorandum issued by Hitachi executives instructing their salesmen to undercut U.S. firms by 10%, no matter what the cost.

Faced with the imposition of sharp punitive tariffs, Japan signed the semiconductor trade agreement on July 31. But any hopes that the new accord would settle the conflict were quickly dashed. When the prices of Japanese chips sold in the U.S. began to climb, U.S. chip buyers objected, and some began threatening to take their manufacturing operations overseas. Meanwhile, slower sales abroad created a chip glut in Japan, driving Far East prices as much as 50% below the agreed-upon "fair market" values. Result: a boom in illicit roundabout sales. Large numbers of low-priced Japanese chips turned up in Hong Kong, South Korea and Taiwan, and middlemen, known as the suitcase brigade, secretly ferried them to the U.S.

Late last month trade representatives from Washington confronted Tokyo with 20 pages of specific evidence of violations and set deadlines for compliance: 30 days to stop selling chips below cost in third-country markets, and 60 days to increase Japanese purchases of U.S. chips. Japanese officials denied any dumping but as a gesture of good faith agreed to ease the glut by trying to cut production of the most overabundant chips by 10%.

That is not likely to satisfy the U.S. semiconductor makers, which have asked the U.S. Government to slap penalties on everything from VCRs to microwave ovens to punish the offending Japanese firms. Such protectionist talk is still not well received by this antitariff Administration. But the White House might yet be swayed by the advisory panel, which pointed out the increasing importance of semiconductors in U.S. weapons systems. "The path we are on," says Martin Marietta's Augustine, "will inevitably lead to a situation where the U.S. military will depend on Japan or other Pacific Rim allies for the technology it needs to deter and win wars." The chipmakers hope that prospect is sufficiently alarming to win them some relief.

With reporting by Gisela Bolte/Washington and Cristina Garcia/San Francisco