No clear solution for Seoul as Japan tightens exports

As South Korean alarm mounts over Tokyo’s restrictions on the export of key display and chip components to the country, a business lobby group has sent a plea to Japan to tone down the emerging trade conflict, while the head of the nation’s flagship company has ordered subordinates to draw up contingency plans.

In a letter sent to Japan’s Ministry of Economy, Trade and Industry, the Federation of Korean Industries (FKI) warned on Monday that Japan’s extended trade curbs would disrupt production at Korean companies and pose a threat to global supply chains.

Meanwhile, Lee Jae-yong, vice chairman and de facto head of Samsung Electronics, called on his staff to prepare contingency plans at an executive meeting on Saturday, a day after his return from Japan. Lee had flown to Japan to secure the supply of necessary semiconductor materials, and, despite being ambushed at the airport by reporters on his return, remained tightlipped about what – if anything – his trip had achieved.

Wartime forced labor dispute

Against this backdrop, a report published by a Korean government think tank, the Korea Institute of Economic Policy, or KIEP, indicated that the Japanese government’s restrictions of key semiconductor material exports are likely to remain in place unless Seoul shifts its stance on a Korean Supreme Court ruling on wartime forced labor in Japanese companies.

Early this year, the court ordered the seizure of Japanese companies’ assets in the case. Tokyo was furious. It insists the issue was resolved in 1965, when, as part of a diplomatic normalization treaty, Japan paid US$800 million in grants and soft loans to South Korea. Seoul, at the time, offered no money to victims, using the cash for economic development instead.

Samsung appears to agree with the KIEP study. “At an executive meeting, Lee told participants to prepare a contingency plan as Japanese export restrictions could last long and go further,” an industry source told Asia Times. Though some media said that Lee had succeeded in securing a supply of critical materials for a few months, the source told Asia Times, “Do not put too much credibility in that report.”

“The fundamental reason for the Japanese government moving to tighten restrictions on exports to Korea is its dissatisfaction with the Supreme Court’s ruling on forced labor. This situation is expected to last long unless the Korean government changes in its attitude,” Kim Gyu-pan, a researcher and the author of the KIEP report said.

Semiconductors

But that “does not mean that concessions on historical issues are the best thing to do,” Kim told Asia Times. “It is necessary to induce arbitration from the US and China, by highlighting that a disruption in Korean semiconductor production will also damage IT companies in the US and China.”

Kim said: “Although it may take time, WTO litigation is also a way to deal with this issue. For a WTO complaint, the Korean government must monitor corporate damage closely.”

Still, according to KIEP, the Japanese government argues that the strengthened export regulations are not a violation of WTO agreements. Tokyo claims that it has altered its export system. The Japanese government also claimed that if it had targeted the Korean semiconductor sector, it would have chosen more critical items – such as silicon wafers.

In retaliation, Seoul is reportedly mulling a ban on semiconductor exports to Japan and an imposition of tariffs on Japanese imports. However, these steps may be tricky to implement as they could escalate into an all-out trade war.

The FKI, in its letter to Tokyo, warned that economic damage would not be one-way. The FKI anticipated that bilateral trade – put at US$85 billion in 2018 – and the number of Korean travelers to Japan, which reached 7.54 million last year, would decline if the dispute continues.

Japan intensifies attack

But Tokyo may not be finished. It looks set to exclude Korea from a “white list” of countries favored in trade, on security grounds, next month, according to the KIEP report. Countries on the list can import strategically important Japanese products quickly and easily. Those that are not, could face delays.

“While the strengthening of export regulations on July 1 specified three semiconductor and display materials, excluding Korean [items] from the white list is very comprehensive, so uncertainties for Korean industry are amplified,” Kim said. “The export regulation currently mentioned is likely to include high-tech chemicals that can be used for military purposes and electronic components, such as secondary ion batteries for vehicles, and some machine tools.”

Still, Tokyo is putting out some peace feelers.

Tokyo made an earlier request that Seoul did not respond to – for a third-country arbitration committee to be set up to solve the wartime forced labor issue. That idea was a contingency written into the 1965 treaty.

Tokyo is expected to strengthen export restrictions if Seoul does not respond positively to that proposal.

But rather than a diplomatic climbdown, Seoul seems to be digging in for a prolonged trade dispute. South Korea and Japan held a working-level meeting last Friday in Tokyo. It ended up with no result.

“Despite our efforts for a diplomatic solution, we can’t rule out the possibility for this issue to last long,” South Korean President Moon Jae-in told business leaders last week. He added that the government would help Korean firms minimize their damage by diversifying imports and encouraging local production of key materials.

Assessing the fallout

Japan may be wielding a double-edged sword.

The KIEP report said that if South Korea’s semiconductor and display production is reduced, Japanese firms including Sony, Panasonic, and Sharp, which use Korean memory chips and OLED panels, will also face difficulties in procurement.

It said Japanese companies that supply parts to global companies such as Apple and Huawei could also face problems if they suffer from disruptions in the production of mobile phones.

Still, if the court decision is not somehow reversed, the Japanese government will require Japanese chip and display material manufacturers to obtain complex approvals from Tokyo before they export to Korea fluoride polyamide, which is used in smartphone displays. They would also need approval to use etching gas for semiconductor cleaning. Under the ruling, would-be exporters of materials to Korea would have to wait up to 90 days for approval.

There have been mixed reviews in regard to the impact on the semiconductor and display industries.

“We are divided over the impact of the strengthened export regulations on domestic companies,” KIEP’s Kim admitted.

According to the Korea International Trade Association, Japanese companies have about 70% of the fluoride polyamide global market share, with 80% of ‘resist’ and 80-90% of etching gas. The dependence of Korean companies on Japan is 94% in polyimide, 92% in resist, and 44% in etching gas.

Korean chipmakers testing local etching gas

However, some say the Japanese move will not prove catastrophic.

Industry sources said that resist included in the regulatory framework is only used in highly refined production processes called EUV (extreme ultraviolet). That would have no immediate impact, as Samsung has yet to start mass production using EUV processes – but it would hamper its business plans.

An industry source told Asia Times that photoresist, used for currently mass-produced memory chips, is being imported normally.

The KIEP report also suggested that more photoresist could be obtained from overseas plants of Japanese companies, and fluorine polyimide is not subject to regulation because Japanese companies produce materials that are used to make polyimide, not the polyimide itself.

Korean chipmakers might also be able to buy etching gas from overseas branches of Japanese producers. There is speculation that Samsung chief Lee sought this avenue of acquisition, but neither Samsung nor the Korean government will confirm it.

Meanwhile, an industry source said Korean chipmakers are testing locally made etching gas for chip production, though tests of Russian-made etching have not started. “We don’t have detailed information on Russian products, and no test has not been made yet,” he said.