Zachary Abuza
Diversifying supply chains away from China is a boon for Southeast Asia and a priority for Washington, but it could create new tensions if those supply chains end up supporting Washington's adversaries.
This is especially true in Malaysia.
Southeast Asian countries, with the exception of the Philippines, have been unwilling to become embroiled in competition between the great powers and have maintained their neutrality.
But for the United States, supplying semiconductors and other high-tech dual-use equipment to rival countries, including those subject to UN sanctions, is anything but neutral.
Since Russia invaded Ukraine in February 2022, the Biden administration has imposed sanctions on companies in Malaysia, Indonesia and Vietnam that supply products to Russian and Iranian companies.
This scrutiny is only going to get stricter in the future.
U.S. intelligence agencies are making significant efforts to investigate how Russia, Iran and North Korea evade international sanctions and acquire dual-use technologies, including through forensic analysis of battlefield weapons and munitions.
While promoting economic growth is a top priority for the governments of Malaysia, Indonesia and Vietnam, maintaining their strategic autonomy is equally important.
No country has benefited more from the US-China semiconductor war than Malaysia.
Malaysia's economy is growing but has yet to fully recover from the COVID-19 pandemic, with Kuala Lumpur receiving $40 billion in foreign direct investment pledges in 2023, finally hitting some milestones during a period of respite from political instability that saw five prime ministers between 2018 and 2022.
Malaysia's semiconductor industry has long been large, with about 13% of the world's chip testing and packaging taking place in Malaysia. Malaysia is the world's sixth-largest semiconductor exporter. The Financial Times estimates that 20% of U.S. chip imports come from Malaysia.
Semiconductor exports in 2023 were estimated at $81.4 billion.
The government expects to invest more than $100 billion in the semiconductor industry, with $12.8 billion pledged last year, more than the total investment from 2013 to 2020.
Recent investment pledges have been astonishing.
Intel announced a $7 billion chip packaging facility. Germany's Infineon announced a $5.4 billion expansion and third facility. Austria's AT&S also plans to invest. Netherlands-based ASML, a major semiconductor equipment maker, said it will build a manufacturing facility in Port Klang.
Developing domestic talent
Malaysia has recognised that one of the limiting factors is human capital, and has allocated $5.3 billion to train 60,000 chip designers and engineers over the next five years.
Malaysia aims to nurture its own talent pool and strengthen local capabilities at all stages of design and production.
Prime Minister Anwar Ibrahim said the government wanted to have at least 10 companies with revenues between $210 million and $1 billion. The government announced it would work with sovereign wealth fund Khazanah Nasional to invest in the region's largest integrated circuit design park in Selangor state.
But all this has made Malaysia increasingly a target for the US.
Before the Ukraine war, Malaysia supplied Russia with a third of its semiconductors. When hostilities broke out, the Malaysian ambassador to Russia announced that Kuala Lumpur would continue to supply Moscow, drawing criticism from Washington.
On May 1 this year, the US government imposed sanctions on Malaysian company Jatronics for supplying semiconductors to Russia.
Officials in Kuala Lumpur were quick to point out that Jatronics is not a manufacturer but a trading company operating without an export licence.
Meanwhile, Malaysia's Ministry of Foreign Affairs pledged to comply with the country's international obligations and cooperate with the U.S. Embassy.
Nevertheless, Anwar has spoken out against the US sanctions.
“We propose our country as the most neutral and non-aligned hub for semiconductor production to contribute to building a safer and more resilient global semiconductor supply chain,” he told attendees at Semicon Southeast Asia 2024 in Kuala Lumpur last month.
Links to Iran's drone program
The Malaysian company has also come under U.S. scrutiny for supplying Iran's drone program, which is a major supplier to Russia.
In April 2023, the Treasury Department imposed sanctions on one company.
In December 2023, it also imposed sanctions on four other companies for sales of engines, circuitry, electronics and other parts officially known as “Common High Priority List items.”
Two Indonesian companies were sanctioned at the same time.
In addition to semiconductors, there have been a string of investment proposals in cloud computing and artificial intelligence from Nvidia ($4.3 billion), Google ($2 billion), Amazon Web Services ($6 billion) and Microsoft ($2.2 billion).
The U.S. government is looking at ways to prevent these technologies from being used by adversaries, and Malaysia is one of the countries trying to block what it sees as an expansion of U.S. law.
Another area of potential conflict is Chinese investment in Malaysia's high-tech sector, which is in some ways a healthy business, especially as China's domestic market slows.
But there is great concern in Washington that Chinese companies are setting up bases in Malaysia, Vietnam and other countries to buy sanctioned manufacturing equipment or to mask exports to sanctioned countries, including Russia, Iran and North Korea – Malaysia has ties to all three.
For example, the Dutch government bowed to U.S. pressure and refused to grant ASML an export license to China, and the U.S. government imposed a total ban on the export of certain semiconductors.
Recent investments by Chinese companies include Star Five and Tongfu Microelectronics, which are building design centers.
Technology isn't the only source of friction: In early May, two senior U.S. Treasury officials visited Kuala Lumpur because of “increased funds moving through the Malaysian financial system to Iran and its proxies, including Hamas.”
Diplomatic and material support for Hamas is unlikely to stop. The war in Gaza is a thorn in both sides' sides, and Washington appears unaware of how deeply anti-American sentiment runs among both government and rebel forces. Mr Anwar made a point of meeting Hamas militant leader Ismail Haniyeh in Qatar in May.
U.S. Treasury officials want to discuss ship-to-ship transfers of Iranian oil in Malaysian waters.
Indonesia's small and underfunded coast guard has publicly stated that it has twice blocked Iranian tankers from transferring oil at sea, but Malaysia appears to be turning a blind eye, despite UN sanctions and the fact that Malaysia exports more oil than it produces.
Southeast Asian governments have resented unilateral U.S. sanctions and threats of secondary sanctions, including loss of access to U.S. and other Western markets. But for the U.S., the goal is to diversify supply chains away from China, while controls are needed to prevent technology from falling into hostile hands.
Zachary Abuza is a professor at the National War College in Washington and an adjunct lecturer at Georgetown University. The opinions expressed here are Abuza's own and do not necessarily reflect the position of the Department of Defense, the National War College, Georgetown University, or BenarNews.
