IT'S NOT OFTEN that a policy decision in Taipei is met with applause on both sides of the Taiwan Strait. The Taiwan government's partial lifting of a ban designed to keep the island's world-class semiconductor companies from investing in China was one such rarity. China welcomed the move as it will help bolster Beijing's goal of turning the country into the next major global production base for chips. And executives at Taiwan's semiconductor companies heaved a collective sigh of relief, as they now will be able to take on upstart competitors on their home turf.

But it's not that simple. China is potentially one of the world's biggest chip markets. Yet it barely registers a blip on the global-expansion radar of Taiwan's chip-making giants--a fact that was lost in all the debate that preceded the government's announcement on March 29.

There will be no exodus of Taiwan chip makers across the strait. The likes of Taiwan Semiconductor Manufacturing Co. and United Microelectronics Corp.--the world's two largest contract chip makers--will move some older production lines to China, helping to stem a brain drain across the strait. But their main focus remains at home and in other markets where they build new multi-billion-dollar plants.

Rather than a mad rush to the mainland, the priority is to refine their cutting-edge technology and eye new opportunities in more advanced parts of the world. Building a state-of-the-art plant in China is "out of the question," says Robert Tsao, chairman of UMC. "The United States wouldn't allow you to do that."

What's more, the Taiwan government's new policy is designed to hinder any large-scale migration of chip makers across the strait: Taiwanese companies will only be allowed to move older, used production equipment to China, and only three Taiwan-owned plants will be built there between now and 2005. TSMC and UMC aside, most of Taiwan's other chip makers are much smaller and produce mainly computer-memory chips--which require the use of advanced technology that can't be transferred to China.

Still, China's growing appetite for semiconductors is an opportunity not to be missed for the island's chip giants--even if they can only transfer older lines there. Worth around $10 billion in 2001, or roughly 7% of worldwide sales, China's chip market is projected to almost double by 2005, according to market-research firm Gartner Inc.

Domestic chip producers cannot meet demand. That's why new plants are springing up around the country. Further fuelling the drive into China is the widely held belief that despite China's entry to the World Trade Organization, Beijing will not end its preferential tax policies aimed at boosting domestic chip production any time soon.

But China remains out of bounds for the world's most advanced chip-making equipment--making it of less strategic importance for leading-edge companies like TSMC and UMC. The U.S. and other advanced nations restrict the export of sensitive technologies to countries including China under the terms of the Wassenaar Arrangement.

Semiconductor-manufacturing equipment is high on the list of so-called dual-use technologies that in addition to civilian purposes also can be used for advanced weapons systems. Taiwan does not face that problem, and the cutting edge is where the island's top chip makers see their future.

Still, critics in Taiwan claim that even by transferring older technology to China, chip makers will provide the island's biggest political enemy with a powerful new means of coercion.

Signs are, however, that advanced chip-making technology is making its way to China anyway--with or without the involvement of Taiwanese companies. Already, start-up chip makers in Shanghai, most notably Semiconductor Manufacturing International Corp. and Grace Semiconductor Manufacturing Corp., have signed technology-transfer agreements with Japanese and Singaporean companies eager to establish a foothold in the mainland without having to build plants there.

"Process technology, as it turns out, is readily available," says Steve Della Rocchetta, executive vice-president of sales at Silterra. The Malaysia-based chip maker has had offers from five companies willing to transfer technology, he says.

STEM THE BRAIN DRAIN

Vital talent is transferring across the strait, too. Last year's global slump in tech spending hit Taiwan's chip foundries hard and start-ups in China were able to hire scores of engineers and managers from them. Richard Chang, chief executive of SMIC, says the Taiwanese engineers that joined his company were attracted by the promise of China's growing market and a chance to climb the career ladder faster than they could in Taiwan.

Hopes of striking it rich in a future initial public offering may also have played a part in their decision to join a start-up. SMIC plans to list on the tech-heavy Nasdaq by late next year.

But the best engineers want to be at the cutting-edge companies. So by moving existing production lines to China, where Taiwan salaries go a long way, TSMC and UMC should be able to stem the brain drain. And in the process, they could even alleviate fears that China's push into the chip-making business will result in a new capacity glut that could cost global chip makers billions when the highly cyclical industry hits its next downturn.

Meanwhile, TSMC and UMC have their sights set on staying at the forefront of technology. Advanced chip-making is a multi-billion dollar game, and the stakes are getting higher. State-of-the-art plants can make chips with circuitry of 0.13 micron and finer on silicon wafers measuring 300 millimetres in diameter.

Both TSMC and UMC are already ramping up their first such plants in Taiwan, and plan to build more. TSMC alone has committed to building at least six 300-millimetre wafer plants in Taiwan at a cost of around $20 billion over the next several years. It recently raised its spending plan for this year to $2.6 billion.

In comparison, the used equipment that Taiwan companies will be allowed to move to China will produce chips on 200-millimetre wafers with circuitry measuring 0.25 micron or thicker. A micron is a millionth of a metre, and in the world of chip-making a few fractions of a micron make a big difference. By shrinking the circuitry, say from 0.18 micron to 0.13 micron, nearly twice the number of chips can be cut from each wafer. And a 300-millimetre wafer offers more than double* the surface area of a 200-millimetre wafer, which promises to bring down the production cost per chip by at least 30%.

Furthermore, the operations at both TSMC and UMC are becoming increasingly global--the companies already operate overseas in countries including Japan, Singapore and the U.S. They also answer to an increasingly global base of shareholders, as both companies have secondary listings in the U.S. and often tap into international markets for funds.

In its latest move aimed at improving corporate governance and furthering its globalization goals, TSMC last week said that Lester Thurow, a professor of economics and management at Massachusetts Institute of Technology, and Peter Bonfield, former chief executive of British Telecommunications, will become independent directors of TSMC, while Michael Porter, a Harvard University professor, will become a supervisor.

All three are friends of Morris Chang, the 70-year-old chairman of TSMC, who has said that his company's goal is to own half the foundry business.

That may not be as farfetched as it seems. Between them, TSMC and UMC already control more than two-thirds of the global contract-chip-making market. They see the industry's move to 300-millimetre-wafer technology as a chance to realize their dreams of becoming dominant players in the global semiconductor industry.

Today, around 15% of the world's chip production is done on contract, but this is expected to reach 50% within a decade or so. That translates to hundreds of billions of dollars, which makes China's market look paltry in comparison.