In last month’s column, I wrote about the revolution in Korea’s economic model, moving from a high savings, high investment, export-led economy to a more mature, consumer-led, market economy. That structural change is also visible in Taiwan but with some important differences.
Taiwan’s future is different because it will become the platform for profitable investment in the industrial giant of mainland China. Taiwan is a truly creative society. However, unlocking a lot of that value for shareholders involves shifting the manufacturing base to China and providing the knowledge base for the mainland’s emergence as a powerhouse of hi-tech manufacturing.
And the express train computerization of China (which now accounts for nearly 10% of the world PC market, up from just 2% a decade ago) means that the mainland is also a huge market, predominantly available to domestic producers with distribution networks. And that means Taiwan above all.
Taiwanese companies have a proven track record in achieving high profitability in China – something critically highlighted in a recent report by the Singapore government. Most Taiwanese companies achieved greater profitability in China than at home; more were planning expansion there and most Taiwanese ventures took only 18 months to break even compared with six years for Singaporean companies in China. Shared culture clearly helps.
Politically, Taiwan and China seem to be groping towards the European model for achieving political union. They are beginning to let the economic horse drive the political cart and keep sovereignty issues quiet. When Hu Jintao takes over as China’s new leader, the stage will be set for a more pragmatic policy on the one China issue.
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While these changes are on the horizon, though, there are still cobwebs of history to blow off. Taiwan is an island located at the confluence of two big rivers of history. Taiwan was a Japanese colony for 50 years and got its bureaucratic culture from there. A large body of the Taiwanese legal code also comes from Japan. Indeed, many of Taiwan’s older elite, as in Korea, were educated in Japan and acquired some of their intellectual baggage there. This is no asset to a small open economy with its comparative advantages in hi-tech.
The country is still emerging from the culture of an economy on a war footing. Taiwan’s defence spending is much higher than Korea’s and yet the threat of war is much more to the fore in Seoul than in Taipei. Taiwan’s old nationalists built the economy on the principle of self-sufficiency rather than efficiency. Martial law, only lifted in 1997, made the bureaucrat all-powerful. And the government is still prone to knee-jerk anti-market policies, as witnessed by its silly stock market support funds.
And many of the trappings of a war economy are still there. There are snail-like lines and blanket-size visa forms, minutely scrutinized at plywood immigration counters in one of the world’s last Tempelhof-style airports. It is John le Carré stuff with Chinese characteristics. By contrast, entering Korea is like breezing into any other Asian country.
In the old war model, the financial system was subservient to the greater goals of the real economy, notably creating key strategic industries directed from on high. Taiwan’s financial sector still seems to emulate all of Japan’s financial vices on a smaller scale. The official ratio of non-performing loans held by the banks is 7.5% for 2001 but I reckon it’s double that, or 25% of GDP. The huge property bubble of the 1980s has led to the world’s longest-running slump in real estate. And land and property constitute the collateral for most of the NPLs. So bank capital adequacy ratios are low.
To recapitalize the banks properly could cost around NT$1.3 trillion ($37.5 billion) – 13.5% of GDP. And the government deficit is reaching its widest level for nearly a decade. The tax base is contracting as corporations move to mainland China and public debt to GDP stays high. It means effective tax rates will have to rise in the future.
The good news is that the glacier is cracking and moving. There is now a much greater awareness among politicians that the banking issue must be addressed. Asset management companies are springing up to clear bad debts. The new financial holding company (FHC) law facilitates cross-selling of financial services to the rising middle classes and allows for the efficient allocation of capital within the different entities that make up the FHC. And it puts in charge new dynamic managers who will cleanse and strengthen consolidated balance sheets.
And entrepreneurship is now Taiwan’s strongest economic and cultural trait. It has only one place to prosper – in a globalized economy. And that means Taiwan has to be efficient. Taiwan’s top companies are globalizing faster than Malaysia’s or Korea’s. This globalization is under-reported, given the hidden investment in China.
So the rivers of history are carrying Taiwan, at its own pace, towards the goal of becoming an efficient global player with an increasingly Greater China dimension. That’s why investors should be there for the long haul.
