Image: Reuters
A SINGLE NUMBER captures Taiwan’s staggering economic prowess. In October the island’s annualised goods-trade surplus touched 31% of GDP. This is an almost unimaginable figure, dwarfing those of traditional export powerhouses like China and Germany. The source of this wealth is no mystery: Taiwan is the world’s indispensable hub for advanced semiconductors. Its manufacturers, led by the behemoth Taiwan Semiconductor Manufacturing Company (TSMC), command the global supply. Exports of chips and related electronics have surged by 300% in the last five years, driving the current-account surplus to a colossal 16% of GDP. The boom, however, rests on a foundation that is as artificial as it is profitable.
For decades Taiwan’s central bank (CBC) has pursued a single-minded strategy: keeping the Taiwan dollar cheap. According to The Economist’s Big Mac index, the currency is the most undervalued in the world, undervalued by some 55-56% against the American dollar. To enforce this, the CBC has printed Taiwan dollars on a monumental scale, using them to buy foreign currencies, mostly greenbacks. This intervention has swollen the island’s foreign-exchange reserves to over $600bn. The objective was to avoid “Dutch disease”, the economic malady that can strike when a resource boom pushes a currency so high that other exports become uncompetitive. In Taiwan’s case, the resource is manufacturing prowess.
This policy once made sense for a developing economy. But Taiwan has developed. Its GDP per person, measured by purchasing power, now outstrips Japan’s and nears other rich-world levels. Export champions like TSMC are so profitable and technologically advanced that they could easily withstand a stronger currency. Analysts estimate that even a 20% appreciation would leave TSMC with fatter profit margins than Apple or Alphabet. The weak-currency policy is an outdated relic, and its domestic consequences are severe.
It functions as a heavy tax on the Taiwanese people. The island must import nearly all its fuel, food and many consumer goods. A cheap currency makes these essentials more expensive, systematically shifting income from households to exporters. The fallout is a distorted economy. Private consumption has collapsed as a share of GDP, falling by 20 percentage points since 1998. Workers’ wages have stagnated over the last two decades, even as productivity has doubled. The Taiwanese save compulsively because their purchasing power is sapped and their currency is held down.
All that freshly printed Taiwan dollar liquidity had to go somewhere. It flooded the banking system, pushing interest rates to historic lows. Mortgage rates have hovered around 2% for decades. This sea of cheap credit, combined with high savings, inflated a gigantic property bubble. House prices have quadrupled since 1998. In Taipei, the capital, the ratio of home prices to income is now 16, higher than in London, New York or Seoul. A generation of young Taiwanese finds the dream of home ownership slipping away.
The most dangerous consequence lies in the life-insurance industry. Insurance is wildly popular in Taiwan, where many citizens hold multiple policies. To generate returns, insurers have amassed a staggering $700bn in foreign assets, largely American government bonds. Their problem is that their liabilities—the promises they have made to policyholders—amount to $960bn and are denominated in Taiwan dollars. This creates a colossal currency mismatch. Should the Taiwan dollar appreciate sharply, the value of insurers’ foreign assets would shrink relative to their domestic liabilities. Their estimated unhedged exposure is around $200bn, roughly a quarter of Taiwan’s GDP. The central bank has helped insurers hedge some of this risk with currency derivatives, but the danger remains. These institutions have become too big to fail.
Given these distortions and risks, the central bank’s refusal to change course requires explanation. One reason is political pressure. Advanced chipmakers may be robust, but low-tech manufacturers still account for 70% of manufacturing jobs. A 10% rise in the currency would render half of Taiwan’s listed exporters unprofitable. Their lobby is powerful. The CBC itself is also an unusually dominant institution within Taiwan’s political system. Its governors, past and present, have wielded immense influence. Critics allege a culture of intimidation towards dissenters. The bank’s operations are also remarkably profitable; its remittances to the government provide 6% of total revenue, a share far above global norms, giving it further leverage.
Ultimately the policy is rooted in a profound sense of national vulnerability. Taiwan is not a member of the International Monetary Fund and fears international isolation. A massive war chest of foreign reserves, bolstered by a cheap currency, is seen as a vital insurance policy against a potential crisis, including the threat of conflict across the strait. The economic costs of this defence are immense—a stifled consumer, a generation priced out of housing and a financial sword of Damocles hanging over the insurance sector. Taiwan’s export success is stunning, but its foundation is growing shakier by the day. ■
