VZCZCXRO1962
RR RUEHGH
DE RUEHIN #3051/01 2490621
ZNR UUUUU ZZH
R 060621Z SEP 06
FM AIT TAIPEI
TO RUEHC/SECSTATE WASHDC 1953
INFO RUCPDOC/USDOC WASHDC
RUEHBK/AMEMBASSY BANGKOK 3394
RUEHBJ/AMEMBASSY BEIJING 5621
RUEHUL/AMEMBASSY SEOUL 8068
RUEHGP/AMEMBASSY SINGAPORE 6592
RUEHKO/AMEMBASSY TOKYO 7997
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RUEHHK/AMCONSUL HONG KONG 6828
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RUEHGZ/AMCONSUL GUANGZHOU 9532
RUEHRC/USDA FAS WASHDC 2560
RHMFIUU/DEPT OF ENERGY WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 05 TAIPEI 003051 
 
SIPDIS 
 
SIPDIS, SENSITIVE BUT UNCLASSIFIED 
 
STATE PLEASE PASS AIT/W AND USTR 
STATE FOR EAP/TC, EAP/EP 
DOE FOR EIA/OOG/KVAGTS 
FAS FOR ITP/ADD/SHIEKH, MIRELES, AND SMITHUS 
USTR FOR ALTBACH 
USDOC FOR 4420/USFCS/OCEA/EAP/LDROKER 
USDOC FOR 3132/USFCS/OIO/EAP/ADAVENPORT 
TREASURY FOR OASIA/LMOGHTADER 
TREASURY PLEASE PASS TO OCC/AMCMAHON 
TREASURY ALSO PASS TO FEDERAL RESERVE/BOARD OF 
GOVERNORS, AND SAN FRANCISCO FRB/TERESA CURRAN 
 
E.O. 12958: N/A 
TAGS: EINV EFIN ECON PINR TW
SUBJECT: Taiwan Economy: Sunny With Polychrome Clouds 
 
Ref: (A) Taipei 2695 
 
(B) Taipei 2574 
(C) Taipei 1549 
(D) 05 Taipei 4647 
 
SUMMARY 
------- 
 
¶1.  (SBU) Summary:  Local think tanks forecast rising exports will 
keep Taiwan's economic growth rate at around 4% in 2006 and 2007 and 
bring Taiwan's unemployment rate below the current 3.9%.  Private 
consumption and investment (75% of GDP) are recovering from high 
card debt and inventories, and net capital outflows mitigate excess 
liquidity in Taiwan.  This sunny forecast contrasts sharply with 
media reports and widespread perceptions of gloomy economic 
prospects.  End summary. 
 
Taiwan Media Reports Paint Bleak Picture 
---------------------------------------- 
 
¶2.  (SBU) The Taiwan media seems to thrive on doom and gloom stories 
of unemployment, suicide, crime, and corruption.  Articles on 
economic issues commonly include data presented to make Taiwan's 
economic situation appear bleak.  Recent articles, even in 
economic-focus newspapers, have reported that foreign investment is 
continually declining, that Taiwan families are worse off than five 
years ago, and that Taiwan's level of unemployment and poverty 
threaten its social stability, etc.  Most economists looking at 
Taiwan's economy, along with its crowded restaurants, stores, and 
streets would not draw these conclusions. 
 
Forecasts by Four Major Think Tanks 
----------------------------------- 
 
¶3.  (U) During July and August four major Taiwan think tanks 
published updated economic forecasts for 2006, and two released 2007 
forecasts.  The Directorate General of Budget, Accounting and 
Statistics (DGBAS), Taiwan's official statistics agency, predicted 
on August 18 that economic growth will increase from 4% in 2005 to 
4.3% in 2006 and will remain above 4% in 2007.  The independent 
think tanks Chunghua Institution for Economic Research (CIER), 
Taiwan Institute of Economic Research (TIER), and Academia Sinica 
produced similar estimates with economic growth for 2006 and 2007 
projected at around 4%. 
 
Exports Drive Economic Growth 
----------------------------- 
 
¶4.  (U) Taiwan Customs data show y-o-y export growth increased from 
8.8% in 2005 to 14% in the first seven months of 2006, with the 
monthly growth rate accelerating from 10% in May to 16.5% in June 
and 21% in July.  Growth in export orders in Q2, the basis for 
actual shipments in Q3, increased to 21.6% from 21.2% in Q1 of 2006, 
both higher than 15.1% in Q2 of 2005.  The four Taiwan think tanks 
believe that export expansion will continue to propel Taiwan's 
economic growth in 2006 and 2007, despite the dampening effects on 
foreign demand of higher interest rates and higher energy costs. 
Taiwan relies heavily on export-led growth from exports to China 
(including Hong Kong), which takes more of Taiwan's exports than the 
United States, Japan, and the EU combined.  This provides some 
insulation to Taiwan from the widely anticipated slowing demand in 
developed markets. 
 
TAIPEI 00003051  002 OF 005 
 
 
 
Relocation to China Boosts Taiwan's Economy 
------------------------------------------- 
 
¶5.  (U) Taiwan's political parties, media and economic actors have 
been endlessly debating whether or not industrial relocation to 
China will "hollow out" the economy.  However, statistics clearly 
show that relocation to China is a major contributor to Taiwan's 
export expansion and has enabled firms to increase sales to 
developed markets.  Taiwan production bases in China import inputs 
from Taiwan, including machinery, equipment, components, and 
semi-finished goods.  Taiwan's exports to China (including Hong 
Kong) have grown faster than its exports to other markets, 
increasing as a percent of total exports from below 20% prior to 
2000 to nearly 40% in July 2006. 
 
... Trade Surplus, 
------------------ 
 
¶6.  (U) According to Taiwan Customs data, the trade surplus with 
China in 2005 reached US$50 billion; double its 2001 level of US$24 
billion, and grew another 17%, to US$34.7 billion, in the first 
seven months of 2006.  Since the year 2000, Taiwan's trade surplus 
with China has totaled US$221.7 billion, far more than its global 
trade surplus of US$7.4 billion over the same period.  Trade with 
China is the main source of Taiwan's huge and growing trade 
surpluses. 
 
... Increased ForEx Reserves, 
----------------------------- 
 
¶7.  (U) Industrial relocation requires investments to flow from 
Taiwan to China, but also creates inflows of capital in the form of 
trade surpluses.  Trade surpluses have increased Taiwan's forex 
reserves and money supply (liquidity).  Taiwan's trade surplus with 
China since 2000 dwarfs Taiwan's cumulative direct investment in 
China (US$51 billion according to official statistics or US$70-100 
billion, according to private estimates).  The US$221.7 billion 
cumulative trade surplus with China since 2000 has contributed to 
boosting Taiwan's forex reserves by US$153.6 billion, to US$260.4 
billion, over the same period. 
 
... And Increased Employment 
---------------------------- 
 
¶8.  (U) Taiwan's unemployment rate declined to below 4% in November 
of 2005 from a historical high of 5.3% in August 2001.  A recent 
commentary in the Economic Daily News (EDN) explained that exports 
to China over the past six year have created 810,000 jobs, far more 
than the number of layoffs due to industrial relocation.  The 
unemployment rate fell to 3.78% in April, and has remained below 4% 
since then. 
 
Economic Evolution Towards Increased Value-Added 
--------------------------------------------- --- 
 
¶9.  (U) Taiwan firms are still expanding high technology 
manufacturing in Taiwan.  The excess inventory that contributed to 
reduced private investment in H2 of 2005 has been largely 
eliminated.  Imports of capital goods (for production) grew y-o-y at 
a rate of 6.3% in June and 15% in July.  New semiconductor and flat 
panel projects have turned Taiwan into the world's largest buyer of 
 
TAIPEI 00003051  003 OF 005 
 
 
Applied Materials' high tech production equipment; outpacing Japan 
and South Korea. 
 
Increased Foreign Investment 
---------------------------- 
 
¶10.  (U) Approved foreign investment (FDI) in Taiwan in the first 
seven months of 2006 totaled US$8.3 billion, nearly five times the 
level in 2005, and approved FDI in electronic industries surged to 
US$4.4 billion, 16 times the level a year ago.  Taiwan's 
accomplishments in financial consolidation and strong consumer 
purchasing power attract foreign investment into its financial and 
commercial sectors.  Approved FDI in Taiwan's financial sector in 
the first seven months of this year totaled US$2.2 billion, nine 
times the same period of 2005.  Meanwhile, approved FDI in 
wholesale/retail firms surged 63% to US$454 million.  Financial 
institutions and wholesale/retail firms contributed 40% of GDP in H1 
of 2006, up from 33% ten years ago.  Despite a 0.2% decline in 
domestic private investment, approved FDI increased in 2005 by 7%. 
 
 
¶11.  (U) Foreign investment in Taiwan financial institutions in the 
first few months of 2006 includes: 
 
--GE Consumer Finance (Cosmos Bank) NT$2.75 billion; 
--Newbridge Asia (Taishin Financial Holdings) NT$27 billion; 
--Normura Securities (Taishin Financial Holdings) NT$4 billion; 
--AIG (Central (Non-life) Insurance with NT$6 billion; 
--Citicorp (Fubon, partially withdrawn); 
--Prudential Life (E. Sun Bank); 
--New York Life (Bank of Overseas Chinese); 
--Temasek Holding (E. Sun Financial Holdings); 
--BNP Paribas (Cooperative Bank of Taiwan); 
--Shinsei Bank (Jihsun International Commercial Bank); 
--Newbridge (Kuo Hua Life); 
 
Consumption Recovers from Card Debt 
----------------------------------- 
 
¶11.  (U) A sharp increase in delinquent credit/cash card debt 
earlier this year prompted banks to temporarily tighten lending to 
consumers, dampening private consumption growth to 1.4% in Q2 of 
2006 from 3% a year earlier (refs B&C).  However, this problem has 
been effectively addressed through debt rescheduling and debt 
write-offs.  Several private banks recently again launched credit 
card promotion campaigns.  DGBAS forecasts private consumption will 
grow 2.2% in Q4 this year and 2.9% in 2007 while CIER predicts 2007 
growth will exceed 3%.  Both predictions are higher than the average 
annual growth of 2.5% over the past four years. 
 
Capital Outflow Lessens Liquidity 
--------------------------------- 
 
¶12.  (U) Like Japan, Taiwan has seen excess liquidity build up as a 
result of export sales to and through production bases in China, and 
to a lesser extend from export sales to developed markets.  Taiwan's 
Central Bank of China (CBC) has tried to absorb the excess liquidity 
by issuing negotiable certificates of deposits (NCD).  Outstanding 
NCD and savings deposits re-deposited by CBC total NT$5.1 trillion 
(US$156 billion), an amount equivalent to the total of currency in 
circulation and deposit money.  CBC recently began permitting 
secured NT dollar (NTD) bank loans to be designated as foreign 
 
TAIPEI 00003051  004 OF 005 
 
 
direct investment (FDI) in Taiwan as an additional way to absorb 
excess liquidity (ref A). 
 
Excess Liquidity Leads to Capital Outflow 
----------------------------------------- 
 
¶13.  (U) Excess liquidity depresses interest rates and widens the 
difference between interest rates in Taiwan and the United States. 
Higher U.S. interest rates along with Taiwan tax exemptions for 
overseas earnings encourage capital outflow.  Although CBC has 
raised interest rates eight times over the past two years, Taiwan 
rates remain 2.9 percentage points lower than U.S. rates.  Higher 
interest rates abroad encourage firms to invest overseas.  Net 
outbound investment in H1 of 2006 totaled US$15 billion, mitigating 
Taiwan's excess liquidity problem. 
 
Other Urban Legends 
------------------- 
 
¶14.  (U) Some of the other "common knowledge" about Taiwan's 
economic situation that is less than true includes: 
 
-- Reports of a 30% drop in auto sales: While overall auto sales in 
H1 fell by 4.6%, sales of luxury cars, motorscooters and motorcycles 
increased; Mercedes Benz and Lexus sales increased by over 20% 
during this period.  Overall passenger car sales through the end of 
July were up 2.1% y-o-y. 
 
-- Declining real estate prices: Residential house prices in Q2 this 
year registered a 12th consecutive quarterly rise according to an 
index compiled by industry and academics.  In Taichung, the average 
price of high-rise housing units has increased by 47% since 2003. 
Overall housing prices increased by 20-30% in this period. 
 
-- Declining consumption: Y-o-Y wholesale and retail sales growth 
increased from 5% in Q1 to 6.9% in April, 7.8% in May, and 9.2% in 
June.  Taiwan hotels reported 4.5% revenue growth in H1.  The Sogo 
department store's reported decline in sales this year follows a 
consumer shift towards other types of retailers, as happened in 
Japan. 
 
-- Growing income gap: In fact, the income ratio of the wealthiest 
quintile to the poorest quintile was lower in 2004 and 2005 than it 
was in 2002 and 2003.  Taiwan's income disparity is still one of the 
lowest in the world, second in Asia to Japan. 
 
-- Declining disposable income: According to DGBAS statistics, 
disposable income has gone up every year since 2001.  Disposable 
income in 2005 exceeded the high set in 2000 on both a household and 
per capita basis. 
 
-- Domestic investment less than outbound investment:  Much of 
recent FDI has been channeled into high-tech manufacturing and 
financial sector consolidation, while outbound FDI is mainly low 
tech manufacturing in search of lower production costs. 
 
-- Business criticism: While there are widespread complaints about 
current economic policies there are few practical alternatives 
suggested.  Taiwan's Commercial Times printed two commentaries by 
"business leaders" in the past week criticizing current economic 
policies, but failed to note that the authors had been indicted in 
Taiwan on financial crimes and subsequently fled to China.  The 
 
TAIPEI 00003051  005 OF 005 
 
 
commentaries lauded the superior PRC "understanding" of the needs of 
Taiwan businesses, without mention of the vastly different political 
contexts. 
 
Clouds are Mainly Political 
--------------------------- 
 
¶15.  (SBU) Ongoing corruption scandals, campaigns to unseat the 
President, the Doha Round suspension, and failed initiatives on 
cross-Strait relations have deepened the pessimism of many local 
pundits.  A Legislator recently told AIT that hopes for a 
cross-Strait agreement on banking supervision were dashed by the 
political chill caused by Chad's switching diplomatic recognition, 
and that pending regional and bilateral trade agreements were bad 
news for Taiwan's economy since Taiwan was excluded from these 
arrangements.  She warned Taiwan may see major firms de-listing from 
the Taiwan stock exchange.  An AmCham executive recently responded 
to the positive economic statistics by noting that Taiwan's economy 
could and should be doing much better.  The think tank predictions 
of good economic prospects conflict sharply with the widespread 
pessimism in both public and business perceptions.  The economic 
numbers look good.  The clouds on the horizon are tinged with shades 
of the green, blue, orange, purple (tax reform) and red (dump Chen) 
of Taiwan political factions. 
 
Young