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Wednesday, February 26, 2003

Taiwans Deflation Continues

While the world continues to pore over the tealeaves and debate the future of the German economy, most commentators continue to treat deflation as a purely Japanese phenomenon. Deflation also exists in other Asain economies, notably China, and........Taiwan. (NB Also, and with reference to yesterdays Joanthan Anderson post, don't miss the China factor here).

Taiwan’s economy grew by 4.2% YoY in real terms in 4Q02, above our and market expectations of around 3.6% but a slowdown from 4.8% in 3Q02. Full-year 2002 growth came to 3.5%, versus our forecast of 3.3%. A closer look at the numbers reveals that Taiwan is becoming ever more dependent on exports as its engine of growth, while a weak currency policy remains crucial in guarding against deflation and the loss in nominal income amid structurally weak domestic demand. Nominal GDP expanded only 2.4% in 2002 to NT$9.73 trillion, implying a negative YoY change in the GDP deflator of 1.1%, which reflected deflationary pressure and the loss in terms of trade. The situation worsened in the last quarter, when the GDP deflator fell 1.9% YoY. In US dollar terms, nominal GDP remained stagnant at US$281.6 billion (+0.1%) in 2002, still 9% below that in 2000. Currency weakness remains crucial for Taiwan to maintain its size in the global economy.

Taiwan is undergoing immense structural change (“Positioning HK and Taiwan Against the China Shock”, January 27, 2003). Its economic development over the medium term is likely to be shaped by further integration with the increasingly open economy of Mainland China. We estimate that cross-strait trade (whether re-exported or transshipped through Hong Kong) totaled US$43.6 billion in 2002, growing at 35.4% (“Understanding Cross-Strait Trade”, February 13, 2003). This represented 18% of Taiwan’s total merchandise trade, compared with 10% in 1994. As the manufacturing operations become even more integrated, we believe that the strong trend in cross-strait shipments will persist. China absorbed 28% of Taiwan’s exports in 2002, replacing the US (20% of total) as the top market. Nevertheless, the surge in intraregional trade masks the structural pressure on Taiwan from a hollowing-out effect. While refined specialization in manufacturing processes amid China’s development boosts exports of upstream IT components and machinery to the China-based Taiwan factories, we should keep in mind that Taiwan remains under threat of its role as a manufacturing producer in the global economy shrinking over the medium term.
Source: Morgan Stanley Global Economic Forum

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