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Wednesday, May 21, 2003

Deflation Alert: Taiwan

Morgan Stanley's Denise Yam with some disturbing details about the SARS impact in Taiwan. Remember the IMF just rated Taiwan as at relatively high risk of deflation.

Taiwan has been hard hit by the spread of severe acute respiratory syndrome (SARS). Following the last revision to our forecast for the Taiwan economy in early April, we have reassessed the impact of the SARS crisis. We believe that private consumption may post an unprecedented YoY decline in real terms in 2Q03, while exports may fall YoY for 2-3 months in mid-year. International travel will likely take an extended period to recover, while SARS may also slow investment in and manufacturing relocation to Mainland China in the short term as entrepreneurs reassess their future business expansion plans. Although GDP growth was still respectable at 3.2% YoY in 1Q03, we expect the economy to weaken substantially in 2Q and have further cut our full-year GDP growth forecast to 2%, from 2.3%.

While Hong Kong and Singapore appear to be bringing SARS under control, Taiwan is still struggling to limit its spread. The disease has so far infected 274 people and caused 35 deaths on the island, with the number of new cases averaging 18 per day in the past week. Individuals under quarantine orders totaled 12,440 on May 13. Increased awareness, stricter enforcement of quarantine orders, improved hygiene standards, and the hotter weather in the summer months should help contain the disease. Nevertheless, while there has been a sharp rebound in shoppers and diners in Hong Kong, Taiwan households are still stocking up on groceries to stay at home, and consumer sentiment is plunging as fear invades daily life.

Although official macroeconomic data will be available only with a time lag, recent anecdotal evidence and independent surveys suggest a sharp downturn in consumption. Shoppers have disappeared from department stores. Local transport operators have seen a drop in passenger flows. The majority of retailers, restaurants and amusement parks are geared up for a cut in revenue in 2Q, although the crisis has so far benefited online shopping and outlets of medical and health supplies as well as home entertainment products.

Taiwan consumers have always shown remarkable resilience; private consumption in real terms has never posted a YoY decline since the data have been available. This reflects how Taiwanese accumulate savings during an upturn to maintain a high level of wealth. It has enabled a smooth consumption pattern even through the country’s worst recession ever in 2001 and the sharp surge in unemployment. Nevertheless, we believe it is possible that consumption will fall YoY in 2Q03 because people are staying at home to prevent infection from SARS, rather than due to a drop in income or wealth.

Unemployment failed to ease in the last cyclical upturn following a surge in 2001, as the Taiwan economy continued to hollow out and restructuring pressure persisted. Joblessness has hovered above 5% for 18 months, and the average unemployment period has lengthened, while a broader definition of joblessness, which includes those wishing to work but not actively seeking employment, has remained above 7%. The SARS outbreak will likely trigger another round of layoffs, while controversies over unpaid leave and how employees under quarantine orders should be paid may heighten labor disputes and strain employment relationships. The government’s recommendation that corporations maintain the payment of salaries to employees will need to be accompanied by substantial assistance (low interest loans or subsidies) should the business environment deteriorate much further. As for government relief measures so far, the Legislative Yuan has approved a NT$50 billion (US$1.4 billion, 0.5% of GDP) SARS fund aimed at alleviating business and household setbacks from the SARS outbreak. Of that fund, 40% (NT$20.21 billion) is aimed at supporting local industries.

Source: Morgan Stanley Global Economic Forum

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