TAIPEI May 31 The threat of military conflict
between Taipei and Beijing has faded, transforming the appeal
of Taiwan for foreign investors, but policy risk and the threat
of polarised local politics could cool the investment climate.
Following is a summary of key Taiwan risks to watch:
* INTEREST RATE POLICY AND CAPITAL CONTROLS
Taiwan's central bank said in March it was ending its loose
monetary policy due to signs a deep recession was over, but
economists expect interest rates to stay relatively low for a
few months more unless the U.S. Fed acts sooner or inflation
spikes persistently. Faced with growing discontent over rising
housing prices and fears of a real estate bubble in an election
year, the central bank may move to curb property prices and
Another key issue is coping with flows of "hot money" that
have been buoying Asian asset prices. Some of this has already
departed -- foreign funds sold a net $4 billion in Taiwan
stocks .TWII in May due to risk aversion driven by the euro
zone debt crisis. The interventionist central bank regularly
moves to stop speculation in the island's currency market.
Earlier this year it warned local and foreign banks to follow
regulations when trading foreign exchange forward contracts, a
move seen as another effort to discourage hot money.
Taiwan has also advised foreign funds against investing in
local time deposits and government bonds.
But economists say the undervalued Taiwan dollar stands to
catch up with other Asian currencies on any gains in the
Chinese yuan CNY=CFXS. The Taiwan dollar is an ideal proxy
due to the island's fast-growing trade ties with China while
the central bank would allow some appreciation to keep the
What to watch:
-- Comments by ministers and the central bank on monetary
policy, for hints of when the benchmark discount rate will be
raised. The next formal meeting is in June. [ID:nTOE60I06T]
-- Signs that capital controls could be tightened further,
if hot money resurfaces as an issue. This would push down the
Taiwan dollar. However, analysts do not expect the kind of
rigid capital controls that would cause major outflows.
-- The central bank's response to any appreciation in the
Taiwan dollar due to a firmer yuan, which some economists see
in the second half of the year.
-- A hike in reserve ratio requirements or other moves to
control mortgage lending.
* CROSS-STRAIT RELATIONS
President Ma Ying-jeou's promotion of closer economic ties
with China has boosted trade and reduced the risk of military
conflict. The government is pressing ahead with an economic
cooperation framework agreement, the precursor to a free trade
deal, ideally to be signed in June though later if island
officials do not see the deal they want
For full trade deal coverage, see [ID:nTOE64D06L]
Taiwan's stock market .TWII opened this year to qualified
Chinese investors. But the issue of ties with China remains
highly divisive in Taiwan and there is always the risk of new
controversies, especially as 2010 is a local election year with
the winning party having a strong shot at the 2012 presidential
race. In local elections last December, seen as a test of Ma's
policy of engagement with Beijing, his government lost some
ground. The most recent controversy was the Sino-U.S. row over
Washington's planned $6.4 billion arms sales package to Taiwan.
What to watch:
-- Washington is weighing Taiwan's request for F-16 fighter
jets, a sale described as a "red line" for Sino-U.S. relations.
If a sale threatens closer economic ties with China, the impact
on Taiwan asset prices will be negative, with stocks of firms
that have benefited from greater access to China hit the
-- Results of the Nov. 27 local elections covering about 60
percent of the electorate and Taiwan's major cities. If the
ruling party wins big, it signals more trade dialogue with
China. If the opposition gains, China relations could sour.
-- Passage of the economic cooperation framework agreement.
The economics ministry has not ruled out a post-June signing
delay as the two sides haggle over tariff cut details. Factions
of Taiwan's parliament and the island's anti-China main
opposition party have raised questions that could delay it.
-- China and Taiwan are scheduled to talk again at the end
of the year, possibly opening dialogue on sensitive topics such
as media access and a new wave of tariff reductions.
-- The chance of a historic meeting between Ma and Chinese
President Hu Jintao, tipped to take place in 2012 if Ma wins
re-election that year. It would signal strongly improved ties.
* GOVERNMENT EFFECTIVENESS
Ma has a strong mandate to govern, as the KMT controls
parliament and the presidency. This has bolstered government
effectiveness and helped to avoid political deadlock.
But widespread criticism of the response to Typhoon Morakot
last year dented government popularity and led to a cabinet
reshuffle. A sudden deal in October to allow U.S. beef imports
despite mad cow disease fears also backfired, prompting
Taiwan's parliament to scrap part of the agreement and
irritating Washington. Cabinet flaps that saw one minister quit
and another offer his resignation have also raised questions
about leadership ability [ID:nTOE62B01S], and in recent months
the government has been pressured to make final rulings on 40
death row inmates after a five-year capital punishment hiatus.
The high degree of polarisation between the two major
parties, the China-friendly Nationalists (KMT) and the
anti-China opposition Democratic Progressive Party (DPP), can
undermine policy continuity and increase uncertainty.
What to watch:
-- Markets are unlikely to be impacted much by any
political controversies unless they significantly weaken the
KMT's hold on power, the strength of which will become clearer
after the Nov. 27 local elections. If that happened, the risk
of policy deadlock and frostier ties with China would chill
* ECONOMIC REFORM
Taiwan puts limits on foreign portfolio investment and
restricts foreign direct investment in some sectors. As the
economy recovers, investors will start to focus again on
whether economic reform may relax some restrictions. In a sign
of growing attentive to competitiveness, the government dropped
the corporate income tax rate from 20 to 17 percent.
What to watch:
-- Any announcement from the government on economic reform
and measures to boost foreign investment. This would be broadly
positive for the stock market.
(Editing by Andrew Marshall)