Menu

In a takeover fight, both Taiwan and China come out losers

High-income and high-tech Taiwan would gain nothing from being merged into China. And Beijing would not hold on to Taiwan’s dynamism if it did seize the island.

Adrian Blundell-Wignall

Economist

Aug 15, 2022 – 2.00pm

Save

Share

The legitimacy of a government requires the consent of a country’s citizens and beneficial consequences for them, as judged by reasonable persons, and tested within a democratic framework.

Chairman Mao Zedong’s dictum that “political power comes from the barrel of a gun” fails all of that. Most recently, we have seen that gun-barrel power in Hong Kong, where even the promise of a 50-year continuation of its freedoms, could not be tolerated.

Taiwan is one of the global leaders in the manufacture of chips. Bloomberg

After that move went out the door, so too did the credibility of a two-systems model for a peaceful reunification of China and Taiwan.

Beijing’s more urgent claims to Taiwan have some puzzling aspects. North and South Korea merit being thought of as a single country. But here, China supports separation. China has a long history with under-developed Mongolia, once ruled by the Ming, but they don’t threaten to take it by force today. Mongolia is neutral regarding China and Russia. It is landlocked, dependent on Chinese ports and is vertically integrated in trade (copper and coal exports to China). China has power without the need of a gun.

This is quite different from Taiwan, which is more integrated with America. China does not have any control, and dislikes that fact.

It is worth looking at the “beneficial consequences” aspect of legitimacy in economic terms. It is hard to see what the benefit to Taiwan would be if China were to annex it. Taiwan is a high-income country with a dominant position in chip manufacturing, and is nicely linked to chip design from Silicon Valley (Intel for example).

 

If China grabbed Taiwan using the force of a gun, as opposed to taking Mongolia, concern about its links with a strategic competitor would be one driving motivation. It may also perceive that beneficial consequences for itself would flow from disrupting the US-Taiwan relationship, allowing it more catch-up time in the race for technological supremacy.

After all, the Chinese economy is running into excess-investment headwinds and needs to do something.

History’s lessons

The chart shows the average return on equity (ROE) for listed companies in the US, China, Hong Kong and Taiwan.

One can see immediately that the US ROE is higher and more stable than that of communist China. Returns in all three countries took a temporary hit in the global crisis of 2008, especially tech-heavy Taiwan. But from this 2008 trough, Taiwan’s corporate returns have recovered in an upwards trend. The equity ROE sits at more than 20 percent (almost as high as the outperforming US).

By way of contrast, China’s ROE has been on a downward trend since the 2008 crisis, and its ROE sits at half that of Taiwan. Hong Kong fares much worse. The Hong Kong ROE has underperformed the mainland. Since the 2020 national security law was imposed, it took another leg down and now sits below 5 per cent.

When China joined the World Trade Organisation at the end of 2001, its total debt-to-GDP ratio was about 150 per cent. Taiwan’s was at the same level. Since 2008, China’s borrowing accelerated sharply, rising every year. By last year, its debt reached 287 per cent of GDP, eclipsing that of the far richer US at 282 per cent. Taiwan managed to hold its total debt to about 160 per cent of GDP.

Power and corruption

China has been buying economic growth through rising indebtedness. Overinvestment is the classic way countries go when organic growth resulting from innovation and productivity is not happening.

This is especially so where state-owned enterprises (SOEs), and the corruption associated with them, play a large role in the economy. Mainland SOE’s borrowing to achieve the non-economic objectives of the Chinese Communist Party (CCP) – such as construction for rapid urbanisation, the Belt and Road Initiative, building up the military, ensuring food and energy security – drives down China’s ROE.

This is a particular burden for Hong Kong where many mainland SOE companies are listed, and where much of their borrowing and international transactions are handled.

Hong Kong has a narrow industrial base with some concentration in the worst-affected sectors: banks (with rising credit risk), insurance, and (over-invested) property development and management. Then of course there is Tencent, which the government has targeted for punishment because the ecosystem it created (payments, shopping, borrowing, investments, games, insurance) risks becoming an economy-within-an-economy that is harder for the government to control.

The military, the source of power from the barrel of a gun, is an integral part of the falling ROE problem. It is evident that the size of the People’s Liberation Army, and particularly the number of ships it has, outnumber those of the US. When relatively poor countries divert resources to the SOE military sector in this way, debt rises and efficiency gains are limited.

China has been buying economic growth through rising indebtedness.

China is looking to become a high-value added, technologically advanced economy. It may believe that annexing Taiwan may help.

After all, according to TrendForce data, Taiwan Semiconductor Manufacturing Company is responsible for 55 per cent of global chip manufacturing, and all Taiwan companies for some 65 per cent. These outgun Samsung and Korea at 17 per cent and 18 per cent respectively. China sits at a low 5 per cent share and does not have the advantage of advanced design in working with the US.

CCP bureaucrats may think taking Taiwan would be a good catch-up strategy by disrupting the US design and manufacturing model. This belief, of course, is misplaced. Were Taiwan to be taken, two things would happen.

First, the design dynamism from Silicon Valley would cease – and, as a colleague reminded me recently, it’s always about the next chip (under Moore’s Law), not the last one. This would leave China with little technological value from Taiwan.

A member of China’s PLA takes part in military exercises around Taiwan.

RELATED

The stuff of economic nightmares is playing out over Taiwan

“Everything Xi Jinping is doing today is eroding trust among Chinese and foreign entrepreneurs about what the rules of business are now inside China.”

RELATED

The fatal chip on Xi Jinping’s shoulder

Second, US and Korean manufacturing would take up the Taiwan gap in the market.

Even if China could take Taiwan using the barrel of a gun, it would not be a smart move economically to do so.