NTU Finance Conference The Eurozone Sovereign Debt Crisis

NTU Finance Conference The Eurozone Sovereign Debt Crisis: Lessons for Taiwan Sheng-Cheng Hu Academia Sinica 2012. 5

Outline • Introduction • Effects on the Taiwan Economy • Implications and Responses • Concluding Remarks

Introduction • The global financial crisis: Immediate cause for the Eurozone debt crisis to take place in 2010. o Two-speed recovery as a result of concerted efforts of major countries to aggressively pursue expansionary fiscal and monetary policy. o Five largest investment banks in the US disappeared from the market. “The need to eliminate firms that are effectively ‘too large to fail’ was the top lesson from the recent financial crisis. ” -Bernanke o Many countries found their government debt soaring because of the overuse of fiscal stimulus. o Eurozone countries such as Greece, Ireland, Italy, Portugal and Spain (hereafter GIIPS) required bailout to avoid default of sovereign debt.

Introduction (cont. ) • Tri-lemma: Main contributing factor for the GIIPS sovereign debt crisis o By joining the Eurozone, GIIPS gave up the monetary policy power, and had to over-extend fiscal policy tools to respond to the global financial crisis, resulting in sharp rises in government deficits and debts. o Greece, Italy, Portugal: Overburdened by social insurance expenditures, the governments’ fiscal conditions were already shaky before the global financial crisis. o Ireland Spain: Government fiscal conditions were relatively sound. Trouble came from asset bubbles right before the global financial crisis.

Government Debt and Budget Balance 2007 　 2008 Govt Debt Surplus /Deficit Greece 105. 4 Ireland 2009 2010 Average 2009 -10 2011 Surplu s/Defic it Surplus/ Deficit Surplus/Deficit Govt Debt -6. 7 -9. 7 -15. 6 -10. 6 160. 8 -9. 2 -13. 1 24. 8 0. 1 -7. 3 -14. 2 -31. 3 105. 0 -9. 9 -22. 8 103. 1 -1. 5 -2. 7 -5. 4 -4. 5 120. 1 -3. 9 -4. 9 Portugal 68. 3 -3. 2 -3. 7 -10. 2 -9. 8 106. 8 -4. 0 -10. 0 Spain 36. 3 1. 9 -4. 2 -11. 2 -9. 3 68. 5 -10. 3 Japan 183. 0 -2. 1 -4. 1 -10. 4 -9. 4 229. 8 -10. 1 -9. 9 US 67. 2 -2. 7 -6. 7 -13. 0 -10. 5 102. 9 -9. 6 -11. 8 Taiwan 33. 3 -1. 4 -2. 2 -4. 1 40. 8 -4. 3 -4. 6 % GDP Italy -5. 2 5

Introduction (cont. ) • IMF’s estimate (GFSR 10/2012)： o The total amount of GIIPS sovereign debt was USD 4. 64 trillion as of 2011 o Government demand for funds would be USD 1. 07 trillion and USD 880. 5 billion, respectively, for 2012 and 2013. • Despite the bailout packages and the austerity programs, Eurozone debt crisis will take 3 to 5 years to recover. During the course, the crisis could turn out of control because of the “game of chicken” played by the relevant parties.

Introduction (cont. ) • The proposed “fiscal union” and ‘bank alliance”, if implemented, would turn the Eurozone into a United Economic States of Europe. However, unlike the US, it lacks a democratic mechanism to balance the diverse interests of its members. Its success will depend on the willingness of the wealthy members to share resources with their less wealthy members, but not necessarily on the participation of England.

Effects on the Taiwan Economy • • • Direct Exposure: Taiwan's direct exposure to Euro debt was minimum - around USD 1. 3 billion at the end of 2010. Significant wealth effects of changes in exchange rates and international asset prices on Taiwan’s holdings of domestic assets and international investment position. o Taiwan maintains a large annual excess saving, amounting to an average of 9. 5% of its GDP (TWD 1. 23 trillion or USD 41 billion in 2011). o As of 2011, Taiwan held an international investment position of USD 1. 18 trillion (fifth in the world). Trade effect : Sovereign debt crisis caused world economic slowdown and thereby slowdown in Taiwan’s exports and economic growth.

Effects on the Taiwan Economy (cont. ) l Worries about the Euro crisis and the US QE policy together forced capital (hot money) to flow to Asia, causing fluctuations in the currency values and foreign exchange reserves in Asian countries. l l l The value of the Taiwan dollar in terms of the USD went up by 11% from July 2010 until July 2011. Greater volatility in Taiwan’s foreign exchange reserves: Compounded by Taiwan’s lowering the inheritance tax, which induced Taishan to remit money back to Taiwan). Effects on Asset Markets: Stock and housing markets

2008 M 01 2008 M 02 2008 M 03 2008 M 04 2008 M 05 2008 M 06 2008 M 07 2008 M 08 2008 M 09 2008 M 10 2008 M 11 2008 M 12 2009 M 01 2009 M 02 2009 M 03 2009 M 04 2009 M 05 2009 M 06 2009 M 07 2009 M 08 2009 M 09 2009 M 10 2009 M 11 2009 M 12 2010 M 01 2010 M 02 2010 M 03 2010 M 04 2010 M 05 2010 M 06 2010 M 07 2010 M 08 2010 M 09 2010 M 10 2010 M 11 2010 M 12 2011 M 01 2011 M 02 2011 M 03 2011 M 04 2011 M 05 2011 M 06 2011 M 07 2011 M 08 2011 M 09 2011 M 10 2011 M 11 2011 M 12 2012 M 01 2012 M 02 2012 M 03 2012 M 04 2012 M 05 2012 M 06 2012 M 07 2012 M 08 2012 M 09 2012 M 10 Currency Value in terms of USD (2010 M 7=100) 2010/8/4 130. 000 125. 000 120. 000 115. 000 2011 M 7 110. 000 105. 000 100. 000 新台幣 95. 000 人民幣 韓元 90. 000 85. 000 80. 000

08 20 M 0 08 1 20 M 0 08 3 20 M 0 08 5 20 M 0 08 7 20 M 0 08 9 20 M 1 09 1 20 M 0 09 3 20 M 0 09 5 20 M 0 09 7 20 M 0 09 9 20 M 1 10 1 20 M 0 10 3 20 M 0 10 5 20 M 0 10 7 20 M 0 10 9 20 M 1 11 1 20 M 0 11 3 20 M 0 11 5 20 M 0 11 7 20 M 0 11 9 20 M 1 12 1 20 M 0 12 3 20 M 0 12 5 M 07 20 Exchange Rate and Change in FX Reserves: Taiwan 15, 000 -10, 000 -15, 000 115 2011 M 5 10, 000 110 5, 000 105 100 0 95 -5, 000 90 Change in FX Reserves 85 80 Value of TWD (Index)

-20000 -5000 -10000 -15000 Outflow 2 Q 12 20 4 3 Q 12 20 11 Q 5000 20 2 Q 11 20 1 4 Q Q 11 20 3 Q 10 20 2 1 Q Q 10 20 3 4 Q 10 20 09 20 2 Q 1 Q 09 Q 20 09 20 4 Q 09 20 3 Q 2 Q 08 20 1 Q 08 20 Capital Flows 10000 Inflow 0 Financial Acct Net Port Invest

2008 M 01 2008 M 02 2008 M 03 2008 M 04 2008 M 05 2008 M 06 2008 M 07 2008 M 08 2008 M 09 2008 M 10 2008 M 11 2008 M 12 2009 M 01 2009 M 02 2009 M 03 2009 M 04 2009 M 05 2009 M 06 2009 M 07 2009 M 08 2009 M 09 2009 M 10 2009 M 11 2009 M 12 2010 M 01 2010 M 02 2010 M 03 2010 M 04 2010 M 05 2010 M 06 2010 M 07 2010 M 08 2010 M 09 2010 M 10 2010 M 11 2010 M 12 2011 M 01 2011 M 02 2011 M 03 2011 M 04 2011 M 05 2011 M 06 2011 M 07 2011 M 08 2011 M 09 2011 M 10 2011 M 11 2011 M 12 2012 M 01 2012 M 02 2012 M 03 2012 M 04 2012 M 05 2012 M 06 2012 M 07 2012 M 08 2012 M 09 2012 M 10 Stock Markets 250. 00 200. 00 150. 00 2011 M 9 100. 00 Taiex 50. 00 Shanghai DJ 0. 00

120. 00 2008 M 01 2008 M 02 2008 M 03 2008 M 04 2008 M 05 2008 M 06 2008 M 07 2008 M 08 2008 M 09 2008 M 10 2008 M 11 2008 M 12 2009 M 01 2009 M 02 2009 M 03 2009 M 04 2009 M 05 2009 M 06 2009 M 07 2009 M 08 2009 M 09 2009 M 10 2009 M 11 2009 M 12 2010 M 01 2010 M 02 2010 M 03 2010 M 04 2010 M 05 2010 M 06 2010 M 07 2010 M 08 2010 M 09 2010 M 10 2010 M 11 2010 M 12 2011 M 01 2011 M 02 2011 M 03 2011 M 04 2011 M 05 2011 M 06 2011 M 07 2011 M 08 2011 M 09 2011 M 10 2011 M 11 2011 M 12 2012 M 01 2012 M 02 2012 M 03 2012 M 04 2012 M 05 2012 M 06 2012 M 07 2012 M 08 2012 M 09 2012 M 10 Exchange and Asset Markets (2010 M 7=100) 130. 00 2011 M 7 110. 00 100. 00 90. 00 Taiex TWD 80. 00 Housing Price 70. 00 60. 00 50. 00

2008 M 01 2008 M 02 2008 M 03 2008 M 04 2008 M 05 2008 M 06 2008 M 07 2008 M 08 2008 M 09 2008 M 10 2008 M 11 2008 M 12 2009 M 01 2009 M 02 2009 M 03 2009 M 04 2009 M 05 2009 M 06 2009 M 07 2009 M 08 2009 M 09 2009 M 10 2009 M 11 2009 M 12 2010 M 01 2010 M 02 2010 M 03 2010 M 04 2010 M 05 2010 M 06 2010 M 07 2010 M 08 2010 M 09 2010 M 10 2010 M 11 2010 M 12 2011 M 01 2011 M 02 2011 M 03 2011 M 04 2011 M 05 2011 M 06 2011 M 07 2011 M 08 2011 M 09 2011 M 10 2011 M 11 2011 M 12 2012 M 01 2012 M 02 2012 M 03 2012 M 04 2012 M 05 2012 M 06 2012 M 07 2012 M 08 2012 M 09 2012 M 10 Taiex, Fx, HS price and RE loan (%yoy) 100. 00 80. 00 40. 00 -20. 00 -40. 00 -60. 00 Taiex TWD 60. 00 Housing Price Ttl RE Ln 2011 M 5 20. 00

Effects on the Taiwan Economy (cont. ) l l Capital Flow Effect: Outflow of long-term porfolio Investment and inflow of short-term porfolio investment. Trade Effect: Europe is Taiwan’s fourth largest export market, accounting for 10% of its total exports. Taiwan also has substantial exports to Europe indirectly through Mainland China, as many of Chinese exports to Europe use Taiwanmade parts. (Europe is the largest trading partner of China, account for 20% of its total exports). l l The growth rate of Taiwan’s exports to Europe declined from a peak of 49% in 2010 M 5 to double digit negative growth rate in 2012. The growth rate of total exports followed a similar pattern.

2008 M 01 2008 M 02 2008 M 03 2008 M 04 2008 M 05 2008 M 06 2008 M 07 2008 M 08 2008 M 09 2008 M 10 2008 M 11 2008 M 12 2009 M 01 2009 M 02 2009 M 03 2009 M 04 2009 M 05 2009 M 06 2009 M 07 2009 M 08 2009 M 09 2009 M 10 2009 M 11 2009 M 12 2010 M 01 2010 M 02 2010 M 03 2010 M 04 2010 M 05 2010 M 06 2010 M 07 2010 M 08 2010 M 09 2010 M 10 2010 M 11 2010 M 12 2011 M 01 2011 M 02 2011 M 03 2011 M 04 2011 M 05 2011 M 06 2011 M 07 2011 M 08 2011 M 09 2011 M 10 2011 M 11 2011 M 12 2012 M 01 2012 M 02 2012 M 03 2012 M 04 2012 M 05 2012 M 06 2012 M 07 2012 M 08 2012 M 09 2012 M 10 Taiwan’s Exports to Europe 100 16. 00 80 14. 00 60 12. 00 40 10. 00 20 8. 00 0 6. 00 -20 4. 00 -40 2. 00 -60 0. 00 % of Total (Right) %yoy 年增率(%)

Effects on the Taiwan Economy (cont. ) l Decline in Taiwan‘s economic growth rate: Because of the decline in exports. l The growth rate for 2012 was forcasted to be 4. 5% originally before the start of the year, but has been revised downward nine times by the DGBAS to 1. 05% as of 11/18/2012. It will be a challenge for the economy to maintain the growth rate at 1% or higher.

Effects on the Taiwan Economy (cont. ) • Since the global financial crisis, Taiwan’s growth rate has been more volatile than its competitors: A result of Taiwan’s heavy dependence on exports and on the ICT sector. o Exports account for 75% of aggregate GDP. o The GDP of the ICT sector accounts for 53% of the manufacturing GDP. o ICT exports account for 40% of total exports.

Aggregate & Sectorial Growth Rates 35 30 25 GDP 20 Manufacturing ICT Sector 15 10 5 0 1981198219831984198519861987198819891990199119921993199419951996199719981999200020012002200320042005200620072008200920102011 -5 -10

Lessons from and Responses to the Eurozone Debt crisis • Importance of sound fiscal condition: 7 uu Financial soundness of social insurance programs must be maintained. o Excluding social insurance programs, the government debt was 40. 8%, and fiscal deficits were 3. 38%, of its GDP as of 2011. The European Stability and Growth Pact requires that the government debt be less than 60%, and government fiscal deficits be less than 3% of GDP. o Because of rapidly aging of population, social insurance programs are under financial stress. The Labor Insurance Program is expect to run out funds by 2027.

Government Debt and Deficits Govt budget deficits 10 9 8 7 6 5 4 3 2 1 0 Govt budget deficits 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Govt gross debt 65 60 Govt gross debt 55 50 45 40 35 30 25 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Population Aging Population Age Structure(%) Year Life Expectancy at Birth 0 -14 15 -64 65+ Male Female 1970 39. 7 57. 4 2. 9 66. 7 71. 6 2000 21. 1 70. 3 8. 8 73. 8 79. 6 2010 15. 8 73. 5 10. 7 76. 1 82. 7 2050 9. 2 52. 9 37. 9 82. 4 88. 5

Lessons from and Responses to the Eurozone Debt Crisis (cont. ) • Containment of asset bubbles. o The central bank has been using selective credit controls to contain housing bubble. o New measures: Require reporting of actual transaction prices in housing transactions.

Lessons from and Responses to the Eurozone Debt Crisis (cont. ) • Balance between the efficiency of capital allocation and potential instability due to rapid capital flows. o Taiwan has not imposed a tax on short-term capital flows o The central bank keeps a closed eye on some 20 FINIs which have frequently engaged in large volumes of foreign exchange transactions.

Lessons from and Responses to the Eurozone Debt Crisis (cont. ) • Balance between scale economy and systemic risk. Scale economy is important for both ICT and financial-service sector to stay competitive in global markets. Consolidation is thus required. o Maintenance of good corporate governance is important for avoiding “too large to fail”- Dodd-Frank o Discouragement of leveraging of corporate investment (Particularly ICT investment) o Internationalization of stock markets to achieve risk sharing in ICT

World Ranking of Banks Ranking 1 Bank Net worth (TW$B) J P Morgan Chase HSBC ICBC Assets (US$B) Assets (TW$B) Deposits (TW$B) Loans (TW$B) 　 　 2, 117 　 　 　 2, 468 1, 724 　 　 17 China Construction Bank 　 　 1, 408 　 　 24 Bank of China 　 　 1, 278 　 　 1, 298 　 　 2 7 25 132 160 178 181 China Agricultural Bank of Taiwan 　　　　 Taiwan Cooperative Bank　 Mega Bank　 Taiwan Land 245 3, 772 131 3, 189 2, 079 118 2, 701 94 2, 180 1, 783 158 106 2, 203 2, 185 76 80 1, 545 1, 902 1, 329 1, 701

Concluding Remarks • In a volatile world economy, the government • • • must build and enhance capacity to monitor and respond to changing macroeconomic conditions. Maintain fiscal health and avoid bubbles in asset market. Maintain balance between scale economy and control of systemic risk. Maintain long-term capital mobility while containing rapid short-term capital flows.

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