OPINION: Will the US-China Trade War Really Spur Taiwan's Companies to Leave China?

Last month, Taiwan President Tsai Ing-wen (蔡英文) urged government agencies to facilitate Taiwanese business in China (Taishang) to relocate their investment in order to avoid fallout from the ongoing U.S.-China trade war.

Naturally, Tsai wishes that relocation to focus on countries that fall under the New Southbound Policy (NSP), her administration’s major foreign policy initiative that seeks to reduce Taiwan’s reliance on cross-Strait trade by deepening cultural and economic ties with 18 Southeast and South Asian countries.

Indeed, data this week from the Ministry of Economic Affairs (MoEA) suggests Taiwanese businesses are already turning their attention south, with companies in the textile, electronics and bicycle industries the most likely to relocate in the face of the brewing U.S.-China trade war.

Credit: Reuters / TPG

Since July, the U.S. has imposed a 25 percent tariff on up to US$50 billion (NT$1.54 trillion) of Chinese goods, but U.S. President Donald Trump has threatened to extend tariffs to an additional US$200 billion (NT$6.16 trillion). China has pledged to respond with a proportionate response.

This sets the stage for a massive blowback onto Taiwanese companies, which many studies suggest will be among those hardest hit by the trade spat due to their extensive operations in China.

But is the trade war really an imperative for Taishang, and should the NSP even focus on investment decisions as a means to achieve its goals?

Assessment of Taiwan’s high exposure to the trade war is often based on the fact its trade dependency on China is one of the highest in the world. In the first six months of this year, 41 percent of Taiwan’s exports went to China and Hong Kong, almost all (96 percent) of which were intermediate inputs.

Second, while investment to China is in rapid decline in recent years, in aggregate China has captured 58 percent of Taiwan’s total outbound investment since 1991, when restrictions were relaxed, according to Ministry of Economic Affairs Investment Commission data.

Both numbers are already significantly higher vis-à-vis Japan, South Korea and most Asia Pacific economies. As many Taishang use tax havens in the British Caribbean as a hub to evade Taiwan’s ex-ante approval regime for investment to China, the actual number is likely to be considerably larger.

These indicators reflect the high level of Taiwan’s economic integration with China, causing Taishang’s involvement in the trade war to appear unavoidable. Many Taishang caught in the crossfire in China have expressed their concerns, with some already adjusting their production configurations.

Yet over the years, Taishang’s participation in the Chinese economy has also evolved. In the early years, China was considered a production base for Taishang looking for a place to locate low-cost manufacturing.

While this “World Factory” incentive remains valid for many Taishang, the domestic Chinese market has become increasingly important. One indication is the dramatic increase of investment in the Chinese services sector by Taishang since 2010. For example, the sector accounted for over 40 percent of total Taiwan investment to China for both 2012 and 2013, an increase from just 10 percent in 2007.

Credit: Reuters / TPG

This new structure is only part of the new profile of Taishang in China; those in the manufacturing sector are now also part of the Chinese domestic supply network. There is a lack of reliable survey investigating the level of involvement of Taishang in the so-called ‘Red Supply Chain,’ but Taiwan Semiconductor Manufacturing Company (TSMC)’s US$3-billion investment in Nanjing is just one of the high-profile cases already in place.

In short, there are now at least three categories of Taishang in China:

A. Made-in-China but for the U.S. and other foreign markets
B. Made-in-China and for China, and
C. Service providers for Chinese consumers

Each category faces a different scenario in light of the trade war. Those that still use China as a manufacturing base for export will be hit the hardest. Fallout on Taishang that are members of the Red Supply Chain will be commensurate to the level of impact on the Chinese final products in the U.S. market.

Finally, Taishang in the Chinese services sector will be, for the time being, the least affected, as the outlook for the Chinese economy is still looking positive in the short run. They will certainly feel the pain as well if the overall Chinese economy suffers a slowdown, due to a potential prolonged trade war, which extends into different policy areas.

Given the above categorizations, it is likely that Taishang seeking to relocate investment because of the trade war will be found among category A.

Yet this group of Taishang were already leaving China before the trade war due to rapidly rising production costs. Taiwan’s investment to China peaked in 2010, when 84 percent of the total US$17.4 billion outbound investment (again, an underestimated value) traveled across the Strait.

The intensity of that investment has since declined rapidly. In 2017, China only captured 38.5 percent (US$9 billion) of Taiwan’s total outbound investment of US$24 billion. In the same time period, the allocation of investment to ASEAN almost tripled, growing from 6.3 percent of the total in 2010 to 16.7 percent in 2017.

This is not to say that the U.S.-China trade war has no bearing on the trend of Taishang migration away from China. The tariffs provide new impetus to accelerate the process.

Of note is that Taishang and other foreign investors are most likely to reduce but not necessarily completely terminate their presence in China, as the longevity and intensity of the trade war remains uncertain and China continues to be a major economic power.

Category B and C Taishang are most likely to stay in China for the foreseeable future.

The NSP certainly will facilitate category A Taishang’s migration and relocation toward ASEAN and India, in keeping with a clear investment pattern for Taiwan's NSP partners: most manufacturing investments are concentrated in the CLMV countries (i.e. Cambodia, Laos, Myanmar and Vietnam, with the latter outperforming the rest.)

As most Taishang moving out of China are category A manufacturers, this suggests Vietnam will be a key partner in the NSP arena.

Credit: AP / TPG

Caution is needed, however. Though the NSP started as a regional economic policy, its objectives and people-centered approach imply the policy has a much broader agenda than trade and investment.

This agenda is in fact what makes the NSP “new” vis-a-vis previous, not entirely successful policies. As such, trade-war related efforts under the NSP are something of a distraction and should not distort the policy’s original mission.

Second, if Taiwan wants to reduce its economic dependency on China, it is equally important to attract Taishang in categories B and C to join the migration bandwagon. For these Taishang, facilitating access to local markets in ASEAN and India is critical.

Finally, for the sake of Taiwan’s job opportunities and wage growth, it would be most beneficial if Taishang come back home. So in addition to the NSP, we might consider launching a “New Homebound Policy” (NHP) as well.

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Editor David Green (@DavidPeterGreen)

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