A few days ago, Taiwan Semiconductor Manufacturing Company (TSMC) chairman Morris Chang (張忠謀) pointed out that the New Taiwan dollar has appreciated by 9.9 percent since late 2007, that the South Korean won has depreciated by 17.9 percent during the same period and that there is now a 30 percent difference in manufacturing costs between the two countries.
The implication that the central bank’s exchange rate policy is not forceful enough promptly caused the bank to issue a press release to clarify matters.
Data show that apart from 2010, the value of the won drops by more than the NT dollar year after year. In 2008, the won depreciated by 19 percent based on the average annual exchange rate, while the NT dollar appreciated by 4 percent. In 2009, the won dropped by 16 percent while the NT dollar only dropped by 5 percent, and last year, the South Korean currency appreciated by 4 percent while the NT dollar appreciated by 7 percent. The exchange rate directly affects a country’s competitiveness, and during the years mentioned above, South Korean export growth has greatly surpassed Taiwan’s. Part of that was due to the exchange rate.
The exchange rate directly affects the price of exports and manufacturer profits. Taiwanese manufacturers are experts at cutting costs and they frequently engage in research aimed at improving the manufacturing process. The problem is that when they have expended great effort to cut 3 percent from the manufacturing process, all that is needed to cancel that out is a 3 percent increase in the exchange rate. For this reason Chang suggested the central bank devalue the Taiwanese currency.
However, the exchange rate is a double-edged sword. Choosing an exchange rate favorable to exports will harm imports and vice versa.
Internationally speaking, the implementation of policies to encourage imports are relatively rare. Exports are a much more effective way to increase national income, boost economic growth and reduce unemployment. One example of this is how the US has been doing its best to bring about an appreciation of the Chinese currency in order to increase its exports to and imports from China.
Looking at the current situation, the main contribution to Taiwan’s GDP growth from 1999 onward has come from exports, which have become the main driver of economic growth. This situation is a result of structural factors stemming from globalization.
During the late 1980s and the 1990s, domestic consumption was the main engine behind economic growth, but deepening globalization has made it very unlikely that this situation will be repeated. Exports are basically the only option for Taiwan.
If Taiwan is unable to choose between exports and imports, it would not be very surprising if East Asian countries regard Taiwan as a warning signal.
Economic development in Taiwan has almost come to a standstill. The government hopes to quickly show the public a tangible economic revival. One way to quickly improve the economy is to devalue the currency. Examples from many other countries show that changes in the exchange rate will have a quick impact on import and export figures.
However, economic revival based on currency devaluation will not provide tangible results for the general public since it will cause a rise in consumer prices, which is the key source of current public hardship.
That is why my suggestion is that the central bank should continue to focus on stabilizing consumer prices.
However, exchange rate policy will not only affect consumer prices, it is also one of the tools that can revive the economy. One of the missions of the US Federal Reserve is to maximize employment, which is in fact not very different from pursuing economic growth.
Although the central bank is different from the Federal Reserve, it can also devalue the currency to an appropriate degree once consumer prices have been stabilized and pursue economic growth on the premise that doing so will not affect consumer prices. International raw material prices are tending to fall, and if the sluggishness of the major economies continues, we may even see deflation. The right time for a devaluation may be nearing.
The question is if, by doing so, the central bank will be interfering with the foreign exchange market.
Central bankers always say markets must be respected, and Taiwan’s central bank is no exception. The current appreciation of the NT dollar is not the result of an export boom, but of an influx of speculative hot money. A foreign exchange market manipulated by speculative money is no longer operating according to normal market rules.
In addition, Taiwan’s economy is sluggish and the currency is appreciating rather than depreciating. This situation runs contrary to market principles and the central bank thus has legitimate reason to intervene and correct this situation.
Although using the exchange rate to increase exports is not a very elegant solution, it is a solution that will bring about the desired result, in particular since our main competitor is using this very policy.
Chao Wen-heng is an associate research fellow at the Taiwan Institute of Economic Research.
Translated by Perry Svensson