On Wednesday, a day before the central bank’s quarterly board meeting, Governor Perng Fai-nan (彭淮南) told members of the legislature’s Finance Committee that Taiwan had no need for quantitative easing and the bank’s monetary policy was loose enough to support economic growth. However, the next day, the bank announced it was cutting its key policy rates by 12.5 basis points.
It was the central bank’s first rate cut after keeping them — the discount rate, the rate on accommodations with collateral and the rate on accommodations without collateral — unchanged for 16 quarters. With GDP growth revised down to 1.56 percent for this year and the nation’s real interest rates the second-highest in the region, the bank said it expected its modest rate cut to bolster the economy.
Even though the rate cut was slight, the abrupt policy turnaround not only highlights how badly the export-reliant economy is being hammered by the economic slowdown, but also suggests that the nation might be entering a rate-cut cycle if the widening domestic output gap and the deterioration in external demand conditions remain unchanged in the coming months.
It was a bold move at a time when economic growth had slowed to its lowest level since the global financial crisis in 2008 and 2009. The central bank aims to prevent the economy from being thrown into a recession caused by sluggish exports and a housing market meltdown, as it believes lower rates would encourage consumers and businesses to increase spending and investments, which would help revitalize economic activity.
However, the rate cut, while boosting public confidence in the short term, will not solve problems in the ailing housing market, which are still expected to drag well into next year.
The housing market is suffering from the worst slump in more than a decade, with sales continuing to fall. It will take time for construction companies to get rid of the oversupply of unsold homes, meaning that the slump will continue to hold back the economy, and probably lead to more job cuts in construction, manufacturing and other industries.
Affordability is still an issue for would-be home buyers, as housing prices have not dropped significantly while wages have been stagnant for more than a decade. However, legitimate concern about whether prices will stop falling because of the rate cut remains.
In the short term, the rate cut can provide a psychological boost to exporters, as the central bank’s move will allow the New Taiwan dollar’s weakness to extend into next quarter — and likely beyond — to help boost the competitiveness of Taiwanese exporters.
However, there are doubts as to whether the rate cut is simply a symbolic move or whether it can deliver effective results in the long run.
Liquidity in Taiwan has been persistently abundant in the financial sector, thanks to excessive savings and insufficient investment opportunities in the domestic market. In other words, it is not the supply side, but the demand side that has been causing problems in the economy. With mild recovery in developed economies and a further downturn in China, it is natural that deteriorating external demand would continue to adversely affect domestic investment and private consumption. It has to be questioned whether domestic demand could be energized merely by managing currency competitiveness and lowering funding costs.
The government needs to adopt other policies to foster growth. Agencies other than the central bank must move quickly to fight recession by implementing expansionary fiscal policy and structural reforms. The issue is certain to gain even more attention as the nation’s economy becomes a highly debated topic ahead of the presidential election in January.
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