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Taiwan Politics August 2022

Taiwan: Taiwan buffeted by Chinese trade sanctions and military drills

The near-term economic impact should be limited.

Longer-term risks are significant due to the potential for further sanctions, shipping disruptions and war.

What happened: From 4 August, China launched a series of military drills close to Taiwan, in response to Nancy Pelosi—the Speaker of the U.S. House of Representatives—visiting Taiwan earlier in the month. China also sanctioned several Taiwanese officials and announced trade restrictions, including on exports of Taiwanese fresh fruit and fish, and imports of sand from China to Taiwan. In response, in mid-August the U.S. sent a fresh delegation to the island and announced it would soon begin formal trade talks with Taiwan.

The economic impact: In the immediate term, the impact should be mild: Recent export restrictions cover only a fraction of China-Taiwan trade, which is dominated by electronic goods—semiconductors in particular. Moreover, China’s sand imports to Taiwan are insignificant. However, military drills could disrupt trade flows to an extent.

The bigger danger lies in the longer term. If Taiwan continues to strengthen ties with the U.S., China would likely ratchet up economic sanctions in response, which could severely impact Taiwan’s economy given its close economic linkages to China—total goods trade between the two countries is over USD 200 billion, and China is by far Taiwan’s largest export market. Moreover, the threat of invasion could weigh on investment intentions and tourist arrivals going forward.

That said, China’s reliance on Taiwan’s semiconductors reduces the scope for trade restrictions, as China would struggle to find other semiconductor suppliers given Taiwan’s global dominance of high-end chips. Moreover, stronger trade ties with the U.S. should partially offset a gradual fraying of trade links with China.

On potential further sanctions, DBS’ Ma Tieying said:

“It remains possible for Beijing to roll out further measures, such as imposing import bans on a wider range of Taiwanese products, and increasing the investment barriers for the Taiwanese companies operating on the mainland. Meanwhile, Chinese consumers could voluntarily boycott the Taiwan branded products/companies, similar as during the China-South Korea tensions in 2016-17 and the China-Japan tensions in 2012.”

On the economic implications of tensions, analysts at Goldman Sachs commented:

“The near-term growth impact of the recent cross-strait trade restrictions should be less than 0.1% of Taiwanese GDP, provided that disruptions in cross-strait trade remain confined to selective non-tech products without extensive supply chain linkages. That said, hypothetically, broad and lasting disruptions in cross-strait trade (e.g. interruptions to transportation of goods) could be highly damaging to Taiwan’s economy with large global repercussions including in mainland China.”

Giving their take on the economic implications, the EIU said:

“Regular Chinese military activity may create the impression that Taiwan is dangerous, prompting multinationals to shift operations to lower-risk countries in the region. Sustained Chinese military exercises have the potential to disrupt commercial air and sea traffic routes, given Taiwan’s position along one of the world’s busiest shipping lanes. About half of the world’s container ships and 88% of the largest such vessels passed through the Taiwan Strait from January to July.”

What’s next: China-Taiwan tensions are expected to stay elevated at least as long as Xi Jinping and Tsai Ing-wen remain in power in China and Taiwan, respectively, given the former’s hawkish foreign policy stance and the latter’s eagerness to strengthen ties with the U.S. As a result, further military drills by China are likely ahead. Meanwhile, Taiwan’s economic relations with China are set to weaken while those with the U.S. warm. The risk of all-out war between China and Taiwan is a very real possibility for later in the decade as China’s military capacity develops, with devastating economic consequences for Taiwan.

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