1

MIR ACLES DO HAPPEN:

TAIWANS ECONOMIC DE VELOPMENT

Edited by Dean Karalekas and Csaba Moldicz

B U DA P E S T B US I N E S S S C H O O L
UNIVERSIT Y OF APPLIED SCIENCES
2016
Miracles Do Happen: Taiwans Economic Development
Edited by Dean Karalekas and Csaba Moldicz
 MIR ACLES DO HAPPEN:
TAIWANS ECONOMIC DE VELOPMENT

Edited by Dean Karalekas and Csaba Moldicz

B U DA P E S T B USINE S S S C H O O L
U NI V E R SI T Y O F A P P L IE D S C IE N C E S
2016
MIRACLES DO HAPPEN: TAIWANS ECONOMIC DEVELOPMENT

ISBN: 978-615-5607-24-0

Budapest Business School

Authors
Chiang Ching-kuo Foundation

Editors: Dean Karalekas, Csaba Moldicz

Cover design and graphic: Jzsef Pintr

All rights reserved. No part of this publication may be reproduced

or used in any form or by any means without written consent from the publisher.

Printed in Hungary
Contents

Content 5

About the Authors 9

Preface 11

Csaba Moldicz
Ten Arguments for a Deeper EU-ROC Economic Cooperation 15
1. Background 15
2. Arguments for Taiwan and not against China 16
2.1. Counterproductive Overemphasis of the One-China policy 16
2.2. Support Democracy Argument 17
2.3. Common Cultural Values and Attitudes 19
2.4. Growing Market for the EU 20
2.5. Open Economy 21
2.6. Emergence of New Regional Trade Agreements 21
2.7. Diversification of Economic Relations 23
2.8. Misleading Data Fallacious Conclusions 24
2.9. No Security Concerns in EU-Taiwan Relations 26
2.10. Technology 26
3. Concluding Remarks 28
Bibliography 30

Cody Wai-kwok Yau & Boyu Chen

Taiwans China Policy under Rising Taiwanese Identity:
Retrospective and Prospects 33
1. Taiwans Political Landscape: A Brief Introduction 33
2. Rising Taiwanese Identity 35
3. The Pro-China Policy of the KMT 39
4. Sunflower Student Movement, the Emerging Digital Democracy
and its Influence 42
 5. Taiwan after 2016: Forging a New China and Foreign Policy 49
Bibliography 52

Csaba Moldicz
The Making of a Country The Taiwanese experience 57
1. Costs and Benefits of a Small Economy and a Small Democracy 58
2. Political Institutions of Taiwan in Light of Theories 65
3. Implications for Taiwan 67
5. Democratization and Openness: Key Elements of Success 71
Bibliography 73

Dean Karalekas
Miracles Do Happen: Post-War Economic Development in Taiwan 77
1. Import Substitution 79
2. Export-Oriented Strategy 82
3. High-tech Development 85
4. Technology Transfer to China 87
Bibliography 91

Gbor Ambrus Szentesi

Taiwan-China: A New Era on the Rise 97
1. The Cold War Era 97
1.1. European and Asian Alliances 97
1.2. The PRC-TW-US Triangle 99
2. A New Era 103
2.1. Rearranging Relations 104
2.2. Rearranging East Asia 105
2.3. Great Power Strategies 107
2.4. Taiwan Strait: Thermometer of the Globe 109
2.5. Economic Relations 112
2.6. Democracy and Identity 114
3. Conclusion 116
Bibliography 118

Gyrgy Cski
Developmental State, Globalization, Crisis:
Taiwans Macroeconomic Adjustment 123
1. The Taiwan Developmental StateBirth and Early Characteristics 126
1.1. Some Historical Preconditions 126
 1.2. The Birth of Developmental State in Taiwan:
Creating Virtue out of Necessity 127
1.3. The Transformation into Export-led Development 132
1.4. The Second-stage Export-led Growth since the Very Late 1970s 135
2. The Taiwan Developmental State: an Adaptive Pragmatism 140
Bibliography 143

Csaba Moldicz
Historical Components of Taiwans Competitiveness 147
1. The Taiwan Model 149
2. Characteristics of Economic Institutions 153
2.1. The Industrial Backgrounda Short History and its Consequences 153
2.2. Openness 162
2.3. Savings and Investments 170
2.4. Banks and stock markets 173
3. Conclusions 175
Bibliography 178

Pl Majoros & Tams Novk

A History of Relationships between Taiwan and the European Union 183
1. History and Political Background 184
2. Taiwans Economy 187
3. Taiwan and the WTO 190
4. Relationships between the European Union and Taiwan 190
4.1. Political Relationships 190
4.2. Economic and Commercial Relationships 193
4.3. Foreign Direct Investments 197
5. Concluding Remarks 198
Bibliography 201
About the Authors

Boyu, Chen, Ph.D., Lecturer, Faculty of International Studies and Regional

Development, University of Niigata Prefecture, Japan

Cski, Gyrgy CSc, Professor, Head of Department, Szent Istvn University, Faculty of
Economics, Department of International Economics

Karalekas, Dean Ph. D. in International Doctoral Program in Asia Pacific Studies,

National Chengchi University, Taipei

Majoros, Pl Csc, Budapest Business School, University of Applied Sciences, Faculty

of International Management and Business

Moldicz, Csaba Ph.D., Associate Professor, Budapest Business School, University of

Applied Sciences, Faculty of International Management and Business

Novk, Tams Ph. D., Head of Department, Budapest Business School, University of
Applied Sciences, Faculty of International Management and Business

Szentesi, Ambrus Gbor, Ph.D. candidate, University of Pannonia, Faculty of Business

and Economics

Yau, Cody Wai-kwok, Ph.D. candidate, Institute of Political Science, Faculty of Social
Science, National Sun yet-sen University, Taiwan
Preface

Most of the literature about the Republic of China (ROC) on Taiwan focuses on the
ROCs special political status which originates from its lack of widespread diplomatic
recognition and the loss of its United Nations seat in 1971. In contrast to this approach,
the main goal in this book is to investigate the special features of the islands econom-
ic development and assess the ROCs economic importance to the European region.
When analyzing the history and the economic development of the Republic of China,
the usefulness of an approach that utilizes the tools of both international economics
and politics becomes self-evident. The authors of this book also attempted to take
advantage of this approach while seeking answers to a host of economic questions
related to the ROC.

The uniqueness of Taiwans economic growth derives from its stability and peace.
From the 1950s on, scores of economists devoted their careers to finding a clear-cut
formula for how to achieve economic breakthrough, transforming a poor, developing
country into a modern society with a well-performing economy. Economic planners
in Taipei seem to have found this recipe, and as a result its economy quickly became
one of the best performing in the world, thus it might not be surprising that more
chapters in this volume analyze the special characteristics of the Taiwanese develop-
mental state, focusing on historical components of the economic miracle of Taiwan.1
(Karalekas; Cski.)

It is clear that the Taiwan story is not only of theoretical significance, but it entails
important economic policy lessons for Central European countries as well. The dom-
inance of the small and medium-sized enterprises, reliance on domestic savings,
concentration of development efforts on a few strategically important sectors, the
decisive role of the state in economic planning, the salience of domestic ownership
all are elements that could contribute to economic success in the Central European
countries, too.

1 Dean Karalekas: Miracles Do Happen: Post-War Economic Development in Taiwan. Gyrgy Cski:
Developmental State, Globalization, Crisis Taiwan Macroeconomic Adjustment.
12

At the same time, the narrative of the developmental state usually underlines the
long-term importance of economic institutions in the respective economy. The region-
al economic competitors of the ROC, namely Japan and South Korea, are considered
to have developmental state characteristics as well, however there are clear differ-
ences among these countries. This is the reason why finding regional distinctions,
while looking at the contemporary elements of the developmental state paradigm in
Taiwan, is of paramount significance. (Moldicz)2 Based on this study, it is clear that the
pattern of Taiwans economic growth not only possesses the typical elements of this
paradigm, but it also has peculiar qualities.

To assess the state of EU-ROC economic relations, an investigation into the historical
development of the relationships between the European Union and Taiwan is carried
out in the book, while the analysis aims to forecast and advise European deci-
sion-makers how to develop economic relations with the ROC as well. (Majoros-
Novk)3

Another paper focuses more on policy advising, collecting arguments which support
deepening economic relations with the ROC. (Moldicz)4 The central policy recommen-
dation, to form a comprehensive economic agreement between the European Union
and Taiwan, is based on special characteristics of the Taiwanese economy, lack of
data, and/or misleading figures which often prompts politicians and policy-makers to
easily jump to conclusions about the relevance of the Taiwanese economy to Europe.

Although the focus of the book lies in economics, Taiwans rapid economic develop-
ment cannot be interpreted by relying only on the analytical tools of this field. Special
attention is paid to relations across the Taiwan Strait, since political relations between
the ROC and the Peoples Republic of China (PRC) are clearly connected to economic
ties between them. In one of the two papers, dealing rather with political aspects and
focusing on the historical changes in cross-strait relations, the author extends his
scope of investigation by including the United States in the analysis. (Szentesi)5 In the
second paper, emphasis is put on the importance of the Taiwanese identity, and con-
temporary episodes of Taiwans domestic politics (i.e. the Sunflower Movement) (Yau-
Boyu).6

2 Csaba Moldicz: Historical Components of Taiwans Competitiveness.

3 Pl Majoros Tams Novk: History of Relationships between Taiwan and the European Union.
4 Csaba Moldicz: Ten Arguments for a Deeper EU-ROC Economic Cooperation
5 Gbor Ambrus Szentesi: Taiwan-China: a New Era on the Rise.
6 Cody Wai-kwok Yau- Boyu Chen: Taiwans China Policy under rRsing Taiwanese Identity: Retrospec-
tive and Prospects.
 13

The final paper deals with a very broad, though important, question of the political
sciences, which can be put this way: what are the costs of running a country, a sepa-
rate economy, and where are the trade-offs between the size of the country (econom-
ics of scale) and the different levels of heterogeneity/homogeneity of the country?
(Moldicz)7 These questions seem to be theoretical ones; however, the answers are
decisive in the long-term.

The book outlined above contains eight papers by eight authors, and is the achieve-
ment of almost two years research of a truly multinational research group. The
research group was set up at the Budapest Business School (BBS, University of
Applied Sciences) with the aim of analyzing economic relations between the ROC and
the European Union. This initiative was based on an earlier proposal which was
endorsed and fully supported by the management of the Budapest Business School.
Owing to this commitment, the research group successfully applied for funding by the
BBS under the framework of the Excellence Support Scheme (financed by the
Hungarian state) and the Chiang Ching-kuo Foundation for International Scholarly
Exchange, which is based in the ROC.

We are very thankful for the assistance provided by the Chiang Ching-kuo Foundation,
the Taiwan Representative Office (Budapest, Hungary), and last but not least the
Budapest Business School.

The editors of the book:

Dean Karalekas
Csaba Moldicz

7 Csaba Moldicz: The Making of a Country Taiwans Case.

Ten Arguments for a Deeper EU-ROC Economic Cooperation1

Csaba Moldicz

1. Background

The Holy Grail that all economists seek is the discovery of a general and relatively
simple recipe for long-term economic growth. Development economics, originating in
the 1950s, offered various explanations or models of how to achieve robust econom-
ic growth, in order to assist developing nations, catch up with the most developed
economies. After WWII, there were only a few countries in the world economy that
were able to make the breakthrough. Japan was the first Asian country, which could
reach high growth and maintain it for several decades. South Korea, the Republic of
China (ROC) on Taiwan, Singapore, and Hong Kong were all also to become successful
later, reaching high income per capita.2 Taiwans economic performance after WWII
seems to indicate that the country has been able to work out a very successful mix-
ture of economic policies, thus the country has reached very high average income
levels. In the last 36 years, the average annual gross domestic product (GDP) growth
in Taiwan was 5.5 percent. In 2015, GDP per capita of the country in terms of purchas-
ing power parity (PPP) overtook the Japanese, the British, the French, and the Italian
GDP per capita levels; moreover, it almost reached that of Germany.3

Only the astounding economic development of the country could justify that special
attention be paid to Taiwans economic development but this paper also contends
there are other specialties of this economy which make it relevant to the countries of
Europe. The purpose of this paper is to survey the arguments related to Taiwans
economic importance to the European Union. The assessment is partly carried out on

1 The author would like to thank the Chiang Ching-Kuo Foundation for providing a research grant for
this paper.
2 The members of this group are often called the four tigers or the four dragons. Although the term
is frequently used among economists, it is highly questionable from an international political economy
view, that Hong Kong and Singapore being less than a country, more than a city can be compared to
South Korea and Taiwan.
3 Based on IMF database.
16

the basis of existing literature, and partly relying on the basic economic indicators of
the country.

2. Arguments for Taiwan and not against China

2.1. Counterproductive Overemphasis of the One-China policy

Chinese policy-makers usually stress the importance of the One-China principle,

which is a clear barrier for EU countries to establish diplomatic ties with Taiwan,
however, the European acceptance of the One-China policy does not necessarily mean
that it would be impossible to sign a free trade agreement (FTA) between Taiwan and
the European Union. For the time being, there are two countriesSingapore and New
Zealandwhich on the one hand have been adhering to a One-China policy, while on
the other hand have signed a comprehensive trade agreement with Taiwan, both in
2013. In order to preemptively soothe the expected angry response from Beijing, in
the agreements Taiwan was called the Separate Customs Territory of Taiwan,
Penghu, Kinmen and Matsu. 4 Despite this flaw, the two cases set a precedent and
demonstrate the possibility of establishing a trade deal between Taiwan and the
European Union.

Dreyer et al. also argue that the European Unions caution not to hurt Chinas sensi-
tiveness about this issue is overemphasized. According to Dreyer at al., the Economic
Cooperation Framework Agreement (ECFA) between the Peoples Republic of China
(PRC) and the ROC has provided a window of opportunity to negotiate and sign a com-
prehensive economic agreement. (Dreyer et al. 2010, p. 56. p. 59)5

So far this window of opportunity has not been used by the European Union, and it is
likely that it may have been already closed. The reason for this is a clear disagree-
ment among the European institutions on how to deal with Taiwan. In sharp contrast
to other European institutions, the European Parliament (EP) seems to be Taiwans
strongest ally in the EU. The EP issued resolutions on trade with Taiwan several
times; the first one in 1985 (Tubilewicz, 2007, p. 428.), the last one in 2016 (Yeh, 2016).
In the resolution of 2013, the EP made the case for starting talks on various

4 ASTEP: Agreement between Singapore and the Separate Customs Territory of Taiwan, Penghu, Kin-
men and Matsu on Economic Partnership, or. ANZTEC: Agreement between New Zealand and the
Separate Customs Territory of Taiwan, Penghu, Kinmen, and Matsu on Economic Cooperation;
5 The agreement was signed in 2011 and it ushered in a new era of political and economic relations
between Taiwan and China.
 17

agreements, related to trade and investments. In the document, the following argu-
ments were put forward (European Parliament, 2013):

while upgrading economic relations with China, the EU should consider the possibil-
ity of doing the same with Taiwan (Ibid.)

the purpose of these talks is to support Taiwans democratic system which is based
on social pluralism, respecting human rights and the rule of law;

the agreements would boost European SMEs and could improve investment activ-
ities of this firm segment.

As can be seen, the European Parliament not only underlines the economic signifi-
cance of investment and trade deals with Taiwan, but it also emphasizes the signifi-
cance of supporting democracies in general, and in particular in the Asia-Pacific
region.

2.2. Support Democracy Argument

In most cases, the goals of foreign policy and foreign trade policy are determined by
the same players, but this does not apply to the European Union. This is one of the
reasons why EU interests, formulated by the two policies, can often vary, or even
seem to contradict each other.

In the foreign policy of the European Union (CFSP: Common Foreign and Security
Policy; CSDP: Common Security and Defense Policy) the main actor is the European
Council, where the interests of the large countries (Germany, France, the United
Kingdom6) have been impeding the launch of the negotiations so far. However, the
European Commission, which had played a submissive role in shaping EUs Taiwan
policy, adapted a new trade strategy in 2015: The strategy outlines how the
Commission will conclude ongoing investment negotiations with China and explore
launching negotiations on investment with Hong Kong and with Taiwan. (European
Commission, 2015, p. 32.) Understandably, the documents approach is based on the
economic interests of the EU, however, it is worth looking at broader political argu-
ments as well.

6 The Brexit and the outcome of the Brexit negations are going to change the equilibrium in the Coun-
cil and create a new situation.
18

There are no political debates of deep significance between Taiwan and the
EU-countries. Only one point where partners clearly disagree is the death penalty,
which is still part of the legal framework of Taiwan. In 2015, six executions took
place in Taiwan. Federica Mogherini, the High Representative for Foreign Affairs
and Security Policy, called on Taiwan to impose a moratorium on executions.
Although human rights in Taiwan are widely respected, death sentences are still
carried out. A distressing aspect is that there have been 32 executions in Taiwan
since 2010, but only 20 in Japan during the same period, for a population more than
5 times more numerous.7 At the same time, the rate of executions for 10 million
inhabitants is significantly higher than in the United States. (US: 2.4; Taiwan: 6.5 in
2011) In a response to EU calls to abolish the death penalty, the ROC Deputy Minister
of Justice maintained the ministrys ultimate goal is abolishment, but he argued
current public surveys indicate that 82 percent of the people are against abolition
of the death penalty. (Pan, 2016) This statement clearly demonstrates that main-
taining death penalty is rather a question of domestic politics than that of funda-
mental difference of opinion.

International cooperation and hence foreign policy are often based on commonly
shared values of the parties (e. g. democracy, free market economy), but they very
often focus on short-term economic benefits. In the case of Taiwan, European coun-
tries could rely on both long-term and short-term economic benefits, whilst com-
mon shared values are the guarantee of a stable partnership. Sudden changes of
politics are more likely in more authoritarian regimes. In recent years, the impor-
tance of this has been clearly proven by the case of Russia, Turkey, etc.

The support democracy argument is not about moral values, but long-term strategic
benefits the EU generally can derive from a stable partnership, where there are no
controversial issues on the table. In this case, the list of open questions is very short.

7 European Economic and Trade Office. http://eeas.europa.eu/delegations/taiwan/eu_taiwan/hu-

man_rights/abolition_death_penalty/index_en.htm
 19

2.3. Common Cultural Values and Attitudes

Table 1
GDP per capita (2015)

GDP per capita, current prices (USD)

France 37 675

Germany 40 996

Italy 29 866

Taiwan 22 287

GDP in PPP per capita (USD)

France 41 180

Germany 46 893

Italy 35 708

Taiwan 46 783

Source: own compilation based on IMF data

Ethnic and cultural diversity is one of the most striking elements of Taiwan society,
which might explain why Europeans and Americans are able to adjust to the Taiwan
lifestyle more easily than virtually anywhere else in Asia. The effect of Western and
Japanese influences is apparent in the economy, which is the reason why European
firms entering the Asian market invest in Taiwan first and only later they spread their
activities to other countries, mostly China. However, it is worth emphasizing that there
are not only cultural values that matter, but also how politics and the economy are
connected in these countries.
Where do these similar features derive from? In explaining the successes of the West,
a number of researchers stress the importance of institutionsin the broader sense
of the word. They argue that the way institutions within society are organized is deci-
sive in the outcome, in the productivity of the economy and the well-being of citizens.
(Acemoglu Robertson 2012) This is a very old argument; Lipset (1959) was the first
social scientist who connected economic success to democratic pluralism, thus pro-
voking debatea debate which has yet to subside. A modern version of this argument
is to be found in Ferguson, who summarizes all these important elements of success
under six headings: competition, science, property rights, medicine, the consumer
society, and the work ethic. (Ferguson 2011, p. 12) These killer apps not only charac-
terize Western European countries, but Taiwan as well.
20

2.4. Growing Market for the EU 8

Taiwan has an advanced economy in which sophisticated consumers generate abun-

dant business opportunities for foreign firms as well. Purchasing power of these con-
sumers has been growing in recent decades. In terms of GDP per capita (PPP), Taiwan
overtook France, and Italy, and caught up with Germany after 2007. At the same time,
distinctive patterns of GDP per capita growth in current prices demonstrate that dif-
ferent price levels and a very cautious but determined devaluation of the domestic
currency must play a key role in this impressive picture. Devaluation policy and com-
petition with other Asian countries can limit the business opportunities open to
European firms. But by and large, as a result of greater resilience to the devastating
effects of the Global Financial Crisis, the Taiwan economy is in good shape, and it
could avoid a long economic crisis, which emerged in the EU after 2010. If one com-
pares average GDP growth between the two regions, Taiwan has clearly outper-
formed the large European countries.

Between 2000 and 2015, Taiwans annual average growth was lower than it was in the
1980s and 1990s,9 however, it exceeded the economic performance of the large
European economies.10 The United Kingdom, where GDP growth was the fastest
among the large EU economies11 during this period, could only reach an annual aver-
age of 1.90 percent, which is less than half of that of Taiwan (3.84 percent). This resil-
ience to economic shocks has been attributable to growing and deepening trade rela-
tions with China, however, the same close relationship has caused a slowdown of the
Taiwan economy in 2015 (0.74 percent).
To sum it up, despite short-term fluctuations of the economy, Taiwan is a mature
market, since as a result of the catching-up process of the past several decades,

8 Besides this argument, it is important to underline that EU member countries and Taiwan share
similar economic structures and both face the challenge of an aging population. Both Taiwan and the
more developed part of the EU operate knowledge-based economies. Recent technological innovations
pose new challenges to these countries.
9 The core economies of the EU (Germany, France, the United Kingdom and Italy) and Taiwan experi-
enced a Golden Age of economic development in the second part of the 20th century. As a result of this,
the economies of these regions were able to grow at a breakneck pace over several decades. Taiwan
is one of the few countries which avoided the middle-income trap and it could increase its GDP by an
annual average growth rate of 8.3 percent over nearly a half century. West Germany, the engine of the
European economy grew by 5.3 percent between 1948 and 1973. But during the 1970s, and the 1980s,
Western European and Taiwans growth became much more moderate; however, this slowdown was
sharper in Europe than in Taiwan. (Brown Hempson Jones-Pennisi, 2010 p. 3)
10 Germany, United Kingdom, France and Italy
11 The average GDP growth between 2000 and 2015 was 1.26 percent in Germany, 1.27 percent in
France and 0.22 percent in Italy.
 21

Taiwan has today reached the average development level of the core European econ-
omies, and it has clearly overtaken some of the European countries. Growing pur-
chasing power and the openness of the economy make Taiwan an important partner
for European countries.

2.5. Open Economy

Table 2
Openness of the economy

Merchandise exports in share of GDP Exports in services in share of GDP

2013 2013
Taiwan 62 11
France 21 9
Germany 40 8
Italy 25 5
United Kingdom 21 12

Source: own compilation based on WTO, IMF databases

Taiwan is one of the most open advanced economies of East Asia. The countrys
dependence on external trade is remarkable. As table 2 indicates, economic growth
is based much more on the export of goods and services than any other large econo-
my in Europe.12 The same openness can be observed in average custom tariffs and
other indicators of trade openness. With regard to foreign direct investment (FDI),
Taipei only implements a few restrictions, most of which are maintained in order to
impede hostile takeovers by Chinese firms in strategically important areas, which
would be a security concern for the country.

2.6. Emergence of New Regional Trade Agreements

Since World Trade Organization (WTO) regulations are no longer sufficient to deepen
trade between Taiwan and the European Union, the standstill of the Doha-Round has
forced countries to find new alternatives around the world and in the region. As a
result, more and more regional economic integration initiatives have already found

12 Only Central European countries Hungary, Estonia, Czech Republic, and Slovakia and smaller
Western European countries the Netherlands and Belgium have more open economies in the EU.
22

support in the regions capitals, and many of these initiatives are presently being
negotiated. In 2000, there were only 3 bilateral and multilateral economic agreements
in force in the Asia Pacific region, but that number has increased to 119 in 2014.
(Xianbai, 2014) Some of the initiatives have been creating mega trade agreements,
such as the Transatlantic Trade and Investment Partnership (TTIP), the Regional
Comprehensive Economic Partnership (RCEP) and the Trans-Pacific Partnership
(TPP). The TTIP and TPP are both initiatives of the United States. Initially, the TPP
started out as a free trade agreement between Brunei, Chile, New Zealand, and
Singapore in 2005, but its widening into a 12-country agreement13 encompasses an
area which produces 40 percent of the worlds GDP. The final version of the TPP pro-
posal was signed in 2016. All of these initiatives aim to go further than WTO rules,
because they not only cover trade issues (tariffs), but also deeper issues of trade
integration (investment, property rights, environmental regulations, etc.).

This new kind of trade integration has led to the growing economic isolation of
Taiwan. For example, the EU signed a comprehensive economic agreement with
South Korea, and the agreement entered into force in 2011. The EU started negotia-
tions with Japan in 2013 which probably will be finished this year. Both countries are
strong competitors of Taiwan, while Taiwan is confined to WTO regulations in its trade
relations.

Wilson describes this isolation and its ramifications as follows: Isolated economical-
ly, Taiwan will be increasingly harmed by the FTAs trade-diversion effect. Its exports
will lose out in FTA markets, due to increased competition from imports from other
FTA partners. The successful completion by Koreaa competitor with Taiwan across
a wide range of productsof FTAs with the European Union and United States pro-
vides a useful example of some of the costs to Taiwan of not participating in these
Asian FTAs. (In total, Korea has managed to sign eight FTAs covering forty-six coun-
tries.) (Wilson, 2014)14 .

Taiwan would definitely benefit from taking part in one of these economic areas. Leaf
states that One lever is the Trans-Pacific Partnership (TPP)a free trade agreement
that is being negotiated amongst twelve Pacific Rim countries, including the United
States, Japan, Vietnam, and Australia. It aims to promote economic growth through
investment, trade, and job creation. Indeed, the twelve countries currently negotiating

13 Australia, Brunei Darussalam, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singa-
pore, United States and Vietnam.
14 The classic book of Jacob Viner (The Customs Union Issue, 1950) clearly showed that economic
integrations can have diverse effects on countries not participating in regional trade agreements.
 23

the TPP account for approximately 40 percent of global output and over one-third of
world trade. And given that exports make up 70 percent of Taiwans economy,
increased trade with TPP countries would reduce Taiwans reliance on the Chinese
market (Leaf, 2014).

Taiwans new leadership seems to be determined to bring the country into the Trans-
Pacific Partnership. Although that will be an uphill battle, with not only the One-China
principle but also domestic concerns about the TPP hampering the deal so far, it is
not impossible for a deal to be reached with the twelve other countries. And in this
very likely scenario, the European Union has missed a chance to be the first large
economic power to sign a comprehensive trade and investment deal with Taiwan.

2.7. Diversification of Economic Relations

The recipe, i.e. the diversification of economic relations, sounds like a reasonable
policy, but it is difficult to follow the recommendation when, on the one hand, one of
the partners (China) has been rising economically, and the cooperation has delivered
overwhelming benefits, and on the other hand, diversification efforts have been
thwarted for political reasons. Taiwan clearly needs more diversification of its trade
and investment relations than do European countries, however European hopes of
growing Chinese demand for European goods, services, and investments have appar-
ently been exaggerated by politicians.

Taiwans dependency on China, along with changing economic circumstances in China,

is one of the reasons why the Taiwan model is under strain. In the last 25 years, China
has become an important investment location and trading partner for both Taiwan
and the European Union; the extent of trade and investment relations has widened
significantly over these years. Trade between Taiwan and China has been growing at
an astonishing annual growth rate of over 18 percent since 2000. In 2015, China was
Taiwans largest trading partner, accounting for some 25 percent of Taiwans exports
(Hong Kong accounted for 13.6 percent in 2015). Consequently, economic cooperation
has begun shifting into an increasing dependency on Chinas economy in the case of
Taiwan. In the cross-strait relationship, the biggest push came from ECFA, signed in
2010. It not only has had an enormous effect on the improvement of trade relations,
but it has also emitted a signal about the political stability of the region.

Dependency on China poses both short- and long-term threats to Taiwans economic
model:
24

1. The short term economic risks of deepening economic integration with China can
stem from the hard landing of the Chinese economy as expected by many analysts.
Whether this crisis will take place in the near future or not at all is difficult to fore-
cast with precision. There are diverging prospects for Chinas economy, for exam-
ple, Elliott is sceptic about hard-landing, arguing [] anyone who has seriously
studied China realizes that the leadership of the Communist Party and of the gov-
ernment is very smart and has analyzed the issues carefully. The path to power and
wealth in China generally runs through the State and consequently most of the best
minds compete hard for these positions. (Elliott, 2014) In contrast to this optimism,
the latest Chinese economic data have indicated a definite slowdown of the econo-
my; industrial production, fixed investment has been hit by the processes of the last
months. Recent data on the property market and lending have confirmed the dete-
rioration of economic conditions.

2. China has been growing into a middle-income country. The so-called middle-in-
come country trap poses long term threats to the Chinese economy unless the
capacity of the Chinese political elite to continue political and economic reforms
improves. An aging population, eroding competitiveness due to increasing labor
wages, growing social tensions, weak rule of law, political tensions caused by surg-
ing inequality within society, etc. present threats to the Chinese economy in the long
term.

Against the backdrop of a changing Chinese economic model, it is easy to conclude

that there is a need to adjust industrial and trade policies in Taiwan to new realities.
A hard landing of the Chinese economy could have devastating effects on the world
economy, but such an eventuality would have far more dire consequences for the
Taiwan economy.

2.8. Misleading Data Fallacious Conclusions

Since 2004, the EU share of Taiwans trade has been decliningalong with the
American share.15 This can be explained by the growing importance of China, which
compensates Taiwan firms, and consequently China as an export destination grows
more and more important. During 2004-2012, Chinas share increased from 19.93

15 According to data for the Taiwanese Statistical Bureau, Europes share in Taiwans trade was 13.06
percent in 2004, and it fell below 10 percent by 2012. The same trend is observed in the US and Tai-
wanese trade relations. The extent of the change is almost the same, however, initially the US share
was higher in 2004 (15.77 percent), hence it could remain higher in 2012 (10.95 percent).
 25

percent to 26.80 percent. (Adding exports to ASEAN countries, this share is about 55
percent) (Da-Nien Hui-Tzu 2013).

Why are these data misleading? In a connected world economy, altering patterns of
trade are more indicative of trend flows than raw data, since intermediate products
exported from Taiwan to China are goods that are to be exported as final products
from China to Europe or the United States. Statistics dont capture where most of the
added value is created. This process is described by Da-Nien and Hui-Tzu: The United
States and the EU have maintained their status as the most important markets for
Taiwans final consumption goods, but Taiwans exports of intermediates and capital
goods to these countries have become less significant, and there has been a weaken-
ing in direct trade links between Taiwan and the EU and between Taiwan and the
United States. The decline in the export of intermediate goods to Europe and the
United States, but the prevalence of a constant level of final goods to these countries,
underline that fact that indirect trade links between Taiwan and the European Union,
and between Taiwan and the United States, have remained strong.

Morrison refers to a growing consensus among analysts on this question, stating that
this trend not only characterizes Taiwans economy: Many analysts contend that the
sharp increase in US imports from China (and hence the growing bilateral trade
imbalance) is largely the result of movement in production facilities from other (pri-
marily Asian) countries to China. That is, various products that used to be made in
such places as Japan, Taiwan, Hong Kong, etc., and then exported to the United
States, are now being made in China (in many cases, by foreign firms in China).
(Morrison, 2014, p. 9) Another important source of relevant information is the report
commissioned by the US International Trade Commission, which rather provocatively
states that Taiwan produces over 90 percent of its information and communication
technology (ICT) hardware in China (Koopman Wang Wei, 2008, p. 21).

As we can see, international tradeespecially the way in which it is carried outhas

changed significantly, thereby limiting our ability to properly assess the importance
of Taiwans economy to the European Union. From a European point of view, Taiwan
doesnt seem to be an especially important trade partner, in particular when com-
pared to China. In 2015, Taiwan was the 18th most important trade partner of the EU,
while China was second in terms of both exports and imports. However, as has been
demonstrated, it is dubious to rely on raw data in this context. Similarly, a significant
share of Chinese investments in Europe and the United States is generated by Taiwan
firms.
26

2.9. No Security Concerns in EU-Taiwan Relations

The traditional argument for Taiwan investments in Europe is the need for diversifi-
cation. This argument can easily be justified by the data. In 2013, Taiwans outbound
investments were overwhelmingly located in China, which alone accounted for 64
percent of Taiwans outflow. The rest of Asia was the second most important destina-
tion, with Europe accounting for a meager 1 percent (EIAS, 2014, pp. 16-36). Taiwans
role in European FDI inflow has fluctuated and decreased in recent years. The 301
million euros in 2011 went up to 818 million euros in 2012, but it suddenly plummeted
to 300 million euros, denoting disinvestments in the European Union. The data
demonstrate that Europe as a destination for investments is undervalued, which can
be explained by the lack of a comprehensive investment agreement, as well as the
fact that some of the investments are labeled in the EU as being Chinese ones.

In 2013, almost one-third of inbound investment in Taiwan originated from the British
Caribbean Islands, and 7.5 percent from Hong Kong. There is great uncertainty about
how much of these investments are really from China. As mentioned before, Taiwan,
despite having a very open economy, maintains FDI restrictions, and foreign invest-
ments must be approved by government authorities. This policy is easy to explain
given the security concerns facing Taiwan. European investments do not give rise to
security problems, since European countries do not have strategic political interests
in the region (The EU countries are still the biggest investors in the country, their
stock of investments reached almost 25 percent in 2012). But the lack of conflict
applies to Taiwans investments in the European Union.

As can be seen, disproportions have been featuring investment relations between the
two regions. Based on competitive advantages, Central European countries still offer
untapped investment opportunities for Taiwan-based firms, in particular in sectors
such as food processing, food safety, vehicles, machines, etc.

2.10. Technology

The economic relevance of Taiwan must be interpreted in light of ongoing technolog-

ical changes. Recent technological changes have devalued economic activities with
low added value, and the pace of these changes will only accelerate the decline of
classic manufacturing activities (assembly, machining, etc.), while high added value,
downstream and upstream activities (engineering, marketing, sales, research and
development, design, etc.) will gain further in importance.
 27

Table 3
Gross expenditures on Research and Development

Country percent
South Korea 4.15
Japan 3.47
Taiwan 2.99
Germany 2.85
US 2.73
France 2.23
China 2.08
Italy 1.25

Source: National Science Board. 2016

Presently, Taiwan has a central position in the global supply chain. Earlier, Taiwan
firms had operated as suppliers to large European and American brands manufactur-
ing goods requested by them. But by the late 1990s, the model had changed and
Taiwan firms had begun focusing on the management of the supply chains, and net-
work orchestration. Taiwan firms were successful in creating supply chains, even in
being nodes of the structure. Today, the argument for cooperation can clearly be
found in the special role Taiwan and European firms play in global supply chains.

The special role of Taiwan firms is very dependent on Taiwans capability of running a
service economy. The country has excellent endowments in this aspect thus it can
offer many opportunities to European firms.

Taiwan was ranked the 13th most knowledge-intensive economy in 2012, and most
of the West European countries ranked in the top 30, which gives these countries
an obvious opportunity to cooperate. Other figures can be mentioned as well: one
of the most impressive statistics is the number of patents divided by the size of the
population. Between 2006 and 2012, Taiwan had the highest patent density in the
world. (San 2013, p. 3)

In 2013, Taiwan spent 2.99 percent of its GDP on research and development. The EU
2020 planEuropes growth strategy for this decadesets a goal of exceeding 3
percent; however, most European countries are struggling to meet this goal, which
indicates that deeper cooperation in this particular field would also benefit both
parties.
28

Despite great efforts and impressive results, moving up the value-added chains is
demanding16 since it requires the building of own brands, too. Although there are
analogies between Taiwan, South Korea, and Japan with regard to economic develop-
ment policy, Taiwan has been different in this respect. Taiwan had not imposed severe
restrictions on FDI in the emerging phase of its economic development, as Japan and
South Korea did. Partly because of this free trade approach, and partly because of the
dominance of small and medium enterprises in the economy, there are not so many
big brands and firms in Taiwan.17 The existing lack of global brands is only partly
addressed by the Branding Taiwan Plan18. Consequently, the lack of brands is not only
another reason why Taiwans economy is being misinterpreted, but represents a
potential area of opportunities for cooperation between Taiwan and European firms.

3. Concluding Remarks

The diversification of Taiwan-EU economic relations is needed not just by Taiwan, but
by Europe as well. In Taiwans presidential election campaign of 2012, then-President
Ma Ying-jeou [] spoke of going to the world via Mainland China, while [opposition
candidate] Tsai Ing-wen insisted the other way around, going to Mainland China via the
world. (San 2013, p. 12) As far as the EUs China-policy is concerned, up to this point
the EU has gone to Taiwan via China. This policy needs reconsideration from the
European side, and more efforts from the Taiwan side.

The ten arguments for desirable change in policy in the European Unionpresented
in this chapterare partly of economic, partly of a political nature, however, the for-
mer ones clearly prevail in this analysis. This desired change is to be based on (1) the
fast-growing market of Taiwan. The countrys significance as a mature, sophisticated
market is growing. As a result of the catching-up process of the past several decades,
Taiwan has reached or overtaken the average income level of the core European
economies. The purchasing power of the economy is growing, which, along with open-
ness, makes Taiwan an important partner to European countries.

16 Da-Nien and Hui-Tzu argue that there has been a steady deteriorating in Taiwanese terms of trade,
which can be traced back to an increasing reliance on OEM (original equipment manufacturer) firm
strategies focusing on productivity of manufacturing rather than on research and development. (Da-
Nien Hui-Tzu, 2013)
17 However, Acer is not the only notable exception. Companies like D-Link, Acer, and ASUSTek have
put more focus on brand marketing.
18 The Bureau of Foreign Trade has assigned TAITRA to implement a three-year plan for the Taiwan
Industry Image Enhancement Project from 2014 to 2016. The projects aim is to improve the interna-
tional image of Taiwanese enterprises.
 29

Two further features which make cooperation between the parties easy and neces-
sary are (2) the high technology level of the Taiwan economy, and (3) its free market
approach. These fundamentals are reinforced by (4) a clear need for diversification
on both sides. Taiwan is important as a springboard to enter other Asian markets.
This aspect is important to Western European firms, while Taiwan firms could serve
as a source of capital and knowledge to Eastern European firms, in particular in the
ICT industry). The necessary diversification of Taiwans economic relations is the
other side of the coin. In this process, a comprehensive economic agreement with the
EU would be the most important step.

The fact that (5) there are no political disputes between Taiwan and Europe means
that foreign investments would not become a cause for security concerns. The last
remaining argument of an economic nature is that, (6) due to insufficient and distort-
ed trade and investment data, it is difficult to properly assess Taiwans actual eco-
nomic relevance to Europe.

All these hard economic arguments suggest a deepening of economic relations with
Taiwan would benefit the countries of the European Union. The (7) emergence of the
new regional trade agreements, and the following growing economic isolation of the
country puts Taiwan under pressure to negotiate trade and investment deals with the
most important economic partners of Taiwan. The reconsideration of Europes Taiwan
policy would generate clear economic benefits to both sides, since as the case of New
Zealand and Singapore has demonstrated, (8) adherence to the One-China principle
doesnt impede this deal-making. The change of policy would be aligned with the
long-term values of the European Union, because (9) Taiwan is a vibrant democracy
whose support is a vital European interest. The importance of common values has to
be underlined in this context; democracies with free market economies can serve as
appropriate frameworks of long-term stable economic relations.

Probably as an offshoot of its successful economic and political development, (10)

Taiwan society has many cultural values and attitudes in common with Europeans.
This is the least affirmable statement of this paper, however, it suffices to consider the
diversity of ethnicities, religions, and cultures associated with pluralistic points of
view which make this island easier for Europeans to understand than possibly any
other Asian society.

I think the political and cultural arguments combined with economic ones can lay the
foundations for a comprehensive economic agreement between Taiwan and the
European Union which would serve the interests of both parties.
30

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Taiwans China Policy under Rising Taiwanese Identity:
Retrospective and Prospects

Cody Wai-kwok Yau & Boyu Chen

The victory of the Democratic Progressive Party (DPP) in both the 2016 presidential
election and the 9th legislative elections have led to the third party alternation in
Taiwans democratic history. The electoral defeat of the Kuomintang (KMT) may be
attributed to the rising tide of Taiwanese identity on the island as well as the influence
of large-scale social movements that in recent years have called for social justice and
redistribution of social resources. Looking back to the year 2008, when KMT presiden-
tial candidate Ma Ying-jeou won by a landslide, the people of Taiwan at that time
expected Ma to improve cross-strait relations and foster economic growth through
the KMTs pro-China policies. Eight years later, the pendulum of public opinion had
swung back against the KMT government. The new government led by President Tsai
Ing-wen of the Democratic Progressive Party (DPP) has to deal with Chinas strong
desire for unification despite a rising tide of Taiwanese identity (if not nationalism).
The new government is expected to propose new policies toward China, but whether
these will truly represent a substantial change from the status quo remains to be seen.

This chapter is organized as follows: Section one gives a brief introduction of Taiwans
political institutions, political cleavage, as well as party system. Section two goes on
to analyze the rising Taiwanese identity and its implications. Section three examines
Taipeis China policy under the KMTs reign. Section four illustrates how large social
movements have flared up in Taiwan accompanied by digital democracy calling for
government transparency. Section fives analyzes the China policy, as well as the for-
eign policy, of the newly formed DPP government.

1. Taiwans Political Landscape: A Brief Introduction

Identified as a semi-presidential system, the Republic of China (ROC) on Taiwan is a

representative democracy with a president who serves as head of state, a premier
nominated by the presidentwho acts as head of government, and a unicameral leg-
islature, the Legislative Yuan. The presidential and legislative elections are national
elections, taking place every four years. In practice, however, a 38-year period of
34

martial law put a halt to elections until it was finally lifted in 1987one year after the
formation of the DPP, which advocated de jure Taiwan independence. In 1992, the
second Legislative Yuan elections were held to finally replace the remaining members
of the original Legislative Yuan, who were elected in 1948. These legislators were
originally elected when the ROC still held sway in China, and they followed the par-
ty-state when it retreated to Taiwan in 1949 and suspended the Constitution. Taiwan
had been ruled by the KMT since 1945, when the islands former colonial masters, the
Japanese, lost World War II and the island was ceded to the Allies. Without elections,
the original legislators elected in 1948 essentially kept their positions indefinitely, and
although many died of old age during the decades that followed, those who remained
were forced to retire in 1993 by a Judicial Yuan decision. The largest opposition party,
the DPP, won 33 percent of the votes and acquired 51 legislative seats in the 1992
election, establishing its bona fides as a formidable opposition power in Taiwan poli-
tics. Continuing this process of political liberalization and democratization, Taiwans
first direct presidential election was held in 1996, and in the 2000 elections, the DPP
became the first non-KMT party in history to assume the presidency of the ROC (Liao
& Chen 2015, pp. 68-70).

As a result of the 2016 national election, the DPP won control of both the executive
and legislative branches for the first time. This marked the first party alternation in
the Legislative Yuan during its 60-year history. Currently, there are five political par-
ties in the ninth Legislative Yuan. Among these, the DPP holds a majority of legislative
seats (68 out of 113) and the KMT, once the largest party, came in second to the DPP
in number of seats with 35. In addition to the party alternation, this election was
remarkable because a new political party emerged from the Sunflower Student
Movement. Namely, the New Power Party (NPP), which won five seats and became the
third-largest party in the Legislature. The other partiesthe People First Party (PFP)
and the Non Partisan Solidarity Union (NPSU)each took a smaller share of seats,
with 3 and 1 seats respectively. Legislators are elected in a mixed-member majori-
tarian (MMM) system consisting of single-member districts (SMDs) and proportional
representation (PR) electoral rules. This system replaced the single non-transferable
vote (SNTV) system in 2005.

Since party systems so often reflect social cleavages in Taiwan, the China factor
serves as the main cleavage within society and between the platforms of political
parties. Those who tend to advocate a Chinese identity for the island, in addition to
adopting more pro-China and proactive cross-strait policies, are referred to as the
pan-blue camp. The blue parties now in the Legislature include the KMT and its
splinter group, the PFP. Those parties which advocate Taiwans independence from
 35

China are referred to as the pan-green camp, and include the DPP as well as the
newly emerged NPP.

The China cleavageperhaps the most important divisionhas long existed in

Taiwans party politics, and it often encompasses other divisions as well, such as eco-
nomics and foreign relations. The pan-blue coalition desires a closer relationship with
China as a means of boosting Taiwans economy. In contrast to the pan-blue camps
pro-China policies, the pan-green camp seeks to circumnavigate Chinas efforts to
exclude Taiwan from participation in the international community. The recently
installed DPP governments declaration of a New Southbound Policy explains this well.
The two camps are strongly at odds with respect to the China factor in every election.1

In addition to the China cleavage, a class-based cleavage and issues concerning

redistribution of wealth have emerged in recent elections, increasing the political
complexity in Taiwan. Accompanied by a growing wealth gap, class politics gave
impetus to Taiwans party politics (Wu, 2013, p 13-18). Although the traditional Western
conception of the political spectrum does not capture the intricacies of political ideol-
ogy in Taiwan, the pan-blue camp is generally thought to be more right-oriented and
the pan-green camp more left-oriented. Demonstrations in the past three years in
Taiwan have showcased the desperation felt by citizens calling for social justice.

When it comes to voting, party affiliation or party orientation serves as a heuristic as

well as a long-term determinant of voting decisions. There is a trend in Western
democracies toward declining party membership and identification, and this is also
the case for the younger generation in Taiwan, which is less likely to identify with
established political parties (Sheng, 2010). Evidence also shows that the better edu-
cated among the younger generation tend to be independent voters (Tan et al., 2000).

2. Rising Taiwanese Identity

From the viewpoint of social psychology, the polarization of national identity in Taiwan
can be attributed to history, including unpleasant past experiences, images, and
memories of unfair treatment by the KMT government (Chen, 2009), which first con-
tributed to the conflict between Mainlanders and Taiwanese. The term Mainlanders

1 The DPP president elect Tsai Ing-wen announced New Southbound Policy to strengthen economic
ties with ASEAN countries. (Apr. 14th Taipei Times) Available at http://www.taipeitimes.com/News/
taiwan/archives/2016/04/14/2003643929
36

generally refers to the people who fled to Taiwan from China in 1949 to escape the
Communists, while Taiwanese is the term given to the descendants of the settlers
who moved to the island beginning in the seventeenth century. During KMT authori-
tarian rule, and especially the period of suppression of political dissidents known as
the White Terror, estrangement grew between these two groups. These problems
evolved to be expressed in the Chinese vs. Taiwanese identity issue that has emerged
since the democratization of the 1990s.

In 1945, at the end of the Second World War, the people of Taiwan initially welcomed
Taiwans return to China after 50 years of being ruled by Japan. However, the ruling
KMT governments failed economic policies, corrupt administration, and even dissim-
ilarities in habits, religions, and lifestyles, triggered feelings of hostility between
Mainlanders and Taiwanese, leading to the February 28 Incident, also known as the
228 Incident (Jiang, 2006, p. 4-5).2 Thereafter, the government began enforcing even
stricter resinicization polices.

Indeed, the 228 Incident was one of the crucial reasons behind the conflict between
Mainlanders and Taiwanese, but over the long run, the suppression of Taiwanese
culture, languages and history also played an important role. As a political legitimi-
zation strategy, the KMT government sought to imbue Taiwanese students with a
sense of belonging to a larger Chinese ethnicity (i.e. Han peoples and ethnic groups
subsumed into the same nation), and promoted the superiority of Confucian culture
through the education system. It was assumed that these efforts would eventually
correspond to a political identification as well (Chen, 2012, p. 852-853; Sung & Yang
2009, p. 180-181). Such policies appeared to have successfully cultivated a dominant
Chinese identity on the island, but at the same time it was spurring a Taiwanese con-
sciousness, in reaction to a lack of respect and recognition for Taiwanese (Chang &
Wu 2001, p.147-148).

While the KMT government adopted strict methods to enact its sinicization program
as mentioned, the legitimacy of the KMT government began to decline when the ROC
lost its seat in the United Nations in 1971, which indirectly led the government to
examine alternative legitimization strategies. A strategy focused on political localiza-
tion (e.g. introduction of local elites as Lee Teng-hui, the first Taiwan-born president)

2 The 228 Incident took place when KMT customs officers beat and killed an old woman hawking
cigarettes illegally on February 28, 1947 (Jiang, 2006). Latent animosity between Chinese and Taiwan-
ese was sparked by the incident into a full-blown rebellion against corrupt and oppressive KMT rule,
to which the government responded with large-scale of suppression, as well as the purging and killing
of Taiwanese elites.
 37

and democratization was adopted. As historical sociologist Anthony Smith defined it,
national identity is a named human population sharing an historic territory, common
myths and historical memories, a mass, public culture, a common economy and com-
mon legal rights and duties for all members (Smith, 1991, p. 14). In 1991, Lee started
to establish a feasible, self-ruled democracy through seven constitutional amend-
ments, including the termination of the Temporary Provisions Effective During the
Period of Communist Rebellionwhich was the legislation used by the KMT to justify
its suspension of the Constitution and rule by martial lawand the election of the
president and legislators through universal suffrage (Weng, 2006, p. 3). Such strate-
gies were intended to create a one divided China framework which acknowledged
the existence of two distinct political entities on either side of the Taiwan Strait; that
is, Peoples Republic of China (PRC) and the ROC.

To achieve this, Lee limited the political mandate to those which corresponded to the
actual territory administered by the ROC (Joireman, 2003; Smith, 1991). In other
words, no more pretending that Taipei ruled over all of mainland China, Tibet, and
Mongolia. In 1998, Lee proposed the idea of New Taiwanese. The core of this idea
was that it did not matter where you were originally from, you are Taiwanese as long
as you identify with the land of Taiwan. This idea set up a new political community
with a state mind (i.e. Taiwan) held by the members of the nation, and it reflected a
geopolitical cognition of national sovereignty (Anderson, 1991, p. 6-8, p. 171). However,
in Beijings eyes, Lees democratic reforms and public comments (e.g. characterizing
the cross-strait relationship as being a special state-to-state relationship) were
seen as an attempt to promote Taiwan independence. Despite five decades of inter-
marriage and other integration of the Mainlanders with the Taiwanese, there
remained considerable friction between the two groups, especially with regards to
their vision for the future of Taiwan on the question of independence vs. unification,
and there are still a considerable number of native Taiwanese who worry about
Mainlanders loyalty to Taiwan (Wu, 2002, p. 84).

The year 2000 was widely hailed as the year of the first peaceful transfer of power in
a Chinese society. It was also a year that ushered in dramatic changes to the idea of
a Taiwanese national and even state identity: it became more crystallized. From 2000
to 2008, the ruling DPP implemented localization (seen as desinicization) policies to
promote Taiwanese subjectivity

(including the Campaign for Rectifying the Name of Taiwan, promotion of local culture,
and indigenous language education). Certainly, as much as these policies irked the
old-guard members of the KMT who continued to view Taiwanese as a subset of the
38

larger Han Chinese identity, these policies were greeted with disdain and alarm in
Beijing as well. Particularly after President Chen Shui-bian in 2002 floated an inter-
pretation of the cross-strait relationship as being one country on each side of the
Taiwan Strait, and disbanded the National Unification Council and terminated the
National Unification Guidelines in 2006, which had been established in 1991 by
President Lee. The cold political relations between Taiwan and China did not influence
China-based Taiwan businessmen, however, who continued to substantially increase
their trade and investments in China throughout the 2000-2008 period.3

In 2008, the year of the second transfer of power between political parties, the KMT
once again regained the reins of power in Taipei. President Ma Ying-jeous recognition
of the 1922 Consensus on the One-China principle, as well as his policy orientation
toward China, received the support of China-based Taiwan businessmen and the
blessing of Beijing. Yet, such pro-China polices overlooked mainstream public opin-
ion and thus immediately aroused feelings of betrayal among the polity, particularly
when the trade agreement with China known as the Economic Cooperation
Framework Agreement (ECFA) was signed. As the DPP argued at the time, the core of
ECFA was a One-China market concept, which would impair the development of
Taiwans local economy and ultimately undermine its sovereignty. Meanwhile, Ma also
pushed forward with a resinicization policy, attempting to undo the effects of the
previous administrations localization efforts, thereby triggering protest by university
and secondary students who were especially upset at changes to high school text-
books which they claimed promoted a China-centric perspective.

In a nutshell, the social and political cleavage originated from improper governance
by the KMT government, which in the beginning produced anger between Mainlanders
and Taiwanese at the ethnic level. While socially, animosity between these groups
was more or less moderated during the democratization period, politically there are
still intergroup tensions over the independence vs. unification debate, especially now
that democratization has given people license to express their Taiwanese identity.
Certainly, the ever-present China threat is another external factor contributing to the
rise in Taiwanese identity. In other words, a resident of Taiwan who self-identifies as
Taiwanese will favor Taiwan independence, while a person who self-identifies as
Chinese or both (Taiwanese and Chinese) will likely favor unification with China, or
at least a continuation of the status quo.

3 During the Chen administration (2000~2008), Taiwan businessmen made China-bound investments,
approved by ROC Ministry of Economic Affairs, worth between 2,607.14 (US$100 million) up to 10,691.39
(Mainland Affairs Council 2010).
 39

Trends in identification as Taiwanese or Chinese, as tracked by polls, are easily iden-

tifiable. Annual surveys conducted by National Chengchi Universitys Election Study
Center (2015) show that the percentage of Taiwan residents who self-identified as
Taiwanese (T-respondents) rose from 17.6 percent in 1992 to 59.5 percent in 2015, as
shown in Diagram 1 below. In the meantime, respondents who self-identified as
Taiwanese overtook those who identified as Chinese in 1996, and likewise passed
those who identified as both Chinese and Taiwanese in 2008. In the 2015 poll, 33.3
percent of respondents self-identified as both (B-respondents), while a mere 3.3 per-
cent self-identified as Chinese (C-respondents). The implications of such ethnic iden-
tification extend beyond the sphere of ethnicity, however: there are political implica-
tions as well. As Lius (2012) findings show, T-respondents generally favor the concept
of a Republic of Taiwan, whereas B-respondents tend to supported ROCs status quo.
In addition, T-respondents are more concerned with issues of Taiwan sovereignty and
state status than C-respondents, and less concerned with habitual or traditional per-
ceptions than C-respondents. Furthermore, T-respondents are younger, and more
likely to be female, but their educational level is not, on average, any lower than that
of B-respondents (Yau, forthcoming).

Still, there are two concepts of national identity that are reflected in the voting behav-
ior witnessed in the recent presidential elections. One is a Taiwanese conscious-
ness, and the other is party preference. The result shows that voters with a high level
of Taiwanese consciousness tend to vote for pan-green candidatesand the size of
this group has been increasing steadilywhile voters with a low level of Taiwanese
consciousness tend to vote for pan-blue candidates (Chen et al. 2009, p. 1). Despite
this trend, partisan identification still has a stronger effect on voter choice than
Taiwanese consciousness (Cheng 2009, p. 23).

3. The Pro-China Policy of the KMT

The corruption scandal surrounding former President Chen Shui-bian and promises
of economic improvements helped the KMTs Ma Ying-Jeou win the presidency in
2008, and Taiwan experienced its second peaceful transfer of political power. After
taking office, Ma Ying-Jeou aggressively set about enforcing functionalist strategies
which sought to maintain a non-zero sum relationship between Taiwan and China
within a framework of the concept of a shared Zhonghua minzu, meaning Chinese
nation or Chinese race (Ji 2010, p. 154). Compared to the approach taken by the Chen
administration, this represented a wide turn in terms of policy and ideological orien-
tation regarding China (Chang 2012, p. 111).
40

One of Mas strategies was to open the Three-Linksdirect postal, transportation,

and trade links between Taiwan and China. In December 2008, Ma lifted the ban on
direct flights to and from Chinese cities, and shortly thereafter any remaining barriers
to postal services between the two countries were removed. The Ma administration
also promoted cross-strait free trade in such fields as Chinese herbal medicine,
green energy, and the communications industry. This was accomplished through the
Cross-Strait Bridge Program, aimed at industrial cooperation, and which served as
the foundation for the larger-scale program to come: ECFA. In addition to these meas-
ures, Ma also relaxed the regulations on group toursand later, individual tourists
from China (Tourism Bureau 2015).4 By implementing this strategy, the first measure
was to resume talks between the two countries respective quasi-official negotiating
bodies: Taiwans Straits Exchange Foundation (SEF) and Chinas Association for
Relations Across the Taiwan Straits (ARATS).

In terms of China policy, Ma endeavoured to build a framework for stable cross-strait

exchange that would maintain the status quoor, in light of the previous Chen admin-
istration, return to the status quo antewhich was spelled out in his three noes
policy: no unification, no independence, and no use of military force, which had ech-
oes of Kenneth Lieberthals infamous proposed Interim Agreement. Diplomatically,
instead of adopting offensive diplomacy, Ma instead focused on a viable diplomacy.
Moreover, to avoid a return to checkbook diplomacy, a diplomatic truce was agreed
upon wherein Beijing would stop trying to poach the ROCs few remaining diplomatic
allies and Taipei would stop actively lobbying for membership in international organ-
izations.5 Economically, Ma attempted to normalize and enlarge the scale of trade
and financial investments between Taiwan and China. In 2010, Taiwan signed ECFA:
the first cross-strait economic agreement with China. As a comprehensive, preferen-
tial agreement, ECFA was a free-trade agreement in all but name. Ma had promised
the people of Taiwan that the agreement would serve as a stepping stone toward
Beijing finally allowing Taiwan to join international fora, take part in regional cooper-
ation efforts, and sign further FTAs to avoid economic marginalization.

Even though Ma strived to create harmonious cross-strait relations, the pace he set
was evidently too fast for a substantial portion (around 30 percent) of the population.
Moreover, it overlooked the emotional effect these policies would have on advocates

4 As of 2016, there have been approximately 4 million Chinese tourists that have visited Taiwan
(Tourism Bureau, 2015).
5 This guerilla strategy was implemented in order to break through the diplomatic blockade from
China through aggressive diplomatic activities and show the fact of Taiwans sovereign status before
the international society.
 41

and supporters of eventual Taiwan independence (Chen et al. 2012).6 The pan-green
camp was concerned about the Ma governments pro-China disposition, seeing it as
unduly optimistic and seemingly one-sided in favor of China at Taiwans expense.
While Mas moderate stance was warmly received in Beijing, many began to wonder
why China would diplomatically give way to Taiwan (Cheng 1998, p. 17). Moreover, as
the years passed and the promised dividends from ECFA failed to materialize, many
especially those who were pro-Taiwan independence, but also those average citizens
without strong political affiliations one way or the otherbegan to see Mas China-
friendly policies as a sign of appeasement, and to question the cross-strait integration
that appeared to be proceeding (Weng, 2009, p.6).

There is no evidence to suggest that Mas motives were purely to secure his historical
legacy in terms of cross-strait unification. However, the 1992 Consensus that Ma
advocated played an important role in winning support from China, as well as from
large Taiwan-based corporate giants (e.g. mobile phone manufacturer HTC), and so
he was nominated to stand for a second term in the 2012 presidential elections. He
won, but this time his victory was far shy of the previous landslide. Compared to 58.45
percent Ma earned in the 2008 election, he garnered just 56.60 percent in 2012,
against his DPP opponent Tsai Ing-wens 45.63 percent. The reason for his drop in
popularity was that the pro-China policies of Mas first term did not fulfil their prom-
ises:

1. First, as cautioned by the green camp, the 1992 Consensus politically locked Taiwan
into the framework of the One-China principle defined by Chinathat the govern-
ment of the PRC was the sole legal government of China.7

2. Second, that ECFA and opening up to Chinese tourists did not improve the unem-
ployment situation, nor did it increase the low salaries earned by young people
(aged 19 to 29) in Taiwan; averaging less than US$1,000 per month. Moreover, the
economic opening did nothing to mitigate skyrocketing local property prices, and
risked creating an over-dependence on the China market. 8

6 According to a survey by the Mainland Affairs Council, around 30 percent of respondents believe the
pace of cross-strait exchanges to be too fast, while 40 percent believe it is to be moderate, and those
who see it as being too slow account for around 15 percent (Mainland Affairs Council 2016a). http://
www.mac.gov.tw/public/Attachment/63292095449.pdf (Retrieved on June 12, 2011).
7 Taipei Times 2011: Locking in the 1992 consensus. Editorial. http://www.taipeitimes.com/News/
editorials/archives/2011/12/06/2003520023 (Retrieved on June 12, 2011).
8 On the percent value of economic dependency, the percent of total trade jumped from 19.7 percent
(2008) to 22.4 percent (Jan.-Mar. 2016) (Mainland Affairs Council 2016b).
42

3. Third, the case of The Gambia cutting diplomatic ties with Taipei proved that Mas
tacit diplomatic truce with Beijing had been a failure. This case showed that it is
difficult to prevent Taipeis few remaining allies, most of which are Pacific Islands
and Central American states, from unilaterally establishing relations with China.

In short, even though Ma achieved 23 agreements and five consensuses, and normal-
ized and institutionalized the liaison mechanism between the two sides of the Taiwan
Strait, the pro-China line had not improved social dialogue or public sentiment, which
means that most people in Taiwan did not perceive any benefit from cross-strait inte-
gration. Mas policies essentially conflicted with the now-dominant Taiwanese identi-
ty and the concomitant preference for eventual Taiwan independence. This was
another reason why KMT votership dropped dramatically.

In 2013, Ma pushed to pass a follow-up agreement in the ECFA framework: the Cross-
Strait Services Trade Agreement (CSSTA), only this time opposition not only to the
pact itself but the opacity with which it was negotiated and reviewed was vociferous,
and it sparked a constitutional crisis. On 17 March, 2014, KMT legislators led by Chang
Ching-chung insisted on putting the package to a quick vote, without having had the
line-by-line review demanded by opposition lawmakers. The following day, outrage
over the attempt triggered a large-scale student protest that conflagrated into the
physical occupation of the Legislative Yuan in order to prevent the vote. The Sunflower
Student Movement was born, and the student activists managed not only to block
passage of the agreement, but raise public awareness of the need to follow
Constitutional procedures and of the dangers of continued cross-strait economic inte-
gration, which was essentially halted as a result. 9

4. Sunflower Student Movement, the Emerging Digital Democracy

and its Influence

The occupation of the floor of Taiwans Legislative Yuan received the attention of the
international news media. In the movement, Internet technologies played an instru-
mental role in both organization and mobilization inside and outside of the building.
On March 30, protesters exhorted the Taiwan public to take part in sit-ins and march-
ing demonstrations on Ketegalan Boulevard in front of the Presidential Office. Tens of

9 After the KMT forced through the controversial bill of the Service pact of ECFA without sufficient
negotiation between ruling party and opposition parties, tens of thousands of unsatisfied people took
to the streets to protest against the signing of the ECFA.
 43

thousands of protesters, identifiable by their black shirts, swarmed into the area sur-
rounding the Legislative Yuan, thereby opening a new chapter in the history of
Taiwans social movements. Furthermore, the movement received almost a quarter
of a million US dollars in contributions within three short hours for posting a series of
advertisements in the New York Times titled Democracy at 4am:

On March 17, 2014, KMT committee chairman Chang Ching-chung gave his 30 second
muddled announcement, which went as follows: fifty-two are present. Thus the legal-
ly necessary number has been reached. Meeting is commenced. Let us begin the
discussion. Since it has been three months since the Cross-Strait Service Trade
Agreement (CSSTA) was submitted to the committee for review, it is viewed as
already reviewed according to regulations, and will be sent to the Legislative Yuan
general assembly. Meeting is adjourned.10

Changs declaration that the agreement had passed, without having undergone the
legislative review procedures stipulated in the Constitution and promised to opposi-
tion lawmakers, served to incense students and social movement leaders who were
present that day, waiting outside the building to hear news of the event. In their view,
President Ma Ying-Jeou, KMT leaders, and the Legislative Yuan controlled by a KMT
majority had all overstepped the bounds of acceptable democratic behavior and vio-
lated the basic principles of Taiwans democracy, at the expense of the publics trust.
Outrage soon spread, bringing people from various walks of life together in dissatis-
faction with the way that President Mas government had challenged the norms of the
democratic process.

There were 23 groups in all participating in the Sunflower community, with the main
participants being the Black Island Youth Front, Youth Alliance Against Media
Monsters, the National Taiwan University Graduate Student Association, and the
Democratic Front Against the CSSTA. Also involved were Taiwan Democracy Watch,
the 1985 Civil Action Coalition, Citizen of the Earth, and the Taiwan Referendum
Alliance. These groups stormed the floor of the Legislative Yuan on March 18, invali-
dating the improper vote and beginning a nearly month-long siege of the hall where
the nations top lawmaking body met. Although it would be some days before it was
christened as such, the Sunflower Student Movement had begun.

When news broke of the occupation, tens of thousands of students, young people, and
members of the public who identified with the cause of the occupiers began

10 Please find the statements by Chang at https://musou.tw/focuses/19

44

congregating around the Legislative Yuan and gradually helped form a chaordic oper-
ating community. On March 30, close to 50,000 students, groups, and members of the
younger generation took to the streets to protest against the lack of transparency in
the CSSTA process, and the violation of democratic principles by the Ma government.
The famous words from the novel Night Train to Lisbon soon appeared written on the
Legislative Yuan: When dictatorship is a fact, revolution is a duty. The various groups
participating in the Sunflower movement generated community consciousness.

Prior to the Sunflower movement, the Taiwanese citizenry had expressed their
extreme displeasure and lack of trust in President Ma and his government mostly
through public opinion surveys. 11 In the midst of this distrust and dissatisfaction, as
well as discontent about the lack of transparency in the CSSTA, the exploitation of the
younger generation, the conflict between the government and various social move-
ment groups, and the governments response to various controversies, all served to
create greater levels of dissatisfaction and anger among the younger generation and
white collar workers.

The controversy over CSSTA started in 2013. While the media broke the story that
China and Taiwan would sign the agreement, the responsible government organs did
not provide any detailed information concerning which subsectors would be open to
Chinese service industries, nor did the public have a clear understanding of the CSSTA,
as it had been negotiated and deliberated behind closed doors. This led the public to
question the whole project. Public opinion surveys indicated that a large majority did
not want the agreement signed, or felt that a majority of citizens must consent before
it was signed. 12 Taiwans citizens were also concerned about the impact that Chinese
service industries would have on many of Taiwans small businesses after the agree-
ment was signed, expecting it to have a negative effect on the labor market for young
people. Huang Kuo-Chang, formerly a researcher at the Institutum Jurisprudentiae at
Academia Sinica and now a legislator with the New Power Party, was one of the pri-
mary leaders of the student movement. It was his belief that not even the officials
responsible for reviewing the CSSTA knew which laws had to be applied in the review
process. In addition, the government held no dialogue about the agreement prior to the
attempt to ratify it, nor did they provide any assessment reports; there was not even
any data for the public hearings, according to Huang.

11 TVBS and Taiwan Indicators Survey Research polls show satisfaction and confidence were at un-
der 15 percent for more than one year.
12 According to TMBS 47.9 percent supported, 37.6 percent opposed (TISR, 2013, June 28); according
to TVBS 47 percent opposed and 30 percent supported the CSSTA (TVBS Poll Center, 2013, June 27).
 45

Welzel and Inglehart (2006) proposed that every generation creates its own unique
value system, which is not easily modified within this generation. The past ten years
in Taiwan have seen generational differences between the post-war baby boomers
and the younger generation, as well as increasing tensions between the paternal
mentality of the post-war baby boomer government and the younger generation.
Members of the younger generation, mostly born between 1970 and 1980, have a
higher level of education than the previous generation, and grew up in a democratic
environment.

While the younger generation has to abide by the rules set by the post-war baby
boomers, they find their efforts in the workplace are often not adequately rewarded.
Generational conflict is starting to appear because the younger generation is gradu-
ally becoming the main source of labor in society, and members feel they are not
being fairly compensated (Lin 2011; Lin & Li 2014). The younger generation feels
exploited for a number of reasons: Their efforts in the workplace are rewarded with
a level of remuneration they feel is inadequate, a feeling which is met with scorn and
cynicism from a baby-boomer generation that they see as hypocritical. In addition,
they feel that the government is unable to address their problems. These younger
generation voters, feeling they lack power or a medium for expression, distrusted the
KMT government, and gradually came together to form a group of young opposition
protesters, the inciting incident for which was the CSSTA controversy (LinLi, 2014).

Members of Taiwans younger generation grew up during the countrys transition

from authoritarianism to democracyor entirely during its democratic eraand thus
democracy is a part of their lives, and part of their identities. In contrast, members of
the post-war baby boomer generation grew up during a period of authoritarian rule,
and were already past middle-age when the transition to democracy began.

Participants in the Sunflower Student Movement were made up primarily of the age
group between 20 and 40 and had the following characteristics:

1. First of all, the movement was comprised mostly of students, who had not been
active in society for long, as well as white-collar workers.

2. They were not used to being able to influence major political or economic events.

3. At the same time, they were societys primary Internet users. This experience,
information technology, and related knowledge were integrated, and crowd-sourc-
ing was utilized to create an easily understood source of information on the
46

operation of the government. This provided the young generation with strong feel-
ings of political efficacy but no official channel for expressing it; and with the ability
to quickly acquire knowledge, transmit messages, participate in collaborative sites,
rallies, and seek to change their country and society.

After the clumsy attempt by KMT Legislator Chang Ching-chung to railroad through
passage of the CSSTA by sending the agreement through the legislatures internal
administration committee and to the legislative floor after just 30 seconds (which
earned him the nickname Half-a-Minute Chung), the civil movement was galvanized,
and it transformed from a social movement based on a unitary incident to a compre-
hensive social movement with a firm consciousness of we and they. These newly
awoken citizens desired not only to oppose government overreach, but felt that
Taiwan would change for the better as a result of their proactive participation. Yang
(2014) administered questionnaires onsite during the demonstrations, and used a
text-cloud method to discover the goals of the younger generations participation.
According to these findings, one of the most important goals was simply to make
Taiwan a better country:

This is an opportunity to practically win back democracy and, at the same time, pub-
licly discuss Taiwans future direction in a society which takes part in exchanges with-
out fear. What is more, through transforming the world, we will transform ourselves.
So you, and those around you, should not fear conflict. Rather, do your best to com-
municate with one another, and Taiwan as well, as you as individuals will be healthier
and stronger for it (Yang, 2014).

The core tenets held by participants in the social movement was largely exemplified
by these thoughts. The younger generation making up the leaders and participants in
this society believed they could protect Taiwans democracy by standing up to a gov-
ernment which had lost respect for it, and thereby save their imperilled country.

To sum up: the younger generations feelings of dissatisfaction gradually formed over
several years. Many groups who felt they had no official channel for expression took
to the Internet and created various associations to express their dissatisfaction. They
felt that the present system and government did not represent them. The lack of
transparency surrounding the CSSTA and Changs thirty-second legislative review
were directly responsible for the eruption of the student movement that led to the
occupation of the Legislative Yuan. This provided a focus, as well as an outlet for
expression, for a younger generation already vaguely resentful of their government.
 47

The student movement leaders furthermore used communication and the Internet to
inspire other members of the younger generation, thus giving them the will to stand
up for their rights. Political opportunity created feelings of anger and solidarity, and
brought the younger generation together in a sense of community consciousness. All
participants felt, through this student movement, that they could force the govern-
ment to respond to the demands of the people, and move their collective nation in a
better direction.

The movement shocked Taiwan society and had a great impact on political research-
ers. In examining the above-mentioned literature on social movements, the authors
discovered many aspects of the Sunflower Student Movement that would be worth-
while subject matter for dialogue based on this literature.

1. Firstly, community consciousness plays a critical role throughout a social move-

ment, and it is political opportunity which invokes public emotion.

2. Secondly, a new type of leadership has emerged in the digital community, which
means technology-savvy and politically knowledgeable leaders can facilitate the
process of organizing.

3. Thirdly, crowd-sourcing13 is a central means of coordinating movements, and com-

munity consciousness is the most important motivation for crowd sourcing.

Democratic governance in the information age places greater stress on horizontal

connections than on vertical ones. This fits the notion of liquid democracy
espoused by groups such as gv.tw, a community that advocates transparency of
informationin which people share and contribute their ideas and work in the spirit
of release early, release often, and patches welcome.14 Liquid democracy is an
organizing process of collaboration without central coordination.15 The government

13 Crowd sourcing is combining the publics wisdom, and the call for people with varying abilities and
talents to contribute their efforts. Crowd sourcing movements involve communication over the Inter-
net. The details of this concept will be discussed in later sections.
14 G0v is an online community in Taiwan that promotes information transparency, focusing on devel-
oping information platforms and tools for citizens to participate in society. They substitute the o with
O in gov, which means the new g0v not only stands for rethinking the role that the government
plays from the bottom up, but also represents the world view of 0 and 1 in the digital natives genera-
tion. See the official website of gv: http://g0v.tw/en-US/about.html.
15 Please find the gv website and Clkaos lecture at Institute of Political Science, NSYSU, Sep. 10 th ,
2014.
http://g0v.tw/en-US/talk.html; https://speakerdeck.com/clkao/cong-kai-fang-yuan-ma-kai-fang-zi-
liao-dao-kai-fang-zheng-fu
48

could learn from the crowd-sourcing community and provide more online dialogue
space with those starters and initiators, during or after the movement, which renders
strong democratic governance.

Such an attempt has already been made, when Taiwans then Premier Jiang Yi-huah
invited the co-founder of gv.tw, along with several civil servants, to take part in
crowd-sourcing projects three months after the Sunflower movement occupation
ended. Premier Jiang consulted gv.tw regarding the concepts of open data, open
source, and open government. Two months after the meeting between the Executive
Yuan and gv.tw representatives, the Executive Yuan announced that it would begin
providing live YouTube broadcasts of its post-meeting press conferences and that
each ROC ministry would interact with netizens in YouTube chat rooms (Executive
Yuan, September 10, 2014). The Executive Yuan expressed a desire for citizens to view
the discussions. This move was widely praised in Taiwans media, which believed this
decision allowing live post-meeting press conferences was in line with the times and
would allow citizens concerned about government to more easily and directly attain
first-hand information in a timely manner. The Executive Yuan also invited citizens to
participate in dialogues concerning policy during the online broadcasts. Organizers of
this new policy hoped that, once digital channels between the government and soci-
ety become more robust, it will be less likely that the government will pursue political
actions which ignite feelings of anger and dissatisfaction.

The birth of the Sunflower movement was a tipping point in the decline of the KMT
regime. In the local elections in November of the same year, the KMT was dealt a
crushing defeat, and the results of the 2014 Taipei mayoral election was also a mile-
stone in Taiwan politics. For the first time, an independent candidate was able to win
the Taipei mayoral election by a wide margin. Taipei city had been ruled by the KMT
for a long time, with the DPP only able to occupy Taipei City Hall briefly, from 1994 to
1998, and then largely because the KMT vote was split. The success of the independ-
ent candidate, Ko Wen-je, a physician at National Taiwan University Hospital, was
attributed to his outstanding online campaigning strategies. The KMT camp even
accused Ko of organizing an Internet army to wage a negative campaign against the
KMT candidate, Sean Lien, the eldest son of former KMT Chairman and Vice President
Lien Chan.

Kos electoral success was attributed to the characteristics of the Internet-mediated

social movement. Since 2013, Taiwan society has witnessed two successful social
movements which brought about policy changes and were well known for their appli-
cation of information communication technology. Rather than top-down mobilization
 49

methods, grassroots citizen-initiated activities (Gibson, 2015) prevailed in these two

movements. The aforementioned social movements possessed the following charac-
teristics:

1. They were networks of outrage and hope against the ruling party.

2. The policies of open government and participatory democracy were encouraged,

and both were attractive to digital natives.

3. Mainstream mass media played a minor role, and resorted to reporting news cre-
ated by netizens on social media newsfeeds.

4. Various types of self-organization and personalized campaigningincluding pho-

tos, manga, pictures, videos etc.were disseminated via social media. Ko com-
mented that, without the Internet, it would have been impossible for him to win the
election.

5. Taiwan after 2016: Forging a New China and Foreign Policy

In terms of foreign affairs, Mas platform was unable to settle the knotty issue of
Taiwans sovereign status, and ultimately served to deepen public distrust and fears
about economic dependency and political unification (Chang C.-C. 2015, p. 89-90). At
the same time, regarding domestic affairs, several other incidents involving judicial
credibility also chipped away at support for the KMT and Ma himself. These included
a scandal over tainted oil being sold for human consumption; an incident surrounding
the preventable training death of a military conscript; and a random killing spree.
More than these incidents themselves, it was the way that each was handled by the
KMT-led government that exacerbated the public-perception damage.16

16 The Ting Hsin Group, a local Taiwan oil company, imported animal-feed grade oil from Vietnam and
later mixed this with edible oil designated for human consumption. Former Ting Hsin Group Chairman
Wei Ying-chung faces more court cases over food safety, Formosa New, http://englishnews.ftv.com.
tw/Read.aspx?sno=9558DDE858031FEF209864AE3882682C (Accessed June 10, 2016). The Hung
Chung-chiu incident was the suspicious death of 24 years-old army conscript named Hung Chung-
chiu. He died 72 hours after being was punished with excessive physical activity for carrying his
smartphone on base without permission. The initial military judicial inquiry sparked a massive protest.
Soldiers Death Sparks Massive Protest in Taiwan, The Wall Street Journal, http://blogs.wsj.com/
chinarealtime/2013/08/05/soldiers-death-sparks-massive-protest-in-taiwan/ (Accessed June 10,
2016).
50

In the light of public dissatisfaction, it is not surprising that Tsai Ing-wen, the DPP
presidential candidate, won a majority mandate with 56.12 percent of the vote against
her KT opponent, Eric Chu. This led to the third transfer of political power in Taiwan,
marking the nation as a truly mature democracy.

In consideration of the past failures of both Chens offensive strategy and Mas
appeasement strategy toward China, indications are that Tsai will attempt to effect a
strategic adjustment back to a middle line, and to ensure that no provocations or
accidents take place,17 (Thinking Taiwan 2016), as well as to maintain the cross-strait
status quo and respond to the pressure placed on her by the Chinese Communist
Party (CCP) and KMT to accept the 1992 Consensus. Tsai must also endeavor to recov-
er from the damage caused by the historic meeting between Ma Ying-jeou and PRC
President Xi Jinping, held just weeks before Ma left office. As she stated in her inau-
gural address, Tsai respects the historical fact of the achievement of joint acknowl-
edgements and understandings in 1992, but insists that her government will strictly
comply with the ROC Constitution and other relevant laws. It was perhaps inevitable
that Tsais address was not going to satisfy Beijing: a news release from the Taiwan
Affairs Office of the State Council, PRC, contended that this is an incomplete answer
to the question of whether she recognizes the 1992 Consensus. Some commentators
argue that the DPPs return to the presidency is an indicator of the power of Taiwan
independence, at least from Beijings perspective (Ou, 2015, p. 39). The reason is that
the DPPs unchangeable, essential raison dtre is, as it began, to be outside of the
(KMT) party, and hence antithetical to the project of seeking unification with China. It
will be interesting to see whether this latest DPP administration gives up on or
embraces the Resolution on Taiwans Future, and preserves the right of referendum
to allow the people of Taiwan to have a say in that future (Li 2016, p. 41). Conversely,
the New York-based National Committee on American Foreign Policy, an American
think tank, contends that the response from the Taiwan Affairs Office was very mod-
erate, and not at all offensive.18

As regards foreign policy, Tsai does not appear to be adopting either a program of
offensive diplomacy or viable diplomacy, but rather has proposed the New
Southbound Policy as a means of seeking greater regional economic integration with
the ASEAN Economic Community (AEC), as well as with South Asian states such as
India, Sri Lanka, Bengal, Nepal, Bhutan, and Pakistan. Unlike in the past, the new

17 President-elect Tsai international press conference speech, Light up Taiwan, http://iing.tw/

posts/533 (accessed June 10, 2016).
18 See http://www.cna.com.tw/news/firstnews/201605210116-1.aspx (Retrieved June 12, 2016).
 51

southward policy not only stresses trade and investment, but it also concerns mutu-
al cooperation and exchange on talents, industry, educational investment, culture,
sightseeing, and agriculture, to create a partnership with the nations of ASEAN and
South Asia, all of whom have been ignored by Taipei for too long.

The target of this policy is render the countries of ASEAN and South Asia into an
extension of Taiwans domestic market, according to media reports,19 and thereby
lower the exposure of Taiwan to a risky overdependence on a single marketthat of
China. To achieve this target, Tsai announced a special task-force, called the New
Southbound Policy Office, and established the ASEAN and South Asia Think-tank at
the state level.20

In conclusion, the DPP government will, in all likelihood, keep China at arms length in
order to reduce the political and economic risk to Taiwan. Economically, the govern-
ment has adopted the New Southbound Policy to lower dependence on trade with
China and respond to the rising red supply chain, which refers to import substitu-
tions in China. Next, since Taiwans primary beneficiaries of ECFA have been the
nations large corporations, finding methods of sharing the benefits from cross-strait
trade with the grassroots is another issue facing the government (Chen 2016, p.16-19).
Politically, the Republic of China is a symbol: a symbol that there still remains com-
mon ground between the ruling and opposition parties on the island, as well as
between the two sides of the Taiwan Strait. Hence, there is ample room for Tsai to
offer different interpretations about its deeper meaning. What remains to be seen are
how these interpretations, which are bound to differ from those of the previous
administration, will be received in Beijing and Washington. The American Institute in
Taiwan (AIT), the de facto US embassy in the ROC, has stated clearly time and again
the longstanding US position on the term 1992 Consensus; to wit: the United States
has no official position. Rather, it encourages Beijing and Taiwan to be flexible in their
efforts to reduce cross-strait tensions. 21 Yet, while Tsais strategy may be in concert
with the majority public opinion in the island, at the same time Taiwan public opinion
is testing the patience of Beijingparticularly as this trend encourages a greater
domestic desire for the independence of Taiwan. The PRCs White Paper on the One-
China Principle and the Taiwan Issue, published in 2000, enunciated the two

19 Visa privileges offered to boost visits, Taipei Times Newsletter, http://www.taipeitimes.com/

News/taiwan/archives/2016/05/30/2003647465 (Retrieved June 10, 2016).
20 Taiwan to launch New Southbound Policy Office soon, Focus Taiwan Newsletter, http://focustai-
wan.tw/news/aipl/201606080032.aspx (Retrieved June 10, 2016).
21 AIT director calls for patience in development of cross-strait ties, Focus Taiwan News Channel,
http://focustaiwan.tw/news/aipl/201606140017.aspx (accessed on June 14, 2016).
52

conditions under which Beijing would use force to annex Taiwan: if Taipei holds a
referendum on Taiwans political future, or if Taipei indefinitely delays negotiations on
unification issue.22 Currently, communication channels between Beijing and Taipei
have gone silent, shut down by China in an attempt to pressure Tsai into accepting the
1922 Consensus. However, Taiwan is still an observer in the World Health
Organization, so all is not lost. Taipei has perhaps found that neither the DPPs offen-
sive strategy, nor the KMTs appeasement strategy, have been very useful in negoti-
ating with a rising China. Perhaps it is appropriate then that Tsai be given a chance to
try a new approach: the governments new agenda, incorporating internal affairs,
transformation of the economic structure, social security, and social fairness and
justice, as identified by Tsai in her inaugural address, will be the tasks the ROC gov-
ernment will strive to achieve.

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The Making of a Country The Taiwanese experience

Csaba Moldicz

Why do we have different nations and countries? What are the dominant forces behind
the formation of a new country? Is economic or political integration more decisive in
this respect? These questions are basic in political economics. For a very long time,
it seemed to be evident that economic integration was the prevailing, driving force
behind the integration process.1 Political integration and a commitment to identity
can be more relevant in bad times, which may be characterized by wars and protec-
tionism. However, good timestimes of peace and free tradereinforce the salience
of economic integration, highlighting the economic benefits of this process. What hap-
pens when a polity comes into being? What are the determinants of success or failure
of this new countrys economic and political institutions?

There are two broad questions this chapter seeks to answer:

1. What is the connection between political and economic integration?

2. How is an efficient political institutional framework shaped?

1. This chapter investigates the connection between political and economic integra-
tion, in particular as regards Taiwan. The reason why small countries such as Taiwan
require special attention relates to the costs of running a small country. Some ana-
lysts have suggested that democratization, and thereby the formation of smaller pol-
ities where policies are closer to the public, are facilitated by increasing economic
integration. According to this approach, secession becomes easier in times of grow-
ing economic interconnectedness. To put it another way: the level of economic inte-
gration determines the possible number of countries or nations. The more successful
the integration of the world economy becomes, the more likely it will be to form a new
entity (i.e. country), since the costs of maintaining small countries or economies

1 Prussia faced a similar question in the 19 th century. Having established a customs union with the
German states, the country took it for granted that economic integration would subsequently lead to
political union. However, when tensions between the Habsburg Empire and Prussia erupted, some of
the former allies joined the other camp. (Desmond. 2014, p.p. 13-14.)
58

become less prohibitive. As Alesina and Spolaore (1997 p. 1028) put it: The equilibri-
um number of countries is increasing with the amount of international economic inte-
gration. However, this approach does not take into consideration the importance of
national identity (its emergence and evolution) and that of the political framework.

2. This is why the other question addressed by this chapter, how to define crucial
elements of a successful political institutional framework in a country, is of great
importance. Rule of law, an efficient bureaucracy, democratic accountability, and a
strong civil society are undeniably the foundation of a successful democracy, but
equally important are the issues of how these elements interact with one another, and
in what sequence they emerge in a given society. Thus the issue demands a deeper
level of inquiry in order to properly assess the sustainability of the system.

Based on the theories related to these two broad questions, this chapter looks at the
connection between political and economic integration in the case of cross-strait
relations, and it attempts to summarize why Taiwans democracy became such a
success after 1987, using the following logic:

What are the circumstances under which economic integration between political
entities can support political integration? (Section 1)

More importantly, what are the circumstances that impede the formation of a
self-reinforcing circle between economic and political integration? (Section 1)

Are there other mechanisms at work? Can mechanisms be distinguished which

lead to divergence rather than to convergence between the Republic of China (ROC)
on Taiwan and Peoples Republic of China (PRC)? (Section 1)

Why has Taiwans democracy been successful? What are its basic features which
make this vibrant democracy sustainable? How does its emergence compare with
that of other successful democracies? (Section 2)

1. Costs and Benefits of a Small Economy and a Small Democracy

The traditional concept which emphasizes the salience of security is provided by

Charles Tilly (1985, p. 170). He contends that a clear connection between war-making
and state-making can be found. Tilly outlines a sequence of events, starting from
war-making, required to hold off competitors, through the acquisition of capital
 59

(necessary to wage wars) to providing protection. He clearly points out the connection
between protection and state-making which requires a monopoly of power. There are
clear examples in history where it can be proved that an efficient military and bureau-
cracy are needed to protect the existence of the state.

Prussia, Japan, and even China are such examples, where external threats looming
over the existence of the state contributed to the emergence of an efficient state
apparatus which paradoxically became strengthened by never-ending wars over dec-
ades or centuries. The importance of wars in state building can easily be explained if
one considers that wars force ruling classes to build a military which is based on
merit, and not on lineage or kinship. If this is not done, the country risks collapse in
the next violent clash with external forces. China is regarded as the first country to
recruit a bureaucracy relying on merit, using its vaunted examination system to
measure the skills and knowledge of potential civil servants. Prussia, which later
became the core of modern Germany, had the first regular army in Europe. Although
China was the first country to build and maintain an efficient state bureaucracy, rule
of law and democratic accountability had not been secured, and even now remain in
their infancy. In contrast, the system of governance in Taiwan, though it is the product
of essentially the same culture, has been successful in developing political institu-
tions based on the rule of law2 (after WWII) and democratic institutions (after 1987).

Fukuyama (2014) argues that the sequencing among these three building blocks is
crucial to the outcome. There are clear risks involved in this line of reasoning.
Carothers emphasizes that putting off democratization cannot be a consequence of
the importance of sequencing: But the idea of sequencing is problematic, as are the
policy recommendations that flow from it. A more useful alternative for taking into
account the many complications and risks of democratization and democracy promo-
tion is gradualism, which aims at building democracy slowly in certain contexts, but
not avoiding it or putting it off indefinitely (Carothers, 2007, p. 14).

The state-building effect of war seems not only outdated in the 21st century, but also
exaggerated by some analysts. Luttwak goes so far as to state give war a chance.
He stresses the transformative effects of wars:

Too many wars nowadays become endemic conflicts that never end because
the transformative effects of both decisive victory and exhaustion are blocked
by outside intervention. Unlike the ancient problem of war, however, the

2 The rule of law was systematically implemented to serve as an incentive to business.

60

compounding of its evils by disinterested interventions is a new malpractice

that could be curtailed. Policy elites should actively resist the emotional
impulse to intervene in other peoples warsnot because they are indifferent
to human suffering but precisely because they care about it and want to facil-
itate the advent of peace. (Luttwak, 1999)

Whereas Luttwaks argument reflects on the failures of US foreign policy, involving

moral dilemmas, Tillys arguments can be utilized, albeit with strong limitations in a
world of growing economic interdependence and globalization. In the 21th century it
would be an oversimplification to reduce the states role to military protection, but the
logic of this argument can be applied and it can be developed further in the following
way: the modern state not only provides military security and protection but many
other kinds of protection, services (the rule of law, education, a health system, infra-
structure, separation of powers through a system of checks and balances: in other
words, democracy) which legitimate state-making and the existence of the state.

The attempt by Tilly to classify the activities of states seems to be outdated (especial-
ly looking at the European Union), but it can be adapted easily when analyzing, for
example, the Ukrainian conflict or looking at the break-up of Yugoslavia where even
today war and state-making seem to be integrated parts of the same process.
Anyway, the approach to find a correlation between the cost of activities (war-making,
state-making, protection, and acquisition of capital) and the organizational surplus to
be found in the state can also be utilized in our analysis.

Tillys original approach emphasized the connection between the making of wars and
the formation of states, however, this approach is not a novelty and as we can see it
is shared by contemporaries as well. This perspective can be traced back to
Machiavelli, Bismarcks iron and blood speech, and even to the Roman historians.
This approach utilizes the fear of enemy argument which points out that fear is the
most effective motivation in the formation and unification of a nation.

In the 21st century, however, it is more than obvious that protection of citizens is not
the only service provided by the state, and therefore an analysis must include refer-
ences to economic aspects as well. Even Tilly refers in his later work to other such
factors. In his Coercion, Capital and European states, AD 990-1992,3 he also incorpo-
rates the effects of economic globalization (Tilly 2000, pp. 5-6).

3 First edition in 1990, but published several times afterwards.

 61

In the case of Taiwan, the external military threat dominated the political debate for
decades. After the Kuomintang (KMT) government led by ROC President Chiang Kai-
shek fled to Taiwan, the countrys existence was under constant threat of attack by
the Peoples Republic of China (PRC). Instability in the region was a permanent excuse
for the implementation of martial law (since 1949) and a good reason for building a
qualitatively strong air force and navy. Over the decades following WWII, Taiwan
effectively could use these threats to build a competent state by implementing legis-
lation securing the rule of lawfirst in the business sector, and then after 1987 in the
political realm.

In the following part, this chapter provides an overview of the choices politicians
make in the course of state-building. The terminology being utilized in this sector
takes advantage of economics, looking at the public goods provided by states.

The general perspective to be found in the literature is that the greater the size of the
country, the greater the gains that can be provided in terms of public services. At the
same time, however, a large country has a reduced ability to provide the most optimal
selection of public services and goods for all its citizens. In addition to size, the other
important aspects on which the cost of public goods depends are the nature of the
political institutions, the openness of the economy, and the distribution of economic
gains.

Size. From an economic perspective, one of the most comprehensive literature

reviews is provided by Spolaore. He starts his line of reasoning with the impor-
tance of size, contending that larger nations spend less on their government and
the public goods per capita, whereas the coordination costs tend to rise in larger
states due to increasing heterogeneity. He argues it is less costly to provide public
services to a population of a large country because of the homogeneity of prefer-
ences which can be secured easier (due to economies of scale). But on the other
hand, there is also the assumption that the larger the country becomes, the more
heterogeneity of preferences can be found, along with increasing heterogeneity
costs. Thus there must be equilibrium between costs and benefits with regard to
the size of the nation or country4 . Based on this formal logic it can be concluded
that, when economies of scale become more prominent compared to heterogene-
ity costs, larger political systems are likely to emerge. In contrast, a drop in the
benefits from size or an increase in heterogeneity costs will bring about political
disintegration (Spolaore, 1996, p. 4). In other words: although theoretically, there

4 Needless to say that nation doesnt necessarily always coincide with country.
62

are clear economic gains of running a larger economy, in larger economies, the
political costs tend to rise. Russia and Brazil are clear examples of size alone being
no guarantee of running an efficient bureaucracy. Taiwanrather a small to mid-
dle-sized countryclearly chose the strategy of achieving economies-of-scale ben-
efits by relying on internationalization of its economy.

Nature of political institutions. What are the public goods, besides security? Public
goods or services of advanced, modern states include a well-functioning legal and
justice system, enforcement of human rights and rights of minorities, the provision
of public health services, high-quality education, good infrastructure, and protec-
tion against natural disasters. The provision of these services is dependent on
political institutions. When analyzing the East-Asian region, access to all of them is
only provided in democratic, open societies (South Korea, Taiwan), access to some
of them (public health care, infrastructure, education, protection against natural
disasters) is provided even in non-democratic but economically open societies
(China). Only a few of them can be accessed in totalitarian states with closed econ-
omies (North Korea). Therefore, it can be argued that the trade-off between costs
and benefits of the countrys size depends on the nature of its political institutions
(democratic or non-democratic). But how is a rationale to be provided for this? One
may reasonably argue that in authoritarian regimes, the preferences of the public
are much less important than in democracies, where governments want to be
re-elected and try to pursue policies which are more or less in line with the main
preferences of the public. That is the reason why the heterogeneity costs become
more important in democratic societies. Another line of reasoning is to be found in
Lipset (1959 p. 84), who argues that the general income value of a nation will also
affect its receptivity to democratic tolerance norms. Thus he connects democracy
and economic success; a contested idea, but he points out that only wealthy socie-
ties can indulge in a broad range of public services.

Openness of the economy. The trade-off between benefits and costs of the country
size depends on the nature of the political institutions as well, but it is clearly also
a function of a countrys openness and integration into the world economy. The
simple reason for this is that, because of the structure of the global economy, the
optimal size of the market today far exceeds the average size of national markets.
Globalization and economic integration have contributed to reducing the costs of
the maintenance of a small economy. After WW2, and in particular since the 1990s,
liberalization of international trade and investments have brought about a world
economic order in which small countries could prosper pursuing free-trade poli-
cies. The creation of the single market in Europe made an important contribution to
 63

this process. Needless to say that Taiwan is democratic and it has a very open
economy (e.g. economic cooperation with China) and both features could contribute
to reducing the cost of the small country size.

Geography. Alesina and Spolaore (1997 p. 1045) contend that the economic gains of
economic integration also depend on geography. Geography is one of the most
important factors of economic integration, since notwithstanding the shrinking
costs of communication and transport, these costs are decisive aspects of business
decisions. Being an island, Taiwan is in a very special geographical position; hence
economic cooperation with the Asian mainland (China, South Korea) and other
island nations (Japan, the Philippines) is more than obvious.

Distribution of economic gains within the nation. Bolton et al. attempt to contrast the
different models to explain the connections between political and economic inte-
gration while putting the emphasis on differences in income and wealth. (Bolton et
al. 1996 pp. 697-705) This work also reminds us of the question: who are the win-
ners and the losers of unification or separation? In a system where the decision on
sovereignty is taken through democratic procedures, the majority of the population
only votes for unification or separation if the benefits are clear (Bolton et al. 1996, p.
698). In the European Union, for example, because of the remaining differences in
income, wealth, governmental policies, and a huge variety of local advantages and
disadvantages, it is highly unlikely to find a common pool of the preferences of
European voters which could push countries forward towards European unification,
while on the other hand regions from Scotland to Catalonia want secession largely
because they think they can survive as part of the larger EU family. In the case of
Taiwan, the average voter in Taiwan will only support unification with China if they
clearly see economic and political benefits. (This is the economic point of view.) For
the time being, this is not the case. Moreover, over the past two decades, the dom-
inant identity in the country has been shifting more and more into one in which
Taiwanese elements dominate over traditional Chinese components of identity,
despite commonalities in language, traditions, etc. (This is the political point of
view.) It is no surprise that Taiwans developmental state model is one of the very
few which has been able to significantly reduce income inequality (Cski 2016, p.
76.) and thus the economic successes of the country have clearly contributed to
strengthening a discrete identity.

Distribution of economic gains among nations. The first scholar who pointed out the
benefits of international trade was Adam Smith at the end of the 18th century. This
approach was not disputed until WWII, which is not surprising because trade then
64

occurred mainly between different countries, and this trade was not comprised of
homogenous products.5,6 This is why the theory of comparative advantages can
explain international trade properly, and it can provide a rationale for the possible
effects of international trade.7 The international trade of the 21st century, however,
can no longer be explained by the simple theory of comparative advantages, which
mainly focuses on differences in resources, productivity, and labor. There are new
approaches which put an emphasis on other important considerations as well
(economies of scale, economies of scope, the emergence of global supply chains,
and the importance of state intervention, development policies, etc.)

The new trade theory of Krugman (2008 pp. 335-348) highlights the importance of
economies of scale and that of the intra-industry trade which mainly takes place
among advanced countries. The new trade theory can be interpreted as a compila-
tion of theories emerging after Krugmans ground-breaking work which focused on
monopolistic competition and increasing return to scale. Economies of scope or
efficiencies of product diversification can be utilized only when they are based on
common and recurrent know-how and technology.

The Porter model stresses external or economies of agglomeration, which can

derive from skilled labor, top infrastructure, local advantages, firm rivalry, good
governance etc. (Porter 2008 pp. 1-18).

The theory of comparative advantages and its modifications suggest an equal distri-
bution of economic gains of international trade in the long run. These new theories
underline the case for unequal distribution of economic gains, and as a result, these
approaches do not take an equilibrium process for granted. Another source of une-
qual distribution of gains can be explained by monopolies and protectionist trade
policies as well.

5 Colonized countries exported natural resources, agricultural products to advanced countries

whose exports consisted of industrial goods.
6 However, even in this period, there were policies, theories restricting free trade. Friedrich List and
Alexander Hamilton attempted to provide a general theoretical support for this approach.
7 However, after WW2, protectionist practices began spreading, in particular in Latin America, and
in the communist bloc. These countries attempted to build a broad industrial base relying on import-
substitution, on restraints of free trade, and on forced capital accumulation. The latter practice was
typical in Eastern European countries. After the collapse of the Soviet Union, and the economic trans-
formation and opening up of East Asian and Eastern European countries, free trade became the main-
stream approach again. Neoliberal trade policies spread across the world economy leading to the
substantial reduction of tariffs and other barriers to trade. Along with the return of free trade policies,
international trade has undergone a deep transformation.
 65

Sen (2010 p. 6.) puts the major change in the free trade doctrine like this: In the
meantime, the rigid framework of trade theory started being questioned from differ-
ent quarters. In a major departure from old trade theories, attempts were made in the
new trade theory (NTT) literature to introduce the scale economies in production. A
major point raised in these modifications included the impact of increasing returns to
scale on the pattern as well as on the mutual benefits from international trade.

According to this new interpretation of trade and capital movements, economic inte-
gration does not benefit every partner equally. This is an important lesson in the
assessment of the economic integration between Taiwan and China: If gains are not
distributed equally leading to diverging economic development paths in China and
Taiwan, the commitment to strengthening political cooperation may become weaker
and weaker.

2. Political Institutions of Taiwan in Light of Theories

Up to this point, this chapter has provided an overview of the theories dealing with
different aspects of state formation and dissolution. In this part, special attention is
paid to the potential effects of economic integration, in particular Taiwans growing
integration with China. From a theoretical standpoint, economic integration should not
necessarily push Taiwan towards political unification; moreover, special attributes of
economic globalization have only been increasing the differences between China and
Taiwan in terms of income levels, thus strengthening a separate Taiwanese identity.
But this is only one side of the coin, since the success or failure of a countrys political
order can be decisive in reinforcing national identity.

The success of a political order can be measured by different indicators, however,

theoretically, there are five important elements which matter in the long run:

the rule of law;

rapid economic growth;
democratic institutions;
a competent and efficient state bureaucracy; and
a vibrant, strong civil society.

Levy and Fukuyama (2001 p. 3) compiled this list of components that are crucial to
implementing a successful development strategy. There is a broad consensus on the
essential elements of a successful political order, however there is disagreement
66

over whether sequencing among these elements matters or not. While Mansfield and
Snyder are cautious about democratization without having an efficient (impartial),
relatively competent state-mechanism8, Carothers and Berman doubt whether get-
ting the sequence just right (first state-building before holding elections) is necessary
to reduce the risk of violence during the transition. (Carothers 2007, pp. 17-27; Berman
2007, pp. 14-47.) Along with Fukuyama, they argue that, aside from the East-Asian
examples, it is difficultalmost impossibleto break the self-reinforcing cycle
between autocratic political institutions and extractive economic institutions exploit-
ing most of the population. Fukuyama put is thus:

The problem, as Carothers points out, is that the number of cases where one
can find genuine development-minded autocrats is extremely small. Carothers
is also right that outside powers greatly overestimate their influence if they
think that they can somehow determine the sequencing of reforms. I would
simply add that virtually all the real cases of this kind of sequencing have
occurred in East Asia, where Japan, South Korea, Taiwan, and Thailand (at
least until the September 2006 military coup in Bangkok) have made demo-
cratic transitions, and where authoritarian governments in China and
Singapore have built impressive economic growth records. It is no accident
that these cases are grouped in East Asia. Many countries in that region had
long traditions of strong states with merit-based bureaucracies well before
they began modernizing. Confucianism is in part a doctrine about the state,
and it prescribes clear rules for bureaucratic authority and recruitment that
have provided a cultural foundation for the regions so-called developmental
states (Fukuyama, 2007, p. 10).

Based on the idea of sequencing, the crucial question which remains is: what are the
possible scenarios countries may face in their development? He delineates three
basic models, from which the Prussian/German sequencing is most akin to the
Taiwan and Korean development path.

In the Prussian/German sequencing, the first step was to build an efficient state
(step 1), which required bureaucrats who could rely on rules, and thus implemen-
tation of a system based on the rule of law followed (step 2). The two elements
prepared the stage for an economic take-off (step 3) around the end of 19th century.

8 Based on these findings, we argued that it is dangerous to push states to democratize before the
necessary preconditions are in place and that prudent democracy-promotion efforts should pay spe-
cial attention to fostering those preconditions. (MansfieldSynfeld, 2007, p. 5.)
 67

This might explain why in this example the state has had a much larger role in eco-
nomic development than in England. In the decades of economic boom, a new social
classthat of the workerswas emerging (step 4), demanding more participation
in the political system (step 5). As we know, it was only after WWII that liberal dem-
ocratic institutions could be stabilized in Germany.

The American society took a different path since the first element was rule of law
(step 1), which along with early democratization of the country (step 2) laid the
foundation for fast economic growth (step 3). Economic growth created strong
social mobilization (step 4), which supported state-building (step 4). As we can see,
state-building, which was the first stage in Prussia, came last in the United States.

At the same time, Fukuyama demonstrates that, in the cases of Greece and Italy,
social mobilization and democratization preceded state-building and economic
growth. This sequencing is detrimental to stability, however, if rule of law is not
implemented properly (Fukuyama 2014, pp. 198-216).

Using the terminology of Fukuyama, Taiwan belongs to those examples in which

state-building was step 1. The KMT government after 1949 installed itself as an
authoritarian regime on the island of Taiwan, implemented targeted policies to boost
economic growth (step 2), thus earning legitimacy among the citizenry. Economic
reforms which included land reforms, labor-intensive reforms, and substantial public
investments in education, created jobs. The early export-driven economy of Taiwan
not only made the country unique in the 1960s, but it also required foreign invest-
ments which would not have been attracted without a proper and reliable legal
framework, so the implementation of the rule of law became step 3. Economic growth
was able to generate a massive social mobilization of society (step 4) leading to
democratization of the country after 1987 (Levy & Fukuyama 2001, p. 14).

3. Implications for Taiwan

Basically, there are three traditional schools of thought offering answers for how
economic and political integration of the Taiwan Strait are connected (Chao 2003, p.
280).

(1) The cultural integration theory stresses the salience of language, the relevance of
culture, and the importance of shared customs and traditions. This school basically
states that the unification of two countries is a process which logically follows from
68

the dominance of cultural forces. The view which puts an emphasis on culture has a
long tradition in the political sciences. After the collapse of the Soviet Union,
Huntington contended that the majority of political conflicts would emerge from cul-
tural junctures, while political and economic causes would be less important in the
future (Huntington 1997, p. 20). Culture and language are inevitably important ele-
ments of national identity. There are arguments to the contrary as well, however.

A handful of European examples vividly demonstrate that different national identi-

ties can evolve in a very short period of time, from which it follows that they are not
necessarily linked to culture and language, which are more constant variables.
Austria, Scotland, Ireland, Switzerland: these countries have each shared a com-
mon language with another nation. Needless to say, there are some Eastern
European countries, too, where different national identities can hardly be explained
by the trifling linguistic, cultural, or religious differences that exist between specif-
ic ethnicities. Although the nations of the former Yugoslavia have much more in
common than they have differences, the Yugoslav Wars of the 1990s largely
revolved around issues of identity. That is why it can be argued that clear cultural
similarities between the Chinese and the Taiwanese will not inevitably lead to uni-
fication.

The term culture also includes the political culture of any given society. In this
respect, after the transition of the early 1990s, Taiwan has developed democratic
institutions and a democratic political culture as well. So today, Taiwan and China
have entirely different (political) culturesindeed, it can be argued that the two
countries can be found at opposite ends of the political spectrum. Chao puts it like
this: From Taipeis perspective, the contrast is culturally reinforced by the more
participant political culture emerging in Taiwan, as opposed to the subject political
culture that is still dominant in the PRC (Chao 2003, p. 291). As mentioned before,
China still has to accomplish some remaining stages of political development (dem-
ocratic accountability, rule of law, and strong civil society) which had already been
accomplished in Taiwan in the 1990s.

(2) Another line of reasoning highlights that being a rising economic and political
power, China would weaken smaller Asian nations and countries of the Asia-Pacific
region and make them increasingly dependent on its good graces. This political-inte-
gration argument assumes that the inevitable rise of China will continue in terms of
political, economic, and even military potential. No doubt, the key issue is the eco-
nomic development of China. There are three basic dilemmas arising in this context.
 69

The first dilemma is whether the rise is indeed inevitable. In the 1990s and onwards,
the Chinese economic strategy was to base growth on cheap labor, however, once
this strategy became successful, income levels rose. Despite the vast regional
income differences, China became a middle-income country; therefore, it must find
new competitive advantages, which is not easy while facing problems generated by
an aging society, growing social unrest, weak rule of law, and political tensions
caused by surging social inequality.

Even though the answer is yes, another question still remains: Is it certain that this
economic rise or solid economic strength will lead to unification, or are there ele-
ments which will slow down or stop the rise of China? In other words, when it
comes to identity, is it the economy that matters? Earlier examples can be pointed
out where the rise of a political power did not impede secession. (See Russia-
Ukraine, Germany-Austria, Czech Republic-Slovakia.)

The third dilemma is that economic theories do not support the concept of political
integration/unification stemming from an increased level of economic integration
due to the increasingly unequal distribution of economic gains among economic
partners.

(3) The third school of thought stresses the relationship between economic and polit-
ical integration. The argument, initially formulated by Haas, points out that economic
integration (such as a customs union) creates new political and economic pressures
(spill-overs) for further economic integration. According to the Neofunctionalist
School, economic integration would ultimately spill over into political integration. In
the case of the Taiwan Strait, it is more than obvious that the spill-over mechanisms,
which are able to describe the European integration process of the 1960s, are not at
play. It is partly because of the lack of a customs union between Taiwan and China, but
also because the historical framework is very different. After WWII, tensions between
the two countries were attributed to the principle of indivisibility of sovereignty. Under
these circumstances, the delegation of sovereignty that was an inherent element of
the European integration process would not be conceivable in the Taiwan Strait, even
today. Haas (1961, p. 368) defines spill-over as: policies made pursuant to an initial
task and grant of power can be made really only if the task itself is expanded, as
reflected in compromises among the states interested in the task. Can these com-
promises be realistically achieved by the two states involved?

None of the above-mentioned theories can offer a proper explanation as to how the
mechanism of economic cooperation between the two countries might affect political
70

integration in the long run. None of them can reliably predict how this process affects
the question of unification vs. independence, and each of them is loaded with over-
simplifications. But what then are the realities which influence the China-Taiwan rela-
tionships?

1. Economic cooperation with China: there is a growing economic cooperation or inte-

gration between the two countries, in particular in trade and investment. Since
2011, the Economic Cooperation Framework Agreement (ECFA) between the PRC
and the ROC has boosted trade and investment relations. This successful coopera-
tion has been one of the reasons why Taiwan, relying on Chinas rapid economic
growth, could avoid falling into severe economic recession after the Global
Financial Crisis of 2008-2009. However, despite growing cooperation, the two econ-
omies have complementary structures, which enable them each to reap some of
the benefits of economic cooperation. But this builds on the mobility of capital and
the mobility of goods much more than on the mobility of labor and services. So it is
far from being a full-fledged economic integration similar to the one that led to the
European Union.

The other side of the coin is economic cooperation with other parts of the world,
where the need for diversification has been growing, however, economic policies
aimed at diversification are thwarted by the One-China principle.

2. The size of the Taiwanese state/country.

a. Military aspects: As mentioned earlier, according to the literature, the greater the
size of the government compared to the population, the costlier it is to build a
standing army. At this point, Tilly refers to Brandenburg-Prussia which had been
a very homogeneous country. This aspect is certainly relevant for Taiwan,
because its army is relatively strong compared to the size of its population. how-
ever, the assistance of the United States has significantly contributed to counter-
balancing China which helped reduce the costs of the strong army. While the end
of the Cold War theoretically reduced the risk of military conflict between Taiwan
and China, in recent years the political and economic rise of China and the US
policy aimed at containing China in the Asia-Pacific region, have led to mounting
tensions in the region. (See 19951996 Taiwan Strait Crisis and the territorial
disputes in the South China Sea). Neither will the lower level of conflicts bring
about unification automatically: It only offers a peaceful way of settling contro-
versial issues between the two parties.
 71

b. Economic aspects: The greater the extent and range of protection provided by the
state to its citizens, the costlier it is to maintain the system. According to the
Index of Economic Freedom, ROC government spending reached only 20.7 per-
cent of gross domestic product (GDP) in 2014. The size of the central government
in Taipei is very limited, especially if one considers the development of the econ-
omy. (Advanced economies usually have a much higher level of government
spending, however Taiwan fits well into the group of fast-growing East-Asian
countries [Singapore, China, Philippines, Indonesia] where the state is relatively
small.)

3. Homogeneity vs. heterogeneity. According to the above-mentioned theories, the

more fragmented the country is, the easier it is to conquer the political entity.
Democracies usually do not have difficulty maintaining coherence in terms of soci-
oeconomic homogeneity, which can be measured by the Gini-indicator, and other
indicators which cover application of the rule of law, the extent of social security
and social protection, etc. Taiwan has achieved a high socioeconomic homogeneity,
particularly if one takes into account how small the Taiwan state is. The country is
economically a more equal society where democracy secures the diverse public
services and goods provided by the state. Therefore, he central government is the-
oretically able to pursue policies which are close to the preference of the voters,
while liberalization in world trade and investment flows reduce the costs of running
its relatively small economy. These factors clearly give a boost to those who oppose
any kind of future unification scenario.

4. Resources. The smaller the scale and scope of the resources to tap, and the more
closed the economy is, the costlier it is to maintain state activities. In the case of
Taiwan, it is obvious that its open economy can offset the negative effect of the
scarcity of natural resources (land), and the scarcity of energy reserves (oil, gas,
coal, etc.). It is no surprise that Taipeis economic policy aims at maintaining the
economic openness of the country. This can be backed up by statistics as well:
according to the Index of Economic Freedom, Taiwans is the 14th freest economy in
the world.

5. Democratization and Openness: Key Elements of Success

To sum up, Taiwan today possesses all the economic, political and cultural character-
istics needed to function as a full-fledged independent country. This is no surprise, as
the country has been de facto independent since 1949, however, this full independence
72

belonged to a political entity which claimed to be representing not only Taiwan, but
also the entirety of China.

The ROC lost its UN seat in 1971 and the diplomatic recognition of the PRC by most of
the worlds countries (due to their adoption of One-China Policies) was a backlash for
Taipei. The change could be interpreted as a shift into worse conditions, hence room
for political and economic maneuvering has been constrained, however it also pro-
vided an opportunity to form and crystallize its own political and cultural identity, the
Taiwanese identity, necessary to form a stable political entity.

Chinas economic rise which began after 1978 put pressure on Taiwans leadership to
democratize their country. Taiwan benefited from this in various ways: not only did
the countrys international reputation grow considerably more positive, but the polit-
ical system became very stable, thus establishing a very strong legitimacy for the
countrys political system. Based on the theories presented in this chapter, this legit-
imacy is not only very strong, but sustainable. The road to this democratic system (in
other words: sequencing) may be reminiscent of the Japanese or German paths, how-
ever there was an important difference: Taiwan never became involved in violent
wars over the course of its nation-building. The establishment of a competent state,
and the implementation of rule of law, created a favorable environment for inclusive
economic growth, which led to democratization of the country and the birth of a
strong civil society. These components make up a very strong foundation for Taiwans
political order.

In 2016, the DPP won the presidential and legislative elections in Taiwan, thus political
forces with a leaning toward independence of the country will be managing relations
with China in the near future. The new foreign policy seems to want to reinforce the
Taiwanese identity. On 1 August, 2016, ROC President Tsai Ing-wen became the first
leader of Taiwan to issue a formal apology to the indigenous peoples of the island. If
we wish to declare ourselves as a country of one people, we need to face these his-
torical facts. We have to face the truth, Tsai said. 9 This action was a clear method of
reinforcing a Taiwanese identity as an integral part of long-term foreign policy, which
is tied to a democratization strategy.

As can be concluded from this article, peaceful times basically do not favor the crea-
tion of larger politiesin this case, cross-strait unificationsince economic

9 http://www.npr.org/sections/thetwo-way/2016/08/01/488250700/taiwanese-president-issues-
countrys-first-apology-to-indigenous-people
 73

integration (globalization) can offset and reduce the costs of running smaller econo-
mies and countries. Economic globalization doesnt lead Taiwan back to the One-
China state solution, as many either fear or hope that it does. Moreover, economic
globalization and deeper economic cooperation with China doesnt support economic
convergence between the economies, but more analysis based on statistics are
required to back up this theoretical approach.

Summarizing basic elements of a tenable strategy reinforcing the stability of political

order and continuing the economic successes of the country are further democrati-
zation, economic opening, and at the same time diversification of the countrys econ-
omy. These are also components of a strategy which enhances political legitimacy
and reduces the costs of maintenance of a small country.

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Miracles Do Happen: Post-War Economic Development
inTaiwan

Dean Karalekas

In 1949, the government of the Republic of China (ROC) lost to the Communist forces
they had been fighting in the Chinese Civil War. They had been routed and fled the
Chinese mainland to establish a beachhead on the island of Taiwan, which just four
years earlier had been ceded to Allied Forces by Japan after its loss in World War II,
and taken over by the ROC Army. The aim was not to rebuild the country, or the soci-
ety, as was happening elsewhere after the destruction of WWII: rather it was the goal
of the Kuomintang (KMT) regime, led by Chiang Kai-shek, to retake China by force.
Thus, rather than channeling resources into development of the economy and the
infrastructure of the island, resources were funneled into the military, for the eventu-
al big push across the Taiwan Strait.

The economic situation in the post-war period was dire: not only did the people of
Taiwan have to contend with being under the yoke of a new colonial powerone that,
unlike the Japanese before them, did not consider Taiwan a model colony and seek
to foster economic and social growth, but rather to use what resources the island had
available as a means of achieving the real prize: control of China. Inflation was high,
resources were dwindling, and the carpet-bagging ROC officials now ruling the island
were corrupt and brutal (Rubinstein, 2013, p. 37).

The events of the 228 Incident of February, 1947 and the decades-long period of mar-
tial law, known as the White Terror, will not be described in great detail in this chapter,
though they are worth mentioning as they defined the condition of state-society rela-
tions for most of the early decades of KMT rule over Taiwan, and help to explain how
the regime of Generalissimo Chiang Kai-shek could exert such complete control over
the economy and the social institutions in order to achieve its developmental aims. By
the end of the 228 revolt, at least 10,000 had died, and KMT rulers came to realize that
changes would be necessary, especially in terms of land reform, to placate the peas-
antry and avoid a repeat of the communist uprising that had taken place on mainland
China. (Tai, 1974, p 87).
78

Moreover, it must be remembered that, especially in those early days, it was not the
intention of the KMT regime to administer Taiwan as a state so much as use it as a
convenient staging point for an invasion to retake the mainland. The United States
tried to disabuse Chiang of this plan, and President Harry Truman withdrew support
for the KMT regime in order to passively allow State Department predictions of a
communist victory over Chiangs forces on Taiwan to be realized (Christensen 1996:
107). When war broke out in Korea in June 1950, US support for the KMTs and other
anti-communist efforts gained renewed fervor, and Chiang was once again seen as
an ally. Truman dispatched an aircraft carrier group to the Taiwan Strait, and the
United States formally became the protector of the Republic of China (ROC) on
Taiwana distinction it continues to hold to this day. Taiwan, in turn, became
Washingtons forward listening postas well as its proverbial unsinkable aircraft car-
rier, should it ever come to a shooting waragainst the newly formed and newly
hostile Peoples Republic of China (PRC).

A large part of this alliance consisted of a foreign aid initiative conducted along mul-
tiple fronts (economic, as well as military) that would prove to be Americas most
successful post-war reconstruction effort. Conditions in post-war Taiwan were, like
those in South Korea, amenable to strong state intervention in economic development
and the successful adoption of the developmental state model. These conditions
include the presence of a bureaucratic tradition able to implement policy; a power
vacuum created by the elimination, by the recent war, of the states previous power
elite; the existence of unresolved security threatswhich, in the case of both Taiwan
and Korea consisted of unresolved civil wars; and finally a cultural commitment to the
bourgeois legal order and belief in the concept of private ownership of property (Woo-
Cumings, 1998, p. 336).

Much of the success of the Taiwan example lies in the approach taken, wherein devel-
opment was conceptualized as a step-by-step process, and one taking years if not
decades, as opposed to the efforts in other, less-successful developing nations to skip
some of the steps in the process. The economic transformation that resulted came to
be known as the Taiwan Miracle, and is generally seen to have consisted of three
phases, namely import substitution, an export-oriented industrial strategy, and high-
tech development. According to Rubinstein (2013), these can be joined by a fourth and
final phase marked by the opening of economic relations and technology transfer to
China.

A large part of the credit for the economic development in Taiwan must go to the
Taiwanese economists and technologists who had gone abroad to study, eventually to
 79

return home, bringing their Western-educated knowledge and expertise with them.
Many, if not most, of these individuals settled on the United States as their destina-
tion, although countries including Canada, the United Kingdom, and others factored in
as well, exemplifying how ethnic networks can facilitate transnational business and
technology cross-fertilization (HsuSaxenian, 2000).

The motivation is not hard to imagine: in the 1950s and 1960s, Taiwan was not an ideal
place to make a living or raise a family: incomes were low, and the KMT government
was still in an ideological, if not actual, battle with the CCP across the Taiwan Strait,
giving many the impression that the future did not bode well for the islands people.
Those who could get out, therefore, sought their fortunes overseas, and the KMT
government in 1960 initiated a selection process for which students it would allow to
travel to the West to seek higher education. This policy did not accrue immediate
benefits, however: as the situation in Taiwan continued to resist significant improve-
ment, and America remained a better and more comfortable option, many of the stu-
dents sent to the United States to study chose to remain there, often settling down
and starting families, in addition to careers. They began to identify with the freedoms
they enjoyed in the USA, and which had been denied them in Taiwan. By the 1970s and
1980s, as economic conditions began improving in Taiwan and the political environ-
ment began to relax after Chiangs death, many of these expatriates started to return
to Taiwan, often to take up positions in academia. They brought with them Western
ideas about how a good polity should look behave, and these ideas began to spread in
Taiwan (Lynch, 2002, p. 563).

Eventually the government began leveraging the expertise of these technocrat return-
ees, sometimes in the form of civil-service positions, but mostly in an advisory capac-
ity (Cheng, 2014, p. 155). Given their choice of destinations, as well as the ideological
conflict the ROC was embroiled in with the Communists, it is little wonder that they
returned home with a strong belief in the market economic system and an inclination
toward liberal economic theory. In contrast to the way the KMT regime was operating
at that time, these returned scholars advocated small government, free markets,
fewer state controls, and privatization of industry (Yu, 2002, p. 22).

1. Import Substitution

Most of the literature on Taiwans economic development is in agreement that the

period leading up to 1958 was the period during which the islands import substitution
phase dominated, when the KMT government instituted strong control measures in
80

an effort to stabilize prices (Chen and Ku 1999: 79). The government consistently
found itself short of foreign currency during the decade of the 1950s, making it diffi-
cult to import raw materials. Draconian control measures would remain in place until
1965, with high tariffs that curtailed the demand for goods, forcing consumption down
and savings rates up. The government expenditures on building the ROC military
meant there was relatively little spent on health care and education, but these and
other basic needs were largely being met on Taiwan by the missionary doctors and
teachers of the Protestant and Catholic churches, whose missions had been expelled
from China after the Communist revolution and were now relocated to continue their
works in places such as Free China (Madsen, 1998, p. 69). These missionaries, in con-
junction with US aid workers, established programs to train industrial workers who
were better able to contribute to the further industrial upgrading of the island (Gold,
1986, p. 113).

To aid in this import substitution effort, the Four-year Plan for Attainment of
Economic Independence in Taiwan was drafted in October, 1952 with the following
goals:

An annual increase in the production of rice, sugar, and agricultural products, as

well as a hike of foreign exchange earnings through the export of some of such
products, contingent upon sufficient US aid being made available;

Annual cuts on imports of industrial products through development of domestic

production of power, fertilizer, and other commodities;

Decreasing imports and increasing exports to the point where balance of payments
would be feasible without US aid;

Increasing government revenue (through increased agricultural and industrial pro-

duction) to the point where a balanced budget could be achieved without further US
aid.

The economic control measures instituted to meet these goals included control of
trade: in addition to import controls, control of exports was also put in place in 1949,
with the adoption of 3 categories of exports: controlled, prohibited, and permitted
under special circumstances. Given the dearth of resources, anything that could be
put to use in Taiwan, especially for the benefit of the war effort that was to come,
could not be exported. Imports, meanwhile, were split into 4 categories: permitted,
suspended, controlled, and prohibited imports. Priority was given to imports for
 81

production-related raw materials, which included equipment and fertilizer. The items
in the controlled category remained enforced until the 1970s. In addition to these
controls, a multiple exchange-rate system, high tariffs and licensing of industrial
activity led to a high rate of substitution by private consumer goods manufacturers
(HaggardPang, 1994, p. 69).

The decade of the 1950s was very much one of rebuilding, and for that the aid and
advisors provided by the United States was key. This assistance did not come without
a cost however: Americans insisted on being brought into the process, as almost
equal partners, in all aspects of decision-making. Moreover, these US advisors were
not sanguine about the KMT practice of party ownership (and ownership by party
ideologues, which amounted to the same thing) of key industries, which had been
given to the party officials after these enterprises had been seized from the departing
Japanese. US aid allowed the KMT to build a large standing armyin its plans, one
ready to retake the mainlandwithout it being a burden on the economy, although
Formosan nationalists still perceived this military build-up as a needless drain on the
development effort (Amsden 1979, p. 349).

The Joint Commission on Rural Reconstruction made the agriculture sector the prime
focus of its efforts. At the behest of the United States, the Chiang regime launched an
extensive land reform effort consisting primarily of the public land sale program in
1951 and 1953s land-to-the-tiller program (Tai 1974: 88). In the latter, tenant farmers
were allowed to purchase the land they worked at a reduced rate, and with a rent
ceiling of 37.5 percent of the projected years harvest. A restriction on the size of
landholdings meant that large landowners were forced to sell most of their farmland,
and in exchange the government issued stocks in new industrial ventures worth 2.5
times the value of the lands expected annual yield. This had the effect of securing
funds for industrial development projects, which would eventually make rich men of
the local gentry, though it would remove them from the source of their power and
influence: their land, thereby creating a power vacuum at the local level that was
relatively simple for the KMT to fill (Dickson, 1996, p. 46). By emasculating the land-
owners and putting land ownership into the hands of the farmer, the KMT managed to
forestall the sort of peasant uprising that was so successfully manipulated by the
Chinese Communists on the mainland, and thus it allowed the KMT to penetrate soci-
ety and make political inroads into the islands towns and villages in the south of the
island.

It quickly became obvious that infrastructure development, beyond what had been
accomplished during the Japanese tenure, would be needed if Taiwans industrial
82

development was going to be a success. Taiwans first railway had been completed in
1893, during the era of late-Qing investment in the island that historians argue marks
the beginning of Taiwans entry into the modern age (Alsford 2015, pp: 69-70). Just
two years later, the island would be ceded to Japan, which continued the moderniza-
tion and industrialization to a remarkable degree. Nevertheless, by the time the KMT
began its industrialization push, Taiwans infrastructure would have to be developed
both physical, in terms of rail lines, roads, and ports, as well as human infrastructure.
New highways, railways, and other major projects would have to be built, which
required concrete and steel and other construction materials, as well as the kind of
engineering and managerial expertise that could accomplish the task.

The policy was a success. More than 40 percent of Taiwans imports came from the
United States during the decade of the 1950s, although less than 10 percent of its
exports went thereJapan, instead, being the major beneficiary of Taiwan exports,
most of which were agricultural. By the time the import substitution period ended in
1958, gross national product (GNP) had risen by 56 percent over its 1952 valuation
(Baldwin, ChenNelson, 1995, p. 5). Slowly, quality of life in Taiwan began to improve
for the people, and there arose a strong demand for consumer goodsthe type of
goods that could not be imported, lest a trade deficit result.

Government planners sought to promote industries for the production of goods for
domestic consumptionin addition to exportin order to meet such demand, but
there was intense pressure from the United States, whose aid money was financing
this effort, to privatize such industries (Cheng, 2014, p. 155). Thus it came about that
loyal individuals were given control over the state industries taken over from the
Japanese, in effect creating a class of business magnates. This, plus the investment
of former landowners in start-up ventures through the land reform project, led to a
strong private sector which nonetheless operated largely in conjunction with the
state.

2. Export-Oriented Strategy

The import substitution phase lasted until 1958, at which point the government shift-
ed to an export-oriented economic strategy (ChenKu 1999, p. 79). The policy of
import substitution had begun to prove successful by the late 1950s, along with a
degree of privatization of industry that the American advisors had been pushing for,
but the governments enormous military expenditures had led to a continued budget
deficit, and without the achievement of a military force yet capable of launching a
 83

successful invasion of China. US advisors, keen to bring an end to the ROCs continued
reliance on aid, pushed for a new strategy, and a new agreement between the two
countries. For one thing, they insisted that the Chiang regime give up its goal of retak-
ing the mainland, and thus the military development that was creating such a budg-
etary burden. In late 1954, the two countries signed the Sino-American Mutual
Defense Treaty, which effectively solidified Americas role as the ROCs security guar-
antor, allowed the KMT regime to reduce military expenditures, and arguably prevent-
ed either side in the Taiwan Strait conflict from taking over the other for the next two
decades (Rubinstein, 2013, p. 31).

In addition to the security aspects of the relationship, the United States insisted on
economic changes as well, especially as regards the governments strong control
over the economy. In order to push the KMT to permit further liberalization and free
enterprise, the United States announced the impending end of US aid. In late 1959, the
chief of the US aid mission to Taiwan, Wesley C. Haraldson, put forward a series of
proposals on how the island could build an export-driven economy. These proposals
came to be known as the 19-Point Plan, and they made up the meat of the govern-
ments third (1961-1964) Four-Year Economic Plan. Eight main goals dominated the
proposal: 1) reducing, or at least not increasing, military spending; 2) adopting non-in-
flationary fiscal and monetary policies; 3) boosting private sector investment through
tax reforms; 4) adopting a realistic exchange rate; 5) liberalizing trade and exchange
controls; 6) inaugurating a utilities commission to oversee utilities pricing; 7) reorgan-
izing the banking system; and 8) the selling off of public enterprises to the private
sector, as well as minimizing the governments participation in economic activities in
which private enterprises could compete (Jacoby, 1966, pp. 134-135).

The plan was a trade-off: one the one hand, the Chiang regime gave up its dream of
retaking China, which had been responsible for keeping the ROC economy on essen-
tially a wartime footing since 1937 (Hsiao & Hsiao 2001: 359). On the other, it laid the
foundation for the impressing economic growth that would come to be known as the
Taiwan Miracle. The Americans were content, as the plan addressed many of their
concerns regarding state control (even though many of these points were less than
fully realized), and ROC planners benefited from building an economy that occupied a
more essential position in an increasingly internationalizing production chain, not to
mention the benefits accrued from a security alliance with the United States.

Taiwan had become an attractive place for US-based corporations to relocate at a

time when rising labour costs and taxation was making their survival on US soil far
more difficult. Textile and clothing manufacturers, as well shoemakers found great
84

success by relocating to Taiwan through a focus on OBM, or original brand name

manufacturing (Gereffi 1999, p. 56). While the high-end brand name version of their
products were designated for export, local Taiwanese benefited from access to off-
brand variants that were available on the local market.

As the economic reform effort proved successful, Taiwans economic growth was
hailed as a victory for the liberalization of developing economies, and for development
strategies that hinged on private enterprise and free institutions. In 1965, the Agency
for International Development (AID) announced that Taiwan had become the first
country to graduate from the need for developmental aid provided by the US foreign
assistance program, having amounted to one-and-a-half billion dollars since 1950. In
fact, the achievement was largely due to a strong hand by the state in effecting indus-
trial growth through the control of private resources (Cullather, 2001, p. 244). In other
economies, government intervention may be reserved for the purpose of shoring up
market failures, whereas in Taiwan the state took an active role in creating markets,
as well as infrastructure development.

Indeed, economic growth was so successful that, by the decade of the 1970s, Taiwans
infrastructure had once again become insufficient to support increased levels of pro-
duction, and it became obvious that new industries would have to be created in order
to provide the types of materials needed for expansion of the infrastructure and con-
tinued industrial growth. The transportation systems, ports, and power generation
and distribution systems could barely accommodate the islands fervent economic
activity, and so ROC planners set their sights on ameliorating those deficiencies,
launching the Ten Major Construction Projects.

Although the project did address the local markets growing need for semi-finished
products, especially refined oil and oil by-products that could be used in the textile
sector, the plan was primarily focused on improving the transportation capabilities to
and around the island. This includes the construction of wide north-south highways,
expanded port facilities that could accommodate vastly increased shipping, and a
modern international airport to service the capital Taipei. It also built nuclear power
generators to meet the increased demand for electricity in the homes and factories
of the nation.

The Ten Great Construction Projects, as well as the overall Export-Oriented Strategy,
had proved successful by the mid-1970s, leading to economic growth, increased per-
sonal and national wealth for the Taiwan people, and a better standard of living on the
island, helping the people of Taiwan to weather the global oil crisis that was
 85

debilitating other nations at the time (McBeath, 1978, p. 314). In addition to providing
the infrastructural development needed to support economic and industrial develop-
ment on the island, the Ten Great Construction Projects were used to great propagan-
distic effect, demonstrating to the people (on both sides of the Taiwan Strait) that the
ROC-led government was a capable steward of the economy at a time when China
was feeling the devolutionary effects of the Cultural Revolution and the world at large
was reeling from an oil crisis. Closer to home, the legitimacy of the KMTs authoritar-
ian regime was being assaulted by diplomatic setbacks, such as being derecognized
by a number of countries and losing the China seat in the United Nations to Beijing in
1971, and the regime needed a win to prove to the people that its form of government
remained the best option for Taiwan (Ho 2011, p. 284).

3. High-tech Development

From the late 1970s to the early 1990s, Taiwans economy faced new and more com-
plex challenges, thus requiring new and more complex solutions. In many ways, gov-
ernment planners were having to deal with their own success in building the economy
to this stage, including the growth of a powerful private sector, as advocated by the
Americans yet resisted by the government. Moreover, there had been a power transi-
tion in this era, with Chiang Ching-kuo, the son of Chiang Kai-shek, taking over as
president in 1975 after the death of the generalissimo. The younger Chiang had very
different ideas and skills than his father, and he surrounded himself with advisors
who were believers in the free market and less enamored of the more statist
Keynesian approach preferred by the previous generation. They touted the continued
privatization of Taiwans economy, especially as regards development of the
Information Technology (IT) industry.

A major factor in the growth of Taiwans computer and semiconductor manufacturing

powerand this sector taking a central role in the overall economycan be attributed
to the 1973 founding of the Industrial Technology Research Institute (ITRI). Technically
a non-profit high-tech research and development body, ITRI is essentially a branch of
the Ministry of Economic Affairs (MOEA) designed to serve as an incubator for IT com-
panies, some of which would go on to become Taiwans (and some of the worlds)
largest IT manufacturers (Rowen & Miller 2007: 109). These include such giants as
Taiwan Semiconductor Manufacturing Company (TSMC) and United Microelectronics
Corporation (UMC), among many others. The latter company illustrates the operation
of ITRI and how it was so successful in ushering in a new era (and a new technolo-
gy-based economy) in Taiwan: Executives of the American technology firm RCA, which
86

had had operations in Taiwan since the 1960s, agreed to a technology transfer agree-
ment with ITRI for the formation of joint venture company (UMC) to produce chips to
be used in consumer electronic products. This venture would be jointly owned by the
state, at 44 percent, and the private sector, at 45 percent (Meaney 1994, p. 178).

The institute itself is today housed at the Hsinchu Science-based Industrial Park,
which was launched in 1979 to serve as a home for the locally-grown high-tech
industry. It will come as no surprise that Silicon Valley served as the inspiration for
the park, as the famous California tech hub was responsible for much of the brain
drain that Taiwan was experiencing (Li et al. 1995, p. 180). The nearly 600-hectare
parka project that took ten years and half a billion dollars to buildoffered invest-
ment incentives and a comfortable living environment for tech-savvy engineers and
entrepreneurs in a place where corporate R&D and university science and technology
departments could benefit synergistically from cross-pollination of ideas and have
access to state-of-the-art equipment. More importantly, it served as a draw to
Taiwans technologists and engineers who were trained in Western universities and
experienced in the running of Western tech companies, bringing these experts back
home as it were, to lend their knowledge and experience to the building of the Taiwan
economy even as they built better lives for themselves and their families. In a place
where their Chinese language proficiency could be leveraged, they had more oppor-
tunities to manage or perhaps own their own tech firms, and they could earn a salary
that put them among the top tier of earners in Taiwan (Hsueh et al, 2001).

As this economic phase progressed, there were changes taking place in Taiwan cul-
ture and politics. In addition to engineering a tentative opening to China, primarily by
allowing people from Taiwan to visit family members across the strait, Chiang Ching-
kuo initiated an end to martial law. According to a popular way of telling the story; he
was on his deathbed, and did not want to die a dictator. Moreover, the ameliorating
economy had created a thriving middle class, and thus an increasingly active civil
society, pushing for more and greater freedoms (Hsiao, 2013, p. 219). No longer did
Taiwans people have to emigrate to the West in order to build a better life for their
families; they were building one in Taiwan. Nevertheless, Taiwan was losing the dip-
lomatic war with China on the international stage, and fewer and fewer nations rec-
ognized the ROC, with more switching recognition every year.

At the same time, China was opening its economy to the world, and seeking to learn
how to do business with the West. By the late 1990s, Western businesses were flock-
ing to China, initially with dollar signs in their eyes, imagining a billion-strong market
for their products. Most often, the attempt to crack open the Chinese market was
 87

deflected into agreements to relocate their manufacturing operations there. As the

world got China fever, Taiwan businessmen decided to get in front of the trend, reason-
ing that their proficiency with the language and the culture would give them a leg up.

4. Technology Transfer to China

Most stories about the Taiwan Miracle end here, with the success of the IT economy
and the growth of chipmaking in Taiwan. But every story must have an ending, and if
there is any end to the story of Taiwans economic growth, it is with the opening of
economic relations with China and the attendant transfer of knowledge, technology
and whole economic sectors across the strait. According to Rubinstein (2013), this
stage is a continuation of the previous stage, with the same tech companies that
made the island a global leader in the computer industry moving their manufacturing
operations to China, and thus contributing to the meteoric economic rise in that coun-
try as well.

While the ROC government initially banned Chinese imports and exports, there was a
thriving illegal trade taking place, often transhipped through Hong Kong (Fung, 1998,
p. 176). By the mid-1980s, much of this trade was legalized, and by 1987, concurrent
with the lifting of martial law, Taiwanese visiting China on the aforementioned family
reunion plan also had the effect of allowing Taiwanese businessmen to assess the
viability of investment opportunities on the mainland.

In 1990, as the flow of investment and technology to China accelerated, the govern-
ment put measures in place in an attempt to regulate such flows, requiring that all
investments valued at US$1 million and over be registered with the Investment
Commission of the MOEA, as well as prohibiting investments in certain valuable sec-
tors, such as high-technology semiconductor manufacturing, in an attempt to fore-
stall the hollowing out of those industries in Taiwan (Fuller, 2008, p. 241). To further
mitigate the transfer of such technology and capital, ROC President Lee Teng-hui
initiated such investment policies as 1994s Go South policy, aimed at boosting
investment in southeast Asia as opposed to putting all the economic eggs in the China
basket, and the No Haste, Be Patient policy two years later, intended to give Taiwans
tech industry time to move up the value chain even as the lower end of the industry
moved its locus across the strait (Tanner, 2007, p. 46).

Efforts by the ROC government to steer outgoing investment away from China were
fighting an uphill battle. In China, the central and provincial governments had
88

developed incentives for foreign investmentand foreign investment was largely

code for investment from Taiwanthat included tax breaks, investment fairs, and
the establishment of industrial zones in coastal areas such as Fuzhou and Xiamen. By
the end of the decade, only about half of the computer products produced by Taiwan
firms were still being manufactured in Taiwan (Chase et al 2004, p. 8).

At this point it is important to clarify just why it was so important to ROC government
officials that the breakneck pace of economic investment in China be slowed. For one
thing, it was beginning to look as of Taiwan was concentrating its investment overly
heavily in one placenever a secure investment strategy. More importantly, however,
the ROC and the PRC wereand arestill in a state of hostility. While the KMT regime
had long ago given up on its desire to retake the mainland, the government in Beijing
was still very keen to annex Taiwan. To them, it was the one remaining loose end from
the Chinese Civil War, and while successive leaders chose to push the problem down
the road, and none was particularly keen to pay the price in equipment, money, and
lives it would take to invade and occupy Taiwan, none wanted to be the leader who
lost Taiwan in the eyes of the Chinese populace.

The plan instead was to conceal abilities and bide time, quietly building up Chinas
economyand from thence, its militaryand convince the region of its intention to be
a good neighbour (hence the policy of the same name) and a responsible interna-
tional stakeholder, using buzzwords such as peaceful rise. Even many Western ana-
lysts were convinced that a new day was dawning in which China could and would
eventually experience political liberalizationall but inevitable under the moderniza-
tion theory and the belief that economic liberalization leads to political freedoms.
Since 2010, however, the direction taken by the PRC leadership, especially as evi-
denced by Chinas increasing aggressiveness in the South and East China seas, has
spurred a re-evaluation of that assessment. Nevertheless, in the early years of the
decade of the 2000s, Taiwan investors and those of the regions other nations were
willing to give China the benefit of the doubt and helped contribute to Chinas own
miraculous economic growth.

Many political leaders in Taiwan, however, were even then wary of Chinas rise and of
allowing a condition of economic dependence on China to develop. President Lee
Teng-hui in particular, who launched both the Go South and Slow Down, Be Patient
policies, was aware of the potential for economic integration to open the door for
political integration. Moreover, in 2000, the KMT lost the presidential elections and for
the first time in 55 years, another political party held the reins of power in Taiwan.
The Democratic Progressive Party (DPP) leader Chen Shui-bian, a former maritime
 89

lawyer and defender of anti-authoritarian dissidents, was inaugurated as president,

forever changing the cross-strait calculus.

Although Chen is often accused of being a troublemaker with respect to China, in fact
his administration made great effortssome successful, most notto improve rela-
tions with the PRC. This was a difficult task, as most of the olive branches proffered
by the Chen administration were roundly rebuffed by Beijing, which prefers to deal
directly with the KMT. Meanwhile the KMT, which continued to control the legislature
during the eight years that the DPP held executive office, worked actively to block the
passage of legislation (Diamond, 2001, p. 7). Despite these hurdles, there were some
successes worth noting, including the opening of the three mini linkspostal, trade,
and communications links between China and Taiwans outlying islands of Kinmen
and Matsu. The program allowed the residents of those islands to travel to the main-
land and opened up trade for a number of goods between the two sides. While the
policy was indisputably successful, much of the increased trade and reduction in
smuggling stemmed from the fact that the policy essentially legalized the illicit trade
that was already taking place. This success was largely a PR win for Chen, who was
keen to show that he was not averse to a constructive relationship with China, despite
efforts by the KMT and the Chinese themselves to sabotage his image.

In fact, the economic relationship between the two sides flourished during the Chen
years. DPP policy upon taking office was predicated upon three principles: balancing
national security with economic interests; actively managing what had until then been
a passive policy; and entering into negotiations with Beijing about cross-strait eco-
nomic issues. Taiwan saw an increase of 79.5 percent in indirect trade (via Hong
Kong) from the 1999 level of US$25.8 billion to US$46.3 billion in 2003. During that
same period, Taiwans trade surplus with China ballooned from US$16.8 billion
(US$21.3 billion in exports, US$4.5 billion in imports) to US$24.4 billion (US$35.4 bil-
lion in exports, US$11 billion in imports, according to numbers provided by the ROC
Mainland Affairs Council (MAC). Despite these gains, it is important to note that a
reliance on official figures can lead to an underestimation of the growing economic
ties between the two countries.

One of the major sources of Foreign Direct Investment (FDI) in China has been the
Virgin Islands, whose percentage of total FDI in China grew from 0.8 percent in 1995
to 6.6 percent in 1999, and by 2004 had become its fifth-largest investor with a cumu-
lative FDI of US$34 billion. (Tung, 2005, p. 4) There seems little reason for such a tiny
country so far away to be such a keen investor in the Chinese economy until one
considers that most of these figures represent Taiwanese businessmen channelling
90

their China investments through holding companies in the Virgin Islands, as well as
the Cayman Islands and other economies in British Central America (BCA), where they
could benefit from the tax exempt status afforded by these third-countries banking
laws, as well as getting around ROC regulations on investments in China. A closer
look reveals that the share of Taiwans total outbound investment going to BCA coun-
tries doubled, from 15 percent in 1995 to 30 percent just four years later (Tung, 2002,
p. 25).

Unfortunately for the DPP, the dot-com crash of late 2000 coincided almost exactly
with the new administration, and Taiwans economy relying so heavily on IT was badly
hit, with GDP growth dropping from 6.73 percent to 3.82 percent during the fourth
quarter of 2000 (Chase et al, 2004, p. 8). This gave the KMT ammunition to paint itself
as the party of fiscal responsibility (in the eyes of the voters, and of the international
community: most importantly, Washington) and paint the DPP as clumsy amateurs, in
addition to being an irritant in the region, upsetting Beijing through their efforts to
desinicize Taiwan society and move towards formal independence for the island.
Despite the economic gains derived from continued trade and investmentincluding
with Chinaduring the Chen years, this narrative largely stuck, and in 2008, the KMT
regained the presidential office, and Chen was put in prison, ostensibly on charges of
corruption.

When Ma Ying-jeou became ROC president in 2008, he immediately set about inte-
grating the Taiwan economy with that of China to a much greater degree than had
ever been seen before. The tentpole of his administrations economic vision was the
Economic Cooperation Framework Agreement (ECFA), which is essentially a cross-
strait free trade agreement (FTA). Taiwans efforts to sign FTAs with countries other
than China were largely a failure, primarily due to China not allowing those countries
to enter into such agreements. Arguing that ECFA was the only way to avoid the con-
tinued marginalization of Taiwan as the regions economies coalesced into trade
blocs, Ma promised the populace that the deal with China would result in Beijing
allowing Taipei a greater degree of freedom in such matters, but by the end of his
second (and final) term in office, this still had not materialized.

Even official data from the ROC Ministry of Audit and the Ministry of Finance show that
the trade deal has caused the nations trade surplus with China to decline since its
2010 passage. The Customs Administration of the ROC Ministry of Finance reported
that the total export of goods to China was valued at US$83.9 billion in 2011, US$80.7
billion in 2012 and US$81.7 billion in 2013, with respective trade surpluses of US$40.3
billion, US$39.8 billion and US$39.1 billion (Lee, 2014, p. 3) Moreover, this represented
 91

an increasing reliance on the China market in 2013, with 62 percent of approved over-
seas investment and 39 percent of Taiwans total exports going across the strait. It is
perhaps not surprising then that the administrations attempt to push through a fur-
ther trade pact with Beijing, this one called the Cross-Strait Service Trade Agreement,
was so vehemently opposed by protestors that they went so far as to occupy the
Legislative Yuan for several weeks in early 2014 in protest. The opponents of the pact
argued not only with its content, which they claimed would give large, CCP-controlled
Chinese corporations an undue advantage in Taiwans service sectors, making it
impossible for the Taiwanese companiesmostly family-run and small and medi-
um-sized enterprisesto compete, but that the method by which the KMT legislators
were attempting to ratify the deal ran counter to the Constitution and was therefore
unlawful. Moreover, the ruling party had attempted to ratify the deal without ever
making its contents public, let alone allowing the legislature to review the contents,
item by item.

By the end of the Ma administration, the process of economic integration between

Taiwan and China was several steps ahead. However, the voter base had, in the inter-
vening years, become more sophisticated as well, and claims that the only economic
solution to Taiwans woes was further integration with China were no longer being
taken at face value by the populace. The fourth and final stage in Taiwans post-war
economic history, marked by the opening of economic relations and technology trans-
fer to China, may be destined to continue in the post-Ma political landscape of Taiwan,
or it may give way to a new chapter in this story. The direction it takes remains to be
seen, but despite this uncertainty, one thing is certain: that the cultural characteris-
tics of the people of Taiwan, whose entrepreneurialism, work ethic, and creativity
have seen them turn a small, primarily agricultural island-economy into an IT power-
house within a couple of generations, will no doubt prove to have a few surprises left
for economists to ponder over.

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Taiwan-China: A New Era on the Rise

Gbor Ambrus Szentesi

This chapter provides a short yet comprehensive overview of relations across the
Taiwan Strait after World War II within a multilateral framework that includes the
Republic of Korea and Japan, and with special focus on the implications for the
European Union of the evolution of relations across the Taiwan Strait. The contexts
include historical, geopolitical, as well as economic.

The chapter is divided into two parts that break down according to a historical divi-
sion: (1) the Cold War era, and (2) the new era, starting from the late 1980s. The first
part deals with the core relationship from a broader geopolitical perspective, while
the second part aims to reveal the major trends, developments, and forces currently
shaping the future of cross-strait relations, while also drawing three assumptions
that point out potential directions for further research.

1. The Cold War Era

1.1. European and Asian Alliances

The Cold War era is extraordinarily crucial for two vital reasons. One is that this is the
period during which the Taiwan issue emerges as a question in international poli-
tics. The other is that it is also the time when non-territory based foreign politics
become dominant in international relations.1 These two reasons together lift Taiwan
and the cross-strait relationship up to a level of unique historical significance.

Before the war, the traditionally imperial China-centred East Asian economic and cul-
tural power constellation was shaken up by the European colonizing powers, only to

1 As opposed to the colonization era when predominantly Western European powers seized vast
territories globally, and competed with each other to rule and exploit them. This classic era of global
politics was fundamentally shaken by World War I, and had practically ended with World War II. The
Cold War era brought a modern practice of global politics where power is exercised in ways and with
means other than direct territorial colonization, particularly in the case of the United States.
98

be destroyed by the rise of the Japanese empire as the largest regional player. By the
end of WWII, however, only the United States and the Soviet Union managed to sustain
(and increase) their influence in China,2 and hence contribute to the dynamics of the
cross-strait relationship. With the entire East Asian region in ruins after WWII and the
Chinese Civil War (1927-1950), these two powers had gained a dominant role over the
region by the end of the Korean War (1950-1953).

In the early stages of the Cold War, the two giants divided Europe and East Asiathe
two major battle theaters of WWIIinto spheres of influence. The American strategy
of the era can be described as one of containment of the Communists global expan-
sion. Its official policy was the Truman Doctrine, a decisive element of which was to
promote the economic growth of the nations within its sphere of influence in the two
aforementioned regionssee the Marshall plan as well as the American backing of
the rise of the East Asian developmental states. This took place while Washington
contained them politically,3 so that they would be able to form strong bastions at the
two ends of the Eastern bloc. This was a dual, modern imperial approach that largely
helped the United States win the Cold War, but left both Europe and East Asia frag-
mented.

In East Asia in particular, many of the wounds 4 inflicted during the first half of the
twentieth century remained open as a result of this bipolar division. One key friction
conserved within the new constellation was the Sino-Japanese relationship, as China
became a key ally of Stalinist Soviet Union in the early 1950s, while Japan was con-
trolled primarily by American forces. The division of the Korean peninsula opened
new wounds within the region on the one hand, while on the other hand it also left
little room for Korean-Japanese reconciliation.5 Perhaps the most complicated and

2 Both the Soviet Union and the United States acted largely in line with their respective political in-
terests, rather than merely economic ones as European powers did previously with the former
aiding the CCP in the re-erupting civil war, while the latter assisted the KMT (Copper, 2013, pp. 199-200)
that retreated to Taiwan after its defeat by the Communists.
3 The Japanese peace constitution was drafted under general McArthur (Encyclopaedia Britannica,
2016a), and the Western European integration process also started and evolved under the aegis of
Washington (Carolan, 2008) with all major participants benefiting from the Marshall Plan (George C.
Marshall Foundation 1952) and de facto acceptance of a leading US role in global issues.
4 Historic wounds throughout the paper refer to the so-called transgenerational, historical, and
collective trauma that East Asian nations went through during the periods discussed. Transgenera-
tional trauma was first described by Byron Egeland, Inge Bretherton, and Daniel Schechter.
5 In the case of North Korea, the reason is similar to that of the omission of the Sino-Japanese rec-
onciliation, whereas the fact that South Korea became just as much an integral part of the American
organized system of allies as Japan did, automatically gave priority for American foreign political ob-
jectives over Korean and Japanese ones. Such an environment did not help to reach a thorough recon-
ciliation nor major political frictions that eventually could have resulted in reconciliation.
 99

tense situation evolved in the Taiwan Strait. Political friction and military conflicts on
the Chinese mainland between the Chinese Communist Party (CCP) and the
Kuomintang (KMT), each backed by one of the powerful foreign superpowers, largely
remained a domestic Chinese issue until 1949, after which this fight was exported to
Taiwan during the closing stages of the Chinese Civil War. The situation was indirect-
ly conserved by the breakout of the Korean War, which prompted the United States,
alarmed by Communist expansion in the region, to dispatch its 7th fleet to protect
Taiwan from an unfolding Chinese attack in 1951 (Copper, 2013, p. 47). This was the
historic inflection point when the island emerged as a locus of global concern. With
the retreat of the KMT to Taiwan, the island may have indirectly been saved (with
American help) from an imminent Communist takeover, but the event also imported
two major sources of conflict and friction: one with China, in the continuation of
Chinese Civil War, and the other with Japan, under whose rule the KMT-led China had
suffered badly for years.

1.2. The PRC-TW-US Triangle

The early stage of the Cold War conserved much of the historic wounds in the Far
East in a bipolar political framework. This materialized in a web of mutual security
agreements between the United States and its allies 6 which cemented American
security engagement in East Asia:

Security Treaty Between the United States and Japan concluded in 1951 (Ministry
of Foreign Affairs of Japan, 2016)

Mutual Defense Treaty Between the United States and the Republic of Korea con-
cluded in 1953 (Embassy of the United States to Seoul, 2016)

Mutual Defense Treaty Between the United States and the Republic of China (ROC)
concluded in 1954 (Taiwan Documents Project, 2016a)

With these treaties we see that the three East Asian entitiesall formerly under
Japanese imperial rulebecame closely, but separately, tied to the United States, and
as such they became the bastions of a larger American strategy of containing

6 As well as the Sino-Soviet Treaty of Friendship, Alliance and Mutual Assistance concluded in 1950
(Ministry of Foreign Affairs of the Peoples Republic of China), and the Soviet-North Korean treaty of
friendship, cooperation, and mutual assistance signed in 1961. (Lukin, 2013)
100

communism, with Japan being the largest and the closest-bound to Washington. (The
economic aspects of the US engagement are discussed in the final section of this part
of the chapter.)

With the KMTs withdrawal from the Chinese mainland in 1949, the Chinese Civil War
remained unresolved. Both the CCP in Beijing and the KMT in Taipei claimed the
entirety of China,7 and both Mao Zedong and Chiang Kai-shek (Kastner, 2009, p. 31)
remained bellicose about these claims well into the 1970s. Chiang never gave up his
resolve to recover the mainland (Copper 2013, p. 50), while Mao launched several
bombardments throughout the 1950s against Taiwans offshore islands of Quemoy
and Matsu. (Copper, 2013, p. 48) In the United Nations, the ROC held the seat for China,
but that did not result in Beijings diplomatic isolation, as the countries of the Eastern
Bloc and many other non-aligned nations recognized the Peoples Republic as the sole
legal representative body of China.

Sovereignty is the very core issue that has been influencing cross-strait relations
since 1949. Beijing has been consistently and firmly sticking to its determination to
effect a unification of Taiwan with China. The sole reason it has not yet attempted this
militarily is that the issue of Taiwan sovereignty gained global importance in the
1950s, when the United States engaged in protecting it from a possible Communist
takeover. The first display of that engagement was the demonstration of power by the
7th fleet of the US Navy in 1950. Truman dispatched the fleet after the breakout of the
Korean War in order to deter Mao from trying to capture Taiwan (Copper, 2013, pp.
199-200). Then, in 1954, the mutual defence treaty was concluded between
Washington and Taipei. From this very point we cannot really talk about cross-strait
relations without taking the United States into consideration. An incomplete triangle
had been shaped.

Diagram 1

Source: Author

7 The KMT claimed Outer Mongolia as well. (Lewis, 2010)

 101

However, as the Taiwan issue became part of a broader American containment

strategy, it has likewise been subject to the evolution of the Cold War. An intensifying
arms race between the North Atlantic Treaty Organization (NATO) and the Soviet
Union, and deteriorating Soviet-Chinese relations, made it possible by the 1960s for
the United States to reconsider its relationship with Beijing. Taipei felt the winds of
this threat and did whatever it could in the area of soft diplomacy to retard a Sino-US
rapprochement (Copper, 2013, p. 199). It could not stop the inevitable, though: By the
1970s, two elementary changes had reshaped the triangle.8 One was an actual rap-
prochement, as President Nixon visited Beijing along with Henry Kissinger and the
Shanghai Communiqu was issued, stating that: The United States acknowledges
that all Chinese on either side of the Taiwan Strait maintain there is but one China and
that Taiwan is a part of China. The United States Government does not challenge that
position. It reaffirms its interest in a peaceful settlement of the Taiwan question by the
Chinese themselves (Taiwan Documents Project, 2006b). As a result, the PRC in 1972
was given the China seat in the United Nations, as well as on the UN Security Council.
Americanand further, Western9 diplomatic recognitions of Beijing followed over
the course of the decade. The second major change had been brought in by Deng
Xiaopings opening-up policy late in the 1970s that brought in a potential economic
factor into cross-strait relations.

So the Sino-American side of the Beijing-Taipei-Washington triangle became com-

plete in the 1970s. It was a shift within the triangle that caused the ROC immense
losses in international recognition, but the US Congress compensated somewhat by
passing the Taiwan Relations Act (TRA) that re-established Taiwans status as a sov-
ereign nation-state in allowing Taipei to continue to post representatives in the United
States, access to US courts and retain diplomatic privileges. Finally, it provided
Taiwan with security and economic guarantees10 (Copper, 2013, pp. 200-201). With
the diplomatic recognition of the PRC and the passing of the TRA, the United States
practically institutionalized its strategic ambiguity regarding its cross-strait policies.
After that, the United States had, many said, two China policies: one made by the
White House (pro-Beijing), the other made by Congress (pro-Taiwan). There were
subsequently two forces at work (Copper, 2013, pp. 23). These forces often sent

8 Similar triangles could be drawn up during the Cold War era with the United States other East
Asian allies in the vertex of Taiwan: initially Japanas well as South Koreafelt threatened and aban-
doned by the American-Chinese rapprochement. (TeoGuen, 2014, p. 47)
9 Its European allies and Japan follow the United States.
10 The United States will consider any effort to determine the future of Taiwan by other than peaceful
means, including by boycotts or embargoes, a threat to the peace and security of the Western Pacific
area and of grave concern to the United States. Note that none of Washingtons global allies passed
any acts or laws similar to the TRA, leaving Taiwan literally alone in the international security arena.
102

conflicting signals from the US side of the triangle that could lead to loss of confi-
dence among its East Asian allies, and at the same time, could potentially trigger
cross-strait and Sino-Japanese political rapprochement.

These triangles in the Far East were mostly shaped by the edge connecting two ver-
tices with the two behemoths (the United States and the PRC), while the sides at the
third vertexTaiwan, Japan, and South Koreafollowed, this was true for Taiwan in
particular.11 At a roundtable discussion held at Central European University in January
2016, Ivana Karaskova of Charles University in Prague went so far as to claim that it
didnt really matter who won the elections in Taiwan, it is the relevant laws and their
respective behavior of the United States and the PRC that will determine the islands
future.

Diagram 2

Source: Author

These drastic changes to the triangle in the 1970s moved cross-strait relations away
from their stalemate. The major milestones of the cross-strait rapprochement until
the end of the Cold War are:

In 1979, A Message to Compatriots in Taiwan, a statement by the Standing

Committee of the Chinese National Peoples Congress showing Beijings peaceful
attitude for dialogues with Taipei. It was announced on the same day that the Joint
Communiqu on the Establishment of Diplomatic Relations between the United
States of America and the PRC was issued (American Institute in Taiwan, 2016);

In 1981, Marshall Ye Jianying issued his Nine Points plan for a peaceful unification
by providing Taiwan with a high degree of autonomy (Kastner, 2009, p. 32);

11 It was not until the 2010s that the movements between China and the East Asian US allies started
to significantly impact the triangles that in the meantime turned to polygons with multiple corners.
 103

In 1987, martial law was lifted in Taiwan, and citizens were allowed to travel to the
mainland to visit relatives (Kastner, 2009, p. 32.);

In 1991, the Straits Exchange Foundation (SEF) and the Association for Relations
Across the Taiwan Straits (ARATS) were founded in Taiwan and China, respectively,
as semi-official intermediaries to deal with cross-strait relations (Goldstein, 2015);
and

In 1992, what is today called the 1992 Consensus was first employed by SEF and
ARATS negotiators. The consensus is often enunciated by its proponents in Taipei
as there is one China, with each side having its own interpretation of what that
means (Taipei Economic and Cultural Office in Canada, 2016).

The gradual establishment of political ties was in line with the evolution of Sino-
American relations. This period also marked the first large step toward ending the
continued lingering of the previously mentioned historical problems and frictions in
East Asia. As the Cold War thawed out in the 1990s, the wounds of the past also
defrostedas we will seein both cross-strait relations and the larger East Asian
region. The final pillar for the overall understanding of the background of current
cross-strait relations in a multilateral framework is set up by the following part,
which introduces the post-world war rapid economic development of the United
States East Asian allies.

2. A New Era

Look back at the last several decades. All the countries that foster good relations
with the US become rich. Not a scientifically proven fact; nevertheless, important
ideas from 1979 for at least two reasons. One is that it suggests that, even though the
Cold War cast its political shadow on the world, countries of strategic importance for
the United States could still prosper economically. The second reason is that these
words were said by Deng Xiaoping, then paramount leader of the PRC, who spoke
them while on a plane headed towards the United States to answer Li Shenzhisthen
president of the Chinese Academy of Social Sciencesquestion: Why do we attach
such great importance to our relationship with the United States? (Yang, 2014).
104

2.1. Rearranging Relations

In the 1970s, in the middle of the Cold War, Chinas diplomatic recognition by the
United States12 and most American alliesalong with Chinas later market-oriented
opening up policiescreated a foundation for a new era. American entrepreneurial
participants benefiting from the Chinese economic reforms were important, but not
to the extent that they had been for Taiwans boom. It was the newly emerged Asian
economies (Japan, Taiwan, Hong Kong13), that took a leading role in investing in China
in the 1980s (World Bank, 2010). Paradoxical as it is, it was the Cold War that ensured
a secure environment for the Asian Tigers to rise economically by freezing most his-
torical problems in East Asia. Chinas appearance as a developmental state was prob-
ably only feasible with the profoundly pragmatic and reformist approach taken by
Deng.

The ongoing Cold War provided China, too, with security for its capitalist transition.
Although at the end of the Cold War era, the Tiananmen square massacre had cast a
pall over the CCPs international standing, Deng then decided to deepen the reforms
and opening, starting a rapid economic rise that was unprecedented for such a huge
country. With Chinas growing strength, its pragmatism gradually decreased into the
2000s, and we have been seeing it reshaping the entire East Asian and global eco-
nomic landscape ever since. This landscape is still being shaped now, and although it
is difficult to doubt its regional and global importance, the far-reaching consequences
remain in doubt. Three assumptions on historical correlations can be made that
require thorough and in-depth research:

1. The first assumption is that in East Asias natural economic constellation China is a
major, core integrative or gravitational force, and Japan is a secondary economic
center. Considering that this balance, which has lasted for thousands of years, has
been disrupted by the appearance of a Western powerand Japans rapid rise as a
resultif all East Asian economies adopt the developmentalism that Japan suc-
cessfully implemented, the balance will shift back to its original stand with propor-
tional shares in global trade. With China being the last major actor to tread this
path, we may see a devolution of economic relations in the region.

12 This was the so-called China card that Nixon played against the Soviet Union (Copper, 2013, p. 200),
thereby potentially laying the groundwork for the emergence of China as a new main competitor for
the United States in global political and economic dominance.
13 South Korea was more cautious; it was the last country in Asia to give Beijing diplomatic recogni-
tion in 1992. (Kim, 2012, p. 502)
 105

2. The second assumption is that the disruption of the economic and political balance
in the Far East left the region with severe historical wounds that had been frozen in
place during the Cold War era. As these wounds have not been treated, and
remained unresolved, they turned out to be the major contributors to current East
Asian frictions.

3. The third assumption follows from the first two: the economic integrative (gravita-
tional) force and the historical (traumatic) divisive force are two countervailing forc-
es that largely explain the map of economic and political evolution in East Asia.

2.2. Rearranging East Asia

The East Asian economic landscape has changed greatly. The momentum for high
rates of economic growth declined in Japan, South Korea, and Taiwan in the late
1980s, 1990s, and 2000s, respectively, while democratic systems have been estab-
lished in all three nations. Their economic growth is not dependent solely on Western
markets anymore; their perspectives are rather determined by their economic ties
with China, which has emerged as the major Asian country in which to invest, draining
much of the global FDI that formerly flowed into the smaller Asian tigers. China has
become the No. 1 trade partner as well as a top investment destination for Japan,
South Korea, and Taiwan. There have been some remarkable patterns of how eco-
nomic integration with China is perceived to be influenced by unresolved historical
wounds.

Perhaps the most controversial of these patterns is in cross-strait relations. Kastner

(2009) provides an excellent picture of how cross-strait economic relations evolved
under the different presidencies in Taiwan starting from the 1980s, and how severing
or easing political frictions influenced (or why they did not influence) economic
exchange. Taiwans case is the most controversial of all, because there is a wide-
spread fear of deepening economic integration with China, best represented by Lee
Teng-huis Go South policy and other initiatives that tried to artificially divertwith
little successTaiwan capital from investing in China for fear of losing the technolog-
ical edge to Chinese firms. Kastner points out that China was welcoming Taiwan busi-
nessmen, even during tense political timese.g. the 1995-1996 Taiwan Strait Crisis
and after passage of the 2005 anti-secession law14 assuring them that their busi-
ness operations would remain unaffected, no matter what happened. Such soothing

14 Two major mementos of the unresolved sovereignty issue.

106

words from Beijing were largely absent when anti-Japanese protests swept through
China after the Japanese central government announced that it had nationalized
some of the Senkaku/Diaoyu Islands claimed by China. Japanese cars, restaurants,
and factories were damaged by rioters during the course of the upheaval, and
Japanese automakers struggled for more than a year in the aftermath of the protests
to gain back their previous share of the Chinese car marketthe largest in the world
(Liang, 2015). Consecutive World Investment Reports showed that the emphasis of
Japanese FDI shifted from China to the member countries of the Association of
Southeast Asian Nations (ASEAN), which can be at least partly attributed to political
tensions resulting from unresolved historical issues. It did so while South Koreas
engagement has been growing. In 2014, Japans investments in China decreased by
39 percent, while South Koreas rose by 30 percent. (WIR 2015, p. 41.) South Korea
was also the first to conclude a free trade agreement (FTA) with Beijing in 2015
(Tiezzi, 2015), whereas unresolved historical issues hampered the development of
both the planned Sino-Japanese-Korean trilateral FTA and the Cross-Strait Service
Trade Agreement, with negotiations on the former halted until late 2015 (Teo, 2015),
and the latter left unratified (Lo, 2015).

As for the depth of Taiwans economic integration with China, the islands business
community seems to be taking the lead. Smaller-sized suppliers followed large com-
panies across the strait, predominantly to Guangdong, to establish entire supply
chains (Kastner, 2009, p. 62). Their success is widely attributed to there being a com-
mon cultural and linguistic background. An excellent example of how Taiwan compa-
nies were ready to integrate more deeply into the Chinese economic system is provid-
ed by the MLP TD-SCDMA program, where major multinational corporations (MNCs)
from the West, afraid of technological spill-over, were reluctant to cooperate with the
Chinese state and state-owned companies to upgrade that countrys telecommunica-
tions system by developing the 3G mobile standard according to Chinese standards.
Taiwan-based enterprises were ready to do that, and gained considerable market
share as a result. An interviewee from a Taiwanese enterprise revealed similar con-
cerns, suggesting that Huawei was able to upgrade technology through reverse engi-
neering from its cooperation with Taiwanese firms, just like Taiwanese enterprises
used to do when MNCs were outsourcing to the East Asian latecomers back in the PC
era (CrookesKnoerich, 2015, p. 86).

In short, the Taiwanese chipset suppliers helped mainland small scale private
enterprises to enter the mobile phone market, which used to be dominated by
capital-intensive and technology-intensive MNCs (CrookesKnoerich, 2015, p.
93).
 107

Japanese MNCs, on the other hand, seem to be more cautious about deeper integra-
tion with China. A China Daily article published in 2012 claimed that from 55 percent
to 60 percent of Sino-Japanese trade comes from Japanese inter-company trade
(Baisong, 2012), which suggest that production costs play the key role in Japanese
investments. It might not have occurred just by chance that the first Chinese brands
that became competitive in high-tech global markets came from the same sectors in
which their Taiwan-based counterparts had established global brands before.

In a rather representative manner, the forces that work towards economic integration
in East Asia appear to have a tendency to centralize in China, while countervailing
forces also seem to follow a pattern marked by unresolved historical issues. With the
end of the Cold War, old rivalries have also thawed out. The further deepening of eco-
nomic integration in East Asia is inevitable, which makes facing these unresolved
historical issues unavoidable. The most controversial of all is the cross-strait rela-
tionship, burdened by the legacy of Japanese colonial rule as well as the Chinese Civil
War that was exported to the island in 1949, and which is now expressed in an
intra-island division. The two ruptures are manifested in political and economic
dimensions, as Kastner analyses, in a controversial and unique way.

What also seems to be inevitable is Chinas becoming increasingly competitive by

upgrading its level of technological capacity. Indigenous innovation is something that
is already present in China, and Taiwan-based companiesas mentioned above with
the example of the SCDMA projectare not just victims of that, but became integral
parts and beneficiaries of the process. Japan, South Korea, and Taiwan can all bene-
fit from an innovative China, as it would drive them to keep their technological edge,
and they would have close access to Chinas comparatively low-wage labor pool. This
makes deeper East Asian economic integration desirable, and the resolution of his-
torical issues necessary for all participants.

2.3. Great Power Strategies15

If we zoom out from East Asia, we see the rearrangements taking shape there in a
broader global context. The fact that Japan, South Korea, and Taiwan are all now
democracies is not only the result of a natural course of development, but also evi-
dence of American political leverage. As a legacy of post-World War II establishments,

15 Much of the theoretical background is based on my earlier book written on the Senkaku/Diaoyu
issue and Sino-Japanese relations. (Szentesi, 2015)
108

the United States is still a huge stakeholder in East Asian economic and political
developments. It facilitates strong trade links; its companies manage immense
investment portfolios in the region; and last but not least, it maintains a powerful
military presence, and still provides a security umbrella for its East Asian Cold War
(and newer) allies, closely encircling China. The economic, financial, and security sys-
tem that it has built since WWII, however, does not seem to be accommodating of
Chinas rise. Moreover, multiple American movements have been interpreted by China
as hostile, or of being part of a containment strategy. These include US military exer-
cises in the East and South China seas and the Trans-Pacific Partnership (TPP) agen-
da pursued for a profoundly free Pacific economic spacea grouping that China
would be excluded from. But China has been growing for decades at a pace with its
East Asian forerunners, and with a population size larger than the United States and
the entire European Union, Japan, South Korea, and Taiwan combined. That means
that its sheer size alone is straining the frames of all the global economic and finan-
cial systems that have been created under and dominated by American leadership
since the late 1940s. As Sndor Kusai, former ambassador of Hungary to China, sug-
gested at a recent lecture at the Antall Jzsef Knowledge Centre on the China-initiated
Asian Infrastructure Investment Bank (AIIB)16, since China perceived the transforma-
tion of current global financial institutes as being too slow, it therefore started to
create its owni.e. the AIIB and the BRICS New Development Bank. He pointed out
the US Congress five-year-long (until December 2015) agony to ratify the International
Monetary Fund (IMF) reform package that, inter alia, granted more voting power to
China and India.17 Then he pointed out that the IMFs decision to include the renminbi
(RMB) in the special drawing rights (SDR) currency basket was made mostly at the
expense of European currencies, the Euro and the Pound Sterling, which speaks to
the subordinate position of the European Union.

If we consider the European Union, it has been a rather passive actor within the
American-Chinese rivalry in the global political arena. The United States initiated the
TPP to head a profound economic integration of the Pacific just as the Transatlantic
Trade and Investment Partnership (TTIP) was intended to lead a profound economic
integration in the Atlantic. In response, China initiated the Regional Comprehensive

16 The lecture itself was held by gnes Szunomr, head of the research group on Development Eco-
nomics at the Centre for Economic and Regional Studies, Institute of World Economics, Hungarian
Academy of Sciences. Find the event at:
http://www.ajtk.hu/hu/calendar-events/2016-02-02?mini=2016-02
17 He echoed the words of Gerald Curtis, Burgess Professor of Political Science at Columbia Univer-
sity: If the US congress had agreed, as Obama has wanted to give China greater voting power in the
IMF this (establishment of the AIIB) might never have happened. (Hong, 2015)
 109

Economic Partnership (RCEP) to cement its own economic integration in the Pacific
and Indian Ocean regions, headlined by the One Belt, One Road (OBOR) trade initiative
to link the East Asian and European economic spheres. If we take a look at the
European Union, we see Germany, France, and the United Kingdom (Gani, 2015;
BeaupuyViscusi, 2015; LiFu, 2011) sealing deals with Beijing worth billions of Euros,
but there is no significant unified European economic initiative toward either the
worlds largest (the United States) or second-largest (the PRC) economies, despite the
fact that each of these powers has competing trade-bloc initiatives, or that the EUs
combined economic might tops both the American and the Chinese. Instead, the EU is
on the verge of dismantling itself, unable to handle its internal and regional issues.
This situation is highly reminiscent of the Qing dynasty (1644-1912), when the major
European powers each had their own separate axe to grind with the Qing court. The
difference is that now, China has largely emerged from the ruins left by its imperialist
and Maoist periods. The Beijing-led AIIB triumphed over Washingtons counter-lobby-
ing in 2015, when major European nations like Germany, the United Kingdom, and
France, as well as Australia and South Korea, signed up to become founding mem-
bers (Eisenhammer, 2015). This could be a good start for a Europe seeking to de-lev-
erage itself from American interests.

Taiwan is at the very center of the United States and Chinas mutually conflicting
regional economic and security agendas, and at the TPP-RCEP intersection. As dis-
cussed in the previous section, Taiwan is also the place where historically divisive and
economically integrative forces work in the most complex and controversial way in
the Far East. These two conditions make the island a thermometer of the world.

2.4. Taiwan Strait: Thermometer of the Globe

As Copper notes (2013), after Hong Kong and Macau were given back to China by their
respective European colonizers, a de facto independent Taiwan alone remained as a
testament to what the Chinese call the century of humiliation18. The Taiwan issue is
the single most sensitive political issue for Beijing outside of China. External and
internal countervailing forces shaping the cross-strait environment had been gener-
ally introduced until the end of the Cold War era, and the current global context has

18 That started in 1842, when the Qing dynasty lost the Opium War against England, and ended with
the defeat of Japan by the Allies in 1945. In this interpretation, even though Taiwan was returned to
China, in fact it kept being separated from the mainland as a legacy of past humiliation. China would
only completely recover if it unified with Taiwan. The papers frequent use of the phrase historic
wounds mostly relates to the (remnants of this) century of humiliation.
110

also been structured to provide a framework for interpreting the multi-faceted evo-
lution of cross-strait ties since the 1990s. This closing section strives to underline the
developments that are important to understanding cross-strait mechanisms, and
which can be the basis for further research to test the three aforementioned assump-
tions.

Cross-strait political relations showed signs of easing in the early 1990s, albeit at the
semi-official level, with the parallel creation of SEF and ARATS. The year 1991 was a
milestone for cross-strait rapprochement as the National Unification Council was
established and the guidelines for National Unification were approved in Taipei,
(Copper, 2013) and most importantly, ROC President Lee Teng-hui officially gave up
the ROCs resolve to recover the mainland (Jeffries, 2006, p. 31). In 1993 an historic
meeting between the heads of SEF and ARATS, known as the Koo-Wang talks, took
place in neutral Singapore (The Straits Times, 2015).

The classic cross-strait triangle had been activated when political dialogue between
the two sides took a negative turn, as Lee began to increasingly favor independence
over unification. In 1992, the administration of US President George H.W. Bush
approved the sale of 150 F-16 fighters to Taiwan19 (Richardson, 1992). Taipei began
applying for membership in international organizations including the United Nations,
and the Koo-Wang dialogues were stalled until 1998. Lees 1995 visit to his American
alma mater Cornell University (Copper, 2013, p. 56) and the prospect of the first free
elections in Taiwan further fanned the flames of Beijings ire. In response, China con-
ducted missile tests in the Taiwan Strait in 1995 and continued them into 1996 in an
attempt to deter Taiwans voters from voting for Lee (Ibid. p. 57). The triangle got into
motion, and tensions escalated into what became the largest demonstration of
American military might since the Vietnam War (Ibid. p. 202). Also, due in part to
Chinas threatening military posture, Lee won a landslide victory in the presidential
elections, making him the first directly elected ROC president in the history of the
nation. Later, in 1999, he publically defined cross-strait relations in an interview as
being of a special state-to-state nature. This characterization infuriated Beijing,
which resolutely insisted that Taiwan was merely a renegade province awaiting uni-
fication. Kastner writes: Mainland leaders staunchly opposed Lees efforts to rede-
fine cross-strait relations where both sides possess equal sovereignty (Kastner,
2009, pp. 34-35).

19 It was not just a gigantic weapons deal, but it was a deal that potentially secured Taipeis air supe-
riority in the Taiwan Strait at a time when Chinas air force was largely outdated.
 111

In 2000, Chen Shui-bian of the independence-leaning Democratic Progressive Party

(DPP) was elected president, and while he set a surprisingly cordial tone toward China
in his inauguration speech, his refusal to accept the 1992 Consensus as the baseline
for further cross-strait reconciliation further irked both the KMT and Beijing (Jeffries,
2006, pp. 35-36; Copper, 2013, p. 207; Kastner, 2009, p. 35). The 1992 Consensus is a
term that was coined in the run-up to the 2000 elections to refer to the tacit agree-
ment by the semi-official participants in the aforementioned Koo-Wang talks to
declare their obeisance to the One China principle. A compromise was found wherein
CCP representatives would declare their acceptance of One China, that being the
Peoples Republic, and KMT representatives would do likewise, only that they would
privately interpret that One China to be the ROC.

In 1999 and 2000, as a non-KMT president became a viable possibility, there were
fears of a possible announcement of Taiwan independence. Zhu Rongji, the premier of
China at the time, warned in the run-up to the elections in Taiwan that they would not
sit idle by and watch any serious separatist activity aimed at undermining Chinas
sovereignty and territorial integrity, such as those advocating the two-state theory
or the independence of Taiwan (Federation of American Scientists, 2000). That
statement sent from the Beijing corner of the triangle resonated loudly in the
Washington vertex in 2001, when President George Bush was asked in an interview
whether the United States would have an obligation to protect Taiwan should it be
attacked by China. Yes, we do, and the Chinese must understand that, Bush
answered, adding that America would do whatever it takes to help Taiwan defend
itself (Jeffries, 2006, p. 40).

At this point, Japan makes its way into the triangle, shaping it into a tetragon, and not
only because the United States has made several similar high-level commitments to
safeguard Japan as well, should a military conflict (with China) over the sovereignty
of the Senkakus/Diaoyus occur. The 2004-2006 period became extraordinarily heated
in the Taiwan Strait:

As Chen Shui-bian consistently refused to accept the 1992 Consensus, he was

regarded in Beijing as an embodiment of the independence threat, especially before
his 2004 re-election, when talk began of holding a referendum on independence;

In late 2004, Japan issued its White Paper in which it declared China a threat
(Jeffries, 2006, p. 59);
112

In early 2005, the United States and Japan signed a joint security agreement, in
which they committed themselves to jointly protecting Taiwan against military
threats (Jeffries, 2006, p. 59);20

In 2005, China passed the so-called Anti-Secession Law, which basically legitimized
a Chinese military intervention should Taiwan attempt to institute formal independ-
ence (Cody, 2005), and the reverse way of interpretation also set up the legal
boundaries of the use of military.

The US engagement in the cross-strait issue is a very important feature of the trian-
gle: The longtime US balancing act between supplying weapons support to Taiwan,
to deter any Chinese attack, while leaving the eventual US response vague, to discour-
age independence-minded Taiwanese politicians, is known as strategic ambiguity
(Jeffries, 2006, p. 40). This ambiguity is easy to discern, even on the part of pro-Tai-
wan presidencies such as the Bill Clinton administration (Copper 2013). The younger
Bush, too, although he made vital oral commitments early in his presidency as men-
tioned above, also openly opposed Chens apparent push towards independence. This
is an ambiguity that stems from the 1970s and which potentially can undermine both
Taiwans and Chinas trust in Washington over the long-run. Chen Shui-bians asser-
tive push to an independence-related referendum in the light of Washingtons open
opposition can be seen as a sign that Taiwans political elites had had enough of last-
ing ambiguity. Conversely, it can be seen that the KMT has pursued a more concilia-
tory agenda towards Beijing from the 2000s. The historic meeting between Ma Ying-
jeou21 and Xi Jinping (Wang, 2015) point to cosy cross-strait ties that Washington
could well perceive as being way too close.

2.5. Economic Relations

Cross-strait economic relations have been flourishing for decades, despite major set-
backs in the political arena. In this regard, Taiwan shares some similarities with
Japan, but as pointed out earlier, Japanese businesses suffered huge losses as a
result of the 2012 countrywide anti-Japanese protests that the CCP government let

20 Japans formal involvement in the security issue of the Taiwan Strait hurts historic Chinese wounds
on one hand, and brings a second formal security ally on the other hand for Taiwan besides the Amer-
ican TRA.
21 In his first term, Ma proved handy in balancing back Taiwan in the triangle by regaining the momen-
tum of rapprochement with the mainland while also sealing a US$6 billion arms deal with the United
States. (Copper, 2013, pp. 61-63)
 113

unfold22 in China. This has probably had a (Japanese) investment-diverting effect from
China to ASEAN countries. Taiwan-based businesses have not experienced such hur-
dles throughout their operations in China before and after the Cold War era, at least
not from the Chinese side. Taiwan itself restricted FDI flow to China through the 1990s
under Lee Teng-huis No Haste, Be Patient policy, and in a different way in the Go
South policy (Kastner, 2009, pp. 55-60). These policies were intended to stem the
rush of high-tech investments in China, to preserve jobs in Taiwan, to protect the
islands economy from a dangerous overdependence on the Chinese market, and to
prohibit the spill-over effect. The latter two aims together also point out the intention
to save Taiwan from Chinas political influence via economic links (Crookes-Knoerich,
2015, p. 9; Kastner, 2009, p. 44). Kastner concludes that there are political, rather than
just economic, motivations behind the fact that China provided preferential treatment
to Taiwan investors in multiple regards, e.g. tax holidays or property-transfer provi-
sions. In 1994, a law was passed to protect the assets of Taiwanese compatriots
from nationalization (Kastner, 2009, p. 94). In 1996, Vice-premier Li Lanqing said: the
purpose [of preferential policies] is to give absolute guarantee to the interests of
Taiwanese businesses in China, so that they can develop confidence in the long-term
development of their mainland investments. This policy originates out of [Chinas]
broad national interests. The president also saw economic integration as a means to
a later unification (Ibid. p. 94). Beijing always remained consistent with its communi-
cations to safeguard Taiwan-based businesses, no matter how tense political fric-
tions might turn.23 The process of in-depth integration of entire sectors into Chinas
economy was certainly supported by a firm and welcoming stance from Beijings side.
One spectacular representation of how deeply the numerous Taiwan businessmen
became engaged in China is the widespread network they were able to build within
the administrations of the South-Eastern provincesFujian in particular. Kastner
adds that applying economic sanctions in a tense cross-strait political situation would
be costly for Beijing, and thus it would be a last resort (Ibid. p. 92-93). Economic links
intensified during Ma Ying-jeous two terms (2008-2016). Under Mas presidency, two
important trade and investment agreements were concluded between the two sides
of the strait, while the failure to pass the third marked a drastic decline in public sup-
port for his policies amid an economic slowdown and fears over increasing Chinese
influence in Taiwan. The three agreements are:

22 ...or even organized them, according to some, like Chinese artist Ai Weiwei. (Connor, 2012)
23 With the partial exception of the so-called green businesses that were occasionally harassed or
more closely monitored if their owner openly supported a DPP candidate in the election campaigns.
(Kastner, 2009, pp. 96-99)
114

2010, Economic Cooperation Framework Agreement (ECFA), which came into effect
in 2010 and lifted or decreased the level of tariffs on a wide range of traded prod-
ucts. It is regarded as a formal manifestation of the already sprawling trade links
(Crookes-Knoerich, 2015, p. 7);

2012, Cross-Strait Bilateral Investment Agreement (BIA), which is an investment

promotion and protection agreement. It enhanced the legal framework for Taiwan
investments in China, but also covered the legal stance of Chinese investments in
Taiwan (Crookes-Knoerich, 2015, p. 8); and

2014, Cross-strait Service Trade Agreement (CSSTA). Its rather dodgy preparatory
phase engendered extended opposition throughout the island, and sparked the
emergence of the Sunflower Student Movement (Cole, 2014).

This latter case was the first time that cross-strait economic issues, which had pre-
viously been seen as easy questions as opposed to the deep water quagmire of
political questions, sparked wider and deeper public concern in Taiwan, potentially
marking the start of a new era in cross-strait relations.

2.6. Democracy and Identity

As Copper (2013, p. 228) points out, Beijing has declared its intention to use armed
force to annex the island if Taipei allows foreign bases or foreign control of any or all
of its territory; builds nuclear weapons; experiences internal turmoil; declares inde-
pendence; or refuses to negotiate unification over a long period.

In addition to the extreme vagueness of the phrase over a long period, the interpre-
tation of internal turmoil began to sound more ominous after 2014, because the
protesters of the Sunflower Student Movement occupied the Legislative Yuan in
Taipei. This is not to suggest that the movement would trigger a military response
from Beijingit manifestly did notbut it must be emphasized that, in light of any
similar future protests in Taiwan, such a scenario cannot be ruled out.24 This is espe-
cially true since China sees the DPP, which regained the ROC presidency in 2016,

24 During the turmoil surrounding Taiwans 2004 elections, China issued a harsh statement: We will
not sit by watching should the post-election situation in Taiwan get out of control, leading to social
turmoil, endangering the lives and property of our flesh-and-blood brothers and affecting stability
across the Taiwan Strait. (China Post, 2004)
 115

as being supportive of the Sunflower Student Movement, and as being the single
greatest hurdle to unification. The military capacity of Chinas Peoples Liberation
Army (PLA) long ago outpaced that of Taiwans military, and even the islands deter-
rent power is not comparable to Chinese combat capabilities, except with full US (and
Japanese) support. Taiwan, however, developed a weapon almost as sharp as the
Chinese military might: democracy.

After Washington switched diplomatic recognition from Taipei to Beijing in 1979,

Taipei adjusted by democratizing its political system along lines suggested by
Washington, and, as it did so, it let Washington know (Copper, 2013, p. 200). Opposition
parties were allowed to operate from the 1980s, and in 2016, the 20th anniversary of
the first free elections were celebrated in Taiwan. The countrys democratic political
transformation gives Taiwan multiple assets:

1. With the democratization process, the islands political landscape has been torn
into basically two halves: one, led by the DPP that pursues genuine independence,
and the other, championed by the KMT, (officially) striving for a unification of China,
originally under the administration of the ROC. It is not inconsequential that Beijing
sees the DPP-led camp as the depositor of anti-mainland rebellion, since the KMTs
image greatly rose as the standard bearer of Dr. Sun Yat-sens legacy, who planned
to introduce a democratic system to China in stages (Encyclopaedia Britannica,
2016b). As long as Taiwan was under authoritative rule, the KMT had little moral
authority to insist on a possible unification scheme characterized by democratic
features. But with decades of an established, smoothly-working democratic system
behind them, the current governing party of Taiwan can confidently refer to Suns
ambition and insist on democratic preconditions to unification. This would be an
as-yet immeasurable asset at the KMTs disposal, should it return to a governing
position. The KMT has led Taiwan into becoming a prosperous nation, economically
as well as politically developed. By leveraging this record, it is not unreasonable to
predict that the party would enjoy widespread support in a democratic
China.

2. Having emerged into a mature democracy under the American security umbrella,
Taiwan has become a precious jewel that the United States can show off in its dis-
play vitrine, further evidence of how Washington likes to champion itself as a glob-
al guarantor of democratic values. Taiwans democracy represents a significant
potential for leverage, and is something that Washington would pay a high price for,
should it be allowed to vanish.
116

3. The emergence of a Taiwanese identity: the establishment of democracy undoubt-

edly created the conditions for the free expression of self-perceptions of
Taiwaneseness. Examining the polls on identity that have been consistently con-
ducted through the years, a constant, strong preference for a Taiwanese as
opposed to a Chinese identity becomes evident, a process which is amplified by
technological development (CrookesKnoerich, 2015, pp. 147-161). This strengthen-
ing Taiwanese identity is a factor behind Beijings desire to accelerate the unifica-
tion process. Simply put: the longer unification is delayed, the more difficult it will
be for Beijing to integrate Taiwan.

The situation, however, is more complex. First, the first asset enumerated above
(namely, democracy) would be mostly useful for the KMT, while the third works most-
ly in the DPPs favor. The second is an external factor on which Taiwan has little
impact. Moreover, the CCP can play the first two off against the third. Democracy is a
double-edged sword that provides room for all the often countervailing forces that
have been introduced above to prevail or fade. In the mid-2010s, all the major forces
that have been shaping cross-strait relations in the past 70 years seem to have coa-
lesced. As Goldstein notes (CrookesKnoerich, 2015, pp. 32-33), the equilibrium in
the Taiwan Strait does not mean stability, because the long-term interests of the
sides are different. Upholding the status quowhich Goldstein describes as being in
a sensitive equilibriummust be the dedicated political aim of newly elected ROC
President Tsai Ing-wen. This will, however, become much more challenging amidst an
increasing Sino-American regional rivalry, tense Sino-Japanese political relations, an
ever-evolving Taiwanese identity, and intensifying cross-strait economic integration.
A constructive approach to economic and political issues from all sides is likely to
become more important in upholding the peaceful development of the cross-strait
relationship as well as the broader East Asian region, than sheer pragmatism.

3. Conclusion

The current chapter set up a basic theoretical framework for research on cross-strait
relations, and with regard to the broader Far Eastern region. Such a multilateral
framework requires a coherent structure involving multiple contexts. Those contexts
were chained along a timeline starting from the Cold War era in East Asia. The major
focus has been put on the geopolitics of Taiwan, the evolution of which has been
placed into a number of contexts: historical, political in the narrower sense, econom-
ic, and to a certain extent, sociological. Geopolitical contextualization covers the
Washington-Taipei-Beijing triangle, the changes in the resonating potential of the
 117

three vertices after the Cold War era, the broadening of the triangle with Japan to a
tetragon, as well as regional and global developments deemed essential. Lastly, three
areas may be identified for potential further and deeper research.

Kastners pioneering case study (2009) on the correlation between cross-strait eco-
nomic integration and the political environment is an excellent base from which the
depths of Cross-straitand the wider East Asianeconomic integration can be stud-
ied further. An important direction in doing so would be the development of a thor-
ough understanding of the role of large MNCs on both sides of the strait, with a spe-
cial focus on those from Taiwan, China, and Japan. Such MNCs are important because
they form the centers of highly integrated supply chains in East Asia, yet their effec-
tive political leverage in the countries involved is difficult to assess, and also remains
woefully under-investigated.

As has been pointed out, after WWII, the dominant Western European countries
(including the United Kingdom, Germany, and France) followed a cross-strait policy
dictated basically by Washington. With these countries joining the Beijing-led AIIB as
founding members in 2015, a picture emerges of a more self-conscious Europe
regarding East Asian politics starting to unfold. The largest EU-member nations,
however, tend to deal with Beijing individually, sealing deals worth billions of Euros,
in a process that follows a pattern similar to how European powers once shuffled
their cards in imperial China. A fragmented European Union incapable of exerting its
economic might in the political sphere and thus contributing, for example, to the
peaceful development of cross-strait relationsin the interests of all European
nationsrepresents an unquestionable asset for Beijing in the long run. The European
Union will not rise as a unified power any time soon, or take on a more active, concil-
iatory role in the East Asian region. Nor is it certain that it should even attempt to play
the latter role. What is certain is that EU countries should learn from the lessons of
history, and be aware of their shared interests in East Asia. Further research should
highlight those core, shared interests25 that the EU potentially can act on when par-
ticipating in Beijings initiatives, such as the OBOR trade program.

The most exciting, most ambitious, but also most dubious research would be to
define, and to the closest possible extent quantify, those major factors that best
describe the trauma of the Second World War and the conflicts that followed (i.e. the
Chinese Civil War, the Korean War) and which contributed to the features of the East
Asian region as regards the relations between China, Japan, Taiwan, and the Koreas.

25 Including the peaceful development of the East Asian region.

118

Although there is little doubt that the countries political behavior towards each other
bears the scars of the 20th centurys historic traumas,26 it remains a relatively poorly
studied area of research in the West. If those factors, however, could be seized upon,
there would be a chance to actually measure their impact on the development of for-
eign relations in post-war East Asia. If there are chronological patterns to be drawn,
these can be compared with findings of the regional (China-centered) economic inte-
gration process, an area where East Asian nations show similar tendencies with dif-
ferent characteristics.

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xiaoping/
Developmental State, Globalization, Crisis:
Taiwans Macroeconomic Adjustment

Gyrgy Cski

Largely through the evolution of development studies in academia, the very term
developmental state became an established economic category in the 1960s, under-
lying the central role of the state in overcoming conditions of underdevelopment. The
terms rise in popularity can be explained by the simultaneous enforcement of a phe-
nomenon of economic history and economic doctrines:

Leaders of the new countries/states which emerged from the dissolution of the
colonial system realized very soon that development is an extremely complex phe-
nomenon, and emerging from a global economic position that could at best be
described as peripheral could not be realized without effective state initiatives;

The post-Keynesian school of economics (represented by Balogh, T., Furtado, C.,

Kaldor, N., Lewis, A., Myrdal, G., Prebisch, R., Shultz, Th. and others) paid special
attention to socio-economic problems of countries on the periphery of the world
economy. The economists belonging to this scientific school found the states promi-
nent role obvious in overcoming underdevelopment and what was seen as socio-eco-
nomic backwardness.

The developmental state of the 1960s and 1970s reflected the realities of the given
historical period and its zeitgeist. The classical type of developmental state (that is,
the way that the developmental state operated in those decades) tried to avoid a dete-
rioration of the terms of trade by harnessing foreign exchange restrictions and active
exchange rate policies. During that period of time, the dominant forms of capital
inflows were international financial/development assistance and international bor-
rowing, and the developmental state intended to replace a non-existing entrepreneur-
ial stratum that led to the enlargement of the state sector as well. The developmental
state was a state of industrialization in order to go beyond the limits of the former
import-substituting industrial structures that were typical in the colonial patterns of
the division of labor, and the development of indigenous manufacturing industries
seemed to be symbolic of economic independencenotwithstanding state ownership.
This path of development meant a clear counter pole to the dominant neoclassical
124

orthodoxy supported by the international financial/developmental organizations.

After the fall of the primacy of the Washington Consensus, even the International
Monetary Fund (IMF) and the World Bank had to face the fact that the old patterns
were giving way to new paradigms:

Rapid economic growth in China, India, and a few other Asian countries had
resulted in an absolute reduction in the number of people living in extreme
poverty. China and India increased their reliance on market forces, of
course, but their policies remained highly unconventional. With high levels of
trade protection, lack of privatization, extensive industrial policies, and lax
fiscal and financial policies through the 1990s, these two economies hardly
looked like exemplars of the Washington Consensus. Indeed, had they been
dismal failures instead of the successes they turned out to be, they would
have arguably presented stronger evidence in support of Washington
Consensus policies. (Rodrik, 2006, p. 4.)

Japan, as it is described in Chalmers Johnsons acclaimed book, is generally consid-

ered the archetype of the developmental state. According to Johnson, the secret of
the Japanese economic miracle was the result of Tokyo being what he termed a plan
rational state (in contrast to the Soviet Unions plan ideological approach), since the
developmental state in Japan tried to decisively influence the process of the econom-
ic development and had made the task to specify the most important economic and
social goals. (Johnson, 1982, p. 23)

Several distinguished scholars seized upon the basic ideas of Johnsons epoch-mak-
ing work: Amsden extended Johnsons theory to South Korea (Amsden, 1989), and
Wade intended to verify it in a general context. Wade (1990) and Evans (1995) pointed
out the states prominent role in choosing and developing adequate technologies,
while Stiglitz (Stiglitz, 2001) looked at South-East Asian economic successes as evi-
dent practical disproof of the orthodox neoliberalism represented by the major inter-
national financial organizations. Stiglitz and Wade even considered the unreasonable
abdication of the developmental state as among the main causes of the regional
financial crisis of 1998.

Japanese planners were able to guide a continuing process of initial industri-

alization and subsequent industrial upgrading as new, more valuable indus-
tries were encouraged and older ones like textiles were encouraged to move
off-shore. This pattern of state-led intervention has been emulated across the
region with varying degrees of success and to differing extents: Japans
 125

Northeast Asian acolytes Taiwan and Korea copied the Japanese experience
earliest and most successfully, while the countries of Southeast Asian fol-
lowed later and with more mixed results. In considering the possible contin-
uing utility of the DS, therefore, we need to be conscious of the following: the
DS has been central to East Asias unique transformative experience; East
Asia has experienced substantial, sustained and real increases in per capita
incomes as a consequence; different levels of development and different state
capacities mean that the DS may still remain an appropriateperhaps an
inescapableelement of economic development. (Beeson, 2003, p. 3)

Developmental states in South-East Asia in the 1950s to the 1970s were based upon
export-led development in addition to strong market protectionthat is, they followed
the Japanese neo-mercantilist model. Domestic entrepreneurs were protected on the
domestic market and could rely on active state support in the world markets. In eco-
nomic policy terms, the basis of this developmental state was a state planning system
which articulated and validated sound sectoral preferences: these sectoral prefer-
ences were based upon a clear identification of global economic conditions at the
time, and the main task of the state was to identify those sectors which provided the
most favorable sales opportunities. In South-East Asia, permanent foreign exchange
evaluations required permanent sectoral modernization and technological develop-
ment. High rates of savings made it possible to finance with low interest rates. A
further requirement of this modernization/industrialization process was the great
mass of labor which was, at the same time, easily trainable/re-trainable and ready to
accept new employment opportunities. Planners in South-East Asian developmental
states realized that the above characteristics of their labor forces required effective
education and training reforms, with special attention paid to education in the tech-
nological and natural sciences, as well as technical training.

The permanent sectoral modernization financed through high savings rates required
a certain consensus among the state, the bureaucracy, the entrepreneurs, and the
labor force. This consensus presupposed a social consensus about the path for long-
term socio-economic development, and in South-East Asia, socio-historical traditions
served an excellent basis for that consensus.

The developmental state was successful in the South-East Asian region because the
entrepreneurial stratumcapitalists, if one prefers this termaccepted voluntarily
the primary role of state planning, since the state protected them against the pene-
tration of foreign capital in a historical period when protectionism and development
on a national economic level had relevance.
126

Nowadays, the biggest question is that, in the context of globalization, is there any
viability in an economic policy based upon protectionism, to the exclusion of foreign
capital? If not, how can the developmental state adapt itself to new world economic
conditions? In the age of globalization, it is impossible to follow old practicesespe-
cially in terms of keeping alive widespread systems of state subsidies, operating
trade and foreign exchange restrictions, hampering penetration of transnational cor-
porations, and limiting foreign activities in the capital markets.

1. The Taiwan Developmental StateBirth and Early Characteristics

1.1. Some Historical Preconditions

The Republic of China (ROC) on Taiwan is a country with a diverse history. Taiwan,
having been in the centre of world policy turmoil, became one of the small tigers
orto word it more scientificallyone of the first newly industrialized countries
(NICs), and an emerging economy of global economic importance.

Considering the countrys gross domestic product (GDP), Taiwan is already a devel-
oped country since its per capita GDP of US$46,000in terms of purchasing power
parity (PPP)is only slightly lower than that of Austria, Australia, Sweden, and
Germany (CIA, 2015). Taiwan is an extremely dynamic developing market economy
that has based its development mainly on exports, and the key sectors of its exports
are electronics and informatics, engineering and petrochemicalsexport-led devel-
opment that has continuously intensified the countys exposure to global economic
conditions. Since Taiwan is an extremely export-dependent economy, it has been hurt
very much by the world trade volatility experienced in this decade, as well as by its
uncharacteristically low degree of dynamism in recent years.

The island country has had important balance of trade surplusesespecially against
the Peoples Republic of China (PRC)and therefore the country has had large current
account surpluses for decades. In recent decades, this surplus has always been 6-12
percent of GDP. (UNCTAD, 2015) These permanent current account surpluses led to
the accumulation of huge foreign exchange reserves: with its US$4,260 billion
reserves, Taiwan has the fifth-largest foreign exchange reserves globally, following
China, Japan, Saudi Arabia, and Switzerland. (CIA, 2015)

Taiwan has achieved these successes in a (historically) very short time, mostly in the
1960s to the 1980s: this means that the country emerged from socio-economic
 127

backwardness in the life time of one single generation. The flow of people from China
started in the 17th century, and in 1662 the Qing dynasty extended its dominion over a
large portion of the islandthen known as Formosa. In 1895, following its loss in the
First Sino Japanese War, the Qing court ceded the island to Japan, which adminis-
tered it as a colony until the Japanese defeat in World War II. Fifty years of Japanese
colonial rule (1895-1945) had long-lasting effects on the Taiwan economy (Barrett -
Whyte, 1982 and Scitovsky, 1985), since Japanese administrators introduced new
high-yield species of rice, established agricultural research institutes, and instituted
agricultural techniques to boost farm productivity in Taiwan, among other moderni-
zation initiatives. Under Japanese rule, a fairly substantial level of infrastructural
development took place (roads, harbours and railways were built). At the end of
Japanese colonization, when the ROC led by Chiang Kai-shek took possession of (and,
four years later, retreated to) the island, a very special factor contributed to a suc-
cessful catching-up of the Taiwan economy: confiscated Japanese properties provid-
ed a solid basis for capital accumulation among Taiwans lower strata. The ROC was
established in 1912 in China. After being defeated by the Chinese Communists, the
Kuomintang (KMT) government fled to Taiwan with an estimated 2 million people. It is
at this point that Taiwan, as we know it today, started.

1.2. The Birth of Developmental State in Taiwan:

Creating Virtue out of Necessity

It was obviously quite early that Taiwan was a deviant case (BarrettWhyte, 1982),
since Taiwan received a huge amount of foreign aid and important foreign investment,
and the country had a sustained high growth rate, but it did not lead to increased
income inequalities (quite the contrary, in fact).1 According to Amsdens major work,
Taiwan distinguishes itself as one of the few non socialist economies since Japan to
rise from the grossest poverty to the world of the developed. As if this were not
enough income distribution has also been far less inequitable in Taiwan as in other
poor market economies (Amsden, 1979, p. 341)

A fairly strange characteristic of Taiwans development was that Japanese coloniza-

tion had created good preconditions for post-War developmentmainly through the
agricultural changes realized between 1895 and 1940. Further important colonial her-
itages were the system of state planning and state ownership introduced by Japanese

1 In the sixties and seventies, the dependency school had an almost unanimous view that foreign
capital penetration lead to stagnation and increase income inequalities.
128

colonial ruleand the Kuomintang took this over. Japan had taken Taiwan as its agri-
cultural appendage to be developed as a complement to the home islands. Japanese
planners introduced a two-crop agricultural economy (sugar and rice), but there was
a unique Taiwanese practice: primary production was based upon small, fami-
ly-owned farms even in sugar cane production where small farms sold their products
to the Japanese-owned sugar factories (and the final products were exported to
Japan). Japanese colonisers quickly commercialized Taiwan agriculture, which made
for a really unique case among developing countries (colonies) (Amsden, 1979, pp.
344-345). A further speciality of Japanese agricultural policy in Taiwan was the effec-
tive pioneering of technological advances as well as the application of science to
farming that greatly improved crop yields.2

The experience, which small tenants gained in experiments with new seed
strains and their familiarization with scientific farming would also prove of
immense usefulness to the later land reform of the Chinese nationalists. The
extensive network of agricultural associations which the Japanese introduced
was created to facilitate political surveillance and control over the population.
Today, these associations persist and are an important element in the govern-
ments management of agriculture. (Amsden, 1979, p. 346)

Japanese colonization contributed to the creation of the foundation of modern indus-

try in Taiwan as well: in the 1930s, Japan reshaped its policy towards Taiwan in order
to transform the latter into an industrial adjunct to its own military preparations. The
new industries in Taiwan had grown with difficulty while confronting duty-free
Japanese industrial imports. However, the construction of a hydroelectric power
installation provided the foundations for the development of steel and chemical
industries after the war.

The most enduring legacy of Japanese occupation, however, was less the
betterment of living standards but the building of a foundation for subsequent
development. Whereas, much of the gains in per capita income were lost as a
consequence of war the economic structure implanted by Japanese sur-
vived. This structure encompassed agriculture, industry and social overhead
including law and order (Amsden, 1979, pp. 348).

2 New seeds were introduced and the use of fertilizers became common, even among small family
farmers.
 129

After WWII, agriculture was the dominant sector in the Taiwan economy, accounting
for twice as much of GDP than industry, and was the main export sector with a shock-
ing 90 percent share of total exports. Therefore, it was natural that the newly estab-
lished KMT regime started its economic activities with a complex and overall agricul-
tural reform. This reform was realized in three consecutive phases. As of early 1949,
farm rent was limited to a maximum of 37.5 percent of total crop yield. As of June
1951, formerly Japanese-owned lands were distributed on preferential terms to the
tenant claimants. As a concluding phase, in 1953, landlords were obliged to sell their
lands over a givenfairly lowsize to their tenants and were compensated by the
state with state bonds and shares of formerly Japanese-owned industrial companies.
These were covered legally by the Land-to-the-Tiller Act and created a relatively
large class of small holders. Since then, Taiwan agriculture has been characterized
by a large number of owner-operators having small holdings.3

Table 1
Selected Indicators of Taiwans Economic and Social Development

Indicator/year 1953 1958 1963 1968 1973 1977

GDP index, 1963 = 100 51 71 100 159 268 336
Per capita GDP, 1963 = 100 71 83 100 140 211 246
Agricultural production, 34 27 23 19 13 12
percentage of GDP
Gross domestic capital formation, 42 54 100 253 434 528
(GDCF) 1963 = 100
US aid, percentage of GDCF 36,9 44,2 4,0 11,6 -20,3* n.a.
Foreign investment, percentage of GDCF 1,6 8,0 4,7 7,9 8,9 n.a.
Export as percentage 11,0 n.a. 16,0 n.a. 58,0 n.a.
of Net National Product
Manufactured goods as percentage 8,2 15,4 38,8 64,5 83,9 n.a.
of all exports
Gini coefficient of income distribution 0,56 0,44 0,32 0,33 0,29 n.a.
Income share of bottom 20 percent 1,7 n.a. 7,7 7,8 8,9 n.a.
of all households (%)

Source: BarrettWhyte, 1982: 1069

* US aid had been closed and repayments of long-term concessional loans became timely.

Although Taiwan is known for its export-led economic development, ROC economic
policy in the 1950s was mainly based upon classical import substitution. First, the

3 As of 1980, 80 percent of the agricultural population was owner-cultivators and a further tenth
were part-owners. (Amsden, 1979, p. 352)
130

land reform limited the extent of cultivated land per familyand above the limit, lands
were purchased by the state and were paid by state bonds and shares of the majority
state-owned companies, which had been taken over from their Japanese owners
(BarrettWhyte, 1982, p. 1068). Second, after WWII, Taiwan lost its traditional export
marketsChina and Japan. The ROC government changed its economic policy as of
1961, which marked the start of its export-led economic development. As part of this
outward-oriented economic policy, Taiwan created special export processing zones
in order to attract foreign direct investment (FDI) inflows. These zones provided cheap
labor and infrastructure, technology and raw materials were imported, and the out-
put was almost entirely exported.

Taiwans macroeconomic performance from the 1950s to the 1970s was unique
among developing countries: per capita GDP grew 3.5-fold between 1953 and 1977; in
the same period, exports grew from 11 percent to 58 percent of the net national prod-
uct, while the share of agriculture in GDP decreased from 34 percent to 12 percent. A
special characteristic of Taiwans development was that, regardless of huge foreign
capital inflows and high growth rates, income inequality decreased permanently: the
Taiwan Gini coefficient was 0.56 in 1953, 0.32-33 in 1963 and 1968, and decreased to
0.29 in 1973, while the income share of the bottom 20 percent of all population
increased from 1.7 percent in 1953, to 7.7 percent in 1963, and again to 8.9 percent in
1973 (BarrettWhyte, 1982, p. 1069). This tendency of low income inequality lasted
until the mid-1990s. (BourguignonFournierGurgano, 2001)

Since Taiwan is a raw material importing country, and had lost its export markets, the
foreign trade and current account positions in the 1950s required special financial
sources for financing deficits. At the same time, the international political situation
revalued Taiwan for the United States as a strategic antagonist of Communist China.
A great part of the massive aid inflows of the early 1950s financed rebuilding and the
modernizing of agriculture. This was essential because of the extreme population
growth due to the flood of an estimated two million people from China in 1949. Later
on, foreign aid increased investment rates by more than 10 percent, and contributed
heavily to Taiwans successful industrial modernization.4 After WWII (more exactly:
since 1949, after the Chinese Civil War) Taiwan was flooded with American aid. From
1952 to 1968, the United States provided US$1.8 billion in aid to Taiwan, excluding
military aid. (BarrettWhyte, 1982, p. 1068) Non-military aid from the United States
accounted for about 40 percent of gross capital formation in Taiwan, which fell to

4 Especially, because Taiwan has not relied at all on foreign borrowing!

 131

12 percent in the 1960s. In the early 1950s, US aid played a key role in helping to
control inflation. Without this aid, Taiwans trade gap would have been a serious lim-
iting factor in its economic development during that period (Lin, 2003, p. 214).

Foreign investment inflows were negligible in the 1950s, and increased substantially
since the beginning of the 1960s, constituting about 6.76.8 percent of gross capital
formation until the mid-1970s. Taiwan increasingly utilized international credit and
capital markets in order to finance large construction projects. (BarrettWhyte, 1982,
p. 1068) Since the mid-1960s when American aid was gradually phased out5 , huge
capital inflows (mainly from the United States and Japan) replaced it.6 At the same
time, Taiwan became extremely dependent on exports.

State ownership had been widespread in Taiwan during the catch-up period: in the
very early 1950s, state-owned companies accounted for 56 percent of both industrial
production and manufacturing output. The government established state-owned
companies in new industries7 for example, in plate glass productionand in the
early 1970s, these companies were privatized. The government made investments in
sectors where private capital was reluctant to invest, such as shipbuilding. In the
1960s, parallel to the development of manufacturing and the evolution of an export-
led development model, the ROC state slowly abandoned an important part of its
direct involvement in industrial production.

By the early 1970s, the share of public sector in manufacturing production

had fallen to less than 20 percent. Nevertheless, the state remains dominant
in such fields as heavy machinery, shipbuilding, petroleum, synthetics, ferti-
lizers, and last but not least, banking. Almost all banks in Taiwan (foreign
banks were not allowed to establish operations until 1969) are wholly or par-
tially owned by the state. The lending activities of all financial institutions have
been under strict state supervision. As far as capital formation is con-
cerned, the public sector is still very important. The state accounted for as
much as 40 percent of gross domestic investment in 1972 (down from a high
of 60 percent in 1958). (Amsden, 1979, p. 369)

5 In the early 1970s, when Taiwan repaid its long-term loans, there was a net financial outflow in
consequences of former American aid.
6 In 1990, the accumulated stock of inward FDI gained up to US$10 billion. See: UNCTAD, 2015
7 New industries mean sectors that had not been a part of the Taiwanese production earlier.
132

1.3. The Transformation into Export-led Development

Industrialization was a focal point of Taiwans development, and therefore a central

factor of the Taiwan developmental state from 1949-1950. It is only a mythalbeit a
widely shared onethat the especially dynamic industrial development witnessed in
Taiwan was a result of, first, a lack of state interference in domestic markets; second,
that Taiwan resisted the temptation of supporting new industries and import substi-
tution industrialization; third, that industrialization was limited to light industries; and
fourth, that ownership of the economy rested on foreign ownership. In the 1950s (or
more precisely, between 1949 and 1961), a regime of import substitution was decisive,
the protection of newly born industries was not a trivial episode in that time, and
import, foreign exchange, and license controls were introduced. The scope and
height of such controls in the 1950s rivalled similar measures designated to protect
infant industries of Third World countries well known for protectionism (Amsden,
1979, p. 364). The protectionism of the 1950s led to high inflation, excess capacities,
the emergence of monopolies, and corruption. At the same time, however, manufac-
turing made a fair startespecially as a result of the dynamic development of small
manufacturing companies. Therefore, at the beginning of the 1960s, protectionism
had become useless and the ROC government turned in its economic policy through
a substantial easing of import controls. An important element of the new export-led
economic policy manifested in a shift from protecting domestic entrepreneurs from
import competition towards protecting exporters from competition with each other.
Monetary and fiscal policies were substantially modified and brought inflation under
control. These changes are generally called liberalization. Subsidizing exports as well
as promoting cartels covered an important group of commodities such as textiles,
rubber, canned vegetables, steel, and paper products. The ROC government was par-
ticularly operative in channeling the marketing of all exports to domestic trade com-
paniesinstead of large Japanese trading companies.

One of the major characteristics of Taiwans post-war industrialization is the large

number of small and medium-sized industrial companies and the lack of state-sup-
ported real national giantsas was the case, for example, in South Korea. Four
factors seem to have caused this:

the inflow of overseas Chinese who carried with them 30 percent of the capital
inflows, and they preferred to create their own businesses;

extremely high savings rates made it easier to set up independent businesses;

 133

the generally low size of (industrial) companies represented relatively easy market
access;

the most important factor was likely Taiwans economic policy and governmental
activities supporting people with entrepreneurial inclinations and know-how
though not with capital.

The ROC government established as many as 49 industrial parks which made it pos-
sible for entrepreneurs to rent rather than buy land and buildings, and especially
generous loans were also available for businesses inside industrial parks and where
the technical skills of scientifically trained people are accepted as an important part
(up to 50 percent) of their personal investment (Scitovsky, 1985, p. 224). High interest
rates and the overwhelming position of small businesses kept profits lower and ham-
pered the emergence of oligopolies or monopolies: entrepreneurs were obliged to
maintain their efficiency and initiative. (Although, excessively high profits, monopolis-
tic advantages, and strong government protection did not have any unfavorable
effects on the drive, stamina, and efficiency of South-Korean businessmen.)8

Taiwans monetary policy was absolutely unique among developing countries, and
especially among South-East Asian countries, since it was based upon high interest
rates. The then economic policy mainstream in the developing world supported low
interest rates in order to promote capital accumulation and growth. But Chinese
experiences of hyperinflation during World War II and the Chinese Civil War that fol-
lowed led to interest rates being kept high in the very early 1950sand this monetary
policy was maintained until the 1980s. High interest rates are standard remedies for
inflationand inflation in Taiwan was broken very fast, but the side-effect was equal-
ly useful: high deposit rates increased savings rates and channeled private savings
into the banking system. The high deposit and loan rates instituted in Taiwan came
close but did not exceed the equilibrium rate of interest which explains why raising
interest rates raised the level of investment or capital accumulation (Scitovsky, 1985,
p. 226).

Taiwans pioneering role in developing the sustained application of high interest rates
had some further important advantages. First, high interest rates encouraged the use
of labor-intensive methods of production and rendered them profitable. In developing

8 The reason, why two diametrically opposite models of capital accumulation and entrepreneurial
development in Taiwan and South-Korea led to the same successes, is likely can be found in the com-
mon Confucian traditions.
134

countries, where labor is abundant, but everything else is scarce, that was an impor-
tant advantage, since it increased employment by creating more job opportunities for
any given level of investment, and it raised the share of labor in the national income.
Indeed, labors share in Taiwans national product has steadily risen, and propertys
share fallen and since wage income both lower than average and more evenly dis-
tributed than property income, that gradual shift in income away from capital and in
favour of labor has been the main factor in explaining the diminution over time of
income inequalities in Taiwan (Scitovsky, 1985, p. 226-227).

A further advantage of high interest rates was that it limited profit increases and
especially since the size of individual firms in Taiwan grew very slowly and stayed
smallhelped to maintain competition and facilitate structural adjustment. Last but
not least, high interest rates led to exceptionally low unemployment rates: in Taiwan,
between the early 1950s and the 1980s, official unemployment figures never rose
higher than 2 percent, which was diametrically opposite to the situation in other
developing and newly industrializing countries.

Japan had provided its development modelthat is, neo-mercantilism9 to Taiwan

(as well as to South Korea and Singapore) and was very active in the countrys trade
activities: large Japanese trading companies (Sogo shosha) handled Taiwans textile
exports in the 1950s, but in the 1960s and onwards, they were joined and partly edged
out by European and US-based importers who established their representative offic-
es in Taipei and established direct connections to Taiwan producersincluding small
and medium-sized ones. The next step was to find Taiwan-based sub-contractors to
provide them with components and to buy back semi-final and/or final products
especially in electronics. This process started in the 1960s, and in the 1990s Taiwan
became the major global provider of semi-final goods in informatics.

Taiwans export initiative became extremely successful, and the total value of exports
had risen to half of GNP in the 1960s. Nevertheless, the value of net exports was no
higher than 20 percent of GNP (due to the high rate of re-exports and sub-contract-
ing), therefore, four-fifths of the GNP was realized on the domestic market. The ques-
tion is: how could this large a portion of GNP grow at such an unprecedented rate?
Taiwans foreign trade structure is as sophisticated as that of a highly developed
country. While about 90 percent of its exports are represented by manufactured prod-
ucts, its imports consist mainly of raw materials and, to some extent, capital goods.

9 According to some experts, developmental state in Asia is generally modern mercantilist state.
(Wu, 2007, p. 4)
 135

Taiwan is arguably the most successful practitioner of the export-led growth

model, which is an important contributor to the accelerated globalization pro-
cess of the late twentieth century. It was one of the first countries to adopt the
model and to achieve sustained growth rates based on manufacturing for
export. Since the 1970s, Taiwan has sought to maintain and strengthen its
international competitiveness by adapting its industrial structure to the
changes in the global economy. It has moved beyond labor-intensive manufac-
turing for export towards a more capital-intensive industrial base and a diver-
sified export structure. Since the 1980s, there has been a rapid increase in
overseas investment by Taiwan firms, primarily in the Southeast Asian econ-
omies (Berik, 2000, p. 1-2).

1.4. The Second-stage Export-led Growth since the Very Late 1970s

The Taiwan economy began its shift toward second-stage export-led growth in the
late 1970s. This followedafter the early period of import substitution in the 1950s
the export-led growth strategy based on labor-intensive manufacturing in the 1960s.
Following the 1974-1975 recession which hit Taiwans export industries hard, the gov-
ernment made efforts to shift Taiwans manufacturing base away from an exclusive
reliance on labor-intensive exports toward more capital- or technology-intensive
exports, and to upgrade product quality in order to maintain Taiwans international
competitiveness. Government policies supported the upgrading of technologies,
emphasized technical training, implemented infrastructure projects, and created
research parks for research and development (R&D). In the 1980s, additional meas-
ures were taken to encourage R&D and to train technical personnel.

There has indeed been a significant increase in the capital intensity of man-
ufacturing and a diversification of exports, and Taiwan has ascended to a lead-
ing role in global production of electronics. During the 1980s and 1990s, the
electrical and electronics products industry continued to be the leading gen-
erator of export earnings, while there was a shift away from apparel and mis-
cellaneous manufactures toward machinery and transportation equipment
industries as major source of export earnings. There was also a significant
increase of the export orientation (defined here as the share of exports in
gross sectoral output) of the electronics, machinery, textiles, and precious
equipment industries, while the apparel, miscellaneous manufactured goods,
and non-metal minerals industries became far less export-oriented. From
1981 to 1993, manufactured exports grew at an impressive average annual
136

rate of 12.3 percent, and, on the whole, the manufacturing industry became
slightly more open to trade (Berik, 2000, p. 5-6).

Science and Technology (S&T) policy has been an especially important aspect of
Taiwans industrial development policy since the countrys economic success in
recent decades has been built on high-tech industrial development.

Beginning in 1965, state technocrats (not, however, the political leadership)

began to take a more proactive approach of S&T manpower and R&D and to
link it concretely to the question of industrialization. To industrialize at a high
level, the state planners argued, required innovation, creativity, and a work-
force equipped to grapple with complex technical questions. To bolster this
argument, state planners orchestrated opportunities for foreign advisers to
push this message to the political leadership. As a result, between 1967 and
1969 the ROC state overhauled its institutions designed to direct S&T and
began to make more active efforts to guide academic scientific research and
science education (Greene. 2008, p. 7-8).

In the mid-1970s, a new set of plans and institutions were implemented that clearly
assumed a close link between S&T, R&D, manpower development, and industry. In the
late 1970s, yet another shift in institutional structure and approach to planning
occurred: this was the whole-hearted support of a new political leadership, such as
the construction of the Science and Technology Advisory Group (STAG) that institu-
tionalized linkages between the state, industry, education, and foreign advisors, and
functioned much more effectively than any other state body had earlierthe Hsinchu
Science Park was established in the same period. Since the early 1980s, practically
every single ministry and state institution was held accountable to STAG. The Hsinchu
Science Park became a huge success as a single location where state-owned insti-
tutes, foreign-owned and domestic (private) enterprises could share new technolo-
gies and work together in order to improve Taiwans high-tech industrial capacities.
(Hsinchu Science Park was the first science park in Taiwan and became an example
to be followed, and was in fact widely replicated since the mid-1990s). By the early
1980s,

...promotion of S&T became an essential element of the ROC larger industrial

development strategy and has remained so since. S&T was thus substantially
empowered by the ROC state after 1979, and the call for S&T development
became a hallmark of the state. By 1982 the basic institutions and structures
were in place to enable the ROC state to direct an industrial science policy that
 137

would successfully coordinate industry, academia, and the state. There is

abundant evidence that Taiwan has benefited from the state-led development
efforts, and in no sector is this more apparent than information technology.
Today, Taiwan is one of the worlds major producers and designers of comput-
er components, and although there is no question, the states decision in the
late 1970s to focus its educational, R&D and other planning attention on IT was
a good one. Taiwan has a highly developed and well-coordinated system of
state and private investment in S&T manpower and R&D that contributes to
Taiwans overall growth and its international status (Greene, 2008, p. 8).

In 1965, ROC economic planners and political leaders began to demonstrate a new
awareness of the role that science education and research might potentially play in
economic development, leading to an important turning point in the evolution of state
sponsorship of S&T in the ROC. This turning point occurred over the course of 1967
and 1968, during which time the National Council for Scientific Development (NCSD)
was reconstructed, a new organ to supervise science policy under the National
Security Council was created, the Ministry of Economic Affairs invited a group of
Western scientific and technical advisers to evaluate and make recommendations on
Taiwans S&T situation, and a 12-year plan for scientific development was announced.

The quest for a successful S&T policy was not undertaken by the political
leadership but rather by a small group of technocrats who were heavily influ-
enced by foreign advisers and local academics. It was only at the point at
which the interests of the political leadership converged with the interests of
the technocratic leadership, in the late 1970s, that the state wholeheartedly
committed to the promotion of S&T and that new, more successful institutions
could be constructed (Greene, 2008, p. 11).

There is evidence that between 1965 and 1969, the state internalized a great many
suggestions that had been formulated earlier by US and UNESCO experts regarding
the importance of science and technology to industrial modernization. This important
change in the attitude of the state toward S&T in the 1965-1969 period represented a
revival of practices and perceptions that the ROC state had already experimented
with earlier and suggested that the KMT-led state was likely to take a proactive and
developmental role with respect to S&T.

By 1965 the Ministry of Economic Affairs had become interested in proac-

tively promoting scientific and technical development in Taiwan and began to
encourage and participate in government efforts to improve S&T education,
138

research, and overall science policy. As Taiwans industrial trajectory began to

shift in the mid- to late 1960s, the states economic planners became increas-
ingly conscious of the role that S&T manpower, knowledge, skills, and innova-
tion would eventually play in Taiwans economic development and began to
place more and more emphasis on the construction of institutions and plans
that could improve Taiwans S&T education and research environment, and
make it as relevant as possible to industrial development. As a result, in the
1965-1969 period, we can see the gradual emergence of an overarching sci-
ence policy in the ROC on Taiwan that neither the academicians nor the foreign
advisers of the early to mid-1960s had managed to implement (Greene, 2008,
p. 73).

The year 1965 was a turning point in terms of the evolution of the ROC state to support
S&T development. The major catalyst for this shift in state priorities was not the influ-
ence of US advisors or the recognition of the major importance of S&T in industrial
development, but the PRCs test of a uranium bomb in October 1964.

In late 1965, in a first effort to unite various parts of government to discuss

the development of S&T, the ministries of Economic Affairs, Education, and
National Defence jointly convened the ROPCs first national science confer-
ence. Specific sessions were held over a four day period of time on research
and development, mobilization of manpower, national defence, and industrial
expansion, and the conference yielded a series of specific recommendations,
including making science training more relevant to defence needs, finding
solution to the shortage of science teachers, pay increases for scientists, and
the construction of a national science policy committee. Both President Chiang
Kai-shek and Premier C.K. Yen spoke at the conference. Chiangs remarks
are clear enough to show that by late 1965, the ROCs political leadership was
aware that there was a link between science and industry, and that develop-
ment of that relationship might in some way contribute to nation building
(Greene, 2008, p. 74-75) .

In fact, the negotiations between US president Lyndon B. Johnson and ROC Premier
Yen Chia-kan, held in Washington in May 1967, on the need to strengthen science and
technology in the ROC as a vital force in national and regional development, (See:
Greene, 2008, p. 80) seems to be the starting point of the creation of a new institution-
al structure of S&T policy in Taiwan. Following the Johnson-Yen negotiations, the
so-called Hornig mission (an informal group of American experts) was set up.
 139

[The] Hornig mission yielded abundant advice for ROC economic and educa-
tion planners on how to proceed with respect to S&T development, but per-
haps the most important points made by Hornig and others were about the
need for a substantial budget and the importance of constructing coordinated
plans that considered the relationship between education, research and
industry (Greene, 2008, p. 85).

The Hornig Mission served mainly as domestic propaganda for economic and science
planners who wanted to convince political leaders of the importance of S&T. The
Hornig Mission also helped to expand the vision of Taiwans S&T leadership by giving
them a broader and deeper set of goals. Furthermore, it had an important contribu-
tion to establish a basis for further permanent cooperation between the ROC and the
United States in the post-aid era. Last, but not least, it provided a model for later S&T
development that involved solicitation and utilization of foreign advice (Greene, 2008,
p. 87).

In Taiwan, manpower planning started as early as 1964, and the first science devel-
opment plan was approved in 1969. Since the very late 1960s, the ROC state, the
political leadership and the technocracy together became committed to developing a
kind of scientific and technical manpower that could serve industrial needsor even
to attract foreign investors. Since 1969, science plans and manpower plans were inte-
grated parts of the overall economic planning. The key figure of this important change
in the planning system was Li Kwoh-ting, minister for economic affairs (the holder of
a degree in physics), who first emphasized the importance of S&T manpower train-
ingalthough the concrete contents of this training remained under discussion for at
least a decade. As far as Taiwans science policy was concerned, Minister Li empha-
sized the following: we are, instead of carrying on basic scientific research or con-
tributing to fundamental scientific knowledge, all devoting ourselves to adaptation of
the knowledge and technology of the industrially advanced countries. In so doing, we
need trained talent to erect more new factories and plants, to fill the newly created
managerial and supervisory posts, and to select and train operatives and foremen
through systemic procedures.10 The secret of the success of Taiwans manpower
planning and training lies in the fact that equal efforts were invested in the training of
a scientific elite and a large group of skilled and semi-skilled managers and
workers.

10 Excerpt from a speech delivered by Li in 1962. (Quoted by Greene, 2008, p. 95)

140

2. The Taiwan Developmental State: an Adaptive Pragmatism

According to Wu (2007, p. 1), Taiwan had satisfied all four requirements of the
so-called capitalist developmental state (described first by Johnson, 1982): state
autonomy from society; consensus of the elite on development; state penetrative
capacities; and world-market conforming industrial policy.11 Development was a must
in Taiwan, since the political elite had immigrated to the islands from China and had
no legitimacy in the very early 1950s. The only possible source of legitimacy was
rapid development; therefore, high growth rates were paramount. An additional ele-
ment of the general acceptance of improvement lay in the external security threat
from China.

Taiwan has been extremely successful in terms of overall economic development. But
Taiwans unique developmental success has not been unparalleled in growth perfor-
mance (since the other newly industrialized countries also had sustained high growth
rates) but in declining income inequalities at the same time.

According to Tibor Scitovsky, early economic successes in Taiwan were based upon
the following factors:

Chinese tradition and Confucian philosophy that explained (as was the case in other
countries of the South-East-Asian region) the great reverence that society attached
to learning and high educational attainment.

The second prerequisite was an ability and willingness to work hard, which has
been typical for the labor force in Taiwan. Entrepreneurs also had the ability to
work hard and long hours every day with untiring concentration and pertinacity.

The third factor was most likely the great wage flexibility and employment stabili-
tyboth were based upon good and balanced relationships between employers
and employees (Scitovsky, 1985, pp. 219-220).

The ROC state acted successfully at every turning point of the economic policy, or, and
it is only the other side of the same coin, Taiwan economic policy has been changed
with great flexibility at every historical moment when the countrys foreign economic
environment was modified significantly. The flexibility of the Taiwan economy was

11 Johnson extended the validity of the very term developmental state to the little dragons (Taiwan,
South Korea, Hong Kong and Singapore) in the mid-1980s.
 141

based upon the flexibility of the ROC state in terms of fast and effective adaptation to
a new international economic environment.

Post-war economic development, that is the economic development of Taiwan, had

started with a decade of import substitution policywhen, after the Chinese Civil War
and the establishment of the ROC government in Taipei, the loss of the export markets
excluded any other economic policy option. The legacy of the Japanese colonization
provided a useful basis for that, especially since Taiwan had not had to face food
shortages, even after the inflow of 2 million people. This period was greatly financed
by US financial aid, and when this aid started to fail dramatically, in the very early
1960s, Taiwan launched its export-led development based upon labor-intensive man-
ufacturing. In the late 1970s, Taiwan acknowledged the major changes taking place in
the world economy and concentrated more and more efforts on science and technol-
ogy development, thereby entering a new, capital-intensive (second stage) export-led
industrial development period based upon a highly educated and trained S&T labor
force. This adaptive pragmatism was based upon a careful analysis of the world econ-
omy and domestic endowments. Taiwans economic policy has not followed main-
stream orthodoxies but has always tried to find creative solutions for encouraging
development. The fundamental changes of the 1970s had two major positive conse-
quences: first,

...in the 1970s there were two oil shocks During the recession following the
1973 oil embargo, Taiwan managed to overcome the slump in demand for its
industrial export by adopting a successful economic stabilizing program. Ten
major infrastructure projects were launched to stimulate economic activity.
After the second oil shock, Taiwans economy continued to grow in the 1980s,
based on a shift in industrial structure toward one that is more capital-inten-
sive and more energy-efficient (Lin, 2003, p. 2014).

Second, the macroeconomic structure in Taiwan, and the developmental model that
fully unfolded in the 1980s, provided an effective basis for a successful adaptation to
the globalized world economy beginning in the 1990s.

The successes outlined above certainly had one major source: the effective develop-
ment of education and professional training systems which were absolutely unique
among developing countries.

The average number of years of education per person of employed people

appears to have improved over time, averaging 7.18 years in the 1960s, 7.85
142

years in the 1970s, 9.28 years in the 1980s, and 10.7 years in the 1990s. Thus,
the quality of the labor force has also improved. In 1964, the population of
workers with a college degree or above was only 3 percent. Most of the popu-
lation were people who completed only a primary school education (82 per-
cent). However, the population of workers with a senior high school and col-
lege degree has risen steadily over time. By 2000, more than 60 percent of
workers had at least a senior high school degree, and nearly 27 percent had
been awarded a college degree. Hence, human capital has improved since the
1960s (Lin, 2003, p. 214-215).

Taiwan has followed the Japanese path of neo-mercantilism: economic policy stimu-
lated export-led development and limited imports, but here again in a pragmatic way:
foreign direct investment was welcomed, since the early 1960s, to export sectors and
especially to special export zones. Since the late 1970s, FDI into electronics and infor-
matics has been no less welcomed.

Taiwan has a unique monetary policy as well, that of high interest rates. High interest
rates were effective in pushing down the inflation rate, attracting higher savings rates
and, as positive side effects, encouraging labor-intensive industrial development in
addition to limited profitability. This latter served the important political aspirations
to support small and medium-sized enterprises quite well. Over the longer term, low
inflation was encouraging for investment, and added to overall economic security for
foreign investors.

The centrality of the state to the Taiwans successful development has been quite
clear, since it is obvious that the state played an important role in the promotion of
economic development in the 1950s and 1960s. At the end of the day, Taiwan can be
described as a party-led developmental state. When interpreting the development of
Taiwan as that of a developmental state, we share the definition of the developmental
state used by Greene: a strong and proactive state thatarmed with a meritocratic,
efficient and knowledgeable technocracy and institutions that provide it with highly
embedded links to industry and societyimposes policies on the private sector that
foster development (Greene, 2008, p. 9-10). Taiwans experiences support the gener-
al Southeast Asian characteristic of the developmental state: a harmonious coopera-
tion between the political leadership and technocrats and their acceptance by entre-
preneurs is a key factor of economic development. Economic policies in Taiwan have
worked effectively only when technocrats and political leaders have acted in concert.
 143

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Historical Components of Taiwans Competitiveness1

Csaba Moldicz

After WWII, development economics was one of the emerging subfields in the study
of economics. Since then, its main goal has been to define the basic preconditions of
rapid economic development, offering pragmatic answers to problems of underdevel-
opment. These schools of thought that became popular in the 1950s-1960s, in the era
of decolonization, differed widely from each other in their origins, methodology, and
conclusions.

Even today, there are many different approaches to economic development problems;
however, in the last decade, there has been a growing consensus among development
economists, that economic and political institutions are crucial in explaining success
or failure,2 as they are key elements in creating and maintaining a favorable environ-
ment for businesses and innovations, as long they are able to include broad layers of
society. At the same time, efficient institutions can compensate losers of the mar-
ket-friendly, competitive environment, creating a level playing field.

In this paradigm, the term developmental state describes one version of the free
market economies, indicative of East Asian countries (See the term described in more
detail in Cski, 2016). This expression also refers to a state-determined, albeit more
or less market-friendly, approach to economic development. Asian developmental
states can generally be characterized by a strong emphasis on diverse forms of state
intervention; however, these institutions differ to some extent in Japan, Taiwan, and
South Korea.3 To complicate the matter further, institutions themselves have been
changed after the economic shocks of 1997-1998 and 2008-2009. The aim of this
paper is to offer a comparative analysis of economic institutions and their alterations

1 The author would like to thank the Chiang Ching-Kuo Foundation for providing a research grant for
this paper.
2 See institutional explanations in more detail at Acemoglu Robinson (2012) and Fukuyama (2015).
3 Hong Kong and Singapore are not only different because of their size, but also their position on
democratic values is dissimilar, since Taiwan, Japan and South Korea without doubt have inclusive
democratic institutions, while Hong Kongs special status and Singapore, which has been featured as
a partly free country in the Freedom House Report, create different links between the economic and
political institutions of these countries.
148

after the Asian crisis (1997-1998). The analysis covers Taiwan, Japan, and South
Korea, and in certain aspects, it refers to the experience of China as well.

Looking at the entire East Asian region, the broad question which arises in the context
of economic institutions is whether a convergence or divergence is to be observed.
While different national needs require diverse policies, pointing to divergence in the
models, economic globalization confronts these countries with same problems, forc-
ing them to use similar approaches, leading to convergence. Wan points out that
there are essential differences in the literature with regard to the convergence/diver-
gence question: Modernization theorists argue that developing nations should con-
verge with developed nations if they want to achieve development. Neoclassical econ-
omists also believe that national economies will eventually converge as a result of
market forces or harmonization through political negotiations. An opposing school
sees a persistent divergence among nations (Wan, 2008: p. 22).

His reference to the opposing school includes diverse schools of developmental eco-
nomics, which in contrast to the neoclassical free-market counterrevolution, do not
take convergence for granted. Moreover, one of these schools, the international
dependence school, advises a delinking strategy to developing countries based on the
assumption that coexistence of poor and rich countries is being dominated by such
unequal power relationships that it makes it impossible for poor countries to catch up
with the most developed ones.4

Obviously, Taiwan chose another strategy, and it became successful in an ever-chang-

ing global economy by adopting globalization-friendly policies. In our comparison,
which only includes the most developed nations of East Asia, the delinking strategy
was never an alternative. Market-friendly economic policies pursued by Japan, South
Korea, and Taiwan have been very different in nature. The degree of economic open-
ness of these countries has fluctuated over time, depending on whether good times
or bad times prevailed in international politics and the world economy. This means
that a favorable business environment has always encouraged countries to go further
toward liberalization (for example in the 1990s), however, crises have exposed the
vulnerability of these countries, caused by their openness and dependence on exter-
nal powers and forces.

4 In this context, Rostows stages of growth; the two-sector surplus labor theoretical model of W.
Arthur Lewis and the patterns of development empirical analysis of Hollis B. Chenery can be men-
tioned as opposing schools. (Rostow, 1960, pp. 4-16) W. Arthur Lewis (1954, pp. 139191)
 149

In order to demonstrate the difference of these models, section 1 first looks at the
mainstream explanations of the success of Taiwan, then section 2 analyses the differ-
ent features of economic institutions characteristic of Japan, Taiwan, and South
Korea. This subchapter also provides a short overview of how Taiwans industrial
background was created.

1. The Taiwan Model

There are some basic elements of Taiwans success on which there is broad consen-
sus among scholars. Ranis (2007), Booth (2007), and Thorbecke & Wan (2007) high-
light the overall positive effects of Japanese colonization between 1895 and 1945.
Ranis put it this way: Taiwans colonial heritage undoubtedly made an important con-
tribution to subsequent economic growth. The Japanese colonial administrationif
for its own selfish reasons, such as its need for sugar and riceexpended substantial
resources and attention on Taiwans rural sector, in the form of road, drainage, irriga-
tion and power construction projects. It also improved the rural institutional infra-
structure through promotion of agricultural research, creation of experimental sta-
tions and, most importantly, the establishment of farmers associations (Ranis, 2007,
p. 37).

When it comes to the effects of Japanese colonization, Taiwan stands out, since colo-
nization rarely generated positive effects in other colonized countries. Fukuyama,
referring to an unpublished paper by Matsuzaki, states that the success of state-build-
ing in this case depended much on the autonomy of the agents on the ground
(Fukuyama, 2014, pp. 313-322). That was a good start for economic development,
however the benefits were restricted to improvements in the islands infrastructure.

Most experts (Ranis, 2007; Booth, 2007; Thorbecke & Wan, 2007) also agree on the
importance of US Aid of the 1950s and 1960s, and this was one of the few building
blocks of that success, which was shared by Japan and South Korea, as well as in
Europe by Germany, France, and Italy (through the Marshall Plan). Beyond US Aid,
American influences were decisive in the formulation and implementation of the new
export-oriented economic strategy of the 1960s and the redressing of the science
technology policy in the 1980s.5

5 Greene (2008) looks at Taiwans science policy and its institutional development. The book empha-
sizes the role of the American politicians and scientists.
150

The success of the land reform after WWII was another shared element with South
Korea. In both cases, the reform was considered as an initial condition which signifi-
cantly contributed to later industrial successes. Ranis contends A second, related
and substantial initial advantage, shared in the region only by South Korea, was that
of a three-step land reform, implemented between 1949 and 1953 (Ranis, 2007, p.
37). In the case of Taiwan, it provided savings, the necessary initial big push6, in order
build up a broad industrial base.7 At the same time, land reform meant a shift in the
structure of agricultural products as well; the new products 8 required more labor,
but they could be sold in international markets.9

An additional, maybe unintended, but important effect of the land reform was that
modernization in Taiwan didnt trigger a massive urbanization process, which is typ-
ical for industrialization in developing countries. Urbanization in Taiwan was gradual
and slow. Booth emphasizes that fast-growing non-agricultural incomes in rural
areas resulted in a very equal income distribution in the country (Booth, 2007, p. 97).
The moderate urbanization and relative income equality improved the macroeconom-
ic environment as well. This connection is described by Ranis: the features facili-
tated the implementation of a relatively decentralized rural industrialization strategy,
which generated a workable competitive industrial sector that was less subject to the
degree of industrial concentration and government directed credit syndrome of other
Asian economies (Ranis, 2007, p. 52).

Thorbecke and Wan placed the same process in a different context, highlighting the
smooth inter-sectoral structural transformation between agriculture and industry.
Taiwan represents a textbook example of a country that admirably solved the set of
issues related to the size, timing and form of the mechanism whereby a potential
agricultural surplus is translated into a net flow of resources that benefits the rest of
the economy (Thorbecke & Wan, 2007, p. 62). With that, Thorbecke and Wan shift the
attention to the process of capital accumulation. Much of developmental economics
is concerned with the question of how surplus capital can be accumulated in a poor
country, where due to the lack of capital low investment rates dont allow for better

6 The big push theory of Paul Rosenstein-Rodan (1943) emphasizes the role of the state, which is
required to reach a certain amount of investments. The theory assumes that developing countries
need this big concerted push by the state, bit-by-bit investments are not sufficient
7 Large landowners were urged to sell their land. The compensation helped them invest in industry.
8 Instead of rice and sugar, there was a heavy emphasis on mushrooms and asparagus.
9 That is why Ranis contends this export-oriented period had already begun with the agricultural
exports of the 1950s. He emphasizes Taiwan is one of the few countries that adopted a non-durable
consumer goods-oriented export strategy as part of an increasingly competitive human-resources-
based development path (Ranis, 2007, pp. 40-41).
 151

technology; the poor technological level leads to weak productivity and to low income
levels. Consequently, low corporate profits and low incomes for the workers are una-
ble to generate strong demand, which would be an essential incentive for new invest-
ments and consumption. This is a classical vicious circle, often described by propo-
nents of development economics (See Myrdal 1974).

In the developmental economics, one of the basic explanations of fast economic

growth is the Lewis theory of development, which was formulated in the mid-1950s.
In this model, there are two sectors: the traditional rural sector, to be characterized
by surplus labor and the modern urban industrial sector, to be characterized by high
productivity and demand for labor. In this concept, the transfer of labor from the rural
to the urban sector determines the development. In other words, the emphasis is put
on the rate of investments and capital accumulation in the urban sector. A similar
argument can be found in the Marxist school of thought, Yevgeny Preobrazhensky
stressed the salience of capital accumulation arguing surplus capital is to be accu-
mulated by agriculture and these resources have to be channeled into the industry
through state interventions.

It is clear the Lewis theory has very strong limitations in the context of Taiwan, since
there was no raid urbanization leading to fast capital accumulation, and
Preobrazhenskys theory cannot be utilized here, despite the existence of a strong
state, because in his model state interventions also meant adaptation of no mar-
ket-prices, typical in planned economies. Moreover, compared to Japan and South
Korea, interventions by the developmental state in Taiwan were less forceful. Ranis
argues that, Admittedly, government intervention in credit markets remained sub-
stantial and directed credit was also in evidence, as was the important role played by
informal, family-dominated allocation decisionsnow generally maligned as crony
capitalism. But it is also true that the notion that money creation was not to be used
to shift profits to favored private or state enterprisesand certainly not to the same
extent as was practiced in other East and Southeast Asian countriescame relative-
ly early in Taiwan (Ranis, 2007, p 41). Copper stresses the same feature in a different
context: There is another difference to note: unlike Japan, which has protected its
manufacturing sector from foreign competition, Taiwan let its industries move out
and encouraged global economic integration (Copper, 2003, p. 178). With that, he
refers to a Taiwan-specific characteristic, which can be summarized as less state,
more competition. This phrase, however, is only true in a regional comparison, and
within the framework of a developmental state.
152

Egalitarianism, when it comes to credit market access and access in the workplace,
has been another important characteristic of the rapid development of Taiwan, Japan,
and South Korea. The strong connection between egalitarianism and rapid growth is
obvious if one considers that there are different types of growth; for instance, growth
induced by agriculture or mining, growth created by the domestic market or interna-
tional market might create diverse effects related to equality in society. Andersson
and Gunnarson put it thus: These different sets of dynamics in the transforming
economy have impacts upon the pattern of equality in terms of wrenching and leve-
ling forces, i.e. when the dynamics of the growth process are interpreted in terms of
shifts in the relative advancement between sectors and segments of the economy
(Andersson-Gunnarson, 2004, p. 7).

Taiwans economic development could not be based on an abundance of natural

resources, only on education, technology development, and other policies of a com-
petent and efficient state which also included the adaptation of an egalitarian
approach leading to a very equal income distribution. This is the reason why, along
with South Korea, Taiwans Gini-co-efficient10 which captures the extent of income
distribution, is very low (2014: 0.28). In Japan and Singapore, income inequality is
much higher (2014: 0.31 and 0.46). Looking at the income ratio of the richest to the
poorest, a similar pattern can be perceived. The ratio of income shares of the highest
20 percent to that of the lowest 20 percent is only 3.98 in Taiwan and 4.42 in South
Korea, while these figures are 5.13 in Japan and 12 in Singapore.11

Another line of reasoning attempts to emphasize the importance of cultural values,

mainly pointing to Confucianism. Confucian values might be important in these eco-
nomic successes, however, only when comparing this region to the rest of the world.
Even in this case, Confucian values dont offer a rationale for why the catching-up
process of these countries did not start earlier. Another cultural aspect originates
from Dr. Sun Yat-Sen, who had had a strong influence on the foundation of the
Republic of China (ROC), and in establishing the characteristics of the initial setting of
the state. Despite these cultural references, Taiwans successes of the 1980s and
1990s are much less likely to be explained by differences in culture, or by Suns
legacy.

10 Gini-indicator co-efficient is a number between 0 and 1, where 1 responds to total income inequal-
ity and 0 to total income equality in a society.
11 National Statistics, Republic of China (Taiwan)
 153

2. Characteristics of Economic Institutions

Chapter 2 investigates different aspects of economic institutions in Japan, Taiwan,

and South Korea. This part looks at the following characteristics: firm structure, the
ability of firms to shape and organize regional supply chains, the role of state and
trade unions, the composition of GDP/GNP, economic openness (trade, exchange
regimes) and financial sectors capability to channel funds and encourage saving and
investments.

2.1. The Industrial Backgrounda Short History and its Consequences

Table 1.
Competitiveness indicators (2013-2014)

Global competitiveness index Innovation Cluster development

Singapore 2 9 8
Hong Kong 7 23 11
Japan 9 5 7
Taiwan 12 8 1
South Korea 25 17 28
China 29 32 24

Source: WEF Global Competitiveness Report, 2013-2014

The Asian miracle started with a full-scale industrialization in Japan, and it continued
in South Korea and Taiwan. Later, in these countries, labor-intensive production of the
early stages was replaced by capital-intensive production.

Although the fundamentals in these economies were very similar, catching up with
the West took place in different epochs, led by Japan, where the well-designed poli-
cies and traditions of early 19th and 20th century industrialization created a favorable
environment for a successful economic take-off (Rostow 1960, pp. 416). In the fly-
ing geese paradigm12, Japan was followed closely by South Korea and Taiwan.

12 In the flying gees model, the main driver of industrial change is the leaders (Japans) need to mini-
mize labor costs, based on shifts in comparative advantages. The concept suggests that industrializa-
tion and internationalization of production spreads from one low wage country to another. The mecha-
nism only sets in when competitive advantages of the first low wage country have been fully exploited.
But on the other hand, recent technological changes pose new threats since they diminish the impor-
tance of wages; since more and more labor phases can be carried out by automation that constrains
154

Taiwans industrialization started with the labor-intensive textile sector, of which the
pattern can be found in Japan and South Korea as well, however, later stages of
industrialization were quite different as public enterprises were emphasized less in
South Korea and Japan than they were in Taiwan.

Only after the second oil crisis did Taiwans modern and internationally competitive
sectors emerge. In the 1980s, the emphasis on the ICT sector turned the country into
one of the largest ICT exporters in the world economy. After significant investments
in China, Taiwans role began decreasing in this segment, but its role as a powerhouse
of ICT production still remains. When it comes to cluster development and innovation,
Taiwan stands out among its regional and global competitors (See table 1).

Liberalization and privatization of public owned enterprises took off in the 1990s,
however, even today, there exist limitations on foreign ownership. In its 2015
Investment Climate Statement on Taiwan, the US Department of State also under-
scored stalled progress on the privatization of state-owned enterprises (SOEs) and
foreign ownership caps in the telecommunication, television, and transportation sec-
tors as weaknesses in Taiwans investment climate (RosierO ConnorCuevas, 2016,
p. 20). As of 2012, In Taiwan there are 19 state-owned enterprises, and on grounds of
security and environmental protection, it limits foreign ownership in public utilities,
power distribution, natural gas, postal service, telecommunications, mass media, and
air and sea transportation. (US, Department, 2015a) However, Taiwan is not alone with
this attitude: South Korea restricts foreign ownership in 27 industrial sectors, which
is well above the OECD average. In contrast, there is only one formal limitation on
foreign ownership in Japan, which provides the most liberal, investor-friendly legal
environment in the regionat least on paper, since despite this freedom, foreign
firms do not dominate investments carried out in the country.

economic policies exploiting wage differences. It is clear that latecomers, (China, Malaysia, Indonesia,
and the Philippines) are already facing this challenge. This also increases pressures on Taiwan to ad-
just its industrial policies. In other words, it is a key question, where production takes place, but it is
equally or even more important where are the hubs of chains of production in the region. Dominant
players of supply chains are Japanese, South Korean, Taiwan, and more and more Chinese firms, while
American and some of the European companies are also able to take part in this regional competition.
(1) The more centralized Japanese model differs from that used by European and American firms,
which are more willing to share knowledge and technology. (2) Small Chinese firms usually have famil-
ial, flexible networks, however, they are much less likely to build supply chains. Only giant state-owned
enterprises have sufficient capital to organize supply chains, but the question which still remains is
whether they can do it in a sufficient way. According Goa, the profitability of SOEs is roughly compa-
rable to that of non SOEs, but only in sectors in which they have monopolies. (Gao, 2010a) (3) Taiwans
networks have a mixture of Japanese, Chinese, and Western elements, which enable them to pick the
most successful elements of adaption and organization.
 155

2.1.1. Firms

Table 2
Expenditures on research and development (2014, percent of GDP)

Japan 3.54
South Korea 4.30
Taiwan 3.00
China 2.05

Source: OECD database

The other obvious difference among these countriesoften reflected in the litera-
tureis that Taiwan firms are smaller than those of South Korea, and Japan. The
significance of this can be seen in Taiwans weakness in creating global brands, but
maybe more importantly, the capital which stand at the disposal of these firms is
more limited. This might be one of the reasons why expenditures on research and
development are significantly lower than those of Japan and South Korea, since with
research and innovation, the amount of invested capital, and thus the firms size,
matters (See table 2).

However, there are advantages as well created by the same circumstances: (1) Wan
states that firms in Taiwan are less willing to borrow money from capital markets and
as a result they are less vulnerable to financial shocks (See e.g. Asian crises of the
late 1990s) (Wan, 2008, p. 201). As the backbone of the Taiwan economy consists of
small and medium-sized enterprises (SMEs), reduced exposure of SMEs to external
funding enhances financial stability on a macroeconomic level. (2) According to Wu,
the dominance of these small and medium-sized enterprises (SMEs) can be traced
back to Taiwans dual market structure (Wu, 2005, p. 325). He explains this duality
the following way: We need to distinguish between two different marketplaces. The
first market consisted of the upstream and intermediate-stream industries in which
SOEs and LEs operated. The second market was the downstream industries dominat-
ed by the SMEs. The state governed the first market while leaving the second to
market forces13 (Wu, 2005, p. 329). Operating in an environment shaped by market
forces gave the advantage that Taiwans success depends less on state economic
policies, since the bulk of the countrys success was created by small and medi-
um-sized enterprises.

13 SOEs: state-owned enterprises; LES: large enterprises.

156

2.1.2. Foreign Direct Investments

In many countries, industrialization is linked to foreign direct investment (FDI) inflows.

Poor and middle-income Asian countries are to be characterized by FDI-led industri-
alization while Japan, Taiwan, and South Korea based their development on domestic
savings (See 2.3). These countries have been the main sources of these foreign direct
investments for these developing Asian nations as well. Between 1990 and 2014,
Japan, Taiwan, and South Korea were net FDI investors; most of the FDI was directed
into China, Thailand, and the Philippines.14 As a result of FDI-led industrialization, the
regional division of labor has changed. Over the last few decades, de-industrialization
has characterized FDI exporter countries (Taiwan15, Japan, and South Korea), while
industrialization has only speeded up in the net FDI importer countries.

Table 3.
FDI between 1990 and 2014 (millions of dollars)

Net FDI FDI outflow FDI inflow

Japan 1198111 1 320 724 122 613

Hong Kong, China 153581 1 041 120 887 539

Taiwan 107234 169 892 62 658

South Korea 102726 280 568 177 842

Malaysia -1398 142 159 143 557

Macao, China -23150 2 014 25 164

Philippines -23216 20 197 43 413

Thailand -84132 58 955 143 087

Indonesia -85514 58 239 143 752

Singapore -266586 334 149 600 735

China -926521 662 540 1 589 061

Source: own compilation based on UNCTAD World Investment Report 2015.

14 To provide a rationale to Hong Kongs special status, we have to bear in mind that most of the
Hong Kong FDI is, in reality, from somewhere else. FDI sometimes stems from China, and the capital
is only reinvested in order to take advantage of the investment incentives provided by China. (Graham
Wada, 2001, p. 2.)
15 While in 1983, manufacturing accounted for 42.80 percent of Taiwans GDP, this ratio decreased to
29.80 percent in 2012.
 157

2.1.3. Supply Chains

Industrial states of the 19th and early 20th centuries (US, Germany, Japan etc.) built up
their own industrial bases while relying on their domestic markets. In the late 20th and
21st centuries, economies of scale do not allow for this strategy: every late comer has
to find its niche in the global supply chain. So industrialization of these countries has
been linked to internationalization, and building regional/global supply chains. That is
why the late industrialization of Chinawithout any exaggerationhas changed the
entire region. The process has altered the main patterns of manufacturing, not only in
Asia, but in the world economy as well. Based on manufacturing output, China alone
accounts for more than one-fifth of the production of the world (2012: 22.2 percent). The
United States ranks second on this list, with Japan in third place (Meckstroth, 2014).

The economy in Taiwan fully used chances to cooperate with China. Taiwan has a
highly developed economy. For the time being, Taiwans economy is the size of the
Belgian economy (US$490 billion in 2014). But, adding the performance of Taiwan
firms operating in China, Chiawan16 generates around US$700 billion, which equals
the size of the Turkish economy, or that of South Korea. There are also estimates
regarding the Chinese workforce working in Taiwan firms. These calculations range
from 13-15 million and 20-23 million workers. The last figure is roughly equal the
entire population of Taiwan (Lee-MakiyamaMesserlin, 2014, p. 3).

The future of Chinese economic development, and the catching-up process, seems to
be more opaque than ever, as the recent slowdown of the Chinese economy reveals
fundamental problems which economists usually summarize with the term mid-
dle-income country trap. This refers to scores of problems which fast-growing econ-
omies face when they can no longer base their development on cheap wages. As a
result of successful modernization and industrialization, incomes have risen signifi-
cantly in China, in particular along the coastal regions. But due to higher wages, this
economic model wont be tenable in the long run, which is why new competitive
advantages must be sought. The shift to a new model accompanied by deep structur-
al changes in the economy, with more emphasis on the service sector and a higher
added value, is not an automatic process; there is no guarantee of success. Because
of these challenges, Taiwans reliance on China as a broad industrial base has already
changed, and the new situation requires strategic decisions be made in Taipei.17

16 The term Chiawan refers to added value generated by Taiwanese firms in Taiwan and China.
17 The other part of the difficulties derives from the political institutions of China. Mixin Pei connects
the problem of political institutions to economic challenges: The absence of a competitive political
process and a free press in China makes these high-risk sectors even more susceptible to fraud, theft,
158

2.1.4. Firms and the Developmental State

The developmental state paradigm refers to the effectiveness of these states in

implement policies aimed at modernizing, reorganizing backward and traditional
economies, directing the behavior of economic players, and shaping major macroe-
conomic trends.

The first and most effective example of a developmental state was Japan18 , which
was emulated by South Korea, Taiwan, Singapore, and Malaysia. Thailand and Hong
Kong had a freer market approach regarding industrial policy, which was combined
with an open attitude towards FDI, while Japan and South Korea discouraged foreign
direct investments. The South Korean policy changed slightly after the Asian financial
crisis; however, the industrial landscape is still shaped by large South Korean enter-
prises (chaebols).19 Taiwan, in most of the cases following a balanced policy, encour-
aged FDI in most sectors, and it discouraged them in some of the more vulnerable
sectors.

Wan contends that, unlike the Japanese model, Taiwans state developmental policies
were less powerful, so Taiwan firms have been shaped more effectively by the market.
In this environment, incentives to competition are stronger and state intervention is
less centralized and intense. (Wan, 2008, p. 215.) This assessment may be applied to
the epoch after 1985, but even prior this period, Taipeis policies were much more
heavy-handed, and relied more on state-owned enterprises than Japan or South Korea.

kickbacks, and bribery (Pei, 2007, p. 3). Mary Gallagher states that in fact the Chinese liberalized
economy doesnt necessarily lead to a less authoritarian political rule (Gallagher, 2002, p. 340). Al-
though successful countries tend to be democratic ones, (limited) liberal economic regimes can be
found even in non-democratic countries.
18 Among scholars there is no agreement on the efficiency of the Japanese and South Korea in indus-
trial policies. Noland argues A comprehensive review of the evidence suggests that the growth-accel-
erating impact of industrial policies was modest. So why would policymakers consistently intervene in
ways that apparently did not do much to enhance welfare? One possible answer is that policymakers
simply did not get their interventions right. Another is that the interventions were largely determined
by political competition among self-interested groups, as in the case of Japan where more than 90
percent of on-budget subsidies for decades went to the declining agricultural and mining sectors
rather than the emergent high-technology sectors of popular lore (Noland, 2003).
19 Chinas does not fit into the developmental state paradigm, since the state still dominates major
sectors of the industry, but in contrast to Japan, it gives clear incentives to foreign firms to invest in
China. According to Gao, SOEs still make up a substantial part of the national economy roughly con-
trolling 30 percent of the total secondary and tertiary assets, or over 50 percent of total industrial
assets (Gao, 2010b). Fluctuations in Chinese industrial policy can be observed in this case as well. The
1980s, when after adopting the joint venture law, foreign firms were often treated better than domes-
tic ones, was entirely different from the period after the financial crisis (2008-2009) when support for
state enterprises boosted the economy.
 159

Additionally, the dominance of small and medium-sized enterprises can also be

espoused by the relatively small domestic market. This point is particularly interest-
ing, considering the views that Taiwan had a less effective state in development. For
example, analyzing the period between 1950 and 1985, Wu argues that there was no
institutional mix in Taiwan which could have implemented and sustained coherent
economic policies. He adds, Taiwans economic bureaucracy was neither monolithic
nor harmonious, and its steering capacity as questionable. (Wu, 2005, p. 320.) If so, it
is understandable why, between the end of the war and the mid-1980s, Taipeis poli-
cies failed to boost the establishment of internally competitive big firms on a large
scale. Nevertheless, in the 1980s, there was a clear shift in economic policy leading
to the creation of the Hsinchu Science-Based Industrial Park in 1980, and the estab-
lishment and success of the science park clearly demonstrated the ability of Taiwans
bureaucracy to implement consistent policies.

2.1.5. Trade Unions

Trade unions bargaining power has been dwindling over the last decades, still they
are crucial in determining income distribution patterns. According to Kuruvilla and
Erickson, Taiwan and South Korea belong to a different type of industrial relations
than Japan (Kuruvilla & Erickson (2002), p. 172)20. The peculiar features of Japanese
industrial relations are well known and discussed in the literature. The main differ-
ence between the Japanese and Taiwanese/Korean versions of industrial relations
results from the Keiretsu system of the Japanese creating the shukko practice which
allowed the transfer of workers within the Keiretsu group, thus increasing flexibility
and stability of the system of industrial relations (KuruvillaDasKwon Kwon, 2002
p. 13).

Table 4
Trade union density (1980-2014)

1980 1990 2006 2010 2014

Korea 16 17 10 10 n.a.
Japan 31 25 18 18 18
Taiwan 26 49 36 n.a. n.a.

Source: ILO database, OECD data

20 Kuruvilla and Ericcson argue that there 6 different types of industrial relations systems in Asia.
160

In the case of Taiwan, a strong connection between democratization and trade grow-
ing union density can be demonstrated. In 1985, the density only reached 28 percent
in Taiwan, which climbed to 50 percent in 1994, however it must be considered that
an insurance system was only provided to members of trade unions, so that is one of
the reasons for the high union density in Taiwan.

The same indicator in South Korea is definitely the lowest among these three coun-
tries. This can contradict presumptions since, as we can see, the share of industry is
the highest one in this country group. The contradiction is clear when one considers
how much easier it is to form and operate a trade union organization if it can cover a
substantial number of workers in one firm, and it represents the unified interests of
these workers. That is more challenging in the services, where a much smaller num-
ber of workers per firm with more diverse interests and educational backgrounds has
to be represented by trade unions. The link between democratization and growing
union density could also be witnessed in South Korea in the 1990s; however, union
density was never as high as in Taiwan. After the 1990s, in all of these countries,
servitization of the economy led to a decline in trade union density and diminishing
the bargaining power of these organizations.

The last data accessible in the case of Taiwan is from the year 2006. That year, the
trade union density was 36 percent, which was almost double the OECD-average.
Trade unions might not be the only causes of the equal income distribution in Taiwan,
but they have definitely contributed to this positive picture.

2.1.6. The Structure of National Income

There is another clear fault-line among the countries in question: They reorganized
their economies after the Asian crisis using very different strategies. South Korea has
been relying more on inbound investments than Japan and Taiwan, which means that
Korean firms have chosen another strategy besides FDI in order to enhance compet-
itiveness. Differences between GDP and GNI21 show these trends; the GDP of Japan
and Taiwan are significantly lower than GNI,22 while the aggregate value of the GDP is
higher than the GNI in South Korea.

21 GDP expresses the value produced within a country, while GNI includes GDP and the income re-
ceived from other countries as well.
22 In 2014, Taiwanese GNI was US$21 billion higher than GDP. The same difference was US$45 billion
in Japan, while in South Korea GDP was higher than GNI. (The difference being US$45 billion).
 161

The composition of GDP also shows significant differences in this country group.
South Korea is still one of the countries where manufacturing is relatively important,
whereas in Japan and Taiwan, industrys share in GDP is very moderate. (Table 5) This
funding is in line with the outsourcing strategy of the domestic firms in Japan and
Taiwan, which leads to a de-industrialization process in these economies and more
and more investments abroad.23 The process is often described as the hollowing
out of the economy (Hsu-Liu 2004, p. 13), however it must be clear, along with this
process domestic firms are moving up the added value ladder. As John Berthelsen
puts it: dont bet against Taiwan. The 1970s and 1980s were regularly punctuated by
the same warnings about the US economy as industry after industry moved its
assembly facilities to ever-cheaper free-trade zones overseas, most of them in Asia.
Then an undeniable explosion occurred in US innovation and suddenly manufacturing
didnt matter that much anymore (Berthelsen, 2003).

Table 5
Structure of GDP and distribution of employment (2014)

Agriculture Industry Services

GDP Employment GDP Employment GDP Employment
share share share share share share
Japan 1.2 3.7 25.6 25.8 73.2 69.1
South Korea 2.5 5.7 38.1 24.6 59.5 69.7
Taiwan 1.7 4.9 32.8 36.1 65.6 58.9

Source: Taiwan Statistical Book 2015, National Development Council, p. 355, p. 361

As we can see above, the different internationalization strategy of Taiwan firms is

clearly expressed in the astounding difference of GDP and GNP. Although Taiwan is
one of the developmental states of Asia, it is clear it can be characterized by less
powerful or more flexible policies than its Japanese or Korean counterparts. This
flexibility and different firm structure might also have been explanatory factors of a
greater openness of the economy.

23 After 2000, Japan and Taiwan began relying more and more on outbound investments, and domes-
tic firms reallocating their production into China have improved their competitiveness. As a result of
this internationalization strategy, Japan and Taiwan invested 11 percent of the gross fixed capital for-
mation abroad in the form of foreign direct investments in 2014, while South Koreas international in-
vestment position was much weaker, only reaching 3.5 percent of the gross fixed capital formation. On
the other hand, trade dependence of Taiwans economy on China is far greater than that of Japan.
Based on the calculations of the Yuanta-Polaris Research Institute of Taiwan, exports to China made up
15 percent of GDP in 2014, while the same number was 2.48 percent in Japan.
162

2.2. Openness

2.2.1. International Trade

Table 6
Trade openness of the country (2014)

Japan South Korea Taiwan

Total trade to GDP 40.28 93.33 130.25
Total export to GDP 18.28 48.01 69.94
Merchandise exports to GDP 14.84 40.57 59.17
Services exports to GDP 3.43 7.45 10.78
Total import to GDP 22.00 45.32 60.30
Merchandise imports to GDP 17.89 37.23 51.80
Services imports to GDP 4.11 8.09 8.51

Source: based on WTO data own calculations

Based on the trade-to-GDP ratio, Taiwan had a more open economy in 2014, while
Japan obviously had the least open economy in this group. South Korea clearly
demonstrated a greater openness with regard to trade. However, this indicator also
implicitly includes the size of the economy, since it is usually easier to rely more on
domestic products if the supply is greater. If another indicator is usedthe general
average tariff levelsSouth Korea is the country in the group to be characterized with
protectionist trade measures and Japan seems to implement the most liberal trade
policies. In both cases. Taiwan ranks in second position.

But before looking at other indicators of trade openness, it is worth having a short
historic overview of trade policies of Japan, Taiwan and South Korea, since historical-
ly, relatively liberal trade policies of the region have only been products of the last
three decades. After World War II, trade policies were protectionist. Each country had
a phase of import substitution after the war.

The idea behind import substitution was to build up an own-broad industrial base and
to just import goods and services that the domestic companies were not able to pro-
duce or provide. Based on this policy, many countries attempted to catch up with the
West (Former socialist countries, Latin American countries). However, only those
countries (Japan, Taiwan, and South Korea) could complete this process, which
changed from import substitution to an export-led strategy. For the failure of import
substitution policy, there are plenty of examples to be found in the former socialist
countries of Eastern Europe. These failures cannot only be explained by the inherent
 163

problems of centrally planned economies, since Latin American countries using the
same recipe had a more or less free market system. On the other hand, China had a
centrally planned economy; however, the country has so far managed its catching-up
process. While Wu argues that only structural reforms implemented by a strong state
can provide a reason for the success of the East Asian countries (Wu, 2005, p. 251),
these examples show that the state factor alone cannot explain the success or fail-
ure of the import-substitution policy. What is more critical is whether an adequate
size of domestic market can be secured.

Only after the import substitution period did export-led growth and later liberalization
of the markets become aspects of economic policy.

Japan switched to an export-led growth path in the 1950s. The government heavily
protected domestic market players by implementing non-tariff barriers. Special
vehicles of external trade were set up, the general trading companies, that
attempted to identify market niches of the world market which could be targeted.
Among scholars, there is a broad agreement that the Ministry of International Trade
and Industry (MITI) had a very strong role in directing the economy and in giving the
right export incentives.

Taiwan followed the example of Japan very early on. Along with export-promotion
measures, the first export processing area of the country was set up in Kaohsiung
in 1966, so the countrys comparative advantages could be utilized in textiles and
other industrial sectors. In the area, three zonesa free trade zone, a duty free
zone, and an industrial parkwere integrated, thus providing a new economic
model for the world (See more details in: Karalekas, 2016; Cski, 2016).

South Korea introduced export-oriented policies after 1961. In contrast to Taiwan,

the South Korean government did not set up state-owned enterprises to lead the
export boom. Instead, it promoted the establishment of the so-called national
champions, which as flagships of the countrys economy, could lead the moderni-
zation of the economy. However, government control of the economy was stronger
than in Taiwan, because subsidized long-term loans, along with other measures of
export promotion, enabled the government to set strict export targets.

The phase of liberalization started in the 1980s and it cannot be disconnected from
the rapid development of the legal framework brought about by GATT and WTO
rounds. As table 7 demonstrates, there are clear differences among the countries in
question.
164

Japan, as the most advanced country of the region, has the lowest average and
most favored nations tariffs (MFN) in the region.

Taiwan has a slightly higher average MFN tariffs applied than countries of the
European Union (2014: 5.3 percent). This might be in line with the development of
the economy (China, as a less developed economy, maintains higher levels of tar-
iffs).

South Korea is definitely out of line considering the development of the economy.
Agricultural tariffs are significantly higher in all the countries analyzed; South
Korea has the most protective trade policy regarding agricultural products, while
China, Taiwan and Japan have implemented similar MFN tariff levels which are
distinctly higher than those of the European Union (2014: 12.2 percent).

Table 7
Average most favored nations tariffs (2015)

Japan 4.21
Taiwan 6.54
China 9.55
South Korea 13.32

Source: WTO database, https://www.wto.org/english/tratop_e/tariffs_e/tariffs_e.htm

There is clearly pressure on these countries to further liberalize trade relations, since
without liberalized regional and world markets, countries able to export high-tech
commodities to the world markets would be compelled to reduce the output, leading
to moderate or negative GDP growth. This certainly applies to Taiwan, where most of
the GDP is generated by net exports. That is why it is painful for Taiwan businesses
that the country could not benefit very much from the emerging new regional trade
agreements of the last decade, since the countries involved in negotiating regional
trade agreements24 clearly aim to surpass the level of liberalization enabled by WTO
rules.

24 F. ex. Trans-Pacific Partnership TPP; Regional Comprehensive Economic Partnership RCEP)

 165

Table 8
Global Trade Enabling Index (global ranking, 2014)

Composite Market Border Infrastructure Operating

indicator administration environment
China 54 119 48 36 37
Japan 13 111 5 5 22
South Korea 30 120 19 7 55
Taiwan 23 121 18 15 18

Source: World Economic Forum

Another indicator to measure the level of trade liberalization is the Global Enabling
Trade Index, published every year by the World Economic Forum. It is a composite
indicator, a compilation of individual indicators into a single index. These figures cap-
ture different dimensions of trade policy: market access, border administration, infra-
structure, and operating environment. According to the 2014 Report, Japan has
adopted the most liberal trade policy in this group of countries. South Korea, which
ranks 30th, has a very uneven performance in addition to a weak market access per-
formance. Various aspects of the institutional framework, from red tape to the judi-
ciary, as well as the access to finance (82nd), and the inward-looking nature of certain
regulations, remain problematic (WEF, 2014, p. 20).25 Regionally, Taiwan has a very
strong position in terms of operating environment and infrastructure, ranking 23rd
globally. The country is the second in the group, however, the most problematic fac-
tors for export and import remain trade barriers and tariffs. Generally, Taiwans trade
policy is liberal, however, todays trade regulations go far beyond tariffs. therefore,
future risks come from the diplomatic isolation of the country, which limits its maneu-
vering room to join emerging mega trade agreements.

2.2.2. Exchange Rate Regimes

Most economists would agree on the importance of international competition, which

ensures the necessary feedback mechanisms to domestic firms and governments.
This lesson applies equally to advanced economies. However, in the case of develop-
ing countries, the answer isnt that clear, so it might not be surprising that there is a
broad literature on developing countries strategies on (whether and, if yes) how to
open up their economies to global trade. Aside from traditional trade barriers (tariffs,

25 China ranking 54th globally has the best performance among BRIC countries; nevertheless, there
is much room for improvement in every aspect.
166

quotas) countries make use of various means to distort international trade; these can
be regulations, specifications; but the most apparent is the exchange-rate regime of
the country. That is the reason why the exchange-rate policies of Japan, Taiwan, and
South Korea and their alterations are so crucial to understanding the catching-up
process of these countries.

Based on sudden changes of real effective exchange rates, 26 manipulation of

exchange rates is captured easily, since they are weighted averages of bilateral
exchange rates adjusted by relative consumer prices. However, there are other
aspects mirrored in real effective exchange rates which serve as a measure of inter-
national competitiveness, as components of monetary/financial conditions indices, as
a gauge of the transmission of external shocks, as an intermediate target for mone-
tary policy or as an operational target, etc. (Klau-Fung, 2006, p. 51).

In diagram 1, it is easy to follow that cautiousness coupled with a slow but determined
weakening of the currency has characterized Taiwans exchange-rate policy between
1994 and 2016, in contrast to the two other countries where sudden changes in the
effective exchange rates can be traced back to policy alterations and external eco-
nomic shocks. Between 2012 and 2016, there is a clear depreciation of the Japanese
currency, which mirrors Japanese policy efforts. In the same period, the effective
exchange rate of the Korean Won seems to have been more influenced by external
factors than was the New Taiwan dollar.

In Taiwan, there are no restrictions on capital movements linked to trade and servic-
es, which could trigger sudden change in the exchange rates. However, remittance of
capital invested in Taiwan must be reported to the Investment Commission (Ministry
of Economic Affairs), and the Central Bank of Taiwan can require the transaction to be
scheduled. This policy can have a mitigating effect on these changes.

In contrast to Taiwan and South Korea, Japan only maintains an ex-post notification
system for foreign exchange transactions, but it is rather formal, since Generally, all
foreign exchange transactions to and from Japanincluding transfers of profits and
dividends, interest, royalties and fees, repatriation of capital, and repayment of prin-
cipalare freely permitted (US Department, 2015a, 2005b).

26 Real effective exchange rate is a weighted average of bilateral exchange rates adjusted by inflation.
 167

Diagram 1
BIS real effective exchange rate (Real CPI-based, broad indices)

160

135

110

85

60
1988
1989
1990
1991
1992
1993
1994

2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
Taiwan

Japan

South Korea

Source: own compilation, based on the database of the Bank for International Settlements

Taiwans limitations or brakes on foreign exchange transactions and capital move-

ments can be explained by cautiousness: a lesson learned in the Asian crisis. As
Thorbecke and Wan quote K. T. Li, stability with growth is the most integral element
of the Taiwan model: As K. T. Li, the chief architect of Taiwans economic policy, once
remarked, the Taiwanese government would always opt for greater stability, even if it
meant foregoing, sacrificing, an additional 2 per cent in annual growth (Thorbecke-
Wan, 2007, p. 55).

The diagram also demonstrates that a weakening of the policy is an integral element
of Taipeis economic policy.27 Stabilityoften coupled with pragmatismled to a very
cautious exchange rate mechanism, Ranis emphasizes: Taiwan generally showed

27 These changes in the three countries have usually taken place in a low-inflation environment. Be-
tween 1994 and 2015, the standard deviation of inflation rates measured in average consumer prices
was significantly lower in Japan (0.68), than in South Korea (1.34.) and Taiwan (1.07). However, between
1994 and 2015, 12 years in Japan, only 4 years in Taiwan and 0 of them in South Korea were spent in
deflation.
168

greater flexibility towards prices, including the exchange rate regime, with gradual
devaluations preceding the actual crisis by several years (Ranis, 2007, p. 52).

Present differences in attitude to foreign exchange transactions can be showed in

past, historically, both Japan, Taiwan, and South Korea have put a strong emphasis on
exchange rate policy, which clearly contributed to maintaining regional competitive-
ness, and to the export boom of these economies.28

Japan has had the most liberal exchange regime among the regional competitors
over the past decades. When in 1971 Nixon announced that the US dollar would not
be convertible into gold, Japan immediately switched to a managed floating system.
However, free floating exchange systems were legalized only in 1975, at the
Jamaica conference of the International Monetary Fund. During the late 1970s and
early 1980s, the Japanese Yen was under appreciation pressure, the Plaza Accord
adopted by the United States, Germany, the United Kingdom, and Japan triggered a
new wave of appreciation of the Yen in 1985, which probably contributed to the
Japanese property bubble in 1991 and the subsequent slowdown of economic
growth. Since then, Japanese monetary policy has attempted to depreciate the Yen
several times. (f. ex. after the Asian financial crisis, and after the Global Financial
Crisis). The new Japanese economic policy (Abenomics) has also included depreci-
ation of the Yen.29

After a currency reform in 1949, the ROC government devalued the New Taiwan
Dollar (TWD) in 1950-1951. After maintaining this exchange rate in the 1960s, and in
the early 1970s, the TWDs exchange rate was much less influenced by the govern-
ments decisions, since after dismantling the Bretton-Woods system, exchange

28 After WW2, currencies of the non-socialist countries were integrated into the Bretton-Woods sys-
tem. The reason for the very limited exchange rate movement can be found in the set-up of the Bret-
ton-Woods system. The US dollar was at the core of this exchange rate mechanism by being the only
currency which was convertible into gold. Other currencies would only move within an interval of +/- 1
percent. Despite the narrow band, the system also allowed for greater devaluations. If the country was
not able to maintain the agreed-upon exchange rate mainly due to long-term balance of payment prob-
lems, it could alter the exchange rate after negotiations with the International Monetary Fund. Devalu-
ations i.e. took place in Hong Kong in 1967, in the Philippines in 1962, in South Korea in 1954 and 1959,
and in Indonesia in 1967.
29 In 2010, the reform of the economic policy (Abenomics) also included other areas of economic
policy providing a comprehensive policy framework. The government has launched reforms in taxa-
tion; in investment policies, to attract more foreign capital; and in employment and social policies.
Despite the bond-buying programs of the central bank, a plummeting Yen, and the stimulus program,
the Japanese economy is near to recession. One of the more plausible explanations is that economic
reforms in the labor market, tax system, and migration policy have stalled.
 169

rates of capitalist countries became determined more and more by market forces.
A foreign exchange market was established, and a managed floating rate system
was introduced in 1979, then a new wave of liberalization took place in 1989. Since
then the most long-standing element of monetary policy has been the depreciation
of the domestic currency in order to improve competitiveness.

In the 1950s, a multiple exchange system was implemented in South Korea. The
currency had an overvalued official rate and a more realistic exchange rate, in
which trade transactions could be conducted. However, after the military coup in
1961, currency was sharply devalued and a unitary exchange rate was introduced.
In 1965, South Korea pegged its currency to the US dollar. Between 1971 and 1980,
the currency depreciated several times. This regime was replaced by a multiple
currency basket system in 1980. Not until 1990 was the so-called market average
system introduced, which determined, the exchange rate against the US dollar
within a specified range around the weighted average interbank rates of the previ-
ous day (Nam-Kim, 1999, p. 236). South Korea officially adheres to a free float
regime, but official interventions are not excluded.

As we can see, these countries have clearly opted for a more cautious liberalization
of their financial markets than is usual in advanced economies; however, there are
still clear differences among them. Japan has the most liberal attitude and South
Korea has implemented the most restrictive policies regarding exchange rate trans-
actions, foreign exchange investments, and foreign ownership.30 If one wanted to
note some of the characteristics of Taiwans exchange policy, which created a favora-
ble macroeconomic environment, cautiousness and predictability would be the key
words.

30 Although Chinas exchange policy distinguishes clearly from advanced countries, there are paral-
lels with regard to past practices of these countries: (a) pegging of the currency, (b) then a slow liber-
alization process, (c) restrictions on foreign portfolio-investments, (d) limitations on convertibility, (e)
depreciation of the currency in order to maintain competitiveness. For the time being, China is by far
the candidate with the most potential to challenge the power and influence of the American dollar.
There are clear economic steps taken by the Chinese government which tend to achieve greater ma-
neuvering room in monetary issues: (a) voting shares transferred from industrial economies to China
on the IMF board; (b) widening the narrow band of the Yuan; (c) agreements between China and Russia
to reduce the impact of the US dollar and foreign exchange risks, and (d) establishment of the Asian
Infrastructure and Investment Bank, demonstrate the muscles of a new global economic power.
170

2.3. Savings and Investments

Table 9
Savings-Investment Gap (percentage of GDP)

1980 1985 1990 1995 2000 2005 2010 2015

China -2.2 -4.8 4.7 2.5 1.7 5.8 3.9 3.1
Hong Kong -1.0 9.2 8.5 -2.9 4.4 11.9 7.0 2.2
Indonesia -11.5 -17.5 -19.4 -8.5 -0.2 -5.0 0.7 -2.2
Japan -1.3 3.5 1.2 2.1 2.8 3.7 4.0 3.0
South Korea -10.5 -2.1 -0.9 -1.8 1.9 1.4 2.6 7.1
Malaysia -5.1 -6.1 -6.8 -9.1 8.4 14.0 10.1 2.2
Philippines -16.9 -5.4 -5.5 -2.4 -2.8 1.9 3.6 5.0
Singapore -13.2 -0.1 8.0 16.4 10.6 21.9 23.7 20.8
Taiwan -2.0 14.4 6.4 1.8 2.6 5.4 9.5 12.4
Thailand -8.8 -4.8 0.0 -7.8 7.8 -4.0 2.9 6.2
Vietnam -2.0 -6.3 9.2 -12.7 2.7 -1.0 -3.8 0.7

Source: own compilation based on IMF data

Significant amounts of savings are needed to invest into the economy in order to
achieve rapid growth rates, therefore, one of the most emphasized features of Japan,
South Korea and Taiwan is large savings. In contrast to the Anglo-Saxon world, stock
exchanges are not the most important elements of funding in the region. Savings are
channeled via banks to the firms in this model. The same funding form can be found
in Western and Eastern European countries as well.31

High savings rates are not only crucial in achieving robust growth, but they are essen-
tial in maintaining stable growth. The Asian financial crisis of 1997-98 vividly demon-
strated how vulnerable countries can be when solely relying on external funding. (See
i.e. Thailand32) After having drawn the lessons of the Asian crisis, South Korean and
other Asian policy-makers began focusing on financial exposure more intensively, and
as a result of this policy change, most of the Asian countries were able to change the

31 Only exceptions are Hong Kong and Singapore where the institutions of funding and saving go back
to colonial rule.
32 The crisis which originated from Thailand exposed Asian countries to adverse financial shocks.
Malaysia and Indonesia had to grapple with spill-over effects of the Thailand crisis, which was no sur-
prise, since the countries had many economic features in common. It was more astounding that South
Korea was also deeply hit by the devastating effects of the crisis. Despite the fast growth pace of the
economy, the country increasingly had relied on external financing in its development.
 171

growth model, less relying on external financing.33 Savings today exceed investments
in the region which makes economic development less vulnerable. In 2015, Singapore
and Taiwan were the countries in the country group where net domestic saving rates
(savings-investments) were the highest in the region. Although China had the sec-
ond-highest rate of savings in the region, it still invested 44 percent of its GDP, hence
net savings are moderate.

As mentioned previously, if savings are compared to investments in a regional con-

text, the large maneuvering room available to Taiwan is clear. However, beyond this
clear difference there lies a different economic strategy of Taiwan, which has invest-
ed its surplus savings in an increasing scale in China after 2000, and not in the
domestic economy.

One cannot be surprised, when looking at the literature on Taiwans economic strate-
gy, that economic dependence on China has often been featured as a potential
threat.34 This trend can not only be verified by the amount of FDI directed to China,
but the investment ratio to GDP. Between 1980 and 2015, Taiwan had the lowest aver-
age annual investment ratio to GDP among these countries. (25.01 percent) During the
same period, South Koreas investment ratio to GDP was 33.4 percent, and even the
most advanced economy of the group,35 Japan, had a higher investment ratio (26.03
percent) than Taiwan.

Still, substantial savings provides decision-makers in Taipei with the freedom to

choose the most appropriate economic policy. This freedom of policy is guaranteed
by considerable foreign reserves as well. By end of April 2016, Taiwans foreign
reserves, measured in percent of GDP, hit 83 percent, 31 percent in Japan, and only
27 percent in South Korea. This freedom is enhanced by two additional factors: (1) the
relatively low public debt and (2) the low tax and other revenues ratio to GDP.

1. Between 1995 and 2014, South Korea accumulated on its gross public debt signifi-
cantly. The same applies to Japan, which doubled its debt. Only Taiwan pursued a
more moderate policy, where the general gross debts to GDP only reached 39 per-
cent in 2014.

33 The same applies to the Philippines since 2002.

34 A summary of the main arguments for decreasing dependence on Chinas economy can be found
at Katsuya (2016).
35 Usually, advanced countries investment rate is lower than that of emerging countries.
172

2. Taipeis economic policy has the most maneuvering room in the future by having by
far the lowest taxes and other revenues ratio to GDP in this group. Taiwans 15.1
percent is one of the lowest among advanced countries; only Singapore (15 percent)
can keep up with Taiwan. Japan (35 percent) and South Korea (20.9 percent) lag
well behind Taiwan.36

Table 10
General Gross Public Debt to GDP

1995 2014
Japan 109 249
South Korea 10 35
Taiwan 25 39

Source: IMF data

There is no real agreement among scholars on the salience of savings for growth.
Some of them argue that a long capital accumulation process proceeds to a rapid
growth period. Others contend that rapid growth is needed first, which later enables
the population to save. The first school of thought is in line with the backwardness
model of Gerschenkron who emphasizes the importance of capital accumulation and
the theses of Marxian economics.37 However, looking into the data from Taiwan, there
is no real time-difference between the pickup of growth and the increase in savings.
Wu argues that economic growth was the first step, which could be followed by high
savings rates, because most of these countries first had to tackle high inflation rates
of the post-war period, only afterwards the business environment became favorable
for savings (Wu, 2008, pp. 280-282).

As highlighted in this chapter, an increase in domestic savings has been a more cru-
cial element in Taiwans, as well as Japans, success than that of South Korea. The
question is what elements of the financial institutional framework encourage domes-
tic savings to that extent. The next chapter attempts to compare Taiwan regarding its
financial sector to other Asian countries.

36 Based on CIA estimates (2015)

37 See the topic in more detail in Soto (2000, pp. 36-68)
 173

2.4. Banks and Stock Markets

Table 11
Market capitalization (percent of GDP)

2005 2014
Hong Kong 581.0 1111.4
Singapore 202.0 244.5
Taiwan* 178.8 182.45
Malaysia 125.8 135.8
Japan 100.0 95.1
Philippines 38.6 91.9
South Korea 79.9 86.0
China 17.7 58.5
Indonesia 28.5 47.5

Source: own compilation based on World Bank database. *Data from National Inflation Association

In the financial mediation, stock exchanges are less important in the region than in
the United States or the United Kingdom. Aside from the financial centers of the
region, Taiwan has had the most developed stock market (Table 11). The capital mar-
ket is deep and active, there are no restrictions on foreign ownership except in the
sectors already mentioned (US, State Department, 2016a). In contrast to Taiwan,
Japanese company managers still have a negative attitude toward foreign portfolio
investors, but in recent years there are sign of change as well. In South Korea, the
aggregate foreign portfolio investment ceiling was abolished in 1998, and since then,
investors have good access to the stock market.

Despite opening to private investments, Taiwan tightly regulates its banking sector.
Over the past decade, 9 state-owned banks have been privatized. The only Taiwan-
based reinsurance company was privatized in 2002. Banks that have some form of
state ownership or control, including the 3 remaining banks wholly owned by the
state, dominate Taiwans banking sector and hold a market share of nearly 50.4 per-
cent as of December 2014 (US Department, 2015a).

Another important feature of the Taiwan banking sector is its growing dependence on
China. At the end of 2015, around 15 percent of assets of the Taiwans banks were held
by offshore banking units and overseas branches. According to Fitch estimates,
around 7 percent of the Taiwan banking sector is exposed to China, which reveals
174

deep connections between the two economies.38 In the Japanese and South Korean
banking sectors most of the banks are privately owned.39 Banks belong to the open
sectors, which means there is no ceiling on foreign ownership in the banking sector.

The relatively liberal policies in the banking sector and in the stock markets are
results of a long period of development. After WWII, banks all over the world were
more restrained by state regulation and the Bretton-Woods system itself, in which
convertibility of currencies was the exception, rather than the rule.

1. The structure of the Japanese banking sector was highly influenced by the approach
of the American Glass-Steagall (1933), which divided the banking sector into com-
mercial banking and investment banking. After the war, the Japanese adopted this
approach. Investment banks could accept deposits, but they were not as tightly reg-
ulated as the commercial banks which, on the other hand, were protected by the
state in case of a bank failure. In addition, long-term banking was separated from
short-term banking in Japan. This is not the only difference which distinguishes the
Japanese banking sector, compared to the entire Asian region. The keiretsu groups
found broad attention in the literature. These were groups of companies which were
built around a bank.40 The advantage of keiretsu groups has been a long-term con-
nection with banks, however it created a cozy relationship between government and
business which led to the heavy extension of easy credit by government-guaranteed
banks to closely allied companies. This business environment was the main cause
of the Japanese financial crisis of the early 1990s (Krugman, 2009, pp. 56-76).

2. South Korea was able to avoid this trap by employing a different approach. South
Korean banks did not hold shares in the firms; however, the government strongly
directed the banks which were turned into public enterprises in the 1960s. Over the
1980s and 1990s, deregulation and liberalization were trends in the banking sector
around the world; however, this trend was punctuated by the Asian crisis. As a
response to the crisis, South Koreas government launched serious reforms. After
the Global Financial Crisis, South Korea was forced again to take stabilization
measures which included: (1) generous liquidity support in Won and US dollars; (2)

38 http://www.reuters.com/article/fitch-taiwan-banks-china-exposures-to-al-idUSFit709659
20140724
39 In South Korea, the KDB is government-run financial group. In Japan, there are many more of this
kind of institutions. Development Bank of Japan, Japan Finance Corporation, Japan Bank for Interna-
tional Cooperation, Okinawa Development Finance Corporation, Shoko Chukin Bank, Japan Housing
Finance Agency belong to the public financial institutions.
40 It is no novelty, in contrast to the Anglo-Saxon world; German banks are owners of large compa-
nies. However, the cooperation of banks and firms has reached a new level with the keiretsu groups.
 175

guaranteeing external debt of banks; (3) recapitalization and restructuring funds;

and (4) SMEs access to credit (JP Morgan, 2002, p. 5). Thanks to prompt policy
measures which enhanced the stability of the financial sector, the flow of money
was not disrupted severely (IMF, 2014 p.11).

3. The Taiwan banking sector underwent a similar metamorphosis beginning with

heavy state intervention, and leading to liberalization. After WWII, Taiwans banking
sector was highly regulated, because the KMT government, while facing galloping
inflation, introduced controls on bank deposits, interest rates, and different banking
transactions. In the period between 1949 and 1992, state-owned banks dominated
Taiwans banking sector. These banks channeled capital into favored large, state
enterprises. Only in the late 1980s, and early 1990s, internationalization and liber-
alization started to change the sector: By 1988 a significant proportion of regula-
tory controls had been swept away. In a significant move, the Ministry of Finance
removed the restriction on the establishment of new banks. In 1989, the central
bank began to put foreign exchange reserves in foreign branches of peer banks.
This move enhanced their international competiveness and set the stage for the
banking sector to increase the number of overseas branches from 27 in 1990 to 149
by the end of 2001 (Chung, 2015, pp. 297-288). On the other side, a number of leg-
islative changes made it possible to set up foreign banks in Taiwan. Liberalization
in the banking sector, and the reliance on high domestic savings rates, definitely
added resilience to the banking sector during the Global Financial Crisis.

3. Conclusions

Although Taiwan is a developmental state with strong capabilities in enforcing strat-

egies and policies of the state, it is still the country in the analyzed group which has
implemented the most flexible and cautious attitude to economic development poli-
cies and techniques over the last few decades. As we can see, the firm structure in
Taiwan is based more on small and medium-sized enterprises than the Japanese and
the Korean model. Copper contends Japan and South Korea, however, have far more
large (sic) companies and more heavy industries than Taiwan. Hong Kong and
Singapore, also high-growth countries, have almost none (Copper, 2013, p. 177).

The SME-based firm structure has two consequences: a more limited need and abil-
ity for capital accumulation at the firm level, and a stronger need for state incentives
to save in private households. The downside of this otherwise highly efficient firm
structure is that, compared to the size and developmental level of the economy, the
176

weakness of Taiwans own global brands is apparent, which is a strategic disadvan-

tage. However, the country doesnt have to face financial challenges, since domestic
savings are more than sufficient, and the gap between savings and domestic invest-
ments is the highest in the region. Surplus savings have been invested more and
more in China after the turn of the millennium, in order to leverage the comparative
advantages of China, which are based on a cheap labor force. With the slowdown of
the Chinese economy, this strategy faces challenges.

1. The Chinese slowdown is only partly caused by external circumstances. Much of

the problem can be traced back to slowly but clearly growing wages, which forces
Chinese economic policy-makers to find new comparative or competitive advantag-
es. This is also the reason why Taiwan investments must be more and more diver-
sified in the region and in other parts of the world.

2. However, these efforts are thwarted by the diplomatic isolation of the country. The
only open gate is through ECFA, but this again leads to China. Although Taiwan
investments are welcomed everywhere, One-China policies clearly hinder trade
with other regions, since most of Taiwans exports are regulated by the WTO, and
aside from China, Singapore and New Zeeland, there are no comparative economic
agreements with import partners (such as the United States and the European
Union), which would help Taiwans exports.

3. From this, there are two important conclusions to be drawn: to diversify its trade
and investment relations, Taiwan needs a more pro-active approach to diplomacy.
Secondly, economic growth must be based more and more on private consumption,
less on net exports. At the same time, Taiwan needs a tech upgrade of the economy
and substantial investments in education, renewable energy sources, and infra-
structure: mainly those addressing the problems of urbanization (air pollution, sew-
erage, etc.).

Berger & Lester emphasize the threats of the Japanese path. Japan did not change its
strategy when it had been necessary in the early 1990s, facing a slowdown. Japan
created big internationally competitive firms, and at the same time it protected small
businesses. This policy resulted in a dual economic structure, in which investments
in other Asian countries were preferred over domestic reforms. The Japanese
embedded mercantilism41 embodies a model where interests of large firms overwrite

41 It is mercantilist because economic growth is based on the dynamism of exports, whereas there
are sectors producing non-tradable goods and services are protected.
 177

those of small firms and the majority of the population (Berger & Lester, 2005, p. 27).
South Korea clearly tried to avoid this trap by relying much more on domestic eco-
nomic development, however, there is a downside as well, since this policy has
encouraged protectionism in South Korea, and made the country into one of the most
protected economies among the advanced countries. Protectionism is evident in pol-
icies related to foreign trade and foreign direct investments.

Taiwan has more room to maneuver than its competitors, since SMEs are the back-
bone of the economy, and thus economic policy cannot be based on the protection of
SMEs without losing competitiveness. The Taiwan developmental state is weaker but
more flexible in implementing policies than its competitors. Stricter rules and policies
with regard to exchange rates and foreign direct investments merely demonstrate
security concerns over a Chinese takeover of strategically important firms.

Recapitulating the most important aspects of Asian financing, the direction of cheap
credit into favored industries has been a key element in the region. This approach can
easily be found in Japan, South Korea, and Taiwan. State ownership in the Taiwan
banking sector has clearly been more intense than in Japan and South Korea. In early
stages of development, state ownership could contribute to the Asian miracle, how-
ever, the question arises whether the policy has turned into a counterproductive pol-
icy tool in a globalized financing environment. If you look at Japans credit bubble of
the early 1990s or South Korea in the aftermath of the Asian crisis, the answer is
clear. The question arises how the need for liberalization can be reconciled with secu-
rity concerns.

Taiwan also directed cheap capital into selected industries; however, the country took
over many elements from the American model by relying more heavily on fundraising
via the stock market than via banks. In the 1950s, most scholars concurred in the
salience of low interest rates to developing countries in order to boost investments.
Taiwan, however, favored raising interest rates as early as 1950, in order to give
incentives to savings. This unconventional policy turned out to be highly successful;
since already, in the early 1960s, domestic savings could cover the need for capital in
the economy. Even in todays fiscal policy there can be found non-conventional meas-
ures, such as limitations on foreign investors in the domestic bond market, which
limit the exposure of the economy to financial shocks.

In other words, Taiwans specialty has been a cautious, but in some aspects uncon-
ventional, economic policy, which has clearly been different from that of Japan and
South Korea. On the one hand, this economic policy has been able to rely on strong
178

small and medium-sized enterprises and on substantial domestic savings, reinforcing

stability and the freedom of economic strategy and planning. On the other hand, polit-
ical constraints imposed by the One-China policy and by the diplomatic isolation of the
country have thwarted this economic policy. The potential threat looming over
Taiwans economy comes from a strong dependency on China and the difficulties of
reshaping the international economic strategy since this was based on Chinese busi-
ness opportunities in trade and investments.

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A History of Relationships between Taiwan1
and the European Union

Pl Majoros & Tams Novk2

The Republic of China (ROC) on Taiwan is one of the most interesting cases in the field
of international relations, and it delivers a unique case study of economic develop-
ment theory. Having lost the China seat in the United Nations in 1971, the ROC is still
not recognized diplomatically by most countries, ironically not even by its closest
allies. However, Taiwan is well-connected in the world economy. Indeed, it is one of
the greatest post-World War II economic success stories, as there are only a few
countries which made the economic breakthrough evolving from a developing country
in the 1950s into an advanced economy by the 1990s. Despite severe constraints on
its diplomatic maneuverability, the ROC can and does represent its political and eco-
nomic interests externally, and has made great efforts internally to establish a vibrant
democracy. As Annette Lu, who served as ROC vice president between 2000 and
2008, put it: Taiwan matters because of its vital role in spreading democracy in East
Asia. Taiwan matters because of its strategic importance to promote peace in the
Pacific region.

These are generally two main reasons why Taiwans case is worth investigating. From
a closer European point of view, deepening economic relations with Taiwan can be an
important element of European economic strategy aimed at boosting the economies
of EU member states. The following chapter aims to look into the historical develop-
ment of economic ties between the European Union and Taiwan while it also seeks to
investigate the possibilities of how to further those relations.

1 Taiwan lies in the western part of the Pacific Ocean, along the southeast coast of China. Its capital is
Taipei. The island country covering an area of 36,200 square meters has a population of 23.3 million;
employed population is roughly 10 million, 35.9% of which are industrial workers, 58.8% work in the
service sector, while 5.3% work in agriculture and fishing. The country maintains diplomatic relation-
ships with 23 states (one of them is European, the Holy See i.e. Vatican City State) and operates 95
representative offices in 61 countries.
2 The authors would like to thank the Chiang Ching-Kuo Foundation for providing a research grant for
this paper.
184

1. History and Political Background

After World War II, Taiwan was administered by Nationalist China as a separate inde-
pendent province; in 1949, after being defeated by the Chinese Communists during the
civil war, the Nationalist military and government, led by the Kuomintang (KMT) Party,
installed themselves on the island with roughly two million refugees. Since then, the
island has formed a region that is politically and economically separate from the
Peoples Republic of China (hereinafter China) and continues to exist under the name
Republic of China. (It is not the aim of this chapter to settle the question of who ruled
the island first, and can thus lay claim to the island, however historic evidence sug-
gests that the Aborigines of the island have had a continuous presence there for
approximately four thousand years. The Dutch and the Spanish established colonial
outposts on the island in the 17th century, and Taiwan only became an integral part of
dynastic China in the 19th century. This authority was later replaced by the Japanese
until they lost the war in 1945.)

After 1949, in the first years of ROC rule over Taiwan, the Kuomintang used oppressive
measures to consolidate its power and role as leader of the migrants from the main-
land. After 1987, the lifting of martial law was followed by the liberalization and
democratization of Taiwan. From the late 1980s, a fast-paced transition to democracy
commenced. In 1988, the first Taiwan-born Kuomintang leader, Lee Teng-hui, succeed-
ed Chiang Ching-kuo (the son and successor of Chiang Kai-shek) as ROC president, and
in 1996, in a milestone of Taiwans democratization, was elected president through
universal suffrage. The presidential elections in March 2000 were won by Chen Shui-
bian, a candidate of the Democratic Progressive Party (DPP) which advocates for
Taiwan independence, with 39% of the vote. This change in political leadership also
reflected a shift in attitude toward a Taiwanese identity, as well as demographic
changes taking place on the island. In the years immediately following WW2, the KMT
led by Chiang Kai-shek had tried to reassure its people, as well as its American allies,
that the defeat of the Communists on mainland China was a possible scenario.
However, from the 1970s on, it became clear that neither the external political environ-
ment, nor the military, political, and economic power of the island, were sufficient to
support these goals of the ROC government. In particular, the economic reforms of
China of the 1980s and the subsequent rapid economic growth of the 1990s forced the
KMT to seek other sources of legitimacy. Besides economic success, democratization
evolved into one of the most crucial elements of the Taiwanese identity.

The peaceful regime change was followed by rapid economic development, but
domestic policy problems appeared as well, and corruption surfaced among the
 185

ranks of the political elite. As a result, the KMT reacquired power in 2008. One of the
major aspirations of the new administration, led by President Ma Ying-jeou, was to
improve connections with China. Indeed, the relationship with China has been a major
focus in Taiwans politics. The Beijing administration espouses a One China principle,
and like the KMT migrants of 1949, its goal is to once again unite the two parts of the
country split by civil war, while the Taiwanese view any such unification as an annex-
ation by China. Such differences in perspective occasionally cause serious tensions in
the region. For this reason, Ma Ying Jeou in his first term declared a diplomatic
truce with Beijing: a policy in which he decided to stop competition with the main-
land for formal diplomatic partners, and he intentionally gave up bidding for formal
UN membership (Sun, 2012). The two parties strived to reach a peaceful solution of
the issue and, in 2010, signed the Economic Cooperation Framework Agreement
(ECFA), representing a milestone in their relationship. Both parties lowered customs
tariffs and made major steps towards free trade. Taiwan derived economic benefits
from the agreement, while socialist Chinas advantages were mostly political.
Moreover, in 2015, for the first time in 66 years, the ROC president and the Chinese
president (Xi Jinping) met in Singapore, a fact relevant in itself, rather than in its
results.

Despite the promised economic gains from ECFA, the KMT government suffered polit-
ical losses due to popular dissatisfaction with this agreement, followed by the
Sunflower Movement protesting the KMTs attempted ratification of a follow-up pact,
the Cross-Strait Service Trade Agreement, without a thorough review of the clauses.
This turned out to be a main cause of the KMTs electoral defeat in the presidential
and legislative elections of 2016. The real reason behind the heavy opposition to this
economic agreement is that a growing number of intellectuals and activists in
Taiwan are worried that Taiwans shaky democracy is being undermined by an
ever-increasing network of political and business links across the strait. It is widely
believed that Beijing is attempting to replicate the Hong Kong model in Taiwan (Poe
Yu-Ze, 2015).

In January 2016, once again, the DPP emerged as the winner of the elections, this
time led by presidential candidate Tsai Ing-wen. The first female president of the ROC,
Tsai had to tackle economic and social problems triggered by the slackening of eco-
nomic growth. In her first speech, she declared the consolidation of Taiwans identity
as her major goal, including her aspiration to intensify Taiwans presence in the inter-
national community. In 2016, it can be stated that Taiwan is a best-case paragon of
civil liberties and political rights in the Far East. Free elections, parties representing
the interests of very different social groups, and enforcement of womens rights
186

clearly demonstrate that Confucian values are not inimical to a Western-style democ-
racy; in other words, Eastern and Western values can be reconciled, though persever-
ance, diligence, and hard work is required from different levels and groups within
society.

The other important issue which has to be tackled by the new leadership of the island
is the growing economic dependence which is not only a matter of economic rele-
vance, but also the result of the diplomatic isolation of the country. Hence it is not
surprising that membership in the World Trade Organization (WTO) has always been
a crucial element of Taiwanese economic strategy. China only reluctantly conceded to
Taiwans membership provided it proceeded under the name Separate Customs
Territory of Taiwan, Penghu, Kinmen and Matsu, although Chinese Taipei is also
often used in official WTO documents. The reason for this gesture is that Taiwans
membership became linked to Chinas own WTO application, forcing Taiwan to wait 12
years after first submitting its membership bid until China could be accepted a mere
one day earliera demand by Chinese negotiators. In 2001, the WTO membership of
China and Taiwan was formally approved at the same WTO Ministerial Conference in
Doha, Qatar. The Chinese reluctance to allow nations and international bodies to rec-
ognize Taiwan is still clear when they persist in blocking Taiwans membership in the
United Nations and its specialized agencies such as the World Health Organization
(WHO), where only sovereign states are allowed to join.

Since the turn of the millennium, Taiwan has been a member of just 17 international
governmental organizations (e.g. APEC Asian-Pacific Economic Cooperation; WTO
World Trade Organization; ADB Asian Development Bank; IOC International
Olympic Committee, etc.), but is represented in roughly one thousand non-govern-
mental organizations.

Recognized as a superpower in world trade (the 14th largest country in production, the
15th largest in foreign trade, and holding the 4th largest foreign-exchange reserves, at
the turn of the millennium), Taiwans major export partners include the United States
and South Asian countries, but the European Union has increased its role every year
as well. Based on 2015 data, roughly 40% of Taiwanese exports went to China and
Hong Kong, while the US share was 12.15% and Japans was roughly 6.8%. Taiwan
sent 8.5% of its exports to the European Union (Bureau of Foreign Trade, 2016).
 187

2. Taiwans Economy

Taiwanese economic development is a captivating example of how a country which is

less than open and free can transform itself into a developed market economy. The
initial period was characterized by a wartime mindset; in the 1950s and 1960s,
America became its most important partner (both in capital movements and foreign
trade). At the end of the 1960s, Japan opened up to the island and Taiwan embarked
upon a path of rapid international development as a newly industrialized country. The
island nation asserted itself as one of the Four Asian Tigers. The economic policy
adopted by the country has often been labelled as developmental state, focusing on
the special role of the state in organizing economic activities. The nature of this role
must be clearly distinguished from the role to be found in the Anglo-Saxon or the
Western European model. Similar perceptions of the states role in economic policies
are prevalent in Japan, South Korea, and Singapore (See Cski 2006, Karalekas 2006,
Moldicz, 2006).

Not independently from its special developmental model, the Taiwanese economy
reported outstanding results during the last few decades. Gross domestic product
(GDP) expanded by 8.5% yearly on average between 1952 and 1997. Between 1991 and
1997, average GDP growth rate reached 6.5%, exceeding by far the average global
economic growth rate (but falling short of socialist Chinas pace of more than 10%). In
terms of current prices, by 2000, GDP climbed to US$314 billion from US$164 billion
in 1991. By the turn of the millennium, Taiwan ranked as the 15th largest economy in
the world based on GDP (current exchange rate). GDP per capita increased from
US$8,982 (1991) to 13,233 in 1997, soaring to US$14,238 in 2000. This rapid growth
was achieved without any substantial internal economic imbalance (Mdi, 1999).

By the early 1990s, the conditions of the admirable development of the Taiwanese
economy had changed radically. On the global market for labor-intensive goods,
which had previously represented the backbone of exports, competition between the
Association of Southeast Asian Nations (ASEAN) countries and China intensified; thus,
to strengthen its position, Taiwan needed to restructure its economy and upgrade its
production and exports to high added-value, capital and technology-intensive prod-
ucts. By the second half of the 1990s, the new economic structure has significantly
improved Taiwans ability to attract investors. Reflecting this, the annual amount of
foreign direct investment (FDI) surpassed US$3 billion in 1995 and broke all the
records by 1997 with US$4.27 billion reported, and settling at a level between US$3
billion and US$4 billion.
188

The continuous structural modernization of the economy impacted almost every sec-
tor: within the manufacturing industry, the role of the food, wood, and paper indus-
tries decreased; the ratio of textiles, clothing, and footwear declined, as a shift was
made from cheap commodity manufacturing to production of higher quality goods.
Metallurgy and the chemical industry practically maintained (or lost little of) their
respective shares. The volume of the sectors leading the international technical and
structural transformation in manufacturing output rose from 20% to 38% during
1989-1996, later reaching a proportion in excess of 40%. The largest growth was
registered by electronics and IT manufacturing. By the mid-90s, Taiwans IT industry
had worked its way up to a global 3rd ranking.

These changes were reflected in the structure of exported goods as well. The share
of modern goods increasedespecially in the information and communications tech-
nology (ICT) sectorwhile traditional light industry exports had dropped. This devel-
opment was in line with the requirements taking hold in the global economy, leading
to a significant improvement in Taiwans international relative competitive positioning.

From the late 1980s, Taiwan joined the ranks of FDI exporters, emerging as the
third-largest investor in Southeast Asia after Japan and the United States. By the turn
of the millennium, Taiwan had secured its place as the seventh largest FDI exporter
in the world, with investments amounting to roughly US$100 billion. More than 96% of
Taiwans working capital invested abroad went to Southeast Asian countries, China,
and the United States. ASEAN countries shared 42.6%, China 37.5% (mostly through
Hong Kong subsidiaries), while 16.8% went to the United States. A noteworthy fact we
should add is that Taiwan was the third-largest investor in China, following Hong Kong
and Japan; however, experts estimate it ranked first if we take into account indirect
investments as well.

Subsequent ROC administrations set the ambitious goal of transforming Taiwan into
a trade, financial, and information technology (IT) center of the Asia-Pacific region. To
this end, the development policy focused on research and development, production of
high added-value, cutting-edge technology products, financial and commercial ser-
vices, as well as maritime transport, air transport, telecommunications, and mass
communications. Achievement of this grand plan, and of economic liberalization,
encountered a setback with the onset of the Asian financial crisis in July 1997. While
almost all South Asian emerging economies suffered severely in the crisis, the
Taiwanese economy did less so: the GDP growth rate declined slightly (4.6-6.8%), and
a similar growth rate was only reported by the substantially less-developed China.
Taiwan managed to evade the adverse effects of the crisis because its development
 189

was unique in many aspects and it achieved its outstanding performance mostly by
mobilizing internal resources. Its foreign debt was insignificant in comparison to its
economic power, while its foreign trade performance stood out, even by international
standards. Foreign trade and current account balance reported considerable surplus
both in the pre-crisis and post-crisis years. On this basis, the high levels of foreign
exchange reserves accumulated in the previous period were maintained.

The next major international crisis, the global economic turbulence of 2008/2009,
however, revealed Taiwans problems: its excessive dependence on exports, and in
particular on the evolution of its IT export positions. Taiwans industrial manufacturing
structure is clearly dominated by the export-oriented electronics sector, which ranks
first globally in the manufacturing of several IT products. Of course, the slight down-
turn of the IT sector was accompanied by the effects of the global crisis as well. What
helped, however, was state intervention, which had always been an integral compo-
nent of economy policy (see the term developmental state) in Taiwan: they pursued
the structural modernization of the economy and significant efforts were made in
education. The administrations long-term economic strategy focused on transform-
ing Taiwan into a regional center of the Asia-Pacific region (Asia-Pacific Regional
Operations Center, or APROC). Due to the vibrant private sector and the activeand
successfulstate intervention, after a minor fallback, the countrys economy emerged
from recession within three to four years. One of the most important lessons from the
crisis was that Taiwans development prospects and global economic position are
increasingly determined by the evolution of its relationship with China due to the very
significant direct and indirect economic ties between the two countries.

By 2015, the Taiwanese economy had overcome the crisis-induced problems. Its eco-
nomic situation and the macroeconomic environment remained steady, but short- and
medium-term problems can be forecast on account of the economys structure. With
this, the rapid growth experienced in past decades has brought Taiwan close to the
level of developed countries in terms of economic development; it has a major finan-
cial and technical-scientific potential and plays an increasing role in international eco-
nomic, commercial, and financial life. But besides these relatively favorable develop-
ments, for the time being, there seem to be two major challenges to economic policy
in Taiwan: On one hand, the short- or medium-term goal is to break the economic
isolation of the country by joining trade agreements to reduce dependence on China.
After the 2016 elections, the new leadership clearly wants to position the country into
the Trans-Pacific Partnership (TPP). On the other hand, the long-term goal is to tack-
le all the economic and social problem that stem from having an aging populationa
serious problem faced by many economically advanced countries (Consonery, 2016).
190

3. Taiwan and the WTO

Taiwan became the 144th member of the World Trade Organization (WTO) on January
1, 2002, with the title separate customs territory. (Out of diplomatic considerations,
China was declared a WTO member first, on December 11, 2001, while Taiwans
admission took place a day later.) On account of increasing trade turnover and
expanding capital relationships, the European Union supported the islands accession
aspirations, emphasizing, among other things, Taiwans commitment to an open mar-
ket was much stronger than several old WTO members.

It should also be pointed out that in the opinion of both the WTO and the European
Union, Taiwan is an independent economic entity, not a state or a country. At the same
time, this turn was extremely important for Taiwan, because it added a new multilat-
eral dimension to the bilateral relationship between China and Taiwan, besides that
through APEC. From the EU perspective, the multilateral framework provided by the
WTO further strengthens stability and trust by offering mechanisms for solving trade
disputes and investment issues. In recent years, by using the WTO framework, Taiwan
has signed free trade agreements with a few countries (Singapore, New Zeeland, and
some small Latin American countries), not to mention the ECFA with China.

At the same time, the people of Taiwan still express their dissatisfaction with the fact
that China, a long-time member in other international organizations, attempts to hin-
der the islands accession to such bodies and hampers its political presence wherev-
er it can. Taiwan dedicates enormous amounts of energy in order to secure an inde-
pendent place in the world political arena through international organizations;
however, such efforts have brought little success so far. It still views its WTO mem-
bership as a great victory, despite the fact that the accession has put its agriculture
sector into an extremely vulnerable position. As opposed to agriculture, Taiwanese
industry has long been competitive on the international markets, thus WTO member-
ship has been mostly irrelevant concerning its product sales.

4. Relationships between the European Union and Taiwan

4.1. Political Relationships

After the KMT retreat to Taiwan in 1949, the current EU member states had controver-
sial diplomatic relationships with the ROC. Western European countries recognized
the ROC, but not the PRC, while Scandinavian and socialist Eastern European states
 191

diplomatically recognized Communist China. In 1964, France broke out of the US-led
bloc and was the first to recognize the PRC (Chinas becoming a nuclear power and
Frances controversial role in the North Atlantic Treaty Organization [NATO] can be
assumed to have played a role in this), then other Western European countries fol-
lowed its lead. In 1971, the two Chinas switched roles in the United Nations, and with
the UN expulsion of the ROC after a disagreement over dual recognition, the PRC was
given not only membership, but it also inherited the ROC spot as a permanent mem-
ber of the UN Security Council, and all the veto power that position confers. By that
time, most European countries had already recognized China and accepted the One
China principle (even the socialist countries that severed their diplomatic ties with
China after 1969). The European Economic Community recognized China in 1975, but
only established a diplomatic representation office (mission) in Beijing in 1988.

Afterwards, fewer and fewer countries continued to recognized the ROC as an inter-
national diplomatic legal counterparty (mostly developing countries that essentially
depended on Taiwanese aid). But European countries started establishing unofficial
liaisons with the island, focusing on economic, trade, and cultural relationships.
Political reasons and increasingly stronger economic interests in China ruled out any
diplomatic recognition (China did not maintain diplomatic ties with any country that
recognized the ROC as an independent state). Taipei took note of the new political
terms, and initiated the establishment of so-called trade offices which took on special
(e.g. consular) diplomatic tasks as well. In the spirit of reciprocity, more and more EU
member states opened similar offices in Taiwan, and conversely, Taipei did likewise
in these states. The year 1988 marked an important milestone in the relationship,
when EU interests dictated the establishment of the European Chamber of Commerce
Taiwan (ECCT). Interestingly, however not entirely coincidentally, a delegation of the
European Union to China was established in Beijing that same year. The office fosters
the development of economic and commercial relationships, but does not serve a
diplomatic function. Another interesting fact is that the parliaments of several coun-
tries set up Taiwan Groups (friendship societies). This was not only due to party diplo-
macy and lobbying carried out by significant pro-Taiwan groups, but at the same time,
the Tiananmen Square Massacre in 1989 highlighted the sharp contrast between
democratic Taiwan and authoritarian China (Okano-Heimans Witt van der Putten,
2015, p. 15).

The deepening of commercial and capital relationships in the 1990s, EU expansion,

and Taiwans joining the WTO encouraged the European Union to consider opening a
European Economic and Trade Office (EETO) in Taipei. This important step was taken
in March 2003, but obviously it did not mark the establishment of any formal
192

diplomatic relationship. The most important tasks of the office are to promote trade
relationships between Taiwan and the European Union, and to facilitate economic,
cultural, and other cooperation. In contrast to trade offices of the EU member states,
the EETO does not provide diplomatic functions. To serve those EU citizens whose
countries do not have trade offices in Taiwan, consul services are rendered by other
national offices.

This cooperation indicates development, that regular annual consultation process has
been established between the parties (the EU is represented by heads of Directorates-
General or deputies) and regular expert consultations are organized in four commit-
tees (handling intellectual property matters, technical impediments of trade, the
pharmaceutical industry, and public procurement). Another major step was the waiv-
er of visa requirements for ROC citizens to enter the Schengen Area from 2010 (PRC
citizens are, to date, not granted this right).

In spite of developments in the relationship, Taiwan cannot obtain official diplomatic

recognition from the European Union. In this respect, there has not been any change
to the various countries One China Policies. Similar to many other countries and
international organizations, the European Union recognizes Taiwan as an economic
entity i.e. a separate customs territory, but not as a sovereign state. The European
Unions reason for this is its official position on the nature of the relationships to be
maintained with Taiwan and China. In 1999, the EU issued a statement confirming
Beijings version of the One China Policy. That communication emphasized that the
Taiwan question should be settled peacefully through cross Taiwan Strait negotia-
tions. The document also stated that both parties should refrain from any steps that
might raise tensions.

To further improve Taiwan-EU relations, the European Parliament adopted an adden-

dum to the decision Towards a New Asia Strategy of 1995, which regulates EU for-
eign and security policy, urging the strengthening of political connections with Taiwan.
(A Taiwan committee has been set up in the European Parliament as well). The latest
version of the Asia strategy adopted by the European Commission is a new trade
strategy from the year 2015 in which the commission clearly hints at its intention to
launch trade negotiations with Taiwan.

Administrations over the last decade have attached great importance to economic
cooperation and trade, and widened Taiwans cooperation with the EU. This does not
mean that the ROC has abandoned its long-term goal of obtaining diplomatic recog-
nition or nurturing relationships with the United States and Japan, its long-time major
 193

strategic and security partners. On the contrary, it means that even more time, effort,
and material resources are being dedicated to developing Taiwan-EU relationships.
An important part of the strategy aimed at Taiwans European presence was the
opening of the representative office in Brussels, Belgium. (In the lack of formal diplo-
matic ties, the head of the office is in charge of other aspects of Taiwan-EU affairs
too.)

Currently, Taiwans policy is focused on developing commercial and technological

cooperation between Taiwan and the European Union. At the same time, Taiwan seeks
to obtain the European Unions political support, especially regarding the disputes
between Taiwan and China, despite the fact that all 28 EU member states adhere to a
One China Policy at Beijings insistence.

4.2. Economic and Commercial Relationships

In the past, Taiwans relationships with the European Union were based on its existing
cooperation with the individual states. This situation had changed dramatically by the
turn of the millennium: the increased volume of bilateral trade intensified EU interest
in Taiwan, while the European Parliament and the member states legislatures react-
ed positively to Taiwans democratic transformation.

The European Unions appearing to be an attractive trading partner derives from the
fact that it obtained advantages regarding certain developed technologies, and its
continued expansion and introduction of the single currency makes it the worlds larg-
est market, in the light of which, European integration looks even more enticing to
Taiwan.

Table 1
Trade between the European Union and Taiwan (ECU/EUR billion)

1980 1990 2001 2007 2008 2011 2014

Export 0.88 4.9 13.3 13.3 11.6 16.2 17.0
Import 2.24 9.1 24.2 26.0 24.1 24.2 23.2
Balance -1.34 -4.2 -10.9 -12.7 -12.5 -8.0 -6.2

Source: http://europa.eu.int/comm/trade/pdf/bilstat/econo_taiwan.xls
EU-Taiwan fact file 2015, http://eeas.europa.eu/delegations/taiwan/documents/more_info/eufactfile2015.pdf
194

It follows from the trends of the last three decades that both Taiwanese exports to the
European Union and its imports from the European Union registered a continuous
increase in the period under examination, both in terms of proportions and absolute
figures, until 2001. From the EU point of view, imports climbed from ECU 2.24 billion
in 1980 to EUR 24.2 billion, more than eleven-fold, while exports soared from 0.9 bil-
lion to 13.3 billion (fifteen-fold). As a result of these changes, Taiwan became the 10th
most important import partner and the 20th most important export partner of Europe.
In terms of overall foreign trade, it ranked 14th in 2001.

Table 2
Principal Trade Partners of Taiwan in 2014

Regions, countries Exports Imports

Mainland China 39.74 18.50
ASEAN-6 18.68 12.22
United States 11.11 10.01
Europe 9.15 11.20
Japan 6.35 15.22
Others 14.97 33.20

Source: Department of Statistics, Ministry of Finance. http://www.ey.gov.tw/en/

cp.aspx?n=7A3C3FFB6914DBB8

However, in the last 15 years, trade relations have been stagnating between Taiwan
and Europe. During the crisis years, trade had declined, but in two years it resurged
to the previous levels; however, from 2010, it has been stagnating at a turnover of EUR
40 billion. The result is that Taiwan slipped back to the 16th most important import
partner and to 23rd most important export partner of the European Union. In terms
of overall foreign trade, the country ranked 14th in 2014 (based on 2014 data). A note-
worthy fact should be added, that the stagnation of absolute figures was accompa-
nied by the worsening of relative positions: in 2001, Taiwan was still the 10th most
important import partner and 20th most important export partner of the community,
and 14th in terms of overall trade.

But what happened in the last fifteen years preventing trade from growing at the
same pace as before? What explains Taiwans diminishing role among EU trade part-
ners? These questions are of importance; it is particularly interesting that Taiwans
relative ranking deteriorated despite EU membership being granted in 2004 to
Poland, Hungary, and the Czech Republic. Becoming members of the union, these
countries, which were more important partners of the EU-15, disappeared from the
 195

Table 3
Value of Exports and Imports by EU Member States to Taiwan 2015 (in USD)

Country Name Total Trade Export Import

Total Ranking Share (%) Ranking Share (%) Ranking Share (%)

Germany 7 2.858 10 2,116 5 3.768

Netherlands 15 1.372 12 1,467 15 1.254

United Kingdom 16 1.096 13 1,348 24 0.787

France 20 0.791 23 0,487 16 1.164

Italy 22 0.729 19 0,605 20 0.881

Spain 30 0.350 28 0,312 31 0.396

Belgium 32 0.330 25 0,384 37 0.263

Sweden 38 0.206 33 0,206 39 0.206

Poland 40 0.184 30 0,262 54 0.089

Austria 42 0.160 48 0,114 38 0.218

Hungary 45 0.135 37 0,16 48 0.103

Finland 47 0.127 43 0,133 46 0.120

Ireland 48 0.127 51 0,083 42 0.181

Denmark 51 0.119 47 0,115 45 0.123

Czech Republic 52 0.115 45 0,123 47 0.105

Slovakia 57 0.087 42 0,137 72 0.025

Greece 61 0.066 66 0,046 53 0.091

Portugal 62 0.062 55 0,073 57 0.049

Romania 65 0.050 59 0,057 63 0.042

Slovenia 72 0.034 62 0,051 93 0.012

Bulgaria 77 0.027 69 0,041 94 0.011

Lithuania 82 0.026 72 0,035 87 0.014

Estonia 83 0.025 78 0,03 82 0.018

Latvia 87 0.022 71 0,038 130 0.002

Malta 102 0.010 97 0,011 97 0.009

Croatia 109 0.009 93 0,013 111 0.004

Cyprus 110 0.009 100 0,01 100 0.008

Luxembourg 118 0.006 111 0,005 104 0.006

Source: Bureau of Foreign Trade, http://cus93.trade.gov.tw/ENGLISH/FSCE/

196

list of EU trade partners. Still, Taiwan slipped back from the 14th to the 19 th most
important trade partner: in other words, 10 countries were able to increase their
trade with the European Union faster than Taiwan. These questions would require a
more comprehensive analysis, however, preliminarily, it can be stated that improving
Chinese competitiveness along with massive capital and technology inflows could
have contributed to a more competitive export structure of the Chinese economy. A
significant share of this capital originated from Taiwan, and so Taiwanese firms thus
brought about their own competitors.

Based on 2014 data, Taiwans major partners in the community are Germany (31%),
Netherlands (15%), the United Kingdom (13%), France (8%), Italy (7%), Spain (5%), and
Belgium (4%). These seven countries represent 83% of Taiwans EU trade, meaning
that the other 21 member states account for roughly 17% of that trade. Central
European countries (including Austria) have an insignificant share in EU-Taiwan trade
(9%), while V4 countries3 make up 6 %. Recently published data confirms this.

From this we can detect another cause of the relative loss of Taiwans importance:
although trade stagnated in absolute terms, it hadnt maintained any substantial trade
relationships with newly adhering EU countries before either, and those ties remained
loose in the last decade, too. Trade turnover of these new countries expanded the
total foreign trade of the European Union, but due to Taiwans low share, its weight in
total trade declined, with respect to the ranking among partners that has been
changed.

Trade is characterized by imbalance, with the European Union having a long-term,

massive trade balance deficit, albeit one that has decreased in the last four years.
This is even truer in the case of new member states from Central and Eastern Europe.
In 2014, of 28 member states, only Spain was able to achieve a positive trade balance.

A much stronger imbalance can be observed in the commodity structure of foreign

trade; its major groups of commodities are rather similar both in exports and imports.
The most important Taiwanese import goods to the EU are in the ICT and plant and
machinery categories, accounting for two-thirds of total imports, followed by chemi-
cal products. The export lists are topped by similar product groups, though in a some-
what different order. Plant and machinery secured first place, followed by transport
means and chemical products, but agricultural products accounted for 8% of EU
exports as well.

3 V4 countries: are the Czech Republic, Poland, Hungary and Slovakia

 197

Trade in services has doubled in the last 10 years; this represents roughly 15% of total
turnover, with the Unions balance surplus in this case. (The most important elements
of this trade are transport, shipping, tourism, and business and financial services.)

4.3. Foreign Direct Investments

The European Union is the largest capital exporter and importer in the world. It is the
largest foreign investor in Taiwan as well. In 2000, EU-sourced capital amounted to
US$4.9 billion, soaring to US$31.4 billion by the end of 2014a sevenfold increase in
14 years. While in 2000, the European Union ranked only third among investors (tail-
ing America and Japan), by 2014 it had outpaced its competitors. (It must be noted
that capital from Caribbean tax havens and Samoa exceed US figures, which is slight-
ly misleading.) A quarter of total foreign investments come from the European Union
(representing 12.4% at the end of 2000). Most European businesses invested in the
Taiwanese chemical, electronics, and electric industries, as well as the financial-in-
surance sector.

Among EU member states investing in Taiwan, the Netherlands ranks first with 66%
of total European investments, followed by the United Kingdom with 23% and
Germany with 8%. These three countries are leaders in trade turnover as well. The
major European businesses investing in Taiwan are Philips, ABB, Siemens, and ICI.
There are numerous European investment plans seeking to invest in the Taiwanese
construction industry and, through joint ventures, in the high-tech industry as well.
Additionally, Taiwan has been developing into a global logistics center, partly through
EU investments. European businesses use the island as a logistics base in their rela-
tionships with Asian markets, cooperating with Taiwanese businesses to develop
markets in China and Southeast Asia.

By the end of 2014, Taiwan invested a total of US$4 billion in Europe, representing 2%
of direct Taiwanese investments abroad. This low ratio is explained by the fact that
most Taiwanese businesses established only trade representative offices on the con-
tinent, involving significantly lower establishment expenses. Taiwanese companies
invested in production mostly in the Netherlands (49%) and the United Kingdom (38%),
primarily in the IT sector. After 1995, Taiwanese investors began establishing indus-
trial zones in the Czech Republic (4%) as a sort of a jumping-off point towards the EU.
198

5. Concluding Remarks

Taiwan is an economy with scarce raw materials and a relatively small domestic
market. These conditions forced it to expand its foreign trade and become deeply
connected with the world economy. That might be the reason why the import substi-
tution strategy was never seriously taken into consideration, even in the 1950s when
it was a mainstream idea, in particular among developing countries. Proponents of
this strategy referred to a growing divide between poor and rich countries making the
catch-up process impossible, and they advised delinking from the world economy.
However, Taiwans scarce natural resources, its geographical position, and the small
size of the economy clearly ruled out this option.

Over the last few decades, Taiwans economic development has been characterized
by export-oriented growth and development of science and skilled labor-intensive
industries. First the establishment of free trade zones, then the successful set up of
science parks contributed to successes in the IT sector.

Looking at broader economic indicators, the achievements are very impressive.

Today, GDP per capita in terms of purchasing power parity (PPP) match or exceed the
levels of Western European countries, and unemployment and inflation rates are tra-
ditionally low. Foreign reserves of the central bank and domestic savings are out-
standingly high even in international comparisons. Investments can be based on
domestic sources so the country does not have to rely on external financing, making
economic growth stable and preventing external financial imbalances from growing.

When technology development first became important in the 1980s, Taiwanese firms
began building regional supply chains that were integral elements of their allocation
strategies. The underlying reasons behind this new strategy were the relatively high
labor costs and improving technology making this change possible. Analyzing
Taiwans economic relations, it is important to underline that Taiwanese investments
in other countries are the implications of global supply chain (GSC) strategies, which
have integrated these countries into the world economy. In recent years, the emer-
gence of global supply chains has altered successful economic policies. Earlier, a
successful policy had to rely on building a broad industrial base (such as in the United
States, Germany, Japan, etc.) but nowadays a more efficient strategy seems to be
joining global supply chains. Latecomers such as China, Vietnam, and Cambodia did
not have a choice but to join these global chains. The crucial point in the process of
specialization is at which point of the added-value chain the country is able to enter,
and whether it is capable of moving up the value chain. The importance of global
 199

supply chains to Taiwan can be demonstrated by the share of intermediate goods

among its exports. More than 70% of Taiwanese exports comprise intermediate
goods, which is mainly concentrated in the ICT sector. (Koopman R. Wang, Z. Wei,
S. 2008, p. 21.) The fact that the most significant part of ICT R&D can remain in Taiwan
reinforces the view that Taiwans outstanding role is sustainable even in the case of
R&D activities. The emphasis is put on services in the future economic structure;
these knowledge-based services are the key drivers in the transformation of the
Taiwanese economy. Hence as the future growth in the world economy has increas-
ingly been determined by knowledge, Taiwans importance has been growing for
European partners as well. Chen et al. highlight this analyzing the allocation of R&D:
There are even signs that China is playing a growing role in R&D. However, for most
ICT firms, particularly the IC and LCD manufacturers, their R&D bases remain largely
located in Taiwan. This together with the IC design industry makes Taiwan an innova-
tion hub for the global ICT production network (Chen-Wen-Liu 2011, p. 1).

Despite having smaller firms than Japan and South Korea, Taiwan managed to main-
tain its position as forerunner, in particular in the Internet technology sector. Although
Taiwans weakness lies in building global brands, there are still a few globally
acknowledged Taiwanese brands such as D-link, and Acer. Thomas Friedman
described this interconnectedness already in 2005: The vast majority of computer
components for every major company comes from coastal China, Taiwan, and East
Asia. In addition, Taiwan alone has more than $100 billion in investments in mainland
China today, and Taiwanese experts run many of the cutting-edge Chinese high-tech
manufacturing companies (Friedman, 2005, p. 424).

This quote highlights the deep connection between political and economic integration
of China and Taiwan. Even theoretically, it is a crucial question in the political sciences
whether economic or political integration is the more decisive force at play. If eco-
nomic cooperation is of greater relevance than the political one, political motives can
be reconciled in the long run, leading to unification; however if political aspects and
differences between the two countries turn out to be more prevailing than economic
interests, the likelihood of unification is much more reduced. To make the assessment
more difficult, the question of national identity, and recent changes in the perception
of the Taiwanese identity, can make the importance of economic interest seem less
relevant.

That is why the region, including Taiwan, cannot be analyzed from a politically neutral
and purely economic point of view. Politics in the region are dominated by the Taiwan-
China-US triangle. In the security-related issues of Taiwan, the United States plays a
200

decisive and critical role. (This critical role of the United States is to be found in econ-
omy-related issues as well, since any break-out from the countrys economic isola-
tion with regard to free trade agreements seems to be more easily accomplished if
the country joins the TPP.) In the political dimension, the European Union has no loose
ends or unresolved disputes in the region. However, because of the so-called One
China Policy adopted by the European Union (and by a major part of the world, as
well), we must acknowledge that any examination of Taiwan as one of the Four Asian
Tigers will be in the shadow of China. Therefore, even though the European Union
doesnt wish to interfere with political issues in the region, the political situation can-
not be disregarded. Its good friend, the United States, is important for Taiwan, as is its
neighboring China which, albeit a political threat, represents a great economic oppor-
tunity. Taiwanese policy tries to find balance in this triangle; the experiences of the
last years revealed a slight bias towards economic interests.

Taiwans relationships with Europe and the EU have been influenced by this policy as
well. In the short run, and even in the medium term, the One China policy wont
change, thus slightly restricting the European Unions room to maneuver with regards
to its economic interests. Both the European Parliament and the national parliaments
have expressed a willingness to deepen economic relations with Taiwan. On 5 July,
2016, the European Parliament adopted a resolution urging that talks begin with
Taiwan on an agreement on bilateral trade (Yeh, 2016). However, establishment of
diplomatic relations with Taiwan seems to be too risky for them, which in their inter-
pretation might threaten their economic interests given the size of the Chinese econ-
omy and the anticipated reactions and sanctions by their Chinese partner. The future
of EU-Taiwan relations were and are to be determined by trade relations and trends.
The European Union takes a pragmatic view on the development of these relations,
however, the time has come when bilateral economic and trade cooperation forms
have to be transformed into a comprehensive economic agreement, given the fact
that the free trade agreements with Singapore and New Zeeland were not blocked by
China. In this context, the following question might be addressed by European deci-
sion-makers: where are the borders of the One China to be found? What are the pos-
sible reactions to talks aimed at establishing a free trade agreement?

The evolution of relationships between the European Union and Taiwan will be deter-
mined by these commercial trends. Currently, the European Union is Taiwans 4th larg-
est import partner, while Taiwan is the European Unions 19th largest import partner.
In absolute terms, Taiwan substantially increased its trade with the European Union,
but the growth rate fell short of the average, and therefore its relative impact
declined, pushing it back down the list of partner relationships. This is why Taiwan
 201

has not expanded its previously modest relationships with the transforming Central
and Eastern European states.

Bilateral trade has grown continuously since the mid-1970s. Close economic ties
between the European Union and Taiwan, as well as the deepening and expanding EU
integration, encouraged Taiwan to develop its cultural, social, and academic cooper-
ation with Europe. The European Union has become a favorite destination for
Taiwanese students, and scientific and cultural relationships have become more
effective as well.

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