Mid-year recap

Taiwan has demonstrated a robust, exports-driven recovery in the first half of 2024, aligning closely with our forecast for a global tech sector rebound. Inflation has proven persistent, mirroring our expectations following the post-election electricity price hike.

On the policy front, the central bank's tightening of credit rules in the property market was in line with our earlier predictions. A notable development was the unexpected 12.5bps increase in the policy rate during the March meeting, surpassing our relatively hawkish forecast of no rate cuts this year.

Geopolitical tensions with mainland China have escalated but have remained manageable, causing brief negative impacts on portfolio capital flows and financial markets.

Looking ahead, we expect 1) the tech sector recovery to maintain momentum and broaden throughout the second half of the year, 2) concerns regarding asset prices and inflation to persist, 3) the central bank to diverge from the Fed's actions by maintaining a tightening bias, possibly implementing further RRR hikes and LTV adjustments. Yet, we think growth recovery will remain uneven in 2H, between the tech and non-tech traditional sectors, and between asset owners and wage earners. Risks related to tariffs and geopolitical tensions may increase.

GDP growth

We maintain our full-year 2024 GDP growth forecast above consensus at 4.2%. Growth rate is expected to pick up on a QoQ basis, though slowing YoY to 3.5% in 3Q and 2.0% in 4Q, down from 5-6% in 1Q-2Q.

The AI-driven tech sector recovery is expected to sustain and expand in 2H. Generative AI is fueling demand for high-performance AI chips in data centers. While much attention is on high-performance GPUs, major hyperscalers (e.g., AWS, Google, Microsoft) are investing in developing their own AI-optimized chips to enhance operational efficiency and reduce costs in delivering AI-based services.

Moreover, AI integration in PCs and smartphones presents new opportunities for everyday applications. Counterpoint Research estimates that AI-capable laptop PCs will constitute 13% of the market by 2024, increasing to 74% by 2027. AI-enabled smartphones are expected to capture 11% of overall shipments by 2024, rising to 43% by 2027.

WSTS recently revised its full-year global semiconductor market forecast to 16%, up from 13.1%, citing robust growth in memory and logic chip segments. Looking ahead to 2025, WSTS forecasts a further 12.5% expansion in the global semiconductor market. Gartner projects that global revenue from AI semiconductors will increase by 33% in 2024, totaling USD71 bn.

Leading indicators in Taiwan also point to a stronger tech sector outlook in 2H. As of May, export orders for electronic components have continued to rise, and improvements in the electronic component inventory ratio have prompted renewed production expansion. Meanwhile, capital goods imports, including semiconductor equipment, have rebounded, indicating heightened capacity utilization and increased capital expenditure.

The AI-related tech sector recovery continues to propel asset prices and benefit asset owners. Driven by the rally in tech stocks, the TAIEX has surged by more than 30% YTD, emerging as the top performer in Asia. Property prices have also seen 10% YoY growth, particularly in areas like Hsinchu, Taoyuan, and Kaohsiung, influenced partly by anticipated investment expansions from major tech firms like TSMC and Nvidia. Looking ahead, the asset market is poised to remain buoyant in 2H, underpinned by a sustained economic recovery, favorable liquidity conditions, and a low interest rate environment. Asset owners are expected to continue benefiting from positive wealth effects, which in turn, will bolster domestic private consumption.

Yet, recovery in non-tech traditional manufacturing sectors continues to lag. China’s weak domestic consumption and sluggish property market have dampened its overall demand for consumer goods imports. Overcapacity in China’s manufacturing sector, such as automobiles and steel, has resulted in import substitution and intensified global market competition. Furthermore, the escalation of tariff tensions between China and Taiwan has weakened Taiwan’s export competitiveness in the Chinese market, including petrochemicals, textiles, metals, machinery, and transport equipment. Despite ongoing efforts to diversify export markets, China remains Taiwan’s largest export destination today, constituting 30% of its total exports (including Hong Kong SAR).

Meanwhile, wage earners continue to encounter challenges. Despite tight labor market conditions and wage increases, real regular wages have seen minimal growth (0.1% YoY in Jan-Apr) due to rising inflation. Although increasing corporate profits are expected to drive further wage hikes in 2H, inflation is likely to continue limiting the gains in real wages.

Moreover, household debt burdens have increased with higher interest rates. The housing loan repayment-to-income ratio has climbed to a record high of 43% at the end of 2023. Although the Taiwanese household sector overall maintains a strong financial asset position, low-income households possess limited asset sand savings buffers. The increasing debt burdens could exert pressure on these vulnerable families.

Inflation

We maintain our inflation forecast for 2024 at 2.2%. CPI is expected to remain at around 2% YoY in 3Q-4Q, compared to 2.3% in 1H.

Asset price inflation has started to filter into CPI. Reflecting the property price rally, housing rents have begun to rise, contributing to a more than 2% YoY increase in the CPI housing component. Further passthrough is expected in the coming months as deteriorating home affordability may prompt more potential buyers to opt for renting instead.

Thankfully, food and energy inflation are expected to ease, keeping overall CPI inflation stable in 2H. El Niño climate pattern has recently subsided, with La Niña likely emerging in 2H. While La Niña may disrupt soybean and corn production in the US, its global impact on food prices tends to be relatively moderate compared to El Niño. In Taiwan, the Central Weather Administration predicts 2-4 typhoons in the vicinity of Taiwan in 2H, slightly lower than the historical average.

Regarding energy prices, US EIA recently lowered its full-year Brent oil price forecast to USD84/barrel from USD 88/barrel. In Taiwan, following the April electricity price hike and additional government subsidies, Taipower's losses are projected to significantly narrow, reducing the likelihood of further electricity price increases within this year.

Monetary policy

We anticipate the possibility of additional 25-50 bps hikes in the Reserve Requirement Ratio (RRR) and further tightening of Loan-to-Value (LTV) rules in the property market. We maintain our forecast that the central bank will keep the policy discount rate unchanged at 2.00% throughout 2H.

Non-interest rate tools will continue to be crucial in addressing concerns related to asset inflation and financial stability. The housing price-to-income ratio has reached a record high of 10 times, indicating elevated affordability challenges. Housing purchase and construction loans as a percentage of banks' total loans have also reached a record 37%, underscoring banks’ significant exposure to the real estate sector.

To address these challenges, the central bank has room to further tighten the LTV ratio on housing purchase loans. While the average LTV has decreased from its recent peak, it still stands at around 60%, above the historical average levels. Meanwhile, there is also scope for the central bank to further tighten liquidity conditions through quantitative measures. Following the 25bps RRR hike in June, M2 growth is expected to hover around 6% YoY, still approaching the upper bound of the target range of 2.5-6.5%.

The decision on interest rate policy will primarily hinge on the CPI inflation outlook. With CPI inflation expected to remain stable at around 2%, there is no immediate or compelling pressure for the central bank to further raise the discount rate above 2.00% in 2H.

Risks

Tariff risks from the US are poised to increase around the upcoming elections. The US recently announced new tariffs ranging from 25% to 100% on various China-made products, effective August. These include batteries, EVs, facemasks, medical gloves, critical minerals, semiconductors, solar cells, and steel and aluminum products. Further uncertainties loom with the US election in November, where scenarios include threats of 60% tariffs on Chinese imports and 10% universal tariffs on imports from the rest of the world by Trump.

The experiences from the 2018-2019 US-China trade war indicate a dual impact on Taiwan. There are disruptions for Taiwan-based exporters with operations in China, as well as for Taiwan-based exporters supplying intermediate goods to China. Conversely, Taiwan stands to benefit from increased exports and investment as US importers shift orders from China to Taiwan and Taiwanese companies repatriate investments from China. However, if a scenario similar to Trump's proposed universal tariffs materializes, the direct impact on Taiwan would be negative.

Additionally, trade tensions between China and Taiwan could further escalate. China announced phases of suspension for the Early Harvest List under the Economic Cooperation Framework Agreement (ECFA), effective from January and June. These phases cover sectors such as petrochemicals, textiles, metals, machinery, and transport equipment, totaling USD 11.7bn, which accounts for 12% of Taiwan’s total exports to China or 2.7% of Taiwan’s overall exports. The remaining items on the ECFA Early Harvest List amount to USD 4.1bn, representing 4% of Taiwan’s exports to China or 0.9% of Taiwan’s overall exports. There is potential for further suspension of ECFA items towards the year-end, with the possibility of additional anti-dumping duties on specific items beyond ECFA, which could adversely affect selected sectors of Taiwan’s exports.

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