Rating Action: Moody's changes Taiwan, China's outlook to stable from

positive, affirms Aa3 rating

22 Sep 2022
Singapore, September 22, 2022 -- Moody's Investors Service ("Moody's") has today affirmed the Government
of Taiwan, China's Aa3 long-term issuer and senior unsecured ratings and changed the outlook to stable from
positive.
The decision to change the outlook reflects Moody's assessment that the baseline level of cross-Strait tensions
has increased, alongside rising strains in the relationship between China and the US, offsetting positive
momentum on Taiwan's economic and fiscal strength, and constraining Taiwan's rating. Moody's assesses
that the recent rise in tensions, culminating most recently with unprecedented military exercises by China and
China's commitment toward reunification with Taiwan, is unlikely to dissipate in the foreseeable future,
potentially affecting economic decisions and policy effectiveness more negatively than seen so far or
previously anticipated by the rating agency.
The affirmation of the Aa3 rating considers Taiwan's credit strengths and challenges, with strong intrinsic
financial and economic strengths standing in contrast to a high degree of event risk, namely political risk, for
an Aa-rated government. Moody's assesses that Taiwan's strong fiscal and external buffers will remain intact
relative to Aa-rated peers, notwithstanding an expected increase in government expenditure over time on long-
term challenges including national defense, an aging population and the decarbonization of the economy.
Taiwan's local- and foreign-currency ceilings remain unchanged at Aaa. The Aaa local currency ceiling reflects
limited risks for non-government issuers in Taiwan both related to the government's footprint and actions and
to common risks affecting the government and non-government issuers, such as risks related to
macroeconomic imbalances. The foreign currency ceiling at the same level as the local currency ceiling reflects
minimal transfer and convertibility risks for foreign-currency bondholders and depositors in Taiwan.
RATINGS RATIONALE
RATIONALE FOR THE CHANGE IN OUTLOOK TO STABLE
US AND CHINA POSITIONS ON TAIWAN INCREASINGLY POLARIZED, RAISING GEOPOLITICAL RISK
Moody's expects broader escalation of tensions between China and the US to influence geopolitical risk
perceptions around Taiwan, particularly as both remain committed to their respective positions with material
consequences across a broad array of political and economic domains. For example, the visit to Taiwan of the
Speaker of the US House of Representatives in 2022 and related delegations of US officials have prompted
reactions from China including a series of unprecedented military exercises around Taiwan, increasing the risk
of military accidents or diplomatic miscalculation.
The China State Council's white paper on its vision for reunification also signals a potential shift in China's
strategy toward Taiwan, fueling perceptions that the risk of a military conflict continues to increase. Meanwhile,
US policy on Taiwan has also seemingly hardened in the direction of providing greater material and political
support to the Taiwan government, including through the proposed Taiwan Policy Act, which would increase
weapons sales. These developments are likely to aggravate US-China tensions, amplifying the risk of a
military accident or diplomatic miscalculation that could trigger a broader conflict, with negative consequences
for Taiwan's economic or fiscal strengths.
At the same time, Moody's continues to assess that, despite increasingly adversarial rhetoric in cross-Strait
relations, a direct military conflict between China and Taiwan remains a low-probability event. In Moody's view,
a military conflict would pose significant economic costs to the parties directly involved and to the global
economy. For example, the likely threat of economic sanctions with negative consequences worldwide and the
global consequences of a loss of access to Taiwanese electronic components are deterrents to a conflict.
HEIGHTENED CROSS-STRAIT TENSIONS DRIVE AN INCREASED PERCEPTION OF RISK WITH
POTENTIAL NEGATIVE EFFECTS ON CREDIT FUNDAMENTALS, OFFSETTING POSITIVE MOMENTUM
Elevated geopolitical tensions risk affecting the investment intentions of multinationals due to potentially
severe consequences to global trade and access to high-end computing technologies that would result from
military conflict or an economic blockade of the Taiwan Strait. This offsets positive momentum on Taiwan's
economic and fiscal strength and effectively constrains Taiwan's rating.
The recent rise in tensions has not materially affected Taiwan's trade competitiveness or financial conditions
so far. Moody's also assesses that Taiwan maintains several near-term competitive advantages in the
technology sector, including the availability of trained engineers, geographic proximity to key supply chains and
customers, and competitive wages and electricity costs.
Over time, however, permanently heightened geopolitical risk would potentially result in the acceleration of
technology companies and other end users of advanced semiconductors seeking to relocate or replicate
manufacturing capacity outside of Taiwan in order to fortify their supply chains, weakening Taiwan's economic
strength. To some extent, longer-term concerns about Taiwan's exposure to geopolitical risks have already
prompted governments to re-assess their chip supply chains. For example, the US's recently passed CHIPS
and Science Act will direct $52 billion in subsidies toward companies producing chips in the US and conducting
research and development.
In addition, Moody's expects increased tensions to lead to a rise in Taiwan's defense expenditure that may
result in reduced budgetary allocations toward other long-term structural priorities such as skills development,
healthcare and social safety net improvements for the aging population and investments in renewable energy
to reduce the dependence on imported fossil fuels. Taiwan's narrow revenue base, at approximately 14% of
GDP, constrains the government's capacity relative to Aa-rated peers in addressing these long-term structural
challenges. So far and in the foreseeable future, expenditure pressure will be contained. For the 2023 budget,
the Executive Yuan of Taiwan has proposed a 13.9% increase in expenditure on national defense, restoring
such expenditure to 2.4% of 2023 forecasted GDP, or above the global average of 2%. Still, Moody's expects
Taiwan to sustain fiscal deficits of around 1%-2% of GDP through 2024 and government debt of about 31% of
GDP, a modest departure from its pre-pandemic practice of maintaining an even fiscal balance and declines in
the debt burden.
RATIONALE FOR THE Aa3 RATING
STRONG COMPETITIVENESS IN TECH-HEAVY EXPORT SECTOR UNDERPINS CREDIT
FUNDAMENTALS AND RESILIENCY
Taiwan's economy has displayed strong economic resilience through the unprecedented pandemic shock,
emerging relatively unscathed compared to regional and similarly rated peers and to a certain extent benefiting
from an acceleration of digitalization when domestic movement restrictions and closures of international
borders disrupted economic activity.
Globally, more than 90% of advanced semiconductor manufacturing capacity is based in Taiwan, underscoring
its critical role in spurring global investments in high-growth industries such as cloud infrastructure, electric
vehicles, industrial automation, wireless telecommunications and high-performance computing.
Amid global supply chain reorganization and repatriation of Taiwanese companies, particularly from China,
Moody's expect Taiwan's dominance in high-tech exports to continue, as ongoing development plans enhance
structural strengths, increasing the attractiveness of large capital investments.
Beyond semiconductors, Taiwan's current administration continues to promote frameworks to incentivize
private sector investment in six core strategic industries: information and digital technology, cybersecurity,
biotech and medical technology, national defense, green and renewable energy, and strategic stockpile
industries. These efforts are complemented by the government's Forward-looking Infrastructure Development
Program and the "Five Plus Two" Innovative Industries Plan, which will strengthen and incentivize private
sector investment in seven new-age industries.
Overall, Moody's forecasts inflation-adjusted real GDP growth to remain above potential in 2022 at around 3.0-
3.5% year-on-year, moderating from 6.6% in 2021 given base effects, before maintaining an average of 2.5%
growth in the subsequent few years, higher than for most rated peers. Taiwan's growth pace is also one of the
least volatile among peers despite its reliance on external demand, owing to its leadership in the ICT sector
despite the sector's traditionally cyclical nature.
LENGTHENING TRACK RECORD OF INSTITUTIONAL EFFECTIVENESS ANCHORS FISCAL AND
MONETARY POLICY
Taiwan's growing track record of effective medium-term policy planning and fiscal management has withstood
the pandemic shock, even with the government's sizeable fiscal support to the most affected domestic sectors
since 2020. The authorities have maintained an overall prudent fiscal stance, including the stabilization of the
debt burden since 2019 despite several rounds of stimulus to households and businesses and a substantial
increase in defense expenditure in 2022.
Fiscal policy effectiveness continues to be supported by the government's strong commitment to maintaining
stable budget deficits through economic cycles, which has led to the successful execution of fiscal policy
against planned targets since the enaction of stricter fiscal rules in 2014. Moody's expects the government will
increasingly mobilize its preserved fiscal space over the medium term for increased expenditure to address
structural challenges such as the aging population, despite a narrow revenue base when compared with Aa-
rated peers.
Robust monetary policy effectiveness has similarly delivered macroeconomic stability despite the economy's
dependence on imports of energy and specialized inputs critical to the semiconductor sector. This resilience
has been confirmed amid several recent external shocks including the pandemic, the onset of global
inflationary pressures and supply-chain and demand shocks in China. The government's absence of external
foreign-currency borrowing and its robust external surpluses, underpinned by its entrenched position as an
exporter of highly specialized electronics components, provide the authorities substantial policy flexibility in
managing external pressures through the continued buildup of foreign exchange reserves.
ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Taiwan's neutral-to-low (CIS-2) ESG credit impact score reflects low exposure to environmental and social
risks, and strong institutions and governance frameworks that provide capacity to respond to and address
potential risks.
The exposure to environmental risk is neutral-to-low (E-2 issuer profile score). Taiwan is subject to rising sea
levels over the long run, and extreme associated events such as flooding, cyclones, typhoons and saltwater
intrusion. However, the government has increased its focus on and investments in developing renewable
energy resources, particularly wind and solar energy, providing credible resilience to physical climate risk.
Moody's assesses Taiwan's social risk exposure as neutral-to-low (S-2 issuer profile score). Like many
developed economies, Taiwan faces pressures from an aging population, as well as skills shortages fueled by
outward labor migration. Although the passage of recent pension reforms delays significant negative fiscal
costs from an aging population, demographic and labor-related considerations will over time pose challenges
to Taiwan's growth potential, household savings and fiscal strength. These pressures are mitigated by the
government's ample fiscal space compared with peer economies, robust household savings and an increasing
government focus on programs to strengthen the social safety net and university programs to train graduates
for the high-tech workforce.
Taiwan's strong institutions and governance profile supports its rating, as captured by a positive governance
issuer profile score (G-1 issuer profile score). A strong institutional structure is supported by detailed national
planning and credibility and effectiveness in both monetary management and fiscal policy.
GDP per capita (PPP basis, US$): 62,527 (2021) (also known as Per Capita Income)
Real GDP growth (% change): 6.6% (2021) (also known as GDP Growth)
Inflation Rate (CPI, % change Dec/Dec): 2.6% (2021)
Gen. Gov. Financial Balance/GDP: -0.2% (2021) (also known as Fiscal Balance)
Current Account Balance/GDP: 14.8% (2021) (also known as External Balance)
External debt/GDP: 27.6% (2021)
Economic resiliency: aa2
Default history: No default events (on bonds or loans) have been recorded since 1983.
On 19 September 2022, a rating committee was called to discuss the rating of the Taiwan, China, Government
of. The main points raised during the discussion were: The issuer's economic fundamentals, including its
economic strength, have not materially changed. The issuer's institutions and governance strength, have not
materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially
changed. The issuer's susceptibility to event risks has not materially changed.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
FACTORS THAT COULD LEAD TO AN UPGRADE
A significant and lasting improvement in relations with China, such that the probability of a deleterious conflict
was significantly reduced, would be positive for Taiwan's rating. An easing of tensions would reduce
geopolitical uncertainty and lower the risks arising from military and diplomatic missteps. Such an outcome
might also improve Taiwan's economic prospects, policy effectiveness, and trade and investment linkages.
FACTORS THAT COULD LEAD TO A DOWNGRADE
Moody's would consider downgrading Taiwan's rating if there were a flare-up in relations with China that
precipitated material risks to Taiwan's credit fundamentals.
An expectation of a material and long-lasting shock to economic fundamentals that eroded economic strength
would also likely lead to a downgrade. Should the government be unable to use countercyclical policies to
buffer the impact of the shock, this would also be negative for Taiwan's rating.
The principal methodology used in these ratings was Sovereign Ratings Methodology published in November
2019 and available at https://ratings.moodys.com/api/rmc-documents/63168 . Alternatively, please see the
Rating Methodologies page on https://ratings.moodys.com for a copy of this methodology.
The weighting of all rating factors is described in the methodology used in this credit rating action, if applicable.
REGULATORY DISCLOSURES
For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections
Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and
Definitions can be found on https://ratings.moodys.com/rating-definitions.
For ratings issued on a program, series, category/class of debt or security this announcement provides certain
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disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated
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a.With Rated Entity or Related Third Party Participation: YES
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The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates
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credit rating.
Nishad Harshit Majmudar
Asst Vice President - Analyst
Sovereign Risk Group
Moody's Investors Service Singapore Pte. Ltd.
71 Robinson Road #05-01/02
Singapore, 068895
Singapore
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077
Marie Diron
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454
Releasing Office:
Moody's Investors Service Singapore Pte. Ltd.
71 Robinson Road #05-01/02
Singapore, 068895
Singapore
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077

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