Fitch Affirms Taiwan at 'A '; Outlook Revised to Positive
KEY RATING DRIVERS
The revision of the Outlooks to Positive reflects the following key rating drivers:
Taiwan's fiscal profile has recently benefitted from implementation of the government's "Sound Finance Program", a multi-year fiscal consolidation strategy targeting both revenue and expenditure measures. The general government budget deficit fell to 0.8% of GDP in 2014, from 1.4% in 2013 and 2.4% in 2012. Fitch forecasts a general government deficit of 1% of GDP in 2015, supported by various tax measures introduced during the second half of 2014 and prudent expenditure management.
The 2016 central government budget proposal currently under deliberation in the Legislative Yuan targets revenue growth of 3.8% and expenditure growth of 3.3%. Fitch forecasts a 2016 general government budget deficit of 1.2% of GDP, which incorporates a small deficit at the local government level on top of the budgeted central government deficit of 0.9% of GDP. Fitch does not anticipate significant revisions to the 2016 budget following legislative approval, regardless of whether the opposition party wins the January 2016 elections as widely expected.
Gross general government debt (GGGD) fell to 44.7% of GDP in 2014, in line with the 'A' median of 44.4% and nearly 3pp below the 2012 peak of 47.6%. Fitch expects GGGD to decline to 44.1% in 2015 driven by fiscal outperformance and a boost to the GDP deflator facilitated by lower crude prices. The implementation of SNA08 statistical revisions in November 2014 resulted in the nominal GDP series being revised upwards by 4.4% over the 2010-13 periods. Consequently, GGGD fell to 46.3% of GDP in 2013 from 48.5% previously.
Taiwan's 'A+' Foreign-Currency IDR also reflects the following key rating drivers:
Real GDP growth slowed to 0.5% year-on-year in 2Q15 (-1.7% qoq seasonally adjusted), driven by a 1.3% contraction in export volumes. Trade figures released for September 2015 suggest exports have contracted by 9.4% year-to-date in value terms across all of Taiwan's key export segments and most of its major trading partners, including China.
Exports to China and Hong Kong represent a combined 39% of total exports, but a substantial portion of this represents China's intermediary role the electronics supply chain rather than Chinese final demand. Fitch believes that on-going structural adjustments in China will reduce its dependency on investment-led growth, but will not materially impact Taiwan's intermediary role in the largely consumer-driven electronics trade.
The Directorate-General of Budget, Accounting, and Statistics revised its 2015 GDP growth forecast substantially downwards to 1.6% from 3.3%. Fitch has revised its growth forecast to 1.3% in 2015 based on the recent weakness in overall global trade volumes, as well as the view that the anticipated export rebound during the final quarter of 2015 will be challenged by a very high base in the previous year.
Taiwan's robust external finances remain its core credit strength. The current account surplus rose to 12.4% of GDP in 2014 from 10.8% in 2013. Export performance has disappointed in recent months, but lower commodity prices have also significantly reduced Taiwan's import bill. Fitch believes the resulting impact will lift the current account balance to 14.2% of GDP in 2015, even though the net impact of trade in volume terms will be negative for GDP growth.
Continued current account surpluses have facilitated strong reserve accumulation and strengthened the sovereign balance sheet. Fitch expects sovereign net foreign assets (SNFA) to grow to 83% of GDP in 2015, slightly below the 'AA' median of 94.3% but significantly above the 'A' median of 8.3%. Foreign reserve coverage will grow to 17.3x current account payments, well above both 'A' and 'AA' medians of 3.5x and 4.7x, respectively.
Fitch views Taiwan's large banking system and highly leveraged private sector as a potential risk to its sovereign balance sheet, though overall asset quality remains very strong. The non-performing loan ratio was 0.25% at end-1Q15 and the weighted average capital adequacy ratio of 12.5% at end-2Q15 is well in excess of the 8.0% regulatory requirement. Fitch estimates that financial-sector exposures to mainland China grew to 8% of banking sector assets in 2014 (22% of GDP), but are well below other regional banking systems' exposures, including Hong Kong (32% of assets), Macao (21% of assets), and Singapore (12% of assets).
Fitch views fiscal refinancing risk as low, which reflects an average debt maturity of 10.5 years and average borrowing costs of roughly 2.0%. Government debt is entirely denominated in the local currency, and largely held by domestic banks and insurance companies. Non-resident holdings of government debt securities represent less than 1% of the public debt stock. Bond yields on 10-year government debt fell to 1.2% in early October 2015 from 1.7% a year prior.
After two consecutive Kuomintang (KMT) governments led by Ma Ying-jeou, recent election polls suggest a high likelihood that Dr. Tsai Ing-wen of the Democratic Progressive Party (DPP) will win upcoming presidential elections in January 2016. Fitch's base case is that while existing business and investment links with mainland China are unlikely to change under a DPP government, the pace of economic rapprochement will likely slow. We do not anticipate material changes to the fiscal policy agenda.
The main factors that could lead to a positive rating action, individually or collectively are:
- Continued implementation of low budget deficits consistent with a downward trend in the GGGD/GDP ratio over the medium term.
- Evidence that Taiwan's trend growth performance is robust to structural adjustments in China and recent volatility in global trade volumes.
Future developments that may, individually or collectively, result in a revision of the Outlook to Stable include:
- Adverse macroeconomic or financial shocks that challenge medium-term economic growth prospects, and negatively affect public finances and the financial sector.
- A swift deterioration in the banking sector's asset quality, in light of the macro-prudential risks stemming from high private-sector leverage and rising China exposure.
- No disruptive escalation in regional geopolitical tensions.
- The Chinese economy avoids a hard landing.