President Xi Jinping’s statement that Taiwan is properly part of China and will be fully integrated one day is not new policy. Nonetheless it seemed to upset the Hong Kong market, and made investors wonder whether there was to be a new tougher phase in China’s relations with the very successful island economy of Taiwan.
The dispute between China and Taiwan goes back to the days of the war between the Chinese communist party and the nationalist forces in 1949. Chiang Kai Shek led the nationalists to Taiwan and settled there when they lost the battle for the mainland. Since then there has been tension between the two. Formal hostilities ended in 1979 without a peace treaty. Today the Chinese navy goes close to Taiwan to intimidate but not to fire. The election of the Democratic Progressive Party to office in 2016 was annoying to China, which finds the Taiwanese opposition party Kuomintang more accommodating to China’s line. Some within the Democratic Progressive Party would like a truly independent Taiwan. Its Prime Minister treads a fine line on the issue, seeking to maintain the delicately described status quo. In the local elections towards the end of last year, the rival Kuomintang part was the winner. China probably hopes for a similar outcome at the next general election in just over a year’s time.
It is unlikely China is seriously thinking of early military action to integrate Taiwan by force, and it understands the US would be strongly against any such move. China has increased her forces in the South China Sea considerably, and is projecting her power both by naval vessels and by stationing planes and missiles on islands a long way offshore. This looks like a policy building for the future rather than for immediate hostile use.
More important for its impact on markets is what is happening to the Chinese economy. It looks as if the monetary tightening undertaken by regulatory requirements on the commercial banks and fringe financial institutions is taking its toll and the Chinese economy is slowing. There may also be some trade effect from the spats with the US and the general slowing of world growth. Apple’s reported sales decline in China probably reflects both a general slowdown and some hostility to US product generated by the public exchanges over trade and technology. Chinese exports have been affected and Huawei is facing adverse comments on both sides of the Atlantic about its business model. The Chinese authorities have always made clear they wish the economy to continue growing a little above 6% and will presumably have to take some action if the slowdown worsens from here. So far, they have relaxed the reserve ratio requirement of the commercial banks a bit, allowing them to lend more for the same amount of cash and capital. The latest PMI figures show a small reduction in the outlook for manufacturing.
China faces a dilemma. It wants to clean up bank balance sheets and cut down on credit excesses. At the same time it wants to promote fast growth by world standards. More growth does require car loans, consumer credit and mortgages to expand to allow more Chinese consumers to enjoy the benefits of growing income and wealth. So far it has juggled this well enough to avoid a credit crunch but to allow reasonable growth. It has happened at the expense of a big bear market in shares. At some point it will need to relax some more, sufficiently for share buying to pick up again. We do not seem to be there yet, but must be approaching this point.
The mutual damage to technology companies in the trade war between the USA and China will not have been lost on the two presidents either. These signs of negative impacts on leading companies will be unwelcome to both Presidents Xi and Trump. It is another force making a trade deal more likely, now that the two presidents are engaged and allowing talks to progress.
The above article was previously published by Charles Stanley on 3rd January 2019