Factbox-Key political risks to watch in Taiwan
TAIPEI (Reuters) - The threat of military conflict between Taipei and Beijing has faded, transforming the appeal of Taiwan for foreign investors, but they still have to contend with policy risk and the island's polarized politics.
Following is a summary of key Taiwan risks to watch:
* INTEREST RATE POLICY AND CAPITAL CONTROLS
Taiwan's central bank said in March it was ending its loose monetary policy due to signs a deep recession was over, but economists expect rates to stay relatively low for a few months more unless the U.S. Fed acts sooner or inflation spikes for several months. Faced with growing discontent over rising housing prices and fears of a real estate bubble in an election year, the central bank may move to curb property prices and speculation.
Another key issue is coping with flows of "hot money" that have been buoying Asian asset prices. The interventionist central bank has said it hoped $11 billion in foreign speculative money would start flowing out and regularly moves to stop speculation in the island's currency market. The monetary authority frequently intervenes in the currency market to offset appreciation due to foreign fund inflows. The government fears more hot money if China allows the yuan to appreciate, turning the Taiwan dollar into a proxy.
Earlier this year the central bank warned local and foreign banks to follow regulations when trading foreign exchange forward contracts, a move seen as another effort to discourage hot money. Taiwan has also advised foreign funds against investing in local time deposits and government bonds.
What to watch:
-- Comments by ministers and the central bank on monetary policy, for hints of when the benchmark discount rate will be raised. The next formal meeting is in June.
-- Signs that capital controls could be tightened further, if hot money inflows do not subside. This would push down the Taiwan dollar. However, analysts do not expect the kind of rigid capital controls that would cause major outflows.
-- The central bank's response to any appreciation in the Taiwan dollar due to a firmer yuan. Many economists expect the central bank to allow the currency more freedom to rise if the move was driven by a stronger yuan.
-- A hike in reserve ratio requirements or other moves to control mortgage lending.
* CROSS-STRAIT RELATIONS
President Ma Ying-jeou's promotion of closer economic ties with China has boosted trade and reduced the risk of military conflict. The government is pressing ahead with an economic cooperation framework agreement, the precursor to a free trade deal, ideally to be signed by the end of June. Taiwan's stock market opened this year to qualified Chinese investors. But the issue of ties with China remains highly divisive in Taiwan and there is always the risk of new controversies, especially as 2010 is a local election year with the winning party having a strong shot at the 2012 presidential race. In local elections last December, seen as a test of Ma's policy of engagement with Beijing, his government lost some ground. The most recent controversy was the Sino-U.S. row over Washington's planned $6.4 billion arms sales package to Taiwan.
What to watch:
-- Washington is weighing Taiwan's request for new F-16 jets, a sale described as a "red line" for Sino-U.S. relations. If a sale threatens closer economic ties with China, the impact on Taiwan asset prices will be negative, with stocks of firms that have benefited from greater access to China hit the hardest.
-- The chance of a historic meeting between Ma and Chinese President Hu Jintao, tipped to take place in 2012 if Ma wins re-election that year. It would signal strongly improved ties.
-- Results of tense year-end local elections covering about 60 percent of the electorate and the island's major cities. If the ruling party wins big, it signals more trade dialogue with China. If the opposition gains, China relations could sour.
-- Passage of the economic cooperation framework agreement. Factions of Taiwan's parliament and the island's anti-China main opposition party have raised questions that could delay it.
-- China and Taiwan are scheduled to talk again at the end of the year, possibly opening dialogue on sensitive topics such as post-trade deal tariff reductions and media access.
* GOVERNMENT EFFECTIVENESS
Ma has a strong mandate to govern, as the KMT controls parliament and the presidency. This has been positive for government effectiveness and avoiding political deadlock.
But widespread criticism of the response to Typhoon Morakot last year dented government popularity and led to a cabinet reshuffle. A sudden deal in October to allow U.S. beef imports despite mad cow disease fears also backfired, prompting Taiwan's parliament to scrap part of the agreement and irritating Washington. Cabinet flaps that saw one minister quit and another offer his resignation have also raised questions about leadership ability. The high degree of polarization between the two major parties, the China-friendly Nationalists (KMT) and the anti-China opposition Democratic Progressive Party (DPP), can undermine policy continuity and increase uncertainty.
What to watch:
-- Markets are unlikely to be impacted much by any political controversies unless they significantly weaken the KMT's hold on power. If that happened, the risk of policy deadlock and frostier ties with China would chill markets.
* ECONOMIC REFORM
Taiwan places limits on foreign portfolio investment and restricts foreign direct investment in some sectors. As the economy recovers, investors will start to focus again on whether economic reform may relax some restrictions.
What to watch:
-- Any announcement from the government on economic reform and measures to boost foreign investment. This would be broadly positive for the stock market.
(Editing by Andrew Marshall and Paul Tait)
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