China’s economic leverage and threat waning over Taiwan

In recent years, China has attempted to prevent Taiwan from developing ambitions for independence by enforcing economic embargoes.

But Taiwan has grown its manufacturing strength and economic resilience while China has failed to advance its semiconductor industry. It is becoming increasingly clear that Beijing’s ability to wield an economic club over Taiwan has significantly weakened.

In early 2021, China banned the imports of several agricultural products from Taiwan. China’s anger over US House of Representatives Speaker Nancy Pelosi’s visit to Taiwan in August 2022 has led to more products being added to the embargo list. But for Taiwan, China’s import prohibition represents much thunder and little rain.

The agricultural sector only accounts for a small portion of Taiwan’s economy — less than 2% of Taiwan’s gross domestic product. Given the small size of the sector, embargoes are not likely to significantly impact Taiwan’s economy. They are a political gesture that shows the Chinese leadership’s concerns over Taiwan pulling away from the mainland.

This is not the first time that China has sanctioned Taiwan’s economy for political reasons. Yet, so far, China has not been able to harm Taiwan’s economy or turn public opinion in favor of reunification.

After Taiwanese President Tsai Ing-wen took office in 2016, China expressed its discontent with Tsai’s victory by restricting Chinese tourism to Taiwan. The impact on Taiwan’s tourism industry was limited due to the growing number of tourists from Japan, South Korea and Southeast Asia.

The number of visitors from China dropped by 1.5 million between 2017 and 2019. During the same period, the number of visitors from Japan, South Korea and Southeast Asia grew by 2.3 million.

China’s bans on agricultural product imports have encouraged Taiwan to diversify its export partners. China used to be the top destination for Taiwanese agricultural exports. But as of 2022, it has dropped into third place after the United States and Japan.

As Taiwanese agricultural exports — particularly to the US market — continue to grow, the additional bans put in place after Pelosi’s visit will further reduce China’s importance to Taiwan’s agricultural exports.

Taiwan’s economy relies heavily on exporting semiconductor chips, which are essential for making smartphones, tablets, computers and other consumer and commercial electronics. In 2020, 40% of Taiwan’s total exports were semiconductor chips, with China and Hong Kong being two of their biggest importers.

Taiwan’s massive chip exports to the mainland have never been prohibited. Chinese reliance on chips produced in Taiwan to assemble high-technology products has restrained its capability to ban them.

China’s slowing economy — a result of its “zero-Covid” policy — will also lessen its leverage over Taiwan. Its economy is expected to grow by 3.3% in 2022, down from 8.1% in 2021.

China’s booming economy over the past few decades attracted massive Taiwanese investment in the mainland. But it failed to provide enough incentive to persuade Taiwan into cross-Strait reunification. With China’s economy and Taiwanese investment declining, pushing reunification through economic embargo will be even harder.

China’s share in Taiwan’s total outward foreign direct investment declined to 32% in 2021 from over 80% in 2010. Southeast Asian countries and India took on a greater role in Taiwan’s foreign investment portfolio, representing an increase from 8% in 2018 to 31% in 2021.

Demand from China-based Taiwanese businesses for capital equipment and semi-industrial goods used to be the main driver of Taiwan’s exports to China. With the number of Taiwanese businesses in China decreasing, the demand from Chinese companies or foreign companies located in China are continuing large exports from Taiwan. Taiwan’s supply of key components to the industry is essential to China’s ability to play a role in global supply chains.

Cross-Strait trade ties could be further weakened following the United States’ recent restrictions on exports to China of semiconductor chips that use US technology. For the Taiwan Semiconductor Manufacturing Company (TSMC) — Taiwan’s largest semiconductor manufacturer — only 13% of net revenue came from sales to China in the second quarter of 2022, a decline from 20% in the third quarter of 2019.

This is due mainly to the US ban on TSMC’s chip sales to Chinese electronics manufacturer Huawei.

Despite this, TSMC’s total revenue grew due to robust demand from North America (which accounts for over two-thirds of TSMC’s net revenue) and other Asian countries.

Like its wolf warrior diplomacy that caused a deterioration in relations with several European countries, the Chinese government’s economic and political coercion has resulted in Taiwanese resentment of China. Over 80% of people in Taiwan disagree with China’s ban on Taiwan’s agricultural products and its ‘one country, two systems’ policy.

Banning the imports of Taiwanese agricultural products shows China’s limited capability to impact Taiwan’s economy. At the same time, China cannot afford to lose economic ties with Taiwan by going beyond agricultural products and sanctioning Taiwan’s manufacturing industries.

Min-Hua Chiang is a research fellow and economist at the Asian Studies Center, The Heritage Foundation.

This article, republished with permission, was first published by East Asia Forum, which is based out of the Crawford School of Public Policy within the College of Asia and the Pacific at the Australian National University.