HONG KONG: Fitch Ratings yesterday affirmed Taiwan's Long-term local currency Issuer Default Rating (IDR) at "AA" and revised its outlook from stable to negative.

At the same time, the agency affirmed the long-term foreign currency IDR at "A+", the short-term foreign currency IDR at "F1" and the "country" ceiling at "AA". The outlook on the long-term foreign currency IDR remains "stable".

Fitch notes that the outlook revision on Taiwan's local currency IDR is based on an expected deterioration in Taiwan's fiscal position in 2009 and 2010. "The improvements in Taiwan's public finance in recent years are set to reverse course, with a growing general government deficit financed by local-currency borrowing," said Vincent Ho, an associate director with Fitch's Asia Sovereign Ratings team. "Government debt is projected to rise accordingly, putting pressure on the local currency IDR."

Fitch forecasts the fiscal deficits in 2009 and 2010 will be above 3 percent of GDP, worse than the "A" peer group medians, due to the oncoming recession, a substantial increase in infrastructure investment, implementation of an income-tax cut and sizable economic-stimulus projects.

Fitch forecasts Taiwan's economy will contract by 2.1 percent in 2009 and expand by 3.3 percent in 2010.

In policy terms, stimulating economic growth seems to be a higher short-term priority than balancing the central government's general budget. After four years of stabilization, the agency forecasts the general government debt will begin to rise again and reach 47 percent of GDP (an all-time high) and 280 percent of fiscal revenue in 2009.

Debt ratios could deteriorate further if Taiwan experiences deflation, but they are already higher than the "A" medians. A narrow revenue base is a structural fiscal weakness, and it has been narrowed further through the extension of various tax incentives, such as cutting estate, gift and income taxes and a possible reduction of the corporate tax rate. Although government policy has been responsive to macroeconomic changes, the government's fiscal policy is becoming less flexible as debt levels approach their legal ceilings and non-debt financing resources are limited.

Fitch estimates Taiwan's current account surplus was 5.4 percent of GDP in 2008, compared with 8.6 percent in 2007.

The agency expects the surplus to narrow further to 2.8 percent in 2009 (better than the "A" median) amid the global economic recession. Taiwan's foreign-exchange reserves are not expected to grow quickly, but are expected to remain high at $310 billion at the end of this year. That would be the fourth largest after China's mainland ("A+"), Japan ("AA") and Russia ("BBB+") among all Fitch-rated economies.

Fitch expects Taiwan's gross external debt to stabilize at 37 percent of GDP and public external debt to remain at 1.2 percent of GDP in 2009-2010. Taiwan's net external credit position remains stronger than that of the "A" peer medians. Fitch forecasts Taiwan's net external credit will stay at around 120 percent of GDP and remain strong at 150 percent of current external receipts in the medium term.

Since "President" Ma Ying-jeou took office in May 2008, cross-Straits relations have been less hostile and are improving, as evidenced by enhanced economic cooperation, such as the establishment of "direct links" between Taiwan and the mainland.

It is widely expected that closer economic cooperation will continue to develop, possibly reviving Taiwan's strong economic growth trend prior to 2001.

Reuters

(HK Edition 01/20/2009 page1)