Taiwan's economists have described Taiwan's stock market as a bubble economy. They explain the distortions of Taiwan's stock market in terms of information asymmetry and irrational expectations. Most of Taiwan's stock buyers are individuals. They tend to follow the signals of a few volume investors or television stock advisers. When stock prices far exceed their normal levels (e.g., the price/dividend ratio is higher than 20:1), individuals investors continue to buy stocks,
Ministry of Finance, 1998).
even borrowing money to do so, until the bubble bursts. Then, they sell their stocks in panic even when prices are far below their normal levels.55
Taiwan's economists are correct in their description and explanation of the weaknesses of Taiwan's stock market. But the fundamental problem with the distorted market structure was the oligopolistic alliance among the KMT, the conglomerates, and representatives. Together, they exerted political influence on the operation of Taiwan's stock institutions, such as the monitoring institution of the Taiwan Stock Exchange Corporation, the monitoring and enforcement institutions of the Securities and Futures Commission, the macroeconomic policies of the Central Bank, and the security policies of the Finance Ministry.56
First, conglomerates dominated the stock market. In August 1988, the government liberalized the stock market and permitted the establishment of new stock companies. In the next two years, 349 new stock companies were established. Almost each of the top 100 conglomerates owned a stock company. For conglomerates, there were four layers of profits associated with owning a stock company. One was the lucrative profit of stock transactions. The other was the reduction of management fees for stock transactions. The third one was the profit gained from manipulating the prices of the conglomerate's stocks. And finally, the conglomerate could explore other investment markets through the stock company.57
In order to maximize each layer of the above profits, conglomerates built up political connections. These conglomerates needed to know in advance whether an important policy that would affect stock prices might pass or be defeated in the Legislature, so that they could buy and sell stocks before the market reacted. They needed to know whether the Ministry of Finance proposed the increase or reduction of taxes on stock transactions. When a conglomerate engaged in illegal stock transaction, it needed political guardians to interfere with the investigation by government authorities. And finally, many conglomerates competed for government procurement projects. A successful bid would raise the prices of the conglomerate's stock prices.
54 Taiwan Statistical Data Book 1998, pp.149, 163.
55 Zongxian Yu, and Jinli Wang, Taiwan Paomo Jingji [Taiwan's Bubble Economy] (Taipei: Zhongkuo Jingji Qiye Yanjiusuo, 1998).
56 For more detailed analysis of the operation of these stock institutions, see Zonghao Huang, Taiwan Gupiao Shichang Zhi Zhengzhi Jingji Fenxi (A Political Economic Analysis of Taiwan's Security Market). Master thesis, National Chengchi University, 2000.
57 Shengyuan Zang, Cong Jinqian Youxi Yu Jinrong Jieyan Kan Taiwan Jinquan Zhengzhi Zhi Xingcheng [A Look at the Formation of Money Politics from the Perspectives of Money Game and Financial Liberalization] (MA. Thesis, National Taiwan University, 1993).
All of the above information and profit opportunities could be obtained by supporting particular legislators or by sending their own conglomerate members to the Legislature, especially to the Legislature's Finance Committee and Economic Committee. Thus, I have found legislators actively interfering with the normal transaction of Taiwan's stock market, as described below.
Secondly, representatives interfered with market transactions. Zhenhuan Wang58 has found that among the 294 legislators elected between 1969 and 1992, half of them simultaneously held enterprise positions as presidents, vice presidents, CEOs, deputy CEOs, directors, supervisors, or consultants. In the 1980s and early 1990s, at least ten legislators (and/or their spouses), including the speaker and the vice speaker, owned or invested significantly in stock companies.59 The number of such legislators increased to fifteen after the 1998 election.60 These legislators have had high reelection rates and have been regular members of the Finance Committee, which makes policies regulating stock transactions.
Two incidents exemplify the legislature's interference with market transactions.
One concerned the taxes imposed on the transaction of stocks and on stock companies. For tax fairness purposes, from 1988 to 1993, the Finance Ministry tried several times to raise the tax on stock transactions to 1.5%. But the Legislature not only defeated these proposals; on the contrary, it continued to lower the taxes to 0.3%.
During the same period of time, the Ministry tried frequently to impose taxes on stock companies; all attempts failed.61
The other incident was the Hongfu Stock Company scandal in 1994. The company engaged in large-scale illegal stock transactions, with many legislators involved. The owner was also a legislator. When the Investigation Bureau searched the owner's house, at least eighteen legislators showed up to successfully interfere with the investigation. The investigation ended up with prosecutions of some minor managers. Other legislators involved in the scandal have continued to serve as legislators. The owner of the stock company was set free and became involved in a few scandals from time to time afterwards.62
Thirdly, the KMT became a major player in the stock market. In 1987, the
58 Zhenhuan Wang, Shui Tongzhi Taiwan [Who Governs Taiwan?] (Taipei: Juliu, 1996), p.149.
59 Junyi Li, Choulou De Lifayuan, pp.76-80.
60 Qinru Li, "Xiajie Liwei Caifu Shili Dapuguang" [Exposure of the Financial Power of the Next Legislature], Xinxinwen, no.19 (1999), pp.51-59.
61 Zhenhuan Wang, Shui Tongzhi Taiwan, pp.157-62.
Taiwanese government lifted martial law. The opposition party was able to monitor the connection between the state's coffers and the KMT's. In response, the KMT reorganized its enterprises to find alternative sources of financing. Former Minister of Finance, Lide Xu, took up the mission as the newly appointed chairman of the Finance Committee of the KMT in August 1988. From 1988 to 1993, Xu successfully introduced a modern management system to KMT party enterprises in order to raise their competitiveness. Furthermore, Xu began to expand joint ventures among KMT enterprises as well as between KMT enterprises and private conglomerates. Stocks became critical instruments for such joint ventures.
In June 1993, the KMT established a new investment coordination committee, the Business Management Committee (BMC), as described in the previous section.
The BMC enabled the KMT to institutionalize consultation with conglomerates with regard to joint ventures and political matters. In 1993, the Committee consisted of six KMT enterprise presidents, one scholar, and eight presidents or CEOs of private conglomerates. In 1996, two more conglomerate representatives were added. All ten private conglomerates derived their revenues mainly from protected domestic markets, such as real estate, construction, banks, and stock companies, which made political connections critical to their profits.63 Major producers of export-oriented electronic products were absent from the Committee. The Committee met once a month to respond quickly to market changes.
Through the seven holding companies and their joint ventures, the KMT was able to influence stock prices. In 1995, these seven holding companies controlled and managed three stock companies: Dahua, Fuhua, and Huaxin64. Two more stock companies, Zhonghua and Fanya, were added later to the KMT roster.65 If conglomerates had an advantage in manipulating stock information as described before, the KMT certainly ranked above all other conglomerates in information manipulation. For instance, Fuhua Stock Company was the largest stock company in Taiwan in 1999. In terms of net profit before tax, it ranked seventeenth among
62 Junyi Li, Choulou De Lifayuan, pp.80-82.
63 Shuzhen Tan, "Guomingdang Dangguanhui De Bimi Zhiyi" [One of the Secrets of the KMT Business and Management Committee], Xinxinwen, no.480 (1996), pp. 90-93.
64 Yonghuang Liang, "121 Jia Dangzi Shiye Zonglan" [An Overview of the 121 Party Enterprises], Wealth Magazine ( April, 1995), pp. 102-108.
65 Huijuan Huang, "Yibaida Qiye Jituan Diaocha" [An Investigation of the Largest 100 Enterprises], Shangye Zhoukan, no.605 (1999), pp.84-111.
Taiwan's 150 financial institutions.66 In fact, in all the past stock crashes, KMT enterprises never suffered as severely as other conglomerates did. On the contrary, KMT enterprises usually made handsome profits during economic recessions, although less than during economic recoveries. The difference between conglomerates and the KMT was that as the ruling party, the KMT controlled the decisionmaking and policy implementation process of major economic policies that might affect stock prices.
Fourthly, the state could not but be a passive and active collaborator in stock market distortions. On the passive side, the state agencies, which might affect stock market transactions, did not have effective supervisory power. The Central Bank lost its political autonomy as described in the last section. The Securities and Futures Commission of the Finance Ministry, which was in charge of regulating stock market transactions, had not been an effective monitoring authority for three reasons. It had a small budget. Its staff members were few; the organization's bylaws authorized 242 staff members to deal with more than 400 foreign and domestic stock and investment companies.67 And its legal and political status in the bureaucracy was low; it was not an independent commission, nor did it have the rank of a department, as its counterparts in the United States and Germany do.
On the active side, the state formulated policies to stimulate stock prices before all presidential and legislative elections. These policies included the reduction of stock transaction taxes, the increased entry of government funds (pension funds, postal savings, social security funds, etc.) to the stock market, the lowering of administrative barriers against foreign capital, the Central Bank's loosening of the money supply, and the relaxation of other stock market regulations. The purpose was to create an image of the KMT's strong governing capability. It also served the KMT enterprises to make extra profits for campaign expenses. Once the elections were over, stock prices usually tumbled.68
Finally, foreign investors have not been major players in Taiwan's stock market.
It is undeniable that the number of foreign investors and the amount of foreign capital in Taiwan's stock market have increased rapidly in the past ten years. Taiwan's
66 Shangye Zhoukan, no.603 (1999), pp.76-131.
67 <http://www.sfc.gov.tw>.
68 Mengxia Li, "Jieyenho Xuanju Yu Zhence Guanxi Zhi Jiantao" [A Study of the Relationships between Elections and Economic Policies in the Post-Martial Law Period] (MA. Thesis, National Chengong University, 1997), pp.60-63.
individual investors also often follow the investment strategies of foreign investors.
However, the government has retained important restrictions on foreign investors.
Foreign investment companies, if buying and selling Taiwanese stocks, cannot accept Taiwanese clients for such transactions. Before 1999, each foreign investor could own at most 15% of a local company's stocks. All foreign investors could possess at most 30% of a local company's stocks. In February 1999, in an effort to stimulate the crashed stock market, both percentage limits were raised to 50%. However, the total value of foreign investment in Taiwan's stock market was still lower than 4% of the total market value.69 Through these foreign investment companies, "hot money"
frequently came in and left the Taiwan stock market for short-term speculation.
Because of the above investment constraints, few foreign companies were interested in long-term investment.
Thus, I found that the oligopolistic alliance among the KMT, conglomerates, and representatives, with the state as both a passive and an active collaborator, has caused the distortions in Taiwan's stock market. Conglomerates dominated the market.
Representatives helped legalize market distortions. The KMT itself became a major player in the market. And the state was incapable of regulating market distortions.