Formosa

1. United States Aid

The FOA has submitted the following statement regarding program objectives:

(Introductory Note: The present paper consists of three parts: (1) A comment on the basic structural situation as it relates to the need for United States economic aid; (2) a résumé of principal problems and developments emerging or becoming more serious since March 1954; (3) a brief discussion of current economic conditions within the framework of the price, production, budgetary, balance-ofpayments and investment situations.

Program objectives, as distinct from overall United States objectives, which have been formulated on the basis of the military, political, and economic situation are briefly as follows: (1) to support the military program; (2) to maintain price stability; (3) to enhance the prestige of the Nationalist Government; and (4) to expand productive capacity toward economic self-support when more normal conditions can be restored. These objectives are mentioned here in order that their relationship with the economic situation, discussed below, may be noted.)

1. The Basic Structural Situation

The structural situation is characterized by a low ratio of known natural resources, productive capacity, and production to the size of the population. These fundamental features of the economy account in large measure for the small annual average per capita income of around US$100, and the inadequacy of Government revenues and of foreign exchange earnings to support, in addition to minimum nonmilitary requirements, a military program of the magnitude favored by United States Government policy. As the local production of goods and services is nearly sufficient to provide for civilian requirements, the essential function of the economic aid program is to make available additional resources roughly equivalent in value to military requirements (exclusive of military hardware). In effect, therefore, the economic aid program is primarily a military support program.

2. Emerging or Changing Problems

Superimposed on the basic economic situation outlined above are

recent developments and problems which influence the feasibility and relative urgency of major program objectives (see introductory note). The principal among such developments and problems are enumerated below:

(1) The Communist bombardment of Kinmen Island and threats to invade Formosa will probably discourage local and foreign private investment and result in a further shift of emphasis on the part of the Chinese Government from economic growth to military preparation. This will put a higher priority on the military support objective and delay achievement of the economic self-support objective.

(2) A decline in total estimated foreign exchange earnings for 1954 and 1955 compared with 1953 has resulted from the limitations on sugar exports under international agreement and the fall in rice prices on world markets (see "The Balance-of-Payments Situation" below). This emerging problem will influence the total magnitude of aid requirements and slow down progress toward the economic selfsupport objective.

(3) A large drop in local rice prices since March 1954 has tended to encourage wasteful consumption of rice and has thereby reduced the amount of potentially exportable rice. Falling rice prices have also reduced the demand for United States Surplus wheat and barley, resulting in a decreased rate of Counterpart sales proceeds collections. This development affects the total magnitude of aid required and the amount of surplus agricultural commodities which should be included in the fiscal year 1955 Program.

(4) The estimated excess of fiscal year 1955 Government expenditures over revenues is less than was anticipated in March 1954. Provided military expenditures do not increase beyond those now budgeted, this development will contribute to attainment of the price stability objective (see "The Budgetary Situation" below).

(5) The rapid rates of agricultural and industrial production increases prevailing in 1952 and 1953 are expected to level off considerably in 1954 and 1955 (see "The Production Situation" below). This probably will add to the difficulty of maintaining price stability and increase the time required to achieve the economic self-support objective.

3. The Current Economic Situation

The recently emerging or changing problems outlined above influence the general economic situation concerning prices, production, the budget, the balance-of-payments and productive investment. The current situation with respect to these economic areas is discussed below.

(1) The Price Situation (related, obviously, to the price-stabilization objective). With United States economic assistance, the price situation in the period, January-September 1954 (latest data available), was generally favorable. The Government wholesale and retail price indexes for Taipei declined 6 and 5 percent, respectively. General wholesale food and clothing subindexes fell 15 and 8 percent. Retail rice prices dropped 24 percent, with favorable cost-of-living implications for a sizable part of the population. The JCRR index of prices paid by farmers declined 12 percent, while the index of prices received by farmers dropped 8 percent. The Kinmen incident of September 3, 1954, and Communist invasion threats resulted initially in a sharp increase in the black market rates of gold and United States dollars, but have not caused thus far a rise in the general price level.

Related to the price situation in January-September 1954 was a money supply increase (exclusive of "free" counterpart and preferential deposits) of 19 percent, compared with increasse of 21 and 12 percent in the corresponding periods of 1953 and 1952. An increase in loans to private firms and individuals was the most important contributor to the money supply expansion, followed in order of importance by loans to governments and loans to government enterprises.

While price stability was maintained in January-September 1954, it must be strongly emphasized that this was due to a large extent to the economic aid program. Continued price stability will be dependent on the inclusion of a large volume of saleable commodities in the fiscal year 1955 aid program.

(2) The Production Situation (related to the military-support, price-stability and self-support objectives). Rates of agricultural and industrial production increases in 1954 and 1955 are expected to be substantially less than in the previous 2 years. The weighted average increase of combined agricultural production (including forestry and fisheries) and industrial output (including mining, transportation, and power) in 1952 and 1953 over the respective previous year is estimated at 12 and 16 percent. The comparable increases projected for 1954 and 1955 are 4 percent and 3 percent respectively, compared with an annual population growth of 2.5-3.0 percent. The tendency of industrial output to level off after remarkable gains in 1952 and 1953 is due principally to 3 factors: (1) the limitation imposed on sugar production by international agreement; (2) the fact that to an increasing extent industrial investment has taken the form of new expansion of plant and equipment rather than rehabilitation of idle capacity, with consequently smaller production increases per dollar invested; and (3) the slump in certain industries, notably textiles, due to overproduction relative to demand. Lower rates of projected farm production increases are attributable basically to the absence of an appreciable amount of additional arable land, to the already inten

sive mode of farming, and to the limitation of sugar production as mentioned above.

(3) The Budgetary Situation (related to total aid requirements and to the price-stability, military-support and self-support objectives). The essential feature of the fiscal year 1955 budgetary situation is a notable increase in the Chinese Government's own revenues which, however, is more than offset by an increase in combined budgetary expenditures (including counterpart GBS and Counterpart for the military outside the budget), largely for military purposes. Combined Provincial and Central Government revenues (excluding Counterpart) in fiscal year 1955 are 63 percent above fiscal year 1953 and 16 percent above fiscal year 1954. Combined Provincial and Central Government expenditures (including GBS and Counterpart for the military outside the budget) are 62 percent above fiscal year 1953 and 19 percent above fiscal year 1954. It must be emphasized that these data do not allow for an increase in military expenditures which may be necessary in view of Communist invasion threats.

(4) Balance-of-Payments Situation (related to total aid requirements as well as to the military support, price stability and self-support objectives). The most prominent feature of the prospective calendar year 1955 balance-of-payments situation is a decline in total foreign exchange earnings relative to the 2 previous years. This is due principally to the restriction imposed on sugar exports under international agreement, and to an expected decline in prices of both sugar and rice, which account typically for around 80 percent of total export earnings.

Essential elements of the balance-of-payments situation are summarized in the table below. Minimum exchange of requirements (excluding military equipment supplied under MDAP) are estimated at US$220 million for current year 1955. As with the internal budgetary estimate, it must be emphasized that this does not include increased military outlays which may be required by the changing military situation.

(5) The Investment Situation (relating to the self-support objective). Fundamentally, the situation continues to be characterized by a slow rate of expansion of operative production capacity relative to the rate of population growth.

Fixed capital formation from local sources of capital is at a low rate, although perhaps about the same as in most other Southeast Asian countries. The prevailing low national propensity to invest and a high propensity to consume in Formosa is due partly to low average per capita income (roughly US$100 annually), and fairly even distribution of income coupled with the fact that profits from trade and commerce are generally above profits from more productive undertakings. Low fixed capital investment is also attributable to government policy, which in accordance with the basic policy of early recovery of the China mainland, gives higher priorities to building military strength and to increasing current living standards than to the economic growth of Formosa. This policy is manifested in numerous ways including some reluctance on the part of the government to export rice at prevailing world market prices and a propensity to allocate nearly all available foreign exchange to importation of raw materials and consumer goods. In view of the high degree of government control over the economy, it seems unlikely that present rates of productive capacity expansion from local capital sources will be substantially increased unless the government's basic policy is changed. Prospects concerning the inflow of private foreign capital have both encouraging and discouraging facets. Encouraging are the following: (1) the recent enactment of a new foreign investment law which removes certain restrictions on participation by aliens in industrial and mining enterprises, and which raises the allowable rates of profit remittance and capital repatriation; (2) legislation now pending which would grant tax concessions to new industries and to establish industries undertaking major expansion; (3) conclusion of contracts with 3 American firms for the purchase, on an installment basis, of US$11.6 million of industrial machinery and equipment, payment for US$8.2 million of which will be during a period of 10 years. Tending to offset these favorable factors are the Communist pledge to "liberate" Formosa and the absence of a war risk provision in the Sino-American Industrial Guaranty Agreement. While it is not possible to predict with any certainty the volume of private foreign and overseas Chinese capital which may be invested in Taiwan in the next several years, the total is not likely to be large in view of security conditions.

Considering the factors noted above which tend to limit fixed capital formation with local sources of funds as well as the inflow of foreign private investment funds, it seems hardly likely that rapid progress toward self-support, at current living standards, will be made in the foreseeable future. Actual achievement of this objective will,