Taiwan Mulls Sovereign Wealth Fund

With $277 billion in foreign exchange reserves, the island state's central bank considers a fund like Singapore's investment arms

In the run up to Taiwan's presidential election, the Central Bank of China—the island's central bank—says it is contemplating setting up a sovereign wealth fund. The fund could initially be financed using part of the central bank's $277 billion in foreign exchange reserves and could possibly be modelled after Singapore's Temasek or Government Investment Corporation.

Chou A-ting, deputy governor at the Central Bank of China, says the bank is still studying the overall feasibility of a sovereign fund, adding that politicians will eventually decide if it pushes through.

The move was first suggested by former minister of finance Paul Chiu in a rally for KMT presidential hopeful, Ma Ying-jeou. Ma has largely built his campaign on the promise of fixing Taiwan's economy. Ma has said that Taiwan's current capital outflow of NT$490 billion ($15.89 billion) has translated to a loss of prestige for the financial industry.

In recent years, China's sovereign wealth has overtaken that of Japan and Taiwan. Beijing's sovereign wealth fund, China Investment Corporation, and its predecessor, Huijin Investments, have alarmed many Taiwanese politicians with the enormous amount of assets that have been accumulated in just a short span of time.

Taiwan's high level of liquidity trapped in its banking system caused a credit crisis in 2005-2006, which saw many banks loosening lending policies to gain revenue amid a low interest rate environment. The cheap credit, in turn, caused the stockmarket to become one of the most volatile in Asia. Taiwan's benchmark interest rate is still hovering at 2.61%.

A sovereign wealth fund could be a quick-fix to relieve the internal pressure caused by excess liquidity. It might also be a way of restoring Taiwan's financial prowess.

However, a sovereign wealth fund could also contradict what Taiwan's central bank has been doing in recent months, which is talking up a global tax to be implemented in 2009 to discourage fund outflows. As the de facto approval agency for overseas institutional investments, the central bank has openly defended the new Taiwan dollar and the local stockmarket.

Industry observers caution that relying on plans hatched before a presidential election could be premature. After all, it will be up to the presidential cabinet to decide policies.

Before it's here, it's on the Bloomberg Terminal.