2.

Taiwan - Inside the Miracle: A Development Success Story

Taiwan is one of the four East Asian "tigers," or "mini-dragons," whose dramatic economic
successes of recent decades, along with South Korea, Singapore, and Hong Kong, have influenced
the way economists think about development. With a population of about 22 million, Taiwan is a
mountainous, 14,000-square-mile island off the coast of China, about the combined size of
Massachusetts, Connecticut, and Rhode Island.

Taiwan's claim to its status as a "development miracle" is as strong as that of any other
economy in the world. The island racked up a measured annual economic growth rate averaging
close to 8% over more than four decades. Taiwan grew nearly 10% annually in the widely used
benchmark 1965-80 period, higher than any other reported figure. Despite its now high income
status, with a per capita income of $13,925 in 2000 at market exchange rates ($22,646 in 2000,
at PPP), Taiwan continued to grow, at a rapid rate of 5.7% on average over the 1996-2000
period. Though growth in various countries has occasionally reached rates as high as 14%, and in
some regions as high as 25% or more, Taiwan's average growth performance is the highest ever
recorded over such a long stretch of time. In the postwar period, Taiwan has grown from an
impoverished annual per capita income of just $100, to the prosperous society it is today. At least
as important, Taiwan has achieved universal elementary and middle school education (nine years
are mandatory), a healthy population with a life expectancy of 75 years, and an infant mortality rate
of only five per thousand. Absolute poverty has been essentially eliminated, there is very little
unemployment, and relative inequality is modest even by developed country standards.

Although not yet really a fully developed economy and society, Taiwan has had to adjust
to some of the changes that face economies that have reached the threshold of high-income status.
There has been “hollowing out” of basic manufacturing, as plants have moved to mainland China
in search of lower-wage labor. Production that has remained has been forced to rapidly shift to
high-tech products and processes, in the face of rising competition in basic industries from other
developing countries. There has been continued uncertainty about the island’s political future, given
saber-rattling from China, which continues to view Taiwan as a renegade province, but so far the
society has adapted. It has also transformed itself into a credibly and competitively democratic
polity, with far less corruption and lack of government transparency than either its neighbors or than
some of its own history.

Taiwan thus seems to have achieved almost everything we look for in development. This
achievement is in dramatic contrast to many other economies that started in a similar—or even

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much better—set of circumstances in the postwar world. The question begs itself: how did they do
it?

Explanations for Success. Paradoxically, but as is often the case in development studies,
the problem is not that we have too few explanations for success or failure, but too many. Taiwan's
success in particular has been ascribed to many factors. Here are 14 of the major ones: 1) emphasis
on education; 2) extensive infrastructure development; 3) early and thorough land reform; 4) very
high rates of savings and investment; 5) a mixture of constructive foreign influences and diffusion of
commercial ideas from Japan and the United States; 6) effective government industrial planning; 7)
the free market's release of human energies and creativity; 8) the 1960s Vietnam War boom; 9)
direct American aid—and Taiwan's use of that aid for investment rather than consumption; 10) the
work ethic and productive attitudes of the labor force; 11) a long history as an entrepreneurial
culture; 12) the initiation of an export-led growth strategy in the midst of the rapidly expanding
world economy of the early 1960s; 13) the movement into entrepreneurship of capable local
islanders seeking opportunities for advancement, as they were blocked from the political arena; and
14) the survival instinct: the necessity of economic development as a defense against attack from
the mainland (the Peoples' Republic of China).

We will be able to dismiss several of these explanations as major factors, but any of just
a few of the remaining factors might appear to offer sufficient explanation for Taiwan's success. The
case of Taiwan's development may thus be "overdetermined." But an alternative interpretation is
that development success requires many things to work well together, and in this sense there may
not be too many explanations after all: many of these factors may reflect necessary but not sufficient
conditions. In this view, the key is to understand the magnified impact of having many development
factors operating successfully at the same time (for a detailed analysis of this approach, see Todaro
and Smith, chapter 5).

Nevertheless, despite advances in such techniques as cross-national econometrics, we still

lack adequate ways of measuring factors of development across countries. Uncovering the key
factors in any one "development miracle" thus remains almost as much art as science. What follows
then is an imprecise but intendedly systematic exercise in the art of the case study of arguable the
most successful development experience. It results from a combination of an interpretation of the
literature and a series of on-site visits and interviews with public and private sector leaders in
Taiwan.

Emphasis on education. Consistent with the historical Chinese cultural veneration for

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education, six years of education became compulsory on Taiwan in 1950. This was remarkable
enough, but more remarkable still in the troubled history of developing economies was that this edict
was actually carried out within just a few years. Especially impressive were enrollment rates for
girls, which surpassed 90% for those aged 6 to 11 by 1956. (The comparable figure for boys in
that year was over 96%.) Emphasis on girls' education is one of the most important factors in
successful development, if not the single most vital factor, as the case of girls' education in Pakistan
demonstrates (see Case 16).

When compulsory education was expanded to a full nine years in 1968, there were doubts
that the economy could afford it. Today, while nine years remains a remarkable minimum
educational standard for any developing economy, plans are being considered to expand
compulsory schooling to twelve years.

Some other features are: Students go to school seven hours per day, for five and one-half
days per week. In 1992-93, the student-teacher ratio was just 26 for elementary school, 21 for
junior high, and 22 each for academic and vocational high schools. Teacher salaries are relatively
high, comparable to lower-middle management in Taiwan. The U.S. was Taiwan's model for
general education and Japan for vocational education. Greater emphasis is placed on general rather
than job-specific skills. But incentives for close relationships between education and business are
also stressed. In one innovative program, vocational high school teachers are paid to work in
industry during the summer months to stimulate the development of curriculum relevant to industry's
current needs. Tax breaks are given for company donations of personnel and equipment to schools.

Assuming the world development community is serious in its Millennium Development Goal
of enrolling all children in six years of elementary school by 2015, it could do far worse than to
study the early experience of Taiwan, where despite some glitches enrollment was real and not just
on paper, students generally remained in school after they enrolled, teachers actually showed up
for class and taught seriously, and corruption was kept to a minimum. The contrast in most of these
respects to today’s low-income countries is all too striking.

Extensive infrastructure development. Development of infrastructure has been widely

cited as a crucial factor in successful development by economists such as Paul Rosenstein-Rodan
and Albert Hirschman. A major highway, for example, is argued to represent a "growth pole"
around which industrial and commercial development can consolidate and grow. From the period
of Japanese colonial rule (1905-1945), Taiwan inherited an infrastructure system that was far
superior to that of most poor countries. The Japanese built roads, ports, and railroads to facilitate

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their own acquisition of rice and other farm products from the island. But this same infrastructure
became a vehicle for national industrial growth from the 1950s. This endowment was supplemented
by the government's own extensive program in the 1950s and 1960s. Taiwan's army was too large
for the island, a legacy of the pre-1949 control of the mainland by the governing Kuomintang, or
Chinese Nationalists. Thousands of soldiers participated in a voluntary program to retire from active
military service to build infrastructure, including the technically challenging east-west highway
projects, a program reckoned in Taiwan to be a major factor in its subsequent success. In more
recent years, the emphasis has moved to telecoms and other high tech infrastructure, which has
proven to be a limiting factor elsewhere.

There was some waste, fraud, and abuse in infrastructure spending, though apparently less
than average. When the press was freed a number of infrastructure scandals were uncovered, many
affecting the capital, Taipei. The political openings have played a role in keeping infrastructure
development and other development necessities on track as development proceeded, another
reflection of the interactive roles played by several contributory factors in economic growth.

Early and thorough land reform. Not burdened by close political ties to landlords, the
Taiwan government was politically able to implement a thoroughgoing land-to-the-tiller reform
program in the 1950s. Landowners received stock in state-owned enterprises in return for
transferring land to peasants. This was a major factor in the extremely rapid growth of agricultural
productivity in this period—a crucial foundation for later industrialization. Other countries with
similar land reform efforts, such as South Korea and Japan, have seen impressive results. The U.S.
analogously benefited from 19th-century programs such as the Homestead Act. In contrast,
development in Latin America, as well as some neighboring countries, notably as the Philippines,
has been severely hampered by the lack of land reform.

Very high rates of savings and investment. Capital formation has long been deemed
crucial to successful development. Developed countries have much higher levels of capital per head
than less developed countries, one of the factors enabling developed countries to enjoy higher
productivity and incomes. Taiwan's savings rates were among the highest ever recorded, reaching
30 to 40% in the 1950s and 60s.

The savings ethic is deeply rooted in Taiwanese culture. Parents teach children the
overriding need to save for a rainy day. This cultural pattern is supplemented by public policies that
keep real interest rates for savers relatively high and tax free. Interestingly, like fellow tiger South
Korea but unlike Singapore, Taiwan has a relatively low foreign capital share in total investment,

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about 10%. High savings and investment is an important factor in development, but not a sufficient
one. India has substantially increased its rates of investment since independence, but not its growth
rate, in part because capital equipment is more expensive there, in part because investments have
not been made in the most productive sectors at any point in time.

Diffusion of commercial ideas. High saving alone will not create a development miracle
without productive ideas among entrepreneurs about what use to make of it. Though hard to
document precisely, Taiwan has had considerable success at absorbing commercial ideas from
Japan and the United States. Much of this was due to the diligence of thousands of individual small
companies. But government also played a role, through agencies like the China External Trade
Development Council (CETDC) that combed the world, especially the United States, for ideas on
how Taiwan firms could upgrade their technology and adapt to enter industrial markets. The World
Bank's Donald Keesing has offered some fascinating insights into its operation:

"Market research in CETDC's New York office as of 1980 was based on an active search for
items that could be sold in the United States. The search began with an analysis of the size and
origin of U.S. imports, followed by a preliminary study of the price and quality of the more
competitive imported and U.S. products. From this the officers in New York reached an estimate
of the likelihood of Taiwan, China firms competing successfully against offerings already on the
market. (They claimed to understand the manufacturing capabilities of Taiwan, China firms well
enough to do this.) Once a likely product was identified, the office asked firms in Taiwan, China
to send it samples of the product and price lists. Representatives of the office would then visit
importers, wholesalers, and other traders with samples and price lists, prospecting for sales. They
would try to get reactions to the product. If the buyers were interested they would telex the
manufacturers. If not, they would find out why and then suggest appropriate steps to the
manufacturer."

These observations lead us to perhaps the most complex set of development issues—the
roles of state and market in successful development.

Effective government industrial planning. A traditional explanation for Taiwan's

success is the operation of the free market. In contrast, Robert Wade and others have effectively
championed the idea that Taiwan's success is due in large measure to effective government industrial
planning. These policies are in large measure analogous to those of South Korea, though the
industrial base of Taiwan is in small firms and that of Korea in large firms. (See Case 15 on South
Korea.)

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 Taiwan has had active industrial policy systems in place to license exports, control direct
foreign investment both to and from Taiwan, establish export cartels, and to provide fiscal incentives
for investment in priority sectors and concessional credit for favored industries. The government
plays a much less active role today, now that developed country status has been nearly attained,
but it is interesting to view the roles played in Taiwan’s more formative development stages.

Taiwan's economic history began with a very highly dirigiste, or state-directed, import
substitution-oriented industrialization, in the 1949-1950 period. The 1958 reforms switched
intervention to export promotion and introduced market forces. But what emerged was far from
a free market—only a less thoroughly planned economy. Into the 1980s, all imports and exports
in Taiwan have had to be covered by a license. Imports are classified into "prohibited," "controlled,"
and "permissible." Controlled goods include luxuries and some goods produced locally with
reasonable quality, in sufficient quantities, and whose prices are not more than a narrow margin
(about 5%) above comparable import prices. Even the "permissible" items were subject to strong
controls, such as with garments, which until 1980 could only be imported from Europe and
America—the least competitive sources. Other goods subject to "competitive origin restrictions"
have included yarns, artificial fibers, fabrics, some processed foodstuffs, chemicals, machinery and
electrical apparatus. Because the controlled list is larger than the published one, not all
"permissibles" are automatically approved. As Wade shows, a potential importer of an item on the
hidden list has been asked to provide evidence that domestic suppliers cannot meet foreign price,
quality, and timing-of-delivery terms. Wade presents evidence that their function is to jump-start
growth industries by providing domestic demand for products targeted by government. Then
aggressive incentives are provided to induce companies to begin to export these products.

Wade's interpretation of the relative success of this import substitution program, however,
is consistent with an emphasis on market incentives. He argues that because it controls quantities
of foreign goods entering the local economy, the government can use international prices to
discipline the price-setting behavior of protected domestic producers. The government demands
to know good reasons why domestic prices of protected items are significantly higher than
international prices, especially in the case of inputs to be used for export production. In this way,
domestic prices for controlled goods can be kept near world price levels through the threat of
permitting imports, even without free trade of goods across national borders. Wade concludes that
an effective government threat of allowing in more goods can itself be sufficient to hold prices down,
despite the current trade protection. Wade's argument can be interpreted as analogous to the theory
that monopolists will keep prices low to the extent that they fear the entry of a rival firm seeking to

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take advantage of a prevailing high price in an industry. Thus the argument is that government is able
to play an active role in industrial planning without compromising the vitality of market incentives.

But some observers feel that Taiwan's government has been quite happy to promote the
developmental state explanation, perhaps finding greater domestic political benefits in the implication
that it has been competent in formulating economic policy than diplomatic costs, in that it will be
viewed as interventionist and anti-free market. Clearly, Taiwan's economy has been very far from
a free market, but explanations for Taiwan's success other than its actively interventionist policies
can be given. In particular, general policies such as support of basic education and encouragement
of high savings cannot be said to have been ruled out as more important factors in Taiwan's
success. Many small entrepreneurs in Taiwan seem to feel that government has done more to harass
them than help them. And the stable, consistent macroeconomic policies in Taiwan and elsewhere
in East Asia also stand in dramatic contrast to much of the rest of the developing world, especially
the poorest-performing regions.

Free market incentives. Claims that an economy's success is due to government

industrial policies, rather than the action of the free market, are impossible to fully prove. There is
always the danger of corruption and inefficiency when government is excessively involved in the
economy. Some anti-interventionist economists have gone so far as to argue that Taiwan would
have done even better without its industrial policies; part of their contention is that "government
failure" is almost always worse than market failure in developing countries.

At the same time, while entrepreneurial dynamism is hard to measure precisely, it is plain
for all to see throughout the island. Taiwan is a case in which incentives to produce wealth rather
than merely to seek a share of existing wealth ("rent-seeking behavior") are established with solid
property rights and not significantly undermined by other policies.

Certainly, the government of Taiwan has not always been a highly efficient engine of
progress. There would seem to be plenty of room for inefficiency merely because the Republic of
China is in the unique situation of administering both a central and a provincial government covering
exactly the same territory. This is a legacy of the Chinese civil war, which Taiwan's governing
Kuomintang lost. Moreover, until 1991, the government ruled Taiwan under martial law. This would
seem to have offered ample opportunities for corruption. Indeed, in the 1990s, new corruption
scandals seemed to be reported almost daily in Taiwan's many independent newspapers. The free
election of Lee Teng-hui as President in 1996 was the culmination of a smooth five-year transition
to democratic governance. Elections have been highly competitive since then, and are generally

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viewed as having been free and increasingly fair.

Listening to Taiwan's government and opposition leaders, one might conclude that there are
not only two Chinas, but two Taiwans. One is clean, efficient, has a free press, and is democratic.
The other is corrupt, inefficient, features government control of television, and has democratic
institutions that are little more than a figleaf over Kuomintang dictatorship. The truth about the
government role lies somewhere in between. Taiwan is best understood as a case in which the
dynamism of the marketplace is sustained and harnessed with a generally, though not universally,
effective role of government in correcting market failure and promoting sustainable development.
Taiwan might indeed have done better if government activities had been scaled back in some
fields—but on net there is little doubt that its industrial policies have helped more than hurt. The
reverse is true of many other developing countries, and it is difficult to draw general conclusions.
Of course, now that Taiwan is approaching developed country status, earlier government economic
policies may no longer be applicable. The emergence of an effective opposition in the
independence-minded Democratic Progressive Party is a factor keeping government failure in
check.

Other factors. The other explanations listed earlier were also somewhat important, but are
unlikely to have been critical given the decisive role of the seven factors just discussed. They are
also special features that other economies cannot easily encourage through policy measures. The
1960s Vietnam War boom affected countries such as the Philippines as much if not more, but
without lasting effect; this suggests that other conditions were more important in Taiwan's success.
American aid to Egypt has been far larger, and substantially used for investment purposes, but with
less impressive results. Undoubtedly the work ethic and attitudes of the labor force were important.
At the same time, they could not be called into play without the right incentives being in place, and
without the availability of economically productive ideas. And a work ethic can be stimulated by
the right incentives. A long history as an entrepreneurial culture may also be important, but in the
long term these will similarly be influenced by incentives for entrepreneurship.

The fact that Taiwan benefited from beginning export-led growth in the early 1960s, a time
of unequaled world growth and a wide-open American market, was an undoubted advantage. On
the other hand, other countries such as Thailand have successfully grown through manufactures
exports in the 1980s, despite far slower U.S. and world income and trade growth rates. Export-
oriented Guangdong province of China is growing far faster in the 1980s and 1990s than Taiwan
ever did, despite sometimes sluggish world trade growth (see Case 3). Indeed, China as a whole
has set record growth rates in this period. Many of China’s reform policies since 1978 have been

23
quite consciously copied from the experience of Taiwan.

The idea that local islanders had little opportunities outside of entrepreneurship has not been
proven; in any case, Taiwan seems hardly to differ in this regard from the situation under many other
authoritarian regimes around the developing world that have suffered negative per capita income
growth.

As to the necessity of economic development as a defense strategy, one can hardly single
out Taiwan. The United States guaranteed Taiwan's defense after President Truman sealed off the
island in 1950, in response to the Korean crisis. Other developing countries lacking the natural
defenses of an island and as gravely threatened by hostile neighbors have made little development
progress in the same period. Military necessity more often represents a diversion of resources
needed for development than a productive stimulus. Indeed it often seems to lead to war, which
inevitably sets back development performance.

Conclusion. It seems that Taiwan's success is best explained by a combination of emphasis

on education, absorption of productive ideas from abroad, extensive infrastructure development,
thoroughgoing land reform, very high rates of savings and investment, effective industrial policy, and
last but not least, ensuring that incentives of the marketplace to produce wealth rather than seek a
share of existing wealth are established with solid property rights and not undermined by other
policies.

Today, Taiwan seems well-characterized by Walt Rostow's notion of an economy in a

"drive to maturity," in which the range of the world's most advanced technology and skills are
mastered. Government is focussing on collaborating with the private sector on more advanced
research and development (R&D), as Taiwan moves into high technology fields. In 1991, a huge
$300-billion-plus infrastructure development project was announced as part of the ambitious 1991-
1996 Development Plan, designed to propel Taiwan into the ranks of the developed economies.
Unfortunately, the program had to be scaled back considerably for budgetary reasons, and
corruption has hampered the program's effectiveness, as organized crime moved into the
construction sector. The private sector is being encouraged through incentives and exhortation to
take up the slack, but it is unlikely that it can fully do so. In recent years, Taiwan’s dynamic firms
have invested vast sums in mainland China. The country has been striving to adapt to a future in
which relatively unskilled industrial jobs will no longer be available. The focus has been on
education, high technology production in several sectors including computers, software, and
biotechnology, and on financial development. The fact that Taiwan weathered the enormous storms

24
of the East Asian financial crisis in 1997-98 was an impressive sign of the economy’s development
and resilience.

Are there any drawbacks to Taiwan's growth? Certainly environmental considerations have
taken a backseat to economic growth until very recently. Taipei suffers from exceedingly noxious
air pollution, for example. Despite a nominal beginning at land use planning, a driver down the
island's West coast will find a dizzying jumble of various agricultural, industrial, commercial, and
residential uses, defying any economic rationale, let alone land use aesthetics. She will find industrial
sites perched on landfill over rice paddies and prawn pools, into which some waste products
inevitably seep. Attention is given to matters such as endangered species only after much Western
pressure has been applied. Even then, as one Taiwan official frankly put it, "the private sector is
flexible and vibrant in Taiwan—where there is profit, there is activity."

Housing remains small and basic in Taiwan; and motorbikes outnumber cars, a large
fraction of which are taxis. (Some of this may be due to incentives of the tax code). Left behind by
the miracle, homeless derelicts can be seen sleeping on the streets of Taipei and Kaohsiung—
though these cities differ little in this regard from New York and Washington. Again, with the
opening of China, many Taiwan companies are moving lock, stock, and barrel to the mainland;
fears of the hollowing out of the economy, such as has been seen in the U.S. and U.K., are being
voiced. But this is likely to bring as much opportunity as problems. And even with such caveats,
Taiwan has come exceptionally far; the caveats only qualify Taiwan's success, and point to some
necessary future directions; they do not in any way negate its impressive accomplishments.

In sum, Taiwan illustrates well the complex mix of factors behind the kind of rapid
economic and social progress often termed a development miracle. The factors that stood out were
education, infrastructure, land reform, high savings and investment, absorption of commercial ideas,
effective industrial policy in formative stages, market incentives, and recently policies and incentives
for continued improvement and upgrading in skills, productive knowledge and efficiency.

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Sources

Due to Taiwan's peculiar status as a non-member of the United Nations and the World Bank, little
authoritative scholarly work is available. This study is based largely on government documents,
interviews of the author with government and opposition leaders, and other firsthand observations.
Additional sources:

Amsden, Alice. "Taiwan's Economic History: A Case of Etatisme and a Challenge to Dependency
Theory." Modern China 5 (1979): 341-80.

Amsden, Alice. "Taiwan," Special Issue: Exports of Technology by Newly Industrializing

Economies. World Development 12, nos. 5/6 (1984): 627-633.

Balassa, Bela. "The Lessons of East Asian Development: An Overview." Economic Development
and Cultural Change 36, Supplement, S273-290, 1988.

Borus, Michael, and Denis Fred Simon. "High Technology in the Pacific Basin: Analysis and Policy
Implications." Paper presented at the State Department-NAS Conference on Foreign Competition
in Science and Technology, National Academy of Science, May 11, 1989.

Bradford, C.I. "Trade and Structural Change, NICs and Next-Tier NICs as Transitional
Economies." World Development 15 (1987): 299-316.

Hollis, Chenery, Sherman Robinson, and Moses Syrquin. Industrialization and Growth: A
Comparative Study. New York: Oxford, 1986.

Chu, Wan-Wen. "Export Led Growth and Import Dependence, the Case of Taiwan 1969-1981."
Journal of Development Economics 28 (1988): 265-276.

Cline, William. "Can the East Asian Model of Development Be Generalized?" World
Development. 10 (1982): 81-90.

Dahlman, Carl J., Bruce Ross-Larson, and Larry E. Westphal. "Managing Technical Development:
Lessons from the Newly Industrializing Countries." World Development 15, (1987): 759-75.

Jacobsson, Steffan. "Technical Change and Industrial Policy: The Case of Computer Numerically

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Controlled Lathes in Argentina, Korea and Taiwan." World Development 10 (1982): 991-1014.

Keesing, Donald B. "The Four Successful Exceptions. Official Export Promotion and Support for
Export Marketing in Korea, Hong Kong, Singapore and Taiwan, China," United Nations
Development Program-World Bank Trade Expansion Program Occasional Paper 2, 1988.

Lal, Deepak. The Poverty of Development Economics. London: Hobart, 1984.

Pack, Howard, and Larry Westphal. "Industrial Strategy and Technological Change: Theory versus
Reality." Journal of Development Economics. 22 (1986): 87-128.

Rostow, Walt W. The Stages of Economic Growth: A Non-Communist Manifesto. London:

Cambridge University Press, 1960.

Smith, Stephen C. Industrial Policy in Developing Countries: Reconsidering the Real Sources
of Export-Led Growth. Washington, DC: Economic Policy Institute, 1991.

Wade, Robert. Governing the Market. Princeton Univ. Press, 1991.

Wade, Robert. "The Role of Government in Overcoming Market Failure: Taiwan, Republic of
Korea and Japan." In Helen Hughes, ed., Achieving Industrialization in East Asia., New York:
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Wade, Robert. "State Intervention in Outward-looking Development: Neoclassical Theory and

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Martins, 1988.

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