2020.11 The Taiwan Banker NO.131 / By David Stinson
Taiwanese Banks Should Build on the Success of the Semiconductor IndustryBankers Digest
This year, after years of cultivating technical talent, and through the good judgement of its key decision makers, Taiwan upstaged the US in a way that will reverberate for years. Taiwan's handling of the COVID crisis has attracted worldwide attention, but another, quieter achievement will also probably be equally recognized among business leaders. In July, Intel announced that it would outsource production of next-generation chips, to the Taiwanese foundry TSMC, acknowledging ongoing production issues in its advanced 7nm chips. With this development, the US has exited the highly complex business of chip fabrication. Taiwan now has a strong position in production of the commodity that is central to the technology war between China and the US. Financial blogger Ben Hunt described the importance of this development with a reference to the sci-fi series Dune: “He who controls the spice controls the universe.” (“Spice” was a substance that made interstellar travel possible.) TSMC’s dominance not only gives Taiwan some degree of hard power, but also some reputational soft power which can be useful when doing business overseas. For the banking sector, however, which seeks to move overseas in order to escape intense competition and compressed yields at home, the lesson from its semiconductor success illustrates an important question: to what extent should Taiwan “financialize” its society to make finance more profitable? To compete internationally, banks must first be competitive in domestic markets. When they expand overseas, they should do so for the right reasons, not to double down on a failing business model. Asian banks who were able to turn into multinationals – especially in smaller economies like Hong Kong and Singapore, without strong domestic markets – generally matured in strongly competitive environments. Taiwan can think about incrementally relaxing its financial regulation, allowing banks to move into more profitable businesses, but it should do so in a way that builds off of its pre-existing strengths in technology. No shortage of emergency capital Intel’s recent troubles – mirroring similar cases in American companies that were previously known for their engineering like Boeing – resulted from undervaluing key engineering talent, both in terms of remuneration and power within the company. Intel’s management team focused on several ultimately failed acquisitions in search of market expansion, while neglecting its core product. This approach was probably in turn the result of short-term earnings pressure. Intel was never able to command the earnings multiples of the software-based companies at the heart of the US tech sector, forcing it into a cost-performance model, while competing against other companies that could do it better. For better or worse, Taiwan has chosen a somewhat different system of corporate finance. Part of the reason for this in the past has been national security: Most of its institutions are designed with possible threats from China in mind. Ironically enough, this becomes a less important factor as China signals greater interest in a military confrontation. Previously, being shut out from international organizations like the IMF, which could rescue the economy in case of a crisis, gave Taiwan a strongly conservative sensibility. Now, it has become clearer that the US itself could take on this role if needed. Meanwhile, the IMF itself had responded underwhelmingly to the coronavirus crisis in emerging markets. Taiwan can keep making incremental adjustments to its risk tolerance, but this alone won’t be enough to turn itself into an international financial center. For one thing, even if it did want to transform its economic model to increase the role of its financial sector, its legal system isn’t set up for it. Most international financial centers use British-derived common law. The main exceptions are Japan and China, whose financial strength derives from their large domestic economies. Instead, Taiwan should think about technology first. Learning by teaching A more sustainable approach may be for Taiwan to build on its reserves of engineering talent. Taiwan’s engineering sector has been highly internationalized from the beginning. The Taiwan-California tech connection goes all the way back to the 1980’s, even before Silicon Valley became an internationally-known term. Despite being a fully American firm, Nvidia, for instance, another important semiconductor industry player, was also founded by a Taiwanese-American. As Taiwan enters the next stage of its growth following the trade war, its government is aiming to turn Taiwan into a bilingual nation by 2030. Evan Feigenbaum of the Carnegie Endowment for International Peace suggested that Taiwan become an international hub for English-language computer science and data science education. Along these lines, it can also supplement its existing engineering curricula with business-oriented coursework. The recommendations were part of a broader study on how Taiwan can extend its hardware expertise into a software specialty. Feigenbaum also cited a 2019 Taiwan Startup Ecosystem Survey by Price-Water Coopers, working with the Taiwan Institute of Economic Research, suggesting that startups in Taiwan are mostly domestically-focused. 60% have not yet hired international staff, 54% haven’t attempted international marketing, and only 33% have set a model and strategy to enter foreign markets. In a number of industries, future innovation will involve combining some sort of device with some sort of AI or big data capability. The report pointed to drones as an example of a technology that started with hardware but whose added value comes from computing technology. This process will also parallel the direction in which Taiwanese banks need to move. They usually have the ‘hardware’ of branches, but need to improve their ‘software’ – either their service level, or more literally the back-end processes behind mobile or virtual banking. An indirect approach The ideal candidate for a bank entering Southeast Asian markets under the New Southbound Policy would of course be an internationally-known brand, or else a well-connected local player. Failing either of these, it would be helpful to have a strong digital presence – perhaps through some sort of platform in a non-banking area. Competitiveness in this area, in turn, often comes from AI, which has also been a priority of the Tsai administration since its first term. Strength in hardware manufacturing can partially translate into strength in AI system construction, but only with some adjustments in mindset. AI is fundamentally more of a statistical endeavor than physical manufacturing. It doesn’t require upfront planning on quite the same level, but it does require continuous efforts to discover real-world business requirements. Communication skills are central to this process of incremental improvement, of course with mathematical modeling concepts in the background. This is the transition Taiwan should focus on. Some aspects of banking could in fact build directly off of hardware manufacturing. Futuristic application cases exist where IoT could be used to help financial institutions monitor the object of lending – for instance in supply chain or agricultural financing, not to mention business models that have not yet been discovered. In any case, while these scenarios would involve devices, the added value still comes from the software that connects them. “Internationalization” may be the end goal, but it’s not a strategy for its own sake. Moreover, Taiwan is hardly the only country in Asia with that objective: Korea and Japan also face similar situations of low domestic returns. Simply being motivated to succeed doesn’t make it so. Cross-sector collaboration, accelerated by moderate relaxation of business model restrictions, is one area where Taiwan can improve domestically. It should think about this effort not just as a way to rescue banks, but to continue improving its overall national competitiveness. The new virtual banks – two of which, out of three, are connected to e-commerce platforms – are a good start. It’s also important to keep in mind that target markets in Southeast Asia won’t remain underbanked forever.