US embassy cable - 05TAIPEI136

C O N F I D E N T I A L SECTION 01 OF 03 TAIPEI 000136 
 
SIPDIS 
 
DEPT FOR EAP/TC 
DEPT PLEASE PASS AIT/W 
 
E.O. 12958: DECL: 01/15/2015 
TAGS: ECON, ETRD, EINV, PREL, CH, TW, Cross Strait Economics 
SUBJECT: STEEL AND CEMENT - DEEPENING CROSS-STRAIT ECONOMIC 
INTEGRATION? 
 
REF: 04 TAIPEI 3406 
 
Classified By: AIT Director Douglas H. Paal, Reason 1.4 (b/d) 
 
Summary 
------- 
 
1. (C) Taiwan,s steel industry is exporting a large portion 
of its output to the PRC, accounting for as much as 50 
percent of Taiwan,s steel exports.  As is the case for many 
other Taiwan exports to the Mainland, Taiwan steel is mainly 
used to manufacture consumer goods for re-export to markets 
in the U.S., Japan and Europe.  However, Taiwan,s cement 
industry is investing in Mainland manufacturing facilities 
aimed at taking advantage of the PRC,s growing domestic 
cement market.  As much as 25 percent of the output of 
Taiwan,s cement firms is produced in the Mainland, primarily 
for use in the PRC.  Taiwan,s cement industry is currently 
one exception, and more industries will likely follow and 
come to increasingly rely on the internal PRC market to 
purchase Taiwan exports and the output of Taiwan-owned 
manufacturing facilities in the PRC.  More profound economic 
integration will increase Taiwan,s exposure to fluctuations 
in the PRC economy and may further raise the price of each 
side,s efforts to apply pressure across the Strait.  (End 
summary.) 
 
2. (U) Most of Taiwan,s investment in Mainland China has 
been aimed at the export market.  First labor-intensive 
manufacturing of consumer goods like apparel, shoes, and toys 
moved production to China followed by high-tech manufacturers 
of electronic goods.  Both were aimed at producing consumer 
goods for export to the U.S., Japan and Europe.  This kind of 
investment has also driven Taiwan,s trade with the Mainland. 
 High-tech components sold to Taiwan firms manufacturing 
electronic consumer goods in the PRC dominate cross-Strait 
trade accounting for more than half of Taiwan,s exports to 
the Mainland. 
 
3. (U) Taiwan,s steel industry fits this pattern of trade 
flow.  Cross-Strait investment in the steel industry has been 
small, but Taiwan exports a large proportion of its steel 
output to the Mainland.  As much as 90 percent is then 
exported again after processing into finished consumer goods. 
 However, a different phenomenon is taking place in the 
cement industry.  Taiwan cement firms are investing 
significant amounts in Mainland China but not to take 
advantage of China,s cheap labor to produce goods for the 
U.S., European and Japanese markets.  Instead, cement 
industry investors seek to tap growing domestic demand in the 
PRC. 
 
Steel Trade ) Targeting the High-End Market 
------------------------------------------- 
 
4. (SBU) The PRC is a net steel exporter, but most of the 
exports are low-quality, upstream steel, allowing Taiwan the 
opportunity to continue exporting its high-quality downstream 
steel products, such as cold-rolled steel, silicon steel, and 
galvanized sheets.  Y.S. Chen, Assistant Vice President at 
China Steel, Taiwan,s largest steel producer accounting for 
about 10 million metric tons of Taiwan,s 17 million MT total 
output, told AIT/T that 10 percent of China Steel,s total 
production is exported to the PRC.  He also estimated that up 
to 15 percent of the output that China Steel sells within 
Taiwan is further processed on the island and then exported 
to the PRC in products such as bolts, nuts, and hand tools. 
Wu Sheng-feng, General Secretary of the Taiwan Steel and Iron 
Industries Association (TSIIA) told us that approximately 50 
percent of Taiwan,s steel exports go to Mainland China.  He 
estimates that 80 to 90 percent of Taiwan,s steel is then 
used to produce PRC exports.  According to Yieh Phui Steel,s 
President Wu Lin-maw, his firm,s exports to the PRC 
accounted for 50 percent of its total output.  Twenty-five 
percent of output was sold to Hon Hai Precision, Taiwan,s 
largest company by revenue, which uses the galvanized steel 
to produce its computer cases. 
 
Steel Investment ) Strategic Disadvantages 
------------------------------------------- 
 
5. (SBU) Although Taiwan,s steel exports to the Mainland are 
considerable, investment has remained relatively small. 
TSIIA,s Wu told us that six of the association,s members 
 
SIPDIS 
have invested in the Mainland, mainly focusing on downstream 
processes, like cutting and galvanizing.  Chen of China 
Steel, which has not invested in the PRC, explained that 
investing in the PRC would be more attractive if Taiwan firms 
could build a vertically integrated mill, allowing them to 
produce their own high-grade inputs for downstream products. 
However, Chen argued that the PRC wouldn,t approve 
investment licenses for upstream steel production.  In 
addition, cross-Strait shipping costs are low enough (reftel) 
to keep Taiwan steel exports competitive in the Mainland 
market.  Yang Chiu-yueh, managing director of Kao Hsing Chang 
(KHC) Iron and Steel, pointed out that the cost of shipping 
one ton of steel to the PRC was as low as USD 13, while the 
cost of shipping one ton from Taiwan,s steel production 
center of Kaohsiung to Taipei was USD 15.  In October 2001, 
KHC initiated plans to build a steel pipe producing plant 
through a joint venture with China Petroleum and Natural Gas 
in the PRC.  However, KHC has suspended the project primarily 
because it has been unable to get enough high-quality steel 
inputs. 
 
Cement Investment - Cleaner, More Efficient, Higher Quality 
--------------------------------------------- -------------- 
 
6. (U) Taiwan,s cement industry has taken a different 
direction with relatively high-levels of investment in the 
PRC aimed at supplying domestic PRC demand.  Chia-Hsin Cement 
was the first Taiwan firm to invest in Mainland China.  It 
first entered the Mainland cement market in 1993 and began 
production at its first plant in 1998.  Today there are four 
firms with eight cement production plants in the PRC.  Most 
are located in the Yangtze River Delta area.  Hsing Ta Cement 
is preparing to become the fifth Taiwan firm to invest in the 
Mainland.  Nearly 25 percent of cement produced by Taiwan 
firms is produced in the PRC. 
 
7. (SBU) Despite administrative control measures designed to 
slow growth, the PRC has approved new investment proposals 
for Taiwan cement firms.  Taiwan firms offer production that 
is more environmentally sound.  According to Hsing Ta Cement 
Chairman John Yang, much of the PRC,s cement is produced 
with limestone mined by individuals who use excessive 
quantities of dynamite to recklessly blow holes in hillsides 
with rich deposits.  This technique is inefficient, produces 
large amounts of air pollution and makes it difficult to 
repair the damaged landscape.  In addition, Taiwan firms 
produce a higher grade of cement than local PRC producers. 
As Yang explained, the PRC has three grades of cement.  Most 
countries and Taiwan have only one grade, which is roughly 
the same as the highest grade in the PRC.  Demand for 
higher-grade cement has the strongest potential for long-term 
growth. 
 
Cement Investment - Different Strategies 
---------------------------------------- 
 
8. (SBU) Different Taiwan cement firms have pursued different 
strategies in their Mainland investments but in the end all 
have focused on the domestic PRC market.  Chia Hsin Cement 
Greater China Holding Corp CEO Jason Chang told AIT/T that 
its original purpose in investing in the Mainland was to 
supply the Taiwan cement market.  Chang said that after 
Taiwan began restricting mining rights on Taiwan,s west 
coast in the early 1990s, Chia Hsin calculated that basing 
operations on Taiwan,s east coast would be unprofitable and 
looked to coastal locations in the Mainland to supply 
Taiwan,s market.  Chia Hsin abandoned cement production in 
Taiwan entirely.  In its first year of production, nearly 80 
percent of production from Chia Hsin,s Zhejiang plant was 
exported to Taiwan.  After the Asian financial crisis pushed 
down cement prices in the region by more than 50 percent, 
Chia Hsin began selling more to the domestic PRC market.  By 
2003 all of the plant,s output was consumed in the PRC. 
With cement prices in the PRC dropping, Chang says the firm 
will export approximately 40 percent of output in 2005. 
 
9. (SBU) Citing transportation costs, Hsing Ta,s Yang 
dismisses exporting entirely as a viable option for cement 
except to dispose of excess supply.  Hsing Ta is looking to 
establish a plant in a location where it can take advantage 
of strong existing demand or capitalize on future growth. 
According to Yang, Hsing Ta is considering sites in Wuhan, 
Nanjing, or Yunnan province.  Although Hsing Ta expects that 
up to 60 percent of its customers would be Taiwan firms, 
including Taiwan ready-mix cement producers, only minimal 
output would be exported from the PRC. 
 
Cement - Lower Prices and Long-Run Growth 
----------------------------------------- 
 
10. (SBU) Taiwan cement firms and industry observers believe 
that the PRC,s macro-economic control measures have had a 
substantial impact on the Mainland cement market, but 
long-term potential for demand growth justifies further 
investment particularly as Taiwan,s cement demand has 
fallen.  According to Christopher Pei, Secretary General of 
the Taiwan Cement Manufacturers, Association, demand in 
Taiwan reached its peak in 1993 at 1,332 kg per capita.  By 
2003, per capita demand had fallen to 657 kg.  In comparison, 
PRC per capita demand is only 300-400 kg leaving much 
potential for growth.  Chia Hsin,s Chang told AIT/T that 
currently the domestic cement market in China is not only 
affected by macro-economic controls, but is also in a 
cyclical downturn as the PRC nears the end of the Tenth 
Five-Year Plan.  He expects a strong rebound beginning in 
2006 after cement industry consolidation in 2004 and 2005. 
 
Comment ) Increasing Economic Integration? 
------------------------------------------ 
 
11. (C) Cement and steel industry cross-Strait trade and 
investment show that Taiwan has been able to take advantage 
of its superior technical expertise to find market 
opportunities in the PRC, not only in the "high-tech" 
industries of information technology and electronics, but 
also in traditional heavy industries.  Growth in cement 
industry cross-Strait investment also shows another trend )- 
a growing dependence on domestic demand in the PRC.  Most 
Taiwan-owned firms in the Mainland manufacture goods for 
export to a third market, and the bulk of Taiwan's exports to 
the PRC provide inputs for those investments.  This pattern 
has insulated Taiwan from fluctuations in the PRC economy. 
However, in the cement industry this pattern is not holding. 
Taiwan's cement producers rely increasingly on domestic PRC 
demand for continued profitability and growth.  Other 
industries will eventually follow this trend.  The PRC 
recently surpassed Japan as the number two market for 
computers in the world.  Its domestic market will figure more 
and more heavily into the strategies of Taiwan's electronics 
and information technology firms, as well as other 
industries.  This phenomenon will increase political pressure 
in favor of further cross-Strait economic liberalization from 
Taiwan firms that see the domestic PRC market as their best 
opportunity for future growth.  With the increasing danger of 
harming domestic economic interests, Taiwan will find its 
options for applying economic pressure on the PRC will 
diminish.  However, economic integration runs both ways. 
With the PRC's growth dramatically outstripping Taiwan's and 
investment and trade pouring in from other countries, more 
profound economic ties with Taiwan will help restrain the 
PRC's hand in dealing with the Taiwan question.  (End 
comment.) 
PAAL