May 6, 2025 • 29 mins
There are several markets that have really settled down since the tumult of early April. But strange, unusual things are still popping up, particularly in the currency space. Over the last few days, we've seen a huge surge in the Taiwan dollar. This is important, in part, because Taiwanese life insurance companies are major buyers of US dollar assets, such as corporate bonds. Suddenly, they're looking at a major hit to the value of these holdings, with losses that are only partially hedged. So why the sudden move, and what does it mean? On this episode, we speak with Brad Setser, a senior fellow at the Council on Foreign Relations. We first talked to Brad about exactly this topic back in 2019, when the story was more of an intellectual curiosity rather than a market-moving development. We discuss the implications, and what it means in the context of the Trump administration's trade strategy.
More:
Why Taiwanese Life Insurers Are The Great ‘Whodunit' Of The Financial World
Taiwan’s Markets Jolted as Currency Surges Most Since 1980s
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Episode Transcript
Available transcripts are automatically generated. Complete accuracy is not guaranteed.
Speaker 1 (00:02):
Bloomberg Audio Studios, Podcasts, radio News.
Speaker 2 (00:18):
Hello and welcome to another episode of the Odd Locks podcast.
I'm Jill Wisenthal and I'm Tracy Alloway. Tracy, sometimes are
old random episodes on just random things end up being
kind of relevant.
Speaker 3 (00:32):
What do you mean sometimes? What do you mean random?
All of our episodes, each of them are like our children.
They're each special and relevant in their own way. That's
what I say.
Speaker 2 (00:41):
You're right, they're all special. I would say they're all
special in their own way. Some of them probably have
more relevance to others. You know, this used to not
even be our full time job. We just found interesting things,
sometimes connected to the news, sometimes not. But I remember
twenty nineteen, the first time I noticed people like talking
about odd Lads before the pandemic was an episode we
(01:04):
did on Taiwan's life insurance companies.
Speaker 3 (01:07):
That's right, And I guess the reason this episode kind
of went viral or became a thing was because of
the framing. We sort of framed it as a financial
market murder mystery almost or sort of who done it?
In global of financial flows? And I guess you don't
get many of those. You still don't get many of those,
we should do more of them. But people definitely got
(01:27):
into this one and definitely still remember it.
Speaker 2 (01:30):
Definitely still remember it. Definitely get into it. So the
basic gist was that it was sort of well known
obviously that Taiwani's Life Insurance, which is this huge investing
savings product in Taiwan, that they were a major purchaser
of US treasuries, which of course leaves the companies potentially
at risk for currency slippage, but that the Central Bank
(01:51):
in Taiwan was revealed in the who done it as
the entity sort of providing a hedge of sorts such
that this was an economic safe trade for the life
insurance companies. And of course there's only one person we
could have ever been talking to who would have been
able to explain this whole phenomenon.
Speaker 3 (02:10):
That's right, And of course we're going to be speaking
to them again because it's a new month, and in fact,
one of the things we've seen happening the big story
so far this month is the move in the Taiwanese dollars.
So we've seen this massive appreciating move in the Taiwanese
dollar against the US dollar. I think just this morning
alone we're recording on Monday, May fifth, it was up
(02:33):
something like five percent just in a day against the
ins dollar.
Speaker 2 (02:36):
It's up two and a half percent. I think that
was the I think it's up like five percent total
in two days.
Speaker 3 (02:42):
Five percent total in two days. Sorry, but still for
a currency that like tends to be fairly stable and boring,
this is a huge deal. So there's three certainties in
financial life, right. There's death taxes and the idea that
the Taiwanese life insurers are going to be buying dollar
denominated assets because they can, because things have remained so
(03:03):
stable and so boring for decades now that they can
just keep on doing this trade. And then suddenly, out
of nowhere, just in the past two days, we've seen
this really violent shift in the way things have always
been happening in Taiwan, and so we got to talk
about it, and we definitely got to talk about it
with Brad.
Speaker 4 (03:23):
We got to talk about it.
Speaker 2 (03:24):
Actually, I'm looking at this a three day chart. USD
TWD down six point six percent since April thirtieth, crazy move.
You're right, we got to talk to Brad Setzer. He's
the one who's been on this story longer than anyone else.
Brad Setser, Senior fellow at the Council on Foreign Relations,
thank you so much for I don't know you're like
coming back for like your like fifteenth odd lot's appearance.
Speaker 4 (03:47):
Not quite fifteen, but it's a lot.
Speaker 2 (03:49):
Okay, maybe I'm just exaggerating, but not by much. I
don't think at this point. You know, it's interesting in
the post April second environment. You know, a lot of markets,
like treasuries or just the you know, treasuries and the
stock market have stabilized quite a bit. Well, the currency
does seem to be where the action is stepping back up.
Before we get to the move that we've seen over
(04:11):
the last few days, just for the sake of our listeners,
give us the sort of top level description of the
flows that we see out of Taiwan and the role
of the central bank there in making that trade economical
for the lifers.
Speaker 5 (04:24):
Well, Taiwan runs one of the biggest current account surpluses
in the world. It's fluctuated between ten percent of Taiwan's
GDP and fifteen percent of Taiwan's GDP is now on
the high side, it's close to fifteen percent of Taiwan's
GDP over.
Speaker 4 (04:41):
One hundred billion dollars a year.
Speaker 5 (04:43):
That is a big sum, and obviously a current account
surplus means that someone in the economy has to on
net be accumulating foreign assets, and over time that entity
has shifted from you know, in the fifteen or the
ten years after the Asian Financial Crisis, it was essentially
(05:03):
the Central Bank of China a Taiwan's central bank accumulating
foreign exchange reserves, mostly going into treasuries. At some point,
the Central Bank of China said more or less, hey,
we've got enough reserves, and maybe they were coming under
a little bit of pressure from the US to manage
their currency a little bit less. So the central bank
(05:25):
and the insurance regulator in a sense worked together to
make it possible for the life insurance industry, which in
Taiwan is big, to add to the share of its
assets which were in foreign currencies, and to increase the
sales of insurance policies so that the insurance industry was
(05:45):
growing relative to Taiwan's economy. Combine those two things, and
the insurers basically from twenty ten to twenty twenty build
up an enormous portfolio of foreign bonds. They put about
two thirds of their total ass sets in foreign bonds,
an enormous share. And as in our famous episode, there
(06:06):
was a secret hedgebook that offset let's say a quarter
of that exposure with a hedge with the central bank,
which wasn't disclosed until twenty twenty. So our famous episode
actually triggered a change in the central bank's policy. The
central banks started disclosing that forward book in twenty twenty.
(06:28):
After the pandemic, this flow has been more modest. It
hasn't gone away, but the lifers aren't buying up the
entire current account sturtplus, you're seeing a little bit more
more purchases from the banking system which is now able
to offer foreign currency policies. And then another favorite topic
of odd lots the Taiwanese semiconductor manufacturer TSMC. When it
(06:51):
started building chip factories fabs in Japan and in the US,
that outward FDI became a big counterpart to the current
accounts plus. But the effect is that, you know, Taiwan
is just stuffed to the gills with unhedged holdings of
dollars in dollar bonds.
Speaker 3 (07:09):
Never let it be said that odd lots is not
an agent for change. So we actually affected the world
through that episode, mostly Brad, but we gave you a platform.
Speaker 4 (07:18):
I guess you did very powerful one, all right.
Speaker 3 (07:22):
So I would definitely encourage anyone who's really interested in
this topic to go back and listen to the whole
thing because there's a lot of nuance in there. And
you know, Joe mentioned in the intro that Taiwanese life
insures buy a lot of US treasuries, but it's not
just US treasuries, it's also things like US corporate bonds.
And we're not going to rehash the whole thing here,
but why don't we just dive into what's been happening today?
(07:43):
So things had been changing recently, and I guess Taiwanese
life insurres hadn't been buying as many US bonds as
they once did, but they still have this huge enormous
stack of dollar assets and they're still, you know, pretty
underhedged relatively, And I think I saw some people talking
that it seems like the life insurers weren't even very
(08:05):
well hedged like comparatively. In recent months, they'd taken off
some of the hedges since April. Second, do we have
any indication why that was or why they wouldn't have
been particularly hedged in this particular moment in time.
Speaker 5 (08:18):
Well, with Josh Younger, who formerly was the interest rates
strategist at JP Morgan and one of the other people
who had a little bit of an obsession with understanding
the Taiwanese flow, we put out an estimate in January
that the unhedged book of the life insurers was about
two hundred billion, which is, you know, fifteen to twenty
percent of their assets, a very big sum. Why is
(08:41):
have they stayed on hedge maybe gotten a little bit
more unhedged? Yeah, simple reason hedging was expensive. Hedging is
essentially a function of the differential between Taiwanese short term
rates and US dollars short term rates. So as the
US hiked rates in twenty twenty two twenty three, they've
come down a little, but they're still absolutely high. The
(09:03):
cost of hedging went up, and I think what you
see across Asia, not just in Taiwan, is that as
the cost of hedging went up and as Asian currencies
were basically trading on the weak side, so there was
no financial penalty to being underhedged, institutions took advantage of
those incentives and reduced their headge ratio. On top of that,
(09:24):
the Taiwanese Insurance Regulator, under pressure from the life insurers,
essentially allowed the lifers to substitute a foreign exchange volatility
reserve for some hedging and let them go a little
more unhedged going into this year.
Speaker 4 (09:40):
Classic kind of mistake.
Speaker 2 (09:42):
So it's not just a Taiwanese dollar story. Since April second,
we've obviously seen this broad weakness in the US dollar.
It's one of the few charts that you can find
that really has not bounced at all or very little
since that first week. The Bloomberg Dollar Index down broadly
against everyone, but the Asian currencies, the East Asian ones
have really flown. And you know what's funny is that
(10:03):
a lot of people expected. They're like, oh, well, when
tariffs come in place, then the dollar is going to
strengthen and that's going to offset some of the tariffs.
We've seen the exact opposite. Before we get to Taiwan specifically,
what's the general story in your view for why the
dollar has weakened as much as it has post April second.
Speaker 5 (10:22):
I think there's two general factors. The first factor is
the dollar was just exceptionally strong against most Asian currencies,
so the starting points do matter, and a yen at
one forty five now it's not one fifty five, but
one five is an incredibly weakend. Until very recently, the
Taiwan dollar was on the weak side of its long
(10:43):
term range. The Korean one was at fourteen fifty. Fourteen
fifty is the level it reached during the Korean financial
crisis and during the global financial crisis, and it's actually
weaker than that in a real sense because of the
inflation differentials. So I think it's the fundamental reason is
that Asian currencies were very weak, the dollar was very strong.
(11:04):
And then China made a policy choice not to respond
to the draconian tariffs the one hundred and forty five
percent tariff twenty percent from the legacy Fittinel case and
one hundred and twenty five percent on the reciprocal tariff case.
You know, like China is the only country that got
really claberd with the reciprocal tariff. In the end, China
chose not to respond by depreciating the yuan. And I
(11:27):
think the fact that it China didn't respond that the
yuan didn't depreciate, and that you know, in a sense,
there was newsflow that is suggestive that there's at least
some chance there'll be an agreement, or even in the
absence of an agreement, a decision to pull back some
of the US tariffs on China. All that laid the
(11:47):
backdrop for this recent move.
Speaker 3 (12:05):
Okay, So getting back to Taiwan specifically, I'm not going
to ask you if Taiwan's central bank when they would
have to intervene, because I think that's kind of a
boring question. But instead I'm going to ask you, what
are the limitations on Taiwan's central bank in terms of intervention.
Speaker 4 (12:22):
That's a good question.
Speaker 5 (12:23):
The usual intervention limits on a central bank's intervention is
in a sense that they run out of foreign exchange
and they can't borrow more. But that's what the limits
you face when you're trying to prevent your currency from falling,
from depreciating, when you're trying to prevent your currency from
appreciating arising. There's really no intrinsic limit to how much
(12:46):
foreign exchange a central bank can accumulate. So in that sense,
the Central Bank of China could at any point step
in and buy up a lot, a lot of dollar dollars.
The Central Bank of China has close to six hundred
billion dollars already a little more when you count it's
off balance sheet. It's already holding close to one hundred
percent of Taiwan's GDP and foreign exchange reserves. But there's
(13:08):
no intrinsic limit on how high that could go. I
think the limits are in a sense twofold one is.
And you know, we don't really know what motivated the
Central Bank of China to stay relatively restrained. I mean,
I think they were in the market to smooth some
of the moves. They had more or less admitted that
both Friday and Monday and today, but they weren't trying
(13:30):
to stop the move. They were trying to smooth the move.
And one reason why is maybe they thought the life
insurance industry had gotten a little bit too aggressive, it
was not paying enough attention to risk, and they were
afraid that if the Central Bank of China came in
too quickly stop the move too rapidly, in a sense,
the lifers wouldn't learn a useful lesson in risk management.
(13:54):
So you can call that thesis one the second thesis
is that the central bank is feeling a little bit
of heat from the United States, partially because the US
Treasury is preparing it's next for an exchange report. That
report may be out any day, Partially because Peter Navarro
has long thought that the Taiwanese dollar was undervalued, Partially
(14:16):
because currency has been a topic in the negotiations over
these supposed deals with most Asian countries, and so the
Central Bank of China may have been a little bit reluctant.
Central Bank of China's Taiwan Central Bank may be a
little bit reluctant to just put an absolute block on
this move and in the process draw attention to the
(14:37):
fact that Taiwan's currency is heavily managed, that Taiwan keeps
his currency from appreciating when necessary, at least historically through
actions of the central bank, which some people would call manipulation.
Speaker 2 (14:51):
So there's a few different ways this could go. And
as you mentioned, perhaps one possibility is that Taiwan, along
with Korea, maybe along with other East Asian countries, as
part of a possible trade deal, if there is going
to be one, maybe they're going to let their currencies
strengthen and let that do some work in terms of
(15:12):
balancing out trade. Another possibility, and I'm curious, you know,
just sort of where this game's out. Could you see
a scenario in which these countries reinvest more of their
dollar inflows into like something that resembles consumer demand or
domestic demand and produce the sort of global demand for goods,
perhaps some from the United States or services from the
(15:33):
United States. That leads to, you know, some sort of
the type of desirable balance that the new administration would
like to see.
Speaker 5 (15:42):
Well, I mean, I think those in a sense are
part of the discussion. They aren't mutually exclusive. You can
let your currency appreciate and then try to take steps
using your domestic fiscal capacity or the government as opposed
to the central banks balance sheet to support domestic demand.
That would be a very sensible thing, frankly for Taiwan
(16:04):
to do. Running a fifteen percent of GDP current accounts
for plus in perpetuity effectively has meant that Taiwan has
been overpaying for US dollar bonds for the past fifteen years,
and it's accumulating an ever bigger forward looking financial loss
from the inevitable currency move. Because the Taiwan dollar is
by any measure, incredibly weak. Some part of the Taiwanese
(16:28):
economy just has to overpay for US financial assets and
build up a loss. You may say that doesn't make sense.
We should be investing more in our own people, We
should be building out our social welfare system. The same
issues that China faces actually are relevant in Taiwan. The
government doesn't run a much of a fiscal deficit. The
government actually doesn't spend very much on defense either. So
(16:49):
for Taiwan's case, there's a pretty clear and compelling case
that they should have a more aggressive fiscal policy, more
investment in their own defense, and a bigger and more
generous social safety net. All that, though, takes time, and
you're starting from a fifteen percent of GDP current account surplus.
That surplus isn't going to go away. TSMC still has
(17:13):
a very dominant position in logic chips, so their export
position won't be enormously impacted by moves in the Taiwan dollar,
at least not in my judgment. So I think there
is a separate set of questions about how you manage
the risk that has already been built up in the
insurance sector, and what I would like to see the
central bank do is set up a hedging program so
(17:34):
that the lifers can hedge pretty much directly with the
central bank and thereby reduce the financial stability risk. If
the Taiwan dollar continues to appreciate, take away some of
the pressure on the central bank to avoid appreciation. I
think that would facilitate a broader move in Taiwan's currency.
And no doubt you're right, Taiwan, Korea, Japan all prefer
(17:58):
to appreciate when all their currencies are going up together,
and I think that was some of the negotiations around
China is at least potentially an opportunity to make some
progress on the rebalancing front in a healthy way.
Speaker 3 (18:12):
Okay, so I'm going to ask, I guess just the
really blunt question to this point, but is this basically
a win for Trump? You know, if I think back
US officials, perhaps even you have basically been complaining of
if you're going to be diplomatic about it, under the
radar currency intervention by Taiwan's central bank, and other people
(18:32):
not being diplomatic would call it outright currency manipulation in
Taiwan for years now, Suddenly the Taiwanese dollar has appreciated
by six point six percent in the space of a
few days. Is that a win?
Speaker 5 (18:44):
Not yet, We're still at around thirty. We've gone from
whatever around thirty three to a round thirty. In the
past the Taiwan dollar has gotten up to around twenty eight.
I think in order for it to be a real win,
we have to see evidence that Taiwan is allowing its
currency to strengthen through the levels which the central bank
has historically defended in the sense of defended against pressure
(19:08):
from appreciation, not the usual sense of the word. So
I mean there is a broader I guess irony, which
is I don't think the administration was hoping for a
dollar selloff. A lot of the talk around a mar
Alago accord was trying to mitigate the risks that tariffs
would lead to the dollar to appreciate and thereby undermine
some of the expected benefits from the Trump administration's point.
Speaker 4 (19:30):
Of view of the tariffs.
Speaker 5 (19:33):
But it is certainly the case that the most effective
way to bring the US trade deficit down is just
to get the dollar weaken and so if one effect
of Trump's policies is to reduce the appeal of the
US as a destination for foreign investors, including some foreign
investors who were maybe overly eager to buy US financial assets.
(19:56):
That would prompt some adjustment. I think that adjustment what
is going to happen to some degree independent of Trump.
But you know, let's see. I mean, if Scott Besson
can engineer a coordinated appreciation of all Asian currencies, and
that the net result of all these trade deal negotiations,
which are seeming to be a little broader than just
(20:16):
trade negotiations, is a meaningful change in the level of
all of the Asian foreign exchange complex against the dollar.
Speaker 4 (20:25):
That would be a win in my view.
Speaker 3 (20:27):
And then again, just on this point, you've set out
very brilliantly already the impact that Taiwanese life insurers and
some of the other big Taiwanese investors have on I guess,
I guess I would say three buckets of assets slash
financial markets, so US treasuries, corporate credit, and then the
interest rates space, where we see them as big players
(20:50):
in rate volatility in various ways. How would you expect
those three buckets to be impacted by what we've just
seen over the past few days.
Speaker 5 (21:00):
Well, I think there's already been some important shifts. Josh
Hunger and I highlighted that the Taiwanese lifers have not
been big buyers of so called callable bonds, bonds which
can be called by the issuer if rates fall. They
bought a lot of those before the covid as port
of a yield pickup strategy, but that particular bid has
(21:21):
sort of disappeared, and that had in turn had knocked
on effects on the agency market. So there's already been
some adjustments as a result of the slowdown in Taiwanese
lifers purchases over the past few years. In the fact,
they've gotten a little bit more conservative right now, where
the lifers are particularly important is for long dated US
(21:44):
corporate bonds twenty year plus, that kind of STAD investment
grade corporates, and then a lot of dollar bonds issued
by relatively high grade emerging markets and Asian issuers. The
lifers themselves tend not to be super heavy and treasuries.
I mean, they have some, but they're not the dominant
buyer of treasuries out of Taiwan. The dominant buyer of
(22:07):
treasuries out of Taiwan tends to be the Central Bank
or the banking system. So what I think will happen
if the lifers are no longer willing or trying to
reduce their dollar book is they're going to see less
demand for corporate bonds, including some in some particular corners
of the market where they're very important. And then you're
going to see if the Central Bank of China comes
(22:28):
in and intervenes pretty either to smooth the move or
to at some point cap the move, then you'll see
a rotation and demand back towards treasuries. One of the
ironies that I don't think a lot of people kind
of have internalized is that central bank demand for treasuries
tends to be very correlated with dollar weakness. Countries that
(22:48):
don't want their currency to appreciate or don't want their
currency to appreciate too quickly intervene in the market they
buy dollars, and central banks tend to be the player
that is least inclined to buy corporate debt to take
credit risk, and most inclined just to plow that money
into the treasury market and typically into the shorter end
of the curve. So that's kind of the rotation that
(23:11):
I would expect going forward. I don't think you're going
to see big changes in the Treasury book because I
think you're going to see this central bank bid. There's
a small subtle question that comes up. If the Central
Bank of China does what I suggested, which opens up
a hedging facility with its banking system and ultimately with
(23:32):
its insurers, that would take dollars. But I think one
thing that the US has done over the past five
years is that it's created a repo facility for foreign
central banks, and that really is the kind of facility
that would allow a central bank like Taiwan Central Bank
that has a ton of dollar bonds to get dollar
cash without selling its bonds. So I think you could
(23:54):
have some sort of coordination there that could effectively help
the lifers close.
Speaker 4 (23:59):
Some of the hedg you need.
Speaker 5 (24:01):
So that's one of the things I'd like to see happen,
and I think that would facilitate an orderly appreciation of
the Taiwan dollar, one that doesn't break the back of
its insurance industry.
Speaker 2 (24:12):
Thank you so much, Brad Setzer at the Council on
Foreign Relations. Thank you so much for coming back on
odd lots. The only one who could have explained it
as clearly as you do. Really appreciate it.
Speaker 4 (24:22):
Well, thanks for letting me talk about one of my great.
Speaker 2 (24:24):
Passions, love talking to Brad, Love the return of the
relevance of this sort of what seemed like a niche thing.
Speaker 3 (24:45):
Joe, I'm just gonna say, you need to live your
life every day like Taiwanese life insurers are the biggest
story in the world. No, that's how to do it.
Speaker 2 (24:53):
You know what, all ironically that you're right that we
should never do episodes period, that you and I don't
consider the most important story of the day. Like that's
just a good editorial dictum to live by.
Speaker 3 (25:05):
Isn't it excellent? Yes, I mean this is definitely the
case at the moment. This is the story.
Speaker 4 (25:10):
It is the story.
Speaker 2 (25:12):
And like, you know what's interesting is okay, here you
have this huge line on the screen and this big jump,
and it intersects with the financial markets, and you know,
looking at the stocks today, you know, it's not like
we've seen some major spill over it in fact s
and P five hundred is barely down right now. But
still it's hard not to get anxious when you see
like big ninety degree angles in a chart. You know,
(25:35):
us TTWD.
Speaker 3 (25:36):
So I have two things to say about this. So
number one, I don't think a lot of investors are
very good at thinking about basically international financial flows. Yeah,
and I would say that of financial media organizations as well.
I have long said that every financial media organization that
takes itself seriously should have a global flows correspondent, and
(25:57):
to my knowledge, I don't think anyone does still. But
then secondly, the other thing I would say is I
mentioned that we're into May, and so everyone is looking
past at the month that has been April, a wild April,
and all the headlines are like, oh, it was a
crazy thirty days. But look, the S and P five
hundred is back to where it was before Liberation Day,
and so everything's fine, It's all good now. But that
(26:20):
doesn't really sit right if you start to look at
places like the flows data or the currency data. Right
the US dollar is still down quite a lot. You
can find little examples of risk premiums in various markets
still being higher than they were on April. Second, and
a lot of those are in the currency space or
(26:41):
the bond space, because this is where foreign investors are
really thinking about. I guess the existential crisis or existential
angst of investing with America. And again, like in my mind,
if you're talking about a trade war and the impacts
of a potential trade war, it would be in those
global international flows, the way big pools of capital move
(27:04):
around the world. And so I think it's really interesting
to me that we are seeing those kind of breakages
at least in the Taiwanese dollar and the US dollar
at the moment. Like that is indicative of the idea
that no, there is actually something really big and important
happening in the world at the moment, and it's not
just about the S and P five hundred.
Speaker 4 (27:23):
Right, because NS in P.
Speaker 2 (27:24):
Five hundred is a large part about big tech stocks
and they're doing fine.
Speaker 4 (27:29):
It seems fine.
Speaker 2 (27:30):
You know, they're still like building big AI data centers
and all that stuff. But to your point, there's other
stuff going on in the world besides tech stocks still
continuing to go up.
Speaker 3 (27:40):
Yes, indeed, shall we leave it there for now?
Speaker 4 (27:42):
Let's leave it there.
Speaker 3 (27:43):
This has been another episode of the add Thoughts podcast.
I'm Tracy Alloway. You can follow me at Tracy Alloway
and I'm Joe Wisenthal.
Speaker 2 (27:50):
You can follow me at the Stalwart. Follow Brad Setser
He's at Brad Underscore Setser. Follow our producers Kerman, Rodriguez
at Kerman, Arman, Dashill, Ben at Dashbott and kill Brooks Kilbrooks.
More Oddlots content go to Bloomberg dot com slash odd
Lotshere we have a daily newsletter and all of our episodes,
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(28:13):
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Speaker 3 (28:14):
And if you enjoy odd Lots, if you like it
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then please leave us a positive review on your favorite
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All you need to do is find the Bloomberg channel
(28:35):
on Apple Podcasts and follow the instructions there. Thanks for
listening
Speaker 2 (29:04):
In
Bloomberg Audio Studios, Podcasts, radio News.
Speaker 2 (00:18):
Hello and welcome to another episode of the Odd Locks podcast.
I'm Jill Wisenthal and I'm Tracy Alloway. Tracy, sometimes are
old random episodes on just random things end up being
kind of relevant.
Speaker 3 (00:32):
What do you mean sometimes? What do you mean random?
All of our episodes, each of them are like our children.
They're each special and relevant in their own way. That's
what I say.
Speaker 2 (00:41):
You're right, they're all special. I would say they're all
special in their own way. Some of them probably have
more relevance to others. You know, this used to not
even be our full time job. We just found interesting things,
sometimes connected to the news, sometimes not. But I remember
twenty nineteen, the first time I noticed people like talking
about odd Lads before the pandemic was an episode we
(01:04):
did on Taiwan's life insurance companies.
Speaker 3 (01:07):
That's right, And I guess the reason this episode kind
of went viral or became a thing was because of
the framing. We sort of framed it as a financial
market murder mystery almost or sort of who done it?
In global of financial flows? And I guess you don't
get many of those. You still don't get many of those,
we should do more of them. But people definitely got
(01:27):
into this one and definitely still remember it.
Speaker 2 (01:30):
Definitely still remember it. Definitely get into it. So the
basic gist was that it was sort of well known
obviously that Taiwani's Life Insurance, which is this huge investing
savings product in Taiwan, that they were a major purchaser
of US treasuries, which of course leaves the companies potentially
at risk for currency slippage, but that the Central Bank
(01:51):
in Taiwan was revealed in the who done it as
the entity sort of providing a hedge of sorts such
that this was an economic safe trade for the life
insurance companies. And of course there's only one person we
could have ever been talking to who would have been
able to explain this whole phenomenon.
Speaker 3 (02:10):
That's right, And of course we're going to be speaking
to them again because it's a new month, and in fact,
one of the things we've seen happening the big story
so far this month is the move in the Taiwanese dollars.
So we've seen this massive appreciating move in the Taiwanese
dollar against the US dollar. I think just this morning
alone we're recording on Monday, May fifth, it was up
(02:33):
something like five percent just in a day against the
ins dollar.
Speaker 2 (02:36):
It's up two and a half percent. I think that
was the I think it's up like five percent total
in two days.
Speaker 3 (02:42):
Five percent total in two days. Sorry, but still for
a currency that like tends to be fairly stable and boring,
this is a huge deal. So there's three certainties in
financial life, right. There's death taxes and the idea that
the Taiwanese life insurers are going to be buying dollar
denominated assets because they can, because things have remained so
(03:03):
stable and so boring for decades now that they can
just keep on doing this trade. And then suddenly, out
of nowhere, just in the past two days, we've seen
this really violent shift in the way things have always
been happening in Taiwan, and so we got to talk
about it, and we definitely got to talk about it
with Brad.
Speaker 4 (03:23):
We got to talk about it.
Speaker 2 (03:24):
Actually, I'm looking at this a three day chart. USD
TWD down six point six percent since April thirtieth, crazy move.
You're right, we got to talk to Brad Setzer. He's
the one who's been on this story longer than anyone else.
Brad Setser, Senior fellow at the Council on Foreign Relations,
thank you so much for I don't know you're like
coming back for like your like fifteenth odd lot's appearance.
Speaker 4 (03:47):
Not quite fifteen, but it's a lot.
Speaker 2 (03:49):
Okay, maybe I'm just exaggerating, but not by much. I
don't think at this point. You know, it's interesting in
the post April second environment. You know, a lot of markets,
like treasuries or just the you know, treasuries and the
stock market have stabilized quite a bit. Well, the currency
does seem to be where the action is stepping back up.
Before we get to the move that we've seen over
(04:11):
the last few days, just for the sake of our listeners,
give us the sort of top level description of the
flows that we see out of Taiwan and the role
of the central bank there in making that trade economical
for the lifers.
Speaker 5 (04:24):
Well, Taiwan runs one of the biggest current account surpluses
in the world. It's fluctuated between ten percent of Taiwan's
GDP and fifteen percent of Taiwan's GDP is now on
the high side, it's close to fifteen percent of Taiwan's
GDP over.
Speaker 4 (04:41):
One hundred billion dollars a year.
Speaker 5 (04:43):
That is a big sum, and obviously a current account
surplus means that someone in the economy has to on
net be accumulating foreign assets, and over time that entity
has shifted from you know, in the fifteen or the
ten years after the Asian Financial Crisis, it was essentially
(05:03):
the Central Bank of China a Taiwan's central bank accumulating
foreign exchange reserves, mostly going into treasuries. At some point,
the Central Bank of China said more or less, hey,
we've got enough reserves, and maybe they were coming under
a little bit of pressure from the US to manage
their currency a little bit less. So the central bank
(05:25):
and the insurance regulator in a sense worked together to
make it possible for the life insurance industry, which in
Taiwan is big, to add to the share of its
assets which were in foreign currencies, and to increase the
sales of insurance policies so that the insurance industry was
(05:45):
growing relative to Taiwan's economy. Combine those two things, and
the insurers basically from twenty ten to twenty twenty build
up an enormous portfolio of foreign bonds. They put about
two thirds of their total ass sets in foreign bonds,
an enormous share. And as in our famous episode, there
(06:06):
was a secret hedgebook that offset let's say a quarter
of that exposure with a hedge with the central bank,
which wasn't disclosed until twenty twenty. So our famous episode
actually triggered a change in the central bank's policy. The
central banks started disclosing that forward book in twenty twenty.
(06:28):
After the pandemic, this flow has been more modest. It
hasn't gone away, but the lifers aren't buying up the
entire current account sturtplus, you're seeing a little bit more
more purchases from the banking system which is now able
to offer foreign currency policies. And then another favorite topic
of odd lots the Taiwanese semiconductor manufacturer TSMC. When it
(06:51):
started building chip factories fabs in Japan and in the US,
that outward FDI became a big counterpart to the current
accounts plus. But the effect is that, you know, Taiwan
is just stuffed to the gills with unhedged holdings of
dollars in dollar bonds.
Speaker 3 (07:09):
Never let it be said that odd lots is not
an agent for change. So we actually affected the world
through that episode, mostly Brad, but we gave you a platform.
Speaker 4 (07:18):
I guess you did very powerful one, all right.
Speaker 3 (07:22):
So I would definitely encourage anyone who's really interested in
this topic to go back and listen to the whole
thing because there's a lot of nuance in there. And
you know, Joe mentioned in the intro that Taiwanese life
insures buy a lot of US treasuries, but it's not
just US treasuries, it's also things like US corporate bonds.
And we're not going to rehash the whole thing here,
but why don't we just dive into what's been happening today?
(07:43):
So things had been changing recently, and I guess Taiwanese
life insurres hadn't been buying as many US bonds as
they once did, but they still have this huge enormous
stack of dollar assets and they're still, you know, pretty
underhedged relatively, And I think I saw some people talking
that it seems like the life insurers weren't even very
(08:05):
well hedged like comparatively. In recent months, they'd taken off
some of the hedges since April. Second, do we have
any indication why that was or why they wouldn't have
been particularly hedged in this particular moment in time.
Speaker 5 (08:18):
Well, with Josh Younger, who formerly was the interest rates
strategist at JP Morgan and one of the other people
who had a little bit of an obsession with understanding
the Taiwanese flow, we put out an estimate in January
that the unhedged book of the life insurers was about
two hundred billion, which is, you know, fifteen to twenty
percent of their assets, a very big sum. Why is
(08:41):
have they stayed on hedge maybe gotten a little bit
more unhedged? Yeah, simple reason hedging was expensive. Hedging is
essentially a function of the differential between Taiwanese short term
rates and US dollars short term rates. So as the
US hiked rates in twenty twenty two twenty three, they've
come down a little, but they're still absolutely high. The
(09:03):
cost of hedging went up, and I think what you
see across Asia, not just in Taiwan, is that as
the cost of hedging went up and as Asian currencies
were basically trading on the weak side, so there was
no financial penalty to being underhedged, institutions took advantage of
those incentives and reduced their headge ratio. On top of that,
(09:24):
the Taiwanese Insurance Regulator, under pressure from the life insurers,
essentially allowed the lifers to substitute a foreign exchange volatility
reserve for some hedging and let them go a little
more unhedged going into this year.
Speaker 4 (09:40):
Classic kind of mistake.
Speaker 2 (09:42):
So it's not just a Taiwanese dollar story. Since April second,
we've obviously seen this broad weakness in the US dollar.
It's one of the few charts that you can find
that really has not bounced at all or very little
since that first week. The Bloomberg Dollar Index down broadly
against everyone, but the Asian currencies, the East Asian ones
have really flown. And you know what's funny is that
(10:03):
a lot of people expected. They're like, oh, well, when
tariffs come in place, then the dollar is going to
strengthen and that's going to offset some of the tariffs.
We've seen the exact opposite. Before we get to Taiwan specifically,
what's the general story in your view for why the
dollar has weakened as much as it has post April second.
Speaker 5 (10:22):
I think there's two general factors. The first factor is
the dollar was just exceptionally strong against most Asian currencies,
so the starting points do matter, and a yen at
one forty five now it's not one fifty five, but
one five is an incredibly weakend. Until very recently, the
Taiwan dollar was on the weak side of its long
(10:43):
term range. The Korean one was at fourteen fifty. Fourteen
fifty is the level it reached during the Korean financial
crisis and during the global financial crisis, and it's actually
weaker than that in a real sense because of the
inflation differentials. So I think it's the fundamental reason is
that Asian currencies were very weak, the dollar was very strong.
(11:04):
And then China made a policy choice not to respond
to the draconian tariffs the one hundred and forty five
percent tariff twenty percent from the legacy Fittinel case and
one hundred and twenty five percent on the reciprocal tariff case.
You know, like China is the only country that got
really claberd with the reciprocal tariff. In the end, China
chose not to respond by depreciating the yuan. And I
(11:27):
think the fact that it China didn't respond that the
yuan didn't depreciate, and that you know, in a sense,
there was newsflow that is suggestive that there's at least
some chance there'll be an agreement, or even in the
absence of an agreement, a decision to pull back some
of the US tariffs on China. All that laid the
(11:47):
backdrop for this recent move.
Speaker 3 (12:05):
Okay, So getting back to Taiwan specifically, I'm not going
to ask you if Taiwan's central bank when they would
have to intervene, because I think that's kind of a
boring question. But instead I'm going to ask you, what
are the limitations on Taiwan's central bank in terms of intervention.
Speaker 4 (12:22):
That's a good question.
Speaker 5 (12:23):
The usual intervention limits on a central bank's intervention is
in a sense that they run out of foreign exchange
and they can't borrow more. But that's what the limits
you face when you're trying to prevent your currency from falling,
from depreciating, when you're trying to prevent your currency from
appreciating arising. There's really no intrinsic limit to how much
(12:46):
foreign exchange a central bank can accumulate. So in that sense,
the Central Bank of China could at any point step
in and buy up a lot, a lot of dollar dollars.
The Central Bank of China has close to six hundred
billion dollars already a little more when you count it's
off balance sheet. It's already holding close to one hundred
percent of Taiwan's GDP and foreign exchange reserves. But there's
(13:08):
no intrinsic limit on how high that could go. I
think the limits are in a sense twofold one is.
And you know, we don't really know what motivated the
Central Bank of China to stay relatively restrained. I mean,
I think they were in the market to smooth some
of the moves. They had more or less admitted that
both Friday and Monday and today, but they weren't trying
(13:30):
to stop the move. They were trying to smooth the move.
And one reason why is maybe they thought the life
insurance industry had gotten a little bit too aggressive, it
was not paying enough attention to risk, and they were
afraid that if the Central Bank of China came in
too quickly stop the move too rapidly, in a sense,
the lifers wouldn't learn a useful lesson in risk management.
(13:54):
So you can call that thesis one the second thesis
is that the central bank is feeling a little bit
of heat from the United States, partially because the US
Treasury is preparing it's next for an exchange report. That
report may be out any day, Partially because Peter Navarro
has long thought that the Taiwanese dollar was undervalued, Partially
(14:16):
because currency has been a topic in the negotiations over
these supposed deals with most Asian countries, and so the
Central Bank of China may have been a little bit reluctant.
Central Bank of China's Taiwan Central Bank may be a
little bit reluctant to just put an absolute block on
this move and in the process draw attention to the
(14:37):
fact that Taiwan's currency is heavily managed, that Taiwan keeps
his currency from appreciating when necessary, at least historically through
actions of the central bank, which some people would call manipulation.
Speaker 2 (14:51):
So there's a few different ways this could go. And
as you mentioned, perhaps one possibility is that Taiwan, along
with Korea, maybe along with other East Asian countries, as
part of a possible trade deal, if there is going
to be one, maybe they're going to let their currencies
strengthen and let that do some work in terms of
(15:12):
balancing out trade. Another possibility, and I'm curious, you know,
just sort of where this game's out. Could you see
a scenario in which these countries reinvest more of their
dollar inflows into like something that resembles consumer demand or
domestic demand and produce the sort of global demand for goods,
perhaps some from the United States or services from the
(15:33):
United States. That leads to, you know, some sort of
the type of desirable balance that the new administration would
like to see.
Speaker 5 (15:42):
Well, I mean, I think those in a sense are
part of the discussion. They aren't mutually exclusive. You can
let your currency appreciate and then try to take steps
using your domestic fiscal capacity or the government as opposed
to the central banks balance sheet to support domestic demand.
That would be a very sensible thing, frankly for Taiwan
(16:04):
to do. Running a fifteen percent of GDP current accounts
for plus in perpetuity effectively has meant that Taiwan has
been overpaying for US dollar bonds for the past fifteen years,
and it's accumulating an ever bigger forward looking financial loss
from the inevitable currency move. Because the Taiwan dollar is
by any measure, incredibly weak. Some part of the Taiwanese
(16:28):
economy just has to overpay for US financial assets and
build up a loss. You may say that doesn't make sense.
We should be investing more in our own people, We
should be building out our social welfare system. The same
issues that China faces actually are relevant in Taiwan. The
government doesn't run a much of a fiscal deficit. The
government actually doesn't spend very much on defense either. So
(16:49):
for Taiwan's case, there's a pretty clear and compelling case
that they should have a more aggressive fiscal policy, more
investment in their own defense, and a bigger and more
generous social safety net. All that, though, takes time, and
you're starting from a fifteen percent of GDP current account surplus.
That surplus isn't going to go away. TSMC still has
(17:13):
a very dominant position in logic chips, so their export
position won't be enormously impacted by moves in the Taiwan dollar,
at least not in my judgment. So I think there
is a separate set of questions about how you manage
the risk that has already been built up in the
insurance sector, and what I would like to see the
central bank do is set up a hedging program so
(17:34):
that the lifers can hedge pretty much directly with the
central bank and thereby reduce the financial stability risk. If
the Taiwan dollar continues to appreciate, take away some of
the pressure on the central bank to avoid appreciation. I
think that would facilitate a broader move in Taiwan's currency.
And no doubt you're right, Taiwan, Korea, Japan all prefer
(17:58):
to appreciate when all their currencies are going up together,
and I think that was some of the negotiations around
China is at least potentially an opportunity to make some
progress on the rebalancing front in a healthy way.
Speaker 3 (18:12):
Okay, so I'm going to ask, I guess just the
really blunt question to this point, but is this basically
a win for Trump? You know, if I think back
US officials, perhaps even you have basically been complaining of
if you're going to be diplomatic about it, under the
radar currency intervention by Taiwan's central bank, and other people
(18:32):
not being diplomatic would call it outright currency manipulation in
Taiwan for years now, Suddenly the Taiwanese dollar has appreciated
by six point six percent in the space of a
few days. Is that a win?
Speaker 5 (18:44):
Not yet, We're still at around thirty. We've gone from
whatever around thirty three to a round thirty. In the
past the Taiwan dollar has gotten up to around twenty eight.
I think in order for it to be a real win,
we have to see evidence that Taiwan is allowing its
currency to strengthen through the levels which the central bank
has historically defended in the sense of defended against pressure
(19:08):
from appreciation, not the usual sense of the word. So
I mean there is a broader I guess irony, which
is I don't think the administration was hoping for a
dollar selloff. A lot of the talk around a mar
Alago accord was trying to mitigate the risks that tariffs
would lead to the dollar to appreciate and thereby undermine
some of the expected benefits from the Trump administration's point.
Speaker 4 (19:30):
Of view of the tariffs.
Speaker 5 (19:33):
But it is certainly the case that the most effective
way to bring the US trade deficit down is just
to get the dollar weaken and so if one effect
of Trump's policies is to reduce the appeal of the
US as a destination for foreign investors, including some foreign
investors who were maybe overly eager to buy US financial assets.
(19:56):
That would prompt some adjustment. I think that adjustment what
is going to happen to some degree independent of Trump.
But you know, let's see. I mean, if Scott Besson
can engineer a coordinated appreciation of all Asian currencies, and
that the net result of all these trade deal negotiations,
which are seeming to be a little broader than just
(20:16):
trade negotiations, is a meaningful change in the level of
all of the Asian foreign exchange complex against the dollar.
Speaker 4 (20:25):
That would be a win in my view.
Speaker 3 (20:27):
And then again, just on this point, you've set out
very brilliantly already the impact that Taiwanese life insurers and
some of the other big Taiwanese investors have on I guess,
I guess I would say three buckets of assets slash
financial markets, so US treasuries, corporate credit, and then the
interest rates space, where we see them as big players
(20:50):
in rate volatility in various ways. How would you expect
those three buckets to be impacted by what we've just
seen over the past few days.
Speaker 5 (21:00):
Well, I think there's already been some important shifts. Josh
Hunger and I highlighted that the Taiwanese lifers have not
been big buyers of so called callable bonds, bonds which
can be called by the issuer if rates fall. They
bought a lot of those before the covid as port
of a yield pickup strategy, but that particular bid has
(21:21):
sort of disappeared, and that had in turn had knocked
on effects on the agency market. So there's already been
some adjustments as a result of the slowdown in Taiwanese
lifers purchases over the past few years. In the fact,
they've gotten a little bit more conservative right now, where
the lifers are particularly important is for long dated US
(21:44):
corporate bonds twenty year plus, that kind of STAD investment
grade corporates, and then a lot of dollar bonds issued
by relatively high grade emerging markets and Asian issuers. The
lifers themselves tend not to be super heavy and treasuries.
I mean, they have some, but they're not the dominant
buyer of treasuries out of Taiwan. The dominant buyer of
(22:07):
treasuries out of Taiwan tends to be the Central Bank
or the banking system. So what I think will happen
if the lifers are no longer willing or trying to
reduce their dollar book is they're going to see less
demand for corporate bonds, including some in some particular corners
of the market where they're very important. And then you're
going to see if the Central Bank of China comes
(22:28):
in and intervenes pretty either to smooth the move or
to at some point cap the move, then you'll see
a rotation and demand back towards treasuries. One of the
ironies that I don't think a lot of people kind
of have internalized is that central bank demand for treasuries
tends to be very correlated with dollar weakness. Countries that
(22:48):
don't want their currency to appreciate or don't want their
currency to appreciate too quickly intervene in the market they
buy dollars, and central banks tend to be the player
that is least inclined to buy corporate debt to take
credit risk, and most inclined just to plow that money
into the treasury market and typically into the shorter end
of the curve. So that's kind of the rotation that
(23:11):
I would expect going forward. I don't think you're going
to see big changes in the Treasury book because I
think you're going to see this central bank bid. There's
a small subtle question that comes up. If the Central
Bank of China does what I suggested, which opens up
a hedging facility with its banking system and ultimately with
(23:32):
its insurers, that would take dollars. But I think one
thing that the US has done over the past five
years is that it's created a repo facility for foreign
central banks, and that really is the kind of facility
that would allow a central bank like Taiwan Central Bank
that has a ton of dollar bonds to get dollar
cash without selling its bonds. So I think you could
(23:54):
have some sort of coordination there that could effectively help
the lifers close.
Speaker 4 (23:59):
Some of the hedg you need.
Speaker 5 (24:01):
So that's one of the things I'd like to see happen,
and I think that would facilitate an orderly appreciation of
the Taiwan dollar, one that doesn't break the back of
its insurance industry.
Speaker 2 (24:12):
Thank you so much, Brad Setzer at the Council on
Foreign Relations. Thank you so much for coming back on
odd lots. The only one who could have explained it
as clearly as you do. Really appreciate it.
Speaker 4 (24:22):
Well, thanks for letting me talk about one of my great.
Speaker 2 (24:24):
Passions, love talking to Brad, Love the return of the
relevance of this sort of what seemed like a niche thing.
Speaker 3 (24:45):
Joe, I'm just gonna say, you need to live your
life every day like Taiwanese life insurers are the biggest
story in the world. No, that's how to do it.
Speaker 2 (24:53):
You know what, all ironically that you're right that we
should never do episodes period, that you and I don't
consider the most important story of the day. Like that's
just a good editorial dictum to live by.
Speaker 3 (25:05):
Isn't it excellent? Yes, I mean this is definitely the
case at the moment. This is the story.
Speaker 4 (25:10):
It is the story.
Speaker 2 (25:12):
And like, you know what's interesting is okay, here you
have this huge line on the screen and this big jump,
and it intersects with the financial markets, and you know,
looking at the stocks today, you know, it's not like
we've seen some major spill over it in fact s
and P five hundred is barely down right now. But
still it's hard not to get anxious when you see
like big ninety degree angles in a chart. You know,
(25:35):
us TTWD.
Speaker 3 (25:36):
So I have two things to say about this. So
number one, I don't think a lot of investors are
very good at thinking about basically international financial flows. Yeah,
and I would say that of financial media organizations as well.
I have long said that every financial media organization that
takes itself seriously should have a global flows correspondent, and
(25:57):
to my knowledge, I don't think anyone does still. But
then secondly, the other thing I would say is I
mentioned that we're into May, and so everyone is looking
past at the month that has been April, a wild April,
and all the headlines are like, oh, it was a
crazy thirty days. But look, the S and P five
hundred is back to where it was before Liberation Day,
and so everything's fine, It's all good now. But that
(26:20):
doesn't really sit right if you start to look at
places like the flows data or the currency data. Right
the US dollar is still down quite a lot. You
can find little examples of risk premiums in various markets
still being higher than they were on April. Second, and
a lot of those are in the currency space or
(26:41):
the bond space, because this is where foreign investors are
really thinking about. I guess the existential crisis or existential
angst of investing with America. And again, like in my mind,
if you're talking about a trade war and the impacts
of a potential trade war, it would be in those
global international flows, the way big pools of capital move
(27:04):
around the world. And so I think it's really interesting
to me that we are seeing those kind of breakages
at least in the Taiwanese dollar and the US dollar
at the moment. Like that is indicative of the idea
that no, there is actually something really big and important
happening in the world at the moment, and it's not
just about the S and P five hundred.
Speaker 4 (27:23):
Right, because NS in P.
Speaker 2 (27:24):
Five hundred is a large part about big tech stocks
and they're doing fine.
Speaker 4 (27:29):
It seems fine.
Speaker 2 (27:30):
You know, they're still like building big AI data centers
and all that stuff. But to your point, there's other
stuff going on in the world besides tech stocks still
continuing to go up.
Speaker 3 (27:40):
Yes, indeed, shall we leave it there for now?
Speaker 4 (27:42):
Let's leave it there.
Speaker 3 (27:43):
This has been another episode of the add Thoughts podcast.
I'm Tracy Alloway. You can follow me at Tracy Alloway
and I'm Joe Wisenthal.
Speaker 2 (27:50):
You can follow me at the Stalwart. Follow Brad Setser
He's at Brad Underscore Setser. Follow our producers Kerman, Rodriguez
at Kerman, Arman, Dashill, Ben at Dashbott and kill Brooks Kilbrooks.
More Oddlots content go to Bloomberg dot com slash odd
Lotshere we have a daily newsletter and all of our episodes,
and you can chat about these topics twenty four to
seven with fellow listeners in our discord Discord dot gg
(28:13):
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Speaker 3 (28:14):
And if you enjoy odd Lots, if you like it
when we bring back Brad Setzer to talk about the
financial market, Who'd done it of the Taiwanese life insurers,
then please leave us a positive review on your favorite
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All you need to do is find the Bloomberg channel
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Speaker 2 (29:04):
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