Taiwan's Stock Bubble and the 80% Crash of 1990

Late in September 1988 Taiwan's Minister of Finance announced that profits on share trading would be taxed. Shirley Kuo had held the post since 22 July, the first woman to sit in a cabinet of the Republic of China, and the measure she described was ordinary by the standards of any developed market: a tax on securities transaction income, to take effect the following year. The Taiwan Stock Exchange Capitalisation Weighted Stock Index fell for nineteen consecutive sessions. Sell orders queued at the daily price limit and went unfilled, so the rout arrived not as a single crash but as nineteen mornings on which almost nothing changed hands. By the end of it the index had shed more than a third of its value in a month, investors had marched on the ministry and on Kuo's residence, legislators facing an election had taken the investors' side, and the tax was on its way to being watered down and then abandoned.

What followed was the more instructive half. Freed of the threat, the market rose by a factor of two and a half in sixteen months. On 10 February 1990 the index closed at 12,495.34, and two days later it touched an intraday 12,682 — a level no Taiwanese share index would see again for thirty years. By the first days of October the index was trading near 2,485, down about 80 per cent from the February high, in an economy whose exports had not stopped growing and whose banks had not failed.

A Surplus With Nowhere to Go

Taiwan in the mid-1980s had the opposite of a financing problem. Two decades of export-led growth had produced a current account surplus that ran into double digits as a share of output, concentrated in electronics, textiles and machine tools sold overwhelmingly into the United States. Foreign exchange reserves reached roughly 75 billion dollars by 1987 — second in the world only to Japan's, held by an island of some 20 million people.

Washington wanted the New Taiwan dollar revalued, and after the 1985 Plaza Accord redirected pressure across East Asia it got its way slowly. The currency moved from about NT$40 to the US dollar in 1985 to roughly NT$26 by 1989, an appreciation of about 40 per cent, and exchange controls were largely dismantled in July 1987. Slow revaluation had a cost that showed up on the central bank's balance sheet. To keep the climb orderly the Central Bank of China bought dollars from exporters and paid for them in local currency, and the narrow money measure it watched most closely, M1B, grew by more than 30 per cent a year in 1986 and 1987.

Deposits were paying single digits. Taiwan had no corporate bond market to speak of, no legal channel for households to invest abroad, and a banking system dominated by state-owned institutions that lent against land to established manufacturers and had little interest in anyone else. A study of Taiwanese stock and real estate prices between 1973 and 1992 traces the sequence plainly: the liquidity created by intervention had two reservoirs available to it, urban land and listed equities, and both filled at once (Chen, 2001).

Twenty-Seven Brokers, Then Three Hundred

Until 1988 the intermediary side of the market was tiny. Fewer than thirty licensed brokerages served the whole country, seats were closed to new entrants, and the exchange listed fewer than 200 companies — against more than 2,000 in New York. Liberalisation of brokerage licensing changed the first number within two years: by 1989 roughly 300 firms held licences, opening branches in provincial cities where no securities business had existed before. Brian Semkow's study of the island's capital market reform describes a regulatory apparatus built for a small, closed, state-directed market being asked to supervise a mass retail one, with disclosure standards and enforcement capacity that had not moved in step (Semkow, 1994).

The customer side moved further. Brokerage accounts went from about 400,000 in the mid-1980s to 5.03 million by 1990 — roughly a third of every resident over the age of fifteen. Turnover on the Taiwan Stock Exchange reached a daily average of 3.9 billion dollars in May 1989, against 5.7 billion on the New York Stock Exchange, which listed more than ten times as many companies; on the busiest days Taipei traded more than Tokyo and New York put together. Annual turnover exceeded 500 per cent of market capitalisation in both 1989 and 1990, which is to say the average share changed owner every ten weeks. Price-earnings multiples on the index reached about 100 by the autumn of 1989.

Popular language kept up with the arithmetic. The phrase that survived the decade was 台灣錢淹腳目 — Taiwan's money floods up to your ankles — and it was used without irony while it was true. Trading floors ran in converted shopfronts with tea service and television screens; taxi drivers, factory foremen and housewives held positions; brokerages in Taipei reported customers who came in at nine and left at noon having done nothing else with the day.

The Nineteen-Day Strike

Kuo's tax was announced into that market on 24 September 1988, and the reaction was closer to a strike than a sell-off. Taiwan's daily price limit capped moves at a few percentage points in each direction, so a market that wanted to fall 10 per cent simply locked at the floor with unexecuted orders stacked behind it and waited for tomorrow. Nineteen sessions of that took the index to a low near 4,873.

Two features of the episode set the pattern for everything that came after. The first was that the selling was led from the top: the largest operators liquidated fastest, and smaller holders discovered that a locked market gives the well-informed a head start measured in days. The second was political. Kuo was arguing that share-trading profits ought to be taxed like wages in a country where they were not taxed at all, and she lost — not on the economics but because the Legislative Yuan faced elections in 1989 and several million newly minted shareholders had become a constituency. The levy was reduced in scope, then abandoned within two years; Kuo left the ministry on 1 June 1990, with the crash she had been accused of causing well under way for reasons that had nothing to do with her.

Steven Champion, who ran an investment trust in Taipei through the whole cycle, recorded what the reversal taught the market: the authorities had blinked in public, and the inference drawn on every trading floor on the island was that they would blink again (Champion, 1998).

Big Households and Underground Banks

Leverage in Taiwan did not come mainly from brokers. Margin finance ran through a single institution, the Fuh-Hwa Securities Finance Corporation, which had been the only licensed provider since 1980 and lent conservatively against a restricted list of stocks. Demand for credit to buy shares was very much larger than what Fuh-Hwa would supply, and it was met outside the regulated system.

Underground investment companies took deposits from the public at advertised rates of 4 to 6 per cent a month and put the proceeds into shares, land and each other. The largest, Hong Yuan, gathered about NT$94 billion — a Ponzi structure in the strict sense, paying old depositors out of new subscriptions through a lattice of shell companies. An amendment to the Banking Act in 1989 gave prosecutors the tools to move against the sector, and successive runs through 1990 brought Hong Yuan down owing more than NT$90 billion to some 160,000 investors. Around NT$4 billion was ever recovered. Its founder, Shen Chang-sheng, received seven years and a fine of NT$3 million.

Above that layer sat the 大戶 — the big households, syndicate operators who cornered the float in thinly traded issues, ran them up on rumour and sold into retail demand. Charles Kindleberger and Robert Aliber's account of manias places Taiwan among the late-1980s episodes in which credit expansion arrived from outside the banking system entirely, so that supervisors watching bank lending saw a market that looked less leveraged than it was (Kindleberger and Aliber, 2005).

The Central Bank Tightens

Money that had been created to slow an appreciation could be withdrawn, and from 1988 the Central Bank of China set about withdrawing it. The rediscount rate went from 4.5 per cent to 7.75 per cent across two moves completed by August 1989, required reserve ratios were raised by four percentage points, and selective credit controls were imposed on lending for land development, construction and share purchases. Ya-Hwei Yang's later work on Taiwanese monetary policy treats this as the decisive turn, and notes how compressed it was: the policy rate nearly doubled inside a year in an economy where the marginal buyer of equities was borrowing at monthly rates (Yang, 2005).

Tightening did not stop the index, which rose another 30 per cent into February 1990 on momentum and on the belief that the government would not tolerate a fall. What it did was remove the funding that the last leg had been built on, quietly, while prices were still going up.

Eight Months Down

The break came without an announcement. From the 10 February close the index slid through March, and by April it was 26 per cent below the high with daily ranges widening; May produced several of the largest one-day percentage declines in the exchange's history to that point. Margin calls from Fuh-Hwa and demands from underground lenders forced sales into a market where the price limit meant a seller who needed to exit today often could not.

Iraq's invasion of Kuwait on 2 August 1990 doubled the oil price within weeks and removed the last argument for holding on. Taiwan imported nearly all of its energy, its exporters' margins were already compressed by the stronger currency, and the war put an end to the notion that the correction was a technical pause. The index bottomed near 2,485 in the first days of October, then recovered to close the year at 4,530.16.

What did not happen matters as much as what did. No Taiwanese bank failed. Gross domestic product grew in 1990 and again in 1991. Exports rose. The companies whose shares had fallen 80 per cent were, in most cases, the same companies with the same order books; Taiwan Semiconductor Manufacturing Company, incorporated in February 1987 and still unlisted, spent the crash years building fabrication capacity for chip designers who owned no factories of their own. Losses fell almost entirely on households that had borrowed to buy shares at a hundred times earnings, and on the underground lenders that had financed them.

What the Island Kept

Regulatory reconstruction followed the collapse rather than preceding it. Foreign institutions were admitted to the market directly for the first time under a qualified-investor scheme effective from 1991, on the theory that professional money would dampen retail swings. Margin finance was licensed more widely so that it could be supervised. Disclosure and insider-trading rules were tightened through the decade, and the underground investment houses were prosecuted out of existence.

The pattern was not unique to Taipei. Tokyo's land and equity bubble peaked six weeks before Taiwan's and deflated over a decade rather than eight months; Kuwait's Souk al-Manakh had shown in 1982 what happens when leverage is created by private paper no supervisor counts; and Shanghai in 2015 repeated the Taiwanese combination almost element for element — tens of millions of new retail accounts, margin sourced partly outside the banking system, and a state that had encouraged the rise and was then expected to prevent the fall. When the Asian financial crisis arrived in 1997, Taiwan came through it with less damage than its neighbours, holding reserves it had accumulated rather than debt it had borrowed.

The record set on 12 February 1990 turned out to be the durable artefact. Taiwanese shares regained 10,000 points in 1997 and lost them again, spent the 2000s below the 1990 high, and only passed 12,682 on 27 July 2020, when a 10 per cent limit-up move in Taiwan Semiconductor carried the index over a level that had stood for three decades. The company that broke the record was three years old when the bubble peaked.