Figuring out whether Taiwan's economy is up or down can be a challenge.

In early November 2011, the Trade Union of Electrical, Electronic and Information Workers in Taiwan led a labor group to the Council of Labor Affairs to lodge a protest, complaining that "official figures are painting a false picture." According to a union survey, 63 companies had imposed furloughs affecting 33,000 workers, far more than the council's official figures of 2,801 people from 12 enterprises.

At the opposite end of the spectrum, commercial ports in northern, central and southern Taiwan were packed with sleek imported cars. A luxury tax imposed on high-end vehicles had done nothing to deter sales, and major car companies' order books were full up to the Lunar New Year vacation.

How the country's economy will play out has even economists stumped.

Estimates of Taiwan's 2012 GDP growth among local and foreign research or financial institutions range from as low as 3 percent to as high as 5 percent. Most agree that the economy will bottom out in the first quarter, or the second quarter at the latest, but warn that the subsequent rebound will be sluggish (an "L-shaped" recovery) rather than robust (a "V-shaped" recovery). 

As an export-oriented economy, Taiwan's fate has often hinged on the vitality of its export markets. But in recent global economic downturns, the key to whether Taiwan maintained a 4-percent growth rate was not exports, but domestic demand.

Polarized Domestic Consumption Market

One of the key components of domestic demand is private consumption, which accounts for nearly 60 percent of GDP. Much like heat-generating clothing, the warming effects of consumption still ensure that the core economy doesn't catch a chill, no matter how cold it is externally.

But a hole has developed in this protective layer, and the "body" of the economy has become noticeably hot on the top and cold on the bottom, leading to polarization.

Indeed, this is the phenomenon that Taiwanese department stores witnessed at the end of 2011. Even though shopper traffic at their year-end anniversary sales was down from previous years, sales grew, largely driven by a few big spenders buying high-end items such as jewelry and luxury goods. The more a market targets upper-class female shoppers, the hotter its sales will be.

Visitors from China also have made an important contribution. During the anniversary sales, many Chinese made purchases of over NT$50,000, and many department stores had to set up additional VAT refund counters to handle demand.

Plenty of other indicators show how dependent Taiwan was on high-end consumption to "stay warm" during the second half of the year, and may still be into next year.

New car sales in Taiwan in 2011 were expected to exceed 380,000 units, and Justin Su, the president of Taiwan's biggest automobile vendor Hotai Motor Co., estimates sales in 2012 will come close to keeping pace at 360,000 vehicles.

The luxury tax imposed on more expensive models has done little to curb buying enthusiasm. Sales of BMW automobiles alone have contributed NT$200 million in luxury tax receipts, highlighting the tremendous potential of Taiwan's high-end consumers.

Upscale restaurants have been booked to capacity, helping food service industry revenues grow 8.9 percent in the first 11 months of 2011 from a year earlier. 

Leading restaurant conglomerate Wowprime Corp., best known for its higher-end Wang Steak brand, has been one of the main beneficiaries. It expects to post 2011 earnings per share of NT$13, the highest of any company listed on Taiwan's over-the-counter market, pay its employees a New Year's bonus of 3.5 months of salary, and offer raises of 5 percent in 2012.

At the other end of the domestic demand equation where the average consumer presides, gloom prevails. One barometer, the wholesale sector, contracted 0.95 percent in November 2011 year-on-year. Also, sales at big-box retailers grew a mere 2.3 percent from January to October, and because of their inability to generate strong numbers, these big stores have resorted to heavy discounting. 

The advertising industry, another benchmark of overall economic health, saw revenues grow by a mere 3 percent in the first 11 months, with receipts from Taiwan's biggest advertising segment, the property sector, actually tumbling by 12 percent.

The luxury tax and uncertainty created by Taiwan's presidential election (to be held on Jan. 14, 2012) resulted in depressed property transaction volumes, but expectations are that pricing will become more flexible after the election, leading to a rebound in unit sales.

Falling Semiconductor Investment

Private investment represents another major component of domestic demand, but the investment outlook for the coming year is anything but rosy, especially in the high-tech sector.

Market research firm Gartner Inc. sees capital expenditure in Taiwan's semiconductor sector falling 20 percent in 2012 to US$10.7 billion, from US$13.6 billion last year.

In the flat panel sector, which is suffering from weak global demand and declining unit prices, Taiwan's "big two" panel manufacturers, AU Optronics Corp. and Chimei Innolux Corporation, revised their capital expenditure budgets downward by 30 percent in 2011. With China expected to add another 200,000 panels of capacity this year – increasing the excess capacity that already exists – further investment by the "big two" in 2012 is unlikely.

As large corporations reined in their capital spending, total private investment in Taiwan fell below NT$500 billion in the fourth quarter of 2011 according to government estimates, the lowest quarterly level since the height of the 2008-2009 financial crisis.

Investment in the service industry, however, has risen, in defiance of the downward trend in other sectors. In the past year, 234 new hotels have opened in Taiwan, including 18 international class properties, hoping to cater to the growing numbers of Chinese tourists visiting Taiwan. Wowprime is also in the process of opening more restaurants, to profit from this expanding segment, and it expects to hire 3,000 additional workers this year.

If domestic consumption and private investment fall short, the public sector could potentially pick up the slack. But the government's four-year NT$500 billion stimulus program is coming to an end, and with the national debt spiraling higher by the day, it will be difficult for the public sector to muster another big program with enough of a punch to invigorate the economy.

Eurozone Crisis: Limited Impact on Exports

Because of the country's export orientation, slowing export growth and export order growth from August through November has raised concerns, but they may be unwarranted.

Because trade is self-regulating in nature, and because net exports account for less than 10 percent of GDP, foreign trade is not likely to have a major adverse effect on the economy. Though exports rose a mere 1.25 percent year-on-year in November 2011, the anemic rise was offset by a 10-percent decline in imports. The result? Foreign trade is not as big a drag on the economy as many fear.

Cheng Chen-mount, chief economist at Citibank Taiwan, believes that Taiwan's exports have not been badly hampered by the eurozone debt crisis, largely because the country ships less than one-tenth of its total exports to Europe, and its biggest markets there are Great Britain and Germany, which have not been at the core of the European debt storm.

Also, export orders from Europe actually grew month-on-month in November, another indication, Cheng says, that there's little reason to panic.

Kung Ming-hsin, vice president of the Taiwan Institute for Economic Research, agrees.

"The speed at which Taiwan's manufacturers have been able to adjust exceeded my expectations," says Kung, who was originally worried that another crisis was looming when manufacturers' inventories in July 2011 rose above levels seen during the 2008-2009 financial crisis. But within two months, Kung says, inventories had receded dramatically.

The speed at which Taiwan's manufacturers drew down their inventories showed that they took to heart lessons learned during the previous global economic downturn. But they almost learned their lesson too well. By imposing furloughs and even cutting staff preemptively, they also affected the domestic economy's ability to "stay warm."

That's why stabilizing domestic demand will be critical to preserving a 4-percent growth rate in Taiwan in 2012, and the key to domestic demand will be keeping employment steady and raising pay levels.

If that happens, then once international economic conditions improve, Taiwan can expect to grow more prosperous by the quarter, its economy tacking progressively upward.

Translated from the Chinese by Luke Sabatier