Fed hikes, Taiwan holds: The uneasy arithmetic of diverging rates

The Federal Reserve’s Sept. 16 rate hike has widened the interest-rate policy gap with Taiwan, leaving the island to balance imported inflation and currency pressures against the needs of an economy increasingly powered by AI investment.

Diverging rate decisions

The US Federal Reserve raised its benchmark interest-rate target by 25 basis points to 3.75%-4% on Sept. 16 (Sept. 17 Taiwan time), its first increase since July 2023.

The Federal Open Market Committee said inflation remained elevated and that the policy action would support a “timelier” return to its 2% goal. The decision was approved by a unanimous 12–0 vote.

Taiwan, however, chose not to follow.

At its Sept. 17 meeting, the Central Bank of the Republic of China (Taiwan) left its discount rate unchanged at 2%, extending its rate freeze to a tenth consecutive meeting. Central Bank Governor Yang Chin-long (楊金龍) said Taiwan would “go its own way.”

The divergence is significant because Taiwan remains highly dependent on imported energy and raw materials, while the New Taiwan dollar (NTD) and domestic interest rates affect the broader economy and capital markets.

The inflation problem Taiwan cannot indefinitely defer

Taiwanese academic and financial expert Chu Yueh-chung (朱岳中) stated in an interview that the central bank’s decision reflects relatively manageable inflation expectations, but he questioned how durable that rationale can be if global energy prices remain elevated.

Chu also pointed to uneven conditions across domestic sectors. While semiconductor and AI-related businesses have benefited from the economic boom, he said traditional industries, consumer-facing businesses and real estate have not enjoyed comparable gains.

Raising interest rates, he added, could place additional strain on these weaker sectors.

Chu further pointed out a longer-term dilemma: if the US and other economies continue tightening while Taiwan keeps rates unchanged, the widening interest-rate differential could eventually exert pressure on the New Taiwan dollar.

The pressure is already visible in the foreign-exchange market.

The NTD fell against the US dollar on Sept. 24, touching NT$31.84 per US dollar intraday as renewed expectations of Fed tightening lifted the US dollar and put the NTD under pressure.

That concern is amplified by Taiwan’s exposure to imported inflation. Tai Chih-yen (戴志言), deputy director of the Center for Science and Technology Policy Evaluation at the Chung-Hua Institution for Economic Research (CIER), said in the same interview that government efforts to shield consumers from higher international energy prices do not eliminate the underlying cost.

Instead, he stated, some of those costs are effectively deferred and may ultimately be borne through public finances or higher prices elsewhere in the economy as wages rise.

For Tai, the key variable is therefore the interaction between the exchange rate and interest rates, especially because Taiwan imports substantial quantities of energy and other goods.

Why Taiwan may still resist following the Fed

Yet the case for immediate monetary tightening is far from straightforward.

Sun Ming-te (孫明德), director of the Macroeconomic Forecasting Center at the Taiwan Institute of Economic Research (TIER), said at a Sept. 24 press conference that Taiwan's circumstances differ materially from those of the US.

He noted that American rate increases have historically tended to occur through a series of moves rather than a single adjustment, meaning that September’s hike could be only the beginning of a broader tightening cycle.

Even so, Sun said Taiwan need not automatically follow Washington.

One reason is inflation. Taiwan's consumer prices have not risen as sharply as those in the US, partly because state-owned utilities such as Taipower and CPC Corporation have helped cushion consumers from international energy-price shocks.

Another is the exchange rate: a relatively weaker NTD, partly resulting from interest-rate differences between Taiwan and other economies, can provide some support to traditional exporters and small and medium-sized businesses.

There is also the question of credit allocation. With AI-related industries already attracting substantial capital, Sun said that a broad tightening of domestic liquidity could disproportionately affect smaller businesses that do not enjoy the same access to capital.

The central bank cited a solid domestic economic outlook among the considerations behind its decision to hold rates. It raised its forecast for 2026 GDP growth to 11.48%, citing strong demand for AI and other emerging technologies that had boosted exports and private investment, while private consumption continued to grow.

At the same time, it raised its forecast for CPI inflation to 2.03%.

A widening gap with consequences

The immediate effect of divergent US and Taiwanese monetary policies is not necessarily a crisis, but the divergence creates a more delicate balancing act for Taipei. Higher US rates can alter global capital allocation, strengthen the dollar and increase the cost of imported goods for economies exposed to currency movements.

At the same time, Taiwan's unusually strong AI-led growth gives policymakers room to tolerate some monetary divergence.

The central bank said it would continue monitoring inflation, major central banks' policies, financial conditions, the AI sector, US trade policy and geopolitical risks before adjusting its stance.

The central question, therefore, is not simply whether Taiwan should follow the Fed. It is how long Taiwan can maintain a separate monetary trajectory if higher global energy costs and US interest rates persist.

For now, the central bank has chosen flexibility over synchronization — but the costs of that choice may become more visible if the global tightening cycle unfolds.