Foreign Relations of the United States, 1955–1957, China, Volume III

191. Report by the Interdepartmental Committee on Certain U.S. Aid Programs¹

Washington , July 6, 1956.

TAIWAN²

Problem

The Government of the Republic of China (GRC) moved to the island of Taiwan in 1949 and subsequently consolidated its control over certain neighboring islands. The GRC was accompanied by an army of about 500,000 men, as well as government officials and other refugees. Although the GRC hopes eventually to return to the mainland, the United States will not support GRC offensive military operations aimed at achieving this purpose under present conditions. Owing to the Chinese Communist threat, the GRC has had to maintain military forces capable of defending Taiwan and Penghu with American naval and air support. The position and strength of the GRC and our policy toward China are intimately connected with our entire position in the Far East and with our national security. The maintenance of armed forces with this capability is beyond the economic resources of Taiwan. Because of its basic policy of return to the mainland and because of preoccupation with military problems, the GRC has not given priority to the development of a viable Taiwan economy. It is more concerned with maintenance of political stability through an adequate standard of living. These facts notwithstanding, some attention has been paid to economic development, and progress has been made, largely as the result of United States aid, but self-support is not in sight.

The best available data, although only providing a rough approximation of the orders of magnitude involved indicates that completion of the presently planned build-up and maintenance of GRC forces through 1960 along with U.S. economic aid of present magnitude may cost the U.S. about $300 to $325 million a year in new appropriations. Outside aid will be required thereafter and at the end of FY 1960 GRC forces will still be unable to defend their territory without substantial U.S. naval, air and logistic support.

Given the foregoing estimates and considering the political, military and economic consequences of various courses of action, the following problems, which must be considered both separately and in relation to one another are presented:

1. Should the U.S. continue to support and provide the external assistance necessary for (a) completion of the currently projected military buildup, and (b) the maintenance thereafter, or should U.S. policies and aid be directed toward a modified level of military force?

2. Should future U.S. economic policies and aid programs in addition to supporting GRC military forces be designed to strengthen the Taiwan economy and if so to what extent?

Findings

United States–Taiwan Military Agreements:

1. The United States signed an MDA Agreement with Taiwan in 1951³ under which it agreed to provide Taiwan with certain military materials for the maintenance of internal security and for the defense of Taiwan against possible attack. A Mutual Defense Treaty of December 1954⁴ set forth understandings on individual and joint efforts to resist Communist armed attack and subversive activities and on joint efforts toward economic progress. Under the Agreement each party, recognizing that an attack on the territory of either in the area would represent a common danger, agreed to act to meet such common danger involving Taiwan and Penghu. An exchange of notes a few days after the Treaty was signed assured that the use of force would be a matter of joint agreement.

Legally, the United States has no specific commitments on the future amounts of military aid or size of military force it will support. The GRC doubtless considers that there is an implicit commitment on the part of the United States to continue assisting it. The nature of the foregoing agreements in addition to U.S. policy statements and past aid programs probably provides some basis for their belief.

2. United States Military Objectives and Missions:

The current Joint Chiefs of Staff (JCS) objectives envisage the following:

• Army: 21 active infantry divisions with combat and service support, including 6 armored groups (about 400,000 men) and a reserve training program ultimately involving 9 divisions (reserve pool of 250,000 men). One reserve division is to be provided with a tailored set of training equipment.
• Navy: 85 combatant ships (personnel strength 31,000) and a Marine Corps Division (25,000 troops).
• Air Force: 23 squadrons (60,000 personnel strength) and 29 anti-aircraft artillery battalions (30,000 personnel strength).

Note: All personnel strengths are approximate.

The JCS approved missions of these forces are:

(a) to defend, with United States assistance, Taiwan and Penghu

(b) to defend the Quemoy and Matsu Island groups

(c) to contribute to collective non-Communist strength in the Far East or for such other action mutually agreed upon with the United States

(d) .…

These projected missions are essentially defensive in nature and are based on the existing situation in the Taiwan straits. Chinese Communist forces are engaged in hostilities with the GRC, are continually threatening to “liberate” Taiwan and are building up both forces and facilities on the mainland opposite GRC territory. U.S. forces are presently deployed in anticipation of possible joint operations with the GRC for the defense of Taiwan and Penghu.

3. Military Capabilities:

The major elements of the GRC forces listed above are all in being and, with minor exceptions, fully equipped; support units are not yet fully equipped. Almost all segments of these forces are receiving and have been receiving MDAP support. The combat effectiveness of GRC forces continues to increase and is now fairly good. The Army, although not yet capable of engaging in sustained defensive combat, can, with substantial outside logistical, air and naval support, perform its mission of the ground defense of Taiwan and Penghu; its capability to defend the off-shore islands is marginal and is contingent on logistic support and on air and naval support sufficient to prevent achievement of air superiority by the Chinese Communists, isolation of the off-shore islands, and subsequent capture. The Navy and Air Force are not yet capable of fully performing their assigned tasks. While the force objectives for GRC air and naval forces are the maximum that could be organized and maintained effectively, they are insufficient to defend successfully GRC territory. The force objectives for GRC ground forces represent the minimum for the defense of Taiwan, Penghu, and the off-shore islands; forces for collective defense could be contributed only if GRC territory were not under attack or imminent threat of attack. Aside from reconnaissance missions and other minor raiding and interdictory operations, GRC forces are not capable of successful, independent offensive action against the mainland.

4. Cost of Military Build-up and Maintenance: ⁵

The cost, based on unprogrammed requirements, of equipment needed to bring existing forces, which are approximately at the approved JCS force level, to approved TO&E level standards is estimated at about $410 million, $196.5 of which is made up of undelivered portions (build-up only) of FY 1950–1956 funded programs. Of the unfunded foreign exchange balance (about $214 million) about one-third will be required for war reserve purposes.⁶ Details of these estimated costs arbitrarily broken down into increments are shown in Annex I.⁷ (Full funding by 1960 may not be feasible).

The FY 1956 maintenance cost is estimated at $296 million, $147 million of which is in local currency. The annual maintenance cost, assuming stability in the economy and no increase in force bases or the level of troop pay and allowances, may increase to about $320 million once the level-off is reached, of which over $150 million may be met in local currency. Heretofore about 60% of the local currency requirements has been provided by the GRC.⁸

The Table below summarizes on an annual basis the unfunded requirements, build-up and maintenance:

	(in millions of dollars)
	1957	1958	1959	1960	Total
Military Assistance
Build-up	4.0	73.0	71.6	65.7	214.3
Maintenance and Support
Dollars	212.4	166.3	165.1	166.3	710.1
Local Currency9
GRC Contribution	92.4	92.4	92.4	92.4	369.6
U.S. Contribution	61.6	61.6	61.6	61.6	246.4
Total	370.4	393.3	390.7	386.0	1540.4
Net Cost to U.S. (less $92.4 annual contribution)	278.0	300.9	298.3	293.6	1170.8

5. U.S. economic objectives are expressed in general terms and no specific commitment exists regarding the amount of future economic aid to be provided. Among basic U.S. objectives regarding Taiwan is that of strengthening the economy of Taiwan as an essential element in progress toward the political and military objectives (Annex II¹⁰). The GRC, however, has as its avowed objective a return to the Communist-held mainland. As a result of this stated objective, the GRC has given first and second priority in allocation of resources to military development and increasing consumption levels and has not participated enthusiastically in the economic development of Taiwan. Despite this fact, however, of the approximately $400 million of direct dollar economic aid delivered by the U.S. over the past five years, some 25%¹¹ has been directed toward fixed capital development as against the remaining portion which was utilized primarily for immediate defense support purposes. The total GNP increased 50% during the period 1950–1955 while population was increasing less than 15%.

6. Economic Situation:

The country of Taiwan is small, densely populated in proportion to its arable land resources, primarily agricultural and with a relatively underdeveloped industry. Agricultural cultivation already highly intensive, does not offer scope for enough expansion to more than keep pace with population growth. Consequently, growth in the per capita Gross National Product (GNP) depends primarily on industrialization. The rate of increase (50% during the period 1950–55) is expected, however, to taper off sharply, even if the present level of investment is maintained, since rehabilitation and repair of preexisting facilities are now largely completed. A rate of growth of 2–3 percent per year is theoretically maintainable in the future, assuming among other things adequate controls over consumption. Although progress is being made, certain limiting factors still exist, such as inadequate transportation and communication facilities, lack of power, certain technical skills and other resources. Other basic problems such as a population growth of 2.75 percent annually and the incorporation into the economy over the past six years of two million refugees, the tremendous burden of supporting large military forces, and a sprawling and inefficient central government still exist. Government policy has shown a disposition toward government ownership and operation of productive enterprise, including monopoly in certain cases. A Four-Year Economic Development Plan, formulated in 1952 under U.S. encouragement, has been of little substantive value due to lack of central government support.

The internal budget of the GRC has shown an increasingly deficit position (before U.S. aid) in recent years, e.g. the estimated deficit for FY 1956 was more than twice that of FY 1953. Expenditures, including those financed with U.S. assistance, have grown more rapidly than revenues. The government has operated on the assumption that a deficit can be met by U.S. aid or deficit financing. Progress toward raising taxes, controlling consumption and exercising budgetary controls, has been slight. A high vulnerability to inflation exists illustrated by the fact that the price index was 14% higher in 1955 than in 1954.

The GRC has also shown a deficit of approximately $40 million annually in its balance of trade accounts even apart from imports for the military establishment. The prospect within the next five years for improvement is meager, since the predominately agriculture exports suffer an inelastic demand situation; some help, however, may come from import saving industrial development.

7. Economic Projections: ¹²

The Study Group on Taiwan prepared several projections, based on various assumptions, in order to indicate in general terms the probable costs over the next four years, of meeting the military requirements and of developing the economy of Taiwan. The cost estimates vary, of course, with differing assumptions regarding investment and per capita consumption. The projections indicate that non-Taiwan resources will be required during the period 1955–1960 ranging from about $360 million to $490 million annually,¹³ the lower figure representing no increase in per capita consumption or per capita GNP; the upper figure is reflected when the per capita GNP is assumed to increase 2% annually along with an increase in per capita consumption of 8% over the entire period.

Balance of payments projections set forth by the Study Group, based upon an arbitrary average yearly distribution of military imports, show a balance of payments deficit of approximately $320 million each year, 1957 through 1960, a figure about 2½ times the projected export earnings. This demonstrates a probable continuing dependence on external aid if present U.S. objectives in Taiwan are unchanged, although non-military parts of the external accounts may eventually become more favorable.¹⁴

8. Impact of Military Program on the Taiwan Economy:

If a military establishment of the present size continues, total additional annual aid in the magnitude of $300–325 million probably, as mentioned earlier, may be required through FY 1961 and at a reduced level thereafter. The financing of the military establishment, toward which the GRC expends about 10% of its total GNP, contributes to the budgetary deficits and to inflationary tendencies. The military activities in the area contribute to pressures for higher living standards and to retarded rates of investment.

A substantial reduction in the military strength of Taiwan at this time, aside from military and economic considerations, would, in view of the continuing threat from the mainland, create serious and perhaps critical problems in Taiwan and the area generally. As in the case of Korea, such action would doubtless be interpreted as a lessening of U.S. interest unless compensated by alternative security or strategic arrangements.

9. Military Capabilities of an Unaided Taiwan:

Taiwan’s large current budgetary deficits before U.S. aid indicate an inability, even with drastic fiscal reform, to carry a significantly larger part of the military costs. For instance, only about 20–25% of the total defense costs have been carried by the GRC and this covers only about 60% of the local currency costs. The deficits have been largely met by foreign aid.

The fact that the cost of the military build-up and over half the continuing cost of its maintenance is in dollars, coupled with the overwhelming dependence on outside aid to meet balance of trade deficits, leads to the conclusion that, were all assistance withdrawn, Taiwan would be unable to complete the build-up, to maintain the present forces or to maintain even a greatly reduced level of forces. It would be virtually incapable of purchasing any equipment from outside. Upon exhaustion of consumable supplies and deterioration of equipment, reduction would be necessary.

The budgetary situation described above and the low per capita productivity render almost impossible any significant diversion of resources from nonmilitary to military uses in the near future without adverse political and economic repercussions.

Alternative Courses of Action

It is recommended that the NSC determine whether the United States should:

1. Continue military and economic programs at approximately present levels.

Implications:

a) new U.S. appropriations of about $300–$325 million annually through 1960 and substantial amounts thereafter;

b) maintenance of present GRC forces and improvement combat readiness and capabilities but not covering modernization;

c) maintenance of the GRC economy at roughly present strength or slightly increased strength.

2. Continue military aid at about the present level and increase economic aid to provide for a further increase in economic strength.

Implications:

a) an increased cost of $40–60 million might be the upper limit of the absorptive capacity of the economy of Taiwan for new investment;

b) this may increase national output and provide for some increase in consumption. The possibility of a more rapid improvement in the Taiwan economy than in 1. above will depend in part on GRC fiscal reforms, controls over consumption, and ability to overcome development bottlenecks;

c) it would mean higher short term aid costs but possibly lower long term aid requirements.

3. Reduce the level of economic assistance for development purposes.

Implications:

a) possible maximum annual saving to the U.S. of about $35 million;

b) probable reduction in rate of economic development and per capita GNP and thus decreasing capacity to contribute to costs;

c) a significant reduction poses a risk of Taiwan and the surrounding area inferring a change in U.S. policy regarding Peiping, a consequent weakening of public morale in Taiwan, and possible adverse effects on the stability of the GRC.

4. Reduce the military establishment of Taiwan.

Implications:

a) reduction in cost to U.S. depends on extent and method of cutback. To illustrate:

1. Halting further equipment build-up and deferring provision of war reserves might reduce new appropriations required by $50–60 million annually to level of $150–160 million for FY 1958–1960.

2. Transfer of 5 divisions from active to reserve status might reduce total maintenance and support costs from $25–35 million annually.

b) reduction in capability of GRC ground forces for sustained combat, thereby affecting ability to carry out assigned missions and to contribute towards defense of area and possible consequent increase in U.S. forces required in area.

c) cut in present forces, as for example in a)2 above, would result in adverse political repercussions as indicated in 3c) above, except that GRC reaction would be even stronger and the risk of weakening GRC morale considerably greater.

1. Source: Department of State, CA Files: Lot 67 D 579, NSC Reports and Correspondence, 1957. Secret; U.S. Eyes Only. The Prochnow Committee, formally titled the Interdepartmental Committee on Certain U.S. Aid Programs, was established by the NSC on December 8, 1955 to prepare reports on the coordination of military and economic aid programs in Turkey, Iran, Pakistan, Vietnam, the Republic of China, and Korea. The committee was headed by Deputy Under Secretary of State for Economic Affairs Herbert V. Prochnow and consisted of representatives of the Departments of State, Defense, and Treasury, and the Bureau of the Budget, ICA, and CIA. After receiving and approving the assigned country reports, including the report on the Republic of China, which were prepared by interdepartmental drafting groups, the Prochnow Committee submitted a final composite report to the NSC on August 3, 1956. (Ibid., S/S–NSC Files: Lot 63 D 351, NSC 5610 Series) This report was discussed by the NSC at its 301st meeting on October 26, and the question of economic and military aid was referred to the Planning Board for further study.
2. The report on Taiwan printed here is attached to a covering memorandum from the Prochnow Committee to the Secretaries of State, Defense, and the Treasury and the Director of the International Cooperation Administration. (Ibid.)
3. The Mutual Defense Assistance Agreement of 1951 was effected by an exchange of notes signed at Taipei on January 30 and February 9, 1951; 2 UST 1499.
4. The Mutual Defense Treaty between the United States and the Republic of China was signed on December 2, 1954 and amplified in an exchange of notes on December 10, 1954; 6 UST 433.
5. Cost figures for military build-up do not include possible adjustments in GRC programs which accelerated Chinese Communist build-up might require. The projected requirements and their costs are based upon requirements submitted on a screened deficiency basis by the MAAG and have been roughly screened by the foreign aid divisions of the military departments. The data have not been subjected to program and budget review by the comptrollers of the military departments or the Department of Defense. The data therefore represent order of magnitude values only. [Footnote in the source text.]
6. About $46 million for a 90 day war reserve of Army equipment; $22 million for Army and Navy war reserve ammunition; $9.4 million for DFS; $121 million for Army and Navy unit equipment; and $15 million for PCH&T. [Footnote in the source text.]
7. Annex I, a table of unfunded deficiencies projected for the Republic of China for the period 1957–1960, is not printed.
8. The exchange rate used for Government imports and the calculation of counterpart, 24.78NTD to the dollar, is less favorable than other rates, e.g. that used for private imports. [Footnote in the source text.]
9. Based on assumption that approximately 40% of GRC local currency military budget of $154 million would be provided by U.S. through Defense Support. [Footnote in the source text.]
10. Annex II, a listing of eight basic U.S. policy objectives with respect to Taiwan, is not printed.
11. In addition, local currencies generated from saleable commodity imports have been provided to meet local costs of capital development. [Footnote in the source text.]
12. Wide margins of error must be allowed, considering the questionable nature of statistical data available and the need to rely on assumptions which may not always be valid. [Footnote in the source text.]
13. The estimated range of required annual U.S. aid through 1960 mentioned on page 1 and in Alternative I, included only new appropriations necessary to cover estimated costs. [Footnote in the source text.]
14. Assuming very favorable circumstances including the restriction of consumption, and excluding the military program, it might be possible for the GRC to approach self-support in a few years after 1960. [Footnote in the source text.]