Global Investor: Ruchir Sharma; While a 4 percent growth rate might be acceptable for Taiwan's economy in ordinary times, it's not during the current bull run.

Byline: Ruchir Sharma (Sharma is head of emerging markets at Morgan Stanley Investment Management.)

The Fading Star of East Asia It is a sign of the boom times in Asia these days that Taiwan--which has a steady 4 percent economic-growth rate--is now worried that the world is passing it by. What would be strong numbers in ordinary times look weak in the current context. Taiwan's stock market has failed to match the Asian average for seven years. The island has been thrown into an existential crisis as a result.

Things were different a decade ago, when both Taiwan's economy and equities managed to avoid the turmoil of the Asian financial crisis. What's changed?

For one thing, the country has run into the law of diminishing returns. Taiwan's per capita GDP is now close to $20,000. Economic growth slows at the higher stages of development; the same process has occurred in South Korea and Japan. Most low-end manufacturing has migrated to China and Vietnam. And like Japan, Taiwan faces a demographic problem, with a slowing birthrate and little immigration.

Some of these factors are endemic to advanced economies. So should Taiwan accept relatively low growth as its fate? While the country won't be able to replicate the "miracle economy" pace of 8 percent growth it had in the 1970s and '80s; policymakers in Taipei can still aspire for higher than 4 percent by pushing the economy into higher value added sectors.

Still, many foreign portfolio investors find it hard to comprehend the reasons for Taiwan's slowdown and have thus poured more money into its stock market than into any other emerging market since the current global bull run began in March 2003. Investors are chasing the island's stocks in the hope that its economy will accelerate once more. Others think the market's slowly deflating equity valuations are inexpensive compared with their historical values. After all, Taiwan's market traded at a price-to-earnings ratio of 100 in 1989, when the country was one of the world's fastest-growing economies and strict capital controls kept money trapped at home. It now trades at a P/E ratio of 15, which is slightly above average for emerging markets. Foreign investors are confusing the more normal valuation levels with outright cheapness.

Now that some capital restrictions have been lifted, and growth has slowed, domestic investors have taken an opposite approach; they are moving their money to more attractively valued emerging markets from Brazil to India. Total outflows from local investors have averaged a staggering $3 billion a month over the past couple of years. ...