Asia’s economies have lost their stride. After years of heady growth and a remarkable rebound after the global financial crisis, the pace has slowed into a disappointing rhythm.
In China, fears over a hard landing remain overdone but giving priority to reforms this year will inevitably weigh on growth.
Japan, the region’s other giant, will also slow from last year’s blistering pace as the initial boost from ‘Abenomics’ wears off and reforms take effect. Even so, the Bank of Japan will seek to cushion the blow through extra monetary easing.
India’s new government must press on with reforms while its central bank maintains a tight rein to finally throttle inflation. Fiscal spending may need to be cut further, but a sharpened current-account deficit gives a cushion against rates rising elsewhere.
A sharp rise in US interest rates would severely impact on growth across emerging Asia
Australia’s rebalancing has proceeded only gradually, hindered by a stubbornly high currency and 2013’s tight fiscal settings. However, growth, and a weaker exchange rate, may avert further rate cuts. But New Zealand needs rate hikes to quell rising inflation pressures and a frothy property market.
The Korean economy has pulled up in recent months too. Exports improved despite the weaker yen but faster US growth could have a more positive impact here than anywhere except Taiwan. However, China now matters more for both countries than the US, so their recovery should prove more muted than previously.
Indonesia’s growth is also expected to remain subdued by past standards and elections could finally produce more policy action. Politics will also dominate in Thailand, with gridlock weighing increasingly on growth. However, Malaysia and the Philippines appear more stable, even if growth is below the desired pace.
One trend over recent years has been the declining sensitivity of Asian exports to swings in Western demand. Caution is warranted about the common view that a vigorous recovery in the US and Europe could lift Asia out of its malaise.
But credit, as a proportion of GDP in Asia outside Japan, has soared from 80 to 110 per cent over the past decade. So while ten years ago, Asia was export, but not interest-rate dependent, the reverse is true now.
A sharp rise in US interest rates would severely impact on growth across emerging Asia. But apart from the underlying resilience of financial systems, two other reasons provide hope for 2014.
First, the US is still struggling to reach ‘escape velocity’ so a sharp rise in dollar rates may yet be avoided. Second, liquidity generated by the Bank of Japan should spill increasingly into the rest of the region, offsetting gentle rises in interest rates elsewhere. The transmission of Japan’s monetary stimulus will come mostly through its banks’ lending across the region.
But interest rates will not remain low forever. Debt-driven growth in emerging Asia will sooner or later run out of steam. As leverage reaches its capacity, more rapid gains in productivity will be needed to sustain the region’s impressive run.
This requires structural reforms – stretching from better government spending (fewer subsidies and more infrastructure outside China), pruning state-owned enterprises’ privileges (in Malaysia and India as well as China), freer trade and investment (everywhere), greater local competition among firms (again, everywhere), improved education and more robust intellectual property regimes to accelerate technological advances (also everywhere), to financial liberalisation (especially in China and India).
This research was first published on 9 January 2014.