ESCAP is the regional development arm of the United Nations and serves as the main economic and social development centre for the United Nations in Asia and the Pacific. Its mandate is to foster cooperation between its 53 members and 9 associate members. ESCAP provides the strategic link between global and country-level programmes and issues. It supports Governments of countries in the region in consolidating regional positions and advocates regional approaches to meeting the region’s unique socio-economic challenges in a globalizing world. The ESCAP office is located in Bangkok, Thailand. Please visit the ESCAP website at www.unescap.org for further information.
The shaded areas of the map indicate ESCAP members and associate members.
This publication was prepared by the Poverty and Development Division of ESCAP. For further information on publications in this series, please address your enquiries to: Director Poverty and Development Division Economic and Social Commission for Asia and the Pacific (ESCAP) United Nations Building Rajadamnern Nok Avenue Bangkok 10200, Thailand Fax: (662) 288-1000, 288-3007 E-mail:
[email protected] [email protected] Website: www.unescap.org
Cover design by Tjerah Leonardo
KEY ECONOMIC DEVELOPMENTS AND PROSPECTS IN THE ASIA-PACIFIC REGION 2008
United Nations ESCAP New York, 2007
ECONOMIC AND SOCIAL COMMIS SION FOR ASIA AND THE PACIFIC
i
KEY ECONOMIC DEVELOPMENTS AND PROSPECTS IN THE ASIA-PACIFIC REGION 2008
United Nations publication Sales No. E.07.II.F.28 Copyright © United Nations 2007 All rights reserved Manufactured in Thailand ISBN: 978-92-1-120523-7 ST/ESCAP/2461
This publication may be reproduced in whole or in part for educational or non-profit purposes without special permission from the copyright holder, provided that the source is acknowledged. The ESCAP Publications Office would appreciate receiving a copy of any publication that uses this publication as a source. No use may be made of this publication for resale or any other commercial purpose whatsoever without prior permission. Applications for such permission, with a statement of the purpose and extent of reproduction, should be addressed to the Secretary of the Publications Board, United Nations, New York.
ii
FOREWORD Key Economic Developments and Prospects in the Asia-Pacific Region 2008 is the third publication in an annual series that provides an end-of-year report on the region’s economic performance in a rapidly changing global and regional environment. This year’s report highlights the fact that developing economies in the Asian and Pacific region are estimated to have grown over 8 per cent in 2007. The economic powerhouses of China and India continue to drive regional growth, with added impetus coming from the fast-growing Russian Federation. The outlook for 2008 is robust, with developing economies projected to grow by 7.8 per cent. However, the risks to the 2008 projections are increasingly tilted to the downside. The full effect of the unravelling of the United States subprime mortgage problem has yet to be seen. A significant slowdown of the United States economy and further turmoil in financial markets, as a result, cannot be ruled out. Thus far, the region has coped successfully despite financial market instability, muted external demand and appreciating currencies. Good macroeconomic fundamentals in the region will provide the policy space to adapt to a possible worsening of the external environment. Nonetheless, as the report highlights, policymakers in the region should carefully watch out for financial market volatility in the coming months. Policy measures put in place to address rapidly appreciating regional currencies, overheating in asset markets and burgeoning foreign reserves have been effective in some cases but not so in others. These policies may not be adequate to weather external shocks. The region needs urgently to get back on the unfinished agenda of building strong and deep financial markets that can accommodate such shocks with ease. It is my hope that this year’s report will serve as a wake-up call for policymakers across the region to put financial sector reforms high on their agenda.
Ravi Ratnayake Director Poverty and Development Division
iii
ACKNOWLEDGEMENTS The Key Economic Developments and Prospects in the Asia-Pacific Region 2008 was prepared under the overall guidance of Ravi Ratnayake, Director, Poverty and Development Division. A team led by Shamika Sirimanne, Chief, Socio-economic Analysis Section, comprising Shuvojit Banerjee and Somchai Congtavinsutti prepared this report. The comments and inputs from Eugene Gherman, Alberto Isgut, Muhammad H. Malik and Amornrut Supornsinchai are noted with appreciation. Staff analysis was based on data and information available up to the end of October 2007. All graphics work was done by Somchai Congtavinsutti. The logistics of processing and administrative action were handled by Metinee Hunkosol, Anong Pattanathanes and Woranut Sompitayanurak. Contributions from the Editorial Unit and other divisions in the ESCAP secretariat are noted with appreciation.
iv
CONTENTS Page Foreword ...................................................................................................
iii
Acknowledgements ..................................................................................
iv
Abbreviations ............................................................................................
viii
I.
II.
III.
Asia-Pacific undaunted by global turbulence
..........................
1
Growth spurt of Japan stutters ...................................................... China seeks growth with sustainability .......................................... Domestic demand cushions slower exports across the region ......................................................................................... Floods in South Asia devastate lives ............................................ Consumption buoyant in Central Asia but high energy prices present challenges ............................................................... Inflation contained ........................................................................... Oil reaches record highs ................................................................ Inflation a major worry for China ................................................... Weaker export performance ........................................................... Regional firms are becoming global players ................................ Sovereign wealth funds offer risks and rewards ..........................
3 4
6 7 9 10 11 11 13
Key issue on the watch list – the economic impact of capital-market volatility ..................................................................
15
4 6
Impact of the United States subprime fallout is still limited ........ Currency appreciation remains the core challenge ...................... Measures to help exporters not effective ...................................... Reserve accumulation is having an adverse impact on the real sector ...............................................................
15 18 19 19
2008 forecast – domestic demand cushions blow to growth ........................................................................................
22
Cautious monetary policy ............................................................... Coping with a United States slowdown ........................................
24 25
v
FIGURES Page 1.
Rates of economic growth of developing and developed economies in the ESCAP region, 2006-2007 ................................
1
Contribution of domestic demand to GDP for selected developing Asian economies, 2006-2007 ......................................
5
Rates of inflation of developing and developed economies in the ESCAP region, 2006-2007 ...................................................
8
4.
Selected nominal commodity prices, 2006-2007 ..........................
8
5.
Nominal and real oil prices, 1970-2007 ........................................
9
6.
Movement of exchange rates for selected developing ESCAP economies, 2007 ................................................................
17
Major holders of foreign reserves in the Asian and Pacific region, 2006-2007 ...............................................................
20
Money supply index for selected developing ESCAP economies, 2006-2007 ....................................................................
20
Real GDP growth forecast for selected developing economies in the ESCAP region, 2007-2008 ................................
22
Consumer price inflation for selected developing economies in the ESCAP region, 2007-2008 ................................
24
Current account balance for selected developing economies in the ESCAP region, 2007-2008 ................................
25
2. 3.
7. 8. 9. 10. 11.
vi
TABLES Page 1.
2.
3.
Rates of economic growth and inflation of selected developing economies of the ESCAP region and North and Central Asian economies, 2005-2007 .........................................................
2
Current account balance as a percentage of GDP of selected developing economies of the ESCAP region and North and Central Asian economies, 2004-2007 ....................................
12
Price/earnings ratios in Asia and the Pacific and international equity markets, 2007 .......................................................................
17
vii
ABBREVIATIONS
viii
ADB
Asian Development Bank
CIS
Commonwealth of Independent States
CD-ROM
compact disk read-only memory
CPI
consumer price index
EIU
Economist Intelligence Unit
FAO
Food and Agriculture Organization
FDI
foreign direct investment
GDP
gross domestic product
IMF
International Monetary Fund
OECD
Organisation for Economic Co-operation and Development
OPEC
Organization of Petroleum Exporting Countries
UNICEF
United Nations Children’s Fund
I. ASIA-PACIFIC UNDAUNTED BY GLOBAL TURBULENCE Developing economies in the ESCAP region are set to record an impressive 8.2 per cent growth rate in 2007, just ahead of the 8.1 per cent rate achieved in 2006 (see figure 1). The growth was achieved despite a challenging international environment of financial market instability, muted external demand and appreciating currencies. The economic performance was backed by strong domestic demand which countered a weakening in exports in many countries. The region’s economic powerhouses, India and China, led the expansion, while energy-exporting countries of Central Asia, and in particular the Russian Federation, made significant contributions. Together, China, India and the Russian Federation accounted for more than two thirds of the growth of developing economies in Asia and the Pacific. At the same time, the region’s developed economies grew at 2.2 per cent in 2007, unchanged from the previous year. Asia-Pacific economies are well prepared to manage continued uncertainty in the external environment over the coming months. The region’s main strength lies in healthy macroeconomic fundamentals enabling countries to adopt supportive fiscal and monetary policies amid significantly declining export growth, financial market volatility or inflationary pressures due to rising oil prices.
Figure 1. Rates of economic growth of developing and developed economies in the ESCAP region, 2006-2007 Developing economies of the region East and North-East Asia North and Central Asia South and South-West Asia South-East Asia Developed economies of the region 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
Percentage 2006
2007
Sources: ESCAP, based on national sources; IMF, International Financial Statistics (CD-ROM) (Washington, D.C., IMF, July 2007); ADB, Key Indicators of Developing Asian and Pacific Countries 2007 (Manila, ADB, 2007); website of the CIS Inter-State Statistical Committee, <www.cisstat.com>, 6 October 2007; and ESCAP estimates. Notes: Rates of real GDP growth for 2007 are estimates. Developing economies (including the Central Asian countries) comprise the developing economies of the region, and the calculations are based on the weighted average of GDP figures in 2004 United States dollars (at 2000 prices).
1
China and India continue to be the outstanding drivers of regional and global economic growth, despite attempts to cool down those economies. China is estimated to have raised its already blistering pace of GDP increase to 11.5 per cent in 2007 over the 11.1 per cent seen in 2006, while India slowed to a still-robust 9 per cent growth rate in 2007 (see table 1).
Table 1. Rates of economic growth and inflation of selected developing economies of the ESCAP region and North and Central Asian economies, 2005-2007 Inflationa
Real GDP growth
Developing economies of the ESCAP regionc East and North-East Asia China
2005
2006
2007b
2005
2006
2007b
7.7
8.1
8.2
4.3
4.5
5.0
8.1
8.8
8.9
2.0
1.7
3.6
10.4
11.1
11.5
1.8
1.7
4.5
Hong Kong, China
7.5
6.9
6.4
0.9
2.0
1.8
Republic of Korea
4.2
5.0
4.9
2.7
2.2
2.6
Taiwan Province of China
4.1
4.7
4.4
2.3
0.6
1.6
7.1
7.6
8.1
11.8
9.4
8.8
9.7
10.6
9.0
7.6
8.6
8.5
– 0.2
2.7
8.5
4.3
5.6
5.0
North and Central Asia Kazakhstan Kyrgyzstan Russian Federation
6.4
6.7
7.5
12.7
9.7
8.6
Turkmenistan
9.0
9.0
10.0
10.7
10.5
11.3
7.0
7.3
9.1
6.9
7.5
10.0
Uzbekistan d
8.0
7.9
7.5
6.7
8.5
8.0
Bangladesh
6.0
6.6
6.5
6.5
7.2
7.2
India
9.0
9.4
9.0
4.4
6.7
5.5
Iran (Islamic Republic of)
5.4
6.2
5.8
12.1
14.6
17.0
Pakistan
9.0
6.6
7.0
9.3
7.9
7.8
Turkey
7.4
6.0
5.2
8.2
9.6
9.0
5.6
6.0
6.2
6.0
6.7
3.7
Indonesia
5.7
5.5
6.2
10.5
13.1
6.2
Malaysia
5.3
5.9
5.6
3.0
3.6
2.1
Philippines
5.0
5.4
7.0
7.6
6.3
2.8
Singapore
6.6
7.9
7.8
0.5
1.0
1.8
Thailand
4.5
5.0
4.5
4.5
4.7
2.2
South and South-West Asia
South-East Asia
Viet Nam Developed economies of the ESCAP region
8.4
8.2
8.3
8.3
7.5
7.4
2.0
2.2
2.2
0.0
0.5
0.2
Sources: ESCAP, based on national sources; IMF, International Financial Statistics (CD-ROM) (Washington, D.C., IMF, July 2007); ADB, Key Indicators of Developing Asian and Pacific Countries 2007 (Manila, ADB, 2007); website of the CIS Inter-State Statistical Committee, <www.cisstat.com>, 6 October 2007; and ESCAP estimates. a b c
d
2
Changes in the consumer price index. Estimates. Based on data for 38 developing economies representing more than 95 per cent of the population of the region (including the Central Asian countries); GDP figures at market prices in 2004 United States dollars (at 2000 prices) have been used as weights to calculate the regional and subregional growth rates. The estimates for these countries relate to fiscal years defined as follows: fiscal year 2006/07 = 2006 for India and the Islamic Republic of Iran; and fiscal year 2005/06 = 2006 for Bangladesh, Nepal and Pakistan.
The last few years have seen the emergence of the Russian Federation as a potent growth performer, with growth rates exceeding 6 per cent annually since 2003. The country has increased its share in global output by 20 per cent in the last 10 years and in 2007 became the world’s eighth largest economy in terms of purchasing power parity. The Russian Federation saw its GDP growth increase significantly to 7.5 per cent in 2007 over the 6.7 per cent growth in 2006. East and North-East Asia maintained its position as the fastest-growing subregion in Asia and the Pacific. This performance was overwhelmingly due to the dynamism of China, with most economies in the subregion experiencing somewhat reduced growth. North and Central Asia experienced rapid and broad-based growth from energy exports and domestic demand supported by energy revenues. South and South-West Asia benefited from another year of dynamic, though slightly lower, domestic demand-led GDP growth. South-East Asia experienced the lowest growth rate of all the subregions, as exportdependent economies grappled with slowing United States demand and appreciating currencies.
Growth spurt of Japan stutters In contrast to the robust performance of other major economies in the region, Japan has recently shown signs of a slowdown. Japan has yet to fulfil the expectations of becoming an alternative growth engine for the region to counteract the slowdown of the United States economy. Economic growth in the second quarter contracted slightly owing to weak export performance, while then recovering marginally in the third quarter. The importance of the export sector ties the economic performance of Japan closely to the growth prospects of its trading partners, particularly the United States. Domestic demand is not providing support. Residential investment has been restrained. Capital investment, an important GDP driver at the beginning of 2007, also slowed in the second quarter, while improving somewhat in the third quarter. Private consumption, which constitutes 55 per cent of GDP, has continued to remain muted over the past few quarters. Although company profits are growing, weak wage growth has ensured that consumers are reluctant to spend. While unemployment has reached its lowest rate in nine years, new employment has so far been concentrated in low-wage industries and part-time employment.
“ ”
Japan has yet to fulfil the expectations of becoming an alternative growth engine for the region
Weak domestic demand has led to inflation in the economy remaining close to zero for the year. Sluggish increase in consumer prices and concerns about the fallout of the subprime crisis have prevented an increase in interest rates despite concern about asset price rises. The real estate market in Japan has seen rapid price increases in recent years, boosted by foreign institutional buyers. Prices in prime areas of Tokyo rose by 30-40 per cent in 2006 and real estate investment trusts (J-REITs) have also performed strongly.1
1
Financial Times, “Alarm raised over Japan real estate”, 6 September 2007.
3
China seeks growth with sustainability
“
China continues to be beset by its inability to rein in its supercharged economy. China saw growth accelerate from 11.1 per cent in 2006 to an estimated 11.5 per cent this year. Investment and net exports continue to be the main drivers of GDP growth. The contribution of investment to GDP growth increased from 34.4 to 37.6 per cent, while net exports increased their share from 25.6 to 28.9 per cent.
The need to cool down the Chinese economy has become more pressing during the year
”
The need to cool down the economy has become more pressing during the year, as inflation rose to a 10-year high in August (year-on-year) and the Shanghai Stock Exchange doubled in value. Property prices have also surged, with housing prices in 70 cities jumping by 8.2 per cent in August compared with a year earlier; prices rose in July around 20 per cent year-on-year in Shenzhen and over 10 per cent in Beijing.2 The destabilizing effect of the current structure of growth on the environment is becoming more apparent. Figures published in 2007 indicate that air pollution, especially in large cities, is leading to a higher incidence of lung disease, including cancer and respiratory system problems. Water pollution is also causing growing levels of digestive system cancer and diarrhoea, particularly in children under-five years of age.3 Food security has become increasingly affected, as arable land has been lost to other uses such as manufacturing and construction. The country has lost 8 million hectares, or 6.6 per cent of its arable land, in the past decade.4 Furthermore, the risk of a protectionist backlash from major economies as a result of the country’s booming exports is an ongoing concern. The Government of China has responded by pledging to eliminate export tax rebates for 553 highly energy-consuming and resource-intensive products, such as cement, fertilizer and non-ferrous metals. Rebates for another 2,268 products, considered liable to trigger trade friction, are to be slashed from 8-17 per cent to 511 per cent.5 These measures have yet to bear fruit, as export growth continues to accelerate.
Domestic demand cushions slower exports across the region The year 2007 has seen domestic demand emerging as the engine of growth for many countries in the region while export performance has subdued (see figure 2). The key elements of strong domestic demand have been accelerating investment and private consumption growth.
4
2
Bloomberg, “China raises rates for fourth time to cool inflation”, 21 August 2007 and “China raises rates for fifth time to cool economy”, 14 September 2007.
3
World Bank, The Cost of Pollution in China: Economic Estimates of Physical Damage (Washington, D.C., World Bank, 2007).
4
China Daily, “Measures taken to increase arable land”, 8 August 2007.
5
China Daily, “Tax rebates removed, cut to curb exports”, 20 June 2007.
Contribution of domestic demand to GDP for selected developing Asian economies,
100
2006 2007
Figure 2. 2006-2007
Percentage
80 60 40 20
Private consumption
Investment
Public consumption
Thailand
Singapore
Philippines
Malaysia
Indonesia
Pakistan
India
Taiwan Province of China
Republic of Korea
Hong Kong, China
– 20
China
0
Net exports
Sources: Calculated based on CEIC Data Company Ltd.; and EIU, Country Forecast (London, 2007). Note:
Figures for 2007 are estimates.
Most economies in East and North-East Asia experienced a marginal slowdown in 2007. However, the better-than-expected performance over the course of the year was mainly due to robust domestic demand. Hong Kong, China; Taiwan Province of China; and the Republic of Korea all witnessed improving consumption and investment in 2007. Exports to China also helped to mitigate the effects of slowing demand in the United States. South and South-West Asia recorded robust economic growth of 7.5 per cent, a pace of increase marginally slower than in 2006. South Asian countries have enjoyed strong domestic demand, while their merchandise trade deficits have widened due to imports of oil and consumption goods. India continues to display buoyant consumption and investment as a consequence of four years of dynamic economic growth. Exports were weak in Pakistan but the country has benefited from surging fixed investment and private consumption. Record levels of workers’ remittances in Bangladesh have supported private consumption. Economic growth in South-East Asia has held up well despite the challenging international environment faced by several economies. Weakness in the United States market as well as currency appreciation against the United States dollar has hurt exports in many countries. The Philippines however has seen strong domestic demand on the back of record remittances and Malaysia has experienced strong private and public investment as well as private consumption. The exports of Indonesia have held up well in the commodities sector and
“
Weakness in the United States market as well as currency appreciation has hurt exports in many South-East Asian countries
”
5
consumption responded positively to declining interest rates. Singapore has benefited from domestic demand bolstered by new major commercial construction projects, a thriving financial sector and rising real wages and property prices. The outstanding growth of Viet Nam is increasingly focused on the domestic economy, with rising demand for manufactures and services as well as growing investment by foreign enterprises. Thailand remains the weakest performer among its neighbours, as its exports have exhibited vulnerability in the current external environment, and domestic demand has failed to take up the slack amid continuing political uncertainty.
Floods in South Asia devastate lives
“
Those affected most by devastating floods in South Asia have been the poorest of the poor
”
The devastating floods in South Asia in 2007 have killed more than 4,000 people and left millions homeless.6 Those affected most have been the poorest of the poor, living in rural communities in Bangladesh, India and Nepal. Losses have been estimated to be at least $1 billion and major outbreaks of waterborne diseases such as diarrhoea, typhoid and hepatitis have occurred. There is potential for food and other commodity prices to rise, further exacerbating the hardships of those affected. Agricultural production will be affected due to the loss of animals and unfavourable crop prospects following damage to recently planted crops. While the impact on overall GDP is likely to be small, there may be risks for some export industries, such as the garment industry in Bangladesh.
Consumption buoyant in Central Asia but high energy prices present challenges North and Central Asia grew at 8.1 per cent in 2007, compared to 7.6 per cent in 2006. Countries benefited from the increase in domestic consumption as a consequence of buoyant energy prices. Rapid growth has been broad-based across countries. Kyrgyzstan saw the most dramatic increase in economic growth, from 2.7 per cent in 2006 to 8.5 per cent in 2007, driven largely by construction and services. The Russian Federation also saw its GDP growth rising significantly, with high domestic demand from energy export revenues leading to buoyant construction and manufacturing sectors. The good performance of Turkmenistan was driven by exports and construction, while Uzbekistan benefited from significant investment in its export and service sectors in 2007. Countries across the subregion nevertheless continued to grapple with the economic downside of booming energy receipts. Inflation remains high across the subregion, as a consequence of the liquidity generated by buoyant energy exports and energy-related investment inflows. Kazakhstan, while perhaps the best example of a country investing its energy surpluses effectively, has seen inequality widen along with dynamic growth. The economy remains insufficiently
6
6
UNICEF, “Millions still affected by floods in South Asia”, 21 September 2007 (Press Release).
diversified with manufacturing suffering from a highly appreciated exchange rate. Turkmenistan similarly suffers from high inequality as well as persistent poverty. Investment in energy production has stalled and the lack of technical skills presents a challenge to the sector.
Inflation contained Inflation has generally been contained across the region (see figure 3). Currency appreciation for most economies has moderated the impact of high international oil and food prices. Monetary policy has varied according to inflationary concerns. The Republic of Korea and Taiwan Province of China have been raising interest rates while Malaysia has kept them steady. In contrast, Indonesia, the Philippines and Thailand have been easing rates. Rising food prices have put upward pressure on inflation in developing countries in the region, and internationally. Countries are faced with surging prices for basic food imports, such as wheat, corn and sorghum (see figure 4). Wheat prices reached a record $8.86 per bushel in September, an increase of 60 per cent during the year. Corn prices, at nearly $4 a bushel, are almost double their level in 2005. While the rise in prices is partly due to the strong demand from developing countries, the depreciation of the United States dollar (in which most internationally traded food is priced) and increasing oil prices, one of the major factors driving food price increases in 2007 has been the biofuel industry’s appetite for grain. These demand effects have been exacerbated by a supply contraction in 2007 due to weather-related factors among major food exporters. Drought in Australia in 2006 affected the country’s wheat crop; flooding in China in 2007 curtailed wheat and rapeseed production and dry weather in Europe lowered grain yields.
“
One of the major factors driving food price increases has been the biofuel industry’s appetite for grain
”
Rising food prices, most sharply for pork, spurred the record inflation in China in 2007. The increase in the CPI in August of 6.5 per cent year on year was led by food price inflation of 18.2 per cent. Pork prices in China, the world’s largest producer and consumer of pork, rose 49 per cent in August compared with a year earlier. While pork prices have risen mainly because of internal factors, particularly disease, and reduced supply due to low prices in the previous year, external factors have also been important, such as the rise in international animal feed prices. The share of feed in the total cost of raising swine is half for large farms and slightly less for smaller farms.7 Food prices are a bigger inflation concern than oil prices for many countries in the region. This is because food accounts for a far higher proportion of consumer spending, as seen from the weighting of food in the consumer price index calculation. For example, in the Philippines food accounts for 50 per cent of CPI as opposed to 7 per cent for energy. In India, food represents 46 per cent of CPI; in Indonesia, 42 per cent and in China, 33 per cent. Food price inflation also disproportionately affects low and average income households.
7
China National Development and Reform Commission, Department of Price, Cost of Production Estimates, <www.chinaprice.gov.cn>
7
Figure 3. Rates of inflation of developing and developed economies in the ESCAP region, 2006-2007 Developing economies of the region East and North-East Asia North and Central Asia South and South-West Asia South-East Asia Developed economies of the region 0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
Percentage 2006
2007
Sources: ESCAP, based on national sources; IMF, International Financial Statistics (CD-ROM) (Washington, D.C., IMF, July 2007); ADB, Key Indicators of Developing Asian and Pacific Countries 2007 (Manila, ADB, 2007); website of the CIS Inter-State Statistical Committee, <www.cisstat.com>, 6 October 2007; and ESCAP estimates. Notes: Inflation rates refer to changes in the consumer price index. Inflation rates for 2007 are estimates. Thirty-eight developing economies (including the Central Asian countries) comprise the developing economies of the region, and calculations are based on the weighted average of GDP figures in 2004 United States dollars (at 2000 prices).
Figure 4. Selected commodity prices (nominal), 2006-2007 (January 2006 = 100)
200 180
Index
160 140 120 100
Maize
Sorghum
Wheat
Coconut oil
Soybeans
Source: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., September 2007).
8
Jul-07
Jun-07
May-07
Apr-07
Mar-07
Feb-07
Jan-07
Dec-06
Nov-06
Oct-06
Sep-06
Aug-06
Jul-06
Jun-06
May-06
Apr-06
Mar-06
Feb-06
Jan-06
80
Soybean oil
Oil reaches record highs Oil prices continued their volatile but upward trend over 2007. By early November the price for Brent crude reached the new record $93 a barrel. In real terms, oil is at its most expensive level in more than 20 years. However, it is still below the 1979 real oil price (see figure 5). The recent surge in oil prices was triggered by the strong demand for oil, declining oil inventories, bad weather in the Gulf of Mexico and continued geopolitical uncertainties in the Middle East. The weakening United States dollar has added to the intensity of the price hike. United States inventories reported in September 2007 stood at 322.6 million barrels, their lowest level in eight months. In response to the increasing demand, for the first time in two years the Organization of Petroleum Exporting Countries agreed to increase its production, from November 20078. However, the increase has been judged by the market to be an insufficient measure for pushing prices down. Oil-producing countries are treading a difficult middle path. They do not wish to encourage a global economic slowdown through high oil prices but are also wary of increasing supply excessively. So far the impact of high oil prices on the region has been limited for several reasons that were discussed in the Key Economic Developments and Prospects in the Asia-Pacific Region 2006. First, the appreciation of regional currencies against the United States dollar has muted the impact of rising oil prices.
“ ”
The impact of high oil prices on the region has so far been limited
Figure 5. Nominal and real oil prices, 1970-2007 140 120 100 80 60 40 20
Nominal (US Dollars per Barrel)
2005 2006 2007
2000
1995
1990
1985
1980
1975
1970
0
Real (US CPI, 1980 = 100)
Sources: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., September 2007); PTT Public Company Limited; and ESCAP calculations. Notes:
8
Oil prices refer to Brent. Real oil prices are calculated only to September 2007.
Financial Times, “OPEC agrees to lift oil production”, 11 September 2007.
9
Second, the continuous rise in oil prices in recent years has been driven mainly by strong global demand, not supply disruptions as had occurred in the past. An increase in oil prices regardless of the sources of shocks would lower economic growth and lead to inflation. However, the magnitude of the adverse effect on growth is far lower in terms of a demand-driven price rise than one which is caused by a disruption in supply – where physical shortage of oil leads to a direct disruption in overall economic activity. Third, inflationary expectations are lower worldwide, compared with those related to previous oil shocks. Finally, the oil intensity of consumption and production, particularly in major economies, is significantly lower than in the 1980s, reducing the economic impacts of a higher oil price. Nonetheless, for those countries that are facing overheating pressures, such as China and India, the rising oil prices have produced an added challenge in containing inflation. For low-income oil importers, in addition to inflationary concerns, addressing deteriorating external balances would be a challenge.
Inflation a major worry for China
“”
India has fought a pitched battle with inflation in 2007
There have been growing fears of overheating in the two major emerging economies of the region, China and India. China is witnessing its highest level of inflation in 10 years. While supply-side factors through the global increase in oil and food prices have also contributed to the inflation jump, demand-side pressure continues through increases in the money supply. Currency management coupled with booming export receipts has led to the unabated injection of money into the domestic economy. Loan growth continues to advance at a rapid pace. The Government of China has taken several measures to control investment and speculation in the stock and property markets. During 2007, interest rates have been raised five times in order to control fixed asset investment, while bank reserve ratios have been raised nine times. To discourage speculation activities in property markets, interest rates on second homes and commercial real estate have been raised, as have the minimum down payment requirements for property purchases. Deposit rates have been increased more than lending rates, and the tax on interest income was reduced to discourage the withdrawal of deposits by citizens to fund asset market purchases. Household bank deposits have been on a downward slide, falling $5.5 billion in August compared with the previous month. However, the effects of the cooling measures are still to be seen in the economy as investment growth has declined only marginally. India has fought a pitched battle with inflation in 2007. After rising rapidly over the past few quarters, inflation in India has been brought down by a combination of tight monetary policy and currency appreciation. Interest rates have been raised nine times since October 2004 to reach 7.75 per cent in July 2007, while the reserve ratio of banks has been lifted five times to reach 7.5 per cent by November. In response, prices and credit growth declined considerably over the course of the year. The benchmark wholesale price index inflation rate eased to 3.1 per cent by mid-October from its peak of 6.4 per cent in early April; the rate has been below the central bank’s target of 5 per cent since June.9
9
10
Reserve Bank of India, Mid-Term Review of Annual Policy for The Year 2007-2008, 30 October 2007.
India is not however out of the woods as the underlying causes of inflation still remain. While both benchmark and core (benchmark excluding food and fuel) inflation figures are within the central bank’s desired limit of 5 per cent, there has been recent upward pressure from rising oil and food prices. For example, the annual CPI inflation for industrial workers showed a sharp increase to 7.3 per cent in August 2007 compared with 6.3 per cent a year previously. Managing currency appreciation through the accumulation of reserves continues to build excess liquidity in the economy. Renewed capital inflows to India after the unravelling of the United States subprime mortgage problem in July and August have led to reserves growing to a record $220 billion in September.
Weaker export performance Exports across the region have suffered as currencies have appreciated relentlessly on the back of strong portfolio flows and current account surpluses (see chapter II). Weakening demand due to slow economic growth in the United States has also had an adverse impact on exports in the second half of 2007. Import volume growth in the United States is expected to drop significantly in 2007 to 2 per cent from 6 per cent in 200610. Nonetheless, current account balances have held up well in many of the economies of the region as appreciating currencies have reduced import prices, particularly offsetting continuing high international oil prices (see table 2). South East Asia was expected to show recovery in its key electronics export sector in the second half of the year. However, the expected improvement has been muted by weak exports to the United States and Japan as a result of currency appreciation and low consumption growth in the United States. Growth projections for electronics and semiconductor exports for 2007 have been revised downwards during the course of the year. Electronics exporters have however benefited from strong sales to Europe.
Regional firms are becoming global players Enterprises from developing countries in the region have been increasingly active in the acquisition of developed country companies. The rapidly rising outward foreign direct investment (FDI) is an emerging trend to watch. Outward FDI by firms from the region has been particularly notable in the United States, where it reached record levels this year. The value of announced deals by nonJapanese Asian companies reached $16.1 billion by August 2007, vastly surpassing the previous year’s level of $3.9 billion.11 The objectives of the acquisitions have been to globalize operations by securing international market share and to improve technological capability in medium and high-technology sectors. Strong growth in domestic markets has provided acquiring firms with strong balance sheets and ample access to finance to expand into overseas markets.
10
Economist Intelligence Unit, Country data, as of 3 December 2007.
11
Financial Times, “Asian group on US asset spree”, 3 September 2007.
“
Rapidly rising outward foreign direct investment by Asia-Pacific companies is an emerging trend to watch
”
11
Table 2. Current account balance as a percentage of GDP of selected developing economies of the ESCAP region and North and Central Asian economies, 2004-2007 2004
2005
2006
2007a
East and North-East Asia China
3.5
7.1
9.5
10.5
Hong Kong, China
9.5
11.4
10.8
11.2
Republic of Korea
4.1
1.9
0.7
0.4
Taiwan Province of China
5.7
4.6
6.9
6.5
North and Central Asia Kazakhstan
0.8
– 1.8
– 2.2
– 3.6
Kyrgyzstan
– 4.6
– 9.3
– 16.8
– 12.6
Russian Federation
10.1
11.0
9.7
6.3
0.6
5.1
15.3
12.4
10.1
14.3
19.5
16.1
0.9
– 0.6
1.2
1.1
– 0.4
– 1.1
– 1.1
– 1.5
0.9
7.4
8.2
7.5
Turkmenistan Uzbekistan South and South-West Asia Bangladesh India Iran (Islamic Republic of) Nepal
2.9
2.2
2.4
2.5
Pakistan
1.8
– 1.4
– 3.9
– 4.9
Sri Lanka
– 3.4
– 3.1
– 4.9
– 4.2
Turkey
– 5.2
– 6.2
– 7.9
– 7.3
South-East Asia Indonesia
0.6
0.3
2.7
2.4
Malaysia
12.6
15.3
17.2
13.6
Philippines
1.9
2.4
4.3
4.7
Singapore
20.1
24.5
27.5
27.3
1.7
– 4.4
1.4
4.6
– 2.1
0.4
0.5
– 1.6
Thailand Viet Nam
Sources: ESCAP, based on IMF, International Financial Statistics (CD ROM) (Washington, D.C., IMF, July 2007); ADB, Key Indicators of Developing Asian and Pacific Countries 2007 (Manila, ADB, 2007); EIU, Country Reports and Country Forecasts (London, 2007), various issues and national sources. a
Estimate.
India has been the most prominent source of booming outward FDI. A landmark deal was the acquisition in October 2006 of the European steelmaker Corus by the Tata Group for $12.5 billion. The share of India in global outward investment has trebled in the last four years. In fact, the country’s outward FDI is rapidly approaching the scale of its inward FDI. The enabling environment was created in 2005 when the limit on outward FDI was increased from $100 million to the net worth of companies. The bulk of the flows has been from the manufacturing sector, particularly in the IT, pharmaceutical and automotive sectors. Preferred destinations are the United States, and countries in Europe and Africa. Other than mergers and acquisitions, companies have been active in greenfield investments, such as establishing manufacturing operations and training centres.
12
Markets in Asia and the Pacific as well as further afield will increasingly see the impact of private portfolio investment by China. In 2007, the country eased restrictions on portfolio investment by private individuals and companies. To date most outward financial investment by China has been by the Government in United States assets as part of its currency management scheme.
Sovereign wealth funds offer risks and rewards State investment funds, or so-called sovereign wealth funds, are becoming increasingly important players in global capital markets. Sovereign wealth funds seek to diversify foreign exchange assets and earn a higher return by investing in a broad range of asset classes.12 Buoyant reserve accumulation by countries in the region is adding to the stock of capital for existing wealth funds. Reserves are increasingly being accumulated not for prudence in times of crisis but as a result of managing currency appreciation. Therefore, there is no limit to the level of reserve accumulation. It has become increasingly important for Governments to consider setting up sovereign funds as a strategy to obtain a reasonable level of return on their burgeoning capital. In addition, such funds serve to reduce risk by diversifying the assets in which foreign reserves are invested. Existing sovereign funds are also allocating more of their capital to riskier assets. For instance, the Russian Federation uses its stabilization fund partly to meet emergency budget shortfalls and partly for investment purposes. Sovereign wealth funds have a major potential impact on movements in international financial markets. The volume of capital under their management is at least twice as much as that of hedge funds. Estimates put the current size of the world’s 25 sovereign funds at about $2.5 trillion, with a rise of $450 billion in 2007. It has been forecast that the resources at the disposal of sovereign funds could rise to $12 trillion by 2015.13 The region’s major established funds are the Government Investment Corporation of Singapore, with holdings of $330 billion; the stabilization fund of the Russian Federation, with assets of about $100 billion; and the Investment Agency of Brunei Darussalam with $30 billion.14 The Republic of Korea also began its own fund, the Korea Investment Corporation, in 2006 with capital of $20 billion. The desire to obtain healthy returns on their bulging reserves is also leading other countries in the region to consider setting up their own wealth funds. The year 2007 saw the formation by China of a sovereign wealth fund to invest $200 billion of its foreign reserves in other investments. Investments by the country’s new State Foreign Exchange Investment Corporation will be in financial and strategic assets around the world.
12
Typical asset classes are longer-term government bonds, asset-backed securities, corporate bonds, equities, commodities, real estate, derivatives, alternative investments, and foreign direct investment.
13
Morgan Stanley, “How big could sovereign wealth funds be by 2015?”, 4 May 2007.
14
Ibid.
“
Sovereign wealth funds have a major potential impact on movements in international financial markets
”
13
Sovereign wealth funds present a number of challenges for their owners. One is that they are prone to protectionist sentiment from investment-receiving countries because the funds are government entities. In this context, the extent to which investment in a company by a sovereign wealth fund results in voting rights or management control is important. A reasonable amount of information on the investment strategy and portfolio holdings of sovereign wealth funds would also help to reduce concerns from investment-receiving countries. Currently, most funds are opaque about internal checks and balances, investment strategy and commercial goals. The sovereign funds of Norway and Singapore offer the best examples of good governance and accountability.
14
II.
KEY ISSUE ON THE WATCH LIST – THE ECONOMIC IMPACT OF CAPITAL MARKET VOLATILITY
Regional financial and currency markets have been volatile in recent months. The year 2007 began with regional currencies rapidly appreciating against the United States dollar on the back of portfolio inflows. For a short period in the second half of the year countries witnessed rapid depreciation of currencies during the fallout caused by the United States subprime crisis, followed by renewed appreciation during the last months of the year. Managing the impact of volatility in capital inflows on regional economies is likely to remain a serious challenge for the near future as the United States subprime mortgage crisis plays out and global imbalances remain wide.
Impact of the United States subprime fallout is still limited Financial markets in Asia and the Pacific are witnessing the fallout from the contraction of the subprime mortgage lending market in the United States. Subprime mortgages have been the most vulnerable class of mortgages to be affected by the slowdown in the United States housing market. International financial institutions, primarily hedge funds and banks, have suffered losses in their holdings of products based on subprime mortgages. To date, most Asia-Pacific banks have not revealed significant exposure to such investments. However, concern has been voiced about the lack of transparency in some of the banking sectors of the region. Furthermore, in common with banks outside the region, there has been a lack of consistency in valuation methods for estimating possible losses on subprime investments. While central banks in the United States and the European Union have had to be active in providing liquidity to stimulate lending in their economies, the AsiaPacific region has seen no such need as of yet. Problems in the United States subprime mortgage market have spilled over to international financial markets through the unwillingness of banks to lend to each other. This credit crunch is due to a perceived lack of information about possible losses in the investment portfolio of banks related to subprime holdings. Banks have been owners of some of the entities, known as conduits and special investment vehicles (SIVs),15 invested in subprime paper and other structured financial products. Bank-sponsored conduits and SIVs are estimated
15
Conduits and special investment vehicles (SIVs) are entities designed to profit from the difference between short-term borrowing rates and longer-term returns from structured product investments. These entities invest in high-yield, long-term credit market instruments, such as subprime paper, financing their purchases by short-term borrowing. This short-term borrowing has to be refinanced constantly and a withdrawal of liquidity can cause conduits and SIVs to have difficulties rapidly.
15
to hold assets worth about $1.4 trillion.16 As these entities are quite opaque, the market is not sure exactly what assets they are holding, or how damaged those holdings might be. Banks are also affected as they are tied into agreements to provide liquidity to other institutions that have invested in the subprime market.
“
As a result, the banking sector in the United States and some parts of Europe is suffering a “new generation” of banking crises spurred by contagion. Instead of the bank runs by depositors seen in previous crises, such as the Asian financial crisis of 1997, banks are suffering from runs by their financial investors. Banks rely on short-term financing from other financial institutions for their daily operations. Many banks have however found in recent months that it is difficult to access such financing as financial institutions are worried about the banks’ exposure to risky mortgage loans and loan-based financial instruments. The hallmarks of contagion are evident as even banks seemingly with no exposure to risky mortgage-backed asset holdings have been affected by the credit squeeze. Central banks in the United States and Europe have been compelled to play the role of lender of last resort in order to provide the required financing to banks in difficulty.
Subprimerelated losses have already led to a number of ripple effects in the region
”
Subprime-related losses have already led to a number of ripple effects in the region. First, international investors have been covering their losses on subprime-related products by disposing of other liquid assets worldwide. In August 2007 this led to large declines in the Asia-Pacific equity markets as investors cashed in their holdings. Financial-market contagion thus spread from the United States to the Asia-Pacific region. There was also a withdrawal from markets in the region as global risk was repriced. Global liquidity had been attracted to emerging Asia-Pacific markets because of the historically low risk ratings investors were awarding to the region. Risk as measured by the spread of dollar-denominated emerging market bonds over United States bonds recently stood at one tenth of the level of a decade ago.17 Equity markets in the region had been trading at priceearnings (P/E) multiples which were close to or at a premium to developedcountry valuations. Investors were also borrowing at low interest rates in developed countries in order to invest in other markets. The most prominent example was the booming so-called Japanese yen carry trade, which according to one estimate stood at $331 billion at the start of the year.18 The change in risk perception of global markets, given the amount of risk investors have taken on in the region, was enough to reverse the tide of jittery global investors. Large inflows quickly changed to large outflows, with investors retreating to safe assets, especially United States Treasury bonds. Despite the international repercussions of the subprime debacle, markets in the region have recovered strongly from their lows for the year. All equity markets in the region remain up by at least 20 per cent from their levels at the start of 2007. China has shown the least fallout, with the Shanghai Stock Exchange Index continuing to display far higher price-to-earnings valuations than developed-
16
16
Financial Times “The real reason to worry about bank conduits”, 9 September 2007.
17
Jeffrey Frankel, “New perspectives on financial globalization”, presentation at IMF Economic Forum, 27 April 2007.
18
International Herald Tribune, “A currency bubble rises in Japan”, 21 January 2007.
country markets (see table 3). In India, the Mumbai Stock Exchange Index has recovered from its sharp fall to reach record highs. Similarly, all currencies, except the Indonesian rupiah, remain up from their values at the start of the year (see figure 6), although they did experience substantial depreciation against the dollar between mid-July and mid-August. Table 3. Price/earning ratios in Asia and the Pacific and international equity markets, 2007 P/E 2007a China (Shanghai Stock Exchange)
59.2
Hong Kong, China (Hang Seng Index)
18.1
India (Mumbai Stock Exchange)
20.8
Malaysia (Composite Index)
16.4
Republic of Korea (KOSPI)
15.0
Singapore (Singapore Stock Exchange)
17.6
Taiwan Province of China (Taiwan Stock Exchange)
18.7
Thailand (SET Index)
11.8
European Union (Dow Jones Euro Stoxx)
13.7
United Kingdom (Financial Times Stock Exchange)
11.5
United States (Standard & Poors 500)
17.4
Source: Based on CEIC Data Company Ltd. a
Refers to August.
Figure 6. Movement of exchange rates for selected developing ESCAP economies, 2007 (January 2007 = 100)
115
Index
110
105
100
95 Jan-07
Feb-07
Mar-07
Apr-07
May-07
Jun-07
Jul-07
Aug-07
China
India
Republic of Korea
Indonesia
Malaysia
Philippines
Singapore
Thailand
Sep-07
Sources: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., 2007); and CEIC Data Company Ltd.
17
Currency appreciation remains the core challenge
“
Regional currencies have appreciated dramatically over the last two years on a tide of huge global liquidity. Since 2006, all major currencies in the region have risen against the United States dollar. Some of the rise in regional currencies is due to general dollar depreciation against international currencies triggered by large imbalances in the United States economy vis-à-vis the rest of the world. Currency appreciation in the region has however not been restricted to rises against the United States dollar. Currencies have risen in many cases against the currencies of other major trading partners, such as the European Union and Japan. Furthermore, what is of particular concern to regional economies is their varying degrees of appreciation against the dollar. While the Korean won has seen a nominal rise of about 8 per cent since 2006, the Thai baht has gained about 21 per cent.19
The impact of currency appreciation has been greatest in low-technology intensive manufacturing sectors and those sectors that have a low import content
”
The relative degree of real currency appreciation between countries in the region has had an impact on their relative export competitiveness. The real effective exchange rate of a country provides a weighted measure with respect to inflation differentials and the currency values of all trading partners. In terms of real effective exchange rates, all major regional countries except Indonesia and Republic of Korea have experienced appreciation of their currencies since 200620. Appreciation ranged from 2.6 per cent for Malaysia to 15.5 per cent for the Philippines. Countries in the region therefore have lost competitiveness in their exports not only to the United States but also to their other trading partners. Since 2006, the countries which have seen the greatest real effective exchange rate appreciation against the dollar have been the Philippines and Thailand. The economies which have seen the least appreciation are Singapore and Malaysia. Of particular relevance when considering the export competition impact of currency appreciation is the relative appreciation against the Chinese yuan renminbi. China is an export competitor in third country markets for all of the region’s economies. Thailand and the Philippines have seen greater real effective exchange rate appreciation than the yuan since 2006. The countries which have seen the greatest real exchange rate appreciation since 2006 – Thailand and the Philippines – have already seen the impact on their export earnings. Export earnings in dollar terms have suffered in recent months. Thailand experienced a decline in export growth between August (17.3 per cent year on year)21 and September (10.2 per cent). Export growth in the Philippines remained low in September at 4.6 per cent year on year,22 after a fall of 4.0 per cent in the previous month. The impact has been greatest in low-technology intensive manufacturing sectors and those sectors that have a low import content, such as agriculture and commodities. In Thailand, the garments, jewellery, furniture and rubber sectors have seen minimal growth in local currency export earnings since 2006. Similarly in the Philippines, the textiles, furniture, banana and pineapple sectors have been the most affected.
18
19
As of 30 November 2007.
20
As of 31 October 2007.
21
Bank of Thailand, Key Economic Indicators, as of 3 December 2007.
22
National Statistical Office, Philippines, Merchandise Export Performance, as of 3 December 2007.
Measures to help exporters not effective Governments have reacted to the hardship faced by exporters from currency appreciation by introducing a host of measures. One approach has been to offer direct assistance to exporters. India has offered interest rate relief, adjustment of duty drawback rates and swifter reimbursement of past export claims. The Philippines has established a $1-billion hedging fund in order to protect exporters against currency movements. Another approach has been to increase local demand for dollars from individuals and enterprises to ease the pressure on domestic currencies. Thailand has made it easier for companies to take funds abroad for investment, allowed exporters to keep earnings in foreign currency for a longer period, permitted companies and individuals to open foreign-currency accounts at local banks and allowed local investment funds to invest abroad. India has increased the limit on portfolio investment by Indian companies in foreign companies and has enhanced the limit for overseas investment in joint ventures or wholly owned subsidiaries by Indian companies. There are however concerns about the likely effectiveness of these types of measures. Assistance to exporters is only a short-term coping mechanism for the loss of earnings. Exporters still must confront the fundamental challenge of maintaining competitiveness in the face of rising prices in foreign currency terms. Such measures are likely to help if currency appreciation is only a temporary occurrence. In the longer run, exporters will be able to cope only by increasing the value added component of their products through greater productivity. This will enable exporters to move away from low value added products which are most susceptible to purely price-based international competition. Similarly, the measures to encourage the holding of dollars by domestic entities may not achieve the intention of policymakers. While allowing a more convertible currency for outward investment is a sensible long-term measure for improving integration into the global economy, it is unlikely to have much effect on currency appreciation in the near future. Investors will not be keen to make dollar investments when there is a perceived likelihood of further dollar depreciation. Countries in the region would benefit from sustained efforts to increase the importance of domestic demand in their economies. This would reduce their dependence on the uncertainties in the external sector. Currency management through the build up of foreign reserves is also curtailing better use of the region’s excess savings. Redirection of these resources from investment in foreign assets towards the financing of sizeable domestic infrastructure requirements would produce greater long-term benefits by increasing productive capacity.
“
Exporters still must confront the fundamental challenge of maintaining competitiveness in the face of rising prices in foreign currency terms
”
Reserve accumulation is having an adverse impact on the real sector By end of July 2007, the Asia-Pacific region had accumulated $3.2 trillion in foreign reserves, up from $2.7 trillion at the end of 2006 (see figure 7). While reserves have been accumulated partly as a buffer against financial crises, the rapid increase in the recent past has been the result of the fight against the appreciation of currencies. Central banks have been active in conducting sterilization operations to mop up excess liquidity in domestic markets. Other measures have included increases in banks’ reserve ratios and interest rate increases. However, increases in money supply aggregates over recent months indicate that liquidity has continued to grow despite these actions (see figure 8).
19
Figure 7. Major holders of foreign reservesa in the Asian and Pacific region, 2006-2007 Developing ESCAP economies China Japan Russian Federation Taiwan Province of China Republic of Korea India Singapore Hong Kong, China Malaysia Thailand Turkey Indonesia Philippines
2709
3209
1068 1335 880
0
50
100
150
200
250
300
350
400
907
450
500
550
In billion US dollars 2006 Source:
2007M7
IMF, International Financial Statistics (CD-ROM) (Washington, D.C., September 2007). a
Excluding gold.
Figure 8. Money supply index for selected developing ESCAP economies, 2006-2007 (2006M1 = 100)
140 130
Index
120 110 100 90
China
India
Republic of Korea
Indonesia
Malaysia
Philippines
Singapore
Thailand
Sources: IMF, International Financial Statistics (CD-ROM) (Washington, D.C., 2007); and CEIC Data Company Ltd.
20
2007M6
2007M5
2007M4
2007M3
2007M2
2007M1
2006M12
2006M11
2006M10
2006M9
2006M8
2006M7
2006M6
2006M5
2006M4
2006M3
2006M2
2006M1
80
Increasing liquidity has led to growing inflation concerns in a number of countries as discussed above. China is witnessing its highest level of inflation in 10 years. India recently experienced inflation at a two-year high in January before aggressive tightening measures dampened prices. Other than general increases in consumer price inflation, liquidity has been funnelled into purchases of particular assets driving up their prices rapidly. Some asset prices may be considered unrealistic in view of underlying valuations. The priceearnings ratio for the equity market in China stands at 59 times 2007 earnings, by far the highest such ratio in Asia. India is the only country in the region where housing prices have risen faster than real incomes over the past four years.23 Major urban centres of India such as Bangalore and Mumbai have seen a doubling of housing prices in 2005 and 2006. Viet Nam has recently witnessed dramatic increases in equity and property prices. The Republic of Korea has also seen a substantial rise in property prices in some urban areas. Managing currency appreciation has also led to fiscal costs for Governments.24 Foreign exchange reserves have been invested mainly in low-yielding United States government bonds. In terms of liabilities, Governments have had to pay higher rates of interest on the bonds that they have issued for the purpose of monetary sterilization. The result has been significant costs for central banks throughout the region. The level of impact varies across countries depending on the spread between local and United States interest rates. It has been estimated that India, which has comparatively high interest rates, would face a cost in fiscal year 2007 of 2 per cent of GDP.25 Another cost has been the loss in the capital value of foreign reserve holdings as the value of the dollar has steadily declined over the year. For example, China currently would suffer a capital loss on its reserves of around $50 billion as a result of a 5 per cent dollar depreciation.26
23
The Economist “Home truths”, 5 July 2007.
24
For a background discussion on this issue, see pp. 24-26, Key Economic Developments and Prospects in the Asia and the Pacific Region 2006 (United Nations publication, Sales No. E.06.II.F.3).
25
ABN AMRO India, “Does sterilization cost affect monetary instrument choice?”, The Knowledge Series, April 2007.
26
Calculation based on foreign exchange reserves of $1,479 billion in June 2007, with roughly 70 per cent held in United States dollars, according to estimates.
“
Managing currency appreciation has led to fiscal costs for Governments
”
21
III. 2008 FORECAST – DOMESTIC DEMAND CUSHIONS BLOW TO GROWTH Developing countries in the ESCAP region are expected to see a moderate slowdown in economic growth, from 8.2 per cent in 2007 to 7.8 per cent in 2008 (see figure 9). The region is expected to face a difficult external environment, with a slowdown in the United States economy and continued appreciation of regional currencies. Japan is forecast to grow at a lower rate in 2008, as its export sector and export-related investments suffer from a slowing United States economy. However, continued strong growth in China and buoyant commodity prices are expected to generate export opportunities for economies in the region. Strong domestic demand would be an added support, both through consumption in fast-growing countries and fiscal policy accommodation. The strong fiscal position of nearly all countries in the region is likely to enable accommodative policies in response to external-sector weakness in coming months. China is expected to see a moderate decrease in GDP growth in 2008 owing to a slowdown in export markets and the continued efforts by the government to cool the economy. Domestic demand is expected to play an increasingly
Figure 9. Real GDP growth forecast for selected developing economies in the ESCAP region, 2007-2008 China Hong Kong, China India Indonesia Malaysia Pakistan Philippines Republic of Korea Russian Federation Singapore Taiwan Province of China Thailand Developing ESCAP economies 0
2
4
6
8
10
12
14
Percentage 2007 Source:
2008
ESCAP forecast.
Note: Thirty-eight developing economies (including the Central Asian countries), comprise developing ESCAP economies, and calculations are based on the weighted average of GDP figures in 2004 United States dollars (at 2000 prices).
22
important role, as the Government increases its spending in rural areas and social sectors. Investment would continue to be the main demand component of growth, as policy measures to rein in spending in overheating sectors face obstacles as a result of buoyant liquidity. India is forecast to maintain its dynamic growth in 2008, with the country remaining largely insulated from weakness in the global economy. Investment in the booming manufacturing and services sectors will remain the main driver of GDP growth. Private consumption is expected to remain healthy as the rural economy will have benefited from a reasonable monsoon season in 2007. Government spending is likely to be high in 2008 owing to a number of demands on the exchequer, including a public-sector wage increase based on the decision of the Sixth Central Pay Commission in April 2008. The previous such Commission in 1997 authorized an increase of 31 per cent in base salaries of public sector workers. The Russian Federation is expected to see a slower but still high rate of growth next year, with the economy continuing to benefit from high international energy prices. Exports will therefore remain strong, as will consumption. Manufacturing and services are projected to expand strongly to feed growing domestic demand. Nevertheless, energy exports are also leading to some difficulty for the economy. Real appreciation of the currency may affect other export sectors while imports increase. The Republic of Korea is forecast to display unchanged GDP growth in 2008. While exports will be affected by the United States slowdown, the important Chinese market will continue to offer opportunities. Exporters will also benefit from the implementation of the free trade agreement with the United States in 2008, subject to ratification by the United States Congress. Private consumption will continue to strongly support GDP, as confidence remains high owing to the lowest levels of unemployment in a decade.
“
India is forecast to maintain its dynamic growth in 2008, with the country remaining largely insulated from weakness in the global economy
”
South-East Asian countries, except for Thailand, Malaysia and Lao People’s Democratic Republic are expected to witness slowing or relatively unchanged GDP growth rates. Because most are highly export-dependent economies, weak United States demand will reduce the contribution of their exports to overall growth. Nevertheless, countries are expected to see increased contributions from domestic demand, through both consumption and investment. Indonesia is expected to see strong investment due to lower interest rates, the country’s new investment law and government infrastructure-spending plans. The Philippines is expected to see robust private consumption as a result of booming remittances. Consumption in Singapore is likely to remain high as a result of rising wages, high property prices and low unemployment. Thailand is expected to experience a significant increase in GDP growth following the elections scheduled to be held at the end of 2007. Growth will stem from increased consumption and investment, following a boost in consumer and business confidence. The new Government may also be expected to pursue a relatively expansionary fiscal policy, thus increasing both investment and consumption by the public sector.
23
Cautious monetary policy
“
Inflation rates in the region are expected to remain high under pressure from oil and food prices. Economies in South-East Asia and the Republic of Korea are expected to see a faster rate of price increase (see figure 10). Monetary policy in the region is likely to remain fairly neutral. On the one hand, there is a requirement for restrictive policies to counter increasing inflationary pressures. On the other, there is a need for relatively permissive monetary policy in order to manage any significant slowdown in GDP growth as a result of externalsector difficulties. Monetary policy in India and China is expected to remain cautious as the countries continue to manage the threat of overheating domestic demand in their economies.
Downward pressure on exports will come from continued exchange rate appreciation against major trading partners
”
Countries throughout the region are expected to experience lower current account balances in 2008 due to weakness in merchandise exports (see figure 11). One factor will be the economic slowdown in the United States and lack of demand support from other non-Asian markets. Downward pressure on exports will also come from the continued exchange rate appreciation in countries of the region against major trading partners. Commodity exporters will be relatively shielded from deterioration in export growth, although some commodity prices may ease from their high levels in 2007. Indonesia and the Philippines will continue to receive support for their current account balances from the booming remittances of their overseas workers.
Figure 10. Consumer price inflation for selected developing economies in the ESCAP region, 2007-2008 China Hong Kong, China India Indonesia Malaysia Pakistan Philippines Republic of Korea Russian Federation Singapore Taiwan Province of China Thailand Developing ESCAP economies 0
1
2
3
4
5
6
7
8
9
10
Percentage 2007 Source:
2008
ESCAP forecast.
Note: Thirty-eight developing economies (including the Central Asian countries), comprise developing ESCAP economies, and calculations are based on the weighted average of GDP figures in 2004 United States dollars (at 2000 prices).
24
Figure 11. Current account balance for selected developing economies in the ESCAP region, 2007-2008 China Hong Kong, China India Indonesia Malaysia Pakistan Philippines Republic of Korea Russian Federation Singapore Taiwan Province of China Thailand Emerging Asia – 10
–5
0
5
10
15
20
25
30
Percentage of GDP 2007 Source: Note:
2008
ESCAP forecast.
Emerging Asia comprises the 12 economies listed in the figure.
Coping with a United States slowdown The major downside risk to the forecast for 2008 emanates from outside the region: the possible effect of spillovers from the downturn in the United States housing market. The broader effect on the real sector of the housing market weakness largely remains to be played out. The scale of losses in the subprime sector is expected to increase considerably in coming months. The subprime market difficulties could be a possible harbinger of larger debt problems in the housing market. Subprime borrowers are naturally the first to be affected as they comprise the most vulnerable section of society. Defaults may therefore be set to spread on a significant scale to more creditworthy borrowers over the next few months. One pressure point will occur when subprime and other borrowers see their mortgage interest payments on variable rate loans revalued at the end of 2007. However, the uncertainty over subprime mortgages could continue for up to two years as the stock of existing loans continues to reset at higher rates. Tighter lending conditions and greater difficulty in obtaining new loans since the subprime crisis broke, such as through mortgage refinancing and home equity lending, will lead to further reduced demand for housing. The resulting slowdown in United States growth could cause further problems for credit markets and financial institutions. Such a situation could occur as a consequence of an increase in defaults on segments of consumer debt and corporate loans, also affecting another set of financial products known as credit default swaps.
“
The broader effect on the real sector of the United States housing market weakness largely remains to be played out
”
The widespread decline in the value of housing assets and tighter credit conditions would lead to a reduction in consumer spending and imports. The
25
United States slowdown to date has been notable for affecting mainly residential investment, while consumption has held up reasonably well. The resulting slowdown in growth would lead to further downward pressure on United States interest rates to stimulate the economy. Consequently, the value of the dollar would fall further. Asia-Pacific economies would thus face a situation in which the prices of their exports to the United States would be higher and the demand for their products would be lower owing to declining consumption in that country. Economies in the Asia-Pacific region remain highly reliant on exports, both directly and indirectly through supplying intermediate inputs for Chinese exports. Dependence on exports is greater for all economies than in the pre-1997 crisis era, except for Indonesia and the Philippines. Nevertheless, over the last few years the dependence of the region on the United States market has decreased somewhat. Europe now receives about the same share of exports (16 per cent) from Asian countries (except Japan) as does the United States. Recently China has seen some signs of redirection in its exports, with sales to Europe in July and August having been larger than those to the United States. Exports by China to Europe increased by 31 per cent in the first eight months of 2007.27 However, increasing diversification of Asia’s exports may not help to offset the slowing growth in the United States. Japan and the European Union have not displayed signs of developing into alternative growth drivers for the Asia-Pacific region. Japan registered negative GDP growth in the second quarter of 2007 and European Union GDP growth in the second quarter was the lowest since the end of 2004.
27
26
Morgan Stanley Global Economic Forum, “The decoupling debate”, 4 September 2007.
_________________________________________________________________
READERSHIP SURVEY The Poverty and Development Division of ESCAP is undertaking an evaluation of the publication, Key Economic Developments and Prospects in the Asia-Pacific Region 2008, with a view to making future issues more useful for our readers. We would appreciate it if you could complete this questionnaire and return it at your earliest convenience to: Director Poverty and Development Division ESCAP, United Nations Building Rajadamnern Nok Avenue Bangkok 10200, THAILAND
QUESTIONNAIRE
1.
Excellent
Very good
Average
Poor
4 4 4 4 4 4
3 3 3 3 3 3
2 2 2 2 2 2
1 1 1 1 1 1
4 4 4 4 4
3 3 3 3 3
2 2 2 2 2
1 1 1 1 1
Please indicate your assessment of the quality
of the publication with regard to:
• • • • • • 2.
How useful is the publication for your work?
• • • • • 3.
Presentation/format Readability Timeliness of information Coverage of subject matter Analytical rigour Overall quality Provision of information Clarification of issues Its findings Policy suggestions Overall usefulness
Please give examples of how this publication has contributed to your work: .................................................................................................................................................................... .................................................................................................................................................................... ....................................................................................................................................................................
4.
Suggestions for improving the publication: .................................................................................................................................................................... .................................................................................................................................................................... ....................................................................................................................................................................
5.
Your background information, please: Name: ........................................................................................................................................................ Title/position: ............................................................................................................................................. Institution: .................................................................................................................................................. Office address: .........................................................................................................................................
Please use additional sheets of paper, if required, to answer the questions. Thank you for your kind cooperation in completing this questionnaire.
27
