International | Sep 15 2009
By Andrew Nelson
While they were hit the hardest early in the GFC, emerging markets are starting to recover despite the continued weakness in more developed markets and Asia is out in front of the pack. It is Asia’s return to form that has provided a crucial boost to global industrial activity, as well as acting as the main driver of the recent strength in commodity prices.
Asia’s resurgence has been driven by easier international financial conditions, the benefit of the strong policy response from Asian governments and a sharp decline in inflation. And while China has performed as many had been hoping, Asia outside China has come fast and strong as well. This fact is borne out by Q2 2009 GDP data from across the region and it has surprised analysts at Danske Bank.
GDP in Asia as a whole increased 3.5% in Q2 following 1% contraction in the previous quarter. In China, GDP growth ramped up sharply to 4.3% from just 1% in the preceeding quarter according to estimates from Danske. But the big surprise has been the strength of the recovery outside China, with South Korea, Taiwan, Singapore and Hong Kong as a group posting 4.2% GDP growth in Q2, while Indonesia, Thailand and the Philippines as a whole recorded a respectable 2.5% increase.
There’s no denying that China has been an important driver of the recovery in Asia. Import volumes in Q2 jumped 16% on the preceding quarter because of a big pick up in investment and private consumption coupled with some restocking by Chinese companies, which has in turn driven the recent export recovery across Asia.
But domestic demand has been just as important in turning the rest of Asia as well, with both private consumption and investment recovering across the region in Q2, while import volumes have increased just as fast. Danske points out an important fact; the countries mentioned above make up about 70% of China’s GDP, leading the team to say that these economies are playing just as important of a role in stabilising the global economy.
The big question is: can these emerging Asian markets continue acting as a major driver of the global economy?
Danske sees a possible issue that could undermine an Asia led global recovery. Namely, the impact of what has been a massive amount of fiscal stimulus will naturally start to wane as governments start to trim back the amount of support they are giving to their respective economies. The risk here is that what has been done so far, and continues to be done in an ever decreasing manner, wont be enough to kick-start the respective economies sufficiently to drive private demand to the point that growth can be maintained.
Yet, the team from Danske already see this risk abating. They note that in China, it was public investment that stabilised the economy in Q408 and Q109 after private investment dissapeared. But in Q2 this year, the strong growth appears to be be mainly driven by the sharp turnaround in private investment. So it seems that dad has stopped pushing the bike and consumers are already steering and peddling on their own.
In fact, unlike the US, Europe and Japan, the output-gap in Asia has actually not increased very much in Asia, and this is especially so in China, India and Indonesia. With the team expecting that growth in China will likely exceed 8% this year, and with countries like South Korea, Thailand and Taiwan seeing quickly increasing levels of industrial production, it looks like they will be back to pre-GFC levels sooner, rather than later.
However, this raises the risk that Asian governments might over-cook current monetary and fiscal easing. The team from Danske note that while year-on-year inflation is negative in many Asian countries (excluding Japan), it sees little if any risk of emerging Asia being pushed into what would be a very destructive deflationary spiral. Month-on-month consumer prices have once again begun to tick higher, leading the team to think that at least in the major economies like China, India and Indonesia, there will likely be some healthy positive inflation rates next year.
While this is good news from a global economic standpoint, it will probably make it difficult for policy-makers in Asia to decide when to step on the accelerator and when to hit the brakes. Danske points out there are already signs emerging in China that growth is starting to slow again. On the Danish bank’s reckoning, this could accelerate if exports do not recover substantially by Q4. This means that while overall growth would probably remain healthy, the boost from Asia would probably lessen a little in Q4.
Still, with growth likely to remain at somewhat healthy levels, with the output gap closing and with inflation probably returning to positive territory next year, Danske believes the policy focus in Asia next year will shift from maximising overall growth to locking in and ensuring sustainable growth. And this, thinks the team, will make it much more difficult for Asia to maintain its status as the “saviour of the world”.
As such, Danske sees the central banks in Asia leading the monetary tightening cycle, with China, India, South Korea and Taiwan emerging as the obvious candidates for early tightening, which could be as soon as early as Q1 2010, making a very strong appreciation case for Asian currencies. However, old habits die hard, says Danske, who notes that several Asian central banks have already started to intervene in their FX markets to prevent their currencies from getting too strong, too fast.
Allowing their currencies to appreciate will lend significant help to the global rebalancing that the bank is hoping for. Stronger Asian currencies could also help improve, at least temporarily, the inflation/domestic demand trade-off for Asian countries, which would again make a recovery in Asia more likely to drive global growth in the coming years. A stronger global economy also means stronger Asian economies.
This last belief has Dankse predicting that China will allow at least a gradual appreciation of the yuan against the US dollar at some point next year, but only when that country’s leaders feel confident enough about global growth to re-focus on inflation. Why? Because with only a modest output-gap, a very weak US dollar is still a major problem.
