Asia Pacific: Economic Review February 2011
Thomas White International
Asia Pacific: Economic Review February 2011
Asian economies recorded some of their best performance for the full year 2010. In particular, Southeast Asian nations witnessed a banner year, clocking their best performance in recent memory. However, although the full year record was exemplary, growth in the final months of 2010 began to cool off. This was clearly evident when examining the slower pace of growth in almost all Asian economies in the fourth quarter compared to the third. While a rising currency continued to trouble export-based economies, inflation haunted almost all central banks in the region. Central banks, having to choose between raising interest rates and attracting foreign capital, opted to hike rates. With the exception of the Philippines, all major Asian economies increased interest rates from the lows of 2009. In fact, many of them had started raising them well over a year ago. In an attempt to mollify exporters, who become unnerved with the currency appreciation that accompanies interest rate rises, some central banks resorted to capital control initiatives. However, such measures have largely failed to curb the rise of currencies.
At a Glance
- Japan: Exports slow in the wake of higher inflation in China, Japan’s major trading partner. Rating agencies lower debt quality, citing lack of clear policies to address the country’s debt position.
- China: Rising inflation bites consumers even as the Middle Kingdom continues to face criticism from G20 countries over its currency policy.
- India: The annual budget promises reforms in social sector spending even as inflation and subsequent interest rates cast a shadow over strong economic growth.
- South Korea: Concern over currency appreciation trumps inflation worries, preventing an interest rate hike.
- Australia: The central bank is not yet convinced that reconstruction efforts could stoke inflation over the next couple of months.
- Malaysia: Bumper palm oil and rubber production, in the wake of higher prices of such commodities, will likely give the economy a shot in the arm.
- Indonesia: Investment-led growth to boost an economy traditionally powered by consumption.
Sputtering exports and political gridlock paint a cloudy picture
Japan’s economy, greatly dependent on exports, surprised the markets with a trade deficit for the month of January. Japan’s export machinery was humming over the last six of months of 2010, thanks to robust demand for the country’s products such as high tech precision equipment and cars. The past year was particularly good for Japanese exports, rising 24.4 percent to $809 billion. It was also the first year-over-year rise in exports in three years. In fact, in early February, Japan’s central bank, the Bank of Japan, projected a rosy picture of the economy, with the view that exports will lift the country’s output. However, the enthusiasm was dampened by January’s trade deficit figure of $5.7 billion, the first in nearly 22 months.
The deficit was due to slowing exports to one Japan’s largest trading partners, China. The Middle Kingdom, which is battling inflation, imported much less than expected and as a result Japan’s exports grew just 1.4 percent, much below the expected 7 percent. Although the slowdown at first was viewed as temporary, the rise in oil prices now could make the slump prolonged for the majority of Japan’s trading partners. This paints a cloudy picture for Japan’s exports for the next couple of months.
The domestic situation in Japan too is unforgiving. The country’s government is among the most heavily indebted in the world, with debt amounting to over 200 percent of the country’s GDP. Its population is rapidly aging, putting ever more pressure on the country’s finances. However, Japan’s political parties are in a quandary when it comes to addressing the uncomfortable truth. Already the country has had four prime ministers in a period of five years. Although the current Prime Minister of Japan, Naoto Kan, has come up with some hard-hitting solutions to improve the fiscal situation, such as raising the sales tax and bringing in reforms to the farm sector, his policies face stiff resistance from the country’s law makers. The Prime minister also lacks absolute support among his own party for these policies. Consequently, the possibility of his resignation and even an election in Japan cannot be ruled out.
The situation, however, is costing Japan its debt rating. While S&P downgraded Japan’s debt from AA to AA- in January, Moody’s announced that it was cutting the outlook on Japan’s bond rating from stable to negative, primarily due to the nation’s dearth of political will to come up with a solution for the pressing deficit problem. Moody’s noted that although the Japanese economy and markets have the mettle to withstand the deficit problem, it is the lack of policy that has prompted the cut in the outlook.
Battling inflation and bringing property market to ground
China embarked on a series of measures to attack persistent inflation and an overheating property market. The country’s central bank, People’s Bank of China (PBC), raised the bank reserve requirement ratio for the second time this year by a 0.5 percentage point. As a result, bank reserve ratios climbed to 20 percent in mid-February, one of the highest in the world.
Earlier in the month, the bank also raised the benchmark lending rate to 6.06 percent from 5.81 percent. This was the second such raise in the current year. PBC started hiking its benchmark lending rates after a three-year hiatus in October 2010. Throughout this period, the Bank took an accommodative monetary policy stance, in hopes of healing an economy that was hurt by the global financial crisis.
The newfound hawkishness from the Middle Kingdom takes a direct aim at stubbornly high inflation that reportedly rose 4.9 percent in January. Although the spike in inflation was not as high as the 5.1 percent rise in November 2010, a 28-month high, it was still outside the comfort zone of 4 percent.
But the fight between Chinese authorities and inflation is likely to continue for some time as inflation is being powered by supply constraints. For instance, as of mid-January, political upheaval in Egypt and protests in Libya had pushed oil prices to over $110 a barrel and diesel and gasoline prices have become dearer by 4.1 percent and 4.5 percent in mid-February. Making matters worse, Shandong, a major wheat growing province in China is experiencing a severe rainfall shortage, which could push food prices up. In all, further interest rate increases may be in the cards for China.
Persistent inflation also seems to be taking a toll on China’s manufacturing sector. The HSBC preliminary Purchasing Managers’ Index, a gauge of nationwide manufacturing activity, dropped to 51.5 in February from 54.5 in January, primarily due to a rise in both input and output costs. This is the first such fall in over the last seven months.
China is also watching its sensitive real estate markets with great concern, as construction accounts for a fourth of its economy. In order to cool the property sector, the country seems to be dabbling with the idea of a property tax along with a hike in the down payment buyers must make for second homes. The property tax was introduced in the two cities of Chongqing and Shanghai on a trial basis. However, rather fearful of antagonizing its active middle class, the property rates have been pegged at an annual rate of around 0.4-0.6 percent of the property’ value in Chongqing and 0.5-1.2 percent in Shanghai. These rates are quite low and are expected to be of little help in handling the fast-paced growth in the property markets.
In other developments, the West continued to pound China on its currency policy. In a mid-February meeting of finance ministers and central bankers of G20 countries in Paris, a consensus was reached to start devising tools that would help address the issue of a global trade imbalance. Even countries like Brazil and India, which have been reluctant to criticize China’s currency policy thus far, sided with the West this time. The main reason for this initiative is the growing belief that the root cause for the financial crisis of 2008 lay in the global trade imbalance arising from China. Such tools would monitor deficit levels, savings rates and trade imbalances. In turn, this information will serve Western economies who seek to put pressure on China over controlling its currency.
On the other hand, if China’s inflation persists around 4-6 percent developed economies could benefit, at least for the time being. The specter of inflation could pressure China into allowing its currency to appreciate, which would make exports pricey and bring down global imbalances.
Fiscal deficit and inflation could play spoilsport
India’s red-hot economy, which expanded 8.2 percent in the fourth quarter, faces two significant hurdles- inflation and the fiscal deficit. Sooner than later, both these problems could make life difficult for the world’s second most populous country. Finalized in late February, India’s budget, an annual affair, provides some clues on the country’s fiscal deficit woes.
India’s fiscal deficit reached nearly 5.1 percent for the past year compared to a targeted 5.5 percent. Although this seems positive at first sight, a lower fiscal deficit was achieved primarily from the money that the government was due after the auctioning of 3rd generation spectrum to the telecom industry, and less due to a cut in wasteful spending. Nonetheless, the government is realizing that increased social sector spending is burning a hole in its finances. Although the Indian government has allocated more for social sector spending, it is trying to devise a better mechanism to deliver these social benefits. Instead of its past method of subsidizing a number of products, which fuels corruption and theft of resources, the government believes the direct transfer of cash to its poor citizens would serve the purpose better. The government also believes that the new mechanism will reduce the burden on its own finances.
On the other hand, inflation is likely to continue to haunt the country. India, which imports almost 80 percent of the oil that it uses, is especially vulnerable. Further, the failure to revoke some of the fiscal stimulus measures, such as excise duty cuts that were instituted during the global slowdown of 2008, is likely to fuel more consumption. In turn, this may push up inflation.
One more worrying trend for the India economy is its waning competitiveness in attracting foreign direct investment (FDI) when compared to other Asian economies. India’s FDI had declined 22 percent in 2010 compared to 2009 levels. It was also the second year of decline in FDI for India. While a part of the slowdown in investment is attributed to the global slowdown resulting from the financial crisis, most other Asian economies started attracting increased direct investment in 2010.
Central Bank does a balancing act
Boosted by strong exports and buoyant consumer spending, South Korea’s GDP expanded by over 6.1 percent for 2010, the country’s fastest pace of expansion since 2002. However, the pace of the expansion seems to have slowed. Although the economy grew 0.5 percent for the fourth quarter, the growth was slower than the 0.7 percent experienced during the third quarter. This slowing growth can be partially blamed on a decline in corporate investments, which dropped 3 percent in the fourth quarter compared to the previous quarter, their lowest level in nearly two years.
Steadily climbing inflation seems to be the culprit behind the slowing investments. Inflation jumped from 3.5 percent in December to over 4.1 percent in January this year, a figure that is outside the Bank of Korea’s comfort zone of 2-4 percent. This, coupled with a fall in consumer confidence for the second consecutive month in January, prompted the central bank to hike interest rates the first month of the year. Throughout 2010, the central bank raised interest rates thrice, from a record low of 2 percent two years ago to the current rate of 2.75 percent. However, contrary to market expectations and despite a “war on inflation” decry from the country’s president Lee Myung Bak, the central bank left interest rates unchanged in its February policy meeting. This was partly due to the fear that hiking interest rates would attract strong capital inflows, and in turn make the currency stronger.
A stronger currency would make Korean exports, which account for nearly one half of the country’s economy, more expensive, and this would likely undermine overall growth. Even though exports rose 46 percent in January from the year-ago period, China, the country’s largest trading partner, is expected to import less in the coming months. South Korea has already started witnessing a narrowing current account surplus. And with oil prices shooting up, the country should experience a further fall in its surplus.
Australia and New Zealand:
Natural calamities rob off growth
Australia’s economy, which was ravaged by floods in January, experienced more trouble from forest fires in Western Australia in February. The two natural disasters put together are expected to wipe away nearly 1.5 percentage points of growth off Australia’s economy from the fourth quarter of 2010 and the first quarter of this year, according to National Australia Bank.
Nevertheless, Australia’s central bank, Reserve Bank of Australia, estimates a strong recovery starting from the second quarter of 2011, as coal production picks up steam and reconstruction efforts gain momentum. Consequently, the central bank raised its GDP forecast to 4.25 percent in February, from its earlier estimates of 3.75 percent.
Although inflation remained around 3.6 percent in February, the central bank announced that it would not raise interest rates from the current 4.75 percent, believing that reconstruction spending in the flood-hit Queensland region will not stoke inflation. Further interest rates hikes are not anticipated before June this year.
But this reasoning might change in the immediate future. Australian employers added 24,000 more employees for the month of January in contrast to a forecast figure of 17,000. The flood-hit Queensland region seems to have lost fewer jobs than expected. Further, a number of banks feel that the country’s unemployment figure will fall below 5 percent in the coming weeks. Further decreases in the jobless figures could stoke wage inflation and trigger an interest rate rise.
However, the central bank’s reluctance to raise interest rates in the past few months may be aiding the country’s manufacturing and export segments by preventing a further rise in the value of the Australian dollar. The interest rate differentials between major countries such as Australia and the U.S. has widened significantly over the last two years. Consequently, the value of Australia’s currency has matched that of the U.S. and hampered the non-resource intensive manufacturing industry.
Meanwhile, New Zealand suffered its worst earthquake in nearly 80 years. The cost of rebuilding Christchurch, the city that bore the brunt of the calamity, is expected to cost nearly $15 billion. With this, the country’s GDP growth is forecasted to slow in the first half of 2011.
However, the fundamentals of the country’s economy seem to be intact. New Zealand’s export industry could benefit handsomely as the global demand for food and dairy products is zooming. Furthermore, the country’s banks appear willing to finance the rebuilding of the devastated cities as well. This, along with strong tax receipts and the upcoming sporting events that the country will host, should help New Zealand’s economy.
Indonesia and Philippines:
Indonesia records investments to help diversify economy; Philippines inflation still under control
Indonesia’s economy expanded over 6.9 percent during the fourth quarter of 2010. The country, driven more by private consumption and less dependent on exports than some of its neighbors, has started attracting new investments as well. For the full year 2010, Indonesia’s GDP grew 6.1 percent, with consumption contributing 2.7 percent and investments representing 2.0 percent. Consumer confidence too has risen substantially over the past one and a half years, touching 113.9 this January, the highest since August 2009.
Nonetheless, inflation is skyrocketing, threatening to undermine the strong growth achieved over the past two years. For the month of January 2011, consumer prices hit a 22-month high of over 7.02 percent from 6.96 percent in December. This was partly because Indonesia was one of the last countries to raise interest rates. Until recently, the Bank of Indonesia, the country’s central bank, was largely in favor of using an accommodative monetary policy to improve the country’s employment figures. However, with inflation expectations gathering momentum, the bank raised interest rates in February by 25 basis points to 6.75 percent. This was the first interest rate hike in the past two and a half years. But interest rate increases are expected to continue throughout the year with rates forecast to touch 8 percent by the end of 2011.
Meanwhile, political stability in Indonesia and a low debt to GDP ratio have made the country one of the largest destinations for FDI in Southeast Asia. Recognizing the country’s potential, rating agencies have raised the country’s investment rating. In January, Moody’s raised Indonesia’s debt rating to the highest level since the 1997 Asian currency crisis, while Fitch, another rating agency, upgraded Indonesia’s debt to BB+, just a step below the investment grade. When it comes to investment, this puts Indonesia in the same league as other emerging countries such as Brazil and Turkey.
Even before the ratings upgrade, Indonesia had already been attracting huge investments. India, in particular, has emerged a strong investor in Indonesia and the two countries finalized deals worth $15 billion last month, to improve infrastructure covering ports and air terminals. With Indonesia planning to seek bids for around 50 oil and gas exploration blocks, the country’s energy output too could rise in the medium term.
Meanwhile, in the Philippines, the economy accelerated, riding on strong growth in business and consumer spending. While the fourth quarter GDP growth was clocked at 7.1 percent, the annual growth rate touched 7.3 percent in 2010. This is the fastest pace of growth since 1976, when Ferdinand Marcos was Philippines’s president. Despite the robust growth, Bangko Sentral ng Pilipinas, the country’s central bank, has been reluctant to raise interest rates, while every other country in the region has done so. As recently as February 10, the Bank ruled out an interest rate hike, pointing out that inflation was well within the mandated limit of 3-5 percent.
Rising interest rates and political problems sour investment climate
In line with the growth trends across the Asia-Pacific economies, Thailand’s economy registered substantial growth for the year 2010. For the full year, the country’s GDP grew 7.8 percent, the fastest pace in nearly 15 years. However, the expansion through the year was quiet uneven. Although the growth in the December quarter reached 1.2 percent, the September quarter witnessed a technical recession, primarily due to the political unrest that soured the investment climate.
The growth in the December quarter was powered by a 3.8 percent rise in private consumption, a 4.8 percent gain in manufacturing, and a 6.4 percent jump in total investments. However, the sustained growth in the economy was accompanied by higher prices, and this has forced the country’s central bank to raise interest rates four times in the last nine months up to around 2.25 percent.
For the current year, the economy is expected to expand 4.6 percent, on the back of contributions from private consumption and agriculture. However, compared to some of its neighbors, Thailand’s economy still remains subject to considerable political risk. The political turmoil resulting from allegations of corruption in the 2007 general election continues to disrupt the normal functioning of the country’s capital. Such protests have claimed nearly 100 lives over the past three years. The country’s sitting Prime Minister Abhisit Vejjajiva has called for an election in June this year to put an end to demonstrations that have challenged his authority. However, in a populist move, the Prime Minister has doled out a number of subsidies before calling for an election. This will likely make the central bank’s job of controlling prices tougher.
Worries over relentless rise in property prices
Although Hong Kong’s economy has expanded by over 6.2 percent during the fourth quarter of last year, worries loom over the return of inflation. Hong Kong’s currency is pegged to that of the U.S. dollar, and indirectly depends on the monetary policy set by the U.S. As such, property prices in Hong Kong have soared, with interest rates in the U.S. so low over the past years. In fact, according to a London-based property broker, home prices in Hong Kong are 55 percent higher than in London, making Hong Kong the most expensive place to buy property.
As well, Chinese investors have poured money into Hong Kong’s property sector in recent times, pushing up property prices to new heights. Property prices in Hong Kong, which hit a low in early 2009 due to the financial crisis, have risen 60 percent since then, in an impressive comeback. Currently, the Hang Seng Property Index, which tracks the country’s largest property developers, is up 76 percent from the bottom of the market in 2009. A number of land brokers estimate that property prices can only head north in the next 18 months.
However, skyrocketing property prices are a cause of worry for the central bank as they stoke inflation. Donald Tsang, Hong Kong’s chief executive, has pledged to make at least 20,000 housing units available to cool down property prices. Hong Kong’s economy is anticipated to expand 4-5 percent in 2011, while inflation is expected to linger around 5 percent.
Malaysia and Singapore:
Rising commodity prices buoy Malaysian economy; Singapore expands on growth in trade & tourism
Malaysia’s GDP expanded 7.2 percent for the year 2010, marking an end to an eventful year of robust growth in domestic consumption and investment. Emerging from the financial crisis of 2008, Malaysia completed five continuous quarters of expansion, clocking 4.8 percent growth in December. Further, 2010’s growth was the fastest in over a decade.
However, the strong growth in the economy has the country’s central bank, Bank Negara concerned over inflation. In December 2010, inflation touched 2.2 percent, a 22 month high. Malaysia was one of the first countries to raise interest rates in South East Asia. Between March and July 2010, interest rates in Malaysia were increased by 0.75 percentage points to 2.75 percent, and left untouched since then. With inflationary pressures gaining momentum again, Bank Negara could hike interest rates in its next policy meeting in May this year.
Encouragingly, investment and exports are widely expected to help the country achieve growth of around 6 percent in 2011. A bumper palm oil output projected at around 17.6 million in 2011, a tad lower than the record output of 2008, will likely boost exports. Moreover, given the fact that prices of commodities such as rubber and palm are surging, Malaysia stands to be one of the largest gainers.
On the investment front, Malaysia’s government announced an economic transformation project in 2010, which encourages infrastructure projects such as rail transportation systems and nuclear power plants at the cost of $444 billion. The project already had unleashed an investment-led growth in Malaysia last year, when newly approved factory investments grew 45 percent in 2010 and manufacturing capacity expanded 13.5 percent. The 2011 installments are expected to help keep the momentum of growth.
Singapore’s economy zoomed at the rate of 14.5 percent in 2010, the country’s fastest pace of growth since independence in 1965. Almost all parts of the economy shot up as tourism grew on the strength of new casinos, exports surged on the back of the pharmaceuticals and electronics segments, and personal consumption jumped on higher wages. However, such fast-past expansion has given rise to concerns over whether the island’s economy is operating above potential.
With this, inflation seems to be rearing its ugly head. The Singapore government has now raised the average inflation forecast for 2011 to around 4 percent, even though it may hover around 5-6 percent for the first few months of 2011. The government also tempered growth expectations, forecasting a 4-6 percent rise in GDP for 2011, albeit with some upside potential.
With Singaporeans heading for the election ballots in 2012, inflation along with immigration are expected to be the key issues facing the government. The government, backed by a huge budget surplus, is facing both issues head-on. In mid-February, the government announced that it will spend nearly S$6.6billion ($5.2 billion) in one-time tax cuts and cash hand-outs. According to the government, the plan will help lower and middle income households adjust to the rising lifestyle costs. Further, to reduce its dependency on immigrant labor, the government also said it will invest substantially in technological advancement to raise productivity.
Singapore is one of those few economies that officially uses exchange rates rather than interest rates as a tool to address inflation. The Monetary Authority of Singapore said it will decide to strengthen its currency to address inflation in its April policy review. The Singapore dollar, which was the second best performing currency in Asia last year, is likely to strengthen further. Yet, a strengthening currency could curb the pace of the country’s exports. The government has forecasted a rise in exports of 10 percent for 2011, down from the 22 percent growth in 2010.
Sale of public companies to shore up the finance’s of an inflation-hit economy
Pakistan continued to face the wrath of rising inflation throughout January. Consumer prices have barely relented from the 17-month high of 15.7 percent reached in September last year. Although Pakistan’s central bank, State Bank of Pakistan, raised interest rates thrice since July 2010, it did not hike interest rates during its February meeting. Further, with inflationary pressures remaining high, the government withdrew a proposed plan to increase fuel prices. However, the failure to pass on fuel price rises is likely to weaken Government’s finances further. The country’s budget shortfall is likely to touch 8 percent of GDP for the fiscal ending June 2011, compared to 6.3 percent in the previous year. Pakistan’s GDP for the fiscal year is expected to rise by 2.5 percent.
In order to prevent a further deterioration in the country’s finances, Pakistan’s finance ministry said it will lower its bond sales. Instead the government plans to raise as much as $2 billion from selling its stake in companies such as National Bank of Pakistan, Habib Bank Ltd and Pakistan Petroleum Limited. The proceeds from the sale will be used to bring down the country’s budget deficit.
Strong exports and better relations with China brighten outlook
Taiwan’s economy zoomed 10.5 percent in 2010, powered by strong growth in exports. Taiwan, the traditional exporter of electronic components and peripheral components to major economies such as China and the U.S., continued to make gains throughout 2010. However, the fourth quarter of 2010 saw Taiwan’s growth cooling down to 6.5 percent from 9.8 percent in the prior quarter.
Taiwan increased interest rates thrice in 2010, and in March another rate hike by 125 basis points to 1.75 percent is anticipated. It is widely expected that Taiwan will end the year with an interest rate of 2.125 percent. However, as interest rates have climbed so have the capital inflows. The strong capital inflows have driven up the value of the Taiwanese dollar, an unsavory condition for the export-dependent economy. In the past six months alone, the Taiwanese dollar had appreciated over 10 percent with respect to the U.S. dollar, hampering exporters.
To prevent a surge in capital inflows which will push up the value of the currency, Taiwan had to devise certain controls last year. Since 2010, Taiwan has been restricting foreign investors from buying more than 30 percent of its government bond, which it issues periodically.
Nevertheless, Taiwan’s improving relations with China could spur both investments and trade. Both countries signed a deal to cut tariffs on as many as 800 goods. With an increase in cross-border flights and investments, Taiwan is likely to make significant gains. Interaction with China is largely expected to help Taiwan grow at a faster pace than some of its Southeast Asian counterparts such as Hong Kong, South Korea, and Singapore. Taiwan had largely lagged these economies over the last decade, mainly due to lack of investment.
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