- International Monetary Fund. Asia and Pacific Dept
- Published Date:
- May 2006
- Executive Summary
- I. Recent Developments and Outlook
- II. Financial Developments in Emerging Asia
- III. Macroeconomic Policy Issues
- IV. Asia’s External Imbalances
- V. Asia’s Investment Decline
- VI. Rebalancing Growth in China
- 1. The Revival of Japan
- 2. Australia and New Zealand: Developments and Outlook
- 3. The ASEAN-4 and the Electronics Cycle
- 4. The Impact of Oil on Growth
- 5. The Consumer Finance Boom: Is it A Problem?
- 6. Dealing With Avian Flu
- 7. The End of Quantitative Easing in Japan—Implications for the Yen Carry Trade in Emerging Asia
- 8. The Boom in Asian External Corporate Bonds
- 9. Regional Financial Integration Initiatives—An Update
- 10. Are Regional Trade Agreements in Asia Open or Closed Blocs?
- 11. Asia’s Investment Decline: Is it Real?
This Regional Economic Outlook was prepared by a team consisting of:
Ari Aisen, Jahangir Aziz, Robin Brooks, David Cowen (OAP), Susan Creane, Li Cui, Giovanni Dell’Ariccia, Joshua Felman, Charlie Kramer, Jacques Miniane, Christopher Morris (ICM), Andrea Richter Hume, Romuald Semblat, Nita Thacker, and Patrizia Tumbarello.
Kay Chung, Janice Lee, and Fritz Pierre-Louis provided research assistance, and Corinne Danklou and Livia Tolentino provided production assistance.
In this Regional Economic Outlook, the following groupings are employed:
- Emerging Asia refers to China, India, Hong Kong SAR, Korea, Singapore, Taiwan Province of China, Indonesia, Malaysia, the Philippines, and Thailand.
- Industrial Asia refers to Japan, Australia, and New Zealand.
- Asia refers to emerging Asia plus industrial Asia.
- Newly industrialized economies (NIEs) refers to Hong Kong SAR, Korea, Singapore, and Taiwan Province of China.
- ASEAN-4 refers to Indonesia, Malaysia, the Philippines, and Thailand.
- Low-income countries in Asia (LIAs) include Bangladesh, Cambodia, Lao P.D.R., Mongolia, Sri Lanka, Nepal, and Vietnam
The following abbreviations are used:
- SAAR refers to seasonally adjusted increase at an annual rate.
- y/y refers to a year-on-year increase.
- q/q refers to a quarter-on-quarter increase.
- The year 2006 is expected to be another good one for Asia. Growth for the region is forecast at 7 percent, the same as last year but higher than the 6 percent expected at the time of the August Asia-Pacific Regional Economic Outlook.
- Japan’s recovery continues apace, with domestic demand strengthening on the back of robust corporate investment and a firming labor market, which is stimulating household incomes and consumption.
- Meanwhile, economies in emerging Asia are benefiting from a surge in external demand for the region’s products, particularly electronics, which is expected to continue. And while domestic demand had long been tepid—China and India excepted—it has been gaining traction since early 2005.
- Asian economies could be affected by several global risks:
- High oil prices. Rising oil bills have so far had a moderate effect on Asia’s growth, but this may change going forward, especially as concerns about future supply—rather than unexpected increases in demand—have become the prime mover of prices.
- Tightening financial market conditions. Financial markets in the region will likely be tested as global liquidity conditions tighten. Although banking soundness in Asia has improved, banks in some countries have experienced rapid growth of credit to households, and close supervision is called for. Asia has also benefited from the run-up in emerging market equity prices and like other regions, could see price declines if foreign investors were to pull back amid a rise in global risk aversion. But these risks should generally be manageable, owing to the region’s improvements in fundamentals.
- Global current account imbalances. A disorderly unwinding of the imbalances that would cause a sharp slowdown in U.S. demand would have significant consequences for Asia, which remains dependent on external demand.
- Avian flu. The risk of a pandemic is the hardest to quantify but potentially the most devastating. The impact would depend partly on the quality of contingency plans, which remain largely untested.
- Inflation remains subdued, projected to average around 3 percent in 2006. However, the situation varies across the region, with price pressures being stronger in the ASEAN-4 countries. Even there, inflation should slow over the course of the year, as the influence of domestic oil price adjustments wanes and recent monetary tightening takes hold.
- External current account surpluses are diminishing in most countries, under the weight of growing oil import bills and, in some countries, stronger domestic demand. In emerging Asia excluding China the surplus is expected to fall to 2¾ percent of GDP this year, about half its 2004 level. In contrast, China’s current account surplus more than doubled last year as exports surged, reaching 7 percent of GDP, a level that is projected also for this year.
- At the same time, capital inflows have generally diminished, as the spread of Asian interest rates over U.S. rates has narrowed and expectations of renmimbi appreciation have waned. Accordingly, exchange rate appreciations and reserve accumulation have slowed. Looking ahead, inflows will depend on the extent to which these trends continue, and also on changes in the global financial environment, which could trigger a rise in risk premia on emerging market assets.
- In this environment, policymakers in emerging Asia are facing three main macroeconomic challenges. First, central banks need to deal with inflationary pressures arising from the surge in international oil prices, without endangering the recent improvements in domestic demand. Second, governments are trying to reduce their debts, while attempting to create the fiscal space needed to meet the costs of population aging and upgrading public infrastructure.
- Third, governments are trying to stimulate domestic demand, to support growth and reduce external imbalances. Over the past two years, they have allowed greater exchange rate flexibility, with some currencies such as the Korean won and the new Taiwan dollar appreciating particularly sharply, raising household purchasing power, and thereby stimulating consumption. China should utilize more fully the flexibility available under its new exchange rate arrangement, to promote more balanced and robust growth, and help deal with its large external imbalance.
- In emerging Asia (outside China), rebalancing demand will require an investment recovery. Investment fell by nearly 10 percent of GDP in the aftermath of the 1997 financial crisis and has not recovered since. In part, the fall was a reaction to the unsustainable boom (especially in construction) prior to 1997. But even taking this into account, the decline seems excessive. And nearly a decade later, the decline can no longer be blamed on transitional difficulties such as the need for corporations to restructure. Rather, there is some evidence that corporations are responding to an increase in risk, as export and output volatility have grown with the region’s shift in production toward advanced industries such as electronics.
- This evidence suggests that to bolster investment, reforms need to advance on two broad fronts. The financial sector needs to be developed further, to promote its ability to transfer risk from the corporate sector to the wider investing public. Also, the investment climate needs to be improved, to reduce uncertainty—and increase the rate of return on investment.
- In China, by contrast, a key issue is how to bolster consumption, which has fallen by more than 10 percentage points of GDP since 1980 to around 40 percent of GDP. Much of this decline reflects a fall in households’ disposable income (relative to GDP), since corporate profits have been rising but have not been transferred to households. In addition, households have maintained high rates of savings, in large part because they face growing uncertainties about the provision of their pensions, health care, and schooling.
- Resolving these problems will require macroeconomic policy changes and structural reforms that remove market distortions. In particular, consumption could be boosted through greater exchange rate flexibility and by a shift in budgetary spending towards social spending. Banking and financial market reforms will also help to increase consumption by expanding credit facilities, raising investment income and lowering precautionary savings.