January 6, 2016
The Economic Outlook for Asia 2016
Economic forecasting is a mug’s game. But here are a few generalizations about issues likely to impact Asia in the coming year.
The year 2016 begins not with a bang but with a whimper, to misquote the poet Eliot. It marks the end of two trends without signalling the beginning of a new one. For Asia as a whole this promises to be another dull but not disastrous year. It is one which also sees the formal beginning of the ASEAN Economic Community, a nice idea which faces challenges both from economic nationalism in the larger member countries and competition between China and the US overshadowing the multilateralism of the World Trade Organization.
Of the medium-term factors, first there is the ending – slowly – of the era of minimal interest rates, years when major central banks have attempted with modest success to use monetary easing rather than fiscal stimulus to spur economic growth in the wake of the 2008 financial crisis. Second is the ending of the steep decline in commodity prices seen over the past two years.
The two have conspired to bring about the decline of almost all Asian currencies against the dollar –including those such as China and South Korea that are net beneficiaries of commodity price declines. Indeed for Korea and Taiwan, terms-of-trade gains are being more than offset by weak demand for manufactures from the west, softer markets in China and now difficulties in commodity-dependent developing countries whose currencies have declined by large amounts.
The prospect of higher interest rates should scarcely be frightening given that in real terms they will remain at historically low levels. The dangers lurk however in certain markets such as Hong Kong property where rates have encouraged a bubble which now faces the added challenge of a currency pegged to a rising US dollar.
Debt in Thailand
There is also plenty of corporate debt around the region, not least in Thailand, which was driven by empire-building acquisitions at a time when interest rates were not only low but currency stability against the US dollar had become assumed. There are echoes of 1997/98 – but mostly only faint ones as net foreign debt for most countries is minimal compared with then. The problem is at individual corporate level, not systemic.
The dramatic decline in energy and most mineral prices is probably close to an end but recovery is still distant. Declines in oil, coal and iron ore in particular have been caused mainly by increases in supply, not the fall-off in China’s growth. That new supply will not go away anytime soon. Similarly with the likes of gold and copper, cheap money and the 2013/14 price bubble saw new mining investment.
The issue for all these commodities now is how far the low-cost producers will go to sustain production in the hope that low prices will drive out the higher cost producer as the Saudis are trying with oil. It is a game of chicken which doesn’t augur well for exporters of iron ore, coal and gas, the most important of which in this region are Australia, Indonesia and Malaysia – all three in the case of Australia.
Agriculture looking good
Agricultural commodities on the other hand have better prospects. The El Niño phenomenon producing droughts in parts of Asia and excessive rain in South America has already caused a 20 percent recovery in palm oil prices. Its impact on rice and other cereal prices, sugar, etc., has so far been limited despite the likelihood of stronger import demand in Indonesia and the Philippines while weak prices as well as the weather could curtail Thai and Vietnamese output. The impact has yet to be fully felt. Any serious 2016 setback in India, currently a significant net agricultural exporter, could have a major impact especially on rice and cotton, and add to its palm oil imports.
Rubber prices can get a little lift from El Niño but cannot recover significantly while oil is still low while other tree crop exports will remain more impacted by weather and other issues in the main global producers.
It is difficult to see any significant improvement in manufactured exports over the year as the recoveries in the west will, even if they continue, remain sluggish. Asian currency falls have been roughly matched by those in Europe.
The Chinese economy is neither headed for disaster nor a return to fast growth. Some shakeout of money-losing excess capacity will happen in 2016 which will be of long run benefit but the transition to a more service-oriented economy will remain gradual. Excess capacity is having a depressive impact on global prices particularly of basic materials such as steel.
So a shakeout would be good for the world as well as for China. But don’t expect economic logic to take precedence over interest in staying in power of the Communist Party and state enterprise bosses.
Some boost from infrastructure spending
The scope for wise additional state stimulus for infrastructure is limited but more social spending and improvement in social protection for migrant worker families should benefit the housing sector and consumption. The expected further decline of the yuan against the dollar may not happen and anyway will be insufficient to boost exports – unnecessary anyway given the continuing large trade surplus.
More significant is whether China’s move to higher-value-added exports can continue. Numbers mean little so one can assume that the actual GDP growth is 1-2 percentage points below the official figure. Southeast Asia is supposed to benefit from higher costs in China for other goods but so far at least Vietnam is the only obvious beneficiary and judging by the inflow of foreign investment should continue to support expansion there of 6 percent or so despite weak commodity prices.
Indonesian infrastructure spending problematical
Indonesia’s steep currency fall should in theory attract more manufacturing investment too. In practice the decline has helped the current account respond rapidly to low commodity prices so it is not a matter of concern. However, the upward pressure on import prices is suppressing consumer demand for items such as motorbikes. There is plenty of fiscal and private borrowing space for infrastructure spending to boost investment spending but realization will lag potential.
Malaysia–Fiscal Space in shorter supply
Fiscal space is in shorter supply in Malaysia. The currency may have fallen further than the external situation merits but politicians have yet to learn the lesson that the economy cannot for very much longer be propelled by governments deficits at the same time as private capital leaves the country. There is scant sign of new export industries and the hitherto fast growing tourism and Islamic finance sector will be impacted by the oil-induced problem of their Middle East patrons.
Oil may also finally prove a problem for Philippine remittances. To the surprise of many they were barely affected by the 2008 crisis but Middle East countries relying on US$100 a barrel oil will see declines in many sectors and hence their ability to sustain current lifestyles made easier by foreign labor, a major lifeline for many Filipino families in the form of remittances from their overseas members.
This may not be quite sufficient to offset the benefits of lower oil prices for Philippine consumers and continuing demand in developed countries for flexible foreign workers. The candidates for the presidential election cycle in July do not inspire a belief that the nation can make a major move forward but expectations for clean and decisive government are not high so the potential for disappointment is low.
Young demographic important
Like India, the Philippines will continue to fall well below potential but is sufficiently underpinned by labor force growth, lack of commodity dependence and the benefits of low oil prices to grow at 5-6 percent almost regardless. India itself may do better and with its young demographic profile growing faster than China will become the norm – as it should.
The Philippine problem with its labor surplus, which will persist for at least a generation, does however provide a contrast with the opposite fundamental problem of all of East Asia, and now also Thailand and Singapore. The lack of natural increase in the labor force and peaking of the workforce participation rate makes past rates of GDP growth a mirage.
Adding the influx of low-paid, unskilled labor imports – mostly illegal ones from Myanmar and Cambodia in Thailand and with zero rights to permanence in Singapore – to some extent hides the problem but also makes it worse by holding back investment in labor productivity.
It has rightly been noted that proof of a high level of development in big cities is when the rich use public transport and the ratio of domestic servants to population is minuscule. Near-stagnant productivity is already a problem for both. Japan struggles to grow but still manages some productivity growth as its population shrinks by about 300,000 a year and the median age rises inexorably.
Fears that the likely election victory of the DPP in Taiwan will upset trade with China are unlikely to materialize. The weakness of China demand is a problem for Taiwan but just part of the issue of its narrow but advanced export base sustaining competitiveness in a fast-changing electronics environment. Few countries can beat Taiwan for stable economic and monetary management and that will continue, though it may continue to make the stock market one of the least volatile and least expensive in the region.
Korea’s export base is much broader but some such as shipbuilding have a hard time continuing with over-capacity and Chinese competition. But a bigger problem for the economy as a whole, which enjoys a large current account surplus, is domestic demand given the high level of household debt and low pace of new household formation.
None of the above augurs well for stock markets which are nowhere conspicuously cheap – though cheaper than the US so still potentially attractive to foreign money and now offering yields which can withstand modest rises in interest rates. China’s is so unpredictable that rational analysis is a waste of effort so foreign money may return to other markets.