Asia’s emerging markets remain relatively robust with little sign of financial stress, but key challenges will weigh on the region’s growth, at least at the margin.
The region is not immune from the triple shock threatening the world economy – rising US interest rates, higher oil prices, and trade wars. Indeed, it could be more exposed than other regions and tighter Chinese financial and environmental regulation could depress demand throughout Asia.
The dependence on exports to the West, especially the US, has declined markedly since the financial crisis. But rising US interest rates and the stronger dollar hurt growth in Asia’s emerging markets. Previously, faster export growth offset rising dollar-based funding costs, but now the value-added content of exports to the US is falling as a share of GDP.
When the US raised rates in the mid-2000s, Asian leverage was lower but export exposure higher, allowing the region to benefit from faster US growth with less drag from climbing funding costs. Now the reverse applies. And while Asia’s export growth to the US has held up, sales to Europe have weakened sharply. Further, demand has slackened for Asia’s electronics, especially smartphones.
Export momentum was slowing even before the US restrictions on imports from China. All else equal, the drag on China's GDP growth from a 25 per cent tariff on USD50 billion of US exports is estimated at 0.1 to 0.2 percentage points but the uncertainty could also affect investment or consumption spending in China and in economies that ship components there for assembly and onward export to the US.
Virtually all the region’s economies are highly trade dependent and will suffer if trade wars reduce global GDP and export growth. However, Malaysia, Thailand and Vietnam might see more foreign multinationals relocating production capacity there from China. Rising dollar funding costs pose an acute challenge for the region: after years of credit-fuelled growth, the sensitivity to US rates has grown while the exposure to US demand has declined.
Debt has increased substantially since 2008 in many Asian countries – notably China, Malaysia, Thailand, Korea Vietnam, Singapore and Hong Kong – although Indonesia, the Philippines and Sri Lanka, enjoy relatively low macroeconomic leverage and India’s is falling.
Even so, India, the Philippines and Indonesia have raised interest rates, partly in response to higher US rates, and Asian credit growth is now cooling. So far, that points to only a mild regional slowdown but further dollar strength could curtail bank lending more sharply.
A stronger dollar also accentuates the impact of rising oil prices. Apart from Malaysia, Asia’s emerging economies are major energy importers.
But don’t lose sight of Asia's strengths. There are few signs of a hard landing or outright financial stress and several factors to offset a slowdown. China’s GDP should still grow 6.6 per cent in 2018, rising to 6.8 per cent next year.
Most economies’ current-account balances have improved, while inflation and wage pressures remain subdued. So – with a few exceptions – central banks appear to be in no hurry to tighten, happy to diverge from the US.
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