Abstract

One year after the deepest recession in recent history, Asia is leading the global recovery. The Regional Economic Outlook: Asia and Pacific discusses the near-term outlook for the region, as well as the medium-term policy challenges that countries face. As in many emerging and developing markets, Asia rebounded swiftly during 2009 and in the first quarter of 2010, and in the near term the region is expected to continue leading the global recovery. In the medium term, the global crisis has highlighted the importance for Asia of ensuring that private domestic demand becomes a more prominent engine of growth.

© 2010 International Monetary Fund

Cataloging-in-Publication Data

Regional economic outlook: Asia and Pacific: consolidating the recovery and building sustainable growth. — Washington, D.C. : International Monetary Fund, 2010.

  • p. ; cm. — (World economic and financial surveys, 0258-7440)

“Oct. 10.”

Includes bibliographical references.

ISBN 978-1-58906-950-3

1. Economic forecasting — Asia. 2. Economic forecasting — Pacific Area. 3. Economic development — Asia. 4. Economic development — Pacific Area. 5. Inflation (Finance) — Asia. 6. Inflation (Finance) — Pacific Area. 7. Investments — Asia. 8. Investments — Pacific Area. I. International Monetary Fund. II. Series: World economic and financial surveys.

HC412.R445 2010

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Contents

  • Definitions

  • Executive Summary

  • I. Moving to Sustainable Growth: Risks and Challenges

    • A. Recent Developments and Emerging Pressures

    • B. Economic Outlook

    • C. Risks

    • D. Policy Challenges

  • II. Inflation Dynamics in Asia

    • A. Introduction

    • B. Explaining Inflation Dynamics in Asia

    • C. A Closer Look at Inflation Dynamics in China and India

    • D. Conclusions and Policy Implications

    • Appendix 2.1. Global VAR

    • Appendix 2.2. Structural VAR (SVAR)

  • III. Investment and Rebalancing in Asia

    • A. Introduction

    • B. Investment Trends in Asia

    • C. What Drives Investment in Asia?

    • D. Policy Implications: How Can Asia Facilitate Rebalancing Through Investment?

    • E. Summary

    • Appendix 3.1. Firm-Level Analysis

  • IV. Low-Income Countries and the Pacific Islands

    • A. Introduction

    • B. Postcrisis Fiscal Adjustment in Asian Low-Income Countries

    • C. Sri Lanka: At a Crossroads

    • D. Mongolia: A Remarkable Turnaround

    • E. Fiscal Challenges for Compact Countries—Marshall Islands, Micronesia, and Palau

  • References

  • Boxes

  • 1.1 Global Volatility and Forex Returns in East Asia

  • 1.2 The Yen’s Appreciation and Its Implications for Japan’s Outlook

  • 1.3 A Financial Conditions Index for Asia

  • 1.4 Are House Prices Rising Too Fast in China?

  • 1.5 Capital Flows and Domestic Demand in Emerging Asia

  • 1.6 Asia and Global Financial Reforms

  • 1.7 Sovereign Spreads and the Risk of Contagion for Asia

  • 1.8 Fiscal Policy in Commodity-Exporting Countries

  • 1.9 Bank Funding and Liquidity Rules in Australia and New Zealand

  • 2.1 Persistence of Food Price Inflation

  • Tables

  • 1.1 Asia: Real GDP Growth

  • 1.2 Selected Asia: Medium-Term Fiscal Objectives

  • 2.1 Selected Asia: Pass-Through from Output Gap to Core Inflation

  • 2.2 China: NKPC—Baseline GMM Estimates with Nonfood Inflation

  • 2.3 India: NKPC—Baseline GMM Estimates with Core Inflation

  • 2.4 India: NKPC—Baseline GMM Estimates with Wholesale Price Inflation

  • 2.5 India: NKPC——Open Economy GMM Estimates with Core Inflation

  • 3.1 Determinants of Private Investment Spending

  • 3.2 Effect of Infrastructure on Private Investment Spending

  • 3.3 How Would an Improvement in Fundamentals Affect Investment in Asia?

  • 3.4 NIEs and Japan: Changes in Fundamentals, 1990—97 versus 2000—07 by Firm

  • 3.A1 Selected Financial Indicators for Firms

  • 3.A2 Investment Equations, Full Sample (1991—2008)

  • 3.A3 Asia: Investment Equations, Sub-Sample Analysis

  • 4.1 Asian LICs: Planned and Ongoing Fiscal Reforms

  • Figures

  • 1.1 Selected Asia: Contributions to GDP Growth

  • 1.2 Export-Oriented Asia: Real GDP

  • 1.3 China: Urban Real Fixed Asset Investment

  • 1.4 Asia: Merchandise Exports

  • 1.5 Asia: Industrial Production

  • 1.6 Selected Asia: Manufacturing Inventories and Shipments

  • 1.7 United States: Electronics Inventories-to-Sales Ratio

  • 1.8 Asia: Direction of Exports

  • 1.9 Asia: Retail Sales Volume

  • 1.10 Asia: Net Capital Inflows

  • 1.11 Selected Emerging Asia: Net Foreign Investment in Equity Markets

  • 1.12 Emerging Asia: Foreign Currency Bond Issuance and Foreign Holdings of Government Bonds

  • 1.13 Asia: Stock Markets

  • 1.14 Selected Asia: Real Effective Exchange Rate

  • 1.15 Asia: Real Policy Rates

  • 1.16 Asia: Credit to Private Sector

  • 1.17 Selected Asia: Bank Spreads

  • 1.18 Asia: Contributions to Change in Financial Conditions Index (FCI) since 2009:Q4

  • 1.19 Asia: Estimated Output Gap Closure Dates

  • 1.20 Asia: Headline Consumer Prices

  • 1.21 Selected Asia: Property Prices

  • 1.22 Asia: Fiscal Impulse

  • 1.23 Asia: Cyclically Adjusted General Government Balance

  • 1.24 Selected Asia: Unemployment Rate

  • 1.25 Selected Asia: Real Wage/Earnings

  • 1.26 Selected Export-Oriented Emerging Asia: Link Between Exports and Employment

  • 1.27 Emerging Asia: Contribution to Recovery of Private Investment (2009:Q1—2010:Q1)

  • 1.28 Asia: Real Cost of Equity

  • 1.29 Selected Asia: Manufacturing Capacity Utilization

  • 1.30 Commercial Banks’ Loan-to-Deposit Ratio

  • 1.31 China and India: Contributions to Growth

  • 1.32 NIEs and ASEAN-5: Contributions to Growth

  • 1.33 Industrial Asia: Contributions to Growth

  • 1.34 Asia: Consumer Prices

  • 1.35 Asia: Current Account Balance

  • 1.36 Asia: GDP Growth

  • 1.37 Selected Asia: Share of Non-Asian Final Demand in Asian Value Added

  • 1.38 Selected Asia: Impact of 1 Percentage Point Decline in G-2 Final Demand on GDP Growth

  • 1.39 Outstanding Cross-Border Claims of Asian Banks, 2009

  • 1.40 Outstanding Claims of BIS Reporting Banks on Asia, 2009

  • 1.41 Foreign Currency Refinancing Need for Nonfinancial Private Corporations

  • 1.42 Asia: Local Currency Refinancing Need for Nonfinancial Private Corporations

  • 1.43 Gross Public Debt, 2009

  • 1.44 Emerging Asia: Stock Market Movements and Global Risk Aversion

  • 1.45 Asia: Monetary Tightening since 2009:Q3

  • 1.46 Emerging Asia: Excess Liquidity

  • 1.47 Asia: Policy Rates and Estimated Taylor-Rule Rates

  • 1.48 Asia: Household Debt, 2009

  • 1.49 Emerging Asia (excl. China): Exchange Market Pressure Index

  • 1.50 Asia: Projected General Government Gross Debt (2010—15)

  • 1.51 Equity and Debt Portfolio Inflows

  • 1.52 Global Imbalances

  • 2.1 Asia (excl. Japan): Headline Consumer Price Index

  • 2.2 Asia (excl. Japan): Core Consumer Price Index

  • 2.3 Emerging Asia: Food and Energy Weights in Consumer Price Index Baskets

  • 2.4 Asia (excl. Japan): Headline Inflation and Global Commodity Price Inflation

  • 2.5 United States and Emerging Asia: Oil Demand

  • 2.6 Emerging Asia: Metal and Soy Demand

  • 2.7 Selected Asia: Contribution of Supply Shocks to Inflation Variation

  • 2.8 Selected Asia: Contribution of Commodity Price Shocks to Inflation Variation and Oil Intensity

  • 2.9 Selected Asia: Contribution of Aggregate Demand Shocks to Inflation Variation

  • 2.10 Asia (excl. Japan): Year-on-Year Inflation and Output Gap

  • 2.11 Change in the Relative Contribution of Shocks Between 1986—99 and 2000—10

  • 2.12 Selected Asia: Relative Contributions of Domestic, Regional, and Global Factors to Inflation Variation

  • 2.13 Selected Asia: Contribution of Domestic Demand Shocks to Inflation and Opennes

  • 2.14 Contribution of Regional Demand Factor to Fuel and Food Price Inflation

  • 2.15 China: Consumer Price Inflation

  • 2.16 India: Headline Inflation (WPI) and Inflation Volatility

  • 2.17 China: Impact of Foreign Output Gap

  • 2.18 China: Impact of Monetary Policy

  • 2.19 China: Variance Decomposition of Inflation

  • 2.20 India: Inflation and Output Gap

  • 2.21 India: Actual and Simulated Inflation

  • 3.1 Asia: Gross Fixed Capital Formation (GFCF) and Gross Saving

  • 3.2 Export-Oriented Asia: Contribution to Change in Average Share of GFCF in GDP

  • 3.3 Selected Asia: Change in Investment by Type

  • 3.4 Phone Connections

  • 3.5 Electricity Generation

  • 3.6 Firm-Level Investment Rate, 2000—07

  • 3.7 Composition of Investment by Sector

  • 3.8 NIEs: Firm-Level Investment Rate, by Size and by Sector

  • 3.9 Export-Oriented Asia: GFCF——Change in Share versus Change in Relative Prices

  • 3.10 Corporate Sector Leverage: 2000—08

  • 3.11 Uncertainty: 2000—08

  • 3.12 Effective Corporate Tax Rates in OECD

  • 3.13 Selected Asia: Size of the Corporate Bond Market, 2009

  • 3.14 Selected Advanced Economies: Venture Capital Investment

  • 4.1 Asia: Changes in Fiscal Balance Relative to Precrisis Level

  • 4.2 Asian LICs: Expenditure versus Revenue

  • 4.3 Asian LICs: Public Debt

  • 4.4 Sri Lanka: Gross Official Reserves

  • 4.5 Sri Lanka: Inflation and GDP Growth

  • 4.6 Mongolia: Real GDP

  • 4.7 Mongolia: Mineral Exports

  • 4.8 Compact Countries: Share of Grants in Overall Revenue, FY2008

  • 4.9 Compact Countries: Fiscal Balance, FY2008

  • 4.10 Pacific Island Economies: Public Wage Expenditure, 2007

  • 4.11 Pacific Island Economies: Tax Revenue, 2007

  • 4.12 Compact Trust Fund Balance

Definitions

In this Regional Economic Outlook: Asia and Pacific, the following groupings are employed:

  • “Emerging Asia” refers to China, Hong Kong SAR, India, Indonesia, Korea, Malaysia, the Philippines, Singapore, Taiwan Province of China, Thailand, and Vietnam.

  • “Industrial Asia” refers to Australia, Japan, and New Zealand.

  • “Asia” refers to emerging Asia plus industrial Asia.1

  • “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

  • “ASEAN-5” refers to Indonesia, Malaysia, the Philippines, Thailand, and Vietnam.

  • “EU-15” refers to Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, the Netherlands, Portugal, Spain, Sweden, and the United Kingdom.

  • “G-2” refers to the euro area and the United States.

  • “G-7” refers to Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States.

  • “G-20” refers to Argentina, Australia, Brazil, Canada, China, the European Union, France, Germany, India, Indonesia, Italy, Japan, Korea, Mexico, Russia, Saudi Arabia, South Africa, Turkey, the United Kingdom, and the United States.

The following abbreviations are used:

AER

average effective rate

APRA

Australian Prudential Regulation Authority

AsDB

Asian Development Bank

ASEAN

Association of Southeast Asian Nations

BoJ

Bank of Japan

BVAR

Bayesian variance autoregression

CFR

core-funding ratio

CPI

consumer price index

EM

emerging markets

FDI

foreign direct investment

FY

fiscal year

GARCH

generalized autoregressive conditional heteroscedasticity

GDP

gross domestic product

GMM

generalized method of moments

GVAR

global vector autoregression

IRD

inland revenue department

IT

information technology

LAR

largest autoregressive root

LIC

low-income countries

MER

marginal effective rate

NIE

newly industrialized economy

NKPC

New Keynesian Phillips Curve

NPL

nonperforming loan

OECD

Organisation for Economic Co-operation and Development

PFM

public financial management

PICs

Pacific Island countries

PPP

purchasing power parity

REER

real effective exchange rate

RBNZ

Reserve Bank of New Zealand

REO

Regional Economic Outlook

SAAR

seasonally adjusted at an annual rate

SARC

sum of autoregressive coefficients

SIFI

systemically important financial institutions

SMEs

small and medium-sized enterprises

SOEs

state-owned enterprises

SVAR

structural vector autoregression

VAR

vector autoregression

VAT

value-added tax

WEO

World Economic Outlook

WPI

wholesale price index

The following conventions are used:

  • In tables, a blank cell indicates “not applicable,” ellipsis points (…) indicate “not available,” and 0 or 0.0 indicates “zero” or “negligible.” Minor discrepancies between sums of constituent figures and totals are due to rounding.

  • An en dash (–) between years or months (for example, 2007–08 or January–June) indicates the years or months covered, including the beginning and ending years or months; a slash or virgule (/) between years or months (for example, 2007/08) indicates a fiscal or financial year, as does the abbreviation FY (for example, FY2010).

  • An em dash (—) indicates the figure is zero or less than half the final digit shown.

  • “Billion” means a thousand million; “trillion” means a thousand billion.

  • “Basis points” refer to hundredths of 1 percentage point (for example, 25 basis points are equivalent to ¼ of 1 percentage point).

As used in this report, the term “country” does not in all cases refer to a territorial entity that is a state as understood by international law and practice. As used here, the term also covers some territorial entities that are not states but for which statistical data are maintained on a separate and independent basis.

This Regional Economic Outlook: Asia and Pacific was prepared by a team coordinated by Vivek Arora and Roberto Cardarelli of the IMF’s Asia and Pacific Department, under the overall direction of Anoop Singh. Contributors included Ashvin Ahuja, Brian Aitken, Steve Barnett, Pelin Berkmen, Julia Bersch, Ran Bi, Carlos Caceres, Stephan Danninger, Leif Lybecker Eskesen, Roberto Guimaraes, Byung Kyoon Jang, Sanjay Kalra, Svitlana Maslova, Malhar Nabar, Carolina Osorio Buitron, Runchana Pongsaparn, Nathan Porter, Yasuhisa Ojima, Mousa Shamouilian, Murtaza Syed, Kiichi Tokuoka, Patrizia Tumbarello, D. Filiz Unsal, Olaf Unteroberdoerster, Shengzu Wang, and James Walsh. Souvik Gupta, Adil Mohommad, and Yiqun Wu provided research assistance; Antoinette Kanyabutembo and Lesa Yee provided production assistance. Martha Bonilla and Joanne Blake of the IMF’s External Relations Department edited the volume and coordinated its publication and release. This report includes comments from other departments and some Executive Directors.

Executive Summary

Asia has entered the second year of the global economic expansion still firmly in the lead of the recovery. Growth in the first half of 2010 proceeded well above trend in almost all regional economies, as global manufacturing continued to rebound and fueled exports and investment in the region. Private consumption also remained strong, as labor conditions continued to improve and confidence remained high despite greater market volatility as a result of global financial turbulence.

During the second half of 2010, economic activity has moderated toward a more sustainable pace, although it remains robust. In particular, industrial production and export growth rates have started to moderate. This in part reflects the maturing of the global and regional inventory cycle, particularly for the information technology products that are important for production and exports in many Asian economies.

The short-term baseline outlook for Asia remains positive, with growth expected to settle at more sustainable but still high levels. Growth is likely to remain particularly strong in the large, domestic-demand-driven economies of China, India, and Indonesia. The continuing, albeit sluggish, recovery in advanced economies during 2010—11 that is envisaged in the October 2010 World Economic Outlook should support firm growth in Asia’s exports, although below the very high rates of 2009 and early 2010. A gradual pace of withdrawal of policy stimulus, sustained improvements in labor market conditions, and still accommodative financial conditions are expected to sustain private domestic demand. Ample global liquidity on the one hand, and the relatively robust growth and low public debt in Asia on the other hand, should continue to fuel capital flows to the region. Reflecting the slowing of export growth and strong domestic demand, Asia’s current account surplus is projected to decrease to about 3 percent of regional GDP in 2010 and 2011, from about 5 percent in 2007, making a modest contribution to the narrowing of global imbalances.

The main risk to the outlook is the external environment. As discussed in the World Economic Outlook, while global financial conditions have improved since June 2010, underlying sovereign and banking vulnerabilities in advanced economies remain a significant challenge, and concerns linger over the strength of the global recovery. Despite Asia’s strong economic and policy fundamentals, important trade and financial linkages with advanced economies suggest that a further deterioration in global financial conditions and a slowing of the global recovery would have important repercussions for the region.

In view of the strong economic expansion that is under way, and emerging signs of inflationary pressure in some economies, Asia has reached the threshold to normalize policy stances across the region. Many economies have started to take steps in this direction. But monetary and fiscal policies are still generally accommodative and, with output gaps closing rapidly, inflation pressures could intensify next year with the risk that policies are becoming more procyclical. In particular, tight capacity constraints could exacerbate the effect of supply shocks on inflation, as discussed in Chapter II. Continued capital inflows may also pose risks to financial stability if they are associated with excessively easy domestic financial conditions. Macroprudential measures have appropriately been taken in many regional economies to minimize these risks, but a further tightening of monetary policy conditions may be needed, including through greater exchange rate appreciation. A faster withdrawal of fiscal stimulus would also help guard against the risks of overheating and a buildup of financial imbalances. Should global conditions worsen, however, the region has the room to delay the normalization of policy stances.

Over the medium term, sustaining robust growth in Asia will require continued progress with rebalancing growth toward domestic demand. For Asia as a whole, only limited progress has been made toward reducing external imbalances. In 2009, while China’s current account surplus narrowed as a percent of GDP, those of many other Asian economies, such as NIEs and ASEAN, increased. With external demand from advanced economies unlikely to return to precrisis trends in the foreseeable future, Asia will need stronger domestic demand to maintain robust growth. The normalization of policy conditions in Asia would, therefore, need to be accompanied by continued measures to reinforce private domestic consumption and investment. The challenge of raising private consumption was discussed in some detail in the April 2010 Asia and Pacific Regional Economic Outlook. In the present Asia and Pacific Regional Economic Outlook, Chapter III focuses on the challenge of raising investment and stresses the importance of measures to facilitate access to credit, particularly for smaller, domestically oriented, and service sector firms. The chapter also highlights the importance of reviving investment in infrastructure, which will contribute to rebalancing both directly and indirectly, by improving the environment for private sector investment.

In Asian low-income and Pacific Island countries, policy stimulus and rising global demand for commodities and garments have driven a strong recovery in recent quarters. But these economies face significant challenges in the near and medium term, including the need for fiscal consolidation to strengthen fiscal positions and create more policy space, and the need for structural reforms to raise potential growth and reduce vulnerabilities. Chapter IV discusses these issues.

Consolidating the Recovery and Building Sustainable Growth
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