Interview with David Burton: Asia’s economic outlook bright, with China leading the way
IMF Survey: What is the IMF’s assessment of the outlook for Asia in the near term and the longer term? What are the risks to this outlook?
Burton: With the global economic expansion strengthening and deepening, the near-term prospects for Asia look good. For emerging Asia—which includes all of Asia except Japan—we expect growth this year to be over 7 percent, broadly the same as last year. This rate incorporates a modest slowdown in growth in China, to perhaps about 8½ percent, as investment, which is overheated in some sectors, is cut back. For most other countries, we see significant pickups in growth on the back of strong export performance.
Moreover, the balance of short-term risk is probably on the upside, with the global economy gathering steam and the information technology sector, in particular, doing well. A downside risk is avian flu, but that seems to be receding.
Looking further ahead, there are reasons to be optimistic, though significant risks are present. Our baseline scenario for 2005 shows growth slowing only slightly, as some economies revert to growth rates that are more likely to be sustainable. However, the risks are familiar—including the need for an orderly adjustment of global current account imbalances and for managing the transition to higher interest rates globally and probably higher spreads on emerging market debt. In addition, China will need to strike the right balance between preventing overheating and avoiding an unduly sharp cutback in investment, particularly as a sharper slowdown than we have in our baseline scenario would have ripple effects around the region. More generally, for growth to remain strong in Asia, the region needs to continue with its agenda of domestic reforms. This means completing corporate and financial sector restructuring and, in some countries, further reducing high debt burdens.
China∐s imports from the rest of the region have been growing rapidly, helping to spur recoveries in several countries, including Japan and Korea.
IMF Survey: Quite a few Asian countries—Indonesia, the Philippines, India, Korea, and Taiwan Province of China—have elections this year. Are there concerns over their political resolve to carry out reforms?
Burton: There is always a risk that preelection spending will put a dent in the budget—this is especially a concern in countries where the budget deficit is already big—and that politically difficult reforms will be postponed. We hope that once these elections are over and the political picture is clarified, there will be a new resolve to carry forward with needed reforms.
IMF Survey: How much progress has Japan made in restructuring its financial and corporate sectors? And is its period of stagnation finally over?
Burton: Japan has made significant progress. If you look at the corporate sector, profitability has increased, particularly in the bigger, more export-oriented firms. On the banking side, too, the big city banks have made quite a lot of progress in dealing with their nonperforming loan problem. Progress is a bit less marked in the regional banks. As for the recovery, it’s been driven not just by rising exports—hence, by the global recovery—but also by a pickup in private investment, reflecting progress in restructuring. There is more to do, and it’s certainly too early to say that deflation is beaten. For the longer term, a big challenge will be reducing the high debt level and narrowing the large fiscal deficit.
IMF Survey: The ASEAN+3 economies—the 10 members of the Association of South East Asian Nations plus China, Japan, and Korea—are strengthening regional financial cooperation and trade integration. What is the IMF’s view on the macroeconomic impact?
Burton: These initiatives could potentially strengthen growth and financial stability in the region, and we have supported them. Their macroeconomic impact has so far, however, been relatively modest. The various bond market initiatives could deepen financial markets, diversify sources of finance away from bank financing, and reduce dependence on foreign-currency-denominated borrowing—something that has been a big concern in the region ever since the Asian financial crisis. The Chiang Mai Initiative—a system of bilateral swap arrangements—hasn’t needed to be activated, but if it ever were, the loans involved would be pretty large. As for trade, the worry is that there is a proliferation of bilateral and regional initiatives that could lead to very complex tariff systems. Asia needs to maintain an outward-looking focus and not see these initiatives as substitutes for broader integration into the global economy.
IMF Survey: Do you feel that fears about the China threat have abated, at least in Asia, and that many Asian nations now regard the country as a major trading and business opportunity? Is the phenomenal growth in intraregional trade, particularly into and out of China, accelerating the pace of regional economic integration?
Burton: I do think fears have abated. When I visited the region about 18 months ago, there was a lot of concern about competition from China. But these days, China is seen as much, if not more, of an opportunity than as a threat. The reason for this change is pretty clear: growth and a sharp rise in imports by China from the rest of Asia—close to 45 percent last year. This trade has helped many economies in the region recover. In fact, we even hear a slightly different concern—that is, hints of overdependence on China.
IMF Survey: Some say that East Asia, led by China, is becoming a second engine of global growth after the United States. Is China’s growth sustainable, and how important is the future performance of the Chinese economy for others?
Burton: East Asia, and particularly China, certainly is becoming an engine of global growth. In 2002, for example, East Asia accounted for about 44 percent of global growth in terms of purchasing power parity weights. It also absorbed almost one-fourth of the rest of the world’s exports. China, of course, accounted to a large extent for these impressive statistics. Also, China’s imports from the rest of the region have been growing rapidly, helping to spur recoveries in several countries, including Japan and Korea.
Can China keep going at its recent pace? As I said earlier, growth may slow a little bit in the near term, but in the medium term, prospects are pretty good that China can keep growing quite rapidly—although not necessarily at 8–9 percent—if it tackles needed reforms. The priorities for reform are well known and include strengthening the banking system, where much remains to be done, and tackling the still large problems of the state-owned enterprise sector.
IMF Survey: China’s trade surplus with the United States and the European Union has continued to increase. Is China playing fair with respect to international trade?
Burton: You have to look at what’s happening to China’s trade in totality, not just to its bilateral trade with particular countries or regions. Over the past two or three years, China’s trade surplus with the United States and the European Union has gone up by some $40 billion, but at the same time, China’s trade deficit with the rest of Asia has widened by about the same amount. China’s overall trade surplus has changed little in recent years. What is behind these developments? There’s an ongoing restructuring of the production process in the region, with China becoming a manufacturing hub for exports to the rest of the world, while it imports parts from other Asian countries.
IMF Survey: The massive accumulation of foreign exchange reserves by key Asian countries has been one of the most striking global financial developments of recent years. Its aim has been to prevent or slow currency appreciation, even in some cases against the depreciating dollar. Particularly given the low returns—negative in real terms—on these reserves, has it really been in these countries’ interests to lend to major industrial countries in this way? The IMF has been calling for greater exchange rate flexibility. Shouldn’t it be pressing, in the context of its surveillance role, for more progress in this direction?
Burton: After the Asian crisis, a lot of countries in the region needed to rebuild their reserves to reduce their vulnerabilities to future crises
You can argue that, by now, reserve positions are really quite comfortable—if not more than comfortable—in many countries, and there isn’t a need to build up reserves any further. Certainly, it is costly to hold reserves because the inflows have to be sterilized, and that, in turn, can make monetary control difficult, something we’ve seen in China and some other countries. That is why, for some time, the IMF has been strongly encouraging greater exchange rate flexibility in a number of these countries. This can also make a contribution to the orderly resolution of the global imbalances in current account positions.
IMF Survey: Is India the new China?
Burton: India is definitely emerging as a force in its own right in the global economy. It has been growing rapidly in recent years, and growth has really picked up of late—to about 8 percent. That partly reflects recovery from drought, but there’s more going on than that. Industry has been doing well, reflecting progress with corporate restructuring. Also, exports to China, especially of steel, have been doing well. Of course, everyone knows the story of the incredible growth in the information technology sector. But India isn’t as open as China, which probably holds it back and keeps it from having as big an impact on the global economy.
IMF Survey: Is opening up further a key priority for India?
Burton: Yes, India has got to keep going with reforms if it wants to keep growing. Trade liberalization is certainly one area where it really needs to focus, because its trade restrictiveness is much higher than in other countries in emerging Asia. Reforms in the agricultural sector will also be important for raising productivity and incomes of the large rural population. And India has to deal with its very large public debt and high fiscal deficit—something the IMF has been harping on for a while. There are some signs that the deficit is beginning to come down, but it will take a big effort to put things on a sustainable path.
IMF Survey:You’ve spent a lot of your time in the IMF working on Asia. What changes have been the most significant? How have these changes affected countries’ relationships with the IMF?
Burton:There have been several important changes: the new emphasis on regional integration and cooperation, the very large role of China, and the greater emphasis on the need for transparency and best practices in areas such as the financial sector, corporate governance, and statistics—prompting us to provide increased amounts of technical assistance in some of these areas. The nature of the IMF’s relationship with the region has also changed. After the Asian crisis, we had big financial support packages with a number of countries. Now that period is over. Korea and Thailand have fully paid back their loans, and Indonesia has reached the point where it doesn’t need an IMF program any more. So our relationship with these countries is a normal one of surveillance and providing technical assistance. This is a healthy evolution.
IMF Survey:The IMF is supporting programs in a number of smaller Asian nations with its concessional lending facility, the Poverty Reduction and Growth Facility. How would you assess Asia’s record in recent years in poverty reduction? How does it compare with Latin America and Africa?
Burton:Asia has done quite well in recent years, certainly relative to other regions. This is particularly true in the fastest growing economies, like Vietnam, which have focused on rural sector reform. In fact, one lesson we’ve learned is that growth needs to be broad-based to make a real dent in poverty. Cambodia has been growing quite fast over the past few years, but the growth has been concentrated particularly in the textile sector and not so much in the rural areas, so we don’t see the poverty indicators improving very much. Other countries, like Mongolia and Nepal, need to grow much more quickly. Overall, Asia is probably better placed than other regions to reach some, if not all, of the Millennium Development Goals by 2015. But the poorer countries in Asia are going to need a lot of help in this effort.
China's trade surplus with the United States and the European Union has gone up by some $40 billion, but at the same time, China's trade deficit with the rest of Asia has widened by about the same amount.
IMF urges China to pursue greater exchange rate flexibility
Following are excerpts of David Burton’s address at the 2004 Credit Suisse-First Boston Asian Investment Conference in Hong Kong SAR on March 23.
“There is a view that the inflexibility of exchange rates in the region—especially in China—reflects a deliberate development strategy centered on export-led growth and an undervalued exchange rate. Some observers have also argued that the accumulation in reserves may be sustainable for some time, especially as the large supply of low-wage labor in China will keep inflationary pressures in check. It is certainly true that reluctance to see exchange rates strengthen against the dollar stems in part from concerns about the implications for growth and job creation. At the same time, it should be remembered that China stuck to its peg to the dollar throughout the Asia crisis while other countries in the region were depreciating sharply. Also, China maintained subsequently the present peg as the dollar strengthened through 2001. So China’s exchange rate policy, in my view, at least partly represents a desire for stability and continuity. That said, I do not buy the argument that China’s reserve accumulation can be sustained indefinitely without inflationary consequences. Even though the pool of low-wage labor is large, pressure will be put on the prices of other scarce factors, including land and skilled labor. And we can already see signs that inflation in China is picking up. In the end, real exchange rates will adjust one way or another.
Concerns have been raised by some observers that it would be premature for China to move toward exchange rate flexibility before resolving the weaknesses in its financial system. But this argument presupposes that greater flexibility would be accompanied by capital account liberalization that could trigger outflows from banks. In fact, there is no reason why limited exchange rate flexibility should pose significant risks for the financial system if capital controls stay in place. And experience in many other countries, with India a relevant recent example, shows clearly that managed exchange rate flexibility can be successfully introduced before capital account liberalization has gone very far.
What is the best way for China to proceed? Unfortunately, there is no ideal first move toward flexibility. Options include widening the band against the dollar or pegging the renminbi to a basket of currencies, or some combination of the two. A step-adjustment could also be made as part of an initial move. Any approach, however, could involve costs. In particular, inflows could be exacerbated in the short term if the move was seen as a prelude to further appreciation. This risk could be ameliorated by some very cautious further loosening of controls on capital outflows. There are, though, no easy or risk-free solutions to this complex issue, and it is for the Chinese authorities to decide how best to move toward their stated medium-run goal of exchange rate flexibility.”
The full text of David Burton’s speech is available on the IMF’s website (http://www.imf.org).