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Asian Development Outlook 2006 Update : 1. Developing Asia and the world : Subregional summaries
East AsiaTrends in 2006 and 2007
Despite accelerating economic growth in the PRC, inflation remains surprisingly low, mainly the result of good grain harvests and overcapacity in some industries. Indeed, the forecasts for consumer inflation this year and next are revised down to 1.6–1.8%. Projections for Korea and Hong Kong, China are adjusted slightly, so that the East Asia forecast now is for inflation of just 1.9% this year, edging up to 2.1% in 2007. Both estimates are revised down from April, and if achieved would maintain East Asia’s record as having the lowest inflation in developing Asia. The Update lifts the PRC’s projected current account surpluses for 2006–2007, though they are unlikely to match the record 2005 surplus equivalent to 7.2% of GDP. Korea’s projected 2006 surplus is lowered and in 2007 it now is expected to have a roughly balanced current account. Putting these revisions together, the subregional current account surplus is now put at 5.6% this year and 5.2% next year, both revised up slightly. People’s Republic of ChinaThe PRC stood out with stronger than expected 10.9% GDP growth in the first half of 2006. Fixed asset investment surged by nearly 30%, despite efforts by the Government to rein in excessive investment in some sectors of the economy, such as real estate and steel. Consumption continued to expand and external trade surged, producing a $61.4 billion trade surplus in the January–June period. Growth is likely to ease in the second half, since the Government has signaled its discomfort with the sizzling pace by taking various tightening steps, including: two 27 basis-point increases in the 1-year benchmark lending interest rate; increases in commercial bank reserve requirements; and restrictions on investment in property. The central bank has also imposed direct controls on lending and adopted measures to absorb bank liquidity. However, the rapid pace of the first half indicates that the economy will expand by 10.4% or so in 2006, revised up from 9.5% in ADO 2006. Top leaders have hinted at yet further tightening measures. However, the effectiveness of policy tools is complicated by a variety of factors, including incentives at the provincial level that promote investment at the same time as the central authorities try to damp it; underdeveloped capital markets that limit the traction of interest rate changes; and rising foreign reserves and capital inflows that also undermine the impact of higher interest rates. As a result, the actual likely magnitude and timing of the measures’ impact are uncertain. New approaches, including greater flexibility in managing the exchange rate and capital outflows, and a variety of structural reforms, are likely to be needed. Meanwhile, there are forces that could even accelerate growth in the short term, risking more painful adjustments later on. For example, fiscal spending is likely to increase in 2007 ahead of the 17th Communist Party Congress that year and in the lead-up to the 2008 Olympic Games in Beijing. Taking into account these various influences, the Update revises up the 2007 forecast for GDP growth to 9.5%. Growth of the trade surplus is projected to moderate next year as export growth slows in a context of somewhat softer conditions in the world economy. Government efforts to slow exports of resource-intensive products should also have an effect. In addition, the opening of more services subsectors, as a result of the Government’s commitments to WTO, should stimulate imports. The forecast for the current account surplus in 2007 is adjusted up to 6.8% of GDP, and inflation is now penciled in at just 1.8%. If the investment momentum does not slow, growth in 2007 could again surprise on the upside, raising the possibility of more difficult changes later. Burgeoning excess industrial capacity would increase the probability of a profit crunch, bankruptcies, bad loans, and consumer price deflation. But if the authorities brake too hard, GDP growth could fall by more than wished for, as happened in 1989–1990. Republic of KoreaEconomic growth was a robust 5.7% in the first half of 2006, supported by stronger domestic demand and solid expansion of exports. However, growth decelerated in the second quarter, reflecting a moderation in consumption growth as well as softer construction activity following a series of policy measures to cool the real estate market. Industrial production recorded lower—but still-high—growth, while activity in services eased. The contribution to aggregate growth from net exports is decreasing, as high prices for oil and raw materials push up the import bill. These trends will continue through the second half of 2006 and into 2007. Also, an expected moderation in US economic growth could hit export demand. The Bank of Korea has raised its overnight call-rate target five times since October 2005, to 4.5% by August 2006, aimed at combating inflation, though this could have the effect of crimping domestic demand as well. The GDP growth forecast for 2006 is maintained at the ADO 2006 level of 5.1%, but for 2007, as the damping factors have more impact, the forecast is revised to 4.6% from 4.9%. Inflation (Figure 1.4.5) is projected at 2.8% this year and 3.0% in 2007, little changed from April’s forecasts. The Korean won/US dollar exchange rate has stabilized, after appreciating sharply until mid-May. The current account is seen in surplus equivalent to 0.6% of GDP in 2006 and in balance in 2007, both revised down from ADO 2006. Taipei, China Based on the softer than expected domestic demand, the GDP growth forecast for 2006 is lowered slightly to 4.3% from 4.4% in ADO 2006, though this represents a pickup from the actual 2005 outturn. In 2007, growth is still expected to ease to 4.0%, assuming a moderate slowing in world trade. Forecasts for inflation are maintained at 1.6% for this year and 1.3% for 2007. The current account surplus is expected to average about 5% of GDP, with minor adjustments made to projections in both years. Hong Kong, ChinaHeavily influenced by trends in the PRC economy, Hong Kong, China recorded vigorous growth of 6.6% in the first half of 2006. A moderation in year-on-year growth in the second quarter from the first was attributed to slower growth in exports, particularly to the US (real exports of goods rose by 6.4% in the second quarter, less than half the rate seen in the first quarter). Private consumption and total investment accelerated in the second quarter. The unemployment rate declined to 4.9% in July, the lowest in nearly 5 years. For all of 2006, GDP growth now is put at 6.5%, revised up by 1 percentage point from ADO 2006, in line with the growth forecast for the PRC. Growth will slow in 2007, reflecting the expected deceleration in the PRC’s expansion rate and a maturing of Hong Kong, China’s extended domestic rebound from the low-growth period of 2001-2003. The 2007 forecast is for 5.2% growth, upgraded by 0.2 percentage points from April. Higher growth leads to upward revisions in the projections for the current account surplus (Figure 1.4.6). Inflation is put at 2.4% (2006) and 2.8% (2007), adjusted marginally from ADO 2006. If the slowdown in the US were to be more significant than is currently expected, trade through Hong Kong, China and hence its GDP growth forecast would be at risk. MongoliaMongolia, the least-developed economy in the subregion, is expected to grow by 6.8% in 2006, higher by 0.8 percentage points than the ADO 2006 projection. The main reason for the change is higher than expected international demand and prices for copper and gold, two of the country’s main exports, and foreign direct investment in mining. These factors, and the stronger than forecast growth in the PRC, have prompted an upgrade in the 2007 growth forecast to 5.6%, from 5.0%. The current account deficit forecast is narrowed a little from ADO 2006 because of higher than foreseen export earnings from metals. Inflation is still expected to be around 5.5% this year and 5.0% in 2007, much less than in 2005 but still the highest in East Asia. This narrowly based economy remains vulnerable to the prices of a few export commodities and to weather conditions.
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Growth in East Asia this year will be stronger than projected in ADO 2006, mainly because the forecast expansion rate of the PRC is revised up to 10.4%, the fastest since 1995. Korea, the second-biggest economy in the subregion, is set to record growth of 5.1%, unchanged from ADO 2006 and the best rate since 2002. Overall, the five economies of East Asia are projected to grow by a vigorous aggregate of 8.2% (Figure 1.4.4), upgraded by a half percentage point since April. For 2007, the Update raises the PRC’s projected growth rate to 9.5%. Forecasts are lifted for both Hong Kong, China and Mongolia, in part influenced by the PRC. Taipei,China’s prospects have not changed much over the last few months. However, Korea’s 2007 forecast is revised down slightly to 4.6%. Aggregate growth for the subregion next year is forecast at 7.5%, nearly a half percentage point greater than anticipated in April.
The current account surplus is also revised up in 2006, to 7.0% of GDP, slightly below the record high reached in 2005. Even as the economy has roared ahead though, consumer price inflation has remained tame, reflecting a rapid expansion of industrial capacity and a good grain harvest. The consumer price index is now projected to rise by just 1.6% in 2006, revised down from April.
The economy grew by 4.7% in the first half of 2006, driven by healthy international demand for information technology products, which boosted manufacturing and exports. However, domestic demand softened. Private investment contracted and growth in private consumption weakened as credit-card issuers tightened lending after a rise in defaults from the second half of 2005. Domestic demand has also been affected by rising prices for fuel and electricity and by higher domestic interest rates (the central bank raised its discount rate in both the first and second quarters of 2006, to 2.5%, bringing to eight the number of consecutive quarterly rate rises so far, from a low level).
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