"ASEAN Economic Outlook and Policy Issues"
Speech by
Haruhiko Kuroda
President
Asian Development Bank
4 April 2008
Da Nang, Socialist Republic of Viet Nam
I. Introduction
Your Excellencies, ladies, and gentlemen:
It is a pleasure for me to join you today at this beautiful and historic seaside city. I would like to begin by thanking the Government of Viet Nam for its hospitality and the excellent arrangements for this meeting.
One year into its WTO membership, Viet Nam continues to experience strong economic growth-over 8% in 2007-driven by rapidly expanding industrial production and domestic demand, particularly investment. One downside of strong growth is high inflation along with some signs of overheating. But the authorities appear to be firm on taking appropriate measures to tighten credit where needed and maintain effective revenue growth to allow for continued development spending. They remain committed to domestic economic restructuring and building strong market institutions that enhance competitiveness and improve business efficiency.
This closely mirrors the successful reforms, economic development and progress that have characterized this region since the Asian financial crisis 10 years ago. Today, of course, we are entering a period of possible contraction in the world's biggest economy. To the credit of all at this gathering, ASEAN remains well-placed to mitigate some of the effects of that downturn precisely due to pre-emptive efforts at nurturing a more resilient, integrated regional economy.
It is against this backdrop that I would like to briefly discuss the outlook for ASEAN economies this year, and some of the risks-particularly those external in origin-and domestic policy issues these economies will face.
II. ASEAN Economic Outlook
Last year, we forecast that ASEAN aggregate GDP growth for 2007 would respond to moderating growth among the industrialized economies-and a slight easing in China's strong growth rate-to come in below the 2006 robust growth level of 6%. However, ASEAN as a whole outdid most projections with its aggregate growth rate actually accelerating to 6.5%. Behind this stellar performance, China continued its faster-than-expected growth, reaching a full percentage point above forecasts at 11.4%, contributing to buoyant export demand for ASEAN products through East Asia's ever-expanding intraregional trade. Merchandise export growth was above 15% for most of ASEAN last year. Current account surpluses and other capital flows into ASEAN also continued apace.
This performance is remarkable given the financial turmoil that hit the US mid-year and carried over into the real economy beginning in the fourth quarter, with Japan and eurozone economies all easing somewhat in tandem. This year, however, economic growth in the OECD is expected to decelerate further on a sharper and broader slowdown in the major industrial countries. The financial ripples originating in the US subprime sector have spread globally and associated balance sheet losses in the global banking system continue to grow. Partly reflecting the renewed weakness of the US dollar and a flight to safety amid ongoing financial turmoil, oil prices continue to set new records even as growth slows.
Despite recent easing of monetary and fiscal policies, the US economy may already be contracting, with growth forecast to slow to 1.5% this year from 2.2% last year. And with inflation continuing to rise, the US Fed's policy options appear increasingly constrained. Softening external demand and continued sluggish domestic consumption will also keep Japan's GDP growth at about 1.5% this year, significantly below the 2.1% rate in 2007. The eurozone economies will slow to 1.6%, down from 2.6% last year. And after 2007's torrid 11.4% pace, China's economy is expected to cool to about 10% this year as it continues tightening. In fact, many economists are hoping that the US slowdown will help China prevent its economy from overheating and ease into more sustainable, if continued robust, growth. And in India, which is increasing trade and investment ties with ASEAN, economic growth is also expected to moderate from 8.7% in 2007 to 8.0% in 2008.
World trade volume growth is expected to slow further in 2008-below the 9% growth in 2007-as demand from major industrial countries continues to slacken, although strong demand from the world's emerging market economies should pick up some of the slack. Crude oil broke through the $100 per barrel milestone in January and has largely stayed there, in part driven by the financial turbulence. Most observers believe the tight demand/supply balance will likely keep prices elevated through at least the first half of the year, unless the US contraction evolves into full-fledged recession. At that point energy demand in OECD countries could weaken. Prices of major non-oil commodities-food in particular-also surged to record high levels on tight supply and strong speculative buying by investment funds. We recently saw an across-the-board price drop 2 weeks ago-and a subsequent return to high prices. This simply highlights that commodity prices have become increasingly volatile, particularly given speculative activity by investment funds amid heightened financial volatility, a situation that requires closer monitoring.
Thus, with the US economy contracting and other major industrial countries, China, and India slowing, global financial market turmoil lingering, and high oil and other commodity prices likely to persist, the external economic environment facing ASEAN continues to worsen. Adding to this concern, the tentative recovery in the global information technology industry mid-way through 2007 failed to materialize late in the year, as the onset of financial turmoil in the US held back investment in equipment and software. Stagnating new orders for the IT products from major industrial countries also suggest that prospects for a quick rebound are dim for this year.
Given this external environment, we are now forecasting aggregate GDP growth for ASEAN to slow to 5.7% in 2008. Growth is likely to ease somewhat, but remain generally robust as resilient domestic demand will partially offset the softening external demand facing many ASEAN economies. Economic expansion in Indonesia is likely to soften from last year's strong 6.3% growth to 6.0% this year, with Malaysia and the Philippines-which I might add grew at a 30-year high of 7.3% in 2007-expected to slow despite strengthening domestic demand. Thailand's growth may accelerate slightly under its newly elected government. Singapore is more directly linked in trade and finance with global trends. And, although domestic demand is supported by a tight labor market and higher government spending, it may not be able to fully offset the fall in export growth. Some moderation is also likely for the remaining ASEAN economies. Nevertheless, generally solid growth is expected again, with Cambodia, Lao PDR, and Viet Nam, expected to maintain aggregate growth above 7% in 2008.
ADB's paper on ASEAN+3 Economic Prospects and Policy Issues, presented to the ASEAN+3 Finance and Central Bank Deputies Meeting 2 days ago, and the recently launched Asian Development Outlook 2008, have detailed assessments of individual country economic prospects.
III. Risks and Responses
While our outlook may show that ASEAN is better prepared than ever to take on and adjust to downturns in growth in industrialized economies, three key risks to the region's prospects remain. These too have tilted downward as more economic data flow in. The first is a sharper and protracted global slowdown driven by a potential recession in the US. The slumping US housing market continues to spill over into the business sector and real economy, and a further slowing in consumption demand could worsen the situation markedly. Credit tightening could stall what has been resilient household consumption. Heavily indebted US consumers already face significant headwinds as job prospects worsen while rising inflation erodes real income. Consumer confidence fell to a 35-year low in March. The stagflationary mix of slowing growth and rising inflation is thus a major risk to the US economy. Its reverberating effects around global financial markets could dampen domestic demand in many advanced economies, with cascading effects on ASEAN economies.
The second involves the US subprime fallout further fuelling global financial turbulence. This could undermine currency and financial stability within ASEAN amid re-pricing of financial risks worldwide. Massive write-downs in the global banking systems, including some banks in East Asia's more advanced economies, have weakened their balance sheets. Some large banks in Japan and China reported larger-than-expected losses early this year. Any further financial market turbulence could push impaired banking systems into crisis, aggravating overall credit conditions, and thus affecting the magnitude and volatility of financial flows to ASEAN.
The third risk is a continued surge in food and oil prices. With precarious supply conditions and inventory rundowns, further oil price hikes, or spikes, remain a possibility despite expectations of a gradual decline in oil demand due to slowing growth. The recent spike in the price of rice, the main staple of the region, also heightened anxiety across ASEAN economies, highlighting the urgent need to address agricultural productivity for the long-term food security. With food and other commodity prices at record highs too, any sharply increasing input costs could trigger a full-blown price effect through a wage-price spiral. Also, the increased inflationary pressures driven by these persistently rising commodity prices pose a threat to macroeconomic stability in many ASEAN economies.
Due to heightened inflationary pressure, monetary policy options for many ASEAN economies are limited. In many regional economies, consumer price inflation hit multi-year highs recently-a 25-year high in Singapore (6.6%); a 12-year high in Viet Nam (15.7%); an 11-year high in China (8.7%); and a 10-year high in Hong Kong (6.8%). Tightening may control inflation but can undermine domestic demand and growth. Aggressive easing in the US policy rate also widens the rate gap with most ASEAN economies, building on the dilemma central bank governors face on issues related to capital flows, currency appreciation, and inflation.
Where rising inflation may constrain monetary options and budgets are balanced or are in surplus, there may be merit in considering fiscal support to mitigate slowing growth. Malaysia; Singapore; and Thailand have already begun some fiscal stimulus. However, using administrative controls like artificial price-fixing or subsidies to tame inflation, while tempting, can breed problems later. Budgetary reforms and fiscal consolidation over recent years in several ASEAN economies have brought hard-fought gains. The reinstatement or rise in fuel subsidies in response to escalating oil prices may water down or reverse the hard-earned fiscal gains.
The current financial turmoil reinforces the lessons ASEAN learned from the Asian financial crisis-such as diversifying the economic base and export markets, and establishing a resilient and robust financial sector. While much has been done through reform agendas, there remains a need to improve the investment climate and business environment, keep financial sector reform agendas on track, deepen financial markets, strengthen regional integration, and promote energy efficiency and conservation, among others.
These are of course longer-term policy agendas that most of ASEAN has mainstreamed into development programs. As we have seen over the past decade, instituting reforms like these allow far more space to respond to economic shocks that affect growth.
IV. Conclusion
Let me close by saying that ASEAN appears fundamentally better cushioned to face what the future may bring. We harbor no illusions about the effects that a more serious global slowdown will bring to the region. I am pleased that ADB's partnership with ASEAN continues to strengthen. And the economic cooperation and integration ASEAN propagates through dialogues and meetings such as this better prepares us to jointly analyze and assess options for addressing potential market or other economic turbulence that can hurt the region's economic progress and prosperity.
Thank you.
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