Catalog

Uncoupling Asia: Myth and reality

Introduction

Traditionally, developing Asia has been viewed as a region that relies heavily on exports for growth. As an important corollary of this, it has been considered vulnerable to external demand shocks. Developing Asia-more precisely the economies of East and Southeast Asia 1 -have registered average growth of 6.5% a year over the last decade. These economies now account for 9.9% of world gross domestic product (GDP) measured in real US dollar terms, compared with 30.6% for the United States (US), 14.0% for Japan, and 24.9% for the 25 countries of the European Union (EU-25). (The US, Japan, and EU are referred to henceforth as the G3 economies or simply G3.)

The fast-growing Asian region and its potentially large spending power raise the hope that its own growing demand may help it both weather the adverse consequences of a US slowdown and ease the impact of a global downturn. Indeed, the visible slowing in the US economy in the second half of 2006 notwithstanding, the continued strength of Asian exports has been marked. This has set off heated debate on whether or not the Asian economy is uncoupling from the global business cycle on the back of its rapidly growing domestic economy and the strengthening of intra-Asian economic ties.

"Uncoupling" can be defined as the emergence of a business-cycle dynamic that is relatively independent of global demand trends and that is driven mainly by autonomous changes in internal demand. Proponents of the "uncoupling Asia" view base their arguments on the emergence of a strong regional economy that is increasingly independent from changing economic conditions in the world's major industrial countries.

A major reason, some believe, that Asia's business cycle is uncoupling is the emergence of the People's Republic of China (PRC) with a consumer market of 1.3 billion. Trade growth between the PRC and the countries of East and Southeast Asia has been extremely rapid in the last decade and this is also seen as possibly replacing industrial country consumer demand. (See the chapter, Trade and structural change in East and Southeast Asia: Implications for growth and industrialization, also in Part 1.)

Despite the emergence of the PRC economy and the increase in the Asian region's share in global production and trade, evidence presented in this chapter of Asian Development Outlook 2007 indicates that the rise in intra-Asian economic interdependence through investment and trade is being driven by the globalization process. For example, much intra-Asian trade is conducted by multinational corporations (MNCs) and their affiliates in the form of intrafirm and intra-industry trade that involves fragmentation of production. The production networks in Asia respond to global demands from consumers outside the region rather than being independent of them. Therefore, the G3 economies are still an important source of external demand for Asia, and so the region remains vulnerable to shocks coming from this quarter. Analysis of business-cycle co-movements, both within Asia and between G3 and Asia, generally affirms the linkage between growth in G3 and Asia, indicating that the regional integration process in Asia is intimately linked to global economic activity.

The following sections investigate the structure of Asian trade both in terms of inter- and intraregional trade linkages. In the next section, Is intra-Asian trade growth driven by independent regional demand?, a close relationship between Asian exports and final demand from the G3 economies is demonstrated. Although Asia's direct exposure to G3 is on a decline, final demand from G3 plays an important role underneath the surface of rising intra-Asian trade. Much of this trade is dominated by intra-industry and intrafirm shipments of intermediate goods that are eventually consumed outside the region. Although production sharing arrangements across Asia have given a strong push to regional economic and trade integration since the 1990s, such integration is structurally linked to the international business networks of MNCs.

The PRC has a special role to play. At the center of MNCs' regional supply networks, it is important in boosting both intra- and interregional trade. But this nexus role has deepened economic interdependence between the PRC and the rest of Asia as well as between the PRC and G3.

The penultimate section, Is Asia's business cycle gaining independence?, examines whether, and to what extent, ongoing regional integration has affected the degree of dependence of the Asian economy on G3 business cycles. The patterns of Asian business cycles changed quite significantly before and after the Asian crisis of 1997-98, reflecting structural changes in the regional economy. Evidence based on correlation analysis of business cycles supports the view that Asia's increasing trade openness and economic integration, within itself and with G3, have led to higher degrees of both inter- and intraregional business cycle synchronization. There is clear evidence pointing to increasing business cycle co-movements among Asian economies, particularly between the PRC and the rest of Asia. But there is no mutual exclusivity between inter- and intraregional economic integration-it is not one or the other. In fact, deepening regional integration appears to reinforce Asia's integration into the world economy. For this reason, Asia remains exposed to cyclical downturns in the G3 economies.

In Conclusions, some policy issues are discussed in light of the global nature of Asia's regional integration. The Asian economy remains sensitive to business cycles in the G3 economies, giving rise to an important policy agenda for Asia's economies, both at the regional and national level. To the extent that regionalization is tied to globalization, Asia's economic activity is also exposed to global competition. Globalization of MNCs' production networks underlines the region's need for greater economic flexibility to maintain strong productivity growth and global competitiveness.