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Asian Development Outlook 2006 : I. Developing Asia and the World
Performance in 2005
Other countries, too, saw positive developments. In 2005, Pakistan grew faster than at any time in the past two decades (its fiscal year ended on 30 June 2005). Its performance was helped by an exceptional agricultural harvest, but the industry and services sectors also showed some vigor. In 2005, growth once again climbed in Cambodia, Lao People's Democratic Republic, and Viet Nam, and was faster than at any point since 1999 in all three countries. In Central Asia—a net oil and gas exporter—high oil prices supported double-digit economic expansion. Although growth in the Pacific remains seriously constrained, 2005 was better than most recent years. Solomon Islands consolidated its recovery process, and Samoa enjoyed its fastest growth in 4 years. The benefits of high oil prices enjoyed by Papua New Guinea and Timor-Leste, both net exporters of oil, buttressed the Pacific average. Resilience was another theme in 2005. The impact of high oil prices on growth appears to have been muted. Developing Asia is not only a large net oil importer, it is also a comparatively energy inefficient region (ADO 2005 Update). In 2005, oil prices were on average about 42% higher than in 2004, yet regional growth slowed by just 0.4 of a percentage point. And despite the horrific loss of life caused by the December 2004 tsunami, economic growth in Indonesia and Sri Lanka in 2005 improved on 2004's performance. Pakistan's tragic earthquake is unlikely to have much impact on its economic performance in FY2006. Across the region, the number of human deaths from avian flu has now risen to 103 (as of 17 March), but the main economic impact of the virus has so far been confined to the poultry sector. Although this sector is small in most countries, poor farmers are the people bearing the brunt of income losses.
Various factors help explain why oil prices did not make a large dent on regional growth in 2005. To the extent that fuel prices are either directly or indirectly subsidized, as they still are in many Asian developing
countries, producers and consumers have been shielded from the need to make adjustments. In both the PRC and India, and in a majority of other countries, the pass-through of higher border prices to retail fuel prices was far from complete (Box 1.1.1). Unrelated factors that supported growth in 2005, such as better agricultural harvests in some countries, also helped mask the impact of higher oil prices. In countries that allowed faster and fuller pass-through, such as Indonesia and Thailand, there is clearer evidence that rising oil prices did in fact pinch growth. But the resources released by reduced subsidies are now available for programs that can sustain growth over the longer run, including investments in health, education, and physical infrastructure. For some countries, 2005 proved a difficult year. The Maldives economy contracted. This small island's tourist industry was laid low by the destruction caused by the tsunami, and has yet to recover fully. The economy of the Kyrgyz Republic also contracted. Political dislocation and production difficulties at a large gold mine took their toll on aggregate income. In other countries, growth slowed. In Thailand, the conjunction of the tsunami, an unusually poor agricultural harvest, and political uncertainty linked to disruption in the south slowed growth. In the Philippines, too, bad weather hit agricultural growth and political uncertainty crimped investment. Toward the end of 2005, growth slowed sharply in Indonesia as the impact of reductions in fuel subsidies caused inflation to jump and rising interest rates sapped domestic demand. Inflation in developing Asia moderated a little in 2005, but the picture varied across subregions and countries (Figure 1.1.3). Inflation eased in both East Asia and South Asia, largely as a result of favorable agricultural developments that subdued rises in food prices. But it accelerated in Southeast Asia and in Central Asia on account of higher oil prices, though for different reasons. In Southeast Asia, higher oil prices added to costs that percolated through to prices, while in Central Asia inflation was spurred by the impact of a booming oil sector on demand, as government spending expanded and oil wealth filtered through to other parts of the economy. Across the region, the monetary authorities took steps to respond to the threat of heightened inflationary expectations. Policy interest rates were raised in quite a few economies, including Azerbaijan; Bangladesh; India; Indonesia; Kazakhstan; Korea; Malaysia; Pakistan; Philippines; Sri Lanka; Taipei,China; and Thailand. Nevertheless, real interest rates remained quite low. In most countries, fiscal positions in 2005 remained little changed relative to 2004. However, measures to limit growth of expenditure helped reduce the deficit in the Philippines, and in India fast growth helped buoy fiscal revenues. In Indonesia and Malaysia, public expenditure targets were missed because of slow disbursements on planned investments. In Pakistan, a larger deficit reflected a sharp increase in development expenditures aimed at sustaining growth. In some countries, the fiscal cost of fuel subsidies have triggered cuts in their levels, with subsidies on gasoline reduced the most and those on diesel and kerosene less so. Thailand moved to eliminate gasoline and diesel subsidies altogether. In October, the Indonesian Government slashed subsidies. Other countries have moved more slowly. In Bangladesh, PRC, and India, liabilities accumulated on the balance sheets of state-owned oil distribution companies that purchase fuel at world prices but that are compelled to sell in domestic markets cheaply. These losses must eventually be met by taxpayers.
Generally, current account movements in 2005 tracked closely those of the trade balance. But strong remittance inflows in Bangladesh, Pakistan, and Philippines in 2005 either offset or reversed trade deficits. To some degree, remittances were buoyed by strong oil revenues in the Middle East, which is host to many immigrant workers from Asia. As a percentage of gross domestic product (GDP), the current account surplus widened in East Asia, and narrowed in Southeast Asia (Figure 1.1.5). In Central Asia, the deficit switched to a surplus. South Asia's current account deficit widened substantially. Largely as a consequence of current account surpluses, developing Asia's foreign exchange reserves increased in 2005 to around $1.86 trillion (Box 1.1.2). Foreign direct investment (FDI) inflows in 2005 remained brisk but were a little less than in 2004, while portfolio inflows climbed sharply. However, 2005 saw net credit outflows, prompted perhaps by revised expectations of the likelihood of regional currency appreciation.
On the eve of the abolition of quotas on textiles and clothing on 31 December 2004, concerns had been expressed that some countries in developing Asia could lose significantly (for example, Mlachila and Yang 2004). The textile and clothing industry is an important source of foreign exchange revenue, income, and employment in many of Asia's developing countries. A detailed examination of the impact of the end of the quota regime is provided in Textiles and clothing in the post-quota era: The outlook for Asian suppliers, later in Part 1, drawing on recent European Union (EU) and United States (US) customs data on the quantity and value of imports from exporting countries. This analysis suggests that for competitive, well-positioned Asian suppliers, such as Bangladesh, Cambodia, India, Indonesia, and Pakistan, the end of quotas has, overall, resulted in expansion and increased market shares, despite reversals in some market segments. But for smaller, marginal producers, such as Fiji Islands, Mongolia, and Nepal, the end of quotas has meant that it is no longer profitable to produce readymade clothes for distant markets in Europe and America, and has led to factory closures and downsizing. For those countries where unit labor costs are comparatively high, such as Malaysia, Philippines, and Thailand, some reductions in market share have occurred but prospects have been helped by the reintroduction of "safeguard" quotas on the PRC's textile and clothing exports in the latter part of 2005. Viet Nam's market share also held up in the EU and US. The country's prospects will depend on its World Trade Organization (WTO) accession and the development of its intermediate textiles industry.
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Headline growth in developing Asia is heavily influenced by the performance of the People's Republic of China (PRC) (which carries a weight of about 37%), and by India and the Republic of Korea (Korea) (which have a combined weight of 30% of regional income) (Figure 1.1.2). In the PRC, following back-to-back years of double-digit expansion, growth dipped below 10% in 2005, but only fractionally. Booming exports and investment continued to propel demand, and growth of industrial output accelerated. In India, growth surged to 8.1%, underpinned by strong performances in industry and services, and a rebound in agriculture from a weak performance in 2004. Although Korean growth slipped in 2005, consumption demand recovered in the latter part of the year to lift the annual average to 4%.
Developing Asia's trade surplus with the rest of the world widened by $52 billion in 2005 to $192 billion; the PRC's trade surplus alone widened by about $74 billion. Had oil prices not risen, Asia's trade surplus would have been much larger. Although the growth of merchandise exports from the PRC tailed off a little in 2005, imports grew at only half of their 2004 pace. Slower import growth in 2005 reflected an expansion of domestic capacity that replaced imports of some commodities and, possibly, a drawdown of inventories of imported commodities that had been accumulated in earlier years. Korea's trade surplus in 2005 almost matched 2004's as large-scale enterprises continued to perform strongly in overseas markets. In Southeast Asia, an overall rise in the current account surplus disguised a widening trade deficit in both the Philippines and Thailand. Central Asia posted a 75% increase in its trade surplus as a result of higher oil prices. In South Asia, trade deficits widened in all countries but Bangladesh and Nepal (Figure 1.1.4).
Developing Asia's aggregate current account surplus mirrors an excess of Asia's saving over investment. This has been referred to as a "savings glut," but as the ADO 2005 Update noted, outside the PRC, widening surpluses are more closely associated with stunted levels of investment. In 2004, evidence of a broad pickup in business investment was observed, particularly in South Asia and Southeast Asia. The PRC's investment rate, which has trended up for over two decades, also increased in 2004. But in 2005, investment performance was somewhat mixed. Yet again, the aggregate investment rate rose in the PRC, despite the presence of substantial excess capacity in some sectors. In South Asia, investment rates remained largely unchanged on 2004. In Southeast Asia, investment spurted in Thailand and its ratio to GDP increased by 4.5 percentage points. In Indonesia, the investment rate held steady. Investment rates fell in Malaysia, Philippines, and Singapore. With the exception of Cambodia, PRC, and Viet Nam, investment rates in East Asia and Southeast Asia are still well below their average precrisis levels (Figure 1.1.6).
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