Sharper Slowdown in PRC Would Have Moderate Impact on Asian Economies

MANILA, PHILIPPINES (22 September 2004) - The impact on Asian economies of a significantly sharper cut in investment in the People's Republic of China (PRC) would be moderate, according to a major ADB report issued today.

The ADB's Asian Development Outlook 2004 Update (ADO 2004 Update) said that efforts by the PRC Government to slow several key sectors of its surging economy by dampening fixed asset investment in those sectors are likely to produce a soft landing, with economic growth slowing from a rate of 8.8% forecast for 2004 to a more sustainable 7-8% from 2005.

However, there is a risk of a harder landing, ADO 2004 notes. To quantify the potential impact of a more serious slowdown in the PRC, ADB conducted an economic simulation exercise to assess the effects on Asian economies under several scenarios. In particular, the exercise examined the impact of a cut in real investment in the PRC from 10.2% to 5.0% in 2005. The simulation exercise showed this would reduce the PRC's gross domestic product (GDP) growth for 2005 from an expected 8.0% to 6.0%, and its import growth from 8.9% to 7.0%.

As a result of such a reduction in the PRC's growth rate, Hong Kong, China would be the most affected, with a loss of 0.95 percentage points of GDP. (ADO Update forecasts that Hong Kong, China's GDP growth rate in 2005 will be 6.0%, assuming the PRC grows at 8.0%). The Republic of Korea, Taipei,China, and Singapore would experience losses in output of about 0.4 percentage points. The adverse growth effects on Southeast Asian nations, excluding Singapore, would be generally smaller, from 0.15-0.32 percentage points. Japan's GDP growth would decline by 0.24 percentage points. South Asia is the most insulated from a PRC slowdown; its subregional growth rate would be clipped by 0.09 percentage points in 2005.

Two other scenarios were considered in the simulation exercise. One assumed an identical investment cut in the PRC, but with economic growth in the US and Japan accelerating by 1 percentage points from the growth rates forecast for these countries in ADO Update. The exercise indicated that the adverse effects of the PRC slowdown on the GDP of most countries would be more than offset by the stronger growth in the US and Japan. Southeast Asian and South Asian growth rates would accelerate in this situation because the US and Japan together provide a much more important market for their exports than does the PRC. In Asia, only Hong Kong, China; Korea; and Taipei,China would suffer declines in their GDP growth rates under this scenario.

The simulation exercise also looked at the potential outcome of a scenario that assumed the same investment cut in the PRC plus growth slowdowns in the US (to 2.%) and Japan (to 1%), or simultaneous slowdowns in all three countries. Under these conditions, the PRC's GDP growth rate would slow further, to 5.8%, as a result of reduced growth in the US and Japan. Hong Kong, China would still be the largest loser in terms of economic growth, with a loss of 1.39 percentage points of GDP. The newly industrialized economies of Korea; Taipei,China, and Singapore, as well as the Philippines and Malaysia, are more exposed to this scenario than other Asian economies. Their GDP growth would slow by around 0.70-1.0 percentage point. Again, the adverse effect on South Asia would be the smallest, given its relatively weak economic linkages to the rest of the world.

There are two major policy implications for governments from the exercise. The first is that the export orientation of most developing Asian economies makes them vulnerable to the business cycles in industrial countries, despite the increasing importance of the PRC as a regional trading partner. Consequently, reducing the vulnerability to external events so as to achieve sustained prosperity requires governments to put more emphasis on domestic demand-led growth. The second policy implication follows from the PRC's expected continued growth and its enmeshing with other Asian economies. This will make developing Asia's economies more exposed to economic events in the PRC and lead to greater synchronization of business cycles in regional economies. This calls for Asian countries, including Japan, to strengthen coordination of macroeconomic policies, according to ADO Update.

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