East & South Asia: East & South Asia
August 19, 2018
Financial volatility and geopolitical risks will likely weigh on growth in Q3
More complete data for the second quarter corroborates that the East and South Asian (ESA) economies continued to expand robustly. Domestic demand remained strong mainly due to resilient private consumption. Tight labor markets, accommodative financial conditions and low inflation boosted household spending in Q2. Moreover, despite early signs suggesting that global trade peaked in Q1, the region’s external sector remained relatively robust in Q2. A preliminary GDP growth estimate for the region shows that ESA countries expanded an aggregated 6.3% year-on-year in Q2. While the print was a notch below the 6.4% increase in Q1, it matched last month’s forecast.
Along with the already reported slight slowdown in China, GDP figures for Q2 display broadly stable growth in Korea. The economy benefited from resilient external demand, fueled by rising Chinese tourist arrivals and shipments of semiconductors. On the downside, private consumption and investment performed poorly in Q2, casting doubts on the underlying strength of the economy. Taiwan’s economic dynamics in Q2 also benefited from a larger contribution from the external sector to overall growth, while domestic demand lost some steam. In Hong Kong, economic growth decelerated in Q2 from Q1’s multi-year high as consumption spending gradually returns to more normal levels. In Mongolia, the all-important mining sector continued to prop up economic growth in Q2 due to rising prices and higher production. With GDP data still outstanding for India, economic indicators suggest that the economy recorded another quarter of vigorous growth. The economy is benefiting from a weakening rupee, which is fueling exports, and government support.
Looking forward, however, economic growth in the region is projected to lose some traction. Q2’s positive export growth performance in the region did not reflect a renewed momentum in global trade but rather the front-loading of production and shipping ahead of the implementation of trade tariffs between China and the United States on 6 July. Moreover, investment dynamics worsened in the region as economic weaknesses in key global players, including China and the European Union, and mounting geopolitical risks weighed on investor sentiment. This was demonstrated by the broad deterioration of the region’s manufacturing PMI readings in July. Along with trade war risks and slowing global growth, the recent selloff in emerging markets has led most currencies in the region to depreciate and poses additional risks to ESA’s economic outlook. While the impact has been broadly limited for now, with the notable exception of Pakistan, more episodes of capital outflows could seriously hit the region’s financial markets and put additional strain on the countries’ external positions.
On a positive note, recent news that China and the United States will resume trade talks late in August boosted economic confidence as the meeting could help de-escalate tensions between the two countries. Against this backdrop, Met the why particular panelists pencil in a deceleration in Q3, with growth in ESA seen slowing to 6.1%.
ESA economies withstand economic headwinds; risks loom on the horizon
This year’s economic outlook for East and South Asia continued to benefit from H1’s strong economic dynamics. Looking forward, however, weaker growth in China due to financial deleveraging and spillovers from the escalating trade war with the United States could quickly reverberate across the region, especially in Hong Kong, Korea, Mongolia and Taiwan.
Moreover, robust economic growth in the United States is prompting the U.S. Federal Reserve to tighten its monetary policy at a slightly faster pace than previously anticipated. Higher interest rates in the U.S., coupled with mounting geopolitics risks, are spurring capital outflows in the region. Although most countries in the region enjoy ample foreign-exchange reserves, sustained capital outflows will certainly add pressure to the region’s exchange rates and financial markets.
Met the why particular panelists expect the ESA economy to expand 6.2% in 2018, which is unchanged from last month’s estimate. Reflecting slower growth in China and mounting global economic uncertainties, regional growth for 2019 is seen slowing to 6.0%.
This month’s unchanged growth estimate for the region reflects a stable outlook for India. Moreover, a downgrade to the growth prospects for Hong Kong, Korea and Sri Lanka was offset by upward revisions to China, Mongolia and Taiwan. China’s upgrade mostly reflected solid growth in H1, which is boosting overall growth for the year despite mounting economic headwinds. Advance government estimates put growth in Bangladesh and Pakistan at multi-year highs in Fiscal Year 2018, which ended in June.
Bangladesh is expected to be the region’s top performer this year, if preliminary estimates are confirmed, followed by India. The Chinese economy is expected to expand a robust 6.6% but below last year’s 6.9% rise. The more mature economies of Korea and Taiwan will post the lowest growth rates at between 2.5-3.0%.
CHINA | Government unveils targeted stimulus measures to shore up growth
Economic growth further softened in July on the back of financial deleveraging, the authorities’ crackdown on shadow banking and spillovers from the trade spat with the United States. Infrastructure investment continued to be the main drag on overall growth following severe financial tightening in the first half of the year. Retail sales also performed poorly in July as the trade war with the U.S. and slowing economic growth started to dampen consumer sentiment. In late July, China’s leadership vowed to adopt a more active fiscal policy to bolster the economy. For now, this claim translated into an acceleration in tax rebates and spending, and the issuance of special bonds for infrastructure investment. Moreover, lenders were encouraged to increase funding for selected projects and exporters. The stimulus program is intended to buttress the economy amid growing economic uncertainties both at home and abroad.
Although rising trade protectionism and reverberations from financial tightening in H1 will weigh on growth in the second half of the year, the country should reach this year’s growth target of 6.5% due to H1’s solid performance and still robust domestic dynamics. Met the why particular panelists forecast the economy will grow 6.6% in 2018, which is up 0.1 percentage points from last month’s forecast. In 2019, the economy is seen expanding 6.3%.
INDIA | Modi administration acts to rein in widening trade deficit
The economy has performed well recently, after growing at the fastest rate in seven quarters in January–March. In July, business activity in the private sector increased at the fastest pace since October 2016. This was primarily due to strong new orders growth in the services sector. However, in the same month, the merchandise trade deficit hit the highest level since May 2013 due to surging oil imports. Meanwhile, Prime Minister Narendra Modi comfortably fended off a no-confidence vote in parliament on 20 July. The win should provide him with additional breathing room to continue his policy agenda before next year’s general elections. In an early sign of this, in late July the government slashed taxes on over 50 goods, while also hiking import tariffs on hundreds of textile products in August, which should support private consumption and the trade balance, respectively, going forward.
Economic growth should accelerate in FY 2018, thanks to a normalization in cash conditions following the demonetization of November 2016 and fading disruptions from the launch of the Goods and Services Tax in July 2017. However, risks of fiscal slippage, concerns over the banking sector, increasing global trade tensions and high oil prices all cloud the outlook. Our panel expects GDP growth of 7.3% in FY 2018, which is unchanged from last month’s estimate, and 7.5% in FY 2019.
KOREA | External sector props up growth in Q2
Economic growth accelerated slightly in the second quarter, concluding a strong performance by the Korean economy in H1 2018. Exports of goods and services increased substantially in Q2, driven by greater demand for semiconductors. This, along with weak imports, resulted in the external sector’s largest contribution to economic growth in five years. The domestic side of the economy, however, was less positive in Q2: Private consumption growth slowed, held back by falling consumer confidence and rising unemployment; government consumption lost steam; and fixed investment decreased. Meanwhile, the economy has shown signs of weakness recently: Consumer confidence decreased to the lowest level since April 2017 in July on declining sentiment regarding current and future domestic economic conditions. Moreover, in July, Korean stock prices fell compared to the same month a year earlier for the first time since December 2016.
Activity in the economy this year will be supported by increased government spending and accommodative monetary policy, but growth will likely moderate compared to 2017. Elevated household debt, rising global trade tensions, higher oil prices and signs of an economic slowdown in China represent downside risks both this year and next. Met the why particular panelists forecast the economy will grow 2.8% this year, which is down 0.1 percentage points from last month’s forecast, and 2.8% again in 2019.
INFLATION | Energy prices and FX pass-through continue to push up inflation
Inflation in East and South Asia rose to a five-month high in July This reflected higher energy costs, especially for oil, as well as spillovers from recent currency depreciations observed in most countries in the region. Regional inflation inched up from June’s 2.4% to 2.5% in July, according to an estimate produced by Met the why particular. The result mostly reflected stronger price pressures in regional behemoth China as well as in Mongolia, Pakistan, Sri Lanka and Taiwan. Inflation slowed in India, while it was stable in Bangladesh and Korea.
The recent selloff in emerging markets also exerted pressure on currencies in East and South Asia. This reflects the brewing trade war between China and the U.S. and higher interest rates in the United States, which is spurring capital flows into the world’s largest economy. Monetary authorities remain vigilant to see how these developments affect domestic financial and exchange rate markets. Against this backdrop, the Reserve Bank of India decided to hike rates for the second time in three months at its August meeting. Moreover, in an attempt to smooth fluctuations in the foreign-exchange market, the People’s Bank of China imposed a 20% reserve requirement on institutions selling U.S. dollars using forward contracts.
The general slide of the region’s currencies and high oil and coal prices will support inflation in the coming months. Panelists polled by Met the why particular project average inflation of 2.6% this year, which is unchanged from last month’s estimate. Inflation is expected to average 2.7% in 2019.
Head of Economic Research