TWN Info Service on Finance and Development (May 17/02)
11 May 2017
Third World Network
   
United Nations: Developing Asia-Pacific economies to grow at 5% this year
Published SUNS #8456 dated 5 May 2017

Geneva, 4 May (Kanaga Raja) - The developing economies in Asia-Pacific region are projected to see average economic growth rising to 5 per cent in 2017 and 5.1 per cent in 2018, compared to 4.9 per cent in 2016, a UN report has said.

In its Economic and Social Survey of Asia and the Pacific 2017, released this week, the UN Economic and Social Commission for Asia and the Pacific (ESCAP) said this growth is underpinned by stable economic conditions in China, where higher value-added sectors are gradually replacing excess capacity sectors as the driver of output, employment and export growth.

The developing economies of Asia-Pacific encompass all the countries in the region except Australia, Japan and New Zealand.

In its first chapter providing a macroeconomic assessment of the region, the Survey makes a case for a proactive role for fiscal policy and supporting structural reforms not only to enhance economic potential but also to strengthen social protection and improve resource efficiency.

"As we enter the second year of the 2030 Agenda, economic growth in Asia-Pacific economies is steady but modest amid prolonged weak external demand and rising trade protectionism. Future economic growth will need to rely more on productivity gains, compared to factor accumulation," said ESCAP Executive Secretary Dr Shamshad Akhtar, in a press release.

"Sustained productivity gains, in turn, will require effective institutions and better governance, in both public and private spheres," she added.

"In addition to ensuring sustained and robust economic growth, policymakers will need to address social and environmental challenges in order to improve the quality of this growth."

According to the ESCAP report, the region's developing economies now account for a third of the world's output, only slightly less than the combined share of the developed economies in North America and Europe.

"If the region continues to outpace global economic growth at the current pace, it would account for more than half of global output by 2050."

For the Asia-Pacific region to realize its full potential, however, it cannot rely simply on past strategies and patterns of economic growth.

For future growth, the region will need to rely more on broad-based productivity gains, which in turn will require effective institutions and governance in both the public and the private spheres.

Following a strong post-crisis rebound in 2010, economic growth in the Asia-Pacific region has been moderate in recent years compared with its historical trend.

The region's export-oriented economic growth strategy is under pressure amid prolonged weakness in external demand and global trade.

China is both a transmitter and a source of the current economic slowdown, given its role as a hub in global value chains and its rebalancing towards consumption and services.

ESCAP said the recent slowdown is also due to large terms of trade losses among net commodity exporters, such as the Russian Federation.

Fortunately, both China and net commodity exporters had sufficient fiscal space to respond to such shocks. In particular, China's fiscal stance has been very expansionary, with large budgetary and non-budgetary support provided for the economy.

India also regained its economic growth momentum on the back of reform initiatives and the beneficial impacts of low global oil prices.

"Taken together, the Asia-Pacific region's economic performance, although modest compared with its recent past, is commendable when viewed against the backdrop of a struggling global economy."

The Survey noted that in 2016, economic conditions in the region began to stabilize, with better-than-expected performance exhibited by China and a recovery under way in net commodity-exporting countries.

However, growth slowed considerably in Turkey due to the political situation and to a lesser extent in India due to the impacts of de-monetization.

Taken together, average economic growth in developing Asia-Pacific economies is estimated to have been 4.9 per cent in 2016, largely stable compared with that of the previous year, without a further deceleration.

Across the region, economic growth is expected to be slightly more broad-based in 2017 in terms of demand-side components.

Leading indicators, such as manufacturing PMIs (Purchasing Managers' Indexes) and the latest export and import data, point to a mild economic recovery, particularly on the investment side.

However, such a recovery is unlikely to be a firm rebound given that the factors which held back domestic demand remain largely unresolved even as rising trade protectionism effectively offsets potential recovery in external demand.

Average economic growth in the developing Asia-Pacific region is projected to rise to 5 per cent in 2017 and 5.1 per cent in 2018, underpinned by stable economic conditions in China, where higher value-added sectors are gradually replacing excess capacity sectors as the driver of output, employment and export growth.

According to the Survey, projected moderation in China reflects mostly ongoing efforts to deleverage and restructure the economy, which could boost growth in the medium term.

In India, a gradual recovery from an estimated 7.1 per cent growth rate in 2016 is projected, as re-monetization will restore consumption, but a revival in investment will take longer given unresolved problems in the banking sector.

A slightly improved growth outlook for the rest of the region is due to a recovery in net commodity-exporting economies and public investment in some of the net commodity-importing economies.

Among developed Asia-Pacific economies, growth in Japan is projected to strengthen in line with improved labour market conditions.

Despite the broadly positive economic outlook for 2017 and 2018, the likely impact of some risks for the near-term economic outlook should not be underestimated, the report cautioned.

With a significant increase in global policy uncertainty in recent months, the risks to the outlook are tilted to the downside.

The most significant risk is trade protectionism. Recent shifts in United States policy over trade, currency, immigration and other areas could have large potential impacts on the region, including for China's goods exports and India's services exports.

Possible further shifts in United States policy, together with Brexit and upcoming elections in various European countries, have also resulted in heightened global uncertainty, which in itself undermines investment in the region.

"Any foregone trade and investment in turn could hurt employment prospects and act as a drag on productivity growth in the years to come."

Based on simulations, average economic growth in developing Asia-Pacific economies in 2017 could be up to 1.2 percentage points slower than the baseline projections if an increase in trade protectionism and global economic uncertainty is steeper than anticipated.

All this comes at a time of potential tightening of global financial conditions, which could effectively bring to an end the region's cycle of monetary easing, said the Survey.

Capital outflow pressures, which increased in the wake of the United States election before subsiding recently, are likely to re-emerge with the announcement by the United States of fiscal stimulus and lead to further depreciation of regional currencies against the United States dollar.

This outcome is expected to be accompanied by bouts of financial volatility, arising from any deviations of actual policy from market expectations.

The United States raised its federal funds rate in March 2017 for the second time since the United States election in November 2016 and only the third time in a decade. The median expectation is that there will be two more rate increases in 2017.

There is also a chance that sovereign yields in Europe could rise on the back of more expansionary fiscal stances and that the European Central Bank (ECB) may not extend its quantitative easing beyond 2017.

"Countries in the region with large current account deficits and high short-term external debt are particularly vulnerable."

On the upside, said the Survey, regional exports could benefit from stronger external demand and currency- induced competitiveness, but any boost is likely to be limited by trade protectionist measures.

Currency depreciation could also further limit monetary policy space, not least due to its inflationary impact.

Within the region, China's role as originator and transmitter of shocks has increased in recent years. Real or perceived economic instability in China could lead to bouts of financial volatility in the region, as witnessed in early 2016.

In view of the fact that several regional economies are competing with China in global value chains, depreciation of the renminbi puts pressure on other regional currencies to also depreciate.

On the upside, if China's economic performance is stronger than expected, as in 2016, there could be positive trade spillovers.

In the medium term, strengthening domestic and regional demand will be critical in the face of a tough external environment.

In this regard, China's rebalancing and opening augurs well for the region, said the Survey. The Belt and Road Initiative could provide renewed momentum for regional connectivity and intra-regional trade, while China's capital account liberalization could dramatically increase the pool of long-term financing available for investment in the region.

"The future of regional demand also depends largely on whether South Asia realizes its full potential, for which regional economic cooperation and integration could critically complement domestic efforts."

According to the Survey, monetary policy stances in the region have recently shifted from "accommodative" to "neutral" as upside risks to inflation increased.

In the first three months of 2017, policy interest rates were on hold in India, Indonesia and the Philippines, while short-term interest rates increased in China, in contrast to the previous two years when policy rates were lowered consecutively or kept at record low levels in these economies plus others such as Pakistan, the Republic of Korea and Thailand.

Average inflation in developing Asia-Pacific economies is projected to rise from 3.6 per cent in 2016 to 3.8 per cent in 2017 and 2018.

While global commodity prices have largely stabilized since 2016, they remain a source of upside or downside risk depending on whether a country is a net commodity exporter or importer.

If global oil prices overshoot baseline projections of $55 per barrel, net importers of oil in the region would face higher inflation but net exporters would see faster economic recovery.

Despite the OPEC production limitation agreement, large inventories and the availability of shale oil in the United States have so far limited further price rises.

In any case, the boost from low inflation and supportive monetary stances has been smaller than expected. For instance, countries which underwent disinflation or reduced their interest rate did not necessarily see output growth accelerate in the following year.

Possible reasons include relatively weak growth in real wages and farm incomes on the consumption side and uncertainty and excess capacity on the investment side.

In some countries, private sector debt overhang was also a major factor. In particular, private investment has not been forthcoming in many countries.

The Survey said that the recent up-tick in inflation, though mostly due to non-domestic demand factors, such as oil prices and exchange rate depreciation, calls for caution. Likely currency depreciation could further limit monetary policy space, not least due to its inflationary impact.

Nevertheless, raising policy rates would be difficult as well. For instance, leveraged households and firms could find that debt service costs will rise and refinancing become more difficult, thus increasing financial stability risks.

Economies are therefore advised to maintain the status quo in terms of policy interest rates.

At the same time, they should consider strengthening the management of capital flows and macroprudential measures to mitigate the adverse effects of exchange rate depreciation and to ensure financial stability.

According to ESCAP, a potential source of financial instability in the near future may be worries about excessive indebtedness. In 2016, global total debt stood at record levels of $152 trillion or 225 per cent of global GDP.

Furthermore, a specific vulnerability of debt accumulation is that, although issuance of local currency bonds has increased, considerable volumes of debt have been issued in hard currency, mostly the United States dollar.

The interest rate hikes in the United States, together with the strong dollar, could spark a trend reversal.

ROLE OF FISCAL POLICY

The Survey underscored that fiscal policy could further play an active role in stabilizing the economy and supporting development priorities, but its effectiveness depends critically on good governance.

Fiscal policy stances in the region have been broadly counter-cyclical and expansionary in recent years. China implemented large infrastructure projects and tax breaks; India adjusted its medium-term fiscal consolidation path to accommodate higher current expenditures; and the Republic of Korea and Thailand engaged in various stimulus measures.

However, net commodity exporters have taken a more cautious approach in view of the terms-of-trade losses that have affected public finances.

"Ensuring fiscal sustainability requires tax reforms and effective debt management, keeping in mind the potential positive spillovers of social and infrastructure investments on the economy," said the Survey. In assessing fiscal sustainability, countries could consider the potential positive spillovers of social and infrastructure investments on the economy.

If the spillovers are sufficiently large, for instance due to the "crowding in" of private investment, the public debt to GDP ratio could be stable over the long term.

To achieve economic health, countries often need to make changes in the basic structure of their economies.

Structural reforms are measures that are aimed at raising productivity by improving the technical efficiency of markets and institutional structures, or by reducing impediments to the efficient allocation of resources.

These range from measures as diverse as reforms on banking supervision and laws on property rights to changes in tariff rates or rules on hiring and firing.

"Keeping in mind the broad objectives of productivity growth, equity and environmental sustainability, countries need to decide which reforms are most critical in the specific country context and whether several reforms could be bundled or sequenced."

In the past, structural adjustment programmes in crisis-affected developing countries often took "one-size-fits- all" and "big bang" approach.

An alternative approach is less ambitious, consisting of sequential targeting of binding constraint. A potential advantage of this approach is that early wins could create political support for reforms over time, and that the sense of ownership will increase, which could also allow time for countries to "learn to reform".

This situation is in contrast to the Washington Consensus and its augmented version, which tends to be prescribed from the outside and suffer from redundancy or the lack of a well-defined list of priorities.

The region's own experience, including that of China, seems to support the sequential targeting approach, said ESCAP.

Moreover, the region's own experience also highlights the important role of the State in structural reforms.

The Government provides an enabling environment of policies, institutions and public services that helps factor and product markets to work efficiently, which in turn enables private sector-led growth to take place.

ESCAP also said that in view of the fact that social protection coverage in Asia and the Pacific is still relatively low and that there are important gaps in both the depth and breadth of social assistance for the working-age population, a series of policies needs to be considered.