East & South Asia: Economic Snapshot for East & South Asia
June 18, 2018
Growth accelerates in Q1; trade war drums are beating louder
Economic growth in East and South Asia (ESA) was robust in Q1 on the back of largely accommodative monetary policies, strong global growth and bold fiscal support. A comprehensive GDP growth estimate for the region shows that ESA countries expanded an aggregated 6.4% annually in Q1, marking the fastest growth in over three years. The print was a notch above both Q4’s 6.3% increase and last month’s forecast of 6.3% growth.
The upward revision reflected stronger-than-expected growth in India as bold government support propelled public consumption, household spending and gross fixed investment. Risks, however, are looming: A narrowing output gap and the tightening cycle in the United States is forcing the Reserve Bank of India to abandon its loose monetary policy stance. Rising oil prices will increase India’s import bill, exacerbating external imbalances, while the country’s battered financial system will continue to weigh on growth. Moreover, uncertainty ahead of next year’s general election will likely dampen business sentiment.
Recent data suggests that economic growth is losing some momentum in Q2. Despite remaining resilient, export growth is moderating across the region as the tech cycle likely peaked in Q1. A softer external sector is translating into a smaller backlog of work at Asian factories. As a result, in general, manufacturing PMI readings in the ESA region have been on a clear downward trend in the second quarter. Lower manufacturing activity has the potential to increase unemployment among export-driven economies, threatening to reduce household consumption.
Resilient economic activity in the United States, meanwhile, is forcing the Federal Reserve to accelerate its tightening cycle. As a result, currencies in the region are weakening against the greenback, and interest rates are slowly rising. Although a majority of countries in the region hold large amounts of foreign currency reserves, preventing any sharp deterioration in their external accounts, a strong U.S. dollar and a widening interest rate differential with the U.S. will prompt central banks to end their loose monetary policies sooner than previously expected. Against this backdrop, FocusEconomics panelists pencil in a deceleration in Q2, with growth in ESA seen slowing to 6.2%.
While growth in the ESA region is losing some speed on the back of a maturing global economic cycle, the tit-for-tat trade spat between China and the United States is threatening to add further downward pressure to ESA’s economic outlook. On 15 June, the United States imposed a 25% tariff on USD 34 billion worth of imports from China and put an additional USD 16 billion under review for future tariffs. China immediately retaliated with measures of a similar magnitude. The war of words continued, and, several days later, U.S. President Trump threatened to implement up to USD 200 billion in additional tariffs if China retaliates. So far this year, the Trump administration has implemented tariffs on washing machines, solar panels, steel and aluminium. While these measures affect a wide range of countries spanning from the European Union and Canada to Korea and Mexico, the main target of Trump’s action has been China and its plan to upgrade its industrial sector.
The impact of the current tariffs on the ESA economy is expected to be limited, as the affected products represent only a small share of the region’s total exports. An escalation of trade protectionism measures, however, could derail an otherwise robust growth trajectory in the region. A general increase in tariffs between China and the United States would hurt business confidence worldwide and, by extension, investment. Moreover, reduced demand for manufactured components will negatively affect suppliers for those products, which are mostly located in Asia.
Q1’s strong result continues to boost ESA’s 2018 GDP forecast despite trade war fears
ESA’s economic outlook continues to benefit from a stronger-than-expected start to the year due to accommodative monetary policies, bold fiscal support and resilient global growth. That said, economic activity is expected to moderate in the second half of the year due to softer global growth and, therefore, slowing external demand. Financial conditions are gradually tightening on the back of higher interest rates in the United States. Moreover, while the direct economic impact of the trade disputes between the United States and some other key global economies, mostly China, has been limited for now, a further escalation in trade tariffs could seriously undermine global trade.
This month, FocusEconomics panelists upgraded their growth estimates for the ESA economy for the first time in five months. Our panel of analysts now expects the ESA economy to grow 6.2% in 2018, up 0.1 percentage points from last month’s estimate. Reflecting rising economic uncertainty and a transitioning Chinese economy, regional growth for 2019 is seen slowing to 6.0%.
This month’s upgrade to the ESA region’s economic outlook for 2018 reflects improved growth prospects for Hong Kong and Mongolia. Regional behemoths China and India, as well as Korea, Sri Lanka and Taiwan, saw no change to their forecasts. Advance government estimates put growth in Bangladesh and Pakistan at multi-year highs in Fiscal Year 2018, which ends in June.
Bangladesh is expected to be the fastest-growing economy in the region this year, if preliminary estimates are confirmed, followed closely by India. The Chinese economy is expected to expand a robust 6.5%. The more mature economies of Korea and Taiwan will likely be the region’s laggards, logging expansions below 3.0%.
CHINA | Growth slows in Q2 amid a looming trade war with the U.S.
Economic growth moderated sharply in May, mostly due to tighter financial conditions as authorities continue to crack down on shadow banking and support financial deleveraging. Infrastructure investment, which is highly sensitive to new credit, led the fall in fixed asset investment growth. While manufacturing output slowed in May, activities related to the new economy—mostly high-tech—continued to post solid growth. After showing resilience for most of this year, consumption has now become a concern as retail sales growth fell to a multi-year low in May. While a drop in car sales represents the bulk of the deceleration, a further deterioration in retail sales could seriously hit growth in H2. The escalation in the trade war between China and the U.S. continued in June, with both countries targeting USD 50 billion in import tariffs. While the impact is expected to be rather limited, it represents another step towards a full-blown trade conflict.
Although recent data suggests the economy is losing some steam, China will still record enviable growth this year, mainly due to resilient domestic demand. The main risks to the economic outlook are rising trade tensions, fears of abrupt financial deleveraging and a cooling housing market. Authorities, however, will likely step in if growth slows sharply. FocusEconomics panelists forecast the economy will grow 6.5% in 2018, which is unchanged from last month’s forecast. In 2019, the economy is seen growing 6.3%.
INDIA | Government support propels growth in the January–March period
The economy performed well in the fourth quarter of FY 2017 (which ended in March 2018), achieving the highest rate of growth in seven quarters. Private consumption, government consumption and fixed investment all expanded at accelerated rates in Q4. However, the external sector detracted from growth, with imports increasing much faster than exports. All in all, faster growth in Q4 highlights that the economy is emerging from the headwinds of demonetization in November 2016 and the introduction of the Goods and Services Tax in July 2017. Meanwhile, recent data points to reason for optimism going into FY 2018: Industrial production expanded at a healthy pace in April, supported by strong growth in the mining and manufacturing sectors. Moreover, business activity in the private sector increased for the third consecutive month in May.
In FY 2018, a normalization in cash conditions following the demonetization of late 2016 and the fading of disruptions from last year’s launch of the Goods and Services Tax should facilitate the economic recovery. A FY 2018 budget skewed to benefit rural incomes should also boost private consumption. Nonetheless, risks of fiscal slippage, concerns over India’s banking sector and higher oil prices cloud prospects. 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 | Incoming data paints a mixed picture of the economy in Q2
Comprehensive data released in June confirmed that the economy performed well in Q1 2018. Growth was boosted by strong private consumption, government consumption and fixed investment in the quarter, which outweighed the detraction resulting from external sector dynamics. Meanwhile, so far in the second quarter, the economy appears to have maintained its footing. In May, consumer confidence increased, driven by improved sentiment regarding current and future domestic economic conditions. Moreover, in the same month, merchandise exports strongly increased due to higher semiconductor sales. However, complicating the economic picture is the manufacturing sector, which suffered a contraction in business activity for the third consecutive month in May. Meanwhile, on 21 May, parliament approved the government’s supplementary budget for 2018 worth USD 3.8 billion (0.2% of GDP). Most of this additional funding will be spent in the coming two months, targeted at reducing youth unemployment.
This year, the economy should be supported by increased government spending, along with the possibility of reduced geopolitical tensions on the Korean peninsula. However, high household debt and recent government measures to tame increasing housing prices could weigh on growth prospects. FocusEconomics panelists forecast the economy will grow 2.9% in 2018, which is unchanged from last month’s forecast, and 2.8% again in 2019.
INFLATION | Inflation stabilizes in May
Inflation in East and South Asia stabilized in May following two consecutive monthly declines. Regional inflation stood at April’s 2.3% in May, according to an estimate produced by FocusEconomics. The result mostly reflected stable inflation in Bangladesh and regional heavyweight China. Price pressures strengthened in India, Mongolia, Pakistan and Sri Lanka. Conversely, inflation declined in Korea and Taiwan.
Despite the anticipation of a June rate hike in the United States, China, Korea, Mongolia, Sri Lanka and Taiwan did not move to tighten their monetary policies in the last few weeks. India, however, decided to hike all key interest rates at the Bank’s meeting on 4–6 June on the back of rising inflation and a sliding currency. The State Bank of Pakistan hiked its key policy rate on 25 May in an attempt to contain the weakening of the rupee and build up foreign reserves. Moreover, on 10 June, the Bank devalued the currency for the third time since December amid a global selloff in emerging markets and a deterioration in Pakistan’s current account deficit. Hong Kong increased the base rate as expected on 14 June to maintain the island’s peg with the U.S. dollar.
Higher commodity prices, especially for oil and oil-related products, are expected to push up inflation this year. Moreover, weaker currencies in the region will add upward pressure to prices. Panelists polled by FocusEconomics project average inflation of 2.6% this year, which is down 0.1 percentage points from last month’s estimate. Inflation is expected to average 2.7% in 2019.
Head of Economic Research