South and South-East Asia in the Midst of a Global Recession

(this piece is also featured on Nouriel’s Roubini Global EconoMonitor)

In a recent analysis, Nouriel Roubini argued that the probability of a global recession has increased. Macro developments in the last few weeks suggest that now all of the G-7 economies are already in a recession or close to tipping into one. Other advanced economies like Australia and New Zealand and many emerging markets are also on the tip of a recessionary hard landing.

Trade and financial linkages with the G-7 countries mean that Asia is unlikely to remain unscathed. Asian economies dependent on exports to the US and Europe and having large current account surpluses (China, Taiwan, Hong Kong, Singapore and others) will suffer from the G-7 recession. Those with current account deficits (India, Vietnam) might suffer from the global credit crunch and a sudden stop of capital, which also exacerbates home grown liquidity squeezes (South Korea). ASEAN economies are witnessing record inflation led by food and commodity prices and fuel price hike by some governments (to contain subsidy bill). But external shocks in many of these economies have been exacerbated by domestic factors like strong credit growth, loose monetary policy and undervalued exchange rate fueling domestic demand and asset bubbles, along with fiscal spending boosting demand and subsidies veiling the true costs of consumption. But in spite of inflation risk, central banks delayed or even prevented monetary tightening and currency appreciation in order to support growth as they feared exports would take a hit from U.S. slowdown. Instead they relied on administrative measures like price controls, export restrictions, lower import tariffs (have also recently shown likeness for fiscally stimulating the stock market and domestic demand). However, a stronger than expected U.S. economy and continued growth in Europe and emerging markets (including China), Middle-East till H1 2008 supported Asian exports though export growth did soften from late 2007. So rather than the much anticipated export shock it was the food and oil price shock that threatened (and continues to threaten) Asia’s macro stability. Delayed policy responses to cope with inflation and its impact on growth has raised concerns among foreign investors leading to stock market decline and capital outflows in many countries, and putting a downward pressure on the currencies. This has led many central banks to intervene in currency markets to defend the currency by selling forex reserves especially as higher currency would help contain imported inflation. However, by mid-2008, even export growth has taken a hit while the headline inflation has made its way through second-round price effects via higher wages and transportation costs.

Intra-Asia trade seems unable to offset slowing exports to the G-7 economies since most of it is actually for final exports to the G-7, and also as domestic demand in Asian economies also slows demand for consumer and industrial imports and most importantly the slowdown extends from the U.S. to EU, Japan and Ems like China, Latam. So while a global poses risks to growth, Asian central banks largely behind the curve will continue to face inflation spiral. Loose monetary policy has resulted in negative real interest rates in India, Indonesia, Vietnam, Malaysia, Thailand, Singapore and Philippines. Effect of food and fuel subsidy bill on fiscal balance would also reduce the room for expansionary fiscal policy to prop up demand. Moreover, the recent easing of oil and commodity prices and possibility of their further downward trend amid a global slowdown (especially U.S. and China) might entice Asia to believe that inflationary pressure may be abating. Impact of a global slowdown and commodity price correction on exports may in fact see Asian countries returning to the export-led growth strategy to follow a loose monetary policy and undervalued currency. However, this will only worsen the probability of a stagflation-like environment. In spite of large forex reserves, the impact of these growing macro risks will worsen foreign investor sentiment, posing risks to asset markets, currency depreciation and financing of rising external deficits/slowing surpluses.


After the stellar 9%-plus growth during 2006-07, India’s 2008 growth forecast has been lowered to below 8%. In spite of being labeled as a domestic-demand driven economy resilient to global slowdown, the recent investment boom and above-potential growth were rather buoyed by benign global liquidity conditions. The Oil price shock has exposed India’s vulnerability with the trade deficit, expected to exceed 10% of GDP while global financial turmoil and weakening growth prospects have led to capital outflows and downward pressure on the currency. Corporate earnings and capex plans are also at risk amid rising production costs and lending rates, accentuated by global credit crunch and stock market volatility. The 16-year high inflation is partly led by food, commodities and fuel price hike but exacerbated by strong domestic demand, pre-election fiscal spending and credit growth. The Subsidy burden may raise the fiscal deficit to over 10% of GDP. Further, interest rate hikes will severely impact consumer spending and private investment so that only an easing of global commodity prices will be a blessing.

Indonesia’s 6%-plus growth in recent quarters has been buoyed by oil and commodity exports but also domestic private demand and government’s pre-election spending. Commodity prices have also supported energy stocks notwithstanding the stock market decline of over 23%. Nevertheless, capital outflows and downward pressure on the currency reflect the increase in investor’s risk aversion. Rising fiscal deficit, impact of commodity price correction on exports as well as close to 12% inflation pose risk to asset markets and GDP growth. Shrinking current account and balance of payment surplus amid slowing capital inflows are also a concern. The central bank has maintained a tightening bias (taking the interest rate to 9% in August) in order to contain second-round effects of the fuel price increase during May and also to support the currency. But the central bank’s inflation bias unlike its several neighbors is because global commodity demand, especially by China has supported oil and commodity exports so far. The case for domestic demand holding up amid export (both oil and non-oil) slowdown may be undermined by the impact of continued interest rate hike on consumer spending even as fiscal subsidy burden constrains government’s infrastructure and development spending.

Concerns over Singapore’s GDP growth contraction of 6% in Q2 2008 from Q1 has shifted focus from inflation to growth. Exports and industrial production have continued to contract led by slowing electronic exports to US and EU. Subprime exposure and global liquidity crunch continue to impact banks and financial services while higher production costs and tighter credit have caused some correction in the real estate sector. The 7%-plus inflation running at a 26-year high is partly led by high food and oil import dependence and but inflation risk has nonetheless persisted in the recent quarters due to an overheating economy, housing bubble and tight labor market. To aid export-led growth, the central bank may give up or keep on hold its past exchange rate tightening bias especially as global and domestic slowdown are expected to commodity prices as well as domestic input and product markets ahead while further exchange rate appreciation may not be effective in controlling price pressures emanating from the domestic economy. On a brighter note, the govt has enough fiscal room to pump up domestic demand as well as compensate people for higher cost of living. Nonetheless, the impact of slowdown in the previously booming sectors (finance, housing, and manufacturing) may weigh down on domestic demand.

Like Indonesia, Malaysia’s 6%-plus growth has so far been led by strong energy exports as well as domestic demand. But slowing electronic exports and recent correction in commodity prices point towards the risk of declining current account surplus and growth slowdown in the coming quarters. This is especially true as inflation and recent fuel and electricity price hike will impact consumer spending. Investment is also weakening but only partly due to slowdown in manufacturing activity and more so because of ongoing political turmoil. Recent political events have taken a toll on the stock market which is already battered by rising inflation and lower corporate earnings, apart from undermining the use of fiscal stimulus as growth slows. Amid concerns of export slowdown, the central bank has adamantly kept the interest rate on hold at 3.5% and is preventing the use of currency appreciation to control inflation which reached more than a two decade high of 7.7% in July. However, more than the impact of export slowdown it is widely expected that negative real interest rates and second-round price effects via wage inflation, higher production and transportation costs will play a greater role in pulling down growth. This might eventually lead to monetary tightening to prevent a stagflation environment.

Philippines’ growth started weakening in early-2008 led by significant slowdown in exports while consumer demand and fiscal spending have continued to be the bright-spots, boosting Q1 2008 growth by 5.2%. Spike in food (especially rice), oil and commodity prices and strong domestic demand pushed inflation to a 16-year high of 12.2% in July. This has been exacerbated by a weakening currency forcing central bank intervention in the currency markets and a monetary tightening bias. However, as the U.S. economy worsens, a stronger currency might dent exports and also the purchasing power of remittances. But if the central bank follows this to cut interest rates or stay on hold ahead, it will only exacerbate inflationary pressure. The Philippines however has a better fiscal position compared to some of its neighbors to stimulate growth.

Like Malaysia, Thailand is weathering slowing exports to the U.S., inflationary pressure from to food (rice shortages) and oil prices and extreme political risk. Domestic demand is being boosted by govt’s fiscal stimulus largely backed by political considerations. In spite of a 6% growth in Q1 2008, continued interest rate hike to contain the decade high inflation of 9.2% in July may dent private demand and reduce growth to below 5% in 2008. On the other hand, an 18% fall in the stock market since early 2008 signals that political uncertainty has taken a toll on business confidence.

Vietnam’s story has been volatile – it has gone from being the ‘next China’ to the ‘next Thailand’. Apart from the monetary policy of dollar-pegged exchange rate and currency intervention of capital inflows, food shortages and oil price hike have also exacerbated the 27% inflation rate. Overheating concerns in early 2008 were reflected in the import-led trade and current account deficits, credit growth, high fiscal spending, equity and real estate market bubbles and risk of a wage-price spiral. Macro risks emerging from the above-potential growth resulted in S&P and Fitch ratings downgrades. Delayed and inadequate responses to fight inflation heightened investor risk aversion causing the exchange rate to decline by almost 30% in the forwards and black market, leading to expectations of a speculative attack on the currency and taking the stock market down by over 50% in early 2008. Like India, the central bank worried about the second-round price effects has undertaken delayed yet aggressive monetary tightening and devalued the currency by 2% along with measures to contain asset bubbles and to monitor bank lending. These measures along with govt’s price control, trade restrictions, lower infrastructure spending have helped overeating sources to slow down off late. Growth has also weakened from a high of 8.5% in 2007 to 5.5% by Q2 2008 and is only expected to slow ahead as U.S. slowdown and oil price correction impact exports and the manufacturing sector even as higher lending rates and erosion of real wages affect private demand. Yet, there are calls for further monetary tightening, exchange rate flexibility and administrative measures to control possible risks from the very high negative real interest rates.

12 Responses to "South and South-East Asia in the Midst of a Global Recession"

  1. Mohit Satyanand   August 21, 2008 at 7:56 pm

    Congratulations! You are the first economic commentator I have read forecasting 2008 growth for India at below 7% – even if that is at the low end of your widish band. My own predicition for the 2008-09 fiscal year (April 08 – March 09) is 6%.

  2. phaedrus   August 22, 2008 at 9:26 am

    CMIE remains optimistic indicating that IIP and WPI readings are faulty – if my memory serves me right, they were closer to India’s actual GDP numbers for FY 08. Lets see – second quarter GDP numbers are out next week…maybe like last year we will see all the economists on the sell side again revising their numbers.

  3. Guest   August 22, 2008 at 11:45 am

    Malaysia cud hv done better, much better.

  4. Anonymous   August 24, 2008 at 12:52 am

    Funny… a few months ago people were tripping over themselves to predict ever higher growth potential for india, and all manner of growth acctg studies were analyzed and tweaked. Now we are seeing a move in the opposite direction. looks like the india growth miracle is…poof.

  5. Anonymous   August 24, 2008 at 10:42 pm

    The 6% growth for Malaysia must be taken with a pinch of salt. Even some bankers have wondered privately whether the present administration is cooking the books.

  6. Anonymous   August 25, 2008 at 8:48 am

    It would be interesting to publish a similar diagnostic for Latin America; is it coming?

  7. Anonymous   August 25, 2008 at 9:44 am

    On the optimistic CMIE forecast, see the blog post on Ajay Shah’s blog.

  8. Anonymous   August 25, 2008 at 9:46 am

    Ooops. The correct URL for the blog post on Ajay Shah’s blog about the CMIE forecast is: this.

  9. Anonymous   August 25, 2008 at 9:47 am

    This website is broken. The URL is

  10. phaedrus   August 26, 2008 at 12:58 am

    Link to RBI report on consensus GDP estimates for FY 07 & FY 08 08 – the actual numbers were 9.6% & 9.1% respectively !

  11. Robes Pear   August 27, 2008 at 12:50 pm

    Amazing! the power of fiat money to shift power invisibly. The financial structures are now encircled and suffering seige, while the offensive power slowly waits them out as they exhaust resource. BUT, these are paper soldiers made of paper money, with the presses within the city. Every “liquidity injection” produces more fighting force for the beseiged, while diluting the power of the beseigers. What a wickedly, smart, canny device! Reminds one of a virus who has taken over the replicating powers of cellular division, its sources the strength of the host to produce the very means of destroying it.Real money (precious metal), being scarce in nature, would hamper them and quicken the ultimate end.This is a war where the defenders can access deep wells of water and supplies from the very enemy they combat. They are able to interdict and appropriate their own supply lines silently, at any time of their choosing. Truly a scorched earth policy where a financial encirclement weakens or destroys both armies. No longer is this creative destruction, but simply steroidal destruction. Welcome to the engineering works and barricades of international central banking. Is this the reason that there was such distrust of secret groups having monetary authority over large populations but without the governed having any check-balance power to mitigate mischief? We are on the cusp of a monumental destruction and reallocation of world wealth. Where a little unethical slippage can be stomached for the “greater good”, great slippage is not far behind.Assuredly, this cannot end well. It will not end just with fiscal discomfort. It will not just end with dimunition of lifestyle.

  12. London Banker   August 28, 2008 at 7:27 am

    I keep reminding the young that inflation goes hand in hand with political instability. It is noteworthy that Anwar has succeeded in getting seated as an MP in Malaysia and may finally wrest power from the entrenched one party powers there. Or he may get prosecuted for some new improvised sex crime and imprisoned once again. Either way political instability and dissatisfaction will increase pressure on the government and on the economy.In this light it is perhaps understandable that the dollar would fare better again, as political risks more than anything else fuel a flight to dollars – the favoured currency for corrupt politicians offshoring their illgotten gains.I remember in the 1980s that for every new dollar of lending during the third world debt crisis, approximately 80 cents returned to New York or Miami within one year as “private banking” deposits. What do you want to bet that we see the same thing again over the next five years?