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Economics & Finance

Storm clouds in the Pacific

Cynthia Owens |

In 2009, government spending in China and the rest of Asia helped bail out the West when the markets tanked and the economy followed suit. Today, Asia has its own problems and may not be able to carry the West through the second wave of economic times.

In 2008 and 2009, as banks fell and economies teetered in the West, China and many of the other rapidly growing countries in Asia launched huge government spending programmes that provided outsized stimulus to stabilise Asia. That helped the entire world economy recover from the crisis more quickly than many economists predicted.

Now, as Europe appears on the brink of another recession in 2012 and the U.S. economy is barely showing signs of life, leaders in Asia are focused on engineering a soft landing for their economies and providing a longer-term plan for sustainable growth at home. They are balancing the rising demands of a burgeoning middle class with signs that economies in the region are already slowing. Chinese and other Asian leaders want a stable global economy but this time they may not be willing, or able, to play as big a role as European leaders now hope.

“It will certainly be a bit more difficult because in 2008 there was much more fiscal space and China could respond very, very aggressively with a huge fiscal stimulus,” Rajat Nag, Managing Director of the Asian Development Bank (ADB) told INSEAD Knowledge at the Global Leader Series held at the Asia campus recently.

INSEAD’s Professor of Economics, Antonio Fatas, agrees and says the response from Asia depends on the extent of the global crisis. “The recovery from the 2008-09 crisis in China was driven by government investment. You cannot keep using the same tool over and over again. If there is another world recession this time it might be felt harder in Asia.”

Growth in China is already slowing

Indeed, growth is already slowing across Asia. In China, the economy expanded 9.1 percent in the third quarter down from 9.7 percent in the first quarter of this year and most analysts expect growth of about 8 percent in 2012. The ADB expects Asian economies to grow 7.5 percent in 2011 and in 2012. That’s down only slightly from estimates of 7.8 percent in 2011 and 7.7 percent in 2012.

Still, domestic challenges are very different for China in 2011 than three years ago. After the 2008-09 crisis, Chinese banks were encouraged to lend. That opened the floodgates to excessive lending, which led to sharp rises in home prices and overbuilt infrastructure. Now China faces rising rates of non-performing loans and authorities are attempting to reign-in lending and to improve the quality of bank balance sheets.

Governments across Asia ramped up spending on infrastructure, which provided support for their economies but also contributed to inflationary pressures. Across the region, rising prices for food, energy and housing have been noticeable and have begun to eat into gains made by the growing middle class in recent years.

“The price pressures in Asia and indeed in other parts of Asia are certainly a factor,” says Nag.

Slower growth should help to bring down inflation. In October, China’s annual inflation rate fell to 5.5 percent from 6.1 percent the previous month. Similar declines were reported across Asia’s fast growing economies and that may allow governments across the region to avoid a hard landing.

“We don’t see a hard landing in the making here. For the next year, we are looking for growth of about 8 or perhaps closer to 8.5 percent,” Kobus van der Wath, founder and managing director of The Beijing Axis, an international advisory firm focused on China since 2002 told INSEAD Knowledge at his offices in Beijing recently. “And then I think 2013, 2014 and 2015 will be the real challenge. China will face some of its toughest policy challenges ever.”

One of those challenges is shifting from export dependent growth to more domestic demand. In the United States, personal consumption spending ratio to GDP is over 70 percent. In China, it’s about 35 percent, according to van der Wath. Private consumption in Indonesia helped drive growth in 2010 and 2011, but the ratio is just slightly higher than in China.

Europe's pleas for help

Amid that backdrop, EU leaders still hope China will invest billions in its European Financial Stability Facility. When the rescue plan was presented at the end of October, leaders said outside investment was crucial. China has about $3.2 trillion in foreign reserves and invests largely in U.S. Treasury bonds because the market is large and liquid. It doesn’t earn much on those investments since 10-year U.S. bonds pay just over 2 percent interest, but China doesn’t want to lose money either if the European Union can’t show long-term stability.

“China can help. It is an economy that is saving and they can provide funding for Europe. China benefits from keeping the world economy alive and growing, in the interests of everyone,” says Fatas.

Leaders in Beijing have other domestic concerns. The growing middle class in China’s big cities have rising expectations and the leadership needs to show continuous improvement in the quality of life to maintain widespread support. Chinese bloggers overwhelmingly oppose supporting Europe. They want the money spent at home.

China sees the economic crises in the West in recent years as vindication for their economic model and so Chinese leaders need to balance those domestic issues against the need to stabilise the world economy and come to the rescue of the Euro zone. “China understands the linkages, it understands the risk premium, the cost of capital, the knock-on effect, the potential impact on global confidence, and the ripple effect through its other trading partners, countries that it invests in. So, I think China is clearly acting, if anything, more and more responsibly,” says van der Wath.

Asia can help the West

China and other Asian countries are also being urged to lower trade barriers and encourage consumption. “Asia can help by importing from the West, which basically means consuming more,” says Nag. “Asia needs to become more of a ‘consumer Asia’ rather than just a ‘factory Asia.’ But this rebalancing will take time and Asia cannot pick up the entire slack.”

It’s not a trend yet, but China’s imports from Australia rose 36.7 percent October from a year earlier, which reflects Australia’s strong base in resources. Imports from the European Union were up 28.2 percent and imports from the United States were up 20.5 percent.

Nag says in addition, many countries in Asia need to focus on rising inequality. He says leaders across the region need to make sure that people at the bottom of the pyramid can participate and benefit from growth and not feel left behind as they see their country prosper. Even in relatively wealthy Singapore, the lower classes feel shut out of the better jobs and complain that they can’t afford to enjoy some of the country’s glitzy, new attractions. 

“The structural problems for Asia are two-fold. One, you’ve got to create growth with jobs, but you’ve also got to have a skilled labour force and an improvement in the quality of education and the quality of the labour force to be able to participate in this growth process,” says Nag.


Antonio Fatas and fellow INSEAD economics professor Ilian Mihov collaborate on a blog on global economy.  Click here to view. 

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