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Brexit Is Not Asia’s Only Worry

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Pacific Money

Brexit Is Not Asia’s Only Worry

Warning lights are flashing, say some analysts.

Brexit Is Not Asia’s Only Worry
Credit: Ricky Qi

The “spanner in the works” thrown by Brexit at the global economy has failed to massively dent Asia’s growth prospects. But amid warnings of another Asian financial crisis, not everyone is sanguine on the outlook.

In its latest “World Economic Outlook” report, the International Monetary Fund (IMF) decided Tuesday to cut its forecasts for global economic growth for this year and the next, saying British voters’ decision to quit the European Union (EU) had helped create “a wave of uncertainty” amid fragile business and consumer confidence.

The Washington-based institution cut its projections for the world economy to gross domestic product (GDP) growth of just 3.1 percent in 2016 and 3.4 percent next year, both down 0.1 percentage point compared to the IMF’s April outlook. If not for Brexit, the global forecast would have been slightly higher, it said.

“The Brexit vote implies a substantial increase in economic, political, and institutional uncertainty, which is projected to have negative macroeconomic consequences, especially in advanced European economies,” the IMF said.

Britain and Europe will be the hardest hit by fallout from the Brexit referendum, with the Fund cutting its forecasts for both relatively mildly on the assumption that the damage would be contained by policymakers. Should the “negative outcomes” not be managed though, world growth could drop below the 3 percent threshold amid tighter financial conditions, weaker consumer confidence and increased financial stress, it said.

For Asia, the “flight to safety” caused by Brexit has forced the Japanese yen higher, damaging exports and private investment. As a result, the IMF cut its 2016 forecast for the world’s third-largest economy by 0.2 percentage point to just 0.3 percent.

Next year’s projection of a barely crawling 0.1 percent GDP expansion is 0.2 percentage point higher than predicted in April, thanks to Japanese Prime Minister Shinzo Abe’s move to postpone another consumption tax hike.

In contrast, the IMF raised its GDP forecast for China by 0.1 percentage point to 6.6 percent in 2016, with its 2017 estimate unchanged at 6.2 percent. Fortunately for the world’s second-largest economy, the impact of Brexit is expected to be muted “because of its limited trade and financial ties with [Britain],” although this could change should the EU weaken even further.

Fortunately for emerging and developing Asia, the Fund left its forecasts unchanged at 6.4 percent GDP growth this year and 6.3 percent in 2017. “Incredible India” saw its projections cut slightly, down 0.1 percentage point this year and next, but with its 7.4 percent GDP expansion is still seen as the fastest-growing major economy.

The “ASEAN 5” of Indonesia, Malaysia, the Philippines, Thailand and Vietnam are also seen growing still, with their projections left unchanged at 4.8 percent GDP growth this year, rising to 5.1 percent in 2017.

Nevertheless, the Fund warned of further threats to the outlook that could be further exacerbated by Brexit. These included “unresolved legacy issues in the European banking system,” particularly Italy and Portugal; protracted financial market turbulence; political divisions within advanced economies that were hampering efforts to resolve the refugee issue and could spark a shift toward protectionist trade policies; and continued geopolitical tensions and terrorism.

Rather than relying on monetary policy, policymakers in advanced economies should consider other measures to support domestic demand, along with structural reforms to reinvigorate medium-term growth, the IMF said.

ADB: Developing Asia Still Solid

However, not all economic forecasters have turned bearish in the wake of Brexit.

On Monday, the Asian Development Bank (ADB) said growth in Asia and the Pacific’s developing economies for 2016 and 2017 would “remain solid” thanks to firm performances in East, South and Southeast Asia, helping to offset softer growth in the United States and near-term market shocks from Brexit.

In a supplement to its “Asian Development Outlook 2016” report, the ADB cut its previous forecast for the developing economies by just 0.1 percentage point to 5.6 percent this year, rising to 5.7 percent in 2017.

“Although the Brexit vote has affected developing Asia’s currency and stock markets, its impact on the real economy in the short term is expected to be small,” the ADB’s chief economist Shang-Jin Wei said.

“However, in light of the tepid growth prospects in the major industrial economies, policymakers should remain vigilant and be prepared to respond to external shocks to ensure growth in the region remains robust.”

The Manila-based organization said South Asia would lead the charge for the region, with India expected to shrug off global headwinds and post 7.4 percent GDP growth in fiscal 2016, helped by brisk consumer spending and an improved rural economy.

China’s stimulus measures have put it on track to meet the ADB’s forecasts, with Asia’s largest economy expected to expand by 6.5 percent this year and 6.3 percent in 2017.

For Southeast Asia, the ADB said its growth projections remained unchanged at 4.5 percent and 4.8 percent for this year and next, with only Vietnam feeling ill winds due to a worsening drought.

Nevertheless, not all economists have shared in the optimism over the region’s economic outlook.

According to Japan’s financial daily the Nikkei, economists across the region have cut their growth forecasts in the wake of Brexit, with the impact expected to be felt in financial markets first and eventually the “real world” of trade and investment.

The survey conducted by the Japan Center for Economic Research and Nikkei saw the growth forecast for the ASEAN 5 cut to 4.6 percent in 2017, with downgrades next year for Malaysia, Singapore and Thailand.

When asked to cite the biggest risks though, the 38 economists polled in the ASEAN 5 and India suggested “financial turmoil triggered by an unanticipated event,” along with other market-related risks such as lower commodity prices and capital outflows.

Similar to the IMF report, India is seen as the shining light with forecast GDP growth of 7.8 percent this year, rising to 7.9 percent in 2017, outpacing China’s expected 6.3 percent GDP expansion in both years. The Philippines is also expected to pick up speed, increasing from 6.2 percent GDP growth in 2017 to 6.7 percent by 2018.

Early Warning

Yet an early warning indicator developed by Nomura Research Institute (NRI) suggests China and Hong Kong are at high risk of being hit by a financial crisis, according to NRI’s Robert Subbaraman.

“At a bare minimum, Asia’s maturing and oversized financial cycle will remain a major structural drag on GDP growth in coming years,” he told the Australian Financial Review.

“However, there are good reasons to heed the warning that the reversal of Asia’s financial cycle could be abrupt.

According to the Australian financial daily, six potential triggers for a crisis comprise quicker than expected rate hikes by the U.S. Federal Reserve; a stronger U.S. dollar; a major corporate default in an emerging market; a large devaluation of China’s renminbi; an inflation shock in Asia; and political instability.

Subbaraman pointed to a rise in private credit to GDP ratios in much of Asia that has helped fuel a property boom, while cheap credit had also led to increased risk of corporate default. He said the NRI warning indicator was now at 189, its highest level since the 1997 Asian financial crisis, with China and Hong Kong showing the most warning signals.

“In China, the number of signals had been at, or near zero, from the late 1990s up to the fourth quarter of 2012, but in the past 12 quarters has skyrocketed to 44 [of a maximum 60]…In Hong Kong, the latest number of signals [42] almost matches the peak number during the Asian crisis,” he said.

Should a financial boom turn to bust, the result could be a protracted Japan-style “balance-sheet recession,” at a time when central banks have nearly fired all their bullets.

With the warning lights from Brexit and elsewhere apparently flashing, Asia has got its work cut out to continue supporting a flagging global recovery.