SINGAPORE (Sept 3): In the past year, the global environment for Asian economies has grown ever more uncertain. The outlook for critically important drivers of Asia’s well-being — demand for its exports, prices of oil and other key commodities, geopolitical pressures, the functioning of the trade regime — are all subject to greater unpredictability. It might be useful therefore to identify the most important variables affecting the region’s prospects and work out as best as we can where each is headed.
What emerges from this analysis is that pressures are building up in key areas. These are likely to trigger events that will increase the downside risks for the region.
Global economic prospects: Only the US is up, maybe too strongly…
In our previous column, we argued that there was an unambiguous deceleration underway in global economic activity except in the US, where it was accelerating. This pattern has continued, with even greater evidence that the US economy could actually be overheating. In fact, recent data suggests that the US economy will see accelerating domestic demand accompanied by an increasing possibility that inflation and the external deficits could worsen:
We think there is a high likelihood that unemployment, wage growth, consumer inflation and the external deficits will reach levels that force the Fed to shift from its cautious pace of monetary tightening to a faster one. That would be very damaging to emerging markets.
…while other economies, especially China, are slowing
What about the rest of the world? The Organisation for Economic Co-operation and Development lead indicators and other high-frequency indicators suggest that Europe and Japan will slow a tad. Forward-looking indicators we have developed to track future export demand for Asia are also pointing to weaker growth in Asian exports. More than that, a measure of global liquidity that we follow is now declining for the first time in almost a decade, a bad sign for asset prices in emerging markets, which suggests more wild swings in emerging market currencies, equities and bonds.
But the big swing factor in the world economy is China, so we should focus on that. Here, there is ample reason to worry because the key engines of growth are slowing:
However, policymakers in China have recognised the risks and are easing policy, stepping up infrastructure spending and easing a little on monetary conditions. But unlike in previous periods of a slowing economy, their room for manoeuvre is constrained by the build-up of debt in the economy and their own fears that easing policy to support growth could easily lead to even more debt, which could destabilise the economy in future. This is particularly the case because the past few weeks have seen more evidence of financial stresses escalating, from the collapse of peer-to-peer lending platforms to a near default by a state enterprise and a rise in non-performing loans.
Clearly, we are at a stage in China where even policymakers as astute as the country’s will struggle to get the exact balance right in this context. China is a growing risk for the world economy.
US: Trump presidency in danger
Trump has suffered a series of setbacks in the past two weeks. His former lawyer, Michael Cohen, appears to be working out a deal with prosecutors to avoid a long prison sentence for various financial offences. In his court appearance, Cohen seemed to suggest that Trump had instructed him to make payments that may be deemed illegal under campaign financing laws. Two other key associates who are also facing possible criminal charges have been given immunity, presumably in exchange for information that may hurt Trump directly or indirectly. Even for a Teflon-coated president such as Trump, these developments pose serious threats that could undermine his presidency and even lead to criminal charges in future.
There is one reason why this matters to the rest of the world — a president under siege from his domestic opponents may well feel he has to create an international distraction to deflect attention from his problems and rally the people around him. This is where trade tensions and other geopolitical risks come to the fore.
Trade frictions will worsen in near term
Some observers have taken heart from the decision by the US and Mexico to reach a new agreement on their trading relationship. Certainly, this is good news and we may well see this agreement broadened to include Canada in a revised North American Free Trade Agreement. However, other developments on the trade front have been worrying:
In short, there is going to be more uncertainty for businesses as trade tensions grow.
Geopolitical flashpoints — watch Iran
Trump has clearly shown his distaste for the Iranian regime by pulling the US out of the multilateral deal with Iran that persuaded it to give up its nuclear programme. Tough US sanctions on Iran have come into force, with more following in the coming months. Already, Iran’s oil exports have plunged in the first half of August and are set to fall further in the coming months. Even China and India, which dislike bowing to US pressure, have chosen to cut back imports of Iran oil rather than risk their relations with the US.
As a result, prices of the benchmark Brent crude, which have already risen 43% over the past 12 months, could move up further. That would take them to a level that would damage many emerging economies, such as India, that depend on oil imports: Their economic growth would slow, inflation would rise and their current account deficits deepen.
Implications for Asia
There is more we can say of other geopolitical and economic risks, but the basic picture is clear — the world is not going to be a safe place for emerging Asian economies:
Basically, Asian policymakers will have to be innovative in how to buffer their economies against these external headwinds because they will not be able to use traditional monetary and fiscal policy tools as easily as before:
In short, the region is likely to face greater headwinds and occasional financial stresses. Asian policymakers have to be prepared for a more difficult period and must think out of the box to insulate their economies against these challenges.
Manu Bhaskaran is a partner and head of economic research at Centennial Group Inc, an economics consultancy
This story appears in The Edge Singapore (Issue 846, week of Sept 3) which is on sale now. Subscribe here