Waning momentum reflects three formidable headwinds, which
may prove to be persistent:
1-
A sharp tightening of
financial conditions, which is raising government borrowing costs and is likely
to become even more constricting, as central banks in major advanced economies
continue to raise interest rates to tame the fastest inflation in decades.
Rapidly depreciating currencies could further complicate policy challenges.
2-
Russia’s invasion of
Ukraine, which is still raging and continues to trigger a sharp slowdown of
economic activity in Europe that will further reduce external demand for Asian
exports.
3-
China’s strict zero-COVID
policy and the related lockdowns, which, coupled with a deepening turmoil in
the real estate sector, has led to an uncharacteristic and sharp slowdown in
growth, that in turn is weakening momentum in connected economies.
After near-zero growth in the second quarter, China will
recover modestly in the second half to reach full-year growth of 3.2% and
accelerate to 4.4% next year, assuming pandemic restrictions are gradually
loosened.
In Japan, IMF expects growth to remain unchanged at 1.7%
this year before slowing to 1.6% next year, weighed down by weak external
demand. Korea’s growth in 2022 was revised up to 2.6% due to a strong
second-quarter growth but revised down to 2% in 2023 reflecting external
headwinds.
India’s economy will expand, albeit more slowly than previously
expected, by 6.8% this year and 6.1% in 2023, owing to a weakening of external
demand and a tightening of monetary and financial conditions that are expected
to weigh on growth.
Southeast Asia is likely to enjoy a strong recovery. In
Vietnam which is benefitting from its growing importance in global supply
chains, IMF expects 7% growth and a slight moderation next year. The
Philippines is forecast to see a 6.5% expansion this year, while growth will
top 5% in Indonesia and Malaysia.
Cambodia and Thailand will expand faster in 2023 on a likely
pickup in foreign tourism. In Myanmar, which has endured a deep recession due
to the coup and pandemic, growth this year is expected to stabilize at a low
level amid continued unrest and suffering.
The outlook is more challenging for other Asian frontier
markets. Sri Lanka is still experiencing a severe economic crisis, though the
authorities have reached an agreement with IMF staff on a program
that will help to stabilize the economy.
In Bangladesh, the war in Ukraine and high commodity prices
has dampened a robust recovery from the pandemic. The authorities have
preemptively requested an IMF-supported program that will bolster the external
position, and access to the IMF’s new Resilience and Sustainability Trust to
meet their large climate financing need, both of which will strengthen their
ability to deal with future shocks.
High debt economies such as Maldives, Lao PDR, and Papua New
Guinea, and those facing refinancing risks, like Mongolia, are also facing
challenges as the tide changes.
IMF expects growth across Pacific Island Countries to rebound
strongly next year to 4.2% from 0.8% this year as tourism-based economies
benefit from eased travel restrictions.
Inflation now exceeds central bank targets in most Asian
economies, driven by a mix of global food and energy prices, currencies falling
against the US dollar, and shrinking output gaps. Core inflation, which
excludes volatile food and energy prices, has also risen and its
persistence—driven by inflation expectations and wages—must be closely monitored.
Meanwhile, the US dollar has strengthened against most major
currencies as the Federal Reserve raises interest rates and signals further
hikes to come. Most Asian emerging market currencies have lost between 5% and
10% of their value against the dollar this year, while the yen has depreciated
by more than 20%. These recent depreciations have started passing through to
core inflation across the region, and this may keep inflation high for longer
than previously expected.
Finally, spikes in global food and energy prices early this
year threatened to abruptly raise the cost of living across the region, with
particularly strong implications for the real incomes of lower-income
households that spend more of their disposable income on these commodities.
Amid lower growth, policymakers face complex challenges that
will require strong responses.
Central banks will need to persevere with their policy
tightening until inflation durably falls back to target. Exchange rates should
be allowed to adjust to reflect fundamentals, including the terms of trade—a
measure of prices for a country’s exports relative to its imports—and foreign
monetary policy decisions. But if global shocks lead to a spike in borrowing
rates unrelated to domestic policy changes and/or threaten financial stability
or undermine the central bank’s ability to stabilize inflation expectations,
foreign-exchange interventions may become a useful part of the policy mix for
countries with adequate reserves, alongside macro-prudential policies.
Countries should urgently consider improving their liquidity buffers, including
by requesting access to precautionary instruments from the Fund for those
eligible.
Public debt has risen substantially in Asia over the past 15
years—particularly in the advanced economies and China—and rose further during
the pandemic. Fiscal policy should continue its gradual consolidation to
moderate demand alongside monetary policy, focused on the medium-term goal of
stabilizing public debt.
Accordingly, measures to shield vulnerable populations from
the rising cost of living will need to be well-targeted and temporary. In
countries with high debt levels, support will need to be budget-neutral to
maintain the path of fiscal consolidation. Credible medium-term fiscal
frameworks remain an imperative.
Beyond the short term, policies must focus on healing the
damage inflicted by the pandemic and war. Scarring from the pandemic and
current headwinds are likely to be sizable in Asia, in part because of elevated
leverage among companies that will weigh on private investment and education
losses from school closures that could erode human capital if remedial measures
aren’t taken today.
Strong international cooperation is needed to prevent
greater geo-economic fragmentation and to ensure that trade aids growth.
There is an urgent need for ambitious structural changes to boost the region’s
productive potential and address the climate crisis.
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