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Asia Economy Last Updated: Apr 7, 2011 - 8:11 AM

Developing Asia on firm rebound but must tackle inflation
By Finfacts Team
Apr 6, 2011 - 5:58 AM

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Developing Asia will continue to expand solidly over the next two years, even as inflation, geopolitical uncertainties and the need to develop new sources of growth present looming challenges to policy makers, the Asian Development Bank (ADB) said in a new major report.

ADB's flagship annual economic publication, Asian Development Outlook 2011 (ADO 2011), released today, forecasts regional GDP growth of 7.8% in 2011 and 7.7% the following year. The projected growth rates are lower than the 9% posted in 2010, but show that the region continues its firm recovery from the global economic crisis.

"Developing Asia, having shown resilience throughout the global recession, is now consolidating its recovery and rapid expansion in the region's two giants - the People's Republic of China and India - will continue to lift regional and global growth," said Changyong Rhee, ADB's chief economist.

At the same time, rising food and oil prices, stoked by upheaval in the Middle East and North Africa, along with the recent emergency in Japan, present a potential threat to sustained, inclusive growth. Inflation will need to be carefully managed using a mix of policy measures, including more flexible exchange rate management and coordinated capital controls, rather than simply relying on tighter monetary policy, the report says. After expanding at 4.4% in 2010, consumer prices are set to accelerate further to 5.3% in 2011 before easing back slightly to 4.6% in 2012.

"Developing Asia is home to two-thirds of the world's poor and it is they who are most vulnerable to the effects of price increases," said Rhee. "Policy makers must therefore consider preemptive action to control inflation before it accelerates."

In the longer run, developing Asia will have to forge stronger links with non-traditional markets to maintain growth and to make it more inclusive, the report says. It notes that there is considerable potential to broaden South-South links with fast growing emerging economies, both within Asia, as well as in Latin America, Africa and the Middle East. To do this, however, policy makers will need to remove barriers to trade and investment within the South, which are currently higher than those with the industrial world.

The report says East Asia will continue to lead the region's post-crisis recovery with projected growth of 8.4% in 2011 and 8.1% in 2012, although the forecast expansion rates are below the 9.6% recorded in 2010, as the unwinding of fiscal stimulus measures, slower investment and less heated export growth kick in. The China is expected to post growth of 9.6% in 2011, down from 2010's heady 10.3% rise, while Hong Kong, China; the Republic of Korea; and Taiwan settle back to more sustainable growth of around 5% after a sharp 2010 rebound. Most economies are tightening monetary policy amid rising commodity prices with inflation forecast to pick up to 4.3% in 2011 from 3.1% in 2010.

Southeast Asia's expansion will moderate after an exceptionally strong recovery in 2010, with growth coming in at 5.5% for 2011 and 5.7% in 2012. The figures are well below the 7.8% recorded last year, and reflect a higher base, slower export growth and fiscal and monetary policy tightening. Inflation is set to accelerate to 5.1% in 2011, from 4.0% in 2010, with Viet Nam likely to post a double digit rate. With appropriate policy measures, Southeast Asia's average inflation is expected to come down to 4.2% in 2012.

South Asia will maintain its recent robust economic performance with forecast growth of 7.5% in 2011 and 8.1% in 2012, following a 7.9% expansion in 2010. India's 2010 performance was particularly strong and broad-based, even with fiscal consolidation and monetary tightening, and the economy is set to strengthen further to post 8.2% growth in 2011 and 8.8% in 2012. Pakistan's devastating floods weighed on its growth performance, while the end of the conflict in Sri Lanka continued to help underpin its economic expansion.

Central Asia has been benefiting from higher international prices for its key commodities including oil and gas, metals, cotton and gold. Growth is forecast to quicken to 6.7% in 2011 and 6.9% in 2012, from 6.6% in 2010. Inflation is set to accelerate to 8.2% in 2011 from 7.1% in 2010, driven by higher food prices in all countries and higher energy prices in those which import oil.

The resource-rich economies of Papua New Guinea, Timor-Leste and Solomon Islands will drive growth in the Pacific this year as they benefit from higher global prices for commodities, new investment and increased government revenue from mineral resources, the report says. The growth rate for 2011 is projected to come in at 6.3% before settling back to 5.4% in 2012. Inflation is set to hit 6.5% in 2011, from 5.9% in 2010, before falling back to 5.6% in 2012.

Growing importance of South–South links

The report says the share of the South in world GDP rose from about 25% in 1980 to 45% in 2010, of which developing Asia alone contributed two-thirds. The South has burnished its economic credentials on the world stage by leading the way out of the global economic crisis, developing Asia in front. Concomitantly, it has raised its profile in international governance. The emergence of the G-20 summit reflects a belated response to this reality.

Concurrent with high growth, South–South links have proliferated.

Trade and financial integration in the South have intensified in tandem with its rising global economic role. Greater integration allows the economies of the South to share experiences and to learn from each other. The ADB says as there is no single model for development, it is imperative for countries to diversify sources of knowledge and share development experiences. As well as North–South knowledge exchanges, South–South knowledge sharing is becoming a reality.

South–South links are creating new potential drivers of aggregate demand. Given their reversals in the recent crisis, industrial economies are unlikely to drive demand in the world economy any time soon. With their strong prospects for growth, the economies of the South should take up the slack. Potentially, the rising consumption of emerging economies and the new investment flows within the South can be new sources of growth for the world economy—but only if the economies of the South become more open to trade and capital flows.

China is looking at systemic changes says Alex Wilmot-Sitwell, co-CEO and co-chairman of UBS APAC, and will grow above trend over the next 20-25 years:

Expanding South–South economic links through trade

South–South trade has shot up in the past two decades. Trade among Southern countries rose from about 7% of world non-fuel merchandise trade in 1990 to 17% in 2009. Developing Asia now accounts for about three quarters of South–South trade, and the China alone for roughly 40%.

The rise of factory Asia explains most of the rise of South–South trade.

Intermediate goods are sourced mainly within the region, including Japan, for assembly in the China, the regional hub. Final goods are then exported, predominantly to affluent markets in the North.

South–South trade has grown rapidly for Latin America, Africa, and the Middle East. Although these regions’ trade with the South is relatively small, at roughly one-quarter of South–South trade, it has been quickly expanding, particularly with Asia.

Tariff levels and other barriers to trade in the South have tumbled in the past two decades, but are still higher than with the North. As a 2005–2008 average, applied tariffs in the South were 9.3%, compared with 3.2% in the North. Trade-related infrastructure and logistics performance, as measured by World Bank surveys, shows that the South lags far behind the North, although it has been closing the gap.

The ADB says a gradual removal of these remaining bottlenecks would especially spur South–South trade, where they tend to hold back trade on both sides.

Simulation analysis suggests that lowering tariff barriers to South–South trade even to the levels prevailing in South–North trade could bring three quarters of the gains to Southern countries of freeing all countries’ goods trade. South–South trade would expand by 6 percentage points as a result.

However, the ADB says trade reforms supporting South–South trade must not undermine continuing global integration. In view of the proliferation of regional trade agreements in Asia and elsewhere, it is increasingly important that future agreements be made as inclusive as possible and ensure compatibility with provisions of the World Trade Organization.

Developing Asia refers to 44 developing member countries of the Asian Development Bank and Brunei Darussalam, an unclassified regional member; East Asia comprises the People’s Republic of China; Hong Kong, China; the Republic of Korea; Mongolia; and Taiwan; Southeast Asia comprises Brunei Darussalam, Cambodia, Indonesia, the Lao People’s Democratic Republic, Malaysia, Myanmar, the Philippines, Singapore, Thailand, and Viet Nam; South Asia comprises Islamic Republic of Afghanistan, Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan, and Sri Lanka; Central Asia comprises Armenia, Azerbaijan, Georgia, Kazakhstan, the Kyrgyz Republic, Tajikistan, Turkmenistan, and Uzbekistan; and The Pacific comprises the Cook Islands, Fiji, Kiribati, Republic of the Marshall Islands, the Federated States of Micronesia, Nauru, Papua New Guinea, Republic of Palau, Samoa, Solomon Islands, Democratic Republic of Timor-Leste, Tonga, Tuvalu, and Vanuatu

Inflation key concern for Asia says Changyong Rhee, ADB chief economist:

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