The author is Asia’s chief economist at Morgan Stanley
In Asian economies, a strong dynamic is unfolding that will trigger productivity growth and drive better performance relative to other regions. This is a trend that has been underestimated by skeptical investors.
Over the next two years, gross domestic product will increase faster in Asia than in the Americas and Europe, strengthening its position as the largest and fastest growing economic bloc. Asia’s GDP is expected to grow in nominal terms from $ 33tn in 2021 to $ 39tn in 2023, exceeding $ 34tn for America and $ 26tn for Europe. The $ 5.4 billion increase for Asia is compared to $ 4.8 billion for America and $ 2.9 billion for Europe.
This dynamic is the interplay between export growth, capital expenditure and productivity. Unlike other economies that have been heavily dependent on stimulus, Asia’s recovery after the Covid-19 shock has been driven by a sharp recovery in exports. Investors may be tempted to write this off as a reflection of a revival of global growth, but what happens next is undoubtedly much more interesting.
As the world’s largest producer returns to work, unused capacity will be absorbed and corporate confidence will increase, increasing the demand for capital equipment. Rising capital expenditures should draw more workers into the workforce and lay the groundwork for a self-sustaining cycle.
In fact, Asia’s productivity – or incremental GDP generated by new debt – is poised to deliver the best performance since the 2003-07 cycle. After 2008, global trade volume grew by an average of only 1.2 percent compared to 6 percent in the 2000s. Without external demand support, Asian policy makers had to rely on higher leverage to stimulate aggregate demand, which inevitably gave rise to macro-stability concerns.
Now, backed by strong global trade, Asia’s growth will be far less dependent on stimulus and leverage, while inflationary pressures and other macro-stability concerns will be kept in check.
Nevertheless, unique circumstances have kept this productivity dynamic from playing out fully. Typically, a sharp recovery in exports and investments translates into stronger income and consumption growth. This time, the transmission mechanism has been stopped by successive Covid waves and restrictions that dampen consumption. But Asian economies outside China are adapting to life with Covid and following a path to put pandemic problems behind them.
In China, the more transmissible Omicron coronavirus variant could put the zero-Covid policy to the test and still limit the recovery of consumption. However, if Covid variants remain mild, politicians may move away from aggressively implementing its zero Covid strategy after the Winter Olympics.
While Covid limited China’s growth, the biggest factor was its political cycle. In 2021, macroeconomic policies were tightened and regulatory measures intensified in a wide range of sectors. Debt to GDP was cut by 10 percentage points to 283 percent, the most aggressive reduction in China since 2003.
The political cycle has clearly shifted from tightening too much to easing, and the economy should move from a downturn to a recovery. At the end of December, top policy makers acknowledged that “China’s economic development is facing three pressures: demand contraction, supply shock and weakened expectations”, suggesting that they will continue to ease on all fronts.
First, the so-called credit impulse – a measure of credit growth relative to GDP – will be normalized towards neutral territory, removing a significant headwind to growth.
Second, policy makers are now taking a more structured and institutionalized approach to regulatory tightening, and changes from this are likely to be gradual.
As governments seek to address income inequality, they are not expected to lose sight of the need to pursue reforms to encourage the shift to higher value-added activities to complete the transition to a high-income society. This shift will not be possible without the participation of the private sector.
Third, decarbonisation and property measures will be less stringent, allowing for a gradual pace of adaptation. These should alleviate concerns about further actions that weigh on the mood of private companies. As these shifts take place in the real economy, we expect a recovery in growth to pick up from the second quarter of 2022 onwards.
Across Asia, a virtuous feedback loop is unfolding with strong external demand and positive spillover effects on investment and consumption.
This cycle will be very similar to 2003-07, where productivity plays a larger role in Asia’s growth history and drives its outperformance. The risk is if sustained inflation in the US causes an aggressive shift in the Fed’s austerity plan, threatening the longevity of this business cycle.