Regional recovery faces temporary shocks

East Asia Update 5 EAST ASIA AND PACIFIC REGIONAL OVERVIEW Regional recovery faces temporary shocks 2002 was a year of solid recovery in much of East Asia. Regional GDP growth rose from 3.5 percent in 2001 to 5.8 percent in 2002.1 A smart rebound in exports was one important driver in the recovery – for 2002 as a whole regional exports rose about 9 percent in dollar terms, after having fallen 7 percent in 2001 as a result of the global slowdown and the deep recession in world high tech demand. Intra-regional exports were especially strong, in particular exports to China, which is emerging as a major hub for production and trade networks. Robust household consumption continued to provide another important support for the recovery, and, in several cases, the year saw the start of a stronger trend in fixed investment as well. But the regional picture was not uniformly upbeat, with more modest growth rates, or even continued outright recession in some of the smaller or lower income economies of the region. A combination of external and domestic factors are expected to slow aggregate East Asian growth to around 5 percent in 2003, although – because of large uncertainties and the extraordinary nature of the geopolitical and other shocks like the SARS disease affecting the world and regional economies this year – the confidence attached to such a ‘point’ forecast is even less than usual. Growth could very well be significantly lower or, possibly, higher than this. A mild compensation is that this year’s shocks are in principle temporary ones. As they pass out of the system, and as the world recovery further gathers pace, East Asian growth is expected to return closer to the 6 percent range in 2004. Uncertain growth outlook As it has for some years, growth continued strongest among transition economies such as China and Vietnam, where sustained strength in exports, consumption and investment resulted in 2002 growth of 8 percent and 6 percent respectively. But growth also strengthened in several of the countries that been hardest hit by 2001’s fall in world trade growth and high tech demand, exceeding 6 percent in Korea, 5 percent in Thailand and 4 percent in Malaysia and the Philippines. As Exhibit 1 indicates, however, the amplitude of the cyclical recovery in 2002 was less extreme than the previous cyclical upswing of 1999-2000, much as the preceding 2001 downturn in the region was also less severe than the financial crisis recession of 1997-98, and year on year growth rates in quarterly GDP appear to have been topping out during the second half of the year. East Asia comprises Developing East Asia (China, Indonesia, Malaysia, Philippines, Thailand and a number of small economies) and four NIES (Hong Kong (SAR), Korea, Singapore and Taiwan, China). 1 Exhibit 1 East Asia: Quarterly Real GDP 15.0 (% Change Year Ago) Korea Malaysia Singapore Taiwan(China) Thailand 10.0 5.0 0.0 Q4 1998 Q2 1999 Q4 1999 Q2 2000 Q4 2000 Q2 2001 Q4 2001 Q2 2002 Q4 2002 -5.0 -10.0 Exhibit 2 Industrial Production Indexes 1.50 (SA. 3 Month Moving Averages. Jan 99 =1)) Korea Malaysia Thailand Singapore 1.30 1.10 0.90 Dec-98 Dec-99 Dec-00 Dec-01 Aug-99 Aug-00 Aug-01 Aug-02 Dec-02 Apr-99 Apr-00 Apr-01 Apr-02 Further, not all economies in the region shared in the recovery to the same extent. Prompt policy action helped mute the impact of the Bali terrorist attack on Indonesia’s economy, which however continued to grow in a modest 3-4 percent range for a second year. Weak household consumption and falling investment restrained 2002 growth in the high-income economies of Hong Kong (SAR) and Singapore to only 2-3 percent. Singapore joined in the regional recovery in the first half of 2002 but seasonally adjusted GDP and industrial production were both contracting in the second half of the year (Exhibit 2), with the last 1-2 years considered the worst recession in the republic’s history. Growth in the first quarter of 2003 was only 0.7 percent upon the end of 2002 (annualized rate). At East Asia Update the other end of the scale, small low income island economies like Papua New Guinea and the Solomon Islands continued in multi-year recessions as a result of severe domestic policy weaknesses, political tensions and poor natural conditions. Among the external factors affecting East Asia, growth in the developed world picked up to only 1.5 percent in 2002 and, while expected to strengthen mildly in 2003, is expected to undershoot both earlier expectations and the normal historical experience in the second year of a global recovery. Global growth is being restrained by weaknesses and imbalances carried over from the ‘boom-bust’ cycle of the last several years, such as over-capacity in many high tech sectors and elevated levels of corporate and household debt, as well as more longstanding problems, such as the bad debt and other structural difficulties affecting the Japanese economy. Into this fragile global environment have been added a number of geopolitical and other non-economic shocks which have already had significant economic consequences, but whose future development is uncertain. Among these is the Iraq war, the long buildup to which had already contributed to a surge in oil prices, tending to erode real incomes in the net oil importing East Asia region, as well slowing growth in its export markets, curbing tourism and, perhaps, dampening domestic business and consumer confidence. Confidence and tourism will also be affected by the developments over North Korea and deep concerns about the potential impact of Severe Acute Respiratory Syndrome (SARS). Exhibit 3 East Asia: Real GDP Growth 1990-04 15.0 S. E. Asia NIEs China East Asia 6 percent, its lowest ever level, down from 43 percent in 2001. (Exhibit 4, Appendix Tables 8,9). Exhibit 4 Poverty - Headcount Index 90 ($2 a day poverty line. Percent) East Asia China Other Small * S.E. Asia (4) Vietnam 75 60 45 * Cambodia, Lao PDR, Papua New Guinea 30 1990 1996 1999 2000 2001 2002 2003 2004 10.0 5.0 0.0 199 0 199 1 199 2 199 3 199 4 199 5 199 6 199 7 199 8 199 9 200 0 200 1 200 2 200 3 200 4 -5.0 S.E.Asia: Indonesia, Malaysia, Philippines, Thailand. NIEs: Hong Kong (SAR), Korea, Singapore, Taiwan (China). -10.0 Poverty continues to fall The number of poor in East Asia at the $2 a day level is estimated to have fallen by over 50 million to 724 million in 2002. Equivalently, the poverty rate (or headcount index) at the $2 a day level fell to about 40 These aggregate numbers for East Asia are dominated by developments in China, which contains two thirds of the East Asian poor (at the $2 a day level) – some 486 millions. The $2 a day headcount index in China fell to an estimated 38 percent, down from 42 percent in 2001. With over 90 percent of the poor in China living in rural areas, economic developments in this sector have a predominant effect on poverty outcomes. For example, the pace of overall poverty reduction in China slowed dramatically at the end of the 1990s, reflecting a sharp fall in rural income growth and a small rise in rural poverty. An important factor in this case appears to have been pressure on rural incomes caused by a large fall in grain prices, which itself reflected oversupply caused by various earlier farm support programs. More recently the authorities have encouraged adjustment in crop production, away from grain production towards other cash crops. Real per-capita income of Chinese rural households in 2002 rose by around 5 percent in real terms, a second year of robust growth. While grain production rose about 1 percent, output of agricultural products such as sugar, tobacco, tea, meat and fish rose by 3 percent or more. Nevertheless, sustained rural poverty reduction in China remains a complicated and difficult problem. Small scale rural industry had been a dynamic source of rural income growth in the first part of the 1990s, but has been under severe competitive pressure in more recent years. Cross country experience shows that in the longer run the problem of rural poverty is mainly solved by the movement of population to more productive jobs in cities. A Special Focus on Urbanization in East Asia in this report discusses this process and its problems in more detail. The bulk of the remaining poverty in the region is concentrated in just four other countries: Indonesia (116 million at the $2 a day level), Vietnam (48 million), East Asia Update Philippines (36 million) and Thailand (19 million).2 Poverty rates surged after the 1997 financial crisis in Indonesia and Thailand, reaching 65 percent and 33 percent respectively by 1999 at the $2 a day level, but have fallen back substantially since then. Poverty in 2002 is estimated to have finally fallen back to the 1996 pre-crisis level in Thailand, reflecting unexpectedly strong growth and a modest fall in income inequality. Thailand’s North-East, the area of the country with the highest concentration of rural poor, also appears to have shared in the recent fall in poverty rates. Using the national poverty line, poverty in the North East fell to 18 percent in the first half of 2002 from 27 percent in 2000. The rural poor benefited from an 11 percent rise in farm incomes (and farm output prices) during the year, reflecting a recovery in rice and other commodity prices in world markets. Poverty also continued to fall in Indonesia, reaching 53.5 percent in 2002, only about 3 percentage points higher than in 1996, before the financial crisis. The Philippines shows a different pattern. Not being as hard hit by the financial crisis, poverty also rose much less in the wake of the regional crisis. But poverty reduction has also been more sluggish than in other countries. At the $2 a day level poverty rates peaked at an estimated 47 percent in 2000, but have only drifted down to an estimated 45 percent in 2002. The next sections of this report take up the implications of the current global environment and geopolitical events for the East Asia region, followed by an assessment of the recent upsurge in intra-regional trade, in particular the challenges and opportunities created by China’s rapid growth and emergence as a center for regional production and trade. Subsequent sections take up some key domestic trends and policy developments. 7 exports to the U.S. in 2002 rose 18 percent, contributing about 46 percent of the increase in the region’s total exports. Exports to the US were particularly strong in China, Malaysia, Philippines and Vietnam.3 Rising US demand helped offset weakness in regional exports to Japan, which fell 3 percent in 2002. Exhibit 5 Merchandise Export Growth (US$ - % Change Year Ago) 30 S.E. Asia (4) China Korea Other NIEs (3) 15 0 2000 2000 2001 2001 2001 2001 2002 2002 2002 2002 2003 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 -15 -30 A troubled international environment Rebounding export growth made a crucial contribution in the regional recovery in 2002. By the fourth quarter regional exports in US dollar terms were up 18 percent from a year earlier, and were especially strong in China and Korea, where they were rising at 25-30 percent by the last quarter. (Exhibit 5). Monthly data indicates that dollar export growth continued strong in the early months of 2003. To some extent these exceptionally strong year on year growth rates for dollar exports are boosted by technical factors such as the ‘easy comparison’ to very depressed export levels in late 2001/early 2002, and the decline in the exchange rate of the US dollar against other main currencies. Apart from these technical factors, however, three substantial factors stand out. The most important, the surge in intra-regional trade and exports to China, is considered in more detail in the next section. Another was economic recovery and reviving import demand in the US. East Asian Excluding North Korea and Myanmar, about which detailed information is lacking, but which undoubtedly contain a great many more poor. 2 The third principal factor was the bottoming out in the unprecedented recession in the global high tech industry, benefiting East Asian countries with significant electronics or high tech exports – Korea, Taiwan (China), Singapore, Malaysia, Thailand, Philippines and China. Worldwide billings for silicon wafers (the basic building material for semiconductors) increased about 6 percent in 2002, after falling 31 percent in 2001. World semiconductor sales, which had also slumped 31 percent in 2001, inched forward by about 1 percent in dollar terms for 2002 as a whole, the net result of continued weakness in prices being offset by rising sales volumes. However, although the year total figures were barely up on 2001, world semiconductor sales did rebound strongly on a quarter-to-quarter basis during much of 2002. Most remarkably, semiconductor sales within Asia (excluding Japan) surged by 30 percent in 2002, making it the largest regional semiconductor market in the world. (Exhibit 6). These data are consistent with suggestions that a major restructuring and relocation of the global electronics industry towards East Asia is underway because of severe competitive pressures in the present relatively weak global market conditions. Still, a sustained export recovery in East Asia would be more secure in the context of a sustained upturn in overall global high tech demand – and that still remains in some doubt. Global 3 On the other hand, Singapore exports to the US were down 1-2 percent, heightening concerns about competitiveness, especially in the high tech sector.