ING - The Asian Challenge

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                                                                                                           Monthly Economic Update March 2013

Global Economics
13 March 2013

Click on image for the video
                                                    Monthly Economic Update
                                                    The Asian Challenge
                                                    Equity markets have been on a roll, leading to some concern that they may be
                                                    running too far ahead of economic growth. The markets’ optimism is more
                                                    justified in Asia, where Japan should benefit from a new, more aggressive
GDP growth (% YoY)
                                                    monetary and fiscal policy stance and a weaker yen. China too looks set to
  6                       Forecasts      6          outperform relatively modest growth expectations set by its leaders. However,
  4                                      4          there are more risks in the US and Europe, where politics and austerity present
  2                                      2
                                                    potentially tricky obstacles.
  0                                      0
  -2                                     -2
  -4                                     -4         Politics aside, the future for the US would be looking good. A housing led pick-up in
  -6                                     -6         activity with consumer spending and employment following closely behind would give the
  -8                                     -8         US economy upward momentum – albeit somewhat artificially fuelled by cheap credit. But
 -10                                     -10
       00 02 04 06 08 10 12 14                      the Fed does not look likely to ‘take away the punch bowl’ anytime soon.

Source: Ecowin, ING
                                                    But politics is an unfortunate and dysfunctional reality in the US, and the equally artificial
                                                    and unfortunate public sector sequestration is now about to weigh on activity – in ways
10Y bond yields (%)                                 that may be more disruptive than many imagine (indeed, this was the original intent of
                                                    such a blunt instrument). Combined with tax rises, a period of softer activity lies ahead.
  7                          Forecasts        7
  6                 Eurozone                  6     Politics have also been to the fore in the Eurozone, where the voter backlash against
  5                                           5
                                                    austerity and reform was vividly illustrated in Italy. It is just as well that former PM Mario
  4                                           4
                                                    Monti had already succeeded in pushing through a reduction in the budget deficit to
  3                                           3
                                                    below 3% of GDP last year, because a stable government looks unlikely for the next few
  2                                           2
  1                                           1
                                                    months following the recent inconclusive election. Meanwhile, with growth undershooting,
  0                                           0     the European Commission is set to tolerate overshooting budget deficits elsewhere, by
       00 02 04 06 08 10 12 14                      switching attention to structural (ie, cyclically-adjusted) deficits.

Source: Ecowin, ING                                 The burden of supporting Eurozone economic growth will continue to fall upon the
                                                    European Central Bank (ECB). Although, like us, the ECB has lowered both its growth
                                                    and inflation forecasts, it declined to ease policy further at its latest meeting. However,
 1.7                      Forecasts      60         further falls in the Japanese yen and sterling may increase the pressure on it to do so.
 1.5                                     80
 1.4                                                While the UK economy is on the brink of yet another technical recession, sterling
 1.3                                                weakness, combined with improving credit conditions and stronger external demand
                                                    should gradually lift growth in the second half of the year.
 0.8                                     140        Japan may not have to wait long for its next monetary boost. New BoJ Governor Kuroda
       00 02 04 06 08 10 12 14
                                                    is set to act quickly on its newly created 2.0% inflation target. More assets and longer
              EUR/USD (lhs)
              USD/JPY (inverted rhs)
                                                    maturities and a quicker commencement of open ended QE beckon. This will help keep
                                                    the weak yen trend in place, allowing the economy to regain some competitiveness.
Source: Ecowin, ING
                                                    The new Chinese leadership has set a GDP growth target of 7.5%, but we continue to
Mark Cliffe                                         expect the economy to outperform this, delivering 9% in 2013. Concerns about action to
Global Head of Financial Markets Research           cool the property market are exaggerated, and subdued inflation gives policy leeway.
London (44 20) 7767 6283
                                                    Central bank uncertainty has kept developed market FX volatile. Aggressive BoJ easing
Rob Carnell                                         points to further JPY losses, while further GBP declines are welcome, albeit in part
Tim Condon                                          courtesy of rising economic and fiscal concern. On balance, the US dollar can continue
James Knightley                                     its advance against the euro, where its new-found positive correlation with risk sentiment
Tom Levinson                                        helps reduce its downside potential.
Peter Vanden Houte                                                                                                               1
                                                                                               Monthly Economic Update     March 2013

                                     US: Over the cliff…
Markets have been                    US politicians have surprised no one by not agreeing a budget deal to avoid automatic
surprisingly relaxed about US        sequestration. This will cost the economy US$85bn in public spending this year (US$1.2tr
politicians’ failure to reach a      over the coming 10 years), on top of the US$1000 average per household hit this year
budget agreement…                    from the payrolls tax cut reversal. It is hard to see why markets are being so relaxed
                                     about this, with stock markets making new record highs. Indeed, the data on activity may
                                     soon take a significant, albeit probably short-lived dip, and that should undermine the
                                     current sense that all is well.

…though sequestration is             Furthermore, there are still other political hurdles to come. The first of these, on 27 March,
just one of several political        is the expiry of the continuing resolution that funds discretionary government operations.
timelines to cross / fail,,,         This is even more of a cliff than sequestration. Large parts of government, including
                                     national parks, centres for disease control, satellite launches, FBI, etc will either be put on
                                     part-time hours, furlough, or simply shut down.

…federal spending resolution         But even if this resolution is extended, the next deadline still looms. On 18 May, the next
expires in just a few weeks,         Federal debt ceiling runs out. Now as we know, this is not quite such a hard and fast date
and then debt ceiling                as the others, and Treasury tricks can keep things ticking along for three to four weeks
deadlines loom in May…               after the debt ceiling has been officially passed. In an attempt to try to encourage some
                                     resolution to this intractable problem, the pay of Congress will be suspended if no budget
                                     deal is reached by April 2015. This may not be a big threat to millionaire Senators, but for
                                     many members of the House of Representatives, this could be a more significant stick to
                                     encourage compromise.

The political mess is                Ratings downgrades are still looking a realistic threat – as even sequestration does not
probably the main reason the         deliver debt stability for the US, and a downgrade may focus more on the dysfunctional
US will see further ratings          political system, than on any specific debt forecasts. A budget deal, even a bad budget
downgrades this year                 deal, might be enough to keep the ratings agencies on hold. But this seems optimistic
                                     right now.

Fig 1      5Y US EUR CDS – up but no crisis apparently            Fig 2        Stocks and bonds

 60                                                                 index                                                      yield
                                                                   1800                                                                5.5
 55                                                                                       S&P 500        10Y bond yield, rhs
 50                                                                1600
 45                                                                1400
                                                                   1200                                                                3.5

 25                                                                 800

 20                                                                 600                                                                1.5
  Jan 12        Apr 12     Jul 12    Oct 12       Jan 13                  07        08    09        10     11        12        13

Source: Bloomberg                                                 Source: EcoWin

Absence of any budget                Our house forecasts do still incorporate some sense of compromise, though we are close
agreement could prompt us            to the point where we may have to embrace the idea of undiluted sequestration. With our
to downgrade growth                  forecasts already including some tough government spending cuts, the additional
forecasts further…                   reduction to GDP from accepting that no budget deal would be forthcoming, would
                                     probably be minor – of the order of 0.3ppt or so, and mainly through reducing our
                                     forecasts for private investment to pick up strongly in 2H13.

                                                                                                                   Monthly Economic Update           March 2013

…though we are already                        Consensus, in contrast, is still looking for GDP growth of almost 2.0% this year. Recently,
quite a bit below consensus,                  St Louis Fed President, Dennis Lockhart, was quoted as looking for the data to pick up
and further downgrades will                   over the next few months. But with what is happening to public spending and personal
probably be minor                             household taxes, this seems extremely unlikely.

Fig 3     Consensus and ING 2013 GDP forecasts                                  Fig 4       Consumer borrowing recovering

  YoY%                                                                                                                                      (3mth ann. %)
                                                                                 (3mth ann. %)
                                                                                  18                                                                        18
                                                                                  15                                                                        15
                                                                                  12                                                                        12
                                                                                   9                                                                        9
  2                                                                                6                                                                        6
1.8                                                                                3                                                                        3

1.6                                                                                0                                                                        0
                                                                                                   Revolving credit
1.4                                                                               -3                                                                        -3
                                                                                                   Total consumer
                         Consensus           ING f                                                 credit
1.2                                                                               -6                                                                        -6
                                                                                  -9               credit                                                   -9
                                                                                       00    01   02   03    04   05   06   07   08   09   10   11   12
      Jan 12   Mar 12   May 12   Jul 12   Sep 12     Nov 12   Jan 13   Mar 13

Source: Consensus Economics, ING                                                Source: EcoWin

If politics could be taken out                That said, this sort of backward-looking forecasting, or back-casting, is not entirely
of the picture, the economy                   without substance, and does highlight the fact that, politics aside, the US continues to
looks quite good…                             look in far better shape than most other economies in the G-7 (Canada excepted).

…though heavily supported                     Underlying this strength is the continued improvement in the residential construction
by cheap credit, which is                     sector, with home prices continuing to rise faster than household incomes. Indeed, this is
fuelling a new housing-led                    perhaps the only real inflationary impact of the trillions of dollars of QE we have seen in
recovery…                                     the US since the crisis started. With rising home prices, comes rising confidence and
                                              even rising spending – some of it financed with debt – easier to access when, on
                                              average, US homes are now worth at least what is owed on them.

The Fed seems to have                         At least in the short term, the danger of the Fed removing the monetary stimulus that is
realized that active shrinkage                keeping the economy ticking along seems remote. Any near-term dip in activity will help
of its balance sheet is not                   support its claim that policy rates will remain exceptionally low for years to come. And
likely to be straightforward…                 helpfully, the Fed has also re-started a debate about its exit strategy, and seems to have
                                              realized that selling down its swollen balance sheet in advance of rate hikes would be
                                              extremely disruptive to markets.

…which removes one of the                     So with 10-year Treasury yields currently above 1.90%, and scope for a patch of much
big risk factors of a sizeable                softer data ahead, combined with a still very dovish Fed, we continue to see scope for
Treasury sell-off…                            Treasury yields to dip near term. Any budget deal would likely unleash a wave of
                                              optimism that could see this unwind, along with a substantial pick-up in business
                                              investment and overall activity, reversing this move and pushing yields back through
…but the risks for bond                       2.0%. There is no guarantee that this will happen this year, however, and even if it does,
market are asymmetric                         timing will be everything. At 1.90%, we can see better opportunities at lower yields to take
                                              short positions on Treasuries, though the additional downside is probably only of the
                                              order of 20-30bp or so, whilst the year-end upside for 10Y Treasuries could be well North
                                              of 2.0%. This may well be one trade which pays to put on gradually, and opportunistically.

                                                                                                            Rob Carnell, London            +44 20 7767 6909

                                                                                                                                                                                                                                                              Monthly Economic Update                               March 2013

                                                                                                                                Eurozone: Political risk to the fore
Austerity fatigue grips the                                                                                                     The idea that austerity and structural reform is the only way to solve the eurocrisis, is
Italian voter…                                                                                                                  becoming increasingly hard to sell to the electorate in crisis-struck countries. Eurozone
                                                                                                                                unemployment rose to 11.9% in January, with all peripheral countries except Ireland,
                                                                                                                                showing increases of more than 2.5 percentage points over the last 12 months. No
                                                                                                                                wonder that politicians following the reform route have trouble getting re-elected. The
                                                                                                                                disappointing result of Mario Monti in Italy's parliamentary elections is a case in point.
…leading to political gridlock
                                                                                                                                With the anti-establishment candidate Beppe Grillo grabbing a quarter of the popular
                                                                                                                                vote, a workable coalition seems near-impossible. The best one can hope for is an
                                                                                                                                interim minority government aiming to reform the electoral system and new elections
                                                                                                                                before the summer. Fitch decided to downgrade Italy’s credit rating on the back of
                                                                                                                                political uncertainty.

Fortunately Italy did well in                                                                                                   Fortunately, Mario Monti succeeded in bringing back the Italian budget deficit below 3.0%
terms of fiscal consolidation                                                                                                   of GDP in 2012, implying that Italy will be one of the few countries that will come out of
                                                                                                                                the Excessive Deficit Procedure. But that doesn't alter the fact that Italy still has to start
                                                                                                                                with serious structural reform to inject the much needed dynamism into the economy.
                                                                                                                                Indeed, under the current slow or no growth regime, there is little hope that Italy's debt-to-
                                                                                                                                GDP ratio could be brought down in the coming years.

Europe will allow limited                                                                                                       In the coming months the European Commission will have to judge to what extent the
loosening of fiscal targets                                                                                                     member states are abiding by the budgetary rules. There seems to be a much needed
                                                                                                                                fudge in the making, as very few countries have reached their targets. To prevent
                                                                                                                                disappointing growth necessitating additional austerity measures to make up for the
                                                                                                                                resulting revenue shortfall, thereby creating a downward spiral, the European
                                                                                                                                Commission is now emphasising structural budget deficits. This would allow for a more
                                                                                                                                gradual consolidation if growth continues to disappoint.

Fig 5   Italian elections had market impact                                                                                                                                                               Fig 6 Leading indicators still signal timid improvement

        4.5                                                                                                                                                                                        1.25
                                                                                                                                                                                                   1.29      0

        3.5                                                                                                                                                                                        1.31    -10

                                                                                                                                                                                                   1.33    -20
         3                                                                                                                                                                                                 -30
        2.5                                                                                                                                                                                        1.37
                                         10 yr yield spread IT-DE                                                                                    EUR/USD (rhs) 1.39                                    -60                                                                  Industry survey:order books
                                                                                                                                                                                                                                                                                Services survey:expected demand













Source: Thomson Reuters DataStream                                                                                                                                                                        Source: Thomson Reuters DataStream

Bail-out of Cyprus puts bail-                                                                                                   Meanwhile, the negotiations on a bail-out for Cyprus continue. While the amounts
in of private investors back                                                                                                    involved are relatively small, core countries are unwilling to write a blank cheque for the
on the table                                                                                                                    country, as long as there is a suspicion that Cypriot banks are involved in money
                                                                                                                                laundering. Politicians in core countries are also requesting some bail-in from private
                                                                                                                                investors, not even excluding unsecured bank depositors. As a result, capital is fleeing
                                                                                                                                the country, with banks relying increasingly on Emergency Liquidity Assistance. ECB
                                                                                                                                president Mario Draghi has warned to tread carefully as Cyprus may be small, but still
                                                                                                                                constitutes a systematic risk for the European financial system. We believe a bail-out

                                                                                         Monthly Economic Update   March 2013

                                 programme involving a recapitalisation of banks is likely in the coming months. As this
                                 would lift the island's debt-to-GDP ratio above 140% of GDP, debt sustainability is likely
                                 to be questioned. Most probably the Eurozone will try to avoid a haircut on Cypriot
                                 sovereign bonds (Greece was called "unique" in the regard), but that doesn't mean that it
                                 will be off the table entirely.

Irregular improvement of         As stronger growth would probably be the best medicine to cure the debt crisis, it is
sentiment indicators…            imperative that the timid recovery, that has been showing up in sentiment indicators,
                                 doesn't stall. On that front, the news is mixed. While retail sales saw a surprising increase
                                 in January and the European Commission sentiment indicator continued its ascent in
                                 February, there was an unexpected fall in the PMI indicator in February. To add to the
                                 lack of visibility, real indicators seem to be distorted in some countries by the harsh winter
                                 weather at the start of the year. While the first quarter is likely to show better growth than
                                 the dismal fourth quarter of last year, it will probably remain negative. The Eurocoin
                                 indicator, tracking the underlying pace of growth, increased to -0.2% in February.

…but large carry-over effect     On the back of the a strong negative carry-over effect from 4Q12 and a more subdued
means negative growth in         upturn in the second quarter, we now anticipate a GDP contraction of 0.3% in 2013, the
2013                             second consecutive year of negative growth. Inflation is dropping more rapidly than
                                 expected, with the flash estimate showing 1.8% HICP inflation in February, while core
                                 inflation printed only 1.3% in January. We have scaled back our inflation estimate to 1.7%
                                 both for 2013 and 2014. The euro was no longer mentioned as a downward risk to
                                 inflation in the ECB's introductory statement, suggesting that the ECB is happy with the
Weaker JPY would challenge
                                 current exchange rate. That said, a strong depreciation of the JPY or the GBP would put
the ECB’s indifference on the
                                 the ball back into the ECB’s camp, as the Eurozone cannot do without a positive
EUR exchange rate
                                 contribution from net exports to leave the recession behind.

A further refi rate cut not      While the ECB staff downgraded its outlook for both growth and inflation, the bank kept
impossible…                      its monetary policy unchanged. At the same time the ECB committed itself to keep
                                 monetary policy accommodative for as long as needed. While a refi rate cut to 50bp is
                                 still possible (the Governing Council discussed it), it is only likely if the economy
…but negative deposit rate       deteriorates further. At the same time we don't believe the ECB will decide to cut the
unlikely                         deposit rate to below 0%, as Mario Draghi reiterated the risk of unintended consequences
                                 in that case.

                                                                           Peter Vanden Houte, Brussels +32 2 547 8009

                                 UK: A moveable mandate
A weak economy can justify       The UK economy remains in a sickly state. Business surveys suggest that activity
further BoE action…              remains weak and given the potential for distortions from bad weather earlier in the year,
                                 there is the clear threat that GDP contracts in 1Q13 after falling 0.3% in 4Q12. Such an
                                 outcome would be the 11th contraction out of the last 21 quarters and would support the
                                 case for more stimulus from the Bank of England.

… but recent sterling            We were in the camp expecting an extra £25bn of QE at the March meeting on the basis
weakness led the BoE to          that since three members, including Governor King, voted for an extra £25bn of QE in
reconsider further stimulus in   February, there wasn’t a particularly high hurdle for more action. Indeed, recent Monetary
March                            Policy Committee member comments in testimony to parliament had suggested that a
                                 majority were open to the idea of more stimulus should the data remain soft, which it had.
                                 However, a steep fall in sterling, which accelerated in the lead up to the policy meeting,
                                 may have made the BoE think twice.

                                                                                                              Monthly Economic Update           March 2013

Sterling’s fall will push up                   While the BoE have promised to “look through” a protracted period of above target
inflation…                                     inflation, the 7% fall in sterling on a trade-weighted basis puts upside risk on the inflation
                                               profile. With wages flat-lining this risks squeezing households even more, implying
…and constrain spending
                                               ongoing weakness in domestic demand. Therefore the BoE may have taken the view that
                                               it did not need to add to sterling’s woes by printing more money this month. In any case,
                                               UK bond yields have fallen back despite the rating downgrade while equity markets
                                               remain buoyant.

Fig 7 This recovery is painfully slow                                       Fig 8      But the labour market is remarkably firm

           Peak in GDP = 100                                                   100.5      Employment level at GDP peak = 100
                                                                                                                      Avg of 70s, 80s & 90s recessions
   105                                                                         100.0
                               Avg of 70s, 80s & 90s recessions                                                       Current cycle
   104                                                                          99.5
                               Current cycle
   101                                                                          98.5
   100                                                                          98.0
    97                                                                          97.0
    96                                                                          96.5
                                                                                                            Months since peak in activity
    93                                     Months since peak in activity        95.5
         -15        0          15              30         45                           -15 -10 -5   0   5     10 15 20 25 30 35 40 45 50 55

Source: EcoWin                                                              Source: EcoWin

Improved credit conditions                     That said, there are some positive signs for the UK economy. While the Bank’s Funding
and a weaker currency                          for Lending Scheme resulted in negligible net lending in 4Q12, we are now seeing
should help growth                             substantial falls in household borrowing costs with the availability of credit appearing to
prospects though                               be increasing. The labour market also remains robust with healthy increases in full-time
                                               employees now coming through. Furthermore, while sterling weakness will put up
                                               inflation, it does make the UK economy more competitive and should eventually feed
                                               through into stronger growth.

While increased BoE                            Unfortunately, Chancellor George Osborne is unlikely to be willing to support the
flexibility may also lead to                   economy with any loosening of fiscal policy given the lack of improvement in the
interesting new policy moves                   government borrowing numbers. We suspect that he will deliver a fiscally neutral budget
under Mark Carney…                             on 20 March with interest centring on what he will do with monetary policy. The Bank of
                                               England is independent, but it is the government that sets their mandate, and there is the
                                               possibility that he formally relaxes the current target of inflation at 2% in two years’ time.
                                               He may adopt a similar policy to that used in the US, where there is a dual mandate
                                               regarding employment and inflation, or even go for nominal GDP targeting. We have our
                                               doubts about this though, and instead think he is more likely to allow a greater deviation
…keeping sterling under                        from the 2% target for a longer period of time. This will allow incoming Governor, Mark
downward pressure                              Carney, to be more flexible in terms of his policy options and tools, which will likely keep
                                               sterling under downward pressure.

                                                                                             James Knightley, London +44 20 7767 6614

                                                                                                                 Monthly Economic Update         March 2013

                                                     China – PM Wen’s Farewell
7.5% GDP growth, 3.5%                                In his final work report to the National People’s Congress, PM Wen laid out the macro
inflation in 2013                                    forecasts for 2013: 7.5% for GDP growth (INGF 9.0%, consensus 8.2%); and 3.5% for
                                                     inflation (INGF 3.0%, consensus 3.0%). The message from January-February data was
                                                     that domestic spending was stable in early 2013 and global spending firmed. Faster fixed
                                                     asset investment growth, 21.2% in 2M13 vs 20.3% in 4Q, is evidence of the former.
                                                     Faster export growth, 23.6% vs 9.4%, is evidence of the latter. The dark cloud in the
                                                     (somewhat) silver lining was the slowdown in retail sales growth to 12.3% vs 14.5%, and
                                                     slower industrial production growth, 9.9% vs 10.0%.

February’s food price spike is                       The Lunar New Year food price spike was behind the jump in February CPI inflation to
transitory                                           3.2% from 2.0% in January. The seasonal pattern is that it will retrace in the next couple
                                                     of months. The PBOC’s monetary tightening in 2011 slowed demand-side inflation to
                                                     below 1% by mid-2012 and it hasn’t increased since (see figure below). We think it would
                                                     take a more vigorous recovery in spending than even we forecast for it to get inflation to
                                                     the 3.5% official forecast for 2013.

Stronger spending is the                             The work programme described a programmed widening of the fiscal deficit to
threat to bonds                                      CNY1,200bn, or 2.0% of GDP in 2013, up from 1.5% in 2012. The government will issue
                                                     CNY850bn of bonds to finance the central government deficit, up from CNY550bn in
                                                     2012, and CNY350bn of bonds “on behalf of local governments,” up from CNY250bn in
                                                     2012. We think stronger spending as the economy gathers strength from a recovering
                                                     global economy is more of a threat to government bonds than supply. We reiterate our
                                                     3.80% year-end forecast for the 10-year bond yield (latest 3.71%).

13% M2 growth in 2013…                               On monetary policy, the work programme says the target for M2 growth is “about 13%”.
                                                     M2 grew by 13.8% in 2012 on a CNY8.2tr increase in new loans (we think new loans is
                                                     the main instrument the PBOC’s uses to hit its intermediate target, M2). However, M2
                                                     growth accelerated in the fourth quarter, from 12.1% QoQ SA annualised in August to
                                                     15.0% in November, which we think was aimed at offsetting the spending shock that
                                                     slowed export growth in the second half of the year. New loans increased at a CNY10tr
                                                     annual rate in January-February, well above the PBOC’s unofficial CNY8.5-9.0tr target,
                                                     indicating a need for tightening.

Fig 9           China: CPI Inflation                                             Fig 10      China: Property Price Inflation a/

    10.0                                                                          15                                                                       2.0
                                                                                                                  % YoY - left          % MoM - right

                                                                                  12                                                                       1.5

                                                                                    9                                                                      1.0
% YoY

                                                                                    6                                                                      0.5

                                                                                    3                                                                      0.0

        -2.0                                                                        0                                                                      -0.5
                               Food & fuel        Non-food & fuel
                                                                                   -3                                                                      -1.0
               05   06    07      08         09       10      11    12   13
                                                                                        05     06      07       08       09       10      11       12

a/ Includes foreign currency loans.                                              a/ The NBS nationwide property price index from Jan-05 to Dec-10 and the
Source: Bloomberg, EMED                                                          weighted-average of the 70-cities index as calculated by Reuter’s from 2011.
                                                                                 Source: Bloomberg, EMED

                                                                                       Monthly Economic Update   March 2013

…signals stable monetary        The PBOC under Governor Zhou, who is set to be reappointed for a third five-year term,
policy                          had an excellent record of delivering stable M2 growth until the GFC. We think restoring
                                pre-GFC monetary settings would cure most of what ails China. Macroprudential
                                measures would suffice for the other, property speculation.

Reining in speculative          Chinese equities sold off sharply on the news that the State Council had ordered
housing demand…                 provincial and city governments to set price control targets for new homes by the end of
                                the first quarter. We attribute the announcement to the January home prices data, which
                                showed the biggest MoM jump, 0.7%, in two years. We blame the monetary loosening at
                                the end of last year.

…requires stable monetary       New house price inflation was running at 5-6% YoY when it took off in 2007. The GFC not
policy                          only halted inflation, it turned it into deflation in early 2009 (see figure above). The GFC-
                                related monetary stimulus rekindled inflation, which peaked at 13% in mid-2010. House
                                purchase restrictions have since slowed it. We expect the return to stable monetary policy
                                to moderate the wild fluctuations in house prices that have characterised the last six

                                                                                 Tim Condon, Singapore, +65 6232 6020

                                Japan – prepare for take off
Goodbye Shirakawa, hello        Former Bank of Japan (BOJ) Governor Shirakawa has chaired his last MPB meeting, and
Kuroda at the BoJ               new governor, former ADB President and longstanding and outspoken critic of the BoJ’s
                                inaction, Harohiko Kuroda has been confirmed by the Diet and will kick off his tenure on 3
                                April. We expect new policy targets to be changed immediately.

Despite pretenses, BoJ          Despite trying to head off criticisms of inactivity under Shirakawa, even the latest
policy has been a lame copy     expansion of monetary policy looked rather half-hearted. A claim to be undertaking open-
of that in the US and UK        ended QE in pursuit of a 2.0% inflation target looked a little hollow with the policy only
                                kicking in from January 2014, and the asset purchase targets only increasing by JPY10tr
                                from the previous year, a slowdown from about JPY30tr. Moreover, despite a massive
                                sounding JPY13tr purchase programme per month (of which JPY2tr would be JGBs), the
                                very modest increase projected in the size of the BoJs balance sheet highlights the
                                problem with a scheme that has not purchased assets with a maturity of more than three
                                years. Right now, the BoJ is running simply in order to stand still.

We expect this to change,       One of the main changes we expect under Kuroda is a widening of the types of assets
and soon                        the BoJ currently buys, and an extension of their maturities. Moreover, we expect this to
                                commence almost immediately, not just from 2014. Of course, Japan has come under
                                some criticism from the G-7 and G-20 for what is seen by some as a thinly veiled attempt
                                to weaken the yen, but what it is doing is no worse than most other G-7 countries, and
                                given that it has lagged behind most of them (see Figures 12 and 13), a period of catch
                                up would seem perfectly reasonable. Moreover, unlike some in the G-7, a spot of
                                exchange weakness could really help lift Japan’s manufacturing export sector.

Re-opening nuclear facilities   PM Abe has also announced that nuclear plants that pass safety inspections will be re-
could help restore Japan’s      opened, taking the strain of Japan’s current account, which has fallen into deficit given
trade surplus                   the huge amounts of LPG it is having to import to replace nuclear generated energy. We
                                don’t expect anything immediately, but with only 2 of Japan’s 50 nuclear reactors online
                                currently, bringing even a fraction of the offline plants back into action by the end of the
                                year could be substantial for both the trade balance and Japanese GDP.

                                                                                                         Monthly Economic Update   March 2013

Fig 11      Exchange rate and trade balance                                     Fig 12   Japan plays catch up - QE % GDP

  USD/JPY                                                            JPY   bn    30
                                                                                                                               Covered bonds
                                                                      2000                         ING
                                                 earthquake                      25                estimate                    QE so far
                                                 / tsunami            1500
 140                                                                                                                           QE still to come
                                                                      1000       20
 120                                                                                                            By end '13
 100                                                                  500                                                      LTRO1&2
  80                                                                  0
                  USD/JPY, lhs
  60                                                                             10
  40              Mfg breakeven USD/JPY rate,
                                                                      -1000       5
  20              Trade balance, rhs

   0                                                                  -1500
       90   92   94   96   98    00    02   04   06   08   10   12                0
                                                                                          BoE        Fed           BoJ          ECB

Source: EcoWin                                                                  Source: ING

All the positive momentum                        In the meantime, the spat over disputed islands with China continues, with Abe showing
could be spoiled by foreign                      no signs of moderating his stance, and quoting former British PM, Margaret Thatcher’s
policy tensions with China                       stance on the Falkland Islands, which has not gone down well in Beijing. This is one big
                                                 reason not to get complacent about gradual JPY weakness, or the strength of the JGB
                                                 market. Despite all the promising domestic economic policy action, things could still go
                                                 badly wrong on foreign policy.

                                                                                                   Rob Carnell, London +44 207 767 6909

                                                 FX: USD reaction function evolves
FX competitiveness is a                          The policy outlook at major central banks is uncertain, contributing to relatively high
crucial channel                                  volatility in developed market FX. Negative output gaps in the G4 economies are large
                                                 and with conventional means of monetary policy easing almost exhausted, FX
                                                 competitiveness (ie, depreciation) is a crucial channel to stimulate activity.

Front-loaded, aggressive BoJ                     In this respect, the appointment of Kuroda as new Bank of Japan (BoJ) Governor is front
easing will take USD/JPY to                      and central. Policy easing is set to be at the extreme end of already dovish expectations.
105 this year                                    So long as explicit mention of the level of the yen is avoided, renewed BoJ stimulus will
                                                 likely go unchecked by G7 counterparts. We believe that front-loaded, aggressive BoJ
                                                 easing will take USD/JPY to 105 this year, with structural factors like the current account
                                                 no longer as yen supportive as they once were.

Carney-related risks leaves                      GBP underperformance is rivalling that of the yen, driven by subtle encouragement from
GBP vulnerable                                   the Bank of England, a weak economy and fiscal slippage, which contributed to the UK
                                                 losing its Aa1 rating from Moody’s on 22 February. GBP is vulnerable to further declines,
                                                 with a notable risk surrounding a review of monetary policy aims in the run-up to Mark
                                                 Carney becoming BoE Governor in July.

For EUR/USD - 1H event risks                     For EUR/USD we retain a negative view, targeting a non-consensus 1.20 by year-end.
and a 2H Fed QE3 exit                            Political/event risks are an important, negative theme into mid-year, with a market
supports our 1.20 forecast                       unfriendly election result in Italy prominent. US debt ceiling discussions into a mid-May
                                                 deadline are also a potential source of higher risk aversion. However, we also look for
                                                 debate surrounding ECB and Federal Reserve policy to gain traction over coming
                                                 months. For the ECB, the possibility of an interest rate cut is not to be dismissed, while in

                                                                                                   Monthly Economic Update   March 2013

                                       the US, debate over a Fed exit strategy from QE3 should gather momentum (although
                                       this will be influenced by ‘fiscal cliff’-related damage to the US economy).

Fig 13     FX performance vs USD since 2008                            Fig 14   Correlation between S&P 500 & USD Index
150                                                              150
                                                   (Jan08=100)           0.6
                JPY         KRW
140             CNY         GBP                                  140
130                                                              130
120                                                              120
110                                                              110
100                                                              100
 90                                                              90
 80                                                              80
 70                                                              70
 60                                                              60             2007    2008     2009   2010   2011   2012     2013
      08       09      10         11          12          13                                                                   YTD

Source: EcoWin, ING                                                    Source: EcoWin, ING

USD positively correlated              Nonetheless, we anticipate that the outperformance of the US economy can extend as
with equities so far in 2013           2013 progresses. To date, Fed fund futures are benign. However we believe that the
                                       reaction function of USD to macroeconomic data is evolving. As Figure 14 shows, since
                                       2007 the USD has had a negative correlation with the S&P 500. Yet this year, the
                                       relationship has flipped and USD has gained as US data improves and equity markets
                                       rally. It is still early stages, but a sea-change in the USD’s reaction function can prove an
                                       important driver for future independent USD gains.

                                                                                             Tom Levinson, London +44 20 7767 8057

                                                                                                                 Monthly Economic Update           March 2013

Fig 15     ING global forecasts
                                                2011                            2012F                         2013F                            2014F
                                    1Q    2Q     3Q    4Q     FY     1Q   2Q      3Q 4Q     FY     1Q   2Q      3Q    4Q     FY     1Q   2Q      3Q    4Q     FY

United States
GDP (% QoQ, ann)                    0.1 2.5 1.3 4.1           1.8  2.0 1.3 3.1 0.1        2.2 1.4 1.2 3.1 2.8          1.6 2.3 2.1 1.8 1.9 2.3
CPI headline (% YoY)                2.1 3.3 3.8 3.3           3.1  2.8 1.9 1.7 1.9        2.1 1.5 1.7 1.6 1.6          1.6 1.8 1.8 1.8 1.9 1.8
Federal funds (%, eop)             0.00 0.00 0.00 0.00            0.00 0.00 0.00 0.00         0.00 0.00 0.00 0.00          0.00 0.00 0.00 0.00
Fed balance sheet expansion           +     +     =     =            =     =     +    +          +     +     +     =          =      =     -    -
3-month interest rate (%, eop)     0.30 0.25 0.37 0.58            0.47 0.46 0.36 0.30         0.30 0.30 0.30 0.40          0.45 0.50 0.55 0.60
10-year interest rate (%, eop)     3.43 3.16 1.96 1.88            1.80 1.64 1.65 1.60         2.00 1.80 2.20 2.30          2.30 2.40 2.40 2.50
Fiscal balance (% of GDP)             Fiscal Year 2011/12    -8.7   Fiscal Year 2012/13 -7.2     Fiscal Year 2013/14 -5.1     Fiscal Year 2013/14 -3.1
Fiscal thrust (Fed, % of GDP)                                -0.7                        -1.4                         -1.7                         -1.6
Fed debt held by public (% of GDP)                           67.8                        72.5                         75.3                         75.7
Gross Fed public debt/GDP                                    99.2                       102.9                        105.1                        104.9
Total (Fed+local) debt held by                               89.1                          92.4                             94.5                             95.0
public / GDP

Eurozone 1
GDP (% QoQ, ann)                    2.5 0.8 0.3 -1.2          1.5 -0.2 -0.7 -0.3 -2.3      -0.5 -0.2 0.5 1.2 1.0 -0.3 1.1 1.4 1.4 1.5 1.2
CPI headline (% YoY)                2.5 2.7 2.7 2.9           2.7 2.7 2.5 2.5 2.3           2.5  1.8 1.7 1.6 1.7        1.7 1.6 1.7 1.7 1.7 1.7
Refi minimum bid rate (%, eop)     1.00 1.25 1.50 1.00            1.00 1.00 0.75 0.75           0.75 0.75 0.75 0.75         0.75 0.75 0.75 0.75
ECB balance sheet expansion           =     =     =     =            =     =     =    =            =     =     =     =         =      =     =    =
3-month interest rate (%, eop)     1.18 1.49 1.50 1.29            0.68 0.45 0.20 0.18           0.20 0.20 0.30 0.40         0.50 0.60 0.70 0.75
10-year interest rate (%, eop)     3.36 3.10 2.00 1.85            1.79 1.58 1.40 1.30           1.50 1.50 1.60 1.70         1.70 1.80 1.90 2.00
Fiscal balance (% of GDP)             Fiscal Year 2011/12    -4.2   Fiscal Year 2012/13    -3.6    Fiscal Year 2013/14 -2.8    Fiscal Year 2013/14 -2.4
Fiscal thrust (% of GDP)                                     -1.7                          -1.2                        -1.1                        -0.2
Gross public debt/GDP                                        88.3                          93.5                        96.2                        96.5

GDP (% QoQ, ann)                   -7.7 -1.7 7.8 0.1         -0.7  6.0 -0.8 -4.2 -0.3       1.9  4.3 3.6 3.8 0.0             1.5 3.1 0.7 0.9 0.9              1.5
CPI headline (% YoY)               -0.6 -0.4 0.2 -0.3        -0.3  0.2 0.2 -0.3 -0.2        0.0 -0.4 -0.2 0.4 0.5            0.1 0.5 2.4 1.8 1.9              1.7
BoJ o/n call rate (%, eop)          0.0 0.0 0.0 0.0                0.0 0.0 0.0 0.0               0.0 0.0 0.0 0.0                 0.0 0.0 0.0 0.0
BoJ balance sheet expansion          ++     +    ++    ++            +     +     + ++              +   ++     ++    ++            ++    ++    ++    ++
3-month interest rate (%, eop)     0.20 0.20 0.19 0.20            0.19 0.19 0.19 0.17           0.17 0.15 0.15 0.15             0.15 0.17 0.19 0.20
10-year interest rate (%, eop)     1.25 1.14 1.10 0.99            1.00 0.84 0.80 0.80           0.90 1.00 1.10 1.20             1.20 1.20 1.30 1.40
Fiscal balance (% of GDP)             Fiscal Year 2011/12    11.9   Fiscal Year 2012/13     9.2    Fiscal Year 2013/14      9.5    Fiscal Year 2013/14       8.8
Fiscal thrust (% of GDP)                                      0.2                          -0.6                             0.0                              0.6
Gross public debt/GDP                                         233                          241                              248                              251

GDP (% YoY)                         9.7 9.5 9.1 8.9           9.2  8.1 7.6 7.4 7.9          7.8  8.1 8.8 9.4 9.5        9.0 8.9 8.5 8.2 8.1 8.4
CPI headline (% YoY)                5.1 5.7 6.3 4.6           5.4  3.8 2.9 1.9 2.1          2.6  2.9 3.0 3.3 2.8        3.0 2.8 2.8 3.0 3.2 3.0
PBOC 7day repo rate (%, eop)       2.85 6.61 5.01 6.31            3.46 4.11 3.05 4.59           3.25 3.25 3.25 3.25         3.25 3.25 3.25 3.25
PBOC 1yr dep rate (%, eop)         3.00 3.25 3.50 3.50            3.50 3.25 3.00 3.00           3.00 3.00 3.00 3.00         3.00 3.00 3.00 3.00
5-year T-bond yield (%, eop)       3.53 3.53 3.80 3.08            3.14 2.83 3.18 3.22           3.35 3.50 3.50 3.50         3.50 3.50 3.50 3.50
Fiscal balance (% of GDP)             Fiscal Year 2011/12    -1.1   Fiscal Year 2012/13    -1.5    Fiscal Year 2013/14 -1.1    Fiscal Year 2013/14 -0.9
Fiscal thrust (% of GDP)                                      n/a                           n/a                         n/a                         n/a
Gross public debt/GDP                                        16.5                          22.0                        19.4                        17.2

GDP (% QoQ, ann)                    2.0 0.3 2.3 -1.1          0.9 -0.3 -1.4 3.9 -1.0        0.2 -0.1 1.2 1.8 2.1        0.8 2.1 2.3 2.7 2.7 2.2
CPI headline (% YoY)                4.1 4.4 4.7 4.6           4.5 3.5 2.8 2.4 2.7           2.8  2.8 2.9 2.7 2.2        2.7 2.1 2.0 2.2 2.1 2.1
BoE official bank rate (%, eop)    0.50 0.50 0.50 0.50            0.50 0.50 0.50 0.50           0.50 0.50 0.50 0.50         0.50 0.50 0.50 0.75
BoE Quantitative Easing (£bn)       200 200 200 275                325 325 375 375               375 400 425 425             425 425 425 420
3-month interest rate (%, eop)     0.90 0.90 0.80 1.10            1.10 1.00 0.65 0.50           0.50 0.50 0.50 0.50         0.50 0.60 0.80 1.00
10-year interest rate (%, eop)     3.60 3.40 2.50 2.00            2.20 1.72 1.70 1.80           2.00 2.00 2.20 2.30         2.40 2.50 2.60 2.70
Fiscal balance (% of GDP)             Fiscal Year 2011/12    -7.9   Fiscal Year 2012/13    -6.4    Fiscal Year 2013/14 -6.7    Fiscal Year 2013/14 -5.6
Fiscal thrust (% of GDP)                                     -1.8                          -1.2                        -1.0                        -1.0
Gross public debt/GDP                                        71.8                          76.1                        80.2                        82.4

EUR/USD (eop)                      1.42 1.45 1.35 1.30              1.32 1.27 1.29 1.32           1.30 1.28 1.25 1.20              1.20 1.22 1.23 1.25
USD/JPY (eop)                        83   81   76   76                82   80   78 87               96   98 100 105                 106 107 108 110
USD/CNY (eop)                      6.55 6.46 6.38 6.29              6.30 6.35 6.28 6.23           6.24 6.30 6.32 6.33              6.33 6.33 6.33 6.33
EUR/GBP (eop)                      0.88 0.90 0.87 0.84              0.83 0.80 0.79 0.81           0.87 0.88 0.87 0.85              0.84 0.83 0.82 0.80

Oil (US$/bbl, pa)                  105   118    120    108          119   111    110 110          110   105    105    110          110   115    115    115

Source: ING forecasts

                                              Market rates given for Germany
                                            + Unsterilised Central Bank balance sheet expansion
                                            - Unsterilised Central Bank balance sheet contraction
                                            ++ Increase in pace of balance sheet expansion
                                            = Constant balance sheet

                                                                                                           Monthly Economic Update     March 2013

Research analyst contacts
Developed Markets                       Title                                            Telephone           Email

London     Mark Cliffe                  Global Head of Financial Markets Research        44 20 7767 6283
           Rob Carnell                  Chief International Economist                    44 20 7767 6909
           James Knightley              Senior Economist, UK, US $ Bloc                  44 20 7767 6614

           Chris Turner                 Head of Foreign Exchange Strategy                44 20 7767 1610
           Tom Levinson                 Foreign Exchange Strategist                      44 20 7767 8057

           Aengus McMahon               Senior Credit Analyst, High Yield                44 20 7767 8044

Amsterdam Maarten Leen                  Head of Macro & Consumer Economics               31 20 563 4406
          Martin van Vliet              Senior Economist, Eurozone                       31 20 563 9528
          Teunis Brosens                Senior Economist, US                             31 20 563 6167
          Dimitry Fleming               Senior Economist, Netherlands                    31 20 563 9497

           Padhraic Garvey              Global Head of Developed Markets Debt Strategy   31 20 563 8955
           Jeroen van den Broek         Head of Developed Markets Credit Strategy        31 20 563 8959
           Maureen Schuller             Head of Covered Bond Strategy                    31 20 563 8941
           Alessandro Giansanti         Senior Rates Strategist                          31 20 563 8801
           Job Veenendaal               Quantitative Strategist                          31 20 563 8956
           Roelof-Jan van den Akker     Technical Analyst                                31 20 563 8178
           Mark Harmer                  Head of Developed Markets Credit Research        31 20 563 8964
           Max Castle                   Credit Analyst                                   31 20 563 8815
           Malin Hedman                 Credit Analyst                                   31 20 563 8962

Brussels   Peter Vanden Houte           Chief Economist, Belgium, Eurozone               32 2 547 8009
           Carsten Brzeski              Senior Economist, Germany, Eurozone              32 2 547 8652
           Julien Manceaux              Economist, Belgium, Switzerland                  32 2 547 3350
           Philippe Ledent              Economist, Belgium                               32 2 547 3161

Milan      Paolo Pizzoli                Senior Economist, EMU, Italy, Greece             +39 02 89629 3630

Emerging Markets                        Title                                            Telephone            Email

New York   H David Spegel               Global Head of Emerging Markets Strategy         1 646 424 6464

London     Dorothee Gasser-Chateauvieux Senior Economist, South Africa, Israel, Serbia   44 20 7767 6023
           Gustavo Rangel               Chief Economist, LATAM                           44 20 7767 6561

Hungary    David Nemeth                 Senior Economist, Hungary                        36 1 255 5581

India      Upasna Bhardwaj              Economist, India                                 91 22 3309 5718

Philippines Joey Cuyegkeng              Economist, Philippines                           632 479 8855

Poland     Mateusz Szczurek             Chief Economist, CEE                             48 22 820 4698
           Rafal Benecki                Chief Economist, Poland                          48 22 820 4696
           Grzegorz Ogonek              Economist, Poland                                48 22 820 4608

Romania    Vlad Muscalu                 Senior Economist, Romania                        40 21 209 1393
           Mihai Tantaru                Economist                                        40 21 209 1290

Russia     Dmitry Polevoy               Economist, Russia & Kazakhstan                   7 495 771 7994
           Egor Fedorov                 Senior Credit Analyst                            7 495 755 5480

Singapore Tim Condon                    Head of Research & Chief Economist, Asia         65 6232 6020
          Prakash Sakpal                Economist, Asia                                  65 6232 6181

Turkey     Sengül Dağdeviren            Head of Research & Chief Economist, Turkey       90 212 329 0752
           Muhammet Mercan              Senior Economist, Turkey                         90 212 329 0751
           Ömer Zeybek                  Economist, Turkey                                90 212 329 0753

                                                                                             Monthly Economic Update   March 2013

Disclosures Appendix
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                                                                                                                       Monthly Economic Update           March 2013

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