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April 08, 2003

Asian Economic Growth
by William Thomson

Economic development in the past two hundred years has been primarily a story of progressive industrialization spreading in waves first from Britain and Northern Europe to North America and then to Asia. This the process has gradually spread the benefits of better living standards and quality of life as evidenced by such indicators as life expectancy, which has increased by three to five decades per person over the period.

The rate of economic development has accelerated as the process has spread from region to region. Whilst it took almost 70 years for the United Kingdom to double its living standards during the initial period of its industrialization the United States achieved the same result in the 35-40 years after the Civil War. This increased pace of development appears to be the result of an increased spread of knowledge and a positive feedback for the later developers as they learned how to avoid or ameliorate the worst mistakes of the pioneers.

Asia has been the greatest beneficiary of this process in the second half of the twentieth century and into the new millennium. Japan, recovering from the devastation of the Second World War was able to double its living standards in about a quarter of a century and South Korea to 15 years. China rising out its extended revolution has compressed the doubling of its living standards into a decade.

Japanese economic growth from 1945 until the mid 1980s was driven primarily by industrialisation and export driven, developing better products at lower prices for western markets and moving sequentially from steel to ships to electronics and automobiles. But faced with an aging population and high costs, Japan has been forced to emulate its western contemporaries, relocate industries, and restructure its economy from heavy industry to a service economy. The slow rate at which this adjustment has occurred has led to its relative economic stagnation since the end of the bubble economy in 1990.

Since 1997, when South East Asia and Korea faced a financial crisis requiring debt consolidation and adherence to IMF programs, China has increasingly become the regional engine of economic growth. Whilst Japan is still the second largest economy in the world after the United States, the Chinese economy is dramatically increasing its global and regional performance. Using the official exchange rate for the remnimbi the Chinese economy is the fifth largest in the world just below the UK economy albeit with twenty times the population. However, the World Bank uses an adjusted or purchasing power parity exchange rate to calculate an economy's size and, on this basis, given the extreme under-valuation of the remnimbi, the Chinese economy runs the Japanese close for second place but China is growing at around 7 percent per annum versus the virtual stagnation of Japan.

China now has a GDP per capita on a purchasing power parity basis of about USD 4,3000 above that of some of the proposed new members of the European Union. It has the largest trade surplus with the United States, the second highest accumulation of foreign exchange reserves (over USD 250 billion) in the world and is the recipient of the bulk of Asia's new foreign investment.

To some degree what is happening in Asia is a return to the status quo ante. Asia was once the most advanced and sophisticated economic region in the world. In 1820 Asia accounted for 40 percent of the world's GDP. But the combination of China's turn inwards, western industrialisation and colonisation reshaped the global economic map with Asia's share of global GDP entering a long period of relative decline reaching 19 percent in 1950.

By the time of the Asian crisis in 1997 Asia's share of world GDP had recovered to 31 percent and today would be slightly higher. The Asian Development Bank has estimated that with continued peace and open economic policies Asia's share of world GDP could climb back to around 40 percent by 2020-25. This would represent an incredible round trip of 200 years and effectively re-establish Asia's pre-industrialisation global position in a post-industrial world.

To achieve this result India and the South Asian sub-region will have to accelerate their economic growth. Whilst the Indian economy since 1991 has been on a much higher growth path compared to the 1950-90 period, greater urgency and commitment to reform than has been evidenced recently are essential if India is to raise its economic growth to the 6-7 percent level to which it is capable.

Eventually, China's growing economic clout should lead to greater political clout which it has seemed unwilling to wield until now. On the economic front, China has played a constructive role encouraging greater free trade with ASEAN and keeping its currency stable throughout the Asian financial crisis. Already, China's growth and far lower labour costs are reshaping the regional trade and investment patterns. Other regional economies are seeking areas of comparative advantage rather than competing head-on. Thailand, for instance, is adapting its tourism industry to attract the newly affluent Chinese tourism market. The Philippines is looking towards new niche areas in back office outsourcing and processing and call centres, playing to its programming and relative English skills.

China's role in the region is likely to take greater importance if the fear and envy of its success that is now appearing in the west is to be contained. There are increasing calls in Europe for China's currency to be revalued upwards to reduce its attractiveness as a foreign investment locale. In this regard it may be somewhat analogous to Japan in the 1970s when the yen had been pegged at 360 to the US$ since World War II and was gradually revalued to 80 over the next quarter century.

The Outlook for 2003
Well into the second quarter of 2003 the global outlook remains more far uncertain than normal. Three of the four main parts of the global economy (The United States, Euroland, and Japan) are operating sub-optimally. The United States, despite expansionary fiscal and monetary policies, is struggling with a post bubble environment. Euroland, especially Germany the supposed powerhouse, faces recession with the constraints of the Growth and Stability Pact and Japan continues its 13 years old economic adjustment and will be fortunate to escape recession.

The uncertainties of the war in the Middle East and its impact on oil availability and price have acted as a dampener to normal economic prospects and have increased the risks of recession in all three regions. The war clouds are lifting somewhat and, if sustained, there should be a modest confidence bounce on the part of consumers. However, consumers remain heavily indebted and a properly sustained recovery of the global economy needs renewed corporate capital expenditures. That is far less certain since there is excess global capacity in many industries. Further investment in China is tending to work against investment elsewhere at the present time.

Asia has its own unique set of uncertainties affecting overall prospects. The attitude of North Korea and how that impasse is resolved is one dangerous element. Possible terrorism in South East Asia is another. These difficulties, coupled with the uncertainties revolving around SARS, are necessarily downgrading regional forecasts.

However, despite all these uncertainties, China should still grow at 6-7 percent this year. This will have a positive impact on its neighbours especially the smaller South East Asian commodity producing countries. Thailand, in particular, should be able to grow around 5 percent and Indonesia, the Philippines and Malaysia slightly less. South Korea's results will have to be downgraded by the crisis in the north, adjustment to the new President and his less pro-business policies and continued problems in the United States. Just as recovery from recession seemed at hand, Hong Kong has been forced to face the painful additional burden of SARS.

India had another disappointing budget in the run-up to elections next year. Growth estimates are being downgraded again and the outcome is likely to be in the 4-5 percent range.

This year, 2003, does not look like being especially noteworthy by Asia's past standards from a growth perspective. At least until you compare it with the rest of the world and 4-5 percent overall stands out compared to relative stagnancy elsewhere. Regionally, it still means 3-4 percent growth in per capita income; enough to double real incomes in about 20 years and China is still set to double incomes in the next decade.

William R. Thomson
Chairman of Private Capital Ltd.

William Thomson, Chairman of Private Capital Ltd., an advisory company in Hong Kong. He is also a senior adviser to Franklin Templeton in Hong Kong and Axiom Alternative Funds in London.

Mr. Thomson is not a registered advisor and does not give investment advice. His comments are an expression of opinion only and should not be construed in any manner whatsoever as recommendations to buy or sell a stock, option, future, bond, commodity or any other financial instrument at any time. While he believes his statements to be true, they always depend on the reliability of his own credible sources. Of course, we recommend that you consult with a qualified investment advisor, one licensed by appropriate regulatory agencies in your legal jurisdiction, before making any investment decisions, and barring that, we encourage you confirm the facts on your own before making important investment commitments.