Asia Watch Group Economics Emerging Markets Research 1 June 18 Arjen van Dijkhuizen Senior Economist Tel: +31 68 85 arjen.van.dijkhuizen@nl.abnamro.com The US giveth, the US taketh away Growth momentum supported by strong demand from the US and China However, risks build up as trade tensions US-China are flaring up again and financial conditions tighten on higher US rates and dollar strength Several Asian central banks hike rates to stem currency pressures Growth forecasts Indonesia and Malaysia revised down, Hong Kong up Assuming no major disruption from trade, growth EM Asia to stay around 6% Regional growth at two-year high in Q1, thanks to stable China and accelerating India Currently, global financial markets are testing the resilience of the global economy, against the background of central banks tightening policies and ongoing trade frictions between the world s great powers. Still, in the first quarter of this year, growth in emerging Asia does not seem to be affected by all of this. By contrast, our GDP (PPP) weighted regional index showed that regional growth continued to rise in Q1-18, reaching a two-year high of 6.4% yoy. This uptick in regional growth was supported by economic stabilisation in the largest economy China and by an acceleration in the second-largest economy India. After falling to a three-year low of 5.6% yoy in Q-18, Indian growth rose to 7.7% in Q-18, as drags from demonetisation end-16 and GST introduction mid 17 have faded. In Q1, we have also seen a sharp acceleration in annual terms in trade and financial hubs Hong Kong and Singapore, as well as in Thailand. Regional growth reaches two-year high in Q1-18 Real GDP growth, % yoy 14 1 1 8 6 4 8 9 1 11 1 13 14 15 16 17 18 China India Asia ex. Japan Source: ABN AMRO Group Economics, Bloomberg Regional PMIs point to re-acceleration % yoy 56 54 5 5 48 46 11 1 13 14 15 16 17 18 Source: ABN AMRO Group Economics, Thomson Reuters Datastream Growth momentum looks to remain decent in Q so far Although regional GDP growth was strong in Q1, our GDP-weighted regional manufacturing PMIs have come down somewhat since their December 17 peaks. However, if we take the official Group Economics: Enabling smart decisions
Asia Watch - The US giveth, the US taketh away 1 June 18 PMI for China as starting point, the regional index has improved again over the past few months. A similar signal comes from Nikkei s ASEAN Manufacturing PMI, which at 51.5 reached the highest level since July 14 in May. Recent industrial production data also point to an improving picture, accelerating in for instance the bellwethers South Korea, Hong Kong, Singapore and Taiwan. While China s industrial production also remained solid in May (6.8% yoy, marginally down from 7.% in April), the full data set for May suggests the resumption of a gradual slowdown has started (in line with our base scenario). Export growth picks up again after seasonal March dip Export values, % yoy PMI export subindices of key EMs show some rebound Index, 5 = neutral mark 5 4 3 1-1 - -3 15 16 17 18 China South Korea Taiwan Singapore 56 54 5 5 48 46 44 4 4 15 16 17 18 China (NBS) India S. Korea Indonesia Source: Thomson Reuters Datastream Source: Thomson Reuters Datastream as exports are picking up supported by strong demand from the US and China The strengthening of these activity measures seem to be in sync with the recent improvement in foreign trade data for emerging Asia, supported by strong demand from the US. Import and export growth in the region has generally accelerated over the past few months, despite a weakening of CPB trade volume indicators over the first quarter of this year. Export growth in Singapore and Taiwan clearly accelerated in May, while China s export growth remained solid at 1.5% yoy. South Korea s exports in June contracted, but according to the Korean statistical agency that was due to some statistical distortions, with export growth to the US and Asia/China remaining d solid. The PMI export subindices of most emerging Asian economies (except for Singapore and Taiwan) have risen again in May, after a downward trend in previous months. The improvement of Nikkei s manufacturing PMI for ASEAN was also supported by a renewed upturn in export sales. However, risks build up as trade tensions US-China are flaring up again Following a period of conciliatory rhetoric and negotations, US-China tensions have flared up again recently. Mid-June, the US announced Section 31 tariffs on USD 5bn of Chinese exports (1st tranche USD 34bn due on 6 July). Should China retaliate, as Beijing suggested, the US threatens with a nd round of 1% tariffs on another USD bn, and with a similar 3rd round should China retaliate that as well. We cannot know whether the latest round of escalating rhetoric will again lead to negotiations, or whether it will lead to a follow-through on threats, but in the meantime, we believe investors should focus on what is actually being implemented, rather than threatened. We still do not expect all those threats to materialise and are still in our base scenario outlined in our Trade war scenarios report, with a broadly constructive global growth and trade outlook in tact. We should add that 1% tariffs (on a potential second and third round on USD bn of Chinese exports) do not look to be really prohibitive in our view. That said, it is clear that a real escalation of trade tensions is currently one of the biggest downside risks, not
3 Asia Watch - The US giveth, the US taketh away 1 June 18 only to China but also for the rest of emerging Asia given the region s high exposure to global supply chains. EM Asia exposed to global supply chains Share of foreign value added in exports, % (11) Malaysia Vietnam China Germany France India S. Africa US Japan Indonesia Brazil Russia Source: I.H.S. Markit, OECD 1 3 4 5 Financial conditions are tightening Index 3 1-1 - -3-4 -5-6 4 6 8 1 1 14 16 18 Source: Bloomberg while financial conditions are tightening A related risk factor stems from the global tightening of financial conditions, which is also being felt in emerging Asia. Bloomberg s financial indicator for emerging Asia points to a tightening of financial conditions since the start of this year. This indicator takes incorporates developments in money, bond and equity markets to help assess the availability and cost of credits, and also includes a proxy for capital flows into Asia. A negative value indicates tighter financial conditions. In our view, the tightening of financial conditions in the region stems from various sources. A key determinant is the ongoing tightening path of the Fed (one 5 bp per quarter) and rising bond yields in the US, as well as the related strength of the US dollar. That has contributed to capital outflows, putting pressure on various Asian currencies as well and triggering policy rate hikes in several countries (see below). In our view, the escalation of trade tensions has contributed to these capital outflows, given the strong export orientedness of emerging Asia. EM Asia faced with portfolio outflows in recent months Net non-resident portfolio inflows into EMs, USD bn Benchmark policy rates, % Monetary stance has turned into tightening mode 6 4 - -4 Jan 16 Jul 16 Jan 17 Jul 17 Jan 18 Asia LatAm EE Africa & ME Source: IIF 1 8 6 4 8 1 1 14 16 18 India Indonesia Malaysia Philippines Source: Bloomberg Inflation still subdued, but many central banks are tightening to stem currency pressures According to our regional index, CPI inflation in emerging Asia has remained quite subdued hovering around.5% in March-May (down from 3% in February, when Chinese inflation was
4 Asia Watch - The US giveth, the US taketh away 1 June 18 pushed up due to the New Year Holiday). Nevertheless, the ongoing pressure on Asian FX has pushed central banks to hike policy rates to support domestic currencies and limit depletion of FX reserves. So far this year, we have seen policy rate hikes in Indonesia and the Philippines (both 5 bps), and in India and Malaysia (both 5 bps). The HKMA has also raised the base rate by 5 bps so far this year in the slipstream of the Fed, compliant with the HKD peg to the US dollar under its currency board arrangement. Meanwhile, the PBoC has continued with mini rate hikes on its open market and lending operations at the start of the year as part of its financial deleveraging campaign, but has recently softened its targeted tightening given rising external and domestic risks (see our recent China reports here and here). We expect a further moderate but no aggressive tightening across the region. However, should external pressures continue or even intensify, that could lead to more pressure on the region s currencies and central banks. Meanwhile, we expect the Chinese policy makers to maintain their very careful approach of targeted tightening, while safeguarding overall liquidity and softening their stance where needed to prevent overtightening and too prevent too sharp of a slowdown. Should trade tensions run out of hand, we expect Beijing to compensate by a further easing in terms of monetary and fiscal policy and macroprudential regulation. Growth forecasts Indonesia and Malaysia revised lower, Hong Kong higher All in all, while emerging Asia is currently profiting from strong US demand, the main risks also originate in the US (Fed monetary tightening and trade frictions with China). In our base scenario, we assume that the overall outlook for global growth and trade will remain quite constructive, dollar strength will fade at the end of the year despite further Fed rate hikes and trade tensions will not result in a large-scale, damaging trade war. Against that background, we expect emerging Asia to remain a key engine of global growth, with regional growth staying just above 6% in 18. Over time, we expect regional growth to come down gradually, driven by China. Still, barring a collapse of global supply chains, regional growth will remain high compared to other regions, reflecting emerging Asia s generally strong fundamentals, high growth potential and generally prudent policies. Compared to our previous Asia Watch published in March, we have lowered our 18 growth forecasts for Indonesia (reflecting external pressures and BI s rate hikes) and Malaysia (political uncertainty, BNM rate hike), both from 5.5% to 5.%. For Hong Kong, we have raised our 18 growth forecast to 3.5% (from 3%), given an acceleration of annual growth in Q1 supported by solid demand from China and the US. Emerging Asia: Economic growth (forecasts) % yoy Q3-17 Q4-17 Q1-18 16 17 18* 19* China 6.8 6.8 6.8 6.7 6.9 6.5 6. Hong Kong 3.6 3.4 4.7.1 3.8 3.5.5 India^ 6.3 7. 7.7 7.1 6.7 7.5 7.5 Indonesia 5.1 5. 5.1 5. 5.1 5. 5.5 Malaysia 6. 5.9 5.4 4. 5.9 5. 5. Singapore 5.5 3.6 4.4.4 3.6 3..5 South Korea 3.8.8.8.8 3.1 3..5 Taiwan 3. 3.4 3. 1.4.9.5. Thailand 4.3 4. 4.8 3.3 3.9 4. 3.5 Regional average 6. 6.3 6.4 6.1 6. 6.1 5.8 Source: ABN AMRO Group Economics, Bloomberg, EIU. * Forecasts 18-19 rounded. Arrows highlight forecast changes compared to previous Asia Outlook ^ India: fiscal years
5 Asia Watch - The US giveth, the US taketh away 1 June 18 Main risks to the outlook Key risks that could interfere with the region s relatively benign outlook stems from: - a real escalation of trade frictions between US-China and its negative impact on bilateral trade and global supply chains; - a further (strong) rise in US yields and more dollar strength, contributing to ongoing capital outflows, stronger than expected rate hikes by EM Asian central banks and a further tightening of financial conditions; - coupled with high (household and corporate) debt across the region creating vulnerabilities to exchange rate and/or interest rate shocks; - negative surprises from China s bumpy transition (reflecting strong linkages with China) and - geopolitical factors. The recent treaty between South and North Korea and the Trump/Kim summit in Singapore marks a clear easing of tensions compared to mid-17. However, a potential peace process on the Korean peninsula will remain a very lengthy process and it remains to be seen whether these summits will indeed result in clear follow-up. Moreover, the increase in strategic competition between the US and a more assertive China adds to already prevailing geopolitical risks. Main economic indicators/forecasts GDP growth (%) 16 17e 18e 19e Inflation (%) 16 17e 18e 19e Emerging Asia 6.1 6. 6.1 5.8 Emerging Asia.7.3 3.1 3.1 Emerging Europe 1.7 3.8 3.3. Emerging Europe 5.3 5.4 5.5 5.4 Latin America -1..7.8. Latin America** 1.5 7. 6.5 5.6 Emerging markets total 4.4 4.6 4.6 4.4 Emerging markets total 4.4 3.9 4.4 4.3 Eurozone 1.8.5.8.3 Eurozone. 1.5 1.7 1.4 US 1.5.3 3..7 US 1.3.1.4. World 3. 3.7 3.9 3.7 World 3. 3. 3.4 3. Budget balance (% GDP) 16 17e 18e 19e Current account (% GDP) 16 17e 18e 19e Emerging Asia -3. -3. -3.5-3.5 Emerging Asia. 1.5 1. 1. Emerging Europe -. -1.5-1. -1. Emerging Europe #NUM! -.5.. Latin America -6. -5.5-5.5-4. Latin America -. -1.5 -. -. Eurozone -1.5 -.9 -.8 -.7 Eurozone 3.3 3.5 3.4 3.4 US -3.1-3.5-3.7-5.3 US -.4 -.6 -.8 -.8 Source: EIU, ABN AMRO Group Economics * figures Emerging Markets regions are rounded **Inflation Latin America and World without Venezuela This document has been prepared by ABN AMRO. It is solely intended to provide financial and general information on economics. The information in this document is strictly proprietary and is being supplied to you solely for your information. It may not (in whole or in part) be reproduced, distributed or passed to a third party or used for any other purposes than stated above. This document is informative in nature and does not constitute an offer of securities to the public, nor a solicitation to make such an offer. No reliance may be placed for any purposes whatsoever on the information, opinions, forecasts and assumptions contained in the document or on its completeness, accuracy or fairness. No representation or warranty, express or implied, is given by or on behalf of ABN AMRO, or any of its directors, officers, agents, affiliates, group companies, or employees as to the accuracy or completeness of the information contained in this document and no liability is accepted for any loss, arising, directly or indirectly, from any use of such information. The views and opinions expressed herein may be subject to change at any given time and ABN AMRO is under no obligation to update the information contained in this document after the date thereof. Before investing in any product of ABN AMRO Bank N.V., you should obtain information on various financial and other risks and any possible restrictions that you and your investments activities may encounter under applicable laws and regulations. If, after reading this document, you consider investing in a product, you are advised to discuss such an investment with your relationship manager or personal advisor and check whether the relevant product considering the risks involved- is appropriate within your investment activities. The value of your investments may fluctuate. Past performance is no guarantee for future returns. ABN AMRO reserves the right to make amendments to this material. Copyright 18 ABN AMRO Bank N.V. and affiliated companies ("ABN AMRO ).