Asian Development Outlook 2016: Asia s Potential Growth Juzhong Zhuang Deputy Chief Economist Asian Development Bank Presentation at The views expressed in this document are those of the author and do not necessarily reflect the views and policies of the Asian Development Bank or its Board of Governors or the governments they represent. 2
Key messages Growth in developing Asia is to soften slightly to 5.7% in 2016 and 2017, from 5.9% last year PRC growth is to moderate further to 6.5% in 2016 and 6.3% in 2017 as it continues to shift growth model India s growth is to dip slightly to 7.4% in 2016 before picking up to 7.8% in 2017 Inflation of consumer prices remains subdued, but many economies face possibly harmful producer price deflation Structural reforms are critical to boosting developing Asia s potential growth 3
Asia s growth continues to 7.5 7.0 7.4 moderate Developing Asia s growth 6.5 6.0 5.5 5.0 6.3 6.4 6.3 5.9 5.7 5.7 4.5 4.0 3.5 3.0 4.2 3.6 3.4 3.3 3.4 3.4 3.1 2011 2012 2013 2014 2015 2016f 2017f f: forecast World growth: IMF January 2016 World GDP growth 4
Developing Asia still accounts for about 60% of global growth in PPP terms Contributions to world growth (%), 2016 vs. 2011 2015 40 30 P eople's R ep. of C hina 20 India 10 U nited S tates ASEAN E uro area Indonesia 0 Japan 0 10 20 30 40 A verage contributions, 2011-2015 (% ) Note: Uses PPP-adjusted weights 5
Uneven recovery in industrial economies GDP growth (%) 2015 2016f 2017f Major industrial economies 1.8 1.8 1.9 United States 2.4 2.3 2.5 Euro area 1.5 1.5 1.6 Japan 0.5 0.6 0.5 f= forecast 6
Variations across sub-regions and economies 2015 2016 f 2017 f 2015 2016 f 2017 f South Asia 7.0 6.9 7.3 India 7.6 7.4 7.8 Pakistan 4.2 4.5 4.8 Sri Lanka 4.8 5.3 5.8 Southeast Asia 4.4 4.5 4.8 Indonesia 4.8 5.2 5.5 Malaysia 5.0 4.2 4.4 Philippines 5.8 6.0 6.1 Singapore 2.0 2.0 2.2 Thailand 2.8 3.0 3.5 Viet Nam 6.7 6.7 6.5 Central Asia 2.9 2.1 2.8 Azerbaijan 1.1-1.0 1.0 Kazakhstan 1.0 0.7 1.0 East Asia 6.0 5.8 5.6 China, People s Rep. of 6.9 6.5 6.3 Hong Kong, China 2.4 2.1 2.2 Korea, Rep. of 2.6 2.6 2.8 Taipei,China 0.7 1.6 1.8 The Pacific 7.0 3.8 3.1 Fiji 4.0 2.7 4.5 Papua New Guinea 9.9 4.3 2.4
Growth outlook of Central Asian countries (%) 2015 2016 2017 Central Asia Armenia Azerbaijan Georgia Kazakhstan Kyrgyz Republic Tajikistan Turkmenistan Uzbekistan 2.9 3.0 1.1 2.8 1.0 3.5 6.0 6.5 8.0 2.1 2.0-1.0 2.5 0.7 1.0 3.8 6.5 6.9 2.8 2.3 1.0 3.5 1.0 2.0 4.0 7.0 7.3 Afghanistan Pakistan 1.5 4.2 2.0 4.5 3.0 4.8
India s growth slowing slightly to 7.4% in 2016 before picking up to 7.8% in 2017 Macroeconomic fundamentals improved; Efforts to repair corporate and bank balance sheets continued; Reforms progressed to improve business environment, attract FDI, and address infrastructure gaps; Manufacturing promoted through the Make in India campaign. 150 100 50 0-50 100 80 60 40 20 0 Demand-side contributions to growth (%) Gross fixed capital formation 29.7 17.5 Net exports 22.1 22.4 52.9 57.1 48.3 55.9 Others Government consumption GDP (rhs) Private consumption 2012 2013 2014 2015 Supply side GDP composition (%) 54.5 54.6 49.0 50.0 50.9 27.8 27.2 32.5 31.7 30.8 17.7 18.2 18.5 18.2 18.3 2011 2012 2013 2014 2015 Agriculture Industry Services 10 % 9 6 3 0-3
Slow recovery in commodity prices 170 150 130 110 90 70 Commodity price indexes 2010=100 Food Beverage Brent crude Futures Gold Copper 50 Natural gas 30 2010 2011 2012 2013 2014 2015 2016 Sources: World Bank Pinksheets; Bloomberg 11
will keep CPI inflation low 6 CPI Inflation (%) 4 5-year average 5.9 2 3.9 3.8 3.0 2.2 2.5 2.7 0 2011 2012 2013 2014 2015 2016f 2017f f: forecast 12
Risks to the outlook Global financial market volatility Spillovers from PRC slowdown Producer price deflation 13
2007 Q1 Q3 2008 Q1 Q3 2009 Q1 Q3 2010 Q1 Q3 2011 Q1 Q3 2012 Q1 Q3 2013 Q1 Q3 2014 Q1 Q3 2015 Q1 Q3 2016 Q1 Q3 2017 Q1 Q3 1. Uncertainty over future path of US Interest rate could increase global financial market volatility The Federal Reserve raised interest rates in December 2015 The Fed sees further gradual tightening going forward Changes to US monetary policy have implications on Trade Capital flows Foreign debt burden 6 5 4 3 2 1 0 Actual Fed baseline (as of Mar 2016) GPM Mar 2016 ADO 2016 baseline Roubini Global Economics 14
Strong dollar raises foreign debt burden 110 105 100 95 90 85 80 75 70 65 60 US dollar value per Asian currency, 1 Jan 2013 = 100 Declining index indicates depreciation of local currency INO MAL Jan-13 Jan-14 Jan-15 Jan-16 110 100 90 80 70 LAO IND PRC 60 Jan-13 Jan-14 Jan-15 Jan-16 PHI GEO SRI VIE ARM 110 100 90 80 70 UZB TAJ KGZ KAZ AZE 60 Jan-13 Jan-14 Jan-15 Jan-16 US dollar appreciation tends to increase domestic currency value of debt, posing a threat to economies with large foreign liabilities 15
2. PRC s growth moderation has had global impact 0.4 0.0-0.4-0.8-1.2-0.85 Global Projection Model: Growth moderation scenario 0.00-0.05 PRC USA Euro area -0.20-0.30 Japan EA ex PRC -0.20-0.15-0.30 LA RC World Trade + Policies Commodity prices Total effect Assume PRC growth weaker by 0.85 pp Rest of developing Asia s growth falls by 0.3 pp Japan s growth drops by 0.2 pp World growth declines by 0.3 pp EA = Emerging Asia; LA = Latin America; PRC = People s Rep. of China; RC = remaining countries. 16
3. Many Asian economies are experiencing producer price deflation Consumer and producer prices, 2015 (% change) Singapore Philippines People's Republic of China Malaysia Thailand Rep. of Korea India Hong Kong, China Viet Nam Indonesia -10-5 0 5 10 Euro area Japan United States Producer prices Consumer prices 17
Deflation appears to be associated with lower growth % 3.0 2.8 2.6 Average per capita GDP growth in low inflation, high inflation, and deflation periods 2.8 2.8 2.6 2.4 2.2 2.3 2.3 2.1 2.0 CPI PPI CPI PPI CPI PPI Low inflation High inflation Deflation Based on data for 38 countries during 1947-2014
Adverse effect of lower producer prices on investment Changes in log Investment -0.06-0.04-0.02 0.00 0.02 0.04 0.06-0.04-0.02 0.00 0.02 0.04 0.06 Changes in log PPI 58 countries with data available worldwide from 1966 to 2014. Each dot indicate group mean, not particular of any country. 19
Theme chapter: Asia s potential growth 20
Answer these questions by looking at potential output growth Potential growth is the maximum growth rate associated with the full employment of productive resources: Consistent with stable inflation: countries do not hit their potential until growth starts creating inflationary pressures; Determined by policy and institutional quality, economic structure and stage of development; Countries can move toward their frontier potential growth through structural reforms that remove factor misallocation and inefficiency. Potential growth is the sum of the growth rates of the labor force and labor productivity
Estimation procedure 23
Determinants of potential growth: Policy simulations Labor productivity growth ( 80%) + Initial income per capita, convergence effect: -0.33 per additional $1,000 Tertiary enrollment ratio, positive effect up to 50% Labor market flexibility Good institution: government effectiveness Trade ratio; positive effect up to 440% of GDP Financial integration Labor force growth ( 20%) Working-age population (ages 15 64) growth, one-to-one effect on potential growth 25
6.80% 6.60% Simulation: Average annual potential growth in 2015-2020 under various scenarios 6.68% 6.64% Potential growth in 2014 6.40% 6.20% 6.27% Average annual potential growth in 2015-2020: Covergence + demographics 6.00% 5.80% 5.60% 5.90% Average annual potential growyh in 2015-2020: Convergence + demographics + reforms (1) Average annual potential growth in 2015-2020: Convergence + demographics + reforms (2) 5.40% 1 Reform (1): closing the gaps in tertiary education, labour market flexibility, quality of institution, trade openness, and financial integration from the frontiers by 50% in 20 years Reform (2): closing the gaps in tertiary education, labour market flexibility, quality of institution, trade openness, and financial integration from frontiers by 50% in 10 years
Takeaways Asia s potential growth has slowed. Factors driving down potential growth: (i) demographics; (ii) convergence process; (iii) diminishing returns of factors that increased labor productivity in the past. Supply-side policies and reforms can boost potential growth: Demographics to the extent that it is possible; Labor market flexibility; quality of institutions; trade openness; financial integration; Investment in infrastructure, human capital, and technology. Sound macro-management can avoid volatility and reduce output gap.
Key messages Growth in developing Asia is to soften slightly to 5.7% in 2016 and 2017, from 5.9% last year PRC growth is to moderate further to 6.5% in 2016 and 6.3% in 2017 as it continues to shift growth model India s growth is to dip slightly to 7.4% in 2016 before picking up to 7.8% in 2017 Inflation of consumer prices remains subdued, but many economies face possibly harmful producer price deflation Structural reforms are critical to boosting developing Asia s potential growth 28
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Determinants of potential growth Dependent variable = Potential Output Growth All countries Working-age population growth: one-to-one relationship. Lower income countries tend to have higher potential growth; potential growth is positively correlated with the productivity gap with US. Positive impact of tertiary enrollment ratio peaked at 50% and of trade ratio peaked at 440 % of GDP. Improvement in institutional quality measured by labor market flexibility, citizens participation and government effectiveness increases potential growth. Financial integration has positive effect on potential growth. Structural break after the crisis (3) (4) Decadal initial level of GDP per capita -.00011 * -.00033 ** Working-age pop.growth.87025** 1.15725** Gap with the US.03865*.07306* Gap US x Pol.stability - -.00613* Tertiary enrollment ratio.15810 **.16284** Tertiary enrolment squared -.00146 ** -.00160** Labor market rigidity -1.97340 ** -2.92375 ** Freedom and political accountability.75121 * 1.65097^ Government Effectiveness 1.03906 * 1.36106 ** Trade ratio.08266 **.06488** Trade ratio squared -.00008 ** -.00007** Financial capital integration -.00197 **.00452 * Financial capital x Regulatory quality - -.00313 ** Break in 2008-14 -2.49142** -2.72717** Constant -3.55837 * - F-statistic for 0.372 0.511 # of countries 61 61 # of observations 655 425 Notes: **, * and ^ indicate, respectively, significant at the 1%, 5% and 10% level. Variables instrumented with first lag. Driscoll and Kraay (1998) standard errors.
Closing the distance from the frontier in each determinant through reforms can offset the negative impact of demographics on potential growth for developing Asia Impact on potential growth, annual increment, percentage point Japan Sri Lanka Bangladesh Indonesia India Pakistan Philippines Cambodia Turkmenistan Thailand Weighted ave. (excl Japan) PRC Malaysia Rep. Of Korea Tajikistan Hong Kong. China Viet Nam Kazakhstan Taipei,China Uzbekistan Singapore Azerbaijan 0.30 0.12 0.73 0.38-0.02 0.85-0.22 0.72-0.25 0.76-0.40 0.80-0.51 0.68-0.61 0.99-0.63 0.94-0.65 0.74-0.67 0.74-0.68 0.80-0.75 0.59-0.81 0.50-0.86 0.92-1.17 0.20-1.20 0.95-1.25 0.94-1.30 0.54-1.73 0.97-1.86 0.36-2.01 0.98 Impact of Reforms Impact of Demographics Impact of demographics is based on projected working-age population growth in 2015-2020 Impact of reforms is based on closing the distance from the frontier by 50% in 10-years
But structural reforms can boost potential growth