The shift in economic gravity to Asia from the West is surely the biggest structural change underway in the global economy today. This shift explains, more than anything else, how Asia's economies managed to fully recover pre-crisis output levels by August of 2009 with essentially no help from the US, where output only stopped falling in July. It also explains how GDP growth in Asia accelerated -- over a full four year period between mid-2004 and mid-2008 -- while US domestic demand growth, long held to be the driver of global growth, dropped like a rock.
If such facts surprise, they shouldn't. For the past 20 years, Asia has been generating more and more of the world's incremental demand -- demand that is the very measure of economic growth. If you generate more and more of the total, the structure of the global economy changes. And things start to happen that didn't happen before. Short-term things, like Asia's V-shaped recovery from the global financial crisis with zero help from the US. Medium-term things, like Asia's four-year acceleration, while US demand slowed. And longer-term things, like changes in "global imbalances", who drives the price of oil, the global inflation rate, and so on.
But let's come back to structure later. Our first task is to put some colour on what has changed over the past 10 years, not on what hasn't. And the shift in gravity is really no different today than the shift 20 years ago. All that's happened is another grain of sand has been tossed on the Asia side of the scale. It's the outcomes that matter.
And just what are the key changes that have occurred in Asia over the past decade? Economically, it's hard to point to just one. In fact, to this observer, the thing that stands out the most, especially in Southeast Asia, is how the decade that ended in 2007/08 looks almost exactly the opposite of what it looked like in the decade that ended with the Asian financial crisis in 1997/98. How so? And what's next?
Decade 1
The 10 years that led up to the 1997/98 financial crisis were archetypical of excess. Most countries ran large current account deficits that sometimes rose as high as 10% of GDP (Malaysia in 1995). Capital inflows into the region were strong, however -- they more than financed external deficits and put a lot of upward pressure on currencies and downward pressure on interest rates. Domestic leverage rose sharply along with all the foreign borrowing. Gross fixed capital formation soared and GDP growth averaged 8% in the Asean five (Thailand, Indonesia, Malaysia, Philippines, Singapore) between 1987 and 1996.
Decade 2
As most are aware, that all came to an end in the summer of 1997. And Southeast Asia (with the notable exception of Singapore) spent the next 10 years unwinding the excesses of the previous 10 years. Capital left the region. Currencies dropped. Interest rates rose. Current accounts swung sharply to surplus from deficit and, for the most part, stayed there. Asia used its current account surpluses to pay back the foreign debt (and other liabilities) it had built up over the previous 10 years.
Of course, the downside to paying off old debt is that you can't buy new things, like capital equipment. Thus, in the post-crisis decade domestic investment in Asia dropped to a shadow of its former self. In Southeast Asia, for example, gross fixed-capital formation growth that averaged 12% per year between 1987 and 1996 dropped to less than 2%, on average, between 1997 and 2007.
And low investment means low growth, full stop. More than anything else, this kept GDP growth in Southeast Asia at an average 4.2% per year over the past 10 years, compared to 8% growth in the previous decade.
Looking back on Southeast Asia over the past 10 years, that's the thing that stands out the most: it was a decade of deleveraging. The good news is most of Asia is now back at square one, neither a debtor, nor a borrower in net terms (including foreign reserves). Ten years up, 10 years down. What's next?
The next decade belongs to Asia
When we think about the next 10 years in Asia, we envision a return to a period very much like the 10 years that led up to the 1997/98 crisis. A period characterised once again by foreign inflow, a move toward external deficit from surplus, rising leverage, rising investment and faster GDP growth.
That's different from what many people imagine. Most, it seems, envision a below average period of Asian growth owing to below average growth in the G3, especially the US. Most still see the US consumer as the driver of global growth and reckon this imbalance will hold back growth in Asia.
Put bluntly, we envision the converse: that above-average growth will prevail in Asia and that this will help to narrow the so-called global imbalances. What drives this view?
Three things. First is the structural change discussed above. Asia now generates more dollars of new demand each year than the US, demand that is the very measure of economic growth. Not only is this a force for faster growth in Asia (not to mention the US) but it will drive relatively faster import growth in Asia and a (structural) shift toward external balance/deficit.
The second factor is cyclical. Over the past two years, G3 central banks have flooded their economies with liquidity. But if growth, in the US for example, is slow, as many expect, much of that liquidity seems likely to head to other shores. Like Asia's, where growth and returns will be higher. What will be the effect of that? More inflows bring more investment, faster GDP growth and smaller external surpluses/larger deficits.
Finally, there is the recognition factor. So many, it seems, still blindly believe the US to be the driver of global growth. But the fact is changing, inexorably. This year, Asia will generate more dollars of new demand than the US. At some point it will become "obvious" that Asia is where the new demand is being generated and people will want to invest here more than they already do. More inflows, faster capital formation, faster growth, narrower surpluses/wider deficits.
Back to the ‘90s we go, for all three reasons. And global imbalances? Oh that's so naughties.
David Carbon is head of economic and currency research at DBS Bank.
