Asia looks to sidestep ‘new mediocre’
by Amando Tetangco
In 2014 Christine Lagarde, managing director of the International Monetary Fund, described the global economy as being at an ‘inflection point’. She said it could either ‘muddle along with subpar growth’, what she then called the ‘new mediocre’, or it could aim for a better path ‘where bold policies would accelerate growth’.
At the time of her speech, the IMF was about to release its revised global growth forecast, and prospects were bleak. It had been six years since the global financial crisis, and the recovery was proceeding slowly.
Output growth and employment in advanced economies remained below pre-crisis levels. Inflation was generally low and stable, but in some countries laboured below policy targets. Moreover, deflationary pressures were mounting in countries like Japan and in the euro area.
Among the views put forward to explain the ‘new mediocre’ were secular stagnation and the failure of advanced economies to undertake the necessary balance sheet repairs and structural reforms to address supply-side weaknesses. Unconventional monetary policies through massive liquidity injections and testing the zero bound of policy rates had not translated into sustained growth.
In contrast, in the six years after the financial crisis, emerging Asia contributed the most towards global growth. Between 2009-14, emerging Asian economies grew at an average rate of 7.5% annually.
Global economic transition
The global economy is transitioning from a deep recession to relatively stable growth. The IMF’s central projection, based on its January World Economic Outlook update, is that global growth will rise to 3.4% in 2017 and 3.6% in 2018, from 3.1% in 2016. Although this represents an improvement for the global economy, the average growth rate over the post-financial crisis period (2010-16) of 3.8% remains below the pre-crisis (2002-08) level of 4.5%.
Growth among advanced economies is being led by the US, which is expected to return to a sustainable path based on the latest IMF projections. The Fund projects 2.3% and 2.5% US growth for 2017 and 2018 respectively.
Meanwhile, many emerging markets continue to enjoy robust growth, though some are experiencing a slowdown driven by near-term cyclical and long-term structural factors. The IMF forecasts growth of 6.4% for emerging and developing Asia in 2017, declining to 6.3% in 2018.
Record of Asian structural reform
Asia demonstrated its resilience after the global financial crisis. Data show that, relative to the rest of the world, the depth of the output decline in Asia was smaller by almost three percentage points. This durability is based on the region’s response to the 1997 Asian financial crisis, which led to the key reforms that defined Asian economies in the 2000s.
With a mindset that macroeconomic policies, including strong financial and external positions, are equally important to sustain economic resilience, policy-makers in Asia adopted a more proactive and rigorous approach to banking supervision. Macroprudential policies became staples of Asian central banks in addressing emerging systemic risks in the financial sector. In the light of more flexible exchange rates, many Asian central banks accumulated foreign reserves as buffers against a sudden reversal of capital flows.
These reforms have profited Asia, though more may be needed if the region is to deliver consistently robust growth and cope with external risks. Countries are preparing for these challenges, such as increasing US protectionism and the UK’s exit from the European Union, in different ways, and levels of openness in the region vary.
For some, like the Philippines, domestic aggregate demand has been the main driver of growth. Others, like China, have moved from export-led growth towards developing service-led economies. In the meantime, trade among members of the Association of Southeast Asian Nations has been increasing. In the case of the Philippines, the Asean bloc has become the country’s primary trading partner.
Avoiding the new mediocre
A disorderly reaction to projected US interest rate increases and broader uncertainty about asynchrony of monetary policies in advanced economies could lead to capital flow reversals and increased asset price volatility in emerging Asian markets. This could contribute to significant currency depreciation and inflationary pressures.
Domestic vulnerabilities or slow progress on reforms could trigger a switch in investor sentiment, leading to a tightening of domestic financial conditions. Additionally, many Asian economies are at a stage of development at which, historically, sustained rapid growth becomes difficult, otherwise known as the middle income trap.
After almost a decade of being above historical trends, the Asian Development Bank estimates potential growth in emerging Asian economies has declined by about two percentage points.
To avoid the middle income trap, countries must implement policies that effectively counter boom-bust cycles, create opportunities to take advantage of demographic trends, promote education and infrastructure, build strong governance, and foster greater trade integration.
Uncertainty in the global economy will test Asia’s resilience. The region’s ability to withstand shocks depends on the structural reforms and proactive policies that its leading countries effect. A misstep in this direction, and Asia may follow the path of the ‘new mediocre’.
Amando Tetangco is Governor of the Bangko Sentral ng Pilipinas. This is an abridged version of a speech given at the OMFIF Third Annual Asean Seminar on 3 April in Cebu, the Philippines. Back