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Info Service on WTO and Trade Issues (Apr23/07) Penang, 7 Apr (Kanaga Raja) — Economic activity in the Asia and the Pacific region is expected to remain weak, amid a global economic slowdown, historically high inflation, tighter financial conditions and the continuing war in Ukraine, according to a United Nations report. In its Economic and Social Survey of Asia and the Pacific 2023, the UN Economic and Social Commission for Asia and the Pacific (ESCAP) said that post-pandemic economic performance in developing countries in Asia and the Pacific was considerably weak in 2022. Average output growth is estimated at 3.3 per cent, which is much lower than the pre-pandemic averages, it said. The ESCAP report said that the sluggish economic activity is mainly driven by historically high inflation, which not only undermined economic stability but has also increased poverty and inequality, thus worsening the deep socioeconomic scarring resulting from the COVID-19 pandemic. “The end of 2022 witnessed a global economic slowdown amid a rising cost of living, tighter financial conditions and the continuing war in Ukraine.” Without further worsening of the geopolitical risks or a deeper global economic recession, average GDP growth in developing countries in Asia and the Pacific is expected to rise moderately to 4.2 per cent in 2023, said the report. However, it said that this outlook remains fraught with uncertainty and is uneven across the region. “In addition to declining exports, the growth prospects are clouded by the extent of expected monetary policy tightening in the major developed economies.” The report also suggested that as fiscal firepower is shrinking in the Asia-Pacific region, it is time to rethink the relationship between public debt and development financing. The view that high debt levels are necessarily detrimental to economic growth has been challenged in recent years, it said. On the other hand, development deficits and climate risks, if left unaddressed, will have serious implications for growth and the sustainability of public finance, it added. ESCAP said its report is “based on the premise that public debt can be a powerful sustainable development tool if used judiciously and with a long-term horizon.” “Public borrowing decisions to finance development can be effective, if expected broader socioeconomic and financial returns are incorporated into debt assessments,” it added. GLOBAL ECONOMIC DEVELOPMENT & PROSPECTS According to the UN report, as the impact of the COVID-19 pandemic gradually receded and national borders reopened, economic activities across the globe experienced a resurgence in 2021 and at the beginning of 2022. However, it said that the war in Ukraine, starting towards the end of February 2022, has resulted in numerous setbacks, leading to a simultaneous global economic slowdown in 2022. It said the substantial supply disruptions drove up global food and energy prices, resulting in multi-decade high inflation across the globe, escalating food insecurity and malnutrition in many parts of the Asia-Pacific region. The report said this triggered rapid monetary policy tightening, led by the United States of America, and thus a rise in borrowing costs, which weighed on economic activities across the globe. At the same time, it said climate change and such natural disasters as heat waves, drought, cyclones, floods and earthquakes have resulted in massive economic and humanitarian damage, requiring emergency responses and recovery at a time when fiscal resources have become increasingly limited. The report said among developed economies, the United States fell into a technical recession in the first half of the year and rebounded thereafter to register an economic growth at 2.1 per cent for 2022. The European Union, responsible for importing about 30 per cent of exports from the Asia-Pacific region, was on a strong GDP growth path of 5.6 per cent in the first quarter of 2022, it added. However, after the onset of the war in Ukraine, quarterly GDP steadily declined to an annual growth rate of 3.6 per cent for 2022 due to the consequent energy crisis and dampened demand caused by rising inflation, it said. Against this background, the report said the global economic growth rate is estimated to have dropped to 3 per cent in 2022, from 5.8 per cent in 2021. “Importantly, the risk of a global recession in 2023 has risen considerably, and economic growth is projected to moderate further in 2023 to 1.9 per cent before slightly picking up in 2024 to 2.7 per cent.” This is driven by output declines in the Euro zone and expected growth moderation in the United States in 2023 and 2024, said the report. It further said that trade prospects for 2023 “are likely to be shaped by sluggish economic growth, relatively high interest rates, winding down of post-COVID stimuli, high inflationary pressures and rising debt concerns.” According to the report, global inflation reached historic levels in 2022 driven by food and energy supply shocks, pandemic-related expansionary fiscal and monetary measures in 2020/21, strained global trade routes and tight labour markets in developed economies. “The price growth peaked at 9.1 per cent in the United States in June 2022 – the highest level in 40 years, and at 10.6 per cent in the Euro area in October 2022.” The report said that the rise in core inflation across the globe indicates that current high inflation is not just a supply-side phenomenon, adding that it also seems that inflation expectations have been unhinged. It said that persistent inflationary pressures have resulted in a rapid monetary tightening. Since the start of 2022, the United States has increased its policy interest rate by 475 basis points up to January 2023, and the European Central Bank by 300 basis points. “As inflation remains considerably high in the United States and Euro zone, further monetary tightening should be expected, with the likelihood of developing countries, including those from the Asia-Pacific region, following suit.” Overall, the report said economic growth in developing Asia-Pacific countries moderated to 3.3 per cent in 2022, which is considerably lower than the 4.5 per cent growth rate that had been projected in 2022 for that year. “This is a stark slowdown compared with the strong growth rate of 7.3 per cent in 2021 and the average growth rate of 5.5 per cent in the five years prior to the start of the pandemic.” China’s deeper than expected deceleration due to its zero-COVID policy and instability in the property sector contributed to the region’s weak economic performance in 2022, said ESCAP. Nevertheless, it said economic performance varied considerably across the sub-regions, with tourism-dependent economies benefiting from border re-openings, commodity-dependent economies benefiting from higher global commodity prices, the North and Central Asian countries proving to be resilient to adverse impacts from the war while many economies suffered from the balance of payment crisis and the impacts of high inflation weighing on sentiments and domestic demand. Global demand for goods and services produced by economies in the Asia-Pacific region declined considerably in terms of value as the global economy decelerated in 2022, the report also said. “Asia-Pacific merchandise export volume grew at a moderate pace of 2.9 per cent in 2022, compared with 13.3 per cent in 2021.” However, the report said export growth was strong in value terms due to rising prices of commodities. Among the key beneficiaries of high commodity prices were Azerbaijan, Indonesia, Kazakhstan, Malaysia, Papua New Guinea and Turkmenistan. “Similar to the situation with regard to trade, manufacturing activities remained subdued, with few exceptions, due to higher cost of inputs and tighter financial conditions,” it added. ESCAP further said inflation in Asia and the Pacific in 2022 reached historically high levels in many economies. Average inflation in developing Asia-Pacific economies reached 12.8 per cent in 2022, which was 8.4 percentage points higher than the pre-pandemic average, it added. It said rising price levels are driven by both supply and demand factors, including pandemic-related supply chain disruptions, the lagged effects of pandemic-related expansionary fiscal and monetary measures and war-related supply chain disruptions which led to rapid increases in the prices for food, fuel and key commodities. Expectations of inflation remaining low and stable seems to have been unhinged as inflation remains persistently above central bank targets in many economies, it added. Towards the latter half of 2022, food and energy prices moderated somewhat due to softening global demand and better food crop expectations. Nevertheless, both headline and core inflation remained well above pre-pandemic levels across the region, said ESCAP. The report said that such persistence of inflation has increased the cost of living and reduced people’s purchasing power considerably. “Food price inflation affects low-income households most as they spend a higher share of disposable income on food consumption. This is likely to push many more people into poverty and delay achievement of food security and malnutrition objectives.” The report said that weakened currencies, higher import costs, country-specific factors and revival of domestic demand also contributed to rising inflationary pressures in 2022. “Aggressive interest rate increases in the United States and Europe led to sharp appreciation of the United States dollar and thus depreciating currencies of developing countries. This pushed up prices in local currencies through imported inflation.” Natural disasters, such as the flood in Pakistan, typhoon in the Philippines and earthquake in Turkiye, pushed food prices even higher, said the report. For instance, it noted that the affected region in Turkiye accounts for approximately 15 per cent of the country’s agricultural output, a decline which could further add to Turkiye’s food price inflation, which stood at 71 per cent in January 2023. Monetary tightening gathered pace in developing Asia-Pacific countries in the latter half of 2022 as inflation persisted, said the report. By the end of 2022, of 26 developing Asia-Pacific economies for which policy interest rate data are available, 22 had raised interest rates by an average of more than 300 basis points, it added. “Because there is a lag of 9-12 months between a change in monetary policy stance and its impact on inflation, central banks will have to wait until at least the middle of 2023 to start seeing some decline in inflation. In the meantime, higher interest rates will raise debt servicing costs for Governments, firms and households and limit public and private investments.” The report also said most Asia-Pacific economies entered 2022 with constrained fiscal space and rising public debt levels. The immense fiscal needs generated by the COVID-19 pandemic and the subsequent economic downturn drained fiscal resources considerably in recent years, it added. “Fiscal deficits in the region jumped from merely 1 per cent of GDP in pre-pandemic years to about 4-5 per cent of GDP in 2020 and 2021.” Similar deficit levels are expected in 2022 and 2023, as government revenues are set to recover only gradually while pandemic-related fiscal expenditures are slowly phased out. In 2022, the fiscal shortfalls shrank in several Asia-Pacific economies, partly reflecting the effort on fiscal consolidations, it added. Rapidly growing fiscal deficits have their mirror reflection in swiftly growing debt. The average government debt-to-GDP ratio in developing Asia-Pacific countries hovered around 40 per cent of GDP during the period 2016-2019 but jumped drastically to 49.5 per cent in 2021 with government debt in two thirds of Asia-Pacific economies reaching its highest level since 2008, said ESCAP. Not surprisingly, the report said that “several economies are and will be facing rising public debt sustainability challenge in the years to come, especially as rising interest rates push up debt servicing costs amid already tight fiscal space and weak economic growth prospects.” ECONOMIC OUTLOOK FOR 2023-2024 Average GDP growth in developing economies in Asia and the Pacific is forecast at 4.2 per cent in 2023 and 4.7 per cent in 2024, said the report. This assessment is influenced by elevated price levels and expected further monetary tightening, which will hold back economic activities, it added. “The projected slowdown in developed economies can translate into a slowdown in demand for exports, a major growth driver for the region. Global trade volume growth is projected to moderate to 1 per cent in 2023 from 3.5 per cent in 2022.” It said China’s abandonment of strict pandemic restrictions and re-opening presents an upside potential for the region. “After three years of isolation, the pent-up demand for foreign travel will see out-bound tourism from China contributing a significant share to tourism receipts of many developing Asia-Pacific economies.” This will be particularly beneficial for China’s neighbours and economies in South-East Asia that are highly dependent on tourist arrivals from China, it added. Debt levels are becoming increasingly unsustainable for many developing economies, casting a shadow on the near-term economic outlook for Asia and the Pacific, the report emphasized. Indebted Governments can hardly expect any relief given weak growth prospects for 2023 and the high interest rate environment, it said. “Likely depreciation of currencies in many developing economies could also push their debt situation towards more unsustainable levels in the coming years.” Under this scenario, the report said, with already elevated debt levels, Governments’ fiscal space to try to boost economies would remain severely limited. It said the challenging macroeconomic environment will have impacts on job creation and may likely increase unemployment. “The war in Ukraine and associated inflationary pressures means that people will struggle to maintain purchasing power, further exacerbating rising inequality and poverty trends.” It said higher uncertainty, rising interest rates, increased debt burdens and increasing risk of recession in 2023 will dampen investments by businesses, reduce demand by households and thus have adverse impacts on job creation and may likely lead to increases in unemployment. “The prospects for reducing poverty and implementing the 2030 Agenda seem ever more daunting as many more people are pushed into poverty, and progress towards more sustainable and low-carbon development is stalled.” Moreover, it said that with food prices expected to remain elevated, the risks associated with food insecurity and malnutrition need urgent attention. It also said that inflation remains elevated in the near term, keeping the cost of living high and domestic demand restrained. “Average inflation in Asia and the Pacific is projected to moderate slightly to 5.9 per cent in 2023 from 7.6 per cent in 2022. It is projected to decline further to 4.4 per cent in 2024.” The expected gradual decline in inflation in the next two years is on the back of moderating commodity prices, softening global demand and monetary tightening responses by central banks, it said. “Core inflation is still on the rise while growth is weakening, and central banks are expected to continue their course in raising interest rates.” “The United States and the European Union have signalled moderate interest rate increases, which will have implications for monetary policy stances of Asia-Pacific economies,” the report said. RISKS TO THE OUTLOOK Despite inflation having receded somewhat from alarming levels, several downside risks remain and will have an impact on growth prospects and in some cases may further add to inflation, the report underlined. An escalation of the war in Ukraine may cause further disruptions to food and energy supplies and keep inflation elevated, it said. Noting that energy prices, particularly for gas, have receded, the report nevertheless said that the market remains volatile and any potential disruption to the supply of gas may cause prices to increase again. “Pick-up in energy demand by China may also keep energy prices elevated. Likewise for food, any disruption to supply channels, such as the Black Sea Grain Initiative, would mean a possible increase in food prices.” It said for low-income countries, this would lead to additional pressure on food insecurity and raise malnutrition concerns. “Elevated food and energy prices can also increase the risk of social unrest. Moreover, intensifying geopolitical uncertainties would lower business and consumer confidence and weigh on global demand.” It said that persisting inflation could de-anchor inflation expectations and lead to further monetary tightening. Risks related to renewed disruptions to food and fuel supplies or a strong rebound in China’s growth could keep inflation elevated for longer than expected, said the report. It said persistently high inflation will prolong the cost of living crisis and will lead to continuation of monetary tightening. “Tighter financial conditions increase the vulnerability of economies to debt distress and defaults and limit Governments’ ability to support and shield the vulnerable from price shocks.” The report said a sharper than expected tightening of monetary policy by developed economies in the event of unexpected persistence of inflation could trigger excessive capital outflows from the region and put pressure on currencies and further exacerbate inflation. Risks associated with policy missteps on the timing and frequency of monetary tightening can erode central bank credibility and result in market volatility, it added. It said that if inflation is not tamed in time and brought within central bank targets, there is a risk of inflation becoming entrenched, adding that this could lead to a wage-price spiral and eventually unemployment and low economic growth. “On the other hand, sharper than expected monetary tightening risks pushing economies into a considerable slowdown. A misjudgment on under- or over-tightening could erode central bank credibility.” The report suggested that clear communication by central banks can reinforce policy objectives and is imperative to keep inflation expectations anchored and avert financial market volatility. It also cautioned that a deeper than expected global economic slowdown and a slower than anticipated recovery in China would further depress demand for the region’s goods and stall recovery in tourism. “Weak economic prospects can lead to unemployment. Uncertain economic prospects and less availability of credit reduce incentives to invest (in capital and research and development), resulting in lower productivity and lower job creation.” Prolonged economic downturns and multiple crises would reinforce the scarring effects since the start of the pandemic, said the report. It also said that extended disruptions to labour markets erode workers’ skills and reduce the chances of workers returning to the workforce. “Many workers would fall into poverty, further exacerbating pre-existing inequalities and reducing future economic growth prospects.” Finally, the report said there is increasing pressure on domestic financial stability, adding that even before the pandemic, non-financial corporate indebtedness has been on the rise in some Asia-Pacific economies. “A sudden and substantial rise in interest rates, devaluation of local currencies and weaker business sentiments can pose a threat to financial stability in these countries.” A growing number of highly leveraged companies are struggling to meet their debt obligations, while not all underlying risks on debt sustainability may be known to both investors and Governments, said ESCAP. “To ensure financial stability, macro-prudential policies as well as initiatives to improve the transparency and reporting standards by the private sector need to be in place,” it added. +
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