## Executive Summary xi

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### Recent developments
- The economies of Asia and Pacific rebounded strongly in 2021 with growth of 6.5 percent but are showing signs of a slowdown in 2022.
- Growth in the first half of 2022 was supported by postpandemic recovery, reopening of borders, rising tourist arrivals, recovering domestic consumption, and strong demand for manufacturing exports.
- China’s zero-COVID containment measures led to strict lockdowns, reducing demand and disrupting manufacturing and supply chains, cutting China’s growth to a sequential contraction in Q2 2022 and to just 0.4 percentage point year over year.
- Exports from the rest of Asia performed well in the first half of 2022, supported by sustained demand from Europe and the United States, but signs emerged in 2022 of weakening orders and softening manufacturing PMIs and investment.

### The return of inflation
- Global inflation surged to multidecade highs, prompting major central banks to tighten monetary policy.
- In Asia, headline inflation rose in 2021–22 but remained more muted than in other regions due to:
  - relatively smaller food price increases in Asian EMDEs (examples cited: solid harvest in India in 2021, hog population rebound in China, contained rice price increases),
  - greater insulation from global oil price shocks via fuel subsidies and administered prices in some economies,
  - more muted energy price increases in some Asian advanced economies versus Europe.
- Core inflation (headline excluding food and energy) increased across the region:
  - In Asian emerging market and developing economies, core inflation rose from 2.3 percent in 2021 to 3.3 percent in July 2022.
  - In Asian advanced economies, core inflation rose from 2.4 percent in 2021 to 3.5 percent in July 2022.
  - In China and Japan, core inflation remained much lower and below central bank targets; food and energy pushed headline inflation above the Bank of Japan’s 2 percent target in Japan.
- Drivers of rising core inflation include pass-through of higher import prices (including delayed transmission of a shipping-cost spike that peaked in November 2021), depreciating exchange rates, and in some economies strong domestic demand; wide output gaps have helped contain pressure on core inflation.

### Global and regional headwinds to growth
- The outlook faces three major headwinds:
  - Global financial tightening:
    - Benchmark 10-year US Treasury yields have risen by 275 basis points.
    - The US dollar has strengthened markedly.
    - Local-currency sovereign yields in other Asian advanced economies have risen by about 225 basis points on average and are generally about 100 basis points above their 2015–19 average levels.
    - China and Japan are exceptions where yields remain near pandemic-era minimums due to continued monetary accommodation (including yield curve control in Japan).
  - Russia’s war in Ukraine producing a marked slowdown in Europe and adding commodity-price pressures that dampen consumer demand in Asia.
  - A sharp and uncharacteristic slowdown in China, with significant negative spillovers for neighboring economies via trade channels.

### Outlook and key projections
- Regional growth forecasts:
  - 2021 growth: 6.5 percent.
  - 2022 growth expected to decelerate to 4.0 percent.
  - 2023 growth expected to rise to 4.3 percent.
  - These 2022 and 2023 forecasts were revised down by 0.9 percentage point and 0.8 percentage point, respectively, since the April 2022 World Economic Outlook.
- Inflation is expected to peak in late 2022 as global commodity prices fall and macroeconomic policies become less accommodative.
- The region is expected to expand at a rate well below the average rate of 5½ percent seen over the preceding two decades.
- Risks to the outlook are to the downside, primarily from intensification of the three headwinds above.

### Financial tightening, yields, and portfolio flows (selected findings)
- Yields on sovereign local currency 10-year yields and USD-denominated bond spreads have risen; corporate yields have risen less than 50 basis points for debt issued by large firms.
- Frontier market economies saw larger yield increases; Sri Lanka’s bonds traded at distressed levels after defaulting in June.
- Largest depreciation among major currencies: Japanese yen −18 percent through end-August.
- Portfolio outflows from Asian emerging markets in 2022 were comparable in scale to the 2013 taper tantrum and the 2020 onset of the COVID-19 pandemic; outflow pressures were concentrated in a handful of economies (India, Taiwan Province of China), with some stabilization and partial reversal in recent data (India) and strong net inflows in others (Thailand).

### China’s sharp slowdown and spillovers
- China’s growth outlook was revised from 5.7 percent in October 2019 to 3.2 percent in October 2022; the projected 3.2 percent would be the second lowest since 1977.
- Drivers include zero-COVID lockdowns, deepening turmoil in the property sector (defaults and impaired access to market financing), tighter control over pre-sales, and rising banking system risks from property exposure.
- Spillover evidence:
  - Impacts on regional growth are significant when the fall in Chinese activity is caused by supply shocks and are more pronounced for countries with stronger trade links.
  - Shocks from slowdowns to Chinese consumption or to investment in the real estate sector provoke similar-size, front-loaded spillovers peaking within the first year.
  - A one standard deviation (2.3 percentage points of GDP) decline in Chinese growth results in medium-term effects of about a 0.7 percent reduction in GDP in other countries (panel local projections model).

### Inflation outlook and monetary policy implications
- Inflation in Asia was revised up substantially versus previous WEOs but remains expected to be more modest than in other regions.
- Inflation expected to peak at an average of 4.2 percent in the third quarter of 2022.
- Inflation is expected to decelerate in 2023 due to tighter monetary policy and reversal in external drivers (lower crude oil and food prices, falling shipping costs).
- Risks to persistence:
  - Strong recovery and lower potential output from pandemic scarring could close output gaps and put pressure on core inflation.
  - Simulation of a de-anchoring scenario: inflation expectations rise by 1 standard deviation (about 1.4 percentage points) in 2023 (except China and Japan), prompting central banks to hike policy rates further and slowing recovery materially in 2023–25, with larger impacts in emerging market Asia (excluding China).

### Medium-term scarring and structural challenges (Chapter 2 summary)
- Asian EMDEs face large medium-term output losses driven by lower investment, weaker productivity growth, and lower labor force participation.
- New empirical evidence: high corporate debt amplifies investment losses after recessions—relevant for Asia given high corporate leverage.
- Lower human capital accumulation due to school closures and declining fertility may add to long-term scarring.
- IMF staff now expect Asia’s level of output to be more than 2 percent lower in 2025 than forecast a year earlier.
- Growth decomposition and losses:
  - About one-quarter of Asia’s expected medium-term output losses attributable to lower rates of capital accumulation.
  - Another one-quarter attributable to lower employment.
  - Direct contribution from lower capital accumulation: about 1.8 percent for Asia; about 3 percent in Asian EMDEs.
  - Lower employment growth contribution: about 2 percent in EMDEs; 1.2 percent in Asian advanced economies.
- Investment impacts:
  - Investment as a share of GDP in 2024 expected to be more than 3 percentage points lower in Asian EMDEs compared with prepandemic projections.
  - Lower investment accounts for about 25 percent of output losses in Asian EMDEs.
- Corporate-debt amplification:
  - Investment declines by an additional 2.5 percentage points within four quarters in high-debt firms relative to low-debt firms; effect increases to more than 5 percentage points by 12 quarters.
  - Firms’ debt accounts for at least 28 percent of the average medium-term decline of investment after past recessions.

### Distributional and poverty impacts of food and energy inflation (Box findings)
- Food and energy share in consumption baskets can be about 52 percent and up to 61 percent including transportation for some households.
- Lowest consumption segment in low-income countries: about 59 percent of income on food and another 10 percent on energy and transportation.
- Simulation results under WEO July 2022 projections:
  - Relative poverty may increase by about 1 percentage point in Cambodia and Vietnam and about 0.2 percentage point in China.
  - Poverty effects would almost double under a scenario with twice the magnitude of energy and food inflation.
- Fiscal cost of shielding vulnerable households:
  - Compensating all vulnerable households would cost 0.15 percent of GDP in Cambodia, 0.06 percent in Vietnam, and 0.03 percent in China under baseline projections; costs would double under a more severe shock.

### Trade and geoeconomic fragmentation risks (Chapter 3 summary)
- Early signs of trade and financial fragmentation: rising trade policy uncertainty and more trade restrictions since 2018; sectoral rotation with increasing share targeting high-tech sectors.
- Empirical macro effects of trade policy uncertainty:
  - A one standard deviation increase in trade policy uncertainty (approximate increase seen between March and June 2018) leads to:
    - Investment reduced by about 2.5 percent within three years.
    - GDP falling by 0.4 percent.
    - Unemployment rising by 1 percentage point.
  - Firm-level evidence: average firms’ investment declines by about 5 percent two years after a one standard deviation increase in the World Trade Uncertainty Index; larger effects in EMDEs and for financially constrained firms.
- Modelled fragmentation scenarios (sectoral CGE with firm heterogeneity):
  - Russia decoupling scenario: long-term GDP changes negligible for Asia and Pacific; large losses in Russia.
  - Two-bloc downside scenario (high-tech and energy trade cut off between blocs):
    - Permanent global annual losses: 1.2 percent of GDP.
    - Permanent annual losses for Asia and Pacific: 1.5 percent of GDP.
  - Extended downside (add Cold War–level NTBs in other sectors):
    - Annual permanent global losses: 1.5 percent of GDP.
    - Annual permanent losses for Asia and Pacific: 3.3 percent of GDP.
  - Losses larger where trade with the other bloc is significant in affected sectors (China, Korea, Vietnam).
- Financial fragmentation early signs:
  - Cross-border assets and liabilities of Asian advanced economies >500 percent of GDP in 2020.
  - Asian EMDEs increased cross-border holdings from 25 to 110 percent of GDP between 1990 and 2020.
  - Increase in capital flow control measures in 2020 and more mentions of “national security” in exchange-arrangement reports.

### Policy recommendations
- Monetary policy:
  - Continue to tighten to rein in rising inflation, except in China and Japan where conditions warrant different stances.
  - Be prepared to tighten faster if increases in core inflation prove more persistent.
- Fiscal policy:
  - Gradual fiscal consolidation to stabilize public debt in a well-articulated medium-term framework.
  - Interventions to mitigate global food and energy shocks should be well targeted, temporary, and budget neutral, and protect the most vulnerable.
  - Given high debt levels, support measures should be targeted and temporary to preserve fiscal resources; in low-income countries full coverage of income losses is likely fiscally infeasible—support should be budget neutral.
- Financial and macroprudential:
  - Ensure loan classification and provisioning rules reflect credit risk and losses; ensure banks have adequate risk-management capacity and capital buffers.
  - Strike a balance with macroprudential policy to contain vulnerabilities while avoiding procyclicality.
  - China-specific: prompt actions to restructure distressed developers, ensure completion of unfinished presold housing, and prepare for systemic spillovers.
- Structural policies to mitigate scarring:
  - Tackle corporate debt overhang: frameworks to restructure viable firms and liquidate unviable firms; promote reallocation of capital and labor; unwind emergency support to avoid zombification.
  - Mitigate human capital losses: assess learning losses and increase financing for remediation (additional in-person instruction, teacher training, extended school years).
  - Promote digitalization: invest in digital infrastructure and upskilling; harness digitalization to boost productivity and resilience.
  - Labor policies: return people to the labor force via retraining and reallocation policies.
- Crypto and digital payments:
  - Adopt comprehensive, consistent, and coordinated regulation of crypto assets.
  - Invest in modernizing digital payment systems, including cross-border integration.
  - Consider issuance of central bank digital currencies to offer consumer benefits without crypto risks.
- Trade and multilateral action:
  - Roll back damaging trade restrictions and reduce policy uncertainty; monitor and address rising trade restrictions, especially in high-tech and energy sectors.
  - Deepen regional agreements and ensure they promote open, stable trading relationships; open participation to others willing to take on similar obligations.
  - Restore a fully functional World Trade Organization dispute settlement system.
- Exchange rate and reserve use guidance:
  - Judicious, temporary foreign exchange intervention can mitigate overshooting and pass-through to inflation in shallow FX markets and where currency mismatches raise balance-sheet risks; interventions should be temporary to avoid side effects.
- Climate and green transition:
  - Short-term headwinds should not derail Paris Agreement commitments; close implementation gaps and mobilize foreign green financing for EMDEs; focus on adaptation for Pacific islands and small island states.

*International Monetary Fund | October 2022*

### Executive Summary xi

### Executive Summary xi

### Recent developments
- The economies of Asia and Pacific rebounded strongly in 2021 with growth of 6.5 percent but are showing signs of a slowdown in 2022.
- Growth in the first half of 2022 was supported by postpandemic recovery, reopening of borders, rising tourist arrivals, recovering domestic consumption, and strong demand for manufacturing exports.
- China’s zero-COVID containment measures led to strict lockdowns, reducing demand and disrupting manufacturing and supply chains, cutting China’s growth to a sequential contraction in Q2 2022 and to just 0.4 percentage point year over year.
- Exports from the rest of Asia performed well in the first half of 2022, supported by sustained demand from Europe and the United States, but signs emerged in 2022 of weakening orders and softening manufacturing PMIs and investment.

### The return of inflation
- Global inflation surged to multidecade highs, prompting major central banks to tighten monetary policy.
- In Asia, headline inflation rose in 2021–22 but remained more muted than in other regions due to:
  - relatively smaller food price increases in Asian EMDEs (examples cited: solid harvest in India in 2021, hog population rebound in China, contained rice price increases),
  - greater insulation from global oil price shocks via fuel subsidies and administered prices in some economies,
  - more muted energy price increases in some Asian advanced economies versus Europe.
- Core inflation (defined here as headline inflation excluding food and energy categories) increased across the region:
  - In Asian emerging market and developing economies, core inflation rose from 2.3 percent in 2021 to 3.3 percent in July 2022.
  - In Asian advanced economies, core inflation rose from 2.4 percent in 2021 to 3.5 percent in July 2022.
  - In China and Japan, core inflation remained much lower and below central bank targets because of weak domestic demand and large output gaps; food and energy pushed headline inflation above the Bank of Japan’s 2 percent target in Japan.
- Drivers of the recent rise in core inflation include pass-through of higher import prices (including delayed transmission of a shipping-cost spike that peaked in November 2021), depreciating exchange rates, and in some economies strong domestic demand; wide output gaps have helped contain pressure on core inflation.

### Global and regional headwinds to growth
- The outlook for Asia and Pacific faces three major headwinds:
  - Global financial tightening as major central banks tighten to tame inflation. Specifics:
    - Benchmark 10-year US Treasury yields have risen by 275 basis points.
    - The US dollar has strengthened markedly.
    - Local-currency sovereign yields in other Asian advanced economies have risen by about 225 basis points on average and are generally about 100 basis points above their 2015–19 average levels.
    - China and Japan are exceptions where yields remain near pandemic-era minimums due to continued monetary accommodation (including yield curve control in Japan).
  - Russia’s war in Ukraine producing a marked slowdown in Europe and adding commodity-price pressures that dampen consumer demand in Asia.
  - A sharp and uncharacteristic slowdown in China, with significant negative spillovers for neighboring economies via trade channels.

### Outlook and key projections
- Regional growth forecasts:
  - 2021 growth: 6.5 percent.
  - 2022 growth expected to decelerate to 4.0 percent.
  - 2023 growth expected to rise to 4.3 percent.
  - These 2022 and 2023 forecasts were revised down by 0.9 percentage point and 0.8 percentage point, respectively, since the April 2022 World Economic Outlook.
- Inflation is expected to peak in late 2022 as global commodity prices fall and macroeconomic policies become less accommodative.
- The region is expected to expand at a rate well below the average rate of 5½ percent seen over the preceding two decades.
- Risks to the outlook are to the downside, primarily from intensification of the three headwinds above.

### Medium-term scarring and structural challenges (Chapter 2 summary)
- Asian emerging market and developing economies face large medium-term output losses driven by lower investment, weaker productivity growth, and lower labor force participation.
- New empirical evidence indicates high corporate debt amplifies investment losses after recessions—an especially relevant channel for Asia given high corporate leverage.
- Lower human capital accumulation because of school closures and declining fertility may add to long-term scarring.
- Policy implications include a renewed structural reforms push to boost potential output, with specific emphasis on the role of digitalization in raising productivity and resilience.

### Geoeconomic fragmentation risks (Chapter 3 summary)
- Early signs of trade and financial fragmentation have appeared for several years: rising trade policy uncertainty and more trade restrictions.
- The war in Ukraine has raised geopolitical tensions and the risk that trade will increasingly be determined by geopolitical rather than economic considerations.
- Empirical analysis shows adverse short-term macroeconomic outcomes associated with higher trade policy uncertainty.
- Model simulations indicate a sharper fragmentation scenario (a world divided into separate trading blocs) would produce large, permanent output losses, underscoring the importance of collaborative multilateral solutions.

### Policy recommendations
- Monetary policy:
  - Continue to tighten to rein in rising inflation, except in China and Japan where conditions warrant different stances.
  - Be prepared to tighten faster if increases in core inflation prove more persistent.
- Fiscal policy:
  - Gradual fiscal consolidation is needed to stabilize public debt in a well-articulated medium-term framework.
  - Interventions to mitigate global food and energy shocks should be well targeted, temporary, and budget neutral, and protect the most vulnerable.
- Structural policies:
  - Pursue structural reforms to boost potential output and mitigate pandemic scarring, including:
    - investments in education and training to compensate for lost schooling,
    - measures to promote diversification,
    - policies to address the pandemic-related debt overhang,
    - actions to harness digitalization to boost productivity and resilience.
- Global cooperation:
  - Strong multilateralism—through international organizations, the Group of Twenty, and regional processes—is needed to mitigate geoeconomic fragmentation and advance climate-change commitments.

*International Monetary Fund | October 2022*

### 1. OUTLOOK fOR AsIA ANd PACIfIC: sAILING INTO HEAdwINds

### 1. OUTLOOK fOR AsIA ANd PACIfIC: sAILING INTO HEAdwINds

### Financial tightening, yields, and credit stress
- Yields on sovereign local currency 10-year yields and USD-denominated bond spreads have risen; corporate yields have risen less than 50 basis points for debt issued by large firms.
- Financial tightening more pronounced in riskier asset classes:
  - Yields have risen further for frontier market economies such as Mongolia, Papua New Guinea, and Sri Lanka; Sri Lanka’s bonds trading at distressed levels after having defaulted in June for the first time in its history.
  - Yields have risen sharply on bonds issued by riskier firms in the region—including firms linked to the Chinese real estate sector such as property developers—and those with high leverage.
- JPM Asia credit indices referenced: JPM Asia corporate IG, JPM Asia corporate non-IG, JPM China corporate, JPM Asia property sector (Figure 1.8).

### Exchange rates and portfolio flows
- As the Federal Reserve tightens, Asian exchange rates have broadly depreciated against the US dollar in 2022.
- The magnitude of each country’s exchange rate depreciation is correlated with the change they have faced in the commodity terms of trade and has also been affected by interest rate differentials in some cases (Figure 1.9).
- Nominal effective exchange rates have seen limited movement because Asia’s trading partners and competitors have tended to depreciate by a similar amount (Figure 1.10).
  - Largest depreciation among major currencies: Japanese yen −18 percent through end-August.
- Portfolio outflows from Asia in 2022:
  - At a regional level, the scale of outflows from Asian emerging markets is comparable to previous episodes such as the 2013 taper tantrum and the 2020 onset of the COVID-19 pandemic (Figure 1.11).
  - Strong outflow pressures focused on a handful of economies (India, Taiwan Province of China); majority saw relatively moderate net outflows (Indonesia, Korea, Malaysia).
  - Recent data point to outflows having stabilized and partially reversed in some cases (India); others experienced strong net inflows (Thailand).
- In countries facing most volatility in net portfolio flows, flows seem predominantly driven by equity instead of debt (India, Thailand).

### War in Ukraine: commodity shock and trade effects
- The invasion provoked a generalized spike in global commodity prices that lasted for several months, causing shocks to Asia’s terms of trade and current accounts, and propelling inflation higher.
- The rise in crude oil, natural gas, coal, and agricultural commodity prices in the first half of 2022:
  - Negative terms-of-trade shock for most of the region and strain on external accounts of large net importers in ASEAN (Philippines, Thailand), South Asia (Bhutan, India, Maldives, Nepal, Sri Lanka), and the Pacific islands (Kiribati, Tonga, Vanuatu).
  - India, Nepal, and the Philippines were hit hard by the spike in world food and fuel prices and shortages of fertilizer.
  - Net commodity exporters (Australia, Brunei Darussalam, Indonesia, Malaysia, New Zealand) received windfall from higher export revenue and bolstered private consumption.
- The war led to a significant downward revision to the outlook for growth in the euro area for 2023—from 2.3 percent in the April 2022 World Economic Outlook to 0.5 percent—reducing external demand for Asian exports.
- Trade uncertainty and risks of geoeconomic fragmentation have become more salient.

### China’s sharp and uncharacteristic slowdown
- China’s growth outlook revised down substantially across WEO editions: from 5.7 percent in October 2019 to 3.2 percent in October 2022 (Figure 1.12).
  - The projected 3.2 percent growth rate would be the second lowest since 1977.
- Drivers of the slowdown:
  - Government’s strict adherence to the zero-COVID policy with repeated lockdowns of major cities—important incidence on mobility and activity.
  - Deepening turmoil in China’s property sector: growing number of property developers defaulting; sector’s access to market financing increasingly challenging.
  - Tighter control over pre-sales (sale of units before construction) has impaired developers’ working capital and ability to execute new projects (Figure 1.13).
  - Rising risks to the banking system from substantial exposure to the real estate sector.
- The slowdown has become broad-based across sectors with underperforming activity indicators, reflecting sluggish consumption and investment amid very low consumer confidence and external demand weakness.
- Spillover evidence (Box 1.1 referenced):
  - Impacts on regional growth significant when fall in Chinese activity is caused by supply shocks and are more pronounced for countries with stronger trade links, particularly Asia’s advanced economies.
  - Shocks from slowdowns to Chinese consumption or to investment in the real estate sector provoke similar-size spillovers that are more front-loaded, peaking within the first year.

### The Outlook for Asia and Pacific: growth projections and heterogeneity
- Global context:
  - Global economy expected to slow from 6.0 percent in 2021 to 3.2 percent in 2022 and 2.7 percent in 2023.
- Asia and Pacific forecasts revised down versus April WEO:
  - Downgrades by 0.9 percentage point in 2022 and by 0.8 percentage point in 2023.
- Regional heterogeneity:
  - Advanced economies in Asia: growth remains above potential at 2.3 percent in 2022 and expected to fall to 2.0 percent in 2023 and to 1.9 percent in 2024.
  - Emerging market and developing economies in Asia: growth dip to 4.4 percent in 2022—largely reflecting China’s slowdown—and rise to 4.9 percent in 2023 and 5.2 percent in 2024.
- Country and subregion specifics:
  - China: after near-zero growth in Q2, expected to reach 3.2 percent in 2022 and 4.4 percent in 2023 as COVID-19 restrictions are gradually loosened and moderate pickup in public investment deployed.
  - Japan: growth expected at 1.7 percent in 2022 before slowing to 1.6 percent in 2023, weighed down by weak external demand.
  - India: growth expected at 6.8 percent in 2022, revised down by 1.4 percentage points since April 2022 WEO; expected to slow to 6.1 percent in 2023.
  - Bangladesh: recovery dampened by war in Ukraine with pressure on balance of payments; authorities requested an IMF-supported program and access to the Resilience and Sustainability Trust.
  - Sri Lanka: economic crisis expected to lead to a contraction in growth of 8.7 percent in 2022, before recovering gradually contingent on reforms and agreement on debt restructuring consistent with an IMF-supported Extended Fund Facility program.
  - Maldives: growth expected to reach 8.7 percent in 2022 supported by tourism, moderating to 6.1 percent in 2023; vulnerabilities include elevated public debt and declining international reserves.
- ASEAN:
  - Recovery in ASEAN expected to be strong in 2022 supported by consumption, services, exports, high vaccination rates, border reopenings, and removal of pandemic restrictions.
  - Growth projected at slightly more than 5 percent in Cambodia, Indonesia, and Malaysia; 6.5 percent in the Philippines; Vietnam expected at 7 percent.
  - Myanmar expected to begin moderate recovery with growth of 2 percent in 2022 and 3.3 percent in 2023.
  - Lao P.D.R. outlook remains challenging due to elevated debt vulnerabilities, low reserves, and foreign exchange shortages.
  - Growth momentum expected to moderate in 2023 for Indonesia, Malaysia, the Philippines, Singapore, and Vietnam due to weaker external demand, supply disruptions, macro policy normalization, and tighter financial conditions; Cambodia and Thailand expected to expand faster as tourism recovery strengthens.
- Pacific island countries:
  - Regional growth expected to rise from 0.8 percent in 2022 to 4.2 percent in 2023.
  - Rebound driven by tourism-based economies benefiting from border reopening and easing travel restrictions; recovery slower than April 2022 WEO due to higher global fuel and food prices.

### Inflation outlook and monetary policy implications
- Inflation in Asia revised up substantially versus previous WEOs but the expected rise is more modest than in other regions.
- Inflation expected to peak at an average of 4.2 percent in the third quarter of 2022.
- Inflation is expected to decelerate in 2023 reflecting:
  - Tighter monetary policy.
  - Reversal in external drivers: lower prices for crude oil and food commodities, and rapidly falling shipping costs contributing to lower import price inflation in the second half of 2022 and 2023.
- Risks to inflation persistence:
  - Continued strength of recovery and lower potential output from pandemic scarring will close output gaps.
  - Strong domestic demand could put pressure on core inflation.

### Medium-term prospects and pandemic scarring
- IMF staff now expect Asia to suffer more severe scarring than forecast in October 2021 Regional Economic Outlook:
  - Region’s level of output expected to be more than 2 percent lower in 2025 than forecast a year ago.
- Emerging market and developing economy Asia was already expected to experience the most scarring globally; the downgrade implies deeper cumulative GDP losses through 2025 (Figure 1.15).

*International Monetary Fund | October 2022*

### 1. OUTLOOK fOR AsIA ANd PACIfIC: sAILING INTO HEAdwINds

### 1. OUTLOOK fOR AsIA ANd PACIfIC: sAILING INTO HEAdwINds

### Scarring, drivers, and medium-term losses
- Scarring in China is now seen to be comparable to emerging market and developing economies outside Asia, whereas it had previously been seen as relatively more resilient in earlier forecasts.
- Severe scarring expected in Asia partly reflects the region’s high debt levels, which hamper the recovery in investment.
- Chapter 2 analysis attributes:
  - about one-quarter of Asia’s expected medium-term output losses to lower rates of capital accumulation;
  - another one-quarter of the loss to lower employment, as population growth has slowed in advanced economies because of stalled migration, and labor force participation is expected to remain below prepandemic levels in emerging market and developing economies.
- Longer-term risks to output include lower fertility affecting population growth and the impact of school closures on the human capital stock.

### Key near-term downside risks and their channels
- Main risks are to the downside and involve intensification of existing headwinds:
  - Intensification of the war in Ukraine could drive up commodity prices and deepen the slowdown in demand from the United States and European Union.
  - Materialization of risks from China’s property sector could deepen its slowdown and stretch it into 2023.
  - Further repricing of financial conditions, particularly if the Federal Reserve and the European Central Bank deviate from market expectations or if risk appetite worsens.
- Even though financial conditions have tightened in the baseline, they remain favorable and subject to further adverse repricing.

### Downside scenario: shocks and calibration
- The downside scenario uses a regional variant of the IMF’s Flexible System of Global Models with added granularity for Asia and incorporates policy responses.
- The scenario includes three related layers of shocks:
  - Deeper slowdown in China: assumes a negative shock to investment that reduces China’s growth by 1 percentage point in 2023, producing a second consecutive year of growth below 3½ percent.
  - Global slowdown: assumes weaker consumption and investment reducing growth in the United States and euro area by 1 percentage point in 2023, taking US and euro area growth essentially to zero in 2023 and reducing global growth to below 2 percent.
  - Tighter financial conditions: assumes the US term premium returns to its historical average (+200 basis points) and leads to higher term premiums in Asia according to historical correlations; sovereign and corporate spreads in Asia (excluding China and Japan) also rise by an additional 150 basis points.

### Simulated impacts of the downside scenario
- Regional outcomes:
  - At the regional level, growth is lower in 2023 by about 1 percentage point, falling to a level of about 3½ percent.
  - The shocks are calibrated to be transitory but have a persistent impact that decays through 2025 and leads to a permanent fall in the level of output relative to the baseline (worsening scarring).
- Distributional impacts:
  - The fall in growth is more pronounced and more persistent in the region’s emerging markets, particularly in the ASEAN economies, where the impact of lower external demand has a larger incidence than in the advanced economies.
  - The shock’s impact through financial conditions reduces growth in most countries by a bit less than 1 percentage point.
  - Even in this severe global scenario, all Asian economies maintain positive growth in 2023.

### Longer-term and structural risks
- Geoeconomic fragmentation into regional blocks could have substantial implications for global value chains and the efficient allocation of capital, disrupting cross-border investment and trade patterns.
- Asia and Pacific, having benefited from globalization and trade openness over the past 30 years, stand to lose substantially in such a scenario; to avoid these losses the region must continue to prioritize maintaining open and stable trading relationships.
- Climate-related risks: recent extreme heatwaves and droughts in China and South Asia underscore human and economic impacts of climate change, with costs expected to build over time without appropriate policies to support the transition to carbon neutrality.

### Monetary policy stance, timing, and heterogeneity across Asia
- Withdrawal of policy support in the postpandemic phase is proceeding across most of the region, with countries placing different burdens of adjustment on monetary and fiscal policies.
- Monetary policy patterns:
  - Economies where output gaps remain large and core inflation was slower to surpass targets—Indonesia, Malaysia, Thailand, and Vietnam—have started tightening more recently.
  - China and Japan: rates have remained accommodative.
  - Economies where output gaps are closing and inflation has risen well above targets (including most advanced economies) hiked earlier: Korea and New Zealand were first in the region, broadly matching the Federal Reserve’s pace; Australia initiated its hiking cycle in the second quarter of 2022 and implemented a steep rate path.
  - Among emerging economies in this group, the Philippines has hiked rates by 225 basis points and India by 190 basis points since June 2021.
  - Singapore, with an exchange-rate-based framework, tightened four times so far in 2022.
- Market expectations and implications:
  - Markets expect the size of the hiking cycle in Asia to be relatively modest.
  - For Asia’s emerging markets, expected hikes are much less than in regions like Latin America and eastern Europe (where central banks have or are expected to hike between 500 and 1,000 basis points).
  - Currently negative real interest rates in Asia are expected to rise only gradually to positive territory but not to become contractionary.

### Inflation dynamics, expectations, and risks of de-anchoring
- Assumptions underlying modest tightening:
  - Contribution of global oil and food prices will turn negative in late 2022 as commodity markets and supply chains normalize.
  - Limited magnitude of second-round effects (pass-through to wages and core inflation) provided inflation expectations remain well anchored.
- Indicators and data gaps:
  - Professional forecasters expect inflation to remain well above central bank targets in most Asian countries at a one-year horizon but to return to targets by 2024.
  - The region has important data gaps in household and firm inflation-expectations surveys; central banks should urgently address these gaps.
- Historical persistence and sensitivity:
  - Phillips curves estimated on historical data show core inflation has generally been persistent in Asian EMDEs, though persistence does not seem to have increased during the pandemic as in other regions.
  - Core inflation in Asia tends to respond strongly to global shocks to volatile prices (shipping, food, oil), raising the risk that recent shocks could trigger a more pronounced and long-lasting rise in core inflation than in the baseline.
- Simulation of a de-anchoring inflation scenario:
  - Scenario assumes inflation expectations rise by 1 standard deviation (about 1.4 percentage points) in 2023 for all countries except China and Japan, leading to a more persistent rise in core inflation.
  - Asia’s central banks would be expected to hike policy rates further than currently envisioned to revert the rise in inflation, resulting in a slower recovery with growth falling substantially below the baseline in 2023–25.
  - Impacts are larger in emerging market Asia (excluding China), where a larger increase in rates is required, provoking a more severe slowdown.

### Role of exchange rate intervention and reserve use
- Exchange rates have adjusted in response to shocks (for example after Russia’s invasion of Ukraine).
- Several Asian EMDEs saw decumulation of international reserves—between 3 and 10 percent of their holdings in the first half of 2022 in India, Indonesia, the Philippines, and Thailand—especially during periods of intense external financial shocks.
- Given adequate buffers, such reserve use is broadly in line with the Integrated Policy Framework’s recommendations.
- Policy guidance:
  - Responding to a downside scenario with signs of de-anchoring could involve policy rate hikes combined with foreign exchange market intervention to mitigate overshooting and pass-through to inflation.
  - Judicious, temporary foreign exchange intervention can allow macroeconomic adjustment and temporarily ease the burden on monetary policy, particularly in shallower FX markets (for instance, Philippines) and where currency mismatches raise balance-sheet risks (for instance, Indonesia).
  - Foreign exchange intervention should be temporary to avoid side effects from sustained use, such as increased risk-taking in the private sector.

### Fiscal policy stance
- Withdrawal of fiscal support is underway across most of the region, with heterogeneity in cyclically adjusted primary balance adjustments across countries (see regional figures).

*Source: International Monetary Fund | October 2022.*

### 1. OUTLOOK fOR AsIA ANd PACIfIC: sAILING INTO HEAdwINds

### 1. OUTLOOK FOR ASIA AND PACIFIC: SAILING INTO HEADWINDS

### The stance of fiscal policy
- Most economies in Asia and Pacific—including ASEAN-5, Australia, and India—are consolidating fiscal policy alongside monetary policy following substantial support during the pandemic.
- Heterogeneity in pace of fiscal adjustment was observed across economies.
- China and Hong Kong Special Administrative Region temporarily reversed consolidation paths in 2022 to respond to outbreaks under the zero-COVID policy.
- China has announced fiscal easing in 2022 in response to a marked slowdown and a moderate pickup in public investment in 2023 that will support the expected increase in growth to 4.4 percent.
- Japan announced modest fiscal support packages to mitigate the impact of external shocks; continued accommodation remains appropriate, preferably through more targeted measures.
- New Zealand announced fiscal support packages while implementing relatively aggressive monetary tightening.
- Many countries deployed fiscal and quasi-fiscal measures in response to spikes in global food and energy markets in the first half of 2022, including subsidies, administered prices, and direct transfers.
- Indonesia kept administered fuel prices frozen throughout 2021 and the first half of 2022, then raised them by 30 percent in September 2022 to contain mounting subsidies and prioritize restoring the fiscal deficit ceiling in 2023.
- Guidance:
  - Given high debt levels, support measures should be targeted and temporary to preserve fiscal resources.
  - In low-income countries in Asia, fully covering income loss of vulnerable households is likely fiscally infeasible; support should be budget neutral.
  - Prolonged fuel and energy subsidies mute price signals needed for the green transition and meeting emissions commitments.

### Public debt and fiscal sustainability
- Public debt in Asia has risen substantially over the past 15 years—particularly in advanced economies and China—and rose further during the pandemic.
- With large increases in public debt since 2007 in China and Japan and demographic headwinds, commitments to fiscal frameworks that anchor medium-term debt dynamics are crucial.
- Even countries with relatively low current debt (Korea) face long-term pressures from demographics and health care for aging populations.
- Key statistics and assessments:
  - Of 17 Asian countries with access to Poverty Reduction and Growth Trust resources, 9 are now assessed as being at high risk of debt distress.
  - Sri Lanka’s sovereign bonds are trading at distressed levels.
  - India would need to spend 6.2 percent of GDP each year to achieve the Sustainable Development Goals in 2030.
- Drivers worsening debt dynamics:
  - Interest rates on sovereign bonds have risen substantially from pandemic troughs and will raise debt servicing costs.
  - Medium-term output and growth rates have been revised down, and debt levels are up.
  - These factors have raised the primary balance needed to stabilize public debt, eroding fiscal space for non-interest expenditure.
- Policy priorities:
  - Stabilize public debt in the medium term to safeguard buffers for future shocks.
  - Mobilize additional resources (for example through higher tax revenue ratios, digitalization, and rationalizing income tax holidays) while ensuring creditor cooperation where sovereign debt restructuring is needed.

### Rising corporate vulnerabilities and financial policy responses
- Nonfinancial corporate (NFC) debt increased across Asia since 2007 and rose further during the pandemic in advanced economies and China.
- The share of NFC debt issued by vulnerable firms with low interest coverage ratios rose sharply during the pandemic.
- Balance-sheet mismatches expose firms to exchange rate depreciation risks.
- As interest rates rise and earnings slow amid a global slowdown in 2023, highly leveraged firms will face challenges.
- Financial supervisory recommendations:
  - Ensure loan classification and provisioning rules reflect credit risk and losses.
  - Ensure banks have adequate risk-management capacity and capital buffers.
- Macroprudential policy guidance:
  - Strike a balance between containing buildup of vulnerabilities and avoiding procyclicality.
  - Credit-to-GDP gaps became strongly positive during the pandemic and had reverted to a smaller positive position by end-2021 as support was withdrawn and output recovered.
  - Last year, policymakers in advanced Asia (Australia, Korea, New Zealand) tightened macroprudential tools to address risks from surging real estate prices; as interest rates rise and markets cool, there may be scope to loosen measures if systemic risk moderates.
- China-specific recommendation:
  - Prompt actions to arrest the deepening crisis in the real estate sector: facilitate efficient and orderly restructuring of distressed developers; ensure completion of unfinished presold housing; prepare for systemic spillovers to the financial system.
- Global stress-test finding:
  - In the rest of emerging Asia, the domestic banking sector may have limited capital buffers under certain adverse scenarios (October 2022 Global Financial Stability Report, Chapter 1), partly reflecting rising exposures to sovereign debt.

### Cryptoization and regulatory needs
- Asia, led by Japan and Korea, accounts for a large share of global crypto-asset volumes and holds a similar value of crypto assets as the Americas and Europe.
- Since the pandemic, the correlation between the region’s equity markets and crypto assets (Bitcoin, Ethereum) has increased, suggesting growing interconnectedness.
- Risks identified:
  - Widespread crypto adoption may introduce risks to domestic monetary policy if crypto substitutes for local currency.
  - Crypto may facilitate circumvention of national laws and regulations.
  - Growing popularity of US dollar–denominated stablecoins could present a backdoor form of dollarization if left unchecked.
- Recent policy responses in the region:
  - Singapore introduced a strong regulatory regime for crypto.
  - China and Indonesia issued outright bans on crypto transactions by regulated financial firms.
  - India introduced a 30 percent tax on income from crypto trading and is developing a regulatory framework.
- Policy recommendations:
  - Adopt comprehensive, consistent, and coordinated regulation of crypto assets.
  - Invest in modernizing digital payment systems, including cross-border integration.
  - Consider issuance of central bank digital currencies to offer consumer benefits of crypto without associated risks.

### Boosting the region’s productive potential and structural policies
- Structural policies should boost long-term growth, especially in emerging market and developing economies where pandemic scarring is expected to be most significant.
- Digitalization:
  - Can mitigate scarring during downturns (virtual education, remote work, contactless sales) and improve productivity and innovation.
  - Investments in digital infrastructure are critical where internet penetration gaps exist.
- Labor and education policies:
  - Address lower labor force participation since the pandemic through labor market reforms to reallocate workers across sectors.
  - Education reforms are essential to address long-term effects of school closures: students in low-income countries lost an average of 382 days of classroom instruction during 2020–21, with poor internet connectivity limiting remote education.
- Climate policy:
  - Short-term headwinds should not derail efforts to meet Paris Agreement commitments.
  - Close implementation gaps for nationally defined contributions, particularly among largest emitting countries.
  - Foreign green financing is crucial for emerging market and developing economies in the region.
  - For Pacific islands and other small island states (Maldives), focus on adaptation and seek large-scale international support for infrastructure investment.

### China’s growth moderation and regional spillovers
- China’s growth projection and regional implications:
  - Growth in China is projected to moderate from 8.1 percent in 2021 to 3.2 percent in 2022 and remain below 5 percent for the following five years.
  - A moderation in Chinese growth poses headwinds for the region through trade linkages and supply shocks.
  - Intraregional trade accounts for more than half of total Asian trade; Chinese demand absorbs one-quarter of the region’s exports (20 percent by final demand and 5 percent re-exported).
  - Value added absorbed by China’s final demand for real estate averages about 0.6 percent of GDP.
- Spillover estimates:
  - A one standard deviation (equivalent to 2.3 percentage points of GDP) decline in Chinese growth results in moderate short-term effects but medium-term effects of about a 0.7 percent reduction in GDP in other countries.
  - These results align with the literature estimating spillovers in the range of 0.3 to 0.9 percentage point for a 2.3 percentage point decline in Chinese growth.
- Methodology notes:
  - Spillovers estimated using a panel local projections model (Jordà 2005) covering 50 advanced and emerging economies and controlling for country fixed effects, lags of GDP growth, financial conditions, VIX, world export-weighted GDP growth, and a time trend.
  - The Federal Reserve Bank of San Francisco’s China Cyclical Activity Tracker is used to measure overall Chinese activity; shocks are decomposed into supply, consumption, and property-sector components.
- Box Figure summary:
  - Shock magnitudes used: one standard deviation corresponds to 2.75 percent decline for consumption and a 9.8 percent decline for property value added.
  - Cumulative GDP responses vary by shock type and horizon, with property-sector shocks showing pronounced medium-term impacts.

*International Monetary Fund | October 2022*

### Box 1.1. Growth Spillovers to the Rest of the World from a Slowdown in China

### Box 1.1. Growth Spillovers to the Rest of the World from a Slowdown in China

### Supply versus demand decomposition and overall spillovers
- Decompose the China Cyclical Activity Tracker into demand and supply components with a structural vector autoregression model for China that includes consumer prices and the China Cyclical Activity Tracker.
- Supply movements identified by opposite movements in prices and activity; demand by those variables moving in the same direction.
- Using the supply component of activity rather than overall activity suggests larger effects—about 1.3 percent in the medium term.

### Consumption and property sector shocks
- Reduced consumption spending and financial stress in the property sector were significant parts of the deceleration in Chinese growth between 2021 and 2022.
- The analysis uses the residual in a regression of consumption and property value added on their own past values as a measure of the shock to Chinese activity.
- Spillovers to the rest of the world from a slowdown in consumption and the property sector are similar to the estimates for a supply shock, but:
  - effects are more front-loaded;
  - for the case of consumption, effects are less persistent.
- Note: The consumption and property value-added shocks declined earlier and rebounded more quickly during the global financial crisis of 2008–09 than the supply shock, which may explain different timing and persistence in their spillovers.

### Trade exposures and regional heterogeneity
- Trade links are a key channel of the magnitude of growth spillovers.
- Adding an interaction between the supply shock and trade exposures to China (exports to, and imports from, China as a share of GDP) yields:
  - A country moving from the 25th percentile to the 75th percentile of trade exposure (measured as exports to China as a share of the country’s GDP) experiences an additional 0.35 percentage point reduction in GDP from a China supply shock.
  - Emerging markets face greater exposure via this link, with an additional drag on GDP of 0.41 percentage point via the export channel and 0.46 percentage point for imports.
- Regional detail:
  - Asia faces a larger hit from export exposures than from import exposures.
  - Contrary to the general result, in Asia advanced economies are more heavily exposed than emerging economies, due to relatively higher imports from, and exports to, China.

### Measurement and figures referenced
- Box Figure 1.1.2: shows cumulative percentage decline in GDP for moving from the 25th to 75th percentile of trade exposure; left bars represent the peak coefficient on the interaction term multiplied by the difference in trade exposures at the 75th and 25th percentile.
- Sources cited in figures: Fernald, Hsu, and Spiegel (2021); and IMF staff calculations.

### Box authorship
- This box was prepared by Daniel Jiménez.

---

### Box 1.2. How Are Inflation Expectations Measured in Asia? — key findings
- Inflation expectation surveys are an important input for central banks and an assessment of expectations informs the degree of anchoring invoked in monetary policy statements.
- Survey characteristics in Asia and Pacific:
  - Region’s surveys tend to focus on surveying households; sample periods are comparable with the rest of the world (most surveys start around 2000).
- Important data gaps identified:
  - Only 10 central banks in Asia and Pacific collect and publish regular surveys of inflation expectations.
  - As 17 economies are included in the Consensus Economics survey of professional forecasters, seven central banks rely exclusively on commercial information: Bangladesh, China, Hong Kong Special Administrative Region, Myanmar, Sri Lanka, Taiwan Province of China, and Vietnam.
  - Another group of economies—including all Pacific Island Countries—has no available information on inflation expectations from any source.
  - Available surveys tend to ask about expectations at short horizons of up to 12 months; among emerging market central banks, only Malaysia collects information about expectations at longer horizons.
  - Some countries administer surveys once per quarter but hold monetary policy meetings more frequently (the Philippines, Thailand), which may affect policymakers’ ability to monitor expectations before each decision.
- This box was prepared by Daniel Jiménez.

### Annex Table 1.1 (survey evidence snapshot)
- Annex Table 1.1 documents country-level survey respondents, survey entity, year started, frequency, sample size, and horizons for Asia and Pacific economies (examples in source include Australia, India, Indonesia, Japan, Korea, Malaysia, Mongolia, New Zealand, Philippines, Singapore, Thailand).

---

### Box 1.3. The Effect of Food and Energy Price Inflation on Households in Asia — key findings and simulations
- Rising food and energy price inflation has significant negative distributional implications in low-income countries and emerging markets in Asia.
- Food and energy are a large share of consumption baskets in many economies in the region: about 52 percent and up to 61 percent including transportation for some households.
- Vulnerability by income group and country:
  - Households in the lowest consumption segment (the lowest 50th percentile) in low-income countries spend about 59 percent of income on food and another 10 percent on energy and transportation.
  - By contrast, the richest household group in Asian emerging market and developing economies (above the 91st percentile) spend 16 percent on food, 2 percent on energy, and 21 percent on transportation.
- Poverty and inequality impacts (simulation assumptions stated in source):
  - Simulation assumes an income elasticity to headline inflation equal to one and an identical consumption basket, equal to the consumer price index basket, for all households.
  - Assumes no wage adjustment or government interventions to compensate for real income losses.
  - Results based on household surveys for selected Asian emerging market and developing economies and on July 2022 World Economic Outlook Update inflation projections.
- Simulation results:
  - Relative poverty (share of households living below half of median annual income per capita) may increase by about 1 percentage point in Cambodia and Vietnam and about 0.2 percentage point in China under WEO July 2022 projections.
  - These effects would almost double under a scenario in which the magnitude of inflation of energy and food prices is assumed to be twice as large as in the baseline.
- Fiscal cost of shielding vulnerable households:
  - Compensating all vulnerable households under the baseline projections would cost 0.15 percent of GDP in Cambodia, 0.06 percent in Vietnam, and 0.03 percent in China.
  - Costs would double under a more severe combined food and energy price shock.
  - Fiscal compensation cost is calculated assuming each household falling below the (preshock) relative poverty threshold receives a transfer equal to the amount of income lost to inflation; frequency-weighted sum yields overall expected fiscal costs.
- Historical inequality effects (Bettarelli and others, forthcoming):
  - Major increases in food and energy prices over the past five decades have been associated with increases in the Gini coefficient of consumption inequality of about 4.4 and 1.3 Gini points, respectively, corresponding to about two and 0.6 standard deviations of the annual change in the Gini.
  - These distributional effects are larger in emerging market and developing economies where food and energy represent a larger share of the consumption basket.
- Box authorship:
  - This box was prepared by Alessia De Stefani, Giacomo Magistretti, Anh Thi Ngoc Nguyen, and Modeste Some.

*International Monetary Fund | October 2022*

### Annex Table 1.1. Surveys of Inflation Expectations (continued)

### Annex Table 1.1. Surveys of Inflation Expectations (continued)

### Surveys of Inflation Expectations — Rest of the World (selected entries)
- Brazil
  - H: Consumer Confidence Survey — Instituto Brasileiro de Economia — 2002 — Monthly — 2,000 — Horizons: 6M
  - P: Market Expectations – Focus Survey — Banco Central do Brasil — 1999 — Monthly — 140 — Horizons: 1Y, 2Y
- Canada
  - H: Canadian Survey of Consumer Expectations — Bank of Canada — 2014 — Quarterly — 1,000 — Horizons: 1Y, 2Y, 5Y
  - F: Business Outlook Survey — 2001 — Quarterly — 100 — Horizons: 2Y
- Chile
  - P: Encuesta de Expectativas Económicas — Banco Central de Chile — 2001 — Monthly — 70 — Horizons: 1Y, 2Y
- Colombia
  - P: Encuesta mensual de expectativas de analistas económicos — Banco de la República — 2003 — Monthly — Horizons: 1Y, 2Y
  - H: Encuesta de opinión al consumidor — Fedesarrollo — 2001 — Monthly — Horizons: 1Y
- Czech Republic
  - H: Quarterly Survey of Households — Czech National Bank — 1999 — Quarterly — 600 — Horizons: 1Y, 3Y
  - P: Financial Market Analysts — 1999 — Monthly — 151 — Horizons: 1Y, 3Y
- Mexico
  - H: National Survey on Consumer Confidence — Institutio Nacional de Estadística y Geografía — 2017 — Monthly — 400 — Horizons: 1Y
  - F: Encuestas Sobre las Expectativas de los Especialistas en Economía del Sector Privado — Banco de México — 1999 — Monthly — Horizons: 1Y
  - P: Encuestas Sobre las Expectativas de los Especialistas en Economía del Sector — 1999 — Monthly — Horizons: 1Y
- South Africa
  - H, F, P: Inflation Expectation Survey — South African Reserve Bank / Bureau for Economic Research — 2000 — Quarterly — 2,500 (household) / 500 (firm/professional) — Horizons: 1Y, 2Y, 5Y
  - Note: Denotes value for household survey.
- Sweden
  - H: Consumer Tendency Survey — National Institute of Economic Research — 2001 — Monthly — 1,500 — Horizons: 1Y
  - P: Inflation Expectations Survey — Prospera — 1995 — Quarterly — Horizons: 1Y, 2Y, 5Y
- United Kingdom
  - H: Inflation Attitudes Survey — Bank of England / Ipsos — 1999 — Quarterly — Horizons: 1Y, 2Y, 5Y
- United States
  - H: Survey of Consumers (MSC) — University of Michigan — 1978 — Monthly — 500 — Horizons: 1Y, 5Y
  - H: Survey of Consumer Expectations (SCE) — New York Federal Reserve — 2013 — Monthly — 1,300 — Horizons: 1Y, 2Y, 5Y

### Notes on Surveys
- Respondent types: H = households; F = firms; P = professional forecasters.
- EOP = end of period; M = month; Y = year.
- Indonesia’s Consumer Expectation Survey of inflation expectations was discontinued in March 2020.
- Denotes value for household survey.

### Key findings — Medium-term output losses after COVID-19 (Asia)
- Short-term shock
  - Global GDP contracted by 3.3 percent in 2020.
- Medium-term projected output losses (percent deviations from prepandemic (January 2020) to latest GDP projections for 2024)
  - World average: about 5.3 percent
  - Emerging market and developing economies (EMDEs): 6.3 percent
  - Advanced economies: 1.4 percent
  - Asia and Pacific (Asia): 9.1 percent
  - Asian emerging market and developing economies: 11 percent
  - Other emerging market and developing economies: 5 percent
- Heterogeneity and persistence
  - Tourism-dependent countries (Pacific islands, Maldives, Philippines, Thailand) experiencing larger losses on average.
  - By 2029, 10-year-ahead projections indicate output for Asian emerging market and developing economies expected to remain well below prepandemic trends—more than 6 percent below.
  - Most of the estimated medium-term decline in output is due to a decline in potential output rather than purely cyclical factors.
- Growth decomposition (contributions to expected output losses)
  - Direct contribution from lower capital accumulation: about 1.8 percent for Asia; about 3 percent in Asian emerging market and developing economies.
  - Lower employment growth contribution: about 2 percent in emerging market and developing economies; 1.2 percent in Asian advanced economies.
  - Residual attributed to losses in total factor productivity (TFP).
- Investment impacts
  - Investment as a share of GDP in 2024 is expected to be more than 3 percentage points lower in Asian emerging market and developing economies compared with prepandemic projections.
  - Other regions: 0.5 percentage point decline in investment share of GDP.
  - Lower investment after the pandemic accounts for about 25 percent of output losses in Asian emerging market and developing economies.
- Structural amplifier: corporate debt
  - Elevated nonfinancial corporate debt in Asia heading into the pandemic noted as a key structural factor likely to contribute to investment scarring.
  - Evidence referenced indicates scarring is more severe in high-debt firms, which see a larger reduction in investment compared with low-debt firms after a recession.
- Additional factors and methods
  - Results robust across forecast sources (World Economic Outlook, Economist Intelligence Unit, Consensus Forecasts) and alternative benchmarks (using past growth 2015–2019).
  - Growth decomposition uses historical and forecast data to quantify contributions of capital stock, employment, and total factor productivity, with historical data used for capital stock accumulation and projected using forecasts of investment from the World Economic Outlook database.

*Source: IMF staff compilation based on national agencies; excerpts from Regional Economic Outlook: Asia and Pacific (October 2022).*

### 1. Nonnancial Corporate Debt, 2019

### 1. Non‑financial Corporate Debt, 2019

### Corporate debt levels and recent changes
- Pre‑pandemic corporate leverage was high in China and in ASEAN and South Asian countries relative to the global emerging market and developing economies average.
- Corporate leverage increased by about 6 percent of GDP on average between 2019 and 2021.
- The increase in debt was concentrated in industries worst hit by COVID-19 (consumer services and transportation), while less‑hit industries (pharmaceutical and biotechnology firms, semiconductor producers) recorded a contraction in their debt levels.
- Leverage ratios were higher by an additional 1 percentage point in the worst‑hit industries in emerging market and developing economies relative to advanced economies, reflecting likely lower government financial support.

### Impact of high corporate debt on investment (scarring)
- Recessions have a large negative and persistent impact on firm‑level investment in the medium term; the effect is larger for highly indebted firms.
- Investment declines by an additional 2.5 percentage points within four quarters of the beginning of a recession in high‑debt firms relative to low‑debt firms, with the effect increasing to more than 5 percentage points by 12 quarters.
- Firms’ debt accounts for at least 28 percent of the average medium‑term decline of investment after past recessions, based on results and back‑of‑the‑envelope calculations.
- The decline in investment is larger for high‑debt firms that are smaller in size, less profitable (ROA), and with a higher share of short‑term debt, reflecting greater financial constraints (lack of collateral, limited internal funds, rollover problems).
- Early data suggest the differential impact for high‑debt firms versus low‑debt firms has been more than two times larger during the pandemic.

### Labor inputs, education, and demographic scarring
- Decline in employment growth is expected to contribute to output scarring in Asia by 1.5 percentage points.
- In advanced economies, employment decline is mainly driven by lower population (migration standstill in countries like Australia and New Zealand); in emerging market and developing economies, the main driver is lower labor force participation (worker disengagement and economic dislocation).
- Education losses from protracted school closures are expected to lead to significant losses in human capital and productivity in the long term; school closures in Asia were especially pronounced and longer in duration compared with other regions.
- Fertility rates declined during the pandemic and are unlikely to recover in the medium term; major pandemic recessions over the past two decades have led to persistent declines in fertility rates of about 2.5 percent.

### Digitalization, resilience, and recovery
- Internet connectivity rose substantially in Asia over the last two decades, reaching almost 90 percent of the population in Asian advanced economies before the crisis, while many people remain without internet access in Asian emerging markets and low‑income developing countries.
- Asia (Asian advanced economies and China) accounted for about 57 percent of all world patents and 58 percent of patents for digital technologies in 2020; other Asian emerging market and developing economies contributed 1 percent and 0.3 percent, respectively.
- E‑commerce revenue reached more than 2 percent of GDP in Asian advanced economies and China, and about 1 percent of GDP in Asian emerging market and developing economies.
- The pandemic accelerated digitalization and e‑commerce growth, with particularly rapid expansion in some emerging markets such as India and Indonesia.
- Firms in more digitalized industries recorded firm revenue 1.4 percent higher two years after past recessions compared with less digitalized industries.
- In the COVID‑19 context, firm revenue after the outbreak was 3.4 percent higher in more digitalized industries.
- Digital sectors’ vacancies fell less and recovered more rapidly after the pandemic, and hiring rates and net inflows of workers were higher in industries using more digital skills.

### Policy recommendations to mitigate scarring
- Tackle corporate debt overhang:
  - Adopt improved frameworks to restructure viable firms and liquidate unviable firms to avoid zombification.
  - Promote reallocation of capital and labor toward more productive firms.
  - Unwind government support extended during the early phase of the pandemic to ensure adequate resource reallocation.
- Mitigate human capital losses:
  - Assess learning losses and increase financing to remediate students’ skills (additional in‑person instruction, teachers’ training, extended school years, and so on).
  - Implement policies to return people to the labor force (retraining programs and worker reallocation policies).
- Promote digitalization:
  - Invest to enhance digital connectivity and capabilities, especially in low‑income developing countries and for disadvantaged groups and regions.
  - Support training and upskilling of labor forces to increase resilience to future shocks and to capitalize on productivity gains from digital technologies.

*Source: Regional Economic Outlook: Asia and Pacific (chapter text).*

### 1. Differential Impact of Recession on Revenue in Highly Digitalized

### 1. Differential Impact of Recession on Revenue in Highly Digitalized Firms vs. Average

### Sales resilience and labor market transitions
- Sales by firms in more digitalized industries are more resilient through recessions, particularly after COVID-19.
- Industries using more digital skills had higher hiring rates and larger net inflows after the pandemic.
- Chart indicators (two years after the start of COVID-19 recession) show differential impacts on:
  - Hiring (percentage points)
  - Transitions into industries using more digital skills (percentage points)
  - Transitions out (inverted) (percentage points)
- Time axis used in the analysis: Quarters since start of recession (0, 4, 8, 12, 16 shown).

### 2. Trade Fragmentation: What Is at Stake and Early Signs

### Asia’s role in global production and commodity demand
- Asia’s exports satisfied about 50 percent of external demand in North America and 35 percent in Europe in 2018, up from 41 percent and 28 percent, respectively, in 2000.
- Asia accounts for close to 50 percent of global demand in key commodities, including mineral fuels and green transition minerals.
- Almost two-thirds of intra-Asian trade consists of trade in intermediate goods, which is significantly higher than the global average.

### Early signs of fragmentation
- Trade-related uncertainty spiked in 2018 amid US-China trade tensions, moderated temporarily, and increased again with Russia’s invasion of Ukraine.
- Actual trade restrictions imposed by countries have been on a rising trend, with Global Trade Alert showing a significant increase in new restrictions since 2018.
- The sectoral composition of trade restrictions has rotated:
  - The share targeting high-tech sectors has been steadily increasing since the global financial crisis.
  - Restrictions targeting the energy sector increased sharply after Russia’s invasion of Ukraine.
- Global Trade Alert data (as of July 29, 2022) are scaled up based on reporting patterns.

### 3. The Effect of Trade Policy Uncertainty

### Macroeconomic impacts (country-level results)
- An increase of one standard deviation in trade policy uncertainty (approximately the increase seen between March and June 2018) leads to:
  - Investment reduced by about 2.5 percent within three years.
  - GDP falling by 0.4 percent.
  - Unemployment rate rising by 1 percentage point.
  - Exchange rates depreciate in countries that see an increase in uncertainty, leading import prices to rise.

### Firm-level evidence and heterogeneity
- Firm-level panel analysis shows:
  - Average firms’ investment declines by about 5 percent two years after an increase of one standard deviation in the World Trade Uncertainty Index.
  - The effect on investment is even larger in emerging market and developing economies.
  - The negative investment response is larger for:
    - Countries with a higher level of trade openness.
    - Firms with low liquidity.
    - Firms with high debt to asset ratios.
  - Financial constraints amplify the real effects of uncertainty because the cost of and access to external finance deteriorate.

### Quantified impulse-response evidence (selected points)
- Country-level impulse responses indicate investment evolution following a WTUI shock with quarterly horizons (charts report percent changes across up to 12 quarters).
- Firm-level impulse responses use quarterly data from 75 countries for the period from the first quarter of 2001 to the fourth quarter of 2020, showing larger cumulative declines in investment (point estimates with 68 and 90 percent confidence intervals reported).

### 4. Policy-relevant implications from the analysis
- Trade policy uncertainty alone can dent economic activity by inducing a “wait and see” response: firms pause investment and reduce firm entry into exporting.
- Simultaneous increases in trade uncertainty and actual trade barriers are likely to result in even more adverse macroeconomic outcomes.
- Emerging market and developing economies and more trade-open countries are particularly vulnerable; policy actions to mitigate financial constraints (liquidity support, access to external finance) can help reduce the amplification of uncertainty shocks on investment.
- Monitoring and addressing rising trade restrictions—especially those targeting high-tech and energy sectors—are important to limit longer-term fragmentation risks, especially for Asia given its central role in global manufacturing and trade.

*International Monetary Fund | October 2022*

### 3. AsIA ANd THE GROwING RIsK Of GEOECONOMIC fRAGMENTATION

### 3. AsIA ANd THE GROwING RIsK Of GEOECONOMIC fRAGMENTATION

### Scenarios and Model
- Simulated illustrative fragmentation scenarios using a sectoral, computable, general equilibrium model with firm heterogeneity and input-output links (model captures long-term productivity losses as trade is cut off; Caliendo and others 2017).
- Analysis focused on fragmentation of trade in two broad sectors: extractive industries (which include fossil fuel extraction) and high-tech manufacturing (which encompasses electrical machinery and equipment and transport equipment).
- Fragmentation in these sectors is defined as the elimination of sectoral trade between countries in different blocs.
- Baseline dividing line for one set of scenarios: blocs implied by votes cast on the March 2, 2022, United Nations General Assembly motion to condemn Russia’s invasion of Ukraine.
- Downside scenario: world divides into two blocs, with trade in high-tech and energy sectors cut off between countries casting a positive vote and those casting a negative vote or abstaining.
- Extended downside scenario: in addition to eliminating trade in energy and high-tech sectors, nontariff barriers (NTBs) in other sectors are raised to match the level of NTB restrictiveness estimated to have prevailed between 1950 and 1980 (median ad valorem equivalent about 75 percent between 1950 and 1980, versus about 40 percent for 2019).

### Findings: Trade Fragmentation (long-term, permanent output effects)
- Russia decoupling scenario:
  - Long-term changes in GDP from this scenario are negligible for Asia and Pacific countries and the world; large losses experienced only in Russia because the country is cut off from high-tech trade and loses export markets.
- Further downside (two-bloc) scenario:
  - Permanent global annual losses are estimated at 1.2 percent of GDP.
  - Permanent annual losses for Asia and Pacific countries are estimated at 1.5 percent of GDP.
  - Most long-term losses stem from restricting high-tech trade, given the relatively low elasticity of substitution of these sectors.
  - Energy exporters (such as Australia and Indonesia) see smaller losses, given the higher elasticity of substitution of their exports.
- Adding Cold War–level NTBs in other sectors (in addition to energy and high-tech decoupling):
  - Annual permanent global losses are estimated at 1.5 percent of GDP.
  - Annual permanent losses for Asia and Pacific countries are estimated at 3.3 percent of GDP.
  - For some economies, these losses would unwind all the gains from worldwide tariff reductions since 1990, including the Uruguay Round and preferential tariff reductions.
  - Several Asia and Pacific economies are affected more severely by this second layer because Asia’s export basis goes well beyond energy and high tech, particularly in South and Southeast Asia.
- Cross-country heterogeneity:
  - Losses are larger in countries where trade with the other bloc is significant in the affected sectors (including China, Korea, and Vietnam) because of lost access to export markets and splintering of complex production networks that straddle both blocs.
- Caveat:
  - Because the model does not capture all possible channels through which trade fragmentation can affect output, estimates should be taken as a lower bound of the potential loss associated with fragmentation in trade.

### Findings: Financial Fragmentation (risks and early signs)
- Financial integration trends and exposures:
  - Total gross stock of cross-border assets and liabilities of Asian advanced economies increased to more than 500 percent of GDP in 2020 (partly driven by financial centers like Hong Kong SAR and Singapore).
  - Asian emerging market and developing economies increased cross-border holdings from 25 to 110 percent of GDP between 1990 and 2020.
  - More than half of Asian portfolio investments abroad are in the United States, Europe, and other Organisation for Economic Co-operation and Development economies.
  - About one-fifth of US foreign direct investment positions are allocated to Asia.
- Potential costs of financial fragmentation:
  - Short-term costs from a rapid unwinding of financial positions.
  - Long-term costs from lower diversification and from slower productivity growth because of lower foreign direct investment.
- Early signs of financial-fragmentation pressure:
  - Significant increase in the number of new capital flow control measures imposed by countries in 2020, with a large increase in restrictions imposed on foreign direct investment inflows.
  - Number of mentions of the phrase “national security” in Annual Report on Exchange Arrangements and Exchange Restrictions reports has increased rapidly in recent years.
  - Private sector: mentions of key words like “reshoring,” “nearshoring,” and “onshoring” have increased significantly in company earning calls and annual reports.

### Policy Recommendations and Conclusions
- The chapter highlights potentially large economic losses—for the world and especially for Asia—if trends toward greater fragmentation continue, particularly in the sharpest fragmentation scenarios where the world divides into distinct blocs.
- Collaborative solutions are needed to avoid adverse effects from greater fragmentation and to ensure trade continues to act as an engine of growth:
  - Roll back damaging trade restrictions.
  - Reduce policy uncertainty through clear communication of policy objectives and processes to address legitimate national security concerns.
  - Address competitiveness weakness through structural reforms that lift productivity.
- Within Asia:
  - Deepen existing agreements and ensure overlapping trade agreements do not contribute to fragmentation but promote open and stable trading relationships.
  - Each agreement should be open to participation by others willing to take on similarly ambitious obligations.
- Multilateral actions:
  - Complement regional agreements with reforms at the multilateral level.
  - Restore a fully functional World Trade Organization dispute settlement system to mitigate negative impacts of discriminatory policies and help resolve underlying sources of tensions.
- Emphasis:
  - Active engagement and dialogue between policymakers from around the world, including in multilateral forums, will be vital to avoid the sharpest and most harmful fragmentation scenarios.

*International Monetary Fund | October 2022*

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_Source: https://www.imf.org/-/media/files/publications/reo/apd/2022/october/english/text.pdf_