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Emerging Asia: At Risk of the “Middle-Income Trap”?

Emerging economies in Asia have weathered the global financial crisis relatively unscathed and appear to be on track for continued strong growth this year and the next. Perhaps because the region has been doing rather well, policymakers’ concerns have increasingly shifted towards medium-term risks: could growth and fast convergence to living standards in advanced economies—come to an end?

In fact, while the economic performance of emerging economies in Asia remains undoubtedly strong in international comparison, it has already shown signs of gradual weakening.

Both China and India have shown a declining growth trend since the global financial crisis: growth in China has slowed from a rate of over 10 percent in the 2000s to between 8 and 9 percent in the past two years, while growth in India has slowed from around 8 to 6 percent during the same period.

No trend slowdown in Asean-4 economies

There has been no such trend slowdown in ASEAN-4 economies, such as Indonesia, Malaysia, Philippines, and Thailand, but there growth was lower to start with and—with the notable exception of the Philippines—remains significantly below pre-Asian crisis rates.

So what are the risks of a sharper, sustained growth slowdown that would prevent emerging economies in Asia  from rising to the high-income levels of advanced economies?

Economic history tells us that as middle-income countries, they are a priori more exposed than their low- or high-income counterparts.  Over the past half century, the frequency of abrupt slowdowns lasting for at least a decade has been 1.5 times higher for the former than for the latter. In other words, there is some empirical support for the so-called middle income trap.

But another lesson from economic history is that the middle-income trap can be avoided. In fact, Asia itself is showing us the way: Korea, Singapore, or Taiwan Province of China all graduated from middle income to high-income status in just a few decades.

Minimizing risks of sustained growth slowdown

How can policymakers in the region minimize risks of a sustained growth slowdown? Our recent research shows the following to be especially helpful: good infrastructure, sound economic institutions, open and diversified international trade, as well sound macroeconomic and macro-prudential policies that alleviate booms and busts, all help.

And here is the good news for the middle-income Asian economies I mentioned earlier: on many of these dimensions, they often compare favorably to their counterparts from other regions. But they all have their weak spots.

Compared to others in the region, India, the Philippines, and Thailand are exposed to a larger risk of growth slowdown stemming from subpar infrastructure. Improving economic institutions is a further challenge for India and the Philippines, as well as for China and Indonesia. China’s relative risk factors also relate to its post-crisis increase in investment, while Malaysia’s include its strong capital inflows—both of which have clearly supported growth but also involve potential vulnerabilities.

Demography’s impact

A word on demography. Could emerging economies in Asia get old before they get rich? This issue would warrant another blog, but two points are worth noting.

First, demographic trends are widely heterogeneous across the region. For instance, China, Thailand, and Vietnam will experience a rise in the so-called dependency ratio—the size of the young and old population relative to those of working age—over the next decade, but India and the Philippines will see a decline.

Second, ageing will put a premium on reforms that mobilize untapped pools of labor, not least women, too many of whom remain under-employed or out of the labor force altogether across the region.

Emerging Asia is doing well, but only through unremitting reforms will it be able to fulfill its promise.