Sustaining Asia’s Recovery

IMF Blog, October 21, 2010

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A self-sustaining recovery is now under way across Asia, with policymakers in the region having skillfully and effectively managed their response to the global downturn.
Almost all regional economies grew above trend in the first half of 2010—even those that suffered the most pronounced downturns.
Three factors helped the recovery:
- a rebound in global manufacturing and trade;
- policy stimulus; and
- a recovery in private domestic demand.
The recovery in private domestic demand should help to sustain strong growth in Asia even after the global inventory cycle has run its course.
Growth projections:
- gross domestic product in Asia to grow by about 8 percent in 2010, nearly a full percentage point higher than we expected six months ago;
- growth should then moderate to 7 percent in 2011.

The external environment appears to be the main risk for Asia.
If the recovery, and hence demand, in advanced economies were to falter, this could reverberate through Asia’s supply chain.
A financial shock in advanced economies—such as funding shortfalls at a systemic institution or further concerns about sovereign creditworthiness—could spread quickly through financial markets and into the real economy.
Such shocks would also cause capital flows to be more volatile, which tends to have a negative impact on domestic demand in Asia.

Policymakers face a pressing issue of how to manage large capital inflows; inflows over the past year in Indonesia have been described as extremely large relative to the size of local financial markets.
Capital is flowing to economies all over Asia in large part because of favorable regional growth prospects and because advanced economies remain sluggish with low interest rates and accommodative monetary conditions.
The phrase “wall of money” is used to characterize the potential scale of incoming capital.
Measures taken and their limits:
- Several Asian economies have taken macro-prudential measures to limit the buildup of financial vulnerabilities (measures that ensure not just the safety and soundness of individual financial institutions, but the entire financial system and its macroeconomic impact).
- Ultimately, capital inflows will likely prove persistent and broader actions will be needed.

The time has come to normalize fiscal and monetary stances as Asia’s recovery is now well established.
Although many central banks have raised policy rates, monetary policy in the region generally remains accommodative.
With output gaps closing rapidly, core inflationary pressures have begun to assert themselves.
Monetary tightening has an important role to play in managing the influx of liquidity associated with capital inflows, particularly given prospects for monetary easing in advanced economies and the limited flexibility of exchange rates in Asia.
Withdrawal of fiscal stimulus remains gradual for the most part; it is appropriate now to accelerate the pace of consolidation.
Stronger currencies will be needed as part of the policy tightening; currency appreciation is also needed in many economies as part of the policy package for rebalancing growth.

Continue gradual withdrawal of fiscal stimulus and accelerate fiscal consolidation where appropriate.
Use monetary tightening to help manage liquidity associated with capital inflows, while monitoring core inflationary pressures and closing output gaps.
Employ macro-prudential measures to limit financial vulnerabilities, but prepare for broader policy adjustments given persistence of capital inflows.
Pursue currency appreciation as part of a broader rebalancing strategy to sustain strong growth.

Anoop Singh, October 21, 2010 — Sustaining Asia’s Recovery