In the course of last week, there was a raft of data released in Asia. In the end, as is always the case, there was no conclusive evidence of a slowdown in growth. There was evidence, however, of clear acceleration in inflation.
Malaysian inflation crept up to 3%. Inflation in Hong Kong, an economic area with ultra-loose monetary policy was 5.4%, up from 4.2% in March. Inflation expectation in Australia was at 5.2% in May, up from 4.3% in April. Singapore’s inflation rate in April was a whopping 7.5%, up from 6.7% in March.
In the case of China, Michael Pettis, an expert in Chinese financial markets, refers to a recent report by Stephen Green of Standard Chartered Bank (http://piaohaoreport.sampasite.com/china-financial-markets/blog/Green-on-the-PBoC-Q1-report.htm). Green claims to have unearthed 14 golden nuggets of information/insight from the first quarter (Q1) report of the People’s Bank of China. And Pettis refers to one of those nuggets as thus:
“The official GDP deflator rose substantially—from 5% year-on-year (y-o-y) in the last two quarters of 2007 to 8.2% in the first quarter of 2008. There are a lot of problems with the GDP deflator figure, but Green argues that the fact that it jumped so sharply is more evidence that inflation has become a real problem and is spreading through the economy.”
Singapore’s first quarter GDP growth was 6.7% y-o-y and 14.6% quarter-on-quarter, annualized. While these were slightly lower than the advance estimates of 7.2% and 16.9%, respectively, the numbers still look rather healthy.
Growth was driven by manufacturing and by financial services. Both of them are unlikely to have kept up their momentum in the second quarter. One should expect growth to be materially lower in the second quarter.
Singapore should not and would not complain. Not only Singapore but also many countries around the world and in Asia, in particular, need a period of slower growth to cool demand for labour, commodities, office and residential space. Unfortunately, they do not seem to be willing to heed the signs. For disparate reasons, many governments around the world seem determined to pursue growth at all costs, chiefly inflation.
Their belief is that they could pursue their growth agenda while the unfolding economic slowdown in America and in Eurozone would take care of inflation. They could not be more wrong. Terms of trade have clearly shifted in favour of emerging economies in the last few years, but not evenly so. There are few producers and many users of commodities, and the latter group is hurting. The “hurt” requires a surgical remedy to purge economies of excesses. But, most governments in the developing world, particularly in Asia, are applying balm. That aggravates the injury. Simply put, they are accommodating inflation.
Samuel Brittan wrote in the Financial Times on 8 May (“The financial crises of capitalism”) that no major economic area in the world has experienced a serious downturn yet. But, he does not explain why. The answer lies in recognizing that central banks have been busily pursuing growth and lazily ignoring inflation.
For the most part, it turns out that the policy credibility gained on fighting inflation was more fortuitous than hard-earned. Since the mid-1980s until the birth of the new millennium, commodities were in slumber. Then, when the commodity prices began their ascent circa 2002, disinflationary impact from the boom in outsourcing to China and India and other developing countries put a lid on inflation.
Now that the outsourcing dividend has run into natural limits, there is no fig leaf left to maintain inflation credibility except policy. Alas, policy is busy worshipping at the altar of growth while mouthing homilies on inflation in speeches and in monetary policy meetings. When the time to display their resolve on inflation arrived, few countries were seen up to the task.
What is disappointing—and this is particularly relevant in the case of India and China—is that governments are exploiting the growth-versus-inflation trade-off long after the inflation rate and expectations have crossed the trade-off threshold. Inflation premium would soon be built into asset prices and that represents a real risk for their values in the months and years ahead.
As Brittan correctly observes in his article, the continued trend in commodity prices could well be part of a long-term shift in the terms of trade against the industrial West, as well as perhaps part of the shift in political and economic power.
It appears that the two major developing powers in Asia are unwilling to grasp the opportunity. Their navel-gazing is blinding them to the historical shifts triggered by years of accumulated excesses and errors in the West.
Investors would take note of this failure and they would gravitate back to the tried and tested horses of the West once they are through with the blood-letting. That is why the outlook for financial assets in the near-term in India and China is distinctly unappetizing.
(V. Anantha Nageswaran is head, investment research, Bank Julius Baer & Co. Ltd in Singapore. These are his personal views and do not represent those of his employer. Your comments are welcome at email@example.com)