Recovery story continues in Asia despite lingering European crisis
WHILE the Asian region is winning its battle against inflation in the first half of 2012, it will continue to combat disturbances from the West in the second half.
The worsening debt crisis in peripheral Europe has cast a shadow on the region: China's exports to Europe contracted in April; Indian banks' wholesale funding from Europe has fallen sharply; and Asia's equity market suffered a big pullback in May, when the fate of Greece in the Eurozone entered a pivotal stage.
Despite the recent relief from a favorable Greek election outcome, investors quickly shifted attention to troubles in Spain and Italy. In the United States, the Federal Reserve has just lowered its GDP projections for 2012 and 2013 while raising its yearend unemployment forecast.
However, inflation is easing gradually in Asia, and given the outlook for further declines in food and energy prices, most governments in the region can afford to continue to ease monetary policy to support growth, as China's mainland, South Korea, Malaysia and Taiwan have done.
One notable exception is India, where inflation remains sticky due to a weakening rupee and a high public deficit.
Meanwhile, there are already signs that Asia's export growth is stabilizing, supported by a demand recovery in the United States, Japan and other emerging markets in the first half of this year.
Export-oriented economies such as South Korea, Taiwan and Japan are also seeing a pick-up in industrial production and export orders.
We expect the Chinese economy to start to recover in the second half of 2012. The inflation downtrend has allowed the People's Bank of China to cut benchmark lending and borrowing rates this month for the first time since 2008, after already easing banks' reserve requirements.
The government has also been speeding up approvals of infrastructure projects and offered incentives to corporate investment.
In our view, the mainland's stimulus spending should be positive for the region, even though there are countries that no longer have adequate fiscal firepower to provide similar stimulus given their relatively high public deficits, such as India, Malaysia, Taiwan and Thailand.
In conclusion, Asian countries are shifting gears from fighting inflation to protecting growth, and while the Eurozone crisis is a strong hindrance, in our view, it is not a game-changer to the region's recovery story.
*Yonghao Pu is chief investment officer of the Asia-Pacific region at UBS AG. Hartmut Issel is an analyst with UBS AG. The article was extracted from a UBS wealth management research report dated June 21.
By Yonghao Pu and Hartmut Issel*
29 June 2012