World economic report

May 19, 2003

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Asian Economies

Asian economies are on course for rapid growth this year but they face multiple threats even besides the Iraq war. China, the increasingly powerful engine for Asian growth, is heavily dependent on the swings of the world economy and is unlikely to provide much of a cushion from outside shocks.

Chinese gross domestic product growth would ease from 8 per cent last year to 7.5 per cent both this year and next. Emerging Asia is in fact the strongest growing region of the world at 6 per cent for 2003 and 6.3 per cent for 2004.

Growth in newly-industrialized economies - Hong Kong, South Korea, Singapore and Taiwan - would dip from 4.6 per cent last year to 4.1 per cent in 2003 and rise to 4.5 per cent in 2003. Growth in Southeast Asian nations - Indonesia, Malaysia, the Philippines and Thailand - would ease from 4.3 per cent last year to 3.9 per cent this year before recovering to 4.3 per cent next year. In South Asia - Bangladesh, India and Pakistan - growth would rise from 4.7 per cent last year to 5.1 per cent in 2003 and 5.8 per cent next year. In Vietnam, growth would climb from 5.8 per cent last year to 6.2 per cent this year and 7 per cent in 2004.

Meanwhile Sars is diminishing the robust growth of Asia and a few other areas hit hard by the deadly virus, but it has had little impact on either the US or global economy. Growth could be cut by half this year in cities such as Toronto, Hong Kong, Singapore and Beijing that previously had been expanding rapidly but where serious outbreaks of severe acute respiratory syndrome have prompted the quarantine of thousands of people and scared many millions more.

Since a fairly significant part of Southeast Asia does rest on travel and tourism, it is beginning to have some effects, specifically in Hong Kong, to a lesser extent in Singapore and China. The impact has been much, much greater than what happened in the Iraq war. Even in countries not affected by Sars, passenger volume is down 10 per cent to 15 per cent. Four major hotels in Shanghai, China’s biggest city, are closing for up to three months.

Recent signs that the disease is tapering off in regions outside mainland China have raised optimism that the worst may be over. A falling number of cases in Vietnam, Singapore, Toronto and other cities recently prompted the WHO and the US Centers for Disease Control and Prevention to lift earlier travel advisories. If the disease is contained soon, the macroeconomic impact in Asia should be manageable, given the robustness of the economies in the region.

The impact on the global economy should, therefore, be limited. The ultimate impact of Sars cannot be known because no one knows whether the virus, for which there is no cure or vaccine, will make a comeback, possibly in a more virulent form or maybe in a milder form.

Morgan Stanley & Co estimates that Sars will have a minimal impact on world growth, shaving it this year from 2.5 per cent to 2.4 per cent, with $31 billion in losses mostly in travel and retail businesses in affected areas.

Some fear the damage in China, where Sars continues to spread apparently because of a belated government response, could be substantial, if the epidemic is not put under control, there would be some impact on the manufacturing in China because this period of June is very critical for orders coming from the US and other export markets.

The smaller economies of Hong Kong and Singapore are experiencing the biggest losses. The World Bank last month said growth could be wiped out altogether in Hong Kong this year. To stave off a recession, the Hong Kong government has announced a $1.5 billion economic stimulus and relief package. Activity is picking up as the epidemic has tapered off and people become convinced it’s safe to emerge from their homes.

In Singapore growth will be cut in half from the 2.5 per cent to 5 per cent range the country was expecting before the epidemic. A drop in Asian stock markets since March suggests that investors have become increasingly wary about whether Asia can maintain the dynamic growth rates achieved before Sars.

Latin American

In 2002, the region experienced its worst downturn in two decades, with real GDP falling by just under 1/4 per cent. Growth slowed in many countries, led by sharp recessions in Argentina and Venezuela. But this general picture must not obscure significant differentiation. Mexico, for example, saw a pick-up in growth, aided by the recovery in the United States; Chile’s slow-down followed several years of very strong growth; and Peru staged a robust recovery in 2002, with growth exceeding 5 per cent, the highest in the region.

And while the adverse global environment affected many countries in Latin America, particularly those that rely on financing from international capital markets, those with stronger policies, such as Mexico and Chile, did weather the storm better.

Exports are growing strongly in several countries, benefiting from past real exchange rate depreciations, and market perceptions have improved markedly, with sharply falling borrowing spreads and a broad range of countries returning to capital markets at more favourable term. Achieving low levels of inflation across the region has been a striking success of the past decade. This success must now be safeguarded by more comprehensive medium-term policy frameworks. In a number of countries, high levels of tax evasion combined with inefficient spending have weakened the ability of governments to provide critical public services. It has also resulted in rising public indebtedness, often in foreign currency, raising the vulnerability to sharp changes in the exchange rate or foreign interest rates. Several countries have started to tackle their fiscal problems in a comprehensive fashion.

Fiscal responsibility laws, which increase transparency and accountability in the public finances at both the central and the regional level, are beginning to play an important disciplining role, for example in Brazil and in Chile. Flexible exchange rates have played an important role, for example in Mexico and Brazil, to enable the economies to handle unanticipated shocks.

Experience suggests that strong domestic financial institutions, capable of mobilizing and efficiently allocating financial savings, play an important stabilizing role.

Eastern European

Despite the war in Iraq, the telecommunications slump, the stock market decline and the global economic slowdown, the former communist economies are posting better economic figures than many expected. In fact, the ex-communist states have so far weathered the storm better than many economists expected, buoyed by a combination of effective reform-oriented policies, healthy inflow of foreign investment and, for Russia, good luck in the form of unexpectedly high oil prices. Equally importantly, the region’s consumers have continued to spend, money, acquiring basic durables such as cars.

While this progress seems unspectacular in comparison with some of the gains made in the 1990s, it may also prove more solid and less vulnerable to shocks of the kind the region then saw, most dramatically in Russia in 1998. The European Bank for Reconstruction and Development forecasts that the region will see growth of 4 per cent this year, up from 3.7 per cent last year.

The biggest positive change in the ex-communist region will be among the central European states planning to join the EU next year, where growth is forecast to increase from 2.5 per cent in 2002 to 3.4 per cent, despite the continuing weakness in Germany, the main export market.