“For its swiftness and confounding of experts, the evaporation of the Asian economic ‘miracle’ probably ranks second only to the unravelling of Soviet socialism,” wrote Walden Bello, a Filipino academic and politician, for the Australian-based journal Inside Indonesia. He continued: “All at once convention has been turned on its head, as South Korea, Thailand and Indonesia line up for a multibillion-dollar bailout from the International Monetary Fund [IMF], and many of the same institutions and people who recently celebrated the Asian ‘tigers’ as the engine of world growth into the 21st century now speak of them as a source of financial contagion, even as the trigger for global deflation.”
Any casual observer of current affairs could be forgiven for thinking Bello was writing about recent events, except perhaps with a little confusion over the conspicuous absence of reference to China or wondering why anyone would still refer to the Soviet Union. Bello was writing in 1998, during the fallout of the East Asian financial crisis of that decade. Yet the themes he draws out – a reverse in the fortunes of Asia’s rising economic stars and concerns over the implications for the global economy – seem to have returned, as the spectre at the end of the Asian economic miracle has once again reared its head.
Concerns over the implications for the global economy seem to have returned, as the spectre at the end of the Asian economic miracle has once again reared its head
An engine for growth
The region has indeed seen a declining growth rate, a fall in the volume of trade and, in the instances of some economies, unwanted currency depreciations. The Asian economy faced “strong headwinds” in early 2015, according to the Asian Development Bank’s September Asian Economic Outlook Report. Growth figures for the region are predicted to slow from 6.2 percent in 2014, down to 5.8 percent in 2015. The reasons for this are numerous, yet a common thread seems to run through all of these financial misfortunes: the economic slowdown of China. Being the world’s second-largest economy, China has been the engine for much of the world’s economic growth for the past few decades, and particularly in the Asia-Pacific region. As such, the recent dampening of economic growth in China is being felt throughout the region.
After the stalling of the Japanese economy in the 1990s, the late 1998 Asian financial crises, and finally China’s accession to the World Trade Organisation in 2001, the regional Asian economy has been powered by China’s rapid growth. With China as their engine, the economies of the region, for the most part, sustained impressive growth rates throughout the 21st century, even weathering the 2008 economic crises. For this reason then, the transformation of the Chinese economy and resulting slowdown has had reverberations around the world, being most felt by the various East and South-East Asian economies that surround it.
Yet while the model of growth and dependence on China makes for disconcerting reading, certainly in terms of the economic statistics, a closer look reveals that rather than facing a decline in fortunes the region is going through a period of economic transformation.
A little perspective
Since 2014, China has being seeing a slowdown in its economy. However, the country’s slowdown itself should be put into perspective: while growth rates have declined, it is still the site of an impressive – historically unprecedented, even – economic expansion. “Overall it seems to me that the scale and impact of China’s economic slowdown is being exaggerated,” Daniel Ben-Ami, an independent economics expert and financial journalist, told World Finance.
“For example, a growth rate of about seven percent of Chinese GDP today is worth more (in dollars or yuan terms) than 10 percent of its GDP a few years ago. It may be a smaller percentage, but of a much higher number. Therefore China is still easily the largest source of growth for the global economy.”
While doom-mongering headlines have portrayed the slowdown as much worse than it actually is, growth rates have still undeniably cooled off. However, according to Jonathan Fenby, Managing Director of China Research at Trusted Sources and long-time observer of China, the slowdown itself is part of a long-term plan by the Communist Party. He noted in a Trusted Sources paper from August 2015: “The Chinese growth slowdown has been programmed since 2012, when the leadership in Beijing changed and policymakers turned their back on the broad credit-driven stimulus measures introduced at the end of 2008 in reaction to the effect of the global slowdown on exports. One year later, the Communist Party’s Third Plenum adopted the 60 point economic reform programme. At that time, the official number for annual growth was 7.7 percent.”
While the slowdown has also been influenced by global economic factors such as lacklustre demand due to a depreciated euro and yen, as well as a weaker-than-expected recovery in the US, the primary cause is the beginning of the end of China’s 30-year model of growth kicked off by Deng Xiaoping’s post-Mao reforms. “The most fundamental cause [of the slowdown] is that the basic strategy of the rapid economic growth of China over the past three decades, which primarily relies on the simple rapid expansion of the low value-added sectors, has reached its limit,” said Kevin G Cai, Associate Professor of East Asian Studies, Political Science and Social Development Studies at the University of Waterloo.
After reaching a certain level of development, this model grows increasingly ineffective. According to Cai: “The economy has to move into a new stage in which the quality improvement is crucial and more important than simple quantity expansion.” China has been moving in this direction and therefore has begun “phasing out of a growingly number of labour-intensive sectors and moving into more hi-tech and high value-added sectors and service sectors. As such, it can well be expected that China would no longer be able to maintain a high growth rate of the past three decades plus.”
Korea takes a knock
Meanwhile, South Korean exports in August 2015 fell by 14.7 percent on the previous year, to a value of under $40bn (see Fig 1). With exports accounting for roughly half of the country’s GDP, such a steep fall is having and will continue to be felt by the rest of the economy, with Morgan Stanley cutting growth predictions from 2.5 percent down to 2.3 percent for 2015.
South Korea’s economy is particularly vulnerable to global macroeconomic trends. According to the World Trade Organisation, in 2014 the country’s trade-to-GDP ratio was 103.2 – a significant amount higher than economies of a comparable size, or Japan’s figure of 33.6 percent. The consequence of this is that any decline in world trade volumes is going to have a significant impact on South Korea. With less-than-impressive growth figures across the board, demand for exports from Korea have fallen in general. And yet, at the same time, a large part of its exports – around a third – come from China. From the late 1990s onwards, South Korea has increasingly relied upon China as part of a global supply chain, exporting parts to China for assembly by its low-wage and abundant workforce, and for re-export to the world market. Declining Korean trade figures to China, then, can be seen as part of a general fall in demand, in tune with global economic conditions.
However, part of China’s transition is also leading it to produce higher-value goods itself. As Konstantinos Venetis, an economist at Lombard Street Research, noted: “Competition in important market segments has intensified, not least as Chinese players are gradually moving up the value chain. For example, lower-cost Chinese smartphone manufacturers have been making their presence felt, largely at the expense of Samsung.”
Not only is South Korea at a loss due to competition from China for high-value goods, the other aspect of China transition – higher-paid workers – is also stiffening its competition with western high-value producers. Growing wages and spending power in China is leading consumers who are prepared to pay higher prices to look further afield for goods. “Korea’s automakers are getting squeezed by their US and European counterparts in large growth markets such as China, where higher incomes are underpinning less price-sensitive spending patterns,” said Venetis. For the aspirational Chinese consumer, now with more money in his or her pocket, Apple trumps Samsung, while now-attainable western car brands are more appealing than Hyundai.
Fears for the country’s economic future, however, should be parlayed. According to Gerard Roland, a professor of economics and political science at University of California, although exports to South Korea’s largest trading partner have fallen due to China “going up in the quality ladder of its exports… so has South Korea”. Roland points out that South Korea still has a comfortable technological and productivity advantage over China. Meanwhile, Cai said that South Korea still has “a comparative advantage in hi-tech and high value-added sectors”.
Yet South Korea will need to confront these changes stemming from China: according to Cai, it will likely continue to “promote these sectors by developing new series of products to remain competitive”.
Or, as Ulrich Volz, a senior lecturer in economics at SOAS University of London, points out: “[The] country needs to further innovate, which will also require changes to the education system to support creative learning and innovative teaching.”
Further, the country will look towards expanding its services sector. Since the conclusion of the Second World War, South Korea has honed a model of export-led growth; while it will continue to produce high-value and hi-tech goods for exports, in the face of structural challenges to this model, it will further grow its services industry, just as many other mature and industrialised economies have. According to Cai: “It seems wise for South Korea to promote service elements as a new source of growth.” Although this is already happening, according to William W Grimes, Professor of International Relations and Political Science at the Pardee School of Global Studies, who said: “Korea is undoubtedly moving toward a more service-based economy, as have generations of countries that developed earlier. The challenge will be to develop high value-added services that can provide good quality jobs for Korean workers.”
Slow down south
Further south, the economies of South-East Asia have also felt the impact of China’s economic landing (see Fig 2). Although growth in Vietnam has been particularly strong, other South-East Asian economies have held the region’s collective growth back, to a large extent due to exports being impacted by a fall in demand for commodities in China. In September 2015, the Asian Development Bank revised the region’s growth figures down to 4.4 percent, citing “subdued demand from the major industrial economies and the PRC [People’s Republic of China]”. In particular, the bank pointed out, Malaysia and Indonesia have seen their export figures slow (see Fig 3) due to “the investment slowdown in the PRC”.
Over the past few years, many economies in South-East Asia have seen a boom in their exports, particularly due to strong Chinese demand. South-East Asian nations “became particularly dependent on China during its long investment-led growth and the associated commodity boom, during which demand for and prices of commodities were high”, Alasdair Cavalla, an economist at the Centre for Economics and Business Research, told World Finance. Fuelled largely by Chinese demand, the world economy saw what is now being referred to as the ‘commodity super-cycle’, a long-term upwards swing in prices.
Now, with China’s demand drying up and bringing the super-cycle to a close, the regional economy of South-East Asia inevitably has seen some trouble. The reduction in Chinese demand not only resulted in falling trade volumes, but also a decline in prices across the board.
“The fall in commodity demand harms Indonesian and Malaysian fiscal positions – though they are able to trim fuel subsidies, they lose revenues from exports,” said Cavalla. “But the stress on budgets means both are likely to see borrowing costs rise, which will drag on their growth. It may harm trade balances, though increased competitiveness through depreciation has ameliorated this problem – in fact, Indonesia has run a series of surpluses recently. Falls in currency are principally a problem for consumers whose purchasing power will fall; for Malaysia this is particularly problematic coming just after an increase in sales tax.”
The decline in commodity demand is partially cyclical. Grimes said that the sag in demand for commodities, which is driven by export demands from China by the rest of the world economy, can partially be put down to “weak demand in end-user countries in Europe and North America”. However, for the most part it is structural. According to Grimes, growth in Chinese commodity demand will weaken “as manufacturing gives way to services, competition from India and new competitors increases, and Chinese firms use factors more efficiently”. The structural change in China, of moving away from breakneck growth rates, low-end manufacturing and higher internal productivity and wages, then, is presenting a challenge for the model of growth pursued by South-East Asian economies for the past 15 years.
However, any pessimism concerning the region should be resisted. The end of the commodity super-cycle and seemingly never ending growth of demand from China may have come to an end, but South-East Asian nations now have a chance to reorient away from simply selling commodities, creating more sophisticated economies. “China’s partners [in South-East Asia] will have to adjust to this new norm,” said Grimes, although according to Cavalla, the region must diversify. He believes this is achievable: “Development strategies in these economies have been successful in the past. Most now have some plan to move into knowledge-based industries, be it creating industry clusters, improving tertiary education or through tax breaks.” Hi-tech exports, he continued, have actually increased from South-East Asia over recent years, but have just been overshadowed by the faster growth of commodity exports, and in the future such “consumer exports will be in higher demand than commodities”.
At the same time, as part of China’s transition to a more mature economy – the reason for the slowdown itself – many South-East Asian nations are set to benefit from the relocation of industry to the region, as the cost of labour in China rises. “As a result of structural transformation in the Chinese economy, more and more labour-intensive and low value-added sectors are being relocated into neighbouring South-East Asian countries, where labour costs are now lower than those in China, which will obviously help the economic development of Southeast Asian countries,” said Cai.
The sun has not set
Asia’s regional economy still provides rates of growth above world averages, providing the engine for much of the world economy. Asia has spurred ahead for the past two decades on the coattails of China’s unprecedented economic boom. While this has come to an end, countries in the region will need to re-orientate and restructure their economic models; whether it’s South Korea transitioning to a service economy and away from its hyper-dependence on export-led growth, the relocation of low-paid labour intensive industry to the poorer regions of Sout-East Asia, the development of better domestic markets and productivity, or the searching for new markets for commodities.
While the transitions that the various countries of East and South-East Asia are going through have led to dips in economic figures, and may lead to more in future, this should not be seen as a prolonged downturn or major reversal of the region’s fortunes. Rather, it is the result – growing pains, even – of an economic region in transition; progressing and ever more becoming the new dynamic centre of global capitalism. “Growth rates are likely to be around four to five percent in coming years, which is a clear slowdown, but Asian economies will continue to grow above the world average in the coming years,” said Grimes.
Or as Peter Frankopan pertinently puts it in his 2015 book The Silk Roads: A New History of the World: “Slowly but surely, the direction in which the world spins has reversed: where for the last five centuries the globe turned westwards on its axis, it now turns to the east.”