IMF TELLS ASIAN ECONOMIES TO SPEND MORE, DON'T

UNCLAS SECTION 01 OF 02 HONG KONG 000869

SIPDIS

STATE FOR EAP/CM AND EEB/OMA, TREASURY FOR OASIA

E.O. 12958: N/A
TAGS: ECON EFIN HK CH
SUBJECT: IMF TELLS ASIAN ECONOMIES TO SPEND MORE, DON'T
RELY ON CHINA


1. Summary: Trade linkages among Asian economies amplified
the impact of the global financial crisis to a degree that
surprised International Monetary Fund economists, said
Assistant Director for Asia Joshua Feldman in Hong Kong at
the release of the Fund's Regional Economic Outlook report on
May 8. Declines in regional exports are slowing and Chinese
government spending is supporting growth there. But the
Chinese stimulus package is focused on projects that will
boost its own domestic economy and will not help the rest of
the region. Asia's recovery will depend on the return of
consumer demand in the U.S. and Europe, the prospects for
which are not good. Instead of waiting for western consumers
to return to their free-spending ways, the Fund is advising
Asian economies to spend more and relax monetary policy,
while pushing development of domestic markets. Commenting on
the Fund's report, Morgan Stanley's Stephen Roach noted that
policy prescriptions that rely on a return of western
consumer demand are misguided and doomed to fail. Others
agreed that Asian economies need to stimulate domestic
demand, but argued that just as Asia's trade supply chain
amplified the impact of falling consumer demand, it would
also amplify the recovery. End Summary.

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IMF's New Prescription for Asia: Spend More
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2. Representatives from the International Monetary Fund
(IMF) presented their May 2009 Regional Economic Outlook
(REO) report at the Hong Kong Monetary Authority May 8. They
noted that the severe impact of the global economic crisis on
Asian economies had caught them by surprise. Banks and other
financial institutions in the region were not particularly
exposed to subprime lending or exotic financial paper that
led to serious problems in the United States and Europe.
Local economies appeared to be on relatively sound
macroeconomic footing. However, Fund economists said they
had underestimated the degree to which the trade linkages in
Asia amplified the impact of collapsing demand for Asian
manufactured goods in those economies hit most directly by
the crisis. Asian financial institutions' ties with the rest
of the world have also deepened, leaving borrowers in the
region subject to difficulties in obtaining credit.


3. The Fund representatives noted that declines in regional
exports and industrial production are starting to slow and
that some are saying a recovery is imminent. China, in
particular, is experiencing a surge in investment and bank
lending. The Fund, however, is not optimistic that Chinese
stimulus will help the rest of the region, much less the
global economy, pull out of the current recession. They
noted that much of the current Chinese stimulus package is
directed towards infrastructure development that uses mostly
domestic inputs of raw materials and labor, and will not
substantively benefit other economies in the region. Fund
economists said Asian recoveries have been characterized by
slow recovery of investment and domestic demand and they
warned that lack of access to capital could start a negative
feedback loop as bankruptcy risk made banks even more
reluctant to lend. Asia's recovery will depend on the
recovery of demand in the U.S. and Europe, where financial
difficulties are likely to depress growth through 2010, said
Fund representatives.


4. In the immediate term, the Fund advised Asian economies
to maintain countercyclical monetary and fiscal policies,
even if key economic indicators begin to look positive, in
order to offset any unexpected risks. The Fund also advised
a shift away from export-led growth and the development of
domestic demand as a means to speed the return to pre-crisis
growth rates. Building social protection systems to reduce
savings now needed for health, education and retirement
expenses and exchange rate appreciation would be helpful.

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Local Economists Agree, Warn on Export Dependence
============================================= ====


5. A panel of locally-based economists all substantively
agreed with the IMF's assessment of the crisis and the
appropriate Asian policy response. Morgan Stanley's Asia
Chairman Stephen Roach told the assembled audience that Asian
leaders are in denial and mistakenly using the same playbook
as during previous economic crises. The growth in global
trade over the past 10 years has allowed Asian economies to
prosper, but regional economies have no backup plan, said
Roach. China is returning to the same policies that worked
so well in the Asian and Dot.com crises: government spending

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on infrastructure to tide the economy over until export
demand picks up again. The problem is that U.S. and European
demand will not return to the same levels, and there is no
way for the rest of the world to make up the difference, he
said.


6. Deutsche Bank Chief Asian Economist Michael Spencer
agreed with the Fund's analysis, though he was less concerned
about the possibility of negative feedback loops. He noted
that the impact of the crisis on Asia's economies was
amplified by their logistical and manufacturing chains, but
that the impact of a western economy recovery would also be
amplified. The nimbleness of Asian manufacturers is likely
to help them recover more quickly, he said. Spencer worried
that the Fund was encouraging continued fiscal stimulus in
some Asian economies that would quickly find themselves in
untenable fiscal positions. He agreed, however, that a loose
monetary policy would help spur economic activity and pointed
out that falling inflation rates argued for even lower
interest rates. Hong Kong Baptist University professor Wong
Kar-yiu agreed that fiscal stimulus would help, but he noted
that for most economies, government spending is only a
fraction of consumer spending and cannot counteract a sharp
drop in consumption.
DONOVAN