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Within Asia, much of the recent discussion has been on China’s struggling recovery, but weakening external demand is also threatening to be a drag on the rest of the region. In the meantime, as policymakers reach deeper into their toolboxes to keep growth on track, we see several structural themes emerging.
In China, all it takes is confidence
China’s property sector continues to struggle as developers grapple with mounting debt and unsold inventory after years of overexpansion. We think a recovery without stabilisation in the property sector is challenging - at least in the short term. The knock-on effects of the slump are such that consumers won’t feel confident enough to spend when much of their wealth is locked in a declining housing market. The property outlook must stabilise before China can pivot further away from investment-led growth to focus more on consumption. None of this is lost on policymakers, hence, the slew of relaxations on home purchase and mortgages we’ve seen since August, which ought to help boost homebuyers’ sentiment and reduce the sector’s drag on GDP growth.
Our base case is that China will still manage to reach its annual growth target of around 5 per cent. The government has so far focused its firepower on stimulating household spending. Investors are closely watching whether household demand will stay strong for long enough, and in turn encourage more local government and corporate investment in infrastructure and manufacturing. However, we don’t expect sizeable fiscal stimulus targeting these sectors to follow, as policymakers are wary of the risks of a debt spiral. Local government financing vehicles (LGFVs) have nearly $10 trillion in outstanding debt, which illustrates the scale of the challenge facing provincial officials, especially as land sales are still an important source of local government revenues.
Despite this challenging backdrop we still see plenty of companies that are thriving. Weak headline retail sales data hides the broader success of services, for example, which have expanded by 19 per cent in the first eight months of this year from the same period of 2022, to the benefit of travel, hospitality, and entertainment companies among others. Frugality may be on the rise among the middle class, who are concerned about job security and income prospects; they are spending less on big-ticket items - but they are spending relatively more on going out. The potential for consumption to pick up further is clearly there, given the huge amount of bank deposits Chinese consumers continue to accumulate even after the removal of Covid-era restrictions. All it takes is a bit more confidence (and stronger stimulus than the sprinkles we have witnessed thus far).
Looking at the rest of the region, Japan has recently captured the optimism of global investors. The Bank of Japan is sending stronger hints of unwinding ultra-loose policy and yield curve control (YCC), as after decades of deflation or weak inflation, households are starting to show a shifting mentality; consumers are digesting retail price increases without crimping spending, as a modest level of consumer inflation becomes more entrenched. At the same time the Tokyo stock exchange has been strident in pushing along governance reforms, including making slow but steady progress with reforms to the benchmark share index. However, Japan’s short-term headwinds are not to be dismissed. Exports slipped for the first time in over two years in July as global demand weakened, and some investors have taken profits. We think those who stay invested will gain the most from Japan’s structural changes in the longer term. Bank shares, for instance, are starting to deliver double-digit earnings growth and could have more room to rally on expectations of higher interest rates. Once Japan has turned a corner, it is unlikely to reverse.
Made in Asia
Other tailwinds emerging in Asia include the rollout of artificial intelligence (AI). The region is home to some of the largest semiconductor and component manufacturers anywhere and will benefit from the proliferation of AI and automation, as well as the global push into renewables.
Around the rest of the region, we see India firmly on the path for growth; its second quarter 7.8 per cent growth was among the fastest worldwide, supported by services and manufacturing. Attractive demographics will continue to drive financials and consumption. Across ASEAN, Indonesia is enjoying a boost in exports of nickel and copper as the global transition to net-zero gathers momentum. Thailand is turning a page after months of political uncertainty.
The catch is that export-oriented Asia has little room for shelter from potential recessions in the developed West, or a slowing Chinese economy. Malaysia’s GDP growth, for example, slowed in the second quarter as exports faltered. At the same time, inflation and climate risks lurk. India just had its driest August in over a century, which will hurt the country’s harvests this year, perhaps prompting more export restrictions.
Across the region, a familiar story is emerging: there are plenty of pitfalls and distractions to avoid, but keep an eye on the horizon. Clear winners from Asia’s structural shifts are likely to arise as the cycle turns.