With increasing evidence of an imminent bursting of the housing market bubble in the U.S., aggravated by unfolding woes in the sub-prime mortgage sector and a consequent deceleration in consumer demand, a growing number of commentators have nevertheless advanced the sanguine argument that, this time around, the rest of the world will be able to avoid a "cold" even should the U.S. economy "sneeze."
"Global economic growth has become less dependent on American spending," The Economist recently editorialized; while the International Herald Tribune has similarly opined that "economies around the world are weaning themselves from dependence on the American consumer."
In Asia, strong growth of 8% to 10% in the Chinese and Indian economies in the past few years has added much confidence and exuberance to this view. However a more sober examination of the evidence at hand, especially in the Asian context, demonstrates that the argument is fundamentally fallacious, and leads this writer to contend that the U.S. will remain an irreplaceable economic locomotive for Asia in the foreseeable future.
Room for Improvement
Despite the recent hype about "Indian triumphalism," it will be decades before that country can emerge to serve as a growth engine for its Asian neighbors. Aside from a few pockets of the economy—such as IT and services outsourcing—that have been penetrated by globalization, an overwhelming majority of the Indian economy remains insular and over-regulated.
A recent World Bank report entitled Doing Business in South Asia 2007 ranks India a lowly 134th out of a total of 175 countries on a business environment improvement index. Furthermore, as Edward Luce has somberly highlighted in his recent book, In Spite of Gods: The Strange Rise of Modern India, it would be sheer hubris for Indian leaders to proclaim their country to be the next great economic power.
India presently has more than 300 million people living in absolute poverty. Only 10% of its workers are employed in the formal economy, 35% of its population remains illiterate, and it has the largest number of HIV-infected patients in the world—while corruption is so endemic and deep-rooted that the author laments that "it is the system."
Jury Still Out
In the case of China, its average 9% to 10% economic expansion in the past five years and its rising investment and trade ties with economies in the region have indeed helped lift the growth of its neighbors. Nevertheless the Chinese economy itself is prone to recurring episodes of "overheating", and hence lacks macroeconomic stability.
As such, in the near term, it is hardly a reliable and sustainable growth engine for its economic partners. While the Beijing government has implemented, since 2004, a plethora of administrative and market-based measures in an attempt to control runaway growth, the jury is still out on whether these policies can cool the turbo-charged economy.
The IMF and Asian Development Bank have separately warned that Asian economies and commodity-exporting countries with strong investment and trade ties to China would suffer various degrees of collateral economic damage should an "overheating" Chinese economy experience a precipitous fall into a "hard landing".
Tied to U.S. Demand
Aside from this risk, China itself is still very much dependent on the U.S. market. In 2005, nearly a quarter (21.5%) of its total exports were shipped to the U.S. Even though other Asian countries have become less dependent on the U.S. market, the latter still absorbed between 10.4% (Singapore) and 20% (Malaysia) of these countries' total exports.
Furthermore, exports to the U.S. account for as high as 20% or more of the gross domestic products of Hong Kong, Malaysia, and Singapore. The ratios for China, Taiwan, and Thailand are lower but still average a not-insignificant 7% to 10%.
Last but not least, for many Asian countries, their growing exports of components and parts to China for assembling into finished products also depend on final demand in the U.S. market. Should the latter's demand decelerate or contract, Asian countries' exports to China would also falter.
Just as important, the U.S. is ranked the largest (for Malaysia, South Korea, and Taiwan) or second largest (Philippines, Thailand, and Singapore) foreign investor in many Asian countries. For these six countries, at least 25% of their 2005 total, inward, foreign direct investment came from U.S. multinationals. A trend away from—or an abrupt decline in—U.S. foreign direct investment in the region would certainly hurt most Asian economies, resulting in significant job losses.
Watching the Fed
Also, the direction of the U.S. dollar affects many Asian economies. Collectively, it is estimated that major Asian central banks have amassed huge, official foreign exchange reserves in excess of $3.0 trillion. Most of these reserves have been invested in U.S.-dollar-denominated financial assets. A sharp drop in the U.S. dollar exchange rate would shrink the value of these reserves significantly.
Furthermore, as a major market for many Asian exporters, a decline in the value of the U.S. dollar would raise import prices in the U.S. and hence dampen consumer demand. That, in turn, would dent export revenues of Asian economies.
Finally, many Asian stock markets exhibit high correlations with the Dow Jones Industrial Average. The May-June, 2006, meltdown in many Asian markets was triggered by the U.S. Federal Reserve's raising of interest rates, which subsequently caused investor sentiment in the U.S. to turn bearish. In the wake of the recent worldwide stock-market sell-off, some commentators have erroneously put the blame on China's "Black Tuesday" (Feb. 27), when the Shanghai market tumbled nearly 9%.
Affecting Household Wealth
The blame game is, however, rather disingenuous, since the insular, casino-like Shanghai and Shenzhen markets have so far exhibited hardly any correlation with either the mature or emerging markets outside China. As Fortune magazine has wisely pointed out, "there is no rational reason why a stock slump in China should strike fear in the hearts of investors beyond the Middle Kingdom."
"If the world's largest consumer market—that is, the U.S.—falters, on the other hand, there will be shock waves. They will ripple in the other direction across the Pacific, battering not only markets in China, but the many other Asian economies that continue to depend so heavily on U.S. exports for growth." Given the high percentage of household ownership of stocks in Asia, market and economic trends in the U.S. therefore have the power to increase or deplete household wealth in Asia.
Given the above, the economic fortunes of Asia and the U.S. will remain significantly intertwined until a time when the Chinese, Indian, and ASEAN economies can progress to a stage where their growth can be more driven by domestic consumption, investment, and innovation, as well as by a higher level of intra-regional trade. That will not happen within this decade. Hence, harpings on a decoupling between the U.S. and Asian economies are as premature as they are unrealistic.