Asian surge still up against inflation, debt and financial vulnerabilities

Asia and the Pacific remains a dynamic region despite the sombre backdrop of what looks to be shaping up as a challenging year for the world economy.Global growth is poised to decelerate as rising interest rates and Russia’s war in Ukraine weigh on activity. Inflation remains stubbornly high, and banking strains in the United States and Europe have injected greater uncertainty into an already complex economic landscape, according to IMF economists Krishna Srinivasan and Alasdair Scott.Asia’s domestic demand has so far remained strong despite monetary tightening, while external appetite for technology products and other exports is weakening.IMF projects the region will contribute more than 70% of global growth this year as its expansion accelerates to 4.6% from 3.8% last year.China’s reopening will provide fresh momentum. Normally, the strongest effect would be from demand for investment goods in China, but this time the biggest effect is from demand for consumption.Other emerging economies in the region are on track to enjoy solid growth, though in some cases at slightly lower rates than seen last year.Even so, the dynamic growth outlook doesn’t mean policymakers can be complacent. Some risks such as public debt remain. Intensification of the recent global financial tremors could spark others.Beyond these risks, persistent inflation remains a challenge. Global commodity prices have moderated after surging last year and supply chain pressures have eased, but inflation remains above central banks’ targets.Core inflation, which excludes food and energy, has also proven sticky.Output gaps — measures of how closely demand is running to the capacity to meet demand, and hence the pressure on prices — for Asian economies are either narrowing or have already closed, while levels of economic capacity themselves might have fallen as a result of so-called economic scarring from the pandemic.The effect of currency depreciation against the US dollar last year is still passing through to prices, IMF economists noted recently.The impact could be greater than usual, because of the already-high inflation, especially for emerging economies. These factors suggest that the battle to contain inflation isn’t over.With real interest rates still low — and negative in some countries — central banks may need to keep interest rates higher for longer.The significant uncertainty about the path of global and regional financial conditions presents another challenge. The recent turbulence in some US and European banks serves as a cautionary tale about contagion risks.IMF has noted how some banks in Europe and the United States have struggled with rising interest rates.Similarly, banks in Asia — particularly in advanced economies — could suffer losses from increases in wholesale funding costs and sudden declines in the market values of assets.Lenders in some emerging economies could face liquidity stresses following sudden deposit withdrawals or retrenchment in external funding lines, the IMF economists noted.Some countries and sectors are significantly exposed to a sharp increase in external borrowing costs, though these risks have recently diminished somewhat.Although Asia is set to contribute more than 70% to global growth this year, it still faces challenges from inflation, debt, and financial vulnerabilities.