PROJECT M
 
Mark Konyn
Andrew Sheng
Jing Ulrich

Conference Call: Throwing sand in the wheels of Asian finance

As investors are drawn to the East, Asian government authorities are wise to raise the price for investing, argues Andrew Sheng, while he does not quite share Jing Ulrich’s optimism on anti-inflation measures

Conference Call: Throwing sand in the wheels of Asian finance

As investors are drawn to the East, Asian government authorities are wise to raise the price for investing, argues Andrew Sheng, while he does not quite share Jing Ulrich’s optimism on anti-inflation measures


Mark Konyn

Asia has recovered from the recent financial crisis much stronger than many expected. What are the main reasons, Andrew?

Andrew Sheng

Fiscal control has intensified since the Asian crisis of the 1990s, and international financial institutions have acknowledged that capital controls can be useful. In addition, the growth perspective is more promising than 10 years ago, and the global context is different. Interest rates are lower, meaning capital flows are fairly large.

 

Mark Konyn

So, external factors are different. Can we also be more confident in Asia itself?

Jing Ulrich

Nobody wants to build ‘fortress Asia’ and stop money coming in Andrew Sheng

China is set to achieve a soft landing after a period of extraordinary fiscal stimulus and credit expansion starting in 2009. However, stubborn inflation and very strong fourth-quarter GDP growth in 2010 have made investors concerned about overheating and further credit tightening. Chinese economic fundamentals are very strong, though, in global comparison and policy-makers can set the course for the next five years without the growth concerns facing many other large economies.

 

Mark Konyn

Are Chinese authorities worried about the impact of capital influx?

Jing Ulrich

China has strict capital controls, and its leaders are less concerned than counterparts in emerging countries. More importantly, authorities are addressing the country’s imbalances in income, growth and access to social benefits. This has implications for investors in terms of sectoral and geographical exposure.

Mark Konyn

What do you think investors should look out for in particular?

Jing Ulrich

The near-term issue is inflation. In the medium term, there are four important trends unfolding. Labor costs are rising due to a rapidly aging society. Related to that, consumer spending power will increase, and the gap between western and eastern China will narrow. The inner provinces are becoming the alternative manufacturing location of choice, attracting companies with cheaper labor and local government incentives. The final theme is China’s strong demand for commodities, which is underpinned by large-scale infrastructure plans.

Mark Konyn

That significantly encourages investments in China and across the region. How do central banks handle the influx of capital?

Andrew Sheng

Bear in mind that nobody wants to build “fortress Asia” and completely keep money from coming in. If anything, the reverse is occurring: China is allowing more money to go out and is gradually internationalizing the renminbi. Overall, we see a rising tide of Asian money being invested elsewhere. What we don’t want is a replay of the Asian crisis with very speculative money coming in and then going out fast. This can give the national systems heart attacks. Asian policy-makers therefore smartly raise the price for capital inflows. If more speculative money comes in, investors can expect more policy changes, and that can change investment calculations drastically. The policy risk is not zero. Investors need to be aware of that. The second issue is that Asian growth cannot be taken for granted. Yes, commodity prices increase, but there is a lot of speculation in that. So there is not only a policy risk, but also a price risk, which investors need some notion about. The dynamics of Asian growth are changing fast, and investors cannot trust the momentum to continue.

Mark Konyn

It is too early to tell, but what could be the economic effects of the tragic events in Japan?

Andrew Sheng

The short-term effects on China and Asia are being assessed by the markets, which are very volatile. The long-term effects are profound, as this will change lifestyles and thinking about our relationship with nature. In the medium term, there will be a construction revival in Japan.

Jing Ulrich

One positive aspect is that Chinese authorities will place even greater emphasis on safety standards and supervision of nuclear power. There might be some impact on Chinese companies relying on imported components. However, since the earthquake zone is not a major manufacturing base, we will need to see. The reconstruction process will likely drive demand for materials such as steel and timber, which could translate into higher imports of these materials from China.

Mark Konyn

What consequences do you expect from the internationalization of the renminbi for the region?

Jing Ulrich

Chinese officials are trying to elevate the renminbi to the status of a major international currency. The country’s companies can then conduct currency swaps with emerging market trading partners, and the Malaysian Central Bank reportedly bought renminbi assets for its reserve holding last September.

Mark Konyn

Andrew, how is this internationalization playing out for the other economies?

Andrew Sheng

If the internationalization is market driven, it is welcomed by everybody. Yet if exchange rates rise in Asia, they will do so across the board because of inflation and the demographic developments Jing has talked about. By and large, a lot depends on how Asian economies are rebalancing, and that will change the dynamics in the region.

Mark Konyn

A year ago, we focused on deflation and now investors are sensitive to inflation. Historically, China has not been plagued by sustained inflation. Jing, how will its authorities manage this challenge?

Jing Ulrich

The immediate concern is food inflation. Since 2009, China’s monetary base grew by nearly 50%, so it is no surprise we have higher inflation today. Authorities have launched an all-out campaign against inflation, including temporary price control to help citizens. In addition, they have lifted the reserve requirement rate eight times since the beginning of 2010, and they are using a more targeted approach to contain credit growth. While prices are controlled for certain food items such as cooking oil, the government is also trying to increase supplies, for example, by increasing vegetable planting areas by over 7% in 2011. I think inflation will be moderate in the second half of the year, and concerns will begin to dissipate.

Mark Konyn

Andrew, do you think current inflationary concerns are justified?

Andrew Sheng

I am much more concerned about inflation than Jing. Asians are very sensitive to basic food prices like rice. Supplies are stressed in many more ways than people have factored in. Now, there are positives and negatives. When food prices rise, the agricultural and rural sector will benefit, but the urban poor will suffer. The crucial point is the pace at which development occurs. If it is slow, rural areas will receive higher incomes and urban areas can adjust. It will then be a transition with a soft landing.

Mark Konyn

Would you say these issues are addressed appropriately in China?

Jing Ulrich

I think authorities will be able to manage the risk of overheating and inflation as well as the longer-term problems of rebalancing. Over the next five years, China will focus more on quality of growth than blindly pursuing a faster pace of growth. Growth rates in the inland regions can be expected to be faster than in the coastal cities.

Andrew Sheng

I agree. This has massive implications for investors as qualitative investments will change the winners from “smokestack” industries to sectors that are greener and more knowledge intensive. By implication, this affects commodity prices: growth will be slower in GDP terms, but substantial in terms of the quality of life.

Jing Ulrich

And China has put its economic house in order to make that next step. The ratio of per capita GDP in western China versus coastal China is 2.3 times higher, whereas in 2000, when the Go-West campaign was launched, it was 2.8 times. We also have every indication that faster growth will continue in the hinterland as China’s east is becoming more of a service-oriented economy than a manufacturing-based economy.

Mark Konyn

That is a rather positive note to finish on. Thank you both very much.

Comments