Outlook on Asian Economiesweb.stanford.edu/~ljlau/Presentations/Presentations/...0.00 2.00 4.00 6.00 8.00 10.00 12.00 14.00 16.00 18.00 20.00 Jan-96 Aug-96 Mar-97 Oct-97 May-98 Dec-98

Outlook on Asian EconomiesLawrence J. Lau, Ph. D., D. Soc. Sc. (hon.)

Kwoh-Ting Li Professor of Economic DevelopmentDepartment of Economics

Stanford UniversityStanford, CA 94305-6072, U.S.A.

January 2002

Phone: 1-650-723-3708; Fax: 1-650-723-7145Email: [email protected]; WebPages: http://www.stanford.edu/~ljlau

Lawrence J. Lau, Stanford University 2

The Economy of East Asia Todayu East Asia is the fastest-growing region in the world over the past two

decades, the East Asian currency crisis of 1997-1998 notwithstandingu Hong Kong, South Korea, Singapore and Taiwan are the first “Newly

Industrialized Economies” (NIEs) in East Asia, after Japanu Industrialization has subsequently spread to Indonesia, Malaysia,

Thailand, and to a lesser extent, Philippines (the wild-geese-flying pattern), and then to Mainland China and Vietnam

u The real GDP of the People’s Republic of China has grown at an average annual rate of almost 10 percent in the two decades since Chinese economic reform began in 1979

u The East Asian economies survived the East Asian currency crisisand with the exception of Indonesia and possibly Philippines have largely recovered from their troughs

u The East Asian economies now face once more difficult challengesresulting from the global high-technology recession which began in 2000 and was subsequently exacerbated by the 9/11 terrorist attacks


Recent Developments and Long-Term Trendsu Recent developments

u Global recession with the possible exception of China u The effects of 9/11u The stability of the East Asian currencies

u The Argentinean currency crisis and the viability of the fixed US$ peg of Hong Kong

u The devaluation of the Japanese Yenu Is another East Asian crisis likely?

u Long-term trendsu Free Trade Areas

u Inauguration of the ASEAN Free Trade Area (AFTA)u China + ASEAN Free Trade Areau Japan-Singapore Free Trade Agreement

u Structural adjustments in the Greater China regionu Hong Kongu Taiwan

u Economic globalization and its implications for diversificationu The impact of the “new economy”


The Rates of Growth of Real GDPQuarterly Rates of Growth of Real GDP, Year-over-Year, Selected East Asian Economies

-20

-15

-10

-5

0

5

10

15

20

25

1994Q1 1994Q4 1995Q3 1996Q2 1997Q1 1997Q4 1998Q3 1999Q2 2000Q1 2000Q4 2001Q3

Quarter

An

nu

ali

zed

Rate

s in

Per

cen

t

China Hong Kong Indonesia Korea

Malaysia Philippines Singapore Taiwan

Thailand Japan India


Quarterly Rates of Growth of Exports

Year-over-Year Quarterly Rates of Growth of Exports in U.S. Dollars (Percent)

-30.00

-20.00

-10.00

0.00

10.00

20.00

30.00

40.00

50.00

Q1 97 Q2 97 Q3 97 Q4 97 Q1 98 Q2 98 Q3 98 Q4 98 Q1 99 Q2 99 Q3 99 Q4 99 Q1 00 Q2 00 Q3 00 Q4 00 Q1 01 Q2 01 Q3 01 Q4 01

Pe

rce

nt

p.a

.

China Hong Kong Indonesia

South Korea Malaysia Philippines

Singapore Taiwan Thailand

Japan India


Quarterly Rates of Growth of Imports

Year-over-Year Quarterly Rates of Growth of Imports in U.S. Dollars (Percent)

-50.00

-40.00

-30.00

-20.00

-10.00

0.00

10.00

20.00

30.00

40.00

50.00

60.00

Q1 97 Q2 97 Q3 97 Q4 97 Q1 98 Q2 98 Q3 98 Q4 98 Q1 99 Q2 99 Q3 99 Q4 99 Q1 00 Q2 00 Q3 00 Q4 00 Q1 01 Q2 01 Q3 01 Q4 01Pe

rce

nt

p.a

.


South Korea Malaysia Philippines


Japan India


Unemployment Rates of Selected East Asian Economies

Unemloyment Rates of Selected Esat Asian Economies

0.00

3.00

6.00

9.00

12.00

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000Quarter

Per

cen

t

China Hong Kong Indonesia Korea Malaysia

Philippines Singapore Taiwan Thailand Japan


Exports as a Percent of GDP:Selected East Asian Economies

Exports as a Percentage of GDP

0

20

40

60

80

100

120

140

160

180

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

Year

%HONG KONG INDIA INDONESIA KOREA MALAYSIA PHILIPPINES

SINGAPORE THAILAND CHINA Japan Taiwan


Exports to U.S. as a Percent of Total ExportsExports to U.S. as a Percent of Total Exports

0

10

20

30

40

50

60

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

Year

%

China Hong Kong India Indonesia Korea

Maylaysia Philippines Singapore Taiwan Thailand


The Effects of the Slowdown in the United States Economy on East Asiau While exports is a very high percentage of GDP in Hong Kong, Malaysia,

Singapore and Taiwan, it is a relatively low percentage of the other East Asian economies, including South Korea and Thailand

u The proportion of exports to the U.S. relative to total exports has declined in the East Asian economies over the years, to less than 30 percent, with the exception of the Chinese economy; the proportion of Chinese exports destined for the U.S. has been rising to its current level of approximately 20 percent

u The initial slowdown in the U.S. economy, led by the high-technology sector, had a significant, but not overwhelming, negative impact on the rate of growth of real GDP in the East Asian economies--on the order of 1 percentage point decline in Hong Kong, Malaysia, Singapore and Taiwan and a less than 0.5 percentage point decline in the other East Asian economies

u However, the events of 9/11 globalized the economic downturn. The economic recovery process in the U.S. has become much more uncertain and prolonged. Moreover, the slowdown has also begun to become much more widespread across industries and sectors

u The export-oriented economies of East Asia are significantly affected by the global slowdown


Domestic and International Instability Has Also Affected the Economic Performanceu Continuing as well as more recent domestic political instability has

affected the exchange rates as well as the economies of Indonesia and Philippines and to a lesser extent Taiwan and Thailand

u The uncertainties created by the 9/11 terrorist attacks and the U.S. response have led to a decline in business and consumer confidence in general

u Tourism and travel industry in particular have been heavily affected (The growth of tourists from Mainland China is the only bright spot in the global travel industry)


Synchronization of Down Turns and Up Turnsu Over the last decade, the proportions of East Asian exports to other

East Asian economies have been increasing rapidlyu By the late 1990s, approximately 50% of the exports of the East

Asian economies are destined for other East Asian economiesu The East Asian economies experienced downturns in economic

activities simultaneously (this time due first to the U.S. technology slowdown and then to the global recession), which in turn causedsignificant reductions in the demands for one another’s exports,further exacerbating their recessions

u Economic recovery in East Asian economies will be rapid when it occurs—simultaneous recovery in all economies will provide additional stimulus for one another (as it did during the East Asian crisis of 1997-1998)


The Likely Problem Areasu The domestic banking crisis has remained unresolved in many of the East Asian

economies. The high levels of non-performing loans and the capital constraints in the domestic banks have reduced the availability of credit to finance new businesses and hence hampered efforts to promote renewed economic growth.

u There is some danger of the spread of the “Japanese disease”, that is, the economy may sink into an indefinitely continuing and self-reinforcing state of stagnation. The expectation of bad times ahead leads business and consumers to cut back on investment and consumption. The reduction in investment and consumption causes a recession, thus validating the bad expectations. As the economy declines, the expectations about the future become even more pessimistic, leading to further reductions in investment and consumption. Thus begins another vicious cycle of “self-fulfilling” rational expectations. Once the expectations of the consumers and investors deteriorate to such a state, it will be very difficult to turn them around. On the whole, this has not occurred in the East Asian economies


Short-Term Rates of Interest Have Continued to Decline, Led by the U. S.

Short-Term Rates of Interest, Selected East Asian Countries(percent p.a.)

0

10

20

30

40

50

60

70

01/01/97 07/02/97 12/31/97 07/01/98 12/30/98 01/07/00 12/29/99 06/29/00 12/28/00 06/28/01 12/27/01

Pe

rce

nt

pe

r a

nn

um

CHINA HONG KONG

INDONESIA KOREA

MALAYSIA PHILIPPINES

SINGAPORE TAIWAN

THAILAND JAPAN

INDIA


Short-Term Rates of Interest(without Indonesia)

Short-Term Rates of Interest, Selected East Asian Countries(percent p.a.)

-3

2

7

12

17

22

27

32

37

42

01/01/97 07/02/97 12/31/97 07/01/98 12/30/98 06/30/99 12/29/99 06/29/00 12/28/00 06/28/01 12/27/01

Pe

rce

nt

pe

r a

nn

um

CHINA HONG KONG

KOREA MALAYSIA

PHILIPPINES SINGAPORE

TAIWAN THAILAND

JAPAN INDIA


Long-Term Rates of Interest(3-Year Bonds/Deposits)

Interest Rates of 3-Year Fixed-Term Bonds/Deposits

0.00

2.00

4.00

6.00

8.00

10.00

12.00

14.00

16.00

18.00

20.00

Jan-96 Aug-96 Mar-97 Oct-97 May-98 Dec-98 Jul-99 Feb-00 Sep-00 Apr-01 Nov-01

Month

%

China-3 Year Deposit

US GOVERNMENT BOND 3 YEAR YIELD

JAPAN GOVERNMENT BOND 3 YR YIELD

KOREAN TREASURY BOND 3-YR YIELD

HONG KONG EXCHANGE FUND NOTE 3-YR YIELD


Long-Term Rates of Interest(5-Year Bonds/Deposits)

Interest Rate of 5-Year Maturity Bond/Deposit

0.00

2.00

4.00

6.00

8.00

10.00

12.00

14.00

16.00

18.00

20.00

Jan-96 Jun-96 Nov-96 Apr-97 Sep-97 Feb-98 Jul-98 Dec-98 May-99 Oct-99 Mar-00 Aug-00 Jan-01 Jun-01 Nov-01

Month

%

China-5 Year Deposit

US GOVERNMENT BOND 5 YR YIELD

JAPAN GOVERNMENT BOND 5 YR YIELD

KOREAN TREASURY BOND 5 YEAR YIELD

SINGAPORE T - BOND YIELD 5 YEAR

INDIA T-BOND 5 YEAR

HONG KONG EXCHANGE FUND NOTE 5YEAR YIELD


East Asian Stock Market Indexes(Local Currency, 1/2/97=100)

Indexes of East Asian Stock Exchange Indexes(Local Currency, 1/2/97=100)

20

70

120

170

220

270

01/01/97 07/02/97 12/31/97 07/01/98 12/30/98 06/30/99 12/29/99 06/29/00 12/28/00 06/28/01 12/27/01

1/2

/97

=1

00


Korea Malaysia Philippines


Japan India


East Asian Stock Market Indexes(US$, 1/2/97=100)

Indexes of East Asian Stock Exchange Indexes(US$, 1/2/97=100)

0

50

100

150

200

250

01/02/97 07/03/97 01/01/98 07/02/98 12/31/98 07/01/99 12/30/99 06/30/00 12/29/00 06/29/01 12/28/01

1/2

/97=

100

China Hong Kong

Indonesia Korea, Republic of

Malaysia Philippines

Singapore Taiwan

Thailand Japan

India


Indexes of East Asian Exchange Rates:Local Currency per US$ (January 2, 1997=100)

Indices of East Asian Exchange Rates(Local Currency per U.S. Dollar, 1/2/97=100)

50

100

150

200

250

300

350

400

450

500

550

600

650

700

01/02/97 07/03/97 01/01/98 07/02/98 12/31/98 07/01/99 12/30/99 06/30/00 12/29/00 06/29/01 12/28/01

1/2

/97

=1

00

C. Yuan HK$

I. Rupiah K. Won

RM P. Peso

S$ NT$

T. Baht Japan Yen

Brazilian Real Indian Rupee


Indexes of East Asian Exchange Rates:Local Currency per US$ (January 2, 1997=100)

Indices of East Asian Exchange Rates(Local Currency per U.S. Dollar, 1/2/97=100)

80

100

120

140

160

180

200

220

240

260

280

300

01/02/97 08/19/97 04/03/98 11/18/98 07/05/99 02/17/00 10/04/00 05/21/01 01/03/02

1/2

/97

=1

00

C. Yuan HK$

K. Won RM

P. Peso S$

NT$ T. Baht

Japan Yen Brazilian Real

Indian Rupee


Indexes of East Asian Exchange Rates:Local Currency per US$ (Long-Term Trends)

Indexes of Selected East Asian Exchange Rates (March 31, 1995 = 1.0)

0.8

1

1.2

1.4

1.6

1.8

2

2.2

2.4

2.6

03/31/95 10/05/95 04/12/96 10/21/96 05/01/97 11/12/97 05/25/98 12/07/98 06/15/99 12/17/99 06/22/00 12/22/00 06/27/01 12/31/01

Chinese Yuan

Japanese Yen

South Korean Won

Thai Baht


The Argentinean Crisis and the Fixed US$ Peg of the Hong Kong Dollaru The impact of the Argentinean Peso crisis was quite well contained

u Contagion through speculative activities has not recurred in East Asia because of an overall decline in the vulnerability of these economies and because of the reduction of hedge fund activities due to supply side constraints (generous bank credit lines are no longer available for hedge funds)

u The viability of the fixed peg between the Hong Kong Dollar and the US$u A devaluation is not necessary for Hong Kong to maintain competitiveness

u Tradable goods are always already at world prices no matter what the exchange rate is—there is no gain in international competitiveness here

u Non-tradable goods include only labor and land—wage rates, except those for civil servants, are downward flexible and the price of land has been falling

u One can achieve an equivalent degree of competitiveness by letting the price of land decline in lieu of a devaluation

u A devaluation will lead to instant inflation in both goods and wage rates, including the replacement cost of structures, erasing whatever advantages that may be obtained

u A devaluation will lead to an irreversible flight from the Hong Kong Dollar as a store of value—households will wind up holding only the UD$ and the Renminbi

u Over time, creeping, partial dollarization is inevitable


The Devaluation of the Japanese Yenu An ineffective policy

u Unlikely to help the Japanese economy in any significant way—the Yen has been as low as 155 Yen/US$ and has not helped.

u Japanese exports constitute less than 10 percent of Japanese GDP. It will take a huge devaluation as well as a huge increase in exports, without a corresponding increase in imports, to make a significant difference in the rate of growth of Japanese GDP. Moreover, the whole world is in recession—Japanese exports are not likely to be significantly increased by a price reduction through devaluation. The potential customers of Japanese goods are not buying not because of price, but because of the reduction in their incomes and the uncertain economic outlook. Furthermore, the import content of Japanese exports is also significant—oil, coal, other raw materials--and the demand for some Japanese exports, such as automobiles, are not price-elastic (in part because of the voluntary export restraints).

u Overall, Japan is unlikely to benefit very much even with a steep devaluation, especially taking into account the likely reaction of other East Asian economies.


The Devaluation of the Japanese Yenu A devaluation of the Japanese Yen is going to put pressure on the Korean Won,

which would in turn put pressure on the New Taiwan Dollar. If all of these relatively stronger East Asian currencies devalue, it would put tremendous psychological as well as speculative pressure on the other, relatively weaker, East Asian currencies, such as the Indonesia Rupiah, the Malaysian Ringgit, the Filipino Peso, the Singapore Dollar, the Thai Baht, and eventually even on the Chinese Yuan and the Hong Kong Dollar.

u The pressure does not come so much from the trade side, even though the Northeast Asian countries are now significant importers of goods from Southeast Asia, as from the expectation of a large reduction, even withdrawal, of the portfolio as well as direct investment flow form Northeast Asia and the rest of the world to Southeast Asia.

u Thus, a further devaluation of the Japanese Yen has the potential of causing another round of competitive devaluation in East Asia, and pushing the region into even deeper recession in the short run.

u A collapse of the East Asian currencies cannot be beneficial to the Japanese economy.


The Devaluation of the Japanese Yenu The Governments of South Korea, Malaysia and China have all spoken out

publicly against the Japanese devaluation. However, merely words of displeasure and threats to devalue competitively may not be enough to persuade the Japanese Government to stop the Yen devaluation, because they may not be credible.

u Japan, with a large and rising current account surplus, and the world’s largest official foreign exchange reserves, and as the world’s largest net foreign creditor, has no strong justification for a devaluation of its currency at this time. A devaluation certainly violates the spirit of the rules of the World Trade Organization if not the letter, since a devaluation can be viewed as a unilateral simultaneous increase in the rates of tariffs on all imports and subsidies on all exports. It is just mercantilism, pure and simple.

u If any other country in a similar position as Japan today devalued its currency, it would have been roundly condemned as pursuing a policy of “beggaring thy neighbor.”

u What is needed is additional concerted action on the part of the other East Asian countries.


The Devaluation of the Japanese Yen:Possible Counter-Strategies of East Asian Economies

u One possible counter-strategy is to threaten to impose a countervailing tariff on Japanese imports and perhaps even to grant a countervailing subsidy on exports to Japan, of a magnitude to offset precisely the advantage gained by Japan through any further devaluation of the Yen. While imposing the country-specific increases in tariffs and subsidies may technically be in violation of WTO rules, it is justifiable because it is not intended to gain any trade advantage vis-à-vis Japan, but merely to maintain the status quo ante. Moreover, it also helps to maintain competitive parity for imports from countries in other regions, e.g., Europe and North America, in the East Asian markets.

u An alternative counter-strategy, given that the Japanese devaluation in the face of adverse economic conditions prevailing in the fragile East Asian economies has amply demonstrated its utter disregard for the economic welfare of its neighbors, is to rely on the voluntary boycotts of Japanese goods in the affected East Asian economies, which are bound to rise spontaneously once it is clear that the Japanese “beggar thy neighbor” policy is the source of further economic woes in East Asia.

u This counter-strategy poses a credible threat, especially if adopted in concert by the affected East Asian countries. The hope is that none of these counter-strategies will prove to be necessary.


Is Another Crisis Likely?u Based on the early warning economic indicators, the East Asian economies are

unlikely to have another crisis in the foreseeable future, even taking into account the global economic slowdown

u The savings rates have remained high while the savings-investment gaps--also reflected as the current account gaps--have largely disappeared

u The dependence on short-term foreign capital (portfolio investment--both equity and debt instruments--and loans) has been significantly reduced

u Foreign investment now consists mostly of direct rather than portfolio investment

u Both total and short-term external debts have declinedu The ratio of short-term to total external debts has also declined

u Foreign exchange reserves have risen both absolutely and as a percentage of annual imports

u Interest rate differentials are low with the exception of Indonesiau Real exchange rates have depreciated significantly from their peaks in most of the

affected economiesu That is not to say one should not remain vigilant--the East Asian economies must

maintain a low rate of inflation relative to the U.S. as well as a low short-term external debt relative to their reserves


Inadequacy of Foreign Exchange Reserves Relative to Liquefiable Foreign-Currency Liabilities u Traditional yardstick of a level of foreign exchange reserves equal to 3-6 months

of imports no longer adequate for some countries because of the magnitudes of potential movements in the capital accounts (foreign direct and portfolio investment, short- and long-term bank loans and deposits) relative to the current accounts.

u The International Monetary Fund’s pre-crisis standard of 13 weeks of imports was established in an era in which trade flows dominate capital flows (late 1950s and early 1960s). (For some time after the occurrence of the East Asian currency crisis, the operation manuals of the International Monetary Fund still continues to suggest that 13 weeks of imports would be adequate.) The cross-border flow of short-term capital, if any, at the time was primarily related to the financing of trade. The old standard is totally inadequate in today’s world in which the magnitudes of the potential capital flows dwarf those of the trade flows.

u To take care of the liquidity requirements of foreign trade under a crisis scenario, in which exporters will delay the repatriation of their export proceeds and importers and domestic borrowers of foreign debt will accelerate their payments and repayments, one has to allow 3-6 months of imports, based on the expectation that during that time frame the situation will return to normal.


Ratio of Liquefiable Foreign-Currency Liabilities to Foreign Exchange Reservesu The potential liquefiable foreign exchange liabilities, that is, the foreign exchange

that can be withdrawn from the country in the short term, with little or no prior notice, consists of the market value of the stock of foreign portfolio investment and short-term (with maturity less than one year) foreign loans

u The market value of the stock of foreign portfolio investment is not in general readily available. It can be estimated by cumulating past foreign portfolio investments; however, the existing stock may be under- or over-estimated by this procedure because of the possibilities of gains and losses from these investments. If the economy has been growing steadily, so that the annual rates of return of the portfolio investment have been positive, then the market value of the stock of portfolio investment can well be higher than the estimate above.

u To these may be added the current account deficit of the current periodu If foreign exchange reserves are low relative to these potential demands for

withdrawals of foreign exchange, the currency may be vulnerable to a run


Refinementsu It is possible to construct a more refined foreign exchange reserves

adequacy indicator as follows:u Potential withdrawals = 3-6 months of imports + the stock of

liquefiable foreign currency denominated liabilities (foreign portfolio investment + short-term loans with maturity less than a year) + scheduled debt service on long-term loans

u The potential withdrawals can be compared to the sum of total foreign exchange reserves and pre-arranged credit lines—a low ratio indicates that a country is relatively safe from a speculative attack and a high ratio indicates vulnerability

u If foreign exchange reserves, plus available lines from multilateral organizations and other counties, are perceived to be less than the estimated potential foreign currency needs, a run on the foreignexchange reserves may ensue.


Official Foreign Exchange Reserves of Selected East Asian Economies

Official Foreign Exchange Reserves

0

50

100

150

200

250

300

350

1961 1965 1969 1973 1977 1981 1985 1989 1993 1997 2001

Bil

lio

n U

S$


Korea, Rep. of Malaysia Philippines


Mexico India Japan


Foreign Exchange Reservesas a Percent of Annual Imports

Foreign Exchange Reserves as a Percent of Annual Imports

0

50

100

150

200

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Pe

rce

nt




Mexico India Japan


Ratio of Liquefiable Foreign Exchange Liabilities, Including Current Account Balance, to Reserves

Ratio of Short-Term Foreign Currency Liabilities, Including Current Account Balance, to Foreign Exchange Reserves

0

500

1000

1500

2000

2500

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

Year

%

CHINA HONG KONG

India INDONESIA

KOREA MALAYSIA


THAILAND TAIWAN

MEXICO




0

100

200

300

400

500

600

700

800

19

95

19

96

19

97

19

98

19

99

20

00

Year

%CHINA HONG KONG

INDONESIA KOREA

MALAYSIA PHILIPPINES

SINGAPORE THAILAND

TAIWAN




-100

0

100

200

300

400

500

600

700

800

1995Q1 1996Q1 1997Q1 1998Q1 1999Q1 2000Q1 2001Q1

Year

%CHINA HONG KONG

INDIA INDONESIA

KOREA MALAYSIA


THAILAND TAIWAN


Composition of Foreign Investment:Thailand (Quarterly Data)

Composition of Foreign Investment: Thailand

Foreign Direct Investment

Foreign Portfolio Investment

-800

200

1200

2200

3200

4200

1986 Q1 1987 Q2 1988 Q3 1989 Q4 1991 Q1 1992 Q2 1993 Q3 1994 Q4 1996 Q1 1997 Q2 1998 Q3 1999 Q4 2001 Q1

Mil

lion

US

$




Composition of External DebtThailand

Stock of External Debt: Thailand

0

20

40

60

80

100

120

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

Bil

lio

n U

.S.$

Long-term Short-term


External Debt and Foreign Exchange ReservesThailand

Thailand's External Debt vs. Foreign Exchange Reserves

0

20

40

60

80

100

120

140

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Bil

lio

n U

S$

Total external debt

Foreign exchange reserves


Composition of Foreign Investment:South Korea (Quarterly Data)

Composition of Foreign Investment: Republic of Korea

-2000

0

2000

4000

6000

8000

10000

12000

1986 Q1 1987 Q3 1989 Q1 1990 Q3 1992 Q1 1993 Q3 1995 Q1 1996 Q3 1998 Q1 1999 Q3 2001 Q1

Mil

lion

US

$




Composition of External DebtSouth Korea

Stock of External Debt: Korea

0

20

40

60

80

100

120

140

160

180

200

19

80

19

81

19

82

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

Billion U

.S.$



External Debt and Foreign Exchange ReservesSouth Korea

Korea's External Debt vs. Foreign Exchange Reserves

0

20

40

60

80

100

120

140

160

180

200

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Bil

lio

n U

S$

Total external debt



Composition of Foreign Investment:China (Annual Data)

Composition of Foreign Investment, China

0

10

20

30

40

50

60

19

82

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

Year

Bil

lio

n U

S$




Composition of External DebtChina

Stock of External Debt: ChinaBank for International Settlements Data

0

20

40

60

80

100

120

140

160

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Bil

lio

n U

S$



External Debt and Foreign Exchange ReservesChina

China's External Debt vs. Foreign Exchange Reserves(International Financial Statistics Data)

0

20

40

60

80

100

120

140

160

180

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Year

Bil

lio

n U

S$

Total external debt



Composition of Foreign Investment:Indonesia (Quarterly Data)

Composition of Foreign Investment: Indonesia



-6000

-5000

-4000

-3000

-2000

-1000

0

1000

2000

3000

4000

1986 Q1 1987 Q1 1988 Q1 1989 Q1 1990 Q1 1991 Q1 1992 Q1 1993 Q1 1994 Q1 1995 Q1 1996 Q1 1997 Q1 1998 Q1 1999 Q1 2000 Q1 2001 Q1

Mil

lion

US

$




Composition of External DebtIndonesia

Stock of External Debt: Indonesia

0

20

40

60

80

100

120

140

19

80

19

81

19

82

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

Bil

lio

n U

.S.$



External Debt and Foreign Exchange ReservesIndonesia

Indonesia's External Debt vs. Foreign Exchange Reserves

0

20

40

60

80

100

120

140

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Bil

lio

n U

S$

Total external debt



Comparison between Thailand and South Korea and Chinau The contrast between, for example, Thailand and South Korea on the

one hand, and China on the other, immediately prior to mid-1997, is striking. Both Thailand and South Korea had a large proportion of foreign investment in the form of portfolio investment, and a large proportion of foreign debt in the form of short-term (less than one year maturity) loans, and low foreign exchange reserves relative to the potential foreign exchange liabilities--hence they were both vulnerable to speculative attacks.


Savings Rates as a Percent of GDPof Selected East Asian Economies

The Savings Rate as a Percent of GDP

-10

0

10

20

30

40

50

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

Pe

rce

nt

China Hong Kong

Indonesia Korea, Republic of


Singapore Taiwan

Thailand Mexico

India


The Savings-Investment GapSelected East Asian Economies

The Savings-Investment Gap as a Percent of GDP

-15

-10

-5

0

5

10

15

20

25

30

35

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Pe

rce

nt

China Hong KongIndonesia Korea, Republic of

Malaysia PhilippinesSingapore TaiwanThailand MexicoIndia


Current Account Surplus (Deficit)as a Percent of GDP

The Current Account Surplus as a Percent of GDP

-15

-5

5

15

25

35

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Perc

en

t




Mexico India Japan


Interest Rate Differential between Domestic Currency and U.S. Dollar Deposits

Local Currency Interest Rate-US$ Interest Rate in Selected East Asian Economies

-6

0

6

12

18

24

30

36

42

48

1995

Q1

1995

Q2

1995

Q3

1995

Q4

1996

Q1

1996

Q2

1996

Q3

1996

Q4

1997

Q1

1997

Q2

1997

Q3

1997

Q4

1998

Q1

1998

Q2

1998

Q3

1998

Q4

1999

Q1

1999

Q2

1999

Q3

1999

Q4

2000

Q1

2000

Q2

2000

Q3

2000

Q4

Per

cen

t

China Indonesia

Korea, Rep. Of Malaysia

Singapore Taiwan

Thailand


Real Exchange Rate Appreciationu By mid-1997, many of the East Asian currencies, with the exceptions

of the Chinese Yuan, the Indonesian Rupiah and the Malaysian Ringgit, had appreciated, in real purchasing power terms, 20-50% relative to the U.S.$ compared to 1986.

u This implies a loss of competitiveness vis-a-vis the U.S., and an adjustment was potentially warranted.

u However, by 1999, sufficient adjustments had occurred in the East Asian currencies so that, with the exception of Hong Kong and Singapore, they had effectively devalued, in real terms, relative to their 1990 values.


Rates of Inflation Relative to the United StatesRates of Inflation Relative to the United States (percent p.a.)

-20

-10

0

10

20

30

40

50

60

70

80

90

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Pe

rce

nt

p.a

.





Rates of Inflation Relative to the United States(without Indonesia)

Rates of Inflation Relative to the United States (percent p.a.)(without Indonesia)

-15

-10

-5

0

5

10

15

20

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Perc

en

t p

.a.

China Hong Kong Korea

Malaysia Philippines Singapore

Taiwan Thailand


Real Exchange Rate MovementsIndexes of East Asian Real Exchange Rates

(Local Currency per U.S.$, 1986=100)

50

75

100

125

150

175

200

225

250

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Pe

rce

nt





Real Exchange Rate Movements(without Indonesia)

Indexes of East Asian Real Exchange Rates (without Indonesia)(Local Currency per U.S.$, 1986=100)

50

75

100

125

150

175

1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Pe

rce

nt

China Hong Kong Korea

Malaysia Philippines Singapore

Taiwan Thailand


The ASEAN Free Trade Area (AFTA)u Intra-ASEAN tariff rates have been lowered to 5% on Jan. 1, 2002

with the inauguration of the ASEAN Free Trade Area (AFTA) among Brunei, Indonesia, Malaysia, Philippines, Singapore and Thailand. The goal is to reach zero tariff rate within AFTA by 2010. The reduction in tariffs applies to 90% of products provided theASEAN content of the product exceeds 40%.

u Khmer Republic, Laos, Myanmar and Vietnam are expected to join AFTA in 2006 and reach zero tariff rate within AFTA by 2015.

u Specific protection on manufactured and agricultural products still remains.


The China-ASEAN Free Trade Areau A free trade area, covering China and the ASEAN (Brunei,

Indonesia, Khmer Republic, Laos, Malaysia, Myanmar, Philippines,Singapore, Thailand and Vietnam), to be created within ten years

u A 3 trillion US$ market and almost 2 billion consumersu Complementarity (primary raw materials) and competition (light

manufactures)u Opening the economies for trade—China will become a major export

market for the ASEAN and vice versau The free trade area will promote foreign direct investment in the

ASEAN region itself through the enlargement of the potential marketu A mutual support program for the currencies of one another, leading

possibly to a currency areau Significant political implicationsu Near term—a simultaneous, coordinated expansion among ASEAN

+ 3 can help accelerate the recovery of the depressed economies of East Asia


Japan-Singapore Free Trade Agreementu Recently signed—the first free trade agreement for Japan—a good

startu Non-competitiveness of the outputs of both countries with each otheru Other free-trade agreements are likely to be more difficult to achieveu ASEAN + 3 Free Trade Area?


Structural Adjustments in the Greater China Regionu Hong Kong

u A return to its entrepot rootsu Economic integration with Mainland Chinau The loss of low-skilled jobsu The end of the high land-price strategy

u Taiwanu The loss of low-skilled jobsu The end of the high land-price strategyu How to leverage its advantage in the high-technology sector?u Mainland China—cooperation or competition?


Globalization and Diversificationu Geographical diversification has to be re-thought because of

globalizationu Diversification by multinational corporations: e.g., IBM is not a U.S. risk

because of its significant business around the globe; similarly, Nestle is not a Swiss risk; these are all globally diversified corporations

u Covariance due to supply-chain connections, e.g., Dell, and its sub-contractor in Taiwan, Quanta Computer, face the same risks—Quanta is not really a Taiwan risk

u Covariance of markets—the stock markets have in recent years tended to move together

u There are gains from geographical diversification only if the economic performance of the different regions of investment are uncorrelated or negatively correlated

u China, India, and potentially Latin America are candidates for investment if diversification is the objective because they are large economies the rates of growth of which are not very sensitive towhat happens outside


The New Economy Levels the Playing Field between Large and Small Firmsu Small firms can have access to services and supplies heretofore only

available to large firmsu E.g., Charles Schwab and E-trade benefit small investors by bringing down the

cost of securities trading proportionally much more than large investorsu Rapid delivery services and warehousing facilities, e.g., FedEx, are available to

both large and small firmsu Small firms can also become more accessible to their customers and

potential customers through the Internet with only marginal expenditures on advertising and public relations

u Small firms have access to large firms as potential suppliers in a global supply chain

u East Asian economies with a higher concentration of smaller firms and more primitive information infrastructure (and thus the potential for leap-frogging) may benefit much more from the new economy than other economies

u E.g., B2B dot.coms seem to have relatively greater success in Taiwan than in the United States


Is East Asian Economic Growth Sustainable?Was It a Bubble? u Past economic growth neither a miracle nor a mere bubble

u Economic growth experience replicated in different East Asian economiesu Sustained economic growth over decadesu Recent crisis due to many factors, of which “irrational exuberance” is only oneu Economic fundamentals remain sound--high savings rates, investment in

human capital, and more recently in R&D capital, entrepreneurship, market orientation

u Past economic growth input (especially capital)-driven rather than technical progress-driven--it is attributable to growth in inputs, particularly the efficient and rapid accumulation of tangible capital

u Considerable room for continuation of rapid tangible inputs-driven economic growth--tangible capital per unit labor still lags significantly behind the developed economies

u Intangible capital per unit labor, e.g., R&D capital, lags even further behind, offering additional opportunities for investment


Is East Asian Economic Growth Sustainable? Paul Krugman’s Worryu Since the major source of postwar East Asian economic growth is

found to be the growth of tangible capital (Kim and Lau, 1992), then given the diminishing marginal productivity of tangible capital, as more and more tangible capital is accumulated, each additional unit of tangible capital will be less productive than the unit before it. Eventually economic growth must slow down and then stop altogether.

u The former Soviet Union was used as an example where a great deal of tangible capital was accumulated but failed to be productive

u However, East Asian economies lag far behind the industrialized economies in the levels of both tangible and intangible capital stocks

u Investment in intangible capital can enhance the productivity oftangible capital and counteract the diminishing marginal returns to tangible capital


The Sources of Economic Growth: Findings of Kim & Lau As Reported by Krugman (1994)u Using data from the early 1950s to the late 1980s, Kim and Lau

(1992, 1994a, 1994b) find that:u (1) No technical progress in the East Asian NIEs but significant

technical progress in the industrialized economies (IEs) u (2) East Asian economic growth has been input-driven, with tangible

capital accumulation as the most important source of economic growth (the latter applying also to Japan)

u Working harder as opposed to working smarteru (3) Technical progress is the most important source of economic

growth for the IEs, followed by tangible capital, accounting for over 50% and 30% respectively, with the exception of Japan

u NOTE THE UNIQUE POSITION OF JAPAN!u (4) Technical progress is purely tangible capital-augmenting and

hence complementary to tangible capital


The Sources of Growth: Further Results with Extended Sample--Lau and Park (2000)

Tangible Capital Labor Technical ProgressHong Kong 74.46 25.54 0South Korea 78.2 21.8 0Singapore 64.8 35.2 0Taiwan 84.04 15.96 0Japan 49.9 4.84 45.26Non-Asian G-5 Countries 38.71 2.77 58.52

Tangible Capital Labor Technical ProgressHong Kong 74.61 25.39 0South Korea 82.95 17.05 0Singapore 63.41 36.59 0Taiwan 86.6 13.4 0Indonesia 88.79 11.21 0Malaysia 66.68 33.32 0Philippines 66.1 33.9 0Thailand 83.73 16.27 0China 94.84 5.16 0Japan 55.01 3.7 41.29Non-Asian G-5 Countries 41.51 1.97 56.53

Sample (G-5 + 4 NIEs)

Sample (G-5 + 9 Asian)


The Sources of Economic Growth--Developing Economies in East Asiau Different types of measured inputs play different roles at different

stages of economic growthu Tangible capital accumulation is the most important source of

growth in the early stage of economic developmentu But simply accumulating tangible capital is not enough--it must also

be efficiently allocatedu Efficient tangible capital accumulation is the major accomplishment

of the East Asian NIEs in the postwar periodu Market-directed allocation of new investment, aided by export

orientation, promotes efficiencyu Private enterprises have the incentives for prompt self-correction

u Intangible capital accumulation becomes important only after a certain level of tangible capital per worker is achieved but has begun to be important for some East Asian NIEs such as South Korea andTaiwan


Real Output per Labor HourReal Output per Labor Hour (1980 US$)

0

5

10

15

20

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1980 U

S$ p

er L

abor

Hour

China Hong Kong

Indonesia S. Korea


Singapore Taiwan

Thailand Japan

Non-Asian G5


Capital IntensityTangible Capital Stock per Labor Hour (1980 U.S.$)

0

10

20

30

40

50

60

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1980 U

S$ p

er L

abor

Hour

China Hong Kong

Indonesia S. Korea


Singapore Taiwan

Thailand Japan

Non-Asian G5


Human Capital per Unit LaborHuman Capital per Labor Hour (Years of Schooling)

0

0.002

0.004

0.006

0.008

0.01

0.012

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

Yea

rs p

er L

abor

Hour

China Hong Kong

Indonesia S. Korea


Singapore Taiwan

Thailand Japan

Non-Asian G5


R&D Capital Stock per Unit LaborR&D Capital Stock per Labor Hour (1980 US$)

0

1

2

3

4

1949

1951

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

19

80

US

$

US Canada France

W. Germany Italy UK

Japan S. Korea Singapore

Taiwan


Is East Asian Economic Growth Sustainable?u The attractiveness of investment in intangible capital depends on the

protection of intellectual property rights, which in turn depends on whether a country is a producer of intellectual property--some of the East Asian economies, e.g., Hong Kong, South Korea, Singapore and Taiwan are ahead of other East Asian economies with the possibleexception of Japan on this score

u Intangible capital is different from tangible capital in three important aspects:

u Intangible capital is freely mobile across countriesu Intangible capital is simultaneously deployable in different locations without

diminution of its effectiveness (increasing returns in the utilization of intangible capital)

u Intangible capital enhances the productivity of existing tangible capital whereas additional tangible capital diminishes the productivity of existing tangible capital


Prospects for Future Economic Growth Remain Goodu Prospects for continued economic growth in East Asia remain

good—room for continuation of tangible-inputs-driven growthu Fundamentals are sound—high savings rates, priority for education,

private-enterprise market economyu The experience of developed economies, especially that of Japan,

suggests that investment in R&D capital and other forms of intangible capital has high returns

u Because of its complementarity with tangible capital, investment in intangible capital can retard the decline in the marginal productivity of tangible capital and counteract the “Krugman effect”

u There is also evidence of positive technical progress in the more recent period

u The people of East Asia are entrepreneurial, hard-working, and thrifty--all they need is a good, market-friendly, predictable and stable environment


Investment in East Asia by Foreign Investors:Considerationsu Covariance between East Asian and U.S. markets

u Covariance increased by globalizationu The high-technology sector versus the traditional and the non-tradable sectorsu Covariance between U.S. and China is small, hence maximum gain from diversification

u Public versus private marketsu Credibility of public markets (insider trading, manipulation, protection of minority

shareholders, disclosure and transparency)u Ease and necessity of direct financial monitoringu Casino mentality of some public markets

u Portfolio versus direct investmentu Possibility of capital control and other forms of restrictions on short-term capital flowsu Necessity of continuous active direct monitoringu Choice of joint-venture partner(s), if any, criticalu Availability of depositary receipts in liquid, transparent and well-regulated markets

with no capital control u Competitive advantage

u Money alone is not sufficient because of relative abundance of domestic savings—foreign direct investors must have superior technology, know-how, knowledge or control of markets


Investment in East Asia by Foreign Investors:Considerationsu The nature of foreign direct investment (FDI) in East Asia has been undergoing a

transformationu The nature of FDI has changed gradually from export-oriented to domestically oriented,

taking advantage of the large domestic markets in East Asia, including China; from light industry to heavy and high-technology industries, and from small projects to large projects

u Foreign direct investors increasingly view East Asia, including China, not so much as an export base but as a potential market for their finished products--e.g., BASF, General Motors, Motorola all plan to market at least a significant proportion of the products they produce in China in China itself; Automobile manufacturers in Thailand view the entire ASEAN as their potential market

Documents

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