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ASEAN Economics What Do Cross-Currents of DM Recovery, Rising Real Rates and China Slowdown Mean for ASEAN?
Indonesia: Still in Disequilibrium; Too Early to Turn Constructive We believe real exchange rate needs to be 10%-15% weaker from current levels and real interest rate need to rise to 2%. Such adjustments would help Indonesia to macro-rebalance to a more sustainable near-term equilibrium of lower cyclical growth, narrower CAD and a less overvalued currency. Malaysia: Not Quite in the Same Boat as Indonesia Malaysia does not face the same short-term funding squeeze as Indonesia does, in our view. The bigger similarity is in terms of what lower commodity prices would mean for their medium-term growth prospects. Singapore: Lower Trend Growth, Somewhat Higher Trend Inflation and a Less Easy Fed Policy The economy continues to transition to a new normal of lower trend growth and somewhat higher trend inflation, though the worst of the stagflation-type environment is likely behind it. A less easy Fed policy would likely take some wind out of the leverage cycle.
Deyi Tan
Deyi.Tan@morganstanley.com +65 (6 ) 6834 6703
Thailand: Next at Risk After Indonesia to Rising Real Rate Trend Weak current account balance, previously strong credit growth cycle and elevated LDR increase its vulnerability to the exogenous tightening from a less easy Fed policy, which could constrain how aggressive the fiscal policy stance in Thailand can be.
For important disclosures, refer to the Disclosures Section, located at the end of this report.
Contents
Overview..3 Indonesia.....9 Malaysia.....19 Singapore..................................................................................................................27 Thailand..36 Macroeconomic indicators....45
3
3.5 2.5 1.5 0.5 -0.5
-1
US Real GDP growth (%YoY)
-3
Euro Area Real GDP growth (%YoY) Global GDP growth (%YoY)
-5 19 96 19 97 19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08 20 09 20 10 20 11 20 12 20 13 E 20 14 E 20 15 E
3
A more clouded outlook: Apart from idiosyncratic local factors, we think ASEAN economies face a more disparate cross-current of global macro forces, namely: (a) DM recovery; (b) rising real rates in US from expectations of less easy Fed policy and; (c) further China slowdown which would have implications not only on end-demand but also on commodity prices. (See ASEAN Economics: What Does A Cross-Current of DM Recovery, Rising Real Rates & China Slowdown Mean For ASEAN? Sep 3rd) Twilight to daylight in DM should buoy exports: DM growth looks set to accelerate, with US and Euro area registering 1.6%/2.7%/2.6% and -0.5%/0.9%/1.2% for 2013/2014/2015 respectively, and the twilight-to-daylight call for DM economies stay according to script. ASEAN economies are some of the biggest export-oriented economies in AXJ and ASEAN export growth has been on a downtrend since 2010 peak. A rising DM tide should help lift the ASEAN exporters boat and lend some beta to the export growth cycle as we head into 2014.
Export Momentum
25 20
40% 60%
30% 20% 10% 0% -10% -20% -30% -40% Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jul-13
Indonesia exports Malaysia exports Singapore exports Singapore non-oil domestic exports Thailand exports
However, whilst trajectory is up, export recovery is likely to be more subdued than previous ones: This is due to two factors: (a) global growth is likely to be lower than before as Europe navigates a still frustratingly slow and fragile recovery and EM economies such as China, sees dimmer growth prospects. MS estimates global GDP growth at 2.9%/3.5%/3.7% respectively (vs 5% CAGR in 2004-2007); (b) our US economics team points out that the uptick in US is primarily driven by a significant pickup in business investment and residential investment, quite unlike the consumption boom which had driven ASEAN export cycle before. One could argue that ASEAN export segments e.g. electronics - PC & PC parts, office equipment & telcom products could still very well cater to the investment pickup to meet office demand. However, the same could not be said for segments such as electrical appliances, consumer electronics and autos. Moreover, Malaysia and Indonesia, the two largest net commodity exporter (as % of GDP) in AXJ, would also suffer from slower commodity exports amid the collateral impact from China slowdown as we would discuss in subsequent slides.
4
139%
120% 100% 80%
2 0 -2 -4
118%
76% 60%
60% 40%
-6
33% 13% 8%
Indonesia
41% 21%
33% 29%
39%
M ar-94
M ar-95
M ar-96
M ar-97
M ar-98
M ar-99
M ar-00
M ar-01
M ar-02
M ar-03
M ar-04
M ar-05
M ar-06
M ar-07
M ar-08
M ar-09
M ar-10
M ar-11
M ar-12
M ar-13
20% 0%
Malaysia
Singapore
Thailand
Source: CEIC & Morgan Stanley Research; real rates are calculated using CPI and nominal 3M T-bill rate for ASEAN and policy rate for US.
Source: CEIC & Morgan Stanley Research; Note that bank credit penetration number for Singapore includes Housing development board loans
Implications from rising US real rates: Expectations of less easy Fed policy and rising real rates in US have imposed exogenous tightening effects on ASEAN and this is likely to have implications on domestic demand to varying degrees. To be sure, we do not think this is a repeat of 1998: This is because, the credit cycle this time is smaller compared to the last which had taken place amid lax banking sector regulation and investment excesses. External debt (see next slide) was higher before the 1998 AFC amid pegged currency regimes which incentivise corporates to take unhedged foreign currency loans. Current account deficits (see next slide) and LDR ratios are mostly less stretched now and the foreign reserve cushion is more comfortable in most cases today, than in the last cycle. (See ASEAN Economics: Asia Insight: How Is This Leverage Cycle Different From The Last, Sep 12th)
5
20% 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Nonetheless, ASEAN will not be immune to this rise in real rates and reversal in carry trade: Bigger tightening pressures and growth impact would be felt in economies which have weak current account balances and which has seen strong credit growth and rising LDR amid depressed low real interest rates before. Indeed, we believe to the extent to which current account deficit economies do not have excess savings to fund their own domestic demand, the rise in real rates in US mean that real rates in these CAD economies not only need to rise in tandem but in fact, need to rise faster in order to attract liquidity and bring external imbalances to more sustainable levels. Indeed, such global developments are already causing cash-flow problems in Indonesia, leading to currency depreciation and policy rate hikes. We think Thailand looks next most at risk within ASEAN. Additionally in Singapore, although Fed is unlikely to start hiking policy rates until mid-2015, an end to the zero-interest rate policy which is now closer than it was before is already causing Singapore banks to start re-pricing longer tenure loans such as mortgages. Meanwhile, such exogenous tightening effects could also pose 6 constraints for fiscal policies in Malaysia and Thailand as well.
(3) Further China Slowdown and Its Collateral Impact on Commodity Prices
Who Has Bigger Trade Linkages with China?
18% 16% 14% 12% 10% 8% 6% 0% 4% 2% 0% -2% -4% 4% 2% Exports to China (% of GDP) Trade balance with China (% of GDP) (RS) 6% 2012 10% 8%
76
50 40 30 20 10 0
9 2 25
46 35
45 40 36 29 15 11 15 9 8 30 21 15
12
12
11
12 11 2
Taiwan
Singapore
Korea
Malaysia
Oil
US
CPO
Source: World Bureau of Metals statistics, International Copper Study Group, BP Stats, Wood Mackenzie Brook Hunt, Morgan Stanley Research
Direct and indirect impact from China slowdown: Our China economist expects China GDP growth to slow further from 7.6% in 2013 to 7.1%/6.9% in 2014/2015. North Asian economies tend to have the largest trade linkages and the largest trade surplus with China and would be most directly impacted from a China slowdown. However, for ASEAN, there is also the indirect impact to consider i.e. the collateral impact that a China slowdown would have on commodity prices. China slowdown & collateral impact on commodity prices: China is either the worlds largest or a key consumer for several commodities such as iron ore, steel, aluminium, copper, oil, coal and CPO.
(3) Further China Slowdown and Its Collateral Impact on Commodity Prices
China: % Share of Increase in Global Demand
120 100 80 64 60 40 20 0
2012
111
59
53
T a iw a n
K o re a
C h in a
In d ia
Copper
Iron Ore
Aluminium
Steel
Oil
Coal
Food and live animals Crude materials Animal and vegetable oils and fats
Source: CEIC & Morgan Stanley Research
Source: World Bureau of Metals statistics, International Copper Study Group, BP Stats, Wood Mackenzie Brook Hunt, Morgan Stanley Research
ASEAN net commodity exporters would be impacted: China also accounts for more than 50% of the increase for many of these commodities. To that point, we note that Malaysia and Indonesia are the two largest net commodity exporters (% of GDP) in AXJ. The reversal in commodity supercycle has already led Indonesia to see its most persistent stretch of current account deficit since 1998 and Malaysias current account surplus to fall from double-digit territory in 2011 to 1.1% of GDP (quarterly annualised) in 2Q13. Continually soft or falling commodity prices would mean poor or poorer terms-of-trade for the commodity exporters. In a nutshell: Amid this global context, we think the Indonesia economy is still in disequilibrium and its too early to turn constructive. Thailand is next at risk after Indonesia to the rising real rate trend. We do not think Malaysia is not quite in the same boat as Indonesia. Meanwhile, in Singapore, the transition to a new normal of lower growth and somewhat higher inflation continues. Overall, we believe growth risks are still skewed to the downside.
T h a ila n d
Hong Kong
We forecast GDP growth at 5.6%/ 5.1%/5.5% for 2013/2014/2015. Consensus (for September) stands at 5.7%/ 5.9% for 2013/2014.
Policy response triggered; but macro rebalancing process not over We have been highlighting that the uncomfortable current account deficit (CAD) and strong domestic demand in Indonesia do not go hand-in-hand with a stable IDR we called this the Impossible Trio. Amid expectations of less easy Fed policy, the Impossible Trio is coming undone and forcing policymakers hand in undertaking policy rate hikes. Despite the policy response so far, we think the economy is still in a state of disequilibrium. Its too early to turn constructive and more policy adjustment is required to take Indonesia to a more sustainable near-term equilibrium of lower cyclical growth, narrower CAD & less overvalued IDR. More currency & interest rate adjustment needed There needs to be two rounds of currency adjustment. Despite the IDR/USD depreciation seen so far, the real exchange rate has adjusted lesser & needs to depreciate by another ~10%-15% to get it out of overvalued territory. Thereafter, we believe policymakers need to keep real exchange rate stable in order not to erode competitiveness in non-commodity segments. To the extent that Indonesias inflation is higher than its trading partners, policymakers would need to engineer a steady nominal depreciation rate each year.
Meanwhile, as US real rates rise, real interest rate in economies with CAD, not only need to keep in tandem but in fact need to rise faster to attract liquidity and to manage external imbalances. We think Indonesia policymakers should, for starters, bring short-term real rates up to 2%, i.e. 8.5% nominal short-term interest rate on a normalised inflation of 6.5%. However, in predicting what BI would do (as opposed to what they should do), we are expecting policymakers to take policy rates up to 7.75% by 2013 year-end. In our view, if BI lags on policy rate hikes, policy rate would become increasingly irrelevant. This is because the process of FX intervention would cause domestic liquidity conditions to tighten and lead market oriented interest rate to edge higher anyway. As it is, market-oriented interest rate have increased to a bigger extent compared to policy rate. Overall, as these policy adjustments unfold, it is inevitable that there would macro pain in the form of a growth slowdown into 2014. We think growth risks are still skewed to the downside.
Increased urgency for structural reform 2.0; Next election more important than the last External dampeners such as China slowdown and its collateral impact on commodity prices means that structural growth story in Indonesia can no longer be seen in the same light. We believe there is an increased urgency to undertake structural reform 2.0 to offset the growth negatives inflicted by these exogenous factors. Otherwise, Indonesia would face lower growth and macro stability risks.
The following factors would have implications for the extent of adjustment needed on policy rate and currency: (a) The extent of improvement in US economy and its implications for US real interest rate; (b) China growth story and the collateral impact on commodity prices. Idiosyncratic risks would stem from domestic policy response/policy mistakes.
Indonesia: Impossible Trio of 6% Growth, 2.5% CAD and Stable IDR Coming Undone
The Impossible Trio of High Growth, Uncomfortable CAD.
8%
145
Depreciation Appreciation
6% 4% 2% 0%
135
125
115
-2% -4%
105
Impossible Trio comes undone as: We have highlighted for a while that Indonesias uncomfortable current account deficit and still healthy domestic demand do not go hand-in-hand with a stable IDR we called this the Impossible Trio. Macro stability is not in the hands of policymakers given the uncomfortable external imbalances & dependence on external funding and further policy tightening and currency depreciation are required to bring Indonesia to a more sustainable near-term equilibrium of lower cyclical growth, narrower CAD and a less overvalued currency. Global developments exposed macro vulnerability: Indeed, expectations of QE taper and rising real rates in US since late May have exposed this macro vulnerability and forced policymakers hand in undertaking retail fuel price hike and a cumulative policy rate hike of 150bps since June. The reversal in carry trade has also led IDR/USD to depreciate by 16% ytd, even after policymakers spent US$20bn in foreign reserves, of which US$12bn happened since May-13.
10
Indonesia: Policy Adjustment Triggered, but Macro Rebalancing Process Is Not Over
China Slowdown & Implications on Commodity Price Important to Watch
Impact from 10% chg in respective commodity prices, all else equal
4Q12 Commodity related trade balance Crude rubber, metalliferous ores/metal scraps, iron & steel & nonferrous metals Mineral fuels & lubricants - Coal
1Q13
2Q13
4Q12
1Q13
2Q13
% of GDP 0.02%
7.2
3.0% 2.9% 2.9% 26.4 25.6 25.5 0.29%
31% 30% 7.7 8.2 8.7 9.2 A ug-11 S ep-11 O ct-11 N ov-11 D ec-11 Jan-12 Feb-12 M ar-12 A pr-12 M ay-12 Jun-12 Jul-12 A ug-12 S ep-12 O ct-12 N ov-12 D ec-12 Jan-13 Feb-13 M ar-13 A pr-13 M ay-13 Jun-13 Jul-13 A ug-13 S ep-13
Mineral fuels & lubricants Petroleum & petroleum pdts Mineral fuels & lubricants Natural gas Animal/ Vegetable oils & fats (CPO) Total
-3.1%
-3.2%
-2.8%
-27.0
-28.3
-24.7
-0.28%
29%
1.6% 1.7% 1.7% 14.0 15.1 15.2 0.17%
28% 27%
2.4%
2.2%
2.2%
21.4
19.8
19.5
0.22%
4.5%
4.0%
4.2%
39.4
35.7
37.1
0.42%
Macro adjustment process not over: Although the policy response has been triggered, we believe the macro rebalancing process is not over yet and it is still too early to turn constructive on the economy. The confluence of: (a) the longest stretch of CAD since 1998, courtesy of the commodity supercycle reversal; (b) uncertainty with regards to Chinas growth story and the collateral impact that may have on commodity prices and; (c) market adjustments to a less easy Fed policy, are risk factors to watch, with regards to the extent of interest rate tightening and currency depreciation required to take the economy to a more sustainable equilibrium by driving a growth deceleration in domestic demand and forcing current account deficit to a narrower level. Downside risks on these fronts would introduce risks of a sharper policy adjustment within a compressed time-span. Overall, growth risks are still skewed to the downside in our view.
11
160
Brazil
140
Indonesia Turkey
120
Depreciation
100
80 70 60
Indexed Jan-2000=100
80
Jan-00
Jan-01
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
Jan-00
Jan-01
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
Jan-13
Currency adjustment far from over: The still incomplete currency adjustment process is a reason why we believe it is still too early to turn constructive on Indonesia. Although the IDR/USD has depreciated by 6% between Dec-12 & Jul-13 and by 18% from the strength in Aug-11 vs July-13, the real effective exchange rate (REER), the more relevant indicator to watch, has appreciated by 6% between Dec-12 and Jul-13. Meanwhile, it has only marginally depreciated by -0.5% between Aug-11 and Jul13. This is because Indonesias inflation tends to be higher compared to its trading partners and other nominal currency pairs have depreciated to a lesser extent.
Jan-13
50
60
12
105
Appreciation
100 95 90 85
-3%
50
Depreciation
60 -4% 70 -5%
350
80
300 250 200 150 100 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Depreciation
80 -6% 90 -7% 100 CAB less commodities trade balance (4Q trailing sum, % of GDP) -8% REER (2010=100) 110
Appreciation
75
CRB Commodity Index (LS) Indonesia REER (2010=100) (RS)
70 65 60
-9% Dec-93 Dec-94 Dec-95 Dec-96 Dec-97 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12
120
There needs to be two rounds of currency adjustment, in our view: The first phase of currency adjustment is to correct for what looks like an overvalued currency amid the persistent CAD & the lower new normal in commodity prices. Indeed, the IDR had behaved like a commodity currency. The REER had appreciated amid the commodity supercycle in past years and the noncommodity current account balance had deteriorated as a result. Hence, to account for the lower new normal in commodity prices, to restore competitiveness in the non-commodity segments and get CAD to a more comfortable level, we believe REER still needs to depreciate by ~10%-15% from current levels. Once this overvaluation is corrected, we believe the second phase of currency adjustment would involve keeping real exchange rate stable so as not to again weaken competitiveness in non-commodity segments. This can be achieved either by raising productivity and hence lowering inflation or by engineering a steady rate of nominal FX depreciation to account for Indonesias inflation differentials.
13
12 11 10
9 8 7 6 5 4 3 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
5.8
4.9
Foreign reserves: Number of months of import cover Foreign reserves less predetermined short-term net drains on foreign reserve assets: Number of months of import cover
Foreign reserve warchest has dwindled: Policymakers ammunition to defend the currency has been getting lower. Bilateral currency swap agreements have recently been arranged (e.g. US$12bn with BOJ) and more seems to be in the pipeline. In our view, such swap arrangements may offer temporary comfort to market sentiment but is not a permanent fix and at best only helps to buy time for policymakers to get down to the right policy mix. Policymakers may have concerns regarding the potential destabilising effects of a weaker currency given memories of 1998. However, we believe a weaker currency will not have the same destabilising effect this time, to the extent that the currency depreciation would be significantly lower than during 1998 when NEER and REER depreciated by between 60-80% between mid-97 and mid-98. Moreover, external debt (% of GDP) has come down from 48% of GDP in 1996 to 29% in 2Q13.
14
6 4 2
4% 3% 2% 1%
14 12 10
14 12 10 8 6 4 2
0 -2 -4
8 6 4
-6
Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jul-13
-5%
2 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13
Indo 10Y real rates less US 10Y real rates (3MMA) Indo - CAB (Quarterly annualised, % of GDP) (RS)
The rise in real rates in US, the lack of excess domestic savings in Indonesia as seen in its CAD, its rising LDR and the need to anchor inflation expectations amid currency depreciation all point to this - Indonesias real interest rate not only has to keep in tandem, but in fact rise faster than global trend in order to maintain macro stability & to keep a rein on external imbalances. In our view, Indonesias inflation is likely to normalize at 6.5%YoY in 2015 after the impact from the retail fuel price hike wears out. We think policymakers need to bring short-term real rates up to 2%, i,e. 8.5% based on a normalized inflation rate of 6.5%. To be sure, we expect BI only to raise policy rate by another 50bps to 7.75% as they tend to have a dovish bias. However regardless of policy action, we think market conditions will force short-term real interest rates up to where it needs to be. This is because as currency continues to depreciate, the process of FX intervention (selling USD and buying IDR) would withdraw liquidity from the system, leading market-oriented interest rate to move up. To this point, we note that although benchmark policy rate has been hiked by 150bps from May levels, 1M and 3M JIBOR has already moved up by 190-200bps. The rate tightening cycle would mean macro pain in the form of 15 a growth slowdown.
-4% -6% -8% Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Sep-12 Jun-12 Sep-11 Sep-10 Sep-09 Sep-08 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Jun-08 Jun-09 Jun-10 Jun-11 Jun-13
9 4 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Indonesia still has one of the more attractive structural stories in ASEAN: However, external dampeners from the China slowdown & collateral impact on commodity prices now mean Indonesias structural growth story cannot be seen in the same light. If the same structural growth drivers could deliver 6.5% or higher GDP growth before, the changed global environment now means that there is an increased urgency to undertake structural reform 2.0 to offset the growth negatives inflicted by exogenous factors. Otherwise, Indonesia could face lower growth and macro stability risks. How do external dampeners pose headwinds? The reversal in terms-of-trade would hamper the direct growth lift & multiplier effect accorded by the commodity sector before. Meanwhile, the continued CAD & inability to generate excess savings and hence deposits mean that the structural decline in capital cost, which had been an important growth driver, could be largely behind us. Meanwhile, risks of China slowdown and its collateral impact on commodity prices also mean Indonesias CAD may not be stable. That would perpetuate pressures for policy response beyond what has been undertaken & would come with growth implications.
16
6 5 4 3 GDP growth (%YoY) 2 1 M a r-0 1 S e p -0 1 M a r-0 2 S e p -0 2 M a r-0 3 S e p -0 3 M a r-0 4 S e p -0 4 M a r-0 5 S e p -0 5 M a r-0 6 S e p -0 6 M a r-0 7 S e p -0 7 M a r-0 8 S e p -0 8 M a r-0 9 S e p -0 9 M a r-1 0 S e p -1 0 M a r-1 1 S e p -1 1 M a r-1 2 S e p -1 2 M a r-1 3 GDP growth (%YoY, 8Q trailing average)
12 10 8 6 4 2 0
MSCI Indonesia: 12M Fwd PE
Jan-01
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
What does structural reform 2.0 need to entail? Hence, apart from cyclical policy response to deal with immediate macro issues, structural policy response are also required to deal with the global headwinds: We believe the following is required: (a) Productivity and competitiveness in non-commodity sectors would need to be boosted to diversify growth drivers as commodity supercycle unwind; (b) One way to achieve the former is to ensure that resources are spent on productive areas such as infrastructure and education where Indonesia still lags; (c) Ensuring that the real exchange is stable would help to prevent the currency from becoming overvalued and crowding out the non-commodity sectors. (See Asia Insight: Why The Next Election Is More Important Than the Last, July 30th)
Jan-13
17
25 20 15 10 5 0 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
0.0% -0.5% -1.0% 1.0% 0.5%
Financial & capital account: FDI Financial & capital account: Portfolio investment
M ar-05 M ar-06 M ar-07 M ar-08 M ar-09 M ar-10 M ar-11 M ar-12 S e p-0 4 S e p-0 5 S e p-0 6 S e p-0 7 S e p-0 8 S e p-0 9 S e p-1 0 S e p-1 1 S e p-1 2 M ar-13
Monthly minimum wage: National (% (YoY) Monthly minimum wage: Jakarta (%YoY) Monthly average wage (%YoY)
Source: CEIC & Morgan Stanley Research
What does structural reform 2.0 need to entail? (d) Labour market regulations/policies would be another avenue to ensure competitiveness of non-commodity sectors. Ensuring wage growth is consistent with productivity increases would help corporates keep their bottom-line in check and ensure that cost competitiveness, particularly in the non-commodity sectors, does not get eroded; (e) Improving the investment landscape to attract more FDI inflows (which are more stable than portfolio flows) would also help to mitigate funding volatility. In this context, the next election is more important than the last: The 2009 elections were important because of what they meant for political stability and longevity of the institution building process. Without them, Indonesias structural story would have fallen by the wayside. However, the 2014 elections now matter even more, not least because these foundation blocks remain important, but also because there is an increased urgency to undertaken structural reform 2.0 to offset global growth negatives.
18
We forecast 2013/2014/2015 GDP growth at 4.1%/4.3%/4.8%. Consensus (as of Sep) stands at 4.4%/5.1% for 2013/2014.
How would the three-legged growth model fare? Domestic demand had previously decoupled from exports amid the pre-election boost. However, going into 2014, we think domestic demand could be somewhat hampered amid fiscal consolidation efforts and as pre-election stimulus fades. Commodity exports would still likely see subdued trends but non-commodity exports are likely to get a cyclical lift from DM recovery. Malaysia does not face the same funding squeeze as Indonesia Similarities has been drawn between Indonesia & Malaysia given their net commodity exporter status and high foreign ownership of government bonds. However, we believe Malaysia does not face the same short-term funding squeeze as Indonesia despite expectations of less easy Fed policy. This is because although its current account surplus has been weakening, it is still likely to see a mild surplus (vs the deficit in Indonesia). Credit growth has less strong in Malaysia (vs Indonesia). LDR ratio is more comfortable, suggesting an internal buffer of liquidity to fall back on. Moreover, real policy rates are higher to begin with in Malaysia.
The similarity with Indonesia lies more in terms of what lower commodity prices would mean for medium-term growth We highlighted for a while that Malaysias structural story is not compelling as it suffers from a Dutch disease of sorts & policymakers have neglected whats needed for competitiveness/productivity. As a result, FDI has been on a secular downtrend. Its global share of manufactured exports have fallen and non-commodity trade balance has gone into deficit territory. Skills mismatch in the labour market is also a concern. A sustained reversal in commodity terms-of-trade, without a corresponding improvement in productivity in other non-commodity economic segments, would constrain GDP growth prospects in the medium-term.
Global developments have prompted tentative steps towards macro rebalancing The silver lining is that recent global developments appear to have prompted tentative steps towards macro rebalancing. Policymakers are making efforts towards fiscal consolidation & fuel subsidy rollback measures have been announced. These steps would have the longer-term effect of helping the economy to deal with a new global environment of lower commodity prices. Apart from these measures, we reiterate our view that engineering a sustainable structural inflexion point in Malaysias growth story would require policymakers to address issues pertaining to the quality of human capital.
Risks and where Upside/downside risks stem from: (a) pace of DM recovery; (b) movement in US real rates and the collateral impact it would have on EM growth and hence, commodity prices; (c) Chinas growth story and implications for commodity prices and; (d) upcoming we could go UMNO party elections and implications on leadership stability. wrong?
19
5 0 -5 -10
10 5 0 -5 -10
-15
M ar-06 M ar-07 M ar-08 M ar-09 M ar-10 M ar-11 M ar-12 Nov-06 Nov-07 Nov-08 Nov-09 Nov-10 Nov-11 Nov-12 M ar-13 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12
-15
M ar-0 6 M ar-0 7 M ar-0 8 M ar-0 9 M ar-1 0 M ar-1 1 M ar-1 2 N ov -06 N ov -07 N ov -08 N ov -09 N ov -10 N ov -11 N ov -12 M ar-1 3 Ju l-06 Ju l-07 Ju l-08 Ju l-09 Ju l-10 Ju l-11 Ju l-12
Growth outlook premised on a cross-current of macro factors: Domestic demand had decoupled from exports in the past few quarters amid the pre-election boost and the global soft patch. However, going into 2014, we think domestic demand could be somewhat hampered by the following: Fitchs recent downgrade to Malaysias outlook and recent rhetoric by policymakers suggest that fiscal consolidation is underway. Meanwhile, with elections done and dusted, effects from pre-election boost would likely fade. As it is, capex momentum had decelerated significantly from a peak of +29.3%YoY in 3Q12 to +8.9%YoY in 2Q13. Markets had previously been sanguine regarding the continued capex strength on the back of ETP (Economic Transformation Program) but we have been sceptical. Outside of the strategic push to ETP in the run-up to elections, a sustained inflexion point for investment depends critically on an improvement to the competitiveness of the workforce, which is still not evident yet in our view.
20
8%
6%
4%
2%
0%
-2%
S e p -9 9 S e p -0 0 S e p -0 1 S e p -0 2 S e p -0 3 S e p -0 4 S e p -0 5 S e p -0 6 S e p -0 7 S e p -0 8 S e p -0 9 S e p -1 0 S e p -1 1 S e p -1 2
Non-commodity exports to get a lift from DM recovery: Momentum in Malaysias exports have been lacklustre for a while as they suffered from a double whammy of global soft patch and commodity supercycle unwinding. We believe commodity exports are still likely to see subdued trends. Indeed, oil trade balance has recently fallen into deficit territory for Malaysia. However, manufactured exports is likely to get cyclical support from the DM recovery.
21
Malaysia Does Not Face the Same Short-term Funding Squeeze as Indonesia
Current account surplus dwindling
25% 20%
35% Indonesia Malaysia Thailand
15%
30%
10%
25%
28.3%
5% 0% -5% -10% Current account balance (4Q trailing sum, % of GDP) -15% Current account balance (Quarterly annualised, % of GDP) -20% Mar-94 Mar-95 Mar-96 Mar-97 Mar-98 Mar-99 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13
0% Dec-02 Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 5% 20%
15%
16.7%
10%
Not quite in the same boat as Indonesia: Markets have tried to decipher which economy could be next in terms of bearing the brunt of the contagion effect in ASEAN. Some have highlighted similarities between Malaysia & Indonesia. Both are large net commodity exporters & have seen reversal in terms-of-trade significantly weakening current account balance. Foreign ownership of government bonds for both economies are high. Foreign ownership of Malaysia government securities stand at 42.7% of outstanding in Jul-13. Including treasury bills & investment issues, foreign ownership is 28.3%, very similar to the 30.6% in Indonesia in Aug-13. However, we believe Malaysia does not face the same short-term funding squeeze as Indonesia. First, although Malaysias current account surplus has weakened significantly from 10.8% of GDP in 4Q11 (quarterly annualised) to 1.1% in 2Q13 and we would not be surprised to see it running a persistent CAD in the medium-term if no reforms are taken up, we still think it is likely to run a mild surplus of 2.8%/2.5%/1.1% of GDP for our forecast horizon of 2013/2014/2015.
22
Malaysia Does Not Face the Same Short-term Funding Squeeze as Indonesia
Comparing Credit Growth Cycles
45 40 35 30 25 20 15 10 5 0
J a n -0 7 A p r-0 7 J u l-0 7 O c t-0 7 J a n -0 8 A p r-0 8 J u l-0 8 O c t-0 8 J a n -0 9 A p r-0 9 J u l-0 9 O c t-0 9 J a n -1 0 A p r-1 0 J u l-1 0 O c t-1 0 J a n -1 1 A p r-1 1 J u l-1 1 O c t-1 1 J a n -1 2 A p r-1 2 J u l-1 2 O c t-1 2 J a n -1 3 A p r-1 3 J u l-1 3
100% 90% 80% 70% 60% 50% 40% 30% N ov-96 N ov-97 N ov-98 N ov-99 N ov-00 N ov-01 N ov-02 N ov-03 N ov-04 N ov-05 N ov-06 N ov-07 N ov-08 N ov-09 N ov-10 N ov-11 N ov-12
Loan to Deposit Ratio (%)
66%
Credit growth was not as strong and LDR ratios are more comfortable: Second, Malaysia did not have as strong a credit growth cycle as Indonesia. Credit growth (12M trailing average) stood at 10.8% for Malaysia in Jul-13 vs Indonesias 22.7% in Jun-13. Meanwhile, LDR ratios are more comfortable in Malaysia at 79% vs Indonesias 91%, suggesting that previous excess savings are still providing an internal buffer of liquidity to fall back on in the event of capital flight. Third, real interest rates in Malaysia are highest in ASEAN at 1.0% vs Indonesias -1.6%. To the extent to which real rates are higher to begin with, it would be less vulnerable as the yield carry trade unwinds.
23
Malaysia: Similarity with Indonesia Lies More in Terms of What Lower Commodity Prices Would Mean for Medium-term Growth
Commodity Cash Cow On The Reversal?
45
Commodity-related Federal Govt Revenue (% of revenue) (LS)
72 70 68 66
40
Commodity-related Federal Govt Revenue (% of GDP) (RS)
35 30
7
20
64 62 60
6 25 5 20 15 10 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 4 3 2
10 58 5 0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
15
56 54
We believe the similarity between Malaysia & Indonesia lies more in that both would have to contend with what lower commodity prices would mean for GDP growth going forward. We have highlighted for a long time that Malaysias structural story is not compelling as other ASEAN economies because it suffers from a Dutch disease of sorts. Benign demographic trends have provided the labour inputs for growth. On the other hand, with commodity-related revenue making up 35% of government revenue, that has provided the capital inputs for growth via fiscal pump-priming. Together, these factors have created a comfortable growth buffer, leading policymakers to neglect for some time whats needed on the competitiveness/ productivity front.
24
Malaysia: Similarity with Indonesia Lies More in Terms of What Lower Commodity Prices Would Mean for Medium-term Growth
Secular Decline in FDI
20%
27 Malaysia 22 17
10%
Singapore Indonesia
Thailand Philippines
12 7 2
0% 5%
-3
Net FDI, US$bn
Trade balance (3M trailing sum, annualised, % of GDP)
-8 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
-5% Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Symptoms are showing: As a result, FDI has been on a secular downtrend. Malaysias global share of manufactured exports has fallen. Non-commodity trade balance has been on a secular decline and is in deficit territory. Additionally, the tertiaryeducated makes up an increasing share of the unemployed group, pointing to a degree of skills mismatch in the labour market. In this context, a sustained reversal in the commodity terms-of-trade, without a corresponding improvement in productivity in other non-commodity economic segments would constrain growth prospects for Malaysia in the medium-term.
25
Malaysia: Global Developments Have Prompted Tentative Steps towards Macro Rebalancing
Public Debt Pushing the 55% Ceiling
75% 70% 65% 60% 55% -2% 50% 0% 45% 40% 35% 30% 25% Dec-91 Dec-92 Dec-93 Dec-94 Dec-95 Dec-96 Dec-97 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 2% 4%
10% 25% 20% 15%
% of GDP
3.5%
3.0%
2.5%
30%
2.0%
1.5%
1.0%
6%
5%
0.5%
8%
0% 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
0.0%
Government debt (% of GDP) (LS) Fiscal balance (4Q trailing sum, % of GDP) (RS) (Values in reverse order)
GFCF: Private GFCF: Public Government Development Expenditure on Education (% of GDP) (RS)
The silver lining is. that recent developments seem to be prompting steps towards macro-rebalancing. With commodity revenue standing at 35% of government revenue and public debt pushing the 55% ceiling, policymakers have implemented steps to roll back on fuel subsidies and are indicating plans to: (a) reduce fiscal deficit to 4% of GDP in 2014 budget; (b) widen revenue base via a Goods & Services tax to reduce dependence on commodities revenue. These measures should have the longer-term impact of helping the economy deal with a new global environment of lower commodity prices. A need to focus on soft infrastructure: Apart from these measures, we reiterate our view that engineering a sustainable structural inflexion point in Malaysias growth story would require policymakers to address issues pertaining to the quality of human capital. Growth momentum in mega investment plans such as ETP and Iskandar Development Region can only have longevity if policymakers implement a critical mass of reforms to improve the soft infrastructure i.e. human capital.
26
Singapore: Lower Trend Growth, Somewhat Higher Trend Inflation and a Less Easy Fed Policy
Topics How are we different from consensus? Whats the story? Our comments
We forecast GDP growth at 2.9%/3.6%/4.0% for 2013/2014/2015. Consensus expectations (as of Sept) stand at 2.8%/3.7% for 2013/2014.
Shift to slower growth normal well underway The economy is transitioning from a Goldilocks period of high growth and extremely benign inflation seen in the run-up to 2007, to one in which growth is likely to settle at a newer lower normal (3%-4% range vs 8.5% CAGR in 2004-2007) whilst inflation is likely to trend somewhat higher compared to the old normal. This is due to both global and domestic factors. On the global front, global GDP growth is likely to trend lower than the 5% CAGR seen since 2004-2007, posing a drag on the small and open economy. Meanwhile, on the domestic front, an ageing population and a need to wean the economy from dependence on foreign labour would also constrain growth as well as put a floor to wage cost until productivity finally catches up. Inflation to trend somewhat above old normal; But worst of stagflation-type environment likely behind us We expect inflation to hover in the mid 2% territory, somewhat higher than the 1.5%-2.0% range seen during the Goldilocks period as tight labour market conditions coupled with a cut-back in foreign labour put a floor to labour costs even despite the subdued growth environment in Singapore. Yet that said, the worst of the stagflation-type environment is likely behind us given macro-prudential measures on autos and property exerting effect to varying degree. Additionally, MS property analysts also expects private residential property prices to soften further in 2014 and this will filter into CPI with a lag. Exogenous tightening is likely to take some wind out of the leverage cycle The exogenous tightening effects from a less easy Fed policy would potentially create headwinds for selected segments of the economy such as property and interest-rate sensitive spending. Singapore has seen a significant build-up in leverage in both households and non-households in the past 5 years. Although the Fed has not begun to tighten policy rates yet, the end of the zerointerest rate policy being sooner than it was before has already led long yields to rise in Singapore. Anecdotally, banks have already started to reprice longer-tenure loans, such as SIBOR-plus mortgage loans.
Upside/downside risks would stem from: (a) global growth; (b) movement in US long yields and; (c) longer-term structural reform measures to enhance growth drivers and productivity.
27
Jan-03
Jan-04
Jan-05
Jan-06
A cyclical uplift for the small open economy: US ISM New Orders, a leading indicator for non-oil domestic exports have turned upward, heralding a likely improvement in export momentum for Singapore. To the extent to which domestic demand is strongly correlated with exports, we believe that GDP growth momentum for 2014 (+3.6%YoY) is likely to edge up from the momentum seen in 2013 (+2.9%YoY).
28
Shift to Lower Growth Normal Underway: Cyclical uplift aside, we believe that the broader picture for Singapore remains one of an economy which is transitioning from a Goldilocks period of high growth and extremely benign inflation seen in the run up to 2007, to one where growth is likely to settle at newer lower normal whilst inflation is likely to average somewhat higher than the 1.5%-2.0% historical trend average. This is due to both global developments and idiosyncratic issues at home. On the growth front, GDP growth has trended down from the 8.5% CAGR seen in 2004-2007 to what looks likely to be a 3%-4% range going forward. Indeed, this is on the back of the fact that global macro rebalancing (first in DM, and now in EM) point to a global growth level which would be lower than the 5% CAGR seen during 2004-2007.
29
12 10
0 1
8 6 4 3 2 0 -2 5 -4 -6 Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 6 4 2
Average monthly earnings (%YoY) (LS) Unemployment rate (sa) (RS) (Values in reverse order)
Source: CEIC and Morgan Stanley Research
The idiosyncratic domestic factor affects growth.: Additionally, whats different in this cycle is that not only is Singapore contending with the secular global demand shock, it is also contending with domestic issues of its own - essentially a labour supply shock. An ageing population and a need to wean the economy from dependence on foreign labour given infrastructure/political constraints mean that policymakers have undertaken steps to slow down the growth of foreign labour. To the extent to which aggressive immigration policy had lifted labour inputs and driven growth before, a slowdown in working age population would also slow down potential GDP growth. and inflation: A cutback in foreign labour, together with the still tight labour market would also affect inflation as it would likely put a floor to labor costs despite the subdued growth momentum. We expect inflation to hover in the mid 2% territory going forward, somewhat higher than the 1.5%-2.0% range seen during the Goldilocks period.
30
Inflation trends
7 6 5 Tradables inflation (ex private transport) (%YoY) Non-tradables inflation (ex accomodation) (%YoY) MAS core inflation (%YoY)
4 3
2 1
0 -1
-2 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jul-13
-2 -3 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Worst of stagflation-type environment likely behind us: Yet that said, the worst of the stagflation-type environment is likely behind us. Indeed, headline inflation has decelerated from an intra-year peak of 4.9%YoY in Feb-13 to 1.9%YoY in Jul-13. Courtesy of the loose monetary conditions imported from DM, housing and transport (car prices) has previously been the two key sources of inflation. However, macro-prudential measures in auto finance in terms of LTV caps and maximum tenures have led to softening car prices. A slower pace of property price rise from the multiple rounds of property cooling measures have also filtered into CPI with a lag. Additionally, the exogenous tightening inflicted from a less easy Fed policy also looks likely to soften property prices further. Our property analysts, Sean Gardiner & Wilson Ng, expects private residential prices to fall by 5% in 2014.
31
Singapore: Exogenous Tightening to Take Some Wind Out of the Leverage Cycle
Short-term interest rate stays low but.
7 6 5 4
4.0 7.0
3M S$SIBOR FFTR 3M US$LIBOR
5.0
3
3.0
2 1
2.0
%
Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
0
Feb-01 Feb-02 Feb-03 Feb-04 Feb-05 Feb-06 Feb-07 Feb-08 Feb-09 Feb-10 Feb-11 Feb-12 Aug-01 Aug-02 Aug-03 Aug-04 Aug-05 Aug-06 Aug-07 Aug-08 Aug-09 Aug-10 Aug-11 Aug-12 Feb-13 Aug-13
1.0
Our US team expects the Fed to begin raising rates in mid-2015, taking it to 1.5% by 2015 year-end. On the back of that, we expect 3M SGD SIBOR to rise to 1% by 2015 year-end from ~0.4% currently. Singapore will not be immune to the exogenous tightening effects from a less easy Fed policy. Resident lending has increased by 50% of GDP in the period 2007-2Q13 to reach 159% of GDP amid depressed SIBOR rates and this has buoyed asset prices. As it is, although the Fed has not begun to tighten rates yet, the end of the zero-interest rate policy being sooner than it has been before, has already led long yields to rise. Indeed, in Singapore 10Y bond yield has risen 120bps from May levels, similar to the 120bps increase in US 10Y bond yield for the same period.
32
Singapore: Exogenous Tightening to Take Some Wind Out of the Leverage Cycle
Bank Leverage Has Picked up for
180%
160%
Bank credit: Resident lending (Domestic banking units + Asian currency units) (% of GDP)
80% 60% 2013 latest 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011
40% 20% 0%
Total system resident lending (ACU + DBU) (% of GDP) Total system resident lending: Personal loans Total system resident lending: Non-personal loans 2006 2007 2008 2009 2010 2011 2012 2013 latest
Not Immune to a less easy Fed policy: Anecdotally, banks have already started to reprice SIBOR-plus mortgage loans. We believe the exogenous tightening effects from a less easy Fed policy would potentially create headwinds for selected segments of the economy, such as property and interest-rate sensitive spending.
33
85 80 75
85
240 220
60 50 40
55
30
55 50
35 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011
100
Rebalancing needed: Overall, for the medium-term, macro rebalancing to tap higher growth export segments/export destinations and improving productivity to offset the drag from ageing population is the only sustainable panacea to raise growth prospects and rein in inflation. On the former, an export-growth model will remain the growth strategy but policymakers will likely continue to focus on reshaping the export machine to cater to demand from secular trends of urbanisation, ageing and growing affluence (particularly in Asia) and capitalise on growth themes such as health urban solutions and wellness and lifestyle services & products. Policymakers will also likely implement measures to help companies expand their top-line via introduction of new products, a departure from previous strategy of helping companies to manage their bottomline via more cost-effective production.
34
China Malaysia
India Indonesia
Korea Thailand
Singapore Philippines
Amid the greying population and stricter immigration policies, raising productivity will also need to be a medium-term growth strategy to be undertaken. Indeed, working age population is likely to slow from 4.1% CAGR in 2005-2010 period to 1.1% CAGR in 2010-2015. Based on our calculations, it poses a drag on potential growth of ~1.3ppt, all else equal. Without measures to aggressively increase labour inputs, the panacea for sustaining potential growth would be to raise total factor productivity (TFP) gains. Yet, it may difficult to fully close this growth shortfall so quickly. Trend TFP has averaged ~1.4ppt in the past five years and would need to almost double to compensate for the greying population. In this regard, we think deterioriating demographics likely point to a structurally lower potential growth trend ahead until productivity catches up to close the gap.
35
Export recovery to provide some growth beta but.. A US growth rebound and a less bad Europe happening according to script would help to provide some growth beta on the export front. Indeed, despite the global soft patch seen earlier this year, Thailand has still managed to eke out an export growth better than other ASEAN counterparts (in US$ terms). This is likely due to its lower dependence on commodity exports and also its increasing competitiveness on the manufactured exports front. ..Exogenous tightening from rising real rates likely to constrain domestic demand where excesses have built up On the domestic demand front, the picture is less straightforward. This is because in our view, Thailand is next most vulnerable after Indonesia (in ASEAN) to the exogenous tightening effects from expected QE taper and rising US real rates. Previously strong capital flows have likely helped to keep real interest rate low despite weaker current account balances, strong credit growth and rising LDR and this has helped to further sustain the credit growth cycle amid stimulus programs and bolstered GDP momentum. To the extent to which capital flows are now unwinding, Thailand is expected to run current account deficits and LDR ratios are already high, the economy looks vulnerable to this reversal of low real rates and this could constrain how quickly domestic demand would pick up despite the export growth support. Indeed, as it is, we note that recent monetary policy easing has seen limited passthrough to lending and deposit rates. Growth alpha from fiscal policy also faces headwinds amid exogenous tightening from less easy Fed policy Public infrastructure projects is likely to be delayed till 2014 and we expect it to lend a growth stimulus of ~0.6%-pt to 2014 GDP growth, assuming a 50% implementation rate. Even on the fiscal front, we think expectations of a less easy Fed policy could put a lid on how aggressive policymakers can be with fiscal stimulus as this could further weaken the current account which is already in deficit territory. Consequently, an aggressive fiscal stance would mean that policymakers have to tap external funding which would likely come with higher interest cost or face a further a tightening of domestic liquidity conditions and a crowding out of private investment.
Upside/downside risks would stem from: (a) pace of DM growth recovery; (b) movement in US real interest rates and; (c) political Risks and where we could climate in the run-up to the 2015 elections, which would have implications on domestic demand. go wrong?
36
106
130 120
101
96
100 100 90 95
91
80
Indexed Jan-08=100
90 85 80
70 60
Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Oct-08 Oct-09 Oct-10 Oct-11 Oct-12 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Apr-08 Apr-09 Apr-10 Apr-11 Apr-12 Apr-13 Jul-13
What next after the technical recession? Post flood in 2012, domestic demand and export momentum had diverged as export production capacity got crimped whilst domestic demand got a boost from stimulus program. In 1H13, a technical recession ensued because domestic demand had pulled back more significantly than expected when stimulus programs expired. At the same time, goods export momentum had stayed patchy at subdued levels. Heading into 2014, we suspect both domestic demand (+4.1%YoY vs +3.7%YoY in 2013) and exports (+4.1%YoY vs +2.3%YoY in 2013) momentum are likely to converge. Both are likely to show a cyclical uptick. However, the pace of acceleration will likely be more marked in exports as exogenous tightening inflicted by unwinding of overeasy monetary policy in US puts a rein on how quickly domestic demand would pick up.
37
65 60 55 50 45 40
15 10 5 0 -5 -10 -15
35 30 25 Jan-03
May-07
May-08
May-09
May-10
May-11
May-12
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
Jan-13
Jul-03
Jul-04
Jul-05
Jul-06
Jul-07
Jul-08
Jul-09
Jul-10
Jul-11
Jul-12
Jul-13
Exports to improve: Compared to other ASEAN economies, Thailand has a relatively more balanced dual-track economy of exports and domestic demand. A US growth rebound and a less bad Europe which is happening according to script would help to provide some growth beta on the export front.
May-13
Sep-07
Sep-08
Sep-09
Sep-10
Sep-11
Sep-12
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
Jan-13
-20
38
3.0% 2.5%
1990
0.61%
0.13%
0.16%
1.18%
0.03%
0.89%
2.61%
2.0%
1995 1.11% 0.31% 0.51% 1.93% 0.11% 1.27% 3.16%
1.5%
2000 1.10% 0.63% 0.70% 1.93% 0.42% 1.26% 1.90%
1.0%
2005 1.16% 0.52% 0.81% 1.88% 0.87% 1.36% 1.47%
0.5% 0.0% 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
1.42%
0.66%
1.18%
2.17%
1.87%
1.23%
1.01%
0.24%
1.45%
-0.03%
-0.89%
Thai exporters are competitive: Indeed, despite the global growth soft patch seen earlier this year, Thailand has still managed to eke out an export growth (in US$ terms) better than some other ASEAN counterparts due to its composition of the export basket (less commodity centric). Moreover, Thailands manufactured exporters have been competitive and their global market share has been increasing.
39
Thailand: Exogenous Tightening from Rising US Real Rates to Constrain Domestic Demand Where Excesses Have Built Up
Drifting Into CAD
20% 15% 10%
130% 160% 150% 140%
5% 0% -5% -10%
-15% Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13
70% 60% 2013 latest 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Current acct balance (Monthly annualised, % of GDP) Current acct balance (3M trailing sum, annualised % of GDP)
However, it is a less straightforward picture on the domestic demand front. as Thailand is next most vulnerable after Indonesia to the exogenous tightening effects from expected QE taper & rising real rates (See Thailand Economics: After Indonesia & India, Who Next To Watch For Risks, July 19th). Strong capital inflows as evident in the rise in foreign ownership of government bonds have helped to keep real interest rate low despite its deteriorating current account balance, strong credit growth and rising LDR. This has likely helped to further sustain the credit growth cycle amid government stimulus programs and bolstered GDP momentum.
40
Thailand: Exogenous Tightening from Rising US Real Rates to Constrain Domestic Demand Where Excesses Have Built Up
Leverage Has Picked Up In Both Households & NonHouseholds
140% 120% 100%
110
% of GDP
80% 60% 40% 20% 0% 2 0 1 3 la te s t 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
100 90 80 70 60 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Indonesia - Loan to deposit ratio Malaysia - Loan to deposit ratio Thailand - Loan to deposit + bills of exchange ratio Thailand - Loans to deposit + bills of exchange ratio (excluding interbank) Singapore - Loan to deposit ratio (DBU)
Low real rates have supported strong credit growth & rising LDR: Indeed, leverage as evident in bank credit penetration (% of GDP) has been increasing at ~8% of GDP each year in the period 2007-2012, driven by both households and non-households segments. Indeed, bank leverage for both households and non-households in Thailand, adjusted for GDP per capita, are higher than the regional trend average and LDR ratios has been rising and are in elevated territory.
41
Thailand: Exogenous Tightening from Rising US Real Rates to Constrain Domestic Demand Where Excesses Have Built Up
Capital Flows Unwinding
2.5 2.0 1.5 1.0 0.5 0.0 -0.5 -1.0 -1.5 -2.0 Thailand monthly net foreign bond buying (US$bn) (LS) Thailand Foreign ownership of govt bonds (%) (RS)
20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0%
4 3 2 1 0 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13
M a r-0 3 S e p -0 3 M a r-0 4 S e p -0 4 M a r-0 5 S e p -0 5 M a r-0 6 S e p -0 6 M a r-0 7 S e p -0 7 M a r-0 8 S e p -0 8 M a r-0 9 S e p -0 9 M a r-1 0 S e p -1 0 M a r-1 1 S e p -1 1 M a r-1 2 S e p -1 2 M a r-1 3 S e p -1 3
Unwinding of overeasy Fed policy impose exogenous tightening effects: Now however, capital flows are unwinding. Foreign ownership of government bonds has fallen from 17.7% of outstanding in April-13 to 16.7% in July amid US$2.7bn of outflows. Given that Thailand is likely to see current account deficits for 2013/2014/2015 at -0.9%/-0.5%/-0.9% of GDP, reflecting a lack of excess savings in the system, we believe the economy looks vulnerable to the exogenous tightening inflicted by the rise in real rates in US and this is likely to constrain how quickly domestic demand could pick up despite the export growth support. As it is, elevated LDR ratios already means that the recent policy rate cuts have seen limited pass-through to lending and deposit rates.
42
Thailand: Growth Alpha from Fiscal Policy Also Faces Headwinds from Exogenous Tightening
Bht2trn Infrastructure Plan: Expected Disbursement
450 400 350
308
Bht bn
Expected disbursement
381 386 356
60%
55%
300
50%
250 200
154
228 187
45%
150 100 50 0 2013 2014 2015 2016 2017 2018 2019 2020
40%
35%
30%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Public debt ratio (% of GDP)
Source: CEIC & Morgan Stanley Research
Public infrastructure investment delayed till 2014: With the Bht2trn infrastructure funding bill still in Parliament and the water infrastructure projects still needing environmental and health impact assessment before they can proceed, implementation of public investment projects is further pushed back into 2014. This pick-up in non-budgetary expenditure would be offset to a certain extent by a smaller budget deficit of Rp250bn for FY2013/2014 (vs Rp300bn for FY2012/2013. Net-net, we are expecting public investment projects to lend a growth stimulus to the tune of ~0.6%-pt to 2014 GDP growth, assuming a 50% implementation rate of infrastructure projects.
On the fiscal front, we believe the exogenous tightening from a less easy Fed policy could also put a lid on how aggressive policymakers can be with its fiscal stimulus as this could further weaken the current account which is already in deficit territory. This would mean that policymakers would have to tap external funding which would likely come at a higher interest cost or face a further tightening of domestic liquidity conditions and a crowding out of private investment.
43
Thailand: Growth Alpha from Fiscal Policy Also Faces Headwinds from Exogenous Tightening
Rice Mortgage Scheme: Counting The Costs
3.5% 3.2% 3.0% Special Financial Institutions (SFIs) guaranteed debt (% of GDP)
70 60 50
1.0%
40 30 20 1950 1960 1970 1980 1990 2000 2010 2020 2030 2040
2008 2009 2010 2011 2012
0.5%
0.0%
A need to manage fiscal resources efficiently: We would also note that with elections due by July 2015, any policy preference to fall back on quick-and-easy consumption-type fiscal measures rather than investment-type of spending in 2014 would also risk worsening fiscal burden and current account without any commensurate growth or productivity returns in future. Indeed, we believe that the following factors of: (a) ageing demography and likely higher social/healthcare expenditure going forward; (b) reduced tax revenue base given recent corporate/personal income tax cuts; (c) legacy of populist policy measures such as rice mortgage scheme and; (d) current account deficits reflecting a lack of excess savings in the system, point to an increasing need for policymakers to manage its fiscal mix more efficiently.
44
2005 1,751 2,774 286 5.7 4.0 6.6 12.4 10.9 16.6 17.8 6.3 5.8 12.75 10.5 15.2 87 69 18 -17 0.1 5.3 0.0 34.7 6.0 9,705 9,857 45.9 -0.5 47.3
2006 1,847 3,339 364 5.5 3.2 9.6 1.3 2.6 9.4 8.6 3.2 3.6 9.75 13.1 14.1 104 74 30 -19 3.0 2.2 2.7 42.6 6.9 9,164 9,087 36.3 -0.9 39.0
2007 1,964 3,951 432 6.3 5.0 3.9 1.9 9.3 8.5 9.1 4.1 6.0 8.00 6.4 13.8 118 85 33 -22 2.4 2.3 3.0 56.9 8.0 9,139 9,334 32.7 -1.3 35.2
2008 2,082 4,949 511 6.0 5.3 10.4 12.4 11.9 9.5 10.0 7.6 7.5 9.25 9.8 25.7 140 117 23 -23 0.0 3.4 -2.1 51.6 5.3 9,692 11,325 30.6 -0.1 33.1
2009 2,179 5,606 539 4.6 4.9 15.7 2.4 3.3 -9.7 -15.0 5.2 5.4 6.50 4.8 -0.6 120 89 31 -20 2.0 2.6 4.8 66.1 8.9 10,408 9,457 31.9 -1.6 28.4
2010 2,314 6,447 709 6.2 4.7 0.3 8.8 8.5 15.3 17.3 5.4 5.3 6.50 5.1 4.8 158 127 31 -25 0.7 11.1 26.6 96.2 9.1 9,087 9,023 28.5 -0.7 26.0
2011 2,465 7,423 846 6.5 4.7 3.2 10.5 8.8 13.6 13.3 6.1 5.7 6.00 5.4 7.5 201 166 35 -33 0.2 11.5 13.5 110.1 8.0 8,776 9,088 26.6 -1.1 24.4
2012 2,618 8,242 878 6.2 5.3 1.2 16.9 9.8 2.0 6.6 8.2 6.2 5.75 4.3 5.1 188 180 8 -33 -2.8 14.4 24.9 112.8 7.5 9,384 9,646 28.7 -2.2 24.2
2013E 2,766 8,926 881 5.6 4.9 2.9 3.3 4.5 4.8 0.7 4.2 4.6 7.75 7.3 na 183 182 1 -34 -3.7 na na na na 10,384 11,400 na -2.2 na
2014E 2,908 9,667 867 5.1 4.2 4.0 2.2 3.4 6.3 2.8 3.6 3.9 7.75 7.6 na 192 182 9 -31 -2.5 na na na na 11900 12200 na -1.5 na
2015E 3,068 10,440 926 5.5 4.6 4.0 7.5 6.3 6.5 6.5 5.4 5.0 7.75 6.5 na 204 194 10 -33 -2.5 na na na na --na -1.5 na
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Source: CEIC & Morgan Stanley Research E = Morgan Stanley Research estimates
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Real GDP (%YoY) Global Bull Base Bear Indonesia Bull Base Bear Malaysia Bull Base Bear Singapore Bull Base Bear Thailand Bull Base Bear
2012
3.2
Inflation (%YoY) Global Bull Base Bear Indonesia Bull Base Bear Malaysia Bull Base Bear Singapore Bull Base Bear Thailand Bull Base Bear
2012
3.3
6.2
4.3
5.6
1.7
1.3
4.6
6.5
3.0
49
5.75
3.00
0.38
2.75
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