All of Asia
feeling China's 'new normal'
China is facing risk of deflation,
and the destructive cycle of declining
prices is starting to spread all over
the Asia-Pacific region.
After the bankruptcy of Lehman
Brothers Holdings in 2008, China introduced bold pump-priming measures and
rapidly increased its imports of raw materials. Its neighbors rode through the
economic crisis by boosting exports to China. However, since last year, slowing
demand in China has been putting these countries on the verge of deflation. In
China, excessive supplies have held down prices of industrial products, and
imports have been falling sharply due to prolonged production adjustments.
Speaking at the opening of the annual
National People's Congress on March 5, Chinese Premier Li Keqiang reported on
the government's activities and acknowledged slowing growth by stating that the
Chinese economy entered a "new normal." He also said the country
would aim to expand its economy in real terms by about 7% in 2015. The new
target is lower than the actual growth of 7.7% in 2013 and 7.4% in 2014,
underscoring that the era of China's double-digit growth is now a thing of the
past. China's imports by value inched up by 0.4% on the year in 2014, marking
the lowest growth since 2010. The downtrend continued in 2015, with the January
and February figures down by 19.9% and 20.5% on the year, respectively. What
China calls the new normal is thus starting to have serious effects on the
economies of its neighbors.
The town of Sepang, in the central
Malaysian state of Selangor, is surrounded by palm plantations. Drive on any
street in the area for half an hour, and you still find yourself amid palm
plantations with trees more than 5 meters tall. When this writer visited a palm
farm recently, I saw workers picking up fallen branches as if they had nothing
else to do. Loading of fruit onto trucks had been completed in about five
minutes. "I've been doing this job for more than 10 years, but right now
is the worst," said one worker. He had earned 2,500 ringgit ($678) a month
until three years ago, but his income has been declining steadily and now he
makes about 1,000 ringgit a month. Palm oil is one of Malaysia's main
industries, the backbone of its economy, but it has been hit hard by
significant cooling of demand.
Kelvin Lee is a palm fruit wholesaler
in the Sepang area who makes his living buying up palm fruit from
small and midsize farms and selling it to a local refinery. He used to own
seven trucks but sold two of them last year because of slumping demand. Two
years ago, he had no trouble selling 3,000 tons of fruit per month, but the
amount he handled continued to shrink until it was only 600 tons in January.
"I have heard exports are not going strong, and now I can't even go for a
drink," he said.
Palm oil is drawing attention as a
low-cost vegetable oil and production had been expanding in Malaysia and
Indonesia. One driving force behind the increased output was exports to China
and other emerging economies. However, demand in China, their largest customer,
has been falling sharply. In 2014, Malaysia exported 2.84 million tons of palm
oil to China, roughly three-quarters of the 3.7 million tons the previous
year. In Malaysia's crude palm oil futures market, a global pricing benchmark
for palm oil, the price sank below 2,000 ringgit per ton in 2014, less than
half the level in 2011. In contrast, the planted area of palm trees totaled 5.4
million hectares at the end of 2014, an increase of 400,000 hectares compared with
the end of 2011. Hoping to cash in on strong demand in China, farmers increased
their capacity, but the move backfired.
A car dealership in Kota Kinabalu, a
city in eastern Malaysia that relies heavily on the palm oil industry, saw its
sales volume of cars fall by about 20% from a year earlier. The manager of
the dealership said, "The business will be tough again this year unless
palm oil demand makes a recovery."
About halfway into 2014, Malaysia's exports
to China started shifting from year-on-year growth to year-on-year decline. Its
overall exports in January were down by 0.6% on the year but its exports to
China appear to have fallen much more sharply, by more than 20%. The more
heavily countries rely on exports for their economic growth and the higher the
percentage of their exports to China, the greater the effects they experience
when those exports drop sharply. Some Asian countries, such as South Korea, Malaysia
and Thailand, are more vulnerable than others, but Australia is also in dire
straits, since more than 30% of its exports are to China.
Dark times for
coal
Queensland, in eastern Australia, is known for its
production of coal. Moranbah is a large mining town north of Brisbane, the
capital of Queensland, but in recent years it has lost its vigor due to
sluggish exports of coal to China. At the Drovers Rest Motel, a two-story
wooden hotel in the center of the town, the lights in the guest rooms are rarely
turned on now, as there are so few guests. Evan Hartley, who has run the place
for 14 years, said business has been so slow lately that he was waiting for the
hotel to be seized by the bank.
When the Drovers Rest Motel opened in
the early 2000s, Moranbah was a bustling town, thriving on the brisk exports of
natural resources to China and other countries. High-wage workers were eager to
spend their money there, which boosted housing prices -- up to 1 million
Australian dollars ($763,009 at current rates) for a typical home. But the
situation has changed completely since the Chinese economy began to sputter in
2013. Many companies have frozen hiring, halting the rise in wages. Anne Baker,
the mayor of the Isaac Regional Council, which oversees the region including
Moranbah, expressed a sense of urgency, stating that many areas are now faced
with an unemployment problem. Consumer spending driven by exports to China has
lost steam quickly and housing prices have plunged to the A$200,000 to
A$300,000 range.
Deflationary pressure is not limited
to natural resources and products. If corporate earnings deteriorate due to a
sharp drop in exports to China, companies have no choice but to reduce hiring
and wages. In that case, consumer spending will shrink further and prices of
consumer goods will decline as well. South Korea, whose economy is propelled by
the manufacturing industry, is now on the verge of falling into this vicious
circle. Its exports to China, including Hong Kong, slid by 0.6% on the year to
$172.6 billion in 2014.
China is South Korea's biggest
trading partner, with its exports to China accounting for about 30% of the
total by value. Because of sluggish demand in China, prices of South Korean
products took a tumble, and as a result major petrochemical companies LG Chem
and Lotte Chemical reported double-digit year-on-year declines in their
operating profits for the year ended December 2014. South Korea's leading
shipbuilder, Hyundai Heavy Industries, posted its largest operating loss in the
year through December 2014, and is fighting a legal battle with its labor
union, which is demanding wage increases.
South Korean companies have been
working hard to squeeze out a profit by adjusting their workforce, and consequently
the number of nonpermanent employees in the country topped the 6 million mark
for the first time in August last year. It means that more than 30% of all
workers in South Korea are now nonpermanent employees, and this is why
consumers are keeping a tight hold on their purse strings. Lotte Department
Store, a major South Korean retailer, is shifting its focus to the opening of
outlet malls that sell off its remaining inventory from the opening of new
department stores because high-end products, which department stores were good
at selling, are not faring well now. In 2014, it opened three stores but all of
them are outlet malls. South Korea's consumer price index went up by 0.5% year
on year in February, marking the lowest level of growth since the Asian
currency crisis in the late 1990s.
Ripple effect
The downward pressure on prices that started with
weakening demand in China is spreading quickly around the Asia-Pacific
region. China's wholesale price index for February was down by 4.8% on the year,
with the size of the fall growing for the seventh straight month. The country's
consumer price index has not sunk below the previous year's level yet but has
been hovering at an increase of about 1%. Meanwhile, Malaysia's producer price
index for January declined by 4.8% from a year before, and Thailand's consumer
price index has fallen for the second consecutive month since the start of
2015. If nothing is done about the current situation, disinflation -- a slowing
in the rate of increase of general price levels -- might turn into full-blown
deflation, with persistent declines in general prices.
To head off deflation, central banks
in the Asia-Pacific region have started to take action. On March 11, the Bank
of Thailand cut its benchmark interest rate, the one-day bond repurchase rate,
by a quarter of a percentage point to 1.75%. On March 12, the Bank of Korea,
South Korea's central bank, reduced its key interest rate by a quarter of a
percentage point to an all-time low of 1.75%. The Reserve Bank of Australia
made a similar move earlier this year, reducing its key interest rate by 25
basis points to a record low of 2.25% on Feb. 3. However, it would be extremely
difficult to stimulate domestic demand and push up prices with these key
interest rate cuts alone, as Japan's nearly two-decade struggle with deflation
clearly demonstrates.
After the collapse of Lehman
Brothers, many countries experienced economic downturns, but robust demand in
China eased the pain somewhat. But now, there is no sign of an emerging economy
that could take over the role of China and create strong demand. Countries in
the Asia-Pacific region therefore need to find a way to generate demand by
themselves, without relying on China.
"Southeast Asia has remained
dependent primarily on export demand and lacked potential to shift to a
domestic demand-driven economy," noted Takamoto Suzuki, a senior economist
and expert on economic relations between China and Southeast Asia at Marubeni
Research Institute. "The region has also depended on foreign companies for
innovation and waited for money to pour in from outside. Exporters in the
region used to depend on the U.S. and are now reliant on China. They are paying
the price for such tendencies."
India might be the first alternative
to come to mind, but the government there may be limited in its ability to act,
despite Prime Minister Narendra Modi's promises of stronger public investment.
"People may have become overly optimistic about such a prospect,"
Suzuki said. "India is a democracy and does not have the power to
steamroll investment projects as China, which is controlled by the Communist
Party, did by spending 4 trillion yuan ($639 billion) to stimulate its
economy."
Resorting to makeshift solutions,
such as economic stimulus measures that could snowball budget deficits and
consumer debt, would only create new risks. In other words, there is no
silver bullet to solving the problem at hand. What the countries in the
Asia-Pacific region could do is continue to make small but steady efforts to
create demand while clearing away obstacles in trade and investments and making
sure not to discourage economic activities in any way. If they become caught up
in a deflationary spiral as Japan has experienced, there will be no more
economic miracles happening in Asia for a long time.
Countries in the region also face
political risks from deflationary pressure as prices of natural resources such
as palm oil and natural rubber head downward. In Thailand, farmers, who
constitute half of the population, have played a central role in political
unrest. In Indonesia, coal mine workers are protesting layoffs. The downsizing
of the coal mining workforce is sure to continue amid the dullness of coal
exports in Indonesia, and it could be a trigger of social unrest.
WATARU YOSHIDA, Nikkei staff writerNikkei staff
writers Kaori Takahashi, Koichi Kato, Yuji Kuronuma and Yosuke Sato contributed
to the stories.
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