07.11.2012

Investment Advisor: CIMB-Principal Asset Management Berhad

(November 2012)

 

ASEAN economies have traditionally been relatively dependent on exports, but with the global economy still very sluggish, is there enough domestic demand to keep local economies growing healthily?

Despite the perception that the ASEAN region is traditionally export dependent, the reality is that domestic demand has played a much greater role in boosting growth in recent quarters, not just in the larger, more closed economies like Indonesia, but even in traditionally more export oriented economies like Thailand and Malaysia. Part of this of course reflects the lagged impact of commodity price increases on rural incomes, but even Singapore, the most open, also saw domestic demand contribute more to growth in 1H2012 than a year ago.

Besides a generally accommodating monetary policy stance, there are a few broad factors to suggest that domestic demand in ASEAN should stay quite resilient in the coming quarters. First, labour markets remain tight in many countries despite the slowdown in exports, which may help to cushion the hit to rural incomes from lower commodity prices. This in turn has helped to prop up consumer confidence in many countries, such as the Philippines, Thailand and Indonesia. There are many reasons for this, including immigration tightening in Singapore, and additional sources of demand for labour in Malaysia from new industries/projects/investments.

Second, fiscal and other policy measures could also provide fundamental support in the near term. In Malaysia, for example, we have civil servant bonuses, fiscal transfers for low income households in the recent Budget, as well as income tax cuts for the middle class, and every MYR1bn (0.1% of nominal GDP) of fiscal spending leads to a 0.2% rise in real GDP. Wages in both Malaysia and Thailand are set to benefit from hikes in minimum wages, which should help consumption. In Malaysia, Thailand and the Phillipines, fiscal or quasi fiscal (in the case of Malaysia) spending on infrastructure and rebuilding should keep investment spending well supported and cushioned against a slowdown in manufacturing FDI.

And finally, inflation data points have been generally benign, which will help consumer confidence and leave more discretionary income for consumption.

 

Has economic policy in the region changed in light of the on-going financial crisis and if so, in what way?

Given the expected global slowdown in 2013 as a result of the Eurozone crisis and a slowdown in the Chinese economy, many central banks in the region have gone on the defensive and have cut lending rates in an attempt to bolster their domestic economies. Thailand recently cut its benchmark interest rate in response to weakening export data, which echoes comments made by the International Monetary Fund which said that policy makers have scope to ease monetary policy further and bolster growth should the outlook deteriorate.

 

Economic co-operation between countries in the region has been an explicit goal of governments for some years but what tangible progress has been made on this and what does it mean for investors?

Over the past 33 years, economic links between ASEAN members have grown tremendously. In the last decade, intra-ASEAN trade has grown faster than total ASEAN exports. ASEAN countries have all committed themselves to creating an ASEAN Free Trade Area, an ASEAN-wide manufacturing base, an ASEAN Investment area, and ultimately a single ASEAN integrated economy. The 1997 Asian financial crisis tested this commitment and found ASEAN to be committed in its programmes for economic integration. All this can only be good for investors in the longer term as an integrated Asean Economic Community (AEC) should allow for easier liberalisation and facilitation of investments into the region which would help make ASEAN countries more globally competitive.

 

Some experts have suggested there should be a full merger of ASEAN stock markets. Do you think this would be good for investors and is it something you think could happen in the medium-term future?

The crux of the problem is the lack of depth and global scale of the ASEAN markets when compared to their North Asian counterparts. While the equity markets of Malaysia and Singapore have respectable trading volumes, the domestic capitalization of Indonesia, Thailand and the Philippines still remains below GDP. Low turnover also adds to the problem. Regional integration would address this issue. But despite the benefits that it would bring for investors, we believe that the integration of ASEAN markets may not occur as quickly as some expect. Efforts in the past to create such a platform failed to materialize because it involved, for instance, differing national agendas and the difficulty in navigating through the myriad of regulatory obstacles. “Soft integration” approaches such as cross listings and establishing trading links have also proved difficult in generating higher volumes. Concerted long-term policy support will be needed from governments, regulatory bodies and central banks for a full merger of exchanges to be realised.

 

China has long been an important trade partner with the region, but Chinese companies are increasingly making investments in ASEAN markets. What does this mean for local economies and, subsequently, for local stocks?

China’s investment in Asia has been growing at double digit rates every year and between 2011 and 2012, China’s top six investment destinations in South-East Asia were Indonesia, Vietnam, the Philippines, Malaysia, Thailand and Singapore. Already the provider of more loans to developing countries than the World Bank, according to research by the Financial Times, China finances numerous agriculture, hydropower, housing, railway and mining projects in the region. While this creates job opportunities and provides an investment boost to the local economy, it also introduces an element of potential competition for domestic companies. An example of this can be seen in Anhui Conch’s entry into the Indonesian cement market. While jobs have been created, Anhui’s entry to tap the expected uptick in cement demand from Indonesia’s infrastructure spending has caused concern that competition will intensify between domestic producers and new foreign entrants.

 

With production costs in China rising, are international firms likely to start turning more to the ASEAN region to produce their goods instead?

As China progresses from a low-cost manufacturer dependent on exports to a service-oriented economy driven more by domestic demand, wages there are rising. Overall labour costs in China have increased by between 10-20% a year over the last few years and labour costs in some other Asian countries are as much as 30% lower than China. The trend of moving manufacturing and production facilities to the ASEAN region is not a new phenomenon and this can be seen in countries like Indonesia which has registered a steady inflow of foreign direct investment into the forestry, plantations, fishing, mining, textile and automobile sectors. Thailand and Malaysia are also seeing similar trends as companies look to lower, more cost-efficient production facilities.

 

Are there any economic or market reforms you would feel governments in the region need to implement as soon as possible to improve the investment environment? What are the chances that such reforms will be carried out?

Governments in the region have been generally quite proactive in encouraging foreign direct investment into their respective economies in recent years, but more probably needs to be done in terms of reducing the extent of government controls over the various aspects of the domestic economy, increasing the role of the private sector and re-directing scarce public sector resources to areas where the private sector is unlikely to enter. Given the prospects of lacklustre global growth, we are optimistic that ASEAN economies will pursue more active reforms to continue attracting more investment into the region.

 

How do you see the prospects for South-East Asia’s economies and markets over the next six months?

We remain cautiously optimistic on ASEAN economies going forward, given the uncertainty around the unresolved issues in Europe and prospects of a slower growth environment. Within the ASEAN region, growth drivers like resilient domestic consumption and infrastructure-led spending should underpin continued growth visibility as we go into 2013. Although Asia is unlikely to avoid a concerted global slowdown, we believe that ASEAN economies may fare better in comparison with other Asian nations given their relative lower reliance on exports as a percentage of GDP.

 

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