Thematic Report

1997: Asia Uncovered

by CLSA / Aug 18, 2016

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In 1997, CLSA economists outlined their vision for Asia’s economic growth in a report entitled Asia Uncovered. At a time when the bears were describing Asia as “approaching dusk” the CLSA economics team had a different view of Asia’s future, proclaiming that the ‘Asian growth story’ had yet to begin. The mainstream economic wisdom at the time was that in order to sustain growth, Asian economies must rely on exports. If exports slow, growth dies and investment funds must leave, or so they assumed. Characteristically, CLSA had an opposing view, claiming that “the funds would be leaving at just the point in history that economic forces are turning Asian countries to their most profitable market”.

In Asia Uncovered, CLSA economists highlighted how the ‘underground’ or informal economy was being overlooked in most Asian GDP forecasts, advising Asian policymakers to switch their growth model from export-led to endogenous. “We have to admit”, our chief economist warned, “that there will be a few fund manager coronaries along the way if Asia decides to take our preferred path”.

Notably, in the 1997 report, CLSA accurately forecast the Thai currency crisis that was about to trigger the Asian financial crisis. CLSA economists warned that fixed price policies such as the “quasi-fixed exchange rate system in Thailand” would inevitably lead to fatal rigidities.

Despite Thailand’s impending disaster, the 1997 economics team saw tremendous growth potential across Asia. They urged Asian policymakers to switch their growth model to domestic market extension, arguing that the existing strategy of “export-orientation” would open up economies to the vagaries of international demand swings and divert attention away from the easiest growth source; the internal market.

CLSA economists developed the idea of endogenous growth – where growth causes high savings and in itself is the driving force for more growth. It is not a simple concept and is widely rejected by the neo-classical mainstream stuck in their linear world.

The proposal to reduce reliance on export-led growth, which had worked well for a number of Asian economies prior to the Global Financial Crisis, has never been more relevant and constructive than it is today. Apart from a solid post-recession rebound in 2010, global trade performance has remained well below trend levels in recent years. Economists contend that this reflects a deep structural downshift in global trade. The slowdown in world trade highlights the need for Asian economies to shift away from an export-led growth model and to look for new growth drivers. In 1997, CLSA’s assertion to re-direct economic policy to the internal market, ‘the easiest growth source and most profitable market”, was sound advice.

Our early economists were convinced that Asia’s large ‘informal economy’ was likely growing faster than the domestic ‘formal sector’ which, in most economies, was “still characterised by government protection, over-regulation and vested interest oligopolies and monopolies”. In 1997, CLSA estimated the informal sector in Thailand to be as high as 70%. In recent years, with the help of digital platforms, we are witnessing the rise of the ‘sharing economy’. In 2016, the sharing economy can be considered an evolved and more organised form of the informal economy discussed in the 1997 report, which was largely fragmented and disorganised, especially when compared to some more recent models, eg. Uber and Airbnb.

When measuring the informal economy back in 1997, CLSA argued that economic statistics and employment surveys had likely underestimated growth and activity level in the overall economy. The issue of measurement is also extremely relevant today: official economic statistics do not capture transactions in ‘peer-to-peer’ businesses via online platforms. Statisticians are exploring how to track and measure the new ways that people consume and trade goods and services via online marketplaces and through social networks.

In 1997, CLSA’s economics team favoured China, India, Indonesia and the Philippines, on the basis of domestic-led growth providing economic resilience (though in effect, contagion impacts of the 1997-98 Asian crisis affected all of the Asian economies). A reasonable guesstimate, the report said, would add at least 40% onto existing GNP aggregates for informal economies in countries like Thailand, Indonesia, Philippines & China. Two-decades later, the domestic led economies are favoured over cyclical manufacturing models that are exposed to the global trade slump. Inward-looking economies will be most resilient to prolonged global demand weakness; favourable demographics will be an added advantage as long as they pursue appropriate policies, our 2016 economics team advises.

The most notable example of countries that are undertaking the transition from export-led growth to endogenous growth is China. CLSA’s 1997 economics team would agree with the current China government strategy of rebalancing toward a domestic and consumption-driven economy, despite that the transition is fraught with difficulties and uncertainty.

To conclude, we share CLSA’s five golden rules for investment in Asia as cited in the 1997 report:

Rule 1: The government is moving forward on liberalisation and deregulation policies. This is particularly important in the domestic sphere where the greatest potential lies. The Youngian thesis of growth begetting growth will take over as the market is extended. From this, the returns to investment will flow. Trade liberalisation policies are also good but may send a misleading signal if they are not supported by domestic deregulation. A combination of exogenous and endogenous growth stimulation is required.

Rule 2: The government is operating flexible, rule-based policies. Rules can and should be fuzzy, along with everything else. In the light of our (and the authorities’) ‘unknowledge’, flexibility is paramount. In a world increasingly characterised by global capital flows fixed price policies of one sort or another (especially the exchange rate), will inevitably lead to distortions and eventual policy breakdown. Moreover, the quality of data do not support rigid policy models.

Rule 3: The role of government in the economy is diminishing. This process can take a number of forms such as the move towards balanced budgets or surpluses, decreasing levels of public expenditure as a percentage of GDP, privatisation of government monopolies and a general trend towards market signals replacing government direction of resources. (It is this latter feature that has made us more positive on China over the last twelve months.)

Rule 4: Microeconomic evidence confirms macroeconomic data. Do bank loan growth data, retail sales, electricity sales, industry sales revenues and business survey evidence support official data releases? If not, believe the former and discard the latter. The uncertainty patches are smaller the more disaggregated and direct the data.

Rule 5: Think long term. Investing in developing economies cannot be about quarterly performance. The depth and industrial variety in these markets are just not there to support such a strategy. Understanding the trend in development and the emphasis of policy is paramount in emerging market investment. Identifying policy weakness yields good early warning signals but too much faith in flawed data results merely in violent market fluctuations as investors panic about nothing.

Please click here to view the original 1997 report.