At the start of 2021, UOB's outlook for the regional economic recovery from the Covid-19 pandemic hinged on three things -- the wide availability of vaccines, aggressive fiscal stimulus and accommodative monetary policies.
As the world approaches a third year in the prolonged battle with the coronavirus, many are hopeful that things will start returning to normal. Economies and borders are reopening as a necessary step for the world to live with the virus. However, the reopening will also bring with it a set of risks for businesses to consider.
Uneven recovery: This year, vaccines have been working their magic as Covid-related death rates have fallen, economies and borders have reopened and activities in the developed world have picked up. As Asian vaccination rates speed up, there is further optimism about a return to some form of economic normalcy.
However, the recovery will be uneven as access to vaccines remains skewed to wealthier nations. As of Nov 18, 52.3% of the world's population had received one dose of a Covid vaccine, but the number drops to less than 5% of low-income individuals, according to Our World in Data.
New coronavirus variants: Beyond vaccine availability, the struggle to contain the pandemic is far from over given the potential of more transmissible and potentially more deadly variants emerging. The Delta variant has become so widespread that it is now the dominant strain in many countries that previously had the virus under control.
China and the US are still expected to lead the growth recovery from the pandemic, even as the Delta variant drags down their previously rosy forecasts. In addition, the US, which was a front-runner in the race to fully vaccinate its population, has seen its vaccination rate stagnate significantly in recent months. Many Asian economies, with exceptions such as Singapore and Taiwan, have also had their GDP growth forecasts downgraded, with Delta the main culprit.
Higher inflation: One of the most pressing challenges this year has been managing inflation risk. As consumption demand recovers, prices of goods and services are expected to rise. Recent increases in commodity prices, including oil prices, have also been a trigger. With an exceptionally sharp demand in recovery, prices will jump even more acutely.
The US and the European Union (EU) have led the world in reopening their economies and inflation in the US now exceeds 5%, while price increases in the EU are hovering at about 3%, well above their respective historical averages.
Is this inflation transitory or is it here to stay? The upside price pressures related to the US economic reopening started to ease in August, but lingering supply chain bottlenecks may still keep some inflationary pressure intact before tapering off next year.
While we think this bout of inflation is not here to stay, prices may remain high in the coming months as supply chain issues get resolved. That said, more people are beginning to think that this inflation will turn out to be more permanent. On the flipside, Asian economies that are still grappling with reopening are continuing to experience lower inflation.
Among the G7 economies, Japan is still enduring deflation as it tries to contain its fourth Covid wave. And in China, the consumer price index (CPI) is up just 0.6% so far in 2021, a quarter of the pace seen in 2020. UOB has revised its China CPI forecast for the year to 0.8%, down from 1.1%.
Monetary policy normalisation: Accommodative monetary policies cannot go on forever and more central banks are planning or carrying out their first interest rate increase in years. While the US Federal Reserve might not raise its policy rate until the second half of next year, it will start reducing its bond buying programme this month, a process expected to be completed by July 2022.
In comparison, Asean central banks may need to prolong their accommodative monetary policies as countries continue to grapple with the pandemic and vaccine availability.
Capital outflows: The policy divergence between the Fed and Asean central banks may drive capital out of the region, similar to what happened in 2013 when the Fed last began tapering a big asset-purchase programme.
Our analysis of selected Asian emerging economies shows that they are relatively more resilient now compared with 2013. They are also in a better position to withstand any potential capital pullout.
Geopolitical developments: There have been several developments in the US, including Senate approval of a US$1-trillion infrastructure bill, and President Joe Biden's continuing battle to win approval of a hugely ambitious $3.5-trillion social programme spending bill. The federal debt ceiling, meanwhile, will need attention again before mid-December.
We expect the issues to be resolved as the Democrats have control of the Congress and the White House. The real political challenge could come later next year if the Republicans seize control of the House and the Senate in the midterm elections in November.
US-China tensions also could affect businesses. Relations between the two countries continued to worsen, especially after the US, the UK and Australia announced the formation of a new security pact called Aukus, to counter China. Elsewhere, Germany is due to pick a new chancellor to succeed Angel Merkel.
In China, financial markets will remain volatile in the near term as investors are spooked by uncertainties surrounding the debt-laden property developer Evergrande teetering on the brink of collapse, and tougher regulatory scrutiny of various sectors. However, the long-term prognosis for President Xi Jinping's "common prosperity" policy is likely to be beneficial for the broader economy.
While there are no indications at this point that Evergrande will be bailed out, the Chinese government has sufficient motivation and resources to avert a systemic crisis. This would also avoid risks to social and financial stability, ahead of the Winter Olympics in February.
In view of the macro uncertainties, businesses should be prudent in their borrowing and manage their cash flow wisely in case of any unexpected delays in the recovery. We recommend businesses explore hedging against commodity price risk and interest rate volatility, as well as diversifying into other markets to avoid concentration risk from an over-reliance on a single market.
Andy Cheah is the country head of wholesale banking with UOB Thailand.