East Asian economies not yet independent of US

The Straits Times

IN THE past few months, much space has been devoted to the issue of whether East Asian economies have 'decoupled' from the United States.

The naive version of the decoupling hypothesis postulates that the East Asian growth cycle is now less dependent on the US. Proponents of this view argue that East Asian nations are increasingly trading with each other and less with the US.

Sceptics concede that the US market now accounts for only about 10 per cent of East Asia's total exports and that regional trade between these countries stands at 56 per cent of their total trade. But they also say much of the regional trade is in parts and components for processing activities of the global production networks centred on China. Asian manufacturers still rely heavily on US consumers to buy their products.

Those who question that idea may cite an Asian Development Bank study showing that final demand in China, the biggest home for regional exports, accounted for only 6.4 per cent of total East Asian trade in 2005, or slightly less than a quarter of the American contribution.

The decoupling hypothesis has attracted attention mainly because, if it had taken place, East Asia could brush off any adverse effects of the US economic slowdown brought on by the subprime mortgage crisis and the softening of the American housing market.

Another reason why this hypothesis is relevant is that decoupling supports regionalism, while lack of it favours global efforts and actions. Market analysts have missed this important point in their debate as they focus on the North American liquidity crisis that is now reverberating globally.

East Asia's outward-oriented development strategies of the past four decades contributed to the region's economic dynamism and global integration in tandem with regional integration.

The Asian financial crisis of 1997-98 was a watershed because, since then, market-led regional integration has also been supported by formal policy efforts to promote regionalism. These include efforts to promote economic review and policy dialogue, establish a regional financing mechanism, coordinate macroeconomic policies as well as develop regional local-currency bond markets under the auspices of Asean, Asean Plus Three and the East Asia Summit.

If these efforts have led to closer co-movements of output among East Asian countries, the case for further enhancing integration would have increased. What does the evidence show?

On 'financial decoupling', the answer is a definite 'no'. East Asian financial markets are well integrated with those in the US. For example, equity markets in the region have trended down since the middle of October, reflecting bourses in the US.

On growth cycles too, the answer is similar. In a recent paper of mine, I found that correlation coefficients of GDP among East Asian countries (including Japan), using 10-year rolling windows, increased significantly after the 1997-98 financial crisis. This means that increased regional trade in parts and components has led to closer output co-movements within East Asia.

I also found that although the co-movement of East Asian GDP with the US has started to decrease, the US is still an important source of demand for East Asian final products. Decoupling will require some more time.

The evidence of increased synchronisation of business cycles in East Asia, however, suggests the region is poised for deeper economic integration. This is because symmetric shocks are expected to prevail, enhancing the case for coordination and cooperation. The cost of giving up autonomy over monetary policy will also be reduced.

The adoption of the Asean Charter and the blueprint for the formation of an Asean Economic Community by 2015 at the recent Asean Summit in Singapore are certainly steps in the right direction. The charter seeks to make integration more rules-based.

However, efforts must be made to have it ratified quickly. Expectations have been raised on matters such as decision-making, the pace of integration, strengthening the secretariat and the role of the secretary-general as well as dispute settlement. More action needs to be taken.

The proposal to establish an economic community by 2015 is also appropriate, but progress must be monitored and actions accelerated. The on-going effort by the Asean Plus Three finance ministers to strengthen their economic review and policy dialogues, to multilateralise the Chiang Mai Initiative and eventually establish a centralised reserve pool and to develop local-currency bond markets are welcome steps.

There should be efforts to coordinate exchange rate policies using a currency basket like an Asian Currency Unit.

The approach must be flexible. In the area of trade, the region has witnessed a proliferation of free-trade agreements even as the Doha Round continues to stall.

There must also be efforts to make free-trade agreements the stepping stones – and not stumbling blocks – to multilateralism by harmonising rules of origin.

Further down the road, efforts to deepen East Asian integration, together with rapid economic growth, could eventually lead to the decoupling of East Asia from the US.

But not yet. For now, increasing macroeconomic interdependence within the region has enhanced the case for deeper economic integration.

The writer is a senior fellow at the Nanyang Technological University and a former senior adviser at the Asian Development Bank's Office for Regional Economic Integration.