Falling Oil Prices Raise the Importance of Economic Reform for APAC

February 7, 2015

Lower oil prices will support a stronger economic outlook for the Asia Pacific region in 2015 but raise the risk of slumping growth in future years if governments do not take the opportunity to streamline and reform their economies.

 

Cheaper Oil to Weaken Inflation, Support Consumer Demand, Loosen Monetary Policy 

 

In 2015, lower oil prices will dampen inflationary pressure, ease trade balances, put more money into consumer’s pockets and reduce the burden of fuel subsidies for many governments across the region. 

 

The downtrend in oil prices and the weakening inflation outlook has already prompted governments across the region to both ease monetary policy and reduce fuel subsidies. China, Australia, South Korea, Singapore and India have all eased monetary policy in recent months. Indonesia, Malaysia, China, India have either cut subsidies on fuel or raised fuel consumption taxes, which will reduce government spending and help discipline demand.  

 

Large Oil Importers India, Pakistan, Indonesia, Philippines and China to Benefit 

 

Large oil importers in the Asia Pacific region have the most to gain from lower oil prices. Oil accounts for a significant share of total imports in India (42%), Pakistan (37%), Indonesia (23%), Philippines (20%), Sri Lanka (18%) and China (16%), according to World Bank statistics. Lower import bills will boost trade surpluses and foreign exchange reserves in the region, which will boost resilience to capital outflows when, as expected, the Federal Reserve raises interest rates in H2 2014.

 

Singapore and Hong Kong to See Significant Cuts in Energy Spends

 

Where oil counts as a major part of total energy consumption, lower prices will deliver significant cost savings that can be spent elsewhere by businesses and consumers and has the potential to raise growth by 0.1 to 0.5 percentage points, according to World Bank estimates. Singapore and Hong Kong stand to benefit most since oil accounts for between 60 to 80% of total energy consumption, with weaker prices also benefiting Japan, Thailand, Indonesia, Philippines and Vietnam, where oil accounts for between 40 and 50% of total energy consumption.

 

Weak CPI, Looser Monetary Policy May Worsen Build-Up of Debt

 

Undoubtedly, lower prices will benefit the short-term outlook but they may give rise to problems that will weigh on the longer term if loose monetary policy pushes debt burdens to unsustainable levels and a resurgence in inflation. 

 

Before the weakening in oil prices, government, corporate and household debt levels were already rising steadily in the region and further growth impetus looks likely in the future. This is problematic for a number of reasons: firstly, higher debt burdens present a risk if economic growth stutters and, secondly, it seems that increased debt is not being productively invested to deliver a stronger rate of economic growth - economies across the region have debts grow faster than GDP growth over the last 15 years, indicating that the effectiveness or return on investment of loose monetary has diminished.

 

Post 2015: Inflationary Pressure Back on the Horizon

 

Lots more money sloshing around in unreformed economic systems means inflationary pressure which, when added to an expected increase in commodity prices from late 2015, will contribute to a pick up in CPI across the region in 2016. 

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