East Asian economies will grow faster than initially estimated this year, adding pressure on central banks to tighten policy and allow currency flexibility to prevent asset bubbles, the World Bank said.
Developing East Asia, which excludes Japan, Hong Kong, Taiwan, South Korea, Singapore and the Indian subcontinent, will expand 6.7 percent this year, more than an April estimate of 5.3 percent, the Washington-based lender said its semi-annual report Wednesday. Growth may accelerate to 7.8 percent next year, it said.
Asian governments have pumped more than $950 billion into their economies after the global credit crunch cut demand for the region's cars and flat-panel televisions. Australia has begun raising interest rates, while central banks including India's and South Korea's have signaled a readiness to raise borrowing costs in the coming months.
"As growth recovers broadly and inflation pressures begin to materialize, monetary policy may need to be tightened sooner rather than later in East Asia," the World Bank said. "Exchange-rate flexibility will be critical in managing foreign-exchange inflows while keeping inflation and asset-price increases in check."
Policy makers are concerned that an appreciation in their exchange rates will stymie the potential recovery in exports and encourage capital inflows that may "bring instability to financial systems and exert further upward pressure on currencies," the World Bank said.
Asian nations also don't want their currencies to lose out to China's as the world's third-largest economy has prevented the yuan from appreciating since July 2008, after it advanced 21 percent against the dollar over the previous three years.
"Authorities in many East Asian countries are concerned about losing competitiveness against China should they allow their currencies to strengthen at a time when China has effectively re-pegged the renminbi to the weakening dollar since mid-2008," the World Bank said. "Some observers have suggested that if such concerns persist, countries in the region may consider intervening jointly to appreciate their currencies against the dollar."
Global capital flows are likely to recover from this year's lows as the world economy emerges from the deepest recession since the 1930s, according to the World Bank report. The global equity rally has added more than $17 trillion to the value of stocks since this year's low on March 9.
"East Asia may receive a larger share of these inflows because of a combination of investor expectations of stronger growth in the region than the rest of the world, the potential for currency appreciation and the growing liquidity and sophistication of the region's financial markets," the World Bank said.
Central banks around the region lowered interest rates and loosened other policy requirements to kick-start local consumer and business spending.
Housing prices in some Asian nations are rising, while the region's stock markets have surged in the past six months. As economies recover and banks extend more loans, some of the stimulus needs to be pulled back, the World Bank said.
Central banks may tighten policy by "removing some of the support for liquidity in domestic and foreign currencies, returning reserve requirements to pre-crisis levels and scaling back the scope for collateral eligible for accessing central bank facilities before hiking rates," it said.
China's economy will expand 8.4 percent this year, and the pace will accelerate to 8.7 percent in 2010, according to the report. Asia's second-largest economy still makes up most of the region's growth, the World Bank said.
"Take China out of the equation, and the rest of the region is recovering with less vigor," the lender said. "Even with solid growth in Indonesia and Vietnam, developing East Asia excluding China is projected to grow more slowly in 2009 than South Asia, the Middle East and North Africa, and only modestly faster than Sub-Saharan Africa."
Asian governments must maintain fiscal support to spur their economies as world export demand remains sluggish, the International Monetary Fund said last week. Some countries have more room than others in maintaining such stimulus, the World Bank said Wednesday.
"Governments are aware that fiscal and monetary stimulus alone cannot sustain domestic demand for an extended period of time," it said. That's "especially if investors are not reassured that the authorities will have viable exit strategies in place and will bring government debt to levels that will not jeopardize long-term debt sustainability."
High growth rates
Asia can maintain "high growth rates" by depending less on exports and boosting domestic demand, the World Bank said. Many nations had imitated strategies by Japan, Taiwan and South Korea of relying on export-led growth without regard to the distortions such policies caused, it said.
"Governments are realizing that more growth can be extracted from domestic demand if they ease or eliminate incentives that favor the quick buildup of export-led, investment-heavy manufacturing supported by undervalued exchange rates and suppressed domestic consumption and services," the lender said.