THE BLOG
11/29/2011 04:59 pm ET | Updated Jan 28, 2012

Rebuilding May Begin

Inflation in Asia may have passed or reached its peak this cycle.

In its annual Financial Stability Review released on November 18, the Monetary Authority of Singapore said that while inflation rose for most Asian economies in the first half of the year, the worsening global economic outlook has helped contain inflationnary pressures in October.

"Inflation appears to have peaked in most Asian economies," the report added.

While six months ago, South Korea was struggling to keep inflation in check, the Bank of Korea kept interest rates frozen for a fifth straight month in November -- as Korean consumer inflation slowed to 3.9 percent in October from 5.3 percent in August.

Elsewhere in Indonesia, Southeast Asia's largest economy, inflation unexpectedly slowed in October, adding to the central bank's ability to cut interest rates further to boost economic growth.

Vietnam, which is the worst affected nation in Asia on the issue of inflation, too saw inflation slow down for the second month in succession in Oct.

Though the current crisis in Europe does have a bearing on the new figures from Asia, experts say neither the rise in inflation in Asia in the early part of the year nor the subsequent cooling off in Oct. is dependent entirely on the events in the Eurozone.

An International Monetary Fund (IMF) Working Paper ('Inflation Dynamics in Asia: Causes, Changes, and Spillovers from China' by Carolina Osorio and D. Filiz Unsal) revealed that more than 60 percent of inflation fluctuations in Asia have a domestic origin.

The contribution of domestic factors is more pronounced for economies that have large domestic demand bases (China, India, and Indonesia) and for those that are more advanced (Japan and Korea).

On the other hand, the Working Paper said, domestic factors account for a lower share of inflation fluctuations in ASEAN economies such as Malaysia and Thailand, which are relatively more open and exposed to global inflationary shocks.

Irrespective of the size of the economy, however, the most fundamental domestic demand of any growing economy is that of food.

According to Rabobank Groep NV, food makes up more than 30 percent of inflation indexes on average in Asia, compared with about 15 percent in Europe and less than 10 percent in the US.

Within Asia, home to 60 percent of the world population, food's weight in consumer-price indexes varies from about 45 percent in the Philippines and India, to more than 30 percent in China and about 10 percent in South Korea, Rabobank says.

In direct agreement with Rabobank's finding, the lowering of inflation in China in Oct was in tandem with the event of food costs in the Asian giant, where poor families spend half of their earning to eat, rose by 11.9 per cet in October, down from September's 13.4 percent.

The sensitivity of their economies to swings in meat and vegetable costs means emerging-market policy makers need to raise interest rates more to stem inflation when global agriculture prices soar.

It is particularly important from a political perspective too as no government can hope to rule a population that is not having enough to eat.

In its annual Asian Development Outlook report (2011), the Asian Development Bank (ADB) warned that inflation, especially if driven by food prices, could exacerbate inequality and lead to social tensions.

In Nepal, for instance, the report suggests that a 20 per cent food price inflation would cause the poverty ratio to rise by over four percentage points, increasing the poor population by more than one million, from the current figure of 6.7 million to 7.7 million.

A development of that nature would end up offering recruits for armed militias fighting against the nation on many fronts.

On the other hand, in China and India, sustained period of inflation presents the ruling establishments the risk of losing the support of the middle class, which may see the only reason of its support to the ruling establishments -- prosperity -- get washed away by inflation.

Apart from food, an array of factors affects economies in the region in a varied manner.

In Indonesia, government data show that gold jewelry was the biggest contributor to increase in consumer prices in August from the previous month.

Similarly, while gold and gold ornaments account for a mere 0.36 percent in India's main index, a 52 percent jump in prices in the category was enough to push up the inflation rate in August.

Japan and other Asian economies such as Singapore, Vietnam and Hong Kong did not witness because the metal is either absent from inflation baskets in those countries or jewelry has a limited effect.

Overall, a look back at the 2008 financial crisis shows that many Asian countries are in a better position to respond to another downward spiral now should the need arise. Even though inflation is running too hot for comfort across the region, it is lower now than it was in 2008 for economies like Indonesia and the Philippines.

Changyong Rhee, ADB's chief economist said, "Developing Asia, having shown resilience throughout the global recession, is now consolidating its recovery and rapid expansion in the region's two giants -- the People's Republic of China and India -- will continue to lift regional and global growth."

The Asian Development Outlook report (2011) said Asia, barring Japan, would grow by 7.8% in 2011 and 7.7% in 2012, down from 9% in 2010 when the region rebounded strongly from the global financial crisis.

Ironically, Anoop Singh, Director, Asia and Pacific Department, International Monetary Fund (IMF) said in his official blog: "If emerging Asia continues to grow rapidly, this may also lead to higher commodity prices, as demand from the region has become an important driver of many of these prices."

Clearly, there is neither a simple explanation for inflation in Asia, nor is there an easy fix for fighting it. But with Chinese manufacturing continuing to expand in October and Japan showing signs of coming out of the Tsunami shadow, the region can look forward to build upon the present cooling of inflation.

What should further encourage analysts is the fact that experts like Zhu Jianfang, a Beijing-based economist at Citic Securities, believe that food and global prices have peaked and the inflation figure in the region would only come down in future.