Is there an Asian bubble and are fears that it will burst justified?
Asian markets led the recovery out of the global financial crisis. They were in a far stronger position than developed markets, which were only just beginning the painful process of deleveraging.
Strong performance
By the end of 2010, according to Bloomberg, in sterling terms the FTSE All World Asia Pacific ex Japan Index had risen 114% from the low of March 2009. It outperformed both the FTSE 100 and the S&P 500, which registered gains of 67% and 66.6%, respectively.
Governments, corporates and consumers within the region were not overleveraged; Asia had experienced its own financial crisis in the late 1990s and was therefore in a much better position to weather the storm. Current account surpluses enabled governments across Asia to increase spending. Notably, China spent billions on improving its infrastructure.
The question now being asked is whether Asia has created a bubble. This is of concern, as bubbles tend to burst rather than deflate slowly. But all the signs show that China's economy is deflating, so this shouldn't be a worry.
Chinese deflation
Inflation in China has been a major issue, as food and fuel in developing markets are a much larger proportion of the average family's shopping basket. Food prices have been responsible for approximately 70% of the increase in China's Consumer Prices Index with short-term factors, such as natural disasters and disease, being the main contributors to the rise in food prices.
The likelihood is that inflation has peaked. Much of the tightening has been directed towards the property sector, so residential price growth has slowed considerably, especially in the first-tier cities, which experienced the fastest growth. Wage growth is now outpacing property price rises and should eventually make properties more affordable. In addition the authorities have launched a low-cost housing project to build ten million homes in 2011.
Non-performing loans are on the increase but, if in the future the banks look vulnerable, the authorities are likely to step in and help the financial sector as they have done in the past.
Slowdown inevitable
It is important to remember that China is a command economy, which can quickly switch its policy stance and ease restrictions. Urbanisation will continue to be a major driver of economic growth for the foreseeable future. But, at some point, China will go through a painful contraction process – although this is unlikely to be imminent.
Even though economic growth across Asia is expected to outpace the pedestrian levels forecast for the developed world, if another global financial crisis were to occur the emerging markets would not escape unscathed. Instead, a flight to liquidity (the sale of less liquid or more risky investments) is likely, as in 2009, offering investors a prime opportunity to buy Asian equities.
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