Asia expected to experience changing trade patterns and huge expansion of consumption by growing middleclass

Hong Kong, 5 April 2012 — Rapid Growth Markets (RGMs) are expected to grow collectively at 5.3% this year, bouncing back to 6.3 % in 2013, according to Ernst & Young’s quarterly Rapid Growth Markets Forecast (RGMF) released today. Asia-Pacific RGM star performers in 2013 are expected to be India (+8.5%), China and Hong Kong (+8.6%) and Vietnam (+7.1%)

Rain Newton-Smith, Senior Economic Adviser to Ernst & Young’s Rapid Growth Markets Forecast explains, “RGMs are proving resilient in the face of the twin impacts of the Eurozone recession and continued tensions in the Middle East. Although not all RGMs are enjoying equally solid growth prospects, they are still offering good opportunities to companies and investors across a wide range of sectors.”

Gerard Dalbosco, Managing Partner, Markets, Asia Pacific at Ernst & Young comments, “Growth prospects in RGMs remain strong but in positioning themselves, companies may have to examine a greater number of variables than in the past, encompassing transport and information and communication technology (ICT) infrastructures; wage and other production costs; trade liberalization policies; currencies management; technology transfers; investment and manufacturing partnerships; merger and acquisition opportunities; the quality of financial services and government procurement policies.”

Asia’s changing trade patterns

Strong growth in trade has contributed to the emergence of many RGMs. The share of advanced economies in global trade is set to fall from over 80% in the 1990s to 55% by 2020, according to the report. By 2020, China will become Europe’s most important trade partner, far outpacing the US, with Chinese exports to Europe climbing above US$1t, twice as large as US exports to Europe, a tremendous shift in economic integration. Overall, China will account for half of the growth in IT trade over the next decade. This upward movement in added value will help carry China and India to just under one-fifth of global trade flows by 2020. In the process, there will be changes in trading partner hierarchies — “a seismic shift” says the report.

Consumption reliable engine of growth, the rising middle class of Asia

The increase in the middle class in RGMs, particularly in Asia, will drive growth in consumer demand and trade flows between RGMs. Consumption in most RGMs will continue to outpace the advanced economies. According to the forecast, consumption growth in the RGMs is expected to be more than twice as fast as in the US, with consumption growth in China four times as fast.

While second-tier cities in the Chinese hinterland will retain China’s advantages as a low-cost producer for some years to come, the impact of a 12% annual rise in wage costs in its coastal cities will gradually make itself felt elsewhere in the country. Companies alert to rising cost factors in China could very usefully look at Vietnam, Mexico and African countries as alternative producers of low–cost manufacturing.

Dalbosco explains, “Rising middle classes in Asia, with increasing disposable income, are markedly hungry for consumer goods. If, as our report expects, Chinese households with a disposable income of between US$30,000 and US$50,000 grow from 1.5 million in 2010 to 26 million in 2020, the opportunities for certain providers of luxury, high-end goods and services will be unparalleled. In India, there will be a slightly less dramatic explosion of numbers from 100 million now to 150 million households, and in a lower income bracket of between US$5,000 and US$10,000.”

Inflation to fall this year

The positive mood among global investors at the start of 2012, aided by abundant liquidity in the developed economies, has led to significant rallies in many of the RGMs and currencies that had slumped during the last few months of 2011. If this trend persists, it should support business confidence and help to dampen inflation (though commodity prices have also picked up again).

Inflation has eased for most RGMs from the peaks toward the middle of last year, as the impact of high oil and commodity prices has waned. The global slowdown has also led to more subdued inflationary pressure coupled with the impact of credit tightening from earlier interest rate rises. RGMF expects inflation in RGMs as a whole to moderate from close to 6% last year to 4.8% this year.

In China, headline Consumer Price Index (CPI) dropped to 3.2% in February from 4.5% in January, as food price inflation fell back. Non-food price inflation continued to ease. We expect inflation to continue to moderate, increasing the scope for a further easing in monetary policy in China. Reserve requirements were lowered by 50 basis points (bp) for large banks at the end of February, following on from the 50bp cut in November.

Volatility of oil and commodity prices to impact RGMs

Prices are likely to remain volatile in 2012. This has implications for RGMs, particularly the large oil importers such as India and China. In India’s case, it has the potential to further dent growth significantly, as the central bank is only now signaling a hold in policy tightening after tackling the last bout of inflation. RGMF expects oil prices to average US$112 per barrel in 2012, with the price falling from its current highs toward US$105 by the end of the year assuming geopolitical tensions subside; supply from the Organization of the Petroleum Exporting Countries (OPEC) increases; and, global demand remains subdued in the near term. Over the course of 2013, oil prices will start to rise again in nominal terms reaching an average of US$135 per barrel in 2020.

Forecasts for rapidly growing markets in Asia-Pacific

China and Hong Kong. Consumption maintains momentum

GDP growth in China held up surprisingly well in Q4 2011, slowing only slightly to 8.9% from 9.1% in Q3. In terms of output, Q4 growth was supported by a strong showing for agriculture, which rose by 5.6%, while the manufacturing and services sectors saw a modest slowing in growth. In 2011 as a whole, consumption and investment contributed roughly equal amounts to overall growth at 4.8% points and 5.0% points respectively, while net exports detracted from growth, by just 0.5% points.

India. Sub-trend growth in 2011 but some positive news in recent data

Both the PMI surveys and car sales data in January and February have hinted at a stronger growth dynamic. GDP growth of 6.1% in calendar 2012 is now expected, similar to the pace recorded in Q4 2011. But provided the global economy does not experience a further shock, growth should be picking up in H2 2012. Wholesale price inflation should trend down through 2012 to about 5% in Q4, reflecting the lagged impact of the weaker economy and lower food prices.

Indonesia. Indonesia’s investment grade status will help drive growth

With overall growth at 6.5% in 2011, Indonesia grew at its fastest pace in 15 years. But while domestic demand should maintain strong momentum this year, underpinning expected growth of 6.2%, exports slowed sharply in Q4 2011. Growth is expected to accelerate in 2013 before settling at a pace close to 6% in 2014–15.

South Korea. Modest exports and fragile consumers constrain growth

Consumer spending fell 0.4% on the quarter in Q4 2011, the first drop since Q1 2009, despite a still fairly healthy labor market. The monthly trade data in January and February suggest a reasonable export performance in Q1 2012 and the February manufacturing PMI survey moved into expansion territory for the first time since July. Looking forward, growth should accelerate as the headwinds ease, with GDP now forecast to expand 2.8% in 2012 before averaging 4.9% in 2013–14.

Malaysia. Domestic demand has strong momentum but external risks are high

The economy maintained solid momentum in Q4 2011, growing by 5.2% on the year. Private spending grew by 7.1% on the year in Q4, the seventh straight quarter in excess of 6%, while investment picked up to 8.5% on the year, a four-quarter high.

Strong domestic demand and government spending will support growth close to 5% this year and in 2013. Exports held up reasonably well in Q4 but this was largely due to strong shipments of natural gas and palm oil.

Thailand. Recovery from floods under way

The economy contracted by 10.7% on the quarter in Q4 in seasonally adjusted terms, the worst drop on record. While the economy grew by 3.2% on the year in the first nine months of the year, the impact of the flooding led to a 9% annual drop in Q4, cutting growth in 2011 overall to just 0.1%. GDP is forecast to grow by 4.9% in 2012, supported by strong reconstruction spending and boosted in H2 by the comparison with 2011’s low base.

Vietnam. Growth moderating, inflation high

The economy grew by just under 6% in Q4, giving full-year 2011 growth of 5.9%, slightly better than expected given the budget cuts and interest rate rises made necessary by above target inflation. Exports rose more strongly than forecast in 2011 but rapid import growth meant that VND devaluations did more to prolong inflation than to narrow the trade gap. Although growth should recover above the medium-term target of 6.5% as the EU crisis abates, risks to near-term growth remain mostly on the downside.

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About the Rapid Growth Markets Forecast

The quarterly Ernst & Young Rapid-Growth Markets Forecast is a macroeconomic forecast co-produced with Oxford Economics. It aims to fulfill the need for practical and accessible economic forecasts and insights on the development of 25 rapid-growth countries around the world. These countries have been selected on three key criteria: they should be large, both in terms of GDP and demographics; they should be dynamic, rapidly growing countries; and should be of strategic importance for business development. Our forecast is based on Oxford Economics’ Global Econometric Model and provides both analysis of the implications for corporations doing business in rapid-growth markets and recommendations for decision-makers. Follow the development by tuning in to our quarterly webcast debate and by visiting www.ey.com/rapidgrowth