Navigating the Policies of the New US Administration: Asia's Path Forward
The new US administration's policies, including increased tariffs and other strategic moves, have the potential to significantly impact Asian economies. It is crucial for these nations to bolster their resilience through regional cooperation and open trade practices. What are the potential effects of the new US administration's policies on Asia-Pacific economies, and how should they adapt? To address these questions, the ADB has recently conducted two comprehensive studies, utilizing distinct global models—one emphasizing macroeconomics and the other focusing on trade—to gauge the possible effects. The first study delves into the repercussions of the US adopting assertive policies, such as imposing 60% tariffs on the People’s Republic of China (PRC) and 10% tariffs on other nations, alongside reduced immigration and expansive fiscal policies. The second study zeroes in on the impact of tariffs alone, hypothesizing a 60% tariff on Chinese imports and exploring various tariff scenarios for other countries, including 10% versus 20% tariffs, across-the-board tariffs versus exemptions for nations with free trade agreements with the US, and retaliatory tariffs versus no retaliation. What insights can we glean from these analyses? Firstly, the detrimental effects on China's economy from 60% tariffs are relatively limited. The macroeconomic model from the first study suggests that growth would slow by only 0.3% annually over the four-year term of the new administration. The trade model anticipates even lesser impacts due to the possibility of trade redirection and minimal effects on global output. If the US opts for the recently announced 10% additional tariffs, the impact would be even less severe, although further reviews of US trade imbalances could result in increased tariffs later in the year. One reason for the muted impact of high US tariffs is the declining significance of US exports (both direct and indirect) on China's economy, which now accounts for merely 3% of the country's GDP. Evidence from President Trump’s first term indicates that China was capable of redirecting exports to other countries, with the cost of US tariffs largely falling on US consumers and businesses. Secondly, the impact on other Asian economies is expected to be mixed, with some potentially experiencing faster growth due to new export opportunities to the US, replacing goods previously exported from China. Trade diversion opportunities, which benefited export-competitive economies like Viet Nam, were also evident during the initial US-China trade conflict. The recent shift in foreign direct investment (FDI) from China to other Asian economies, particularly in Southeast Asia, in strategic sectors is likely to be intensified. However, it would be incorrect to assume that US tariffs on China have zero-sum effects, hurting China and aiding other Asian economies. This is because the Chinese economy has become increasingly intertwined with regional economies through trade and investment, despite global geoeconomic fragmentation. Consequently, slower Chinese growth can harm other economies by reducing the demand for imports, and reduced Chinese exports to the US can negatively affect economies supplying capital equipment and inputs to Chinese exporters, notably high-tech economies in East Asia, such as the Republic of Korea and Japan. Moreover, if higher US tariffs on China encourage other Asian economies to attract more FDI and increase exports to the US, Chinese firms can still partake in these benefits by escalating their outbound FDI and exporting intermediate inputs to these economies. Such investment and trade patterns are already apparent, especially in Southeast Asia. The trade study also reveals that economies with trade agreements with the US will benefit if they are exempt from US tariff hikes while their competitors without such agreements face tariffs. Most economies in the region lack such agreements and would thus be adversely affected by a differentiated policy. Lastly, regional economies should exercise caution when considering retaliatory tariffs in response to higher US tariffs. Increased import tariffs can lead to higher import prices, contributing to inflation, making goods more expensive for domestic consumers, and raising production costs for businesses reliant on imported intermediate inputs. Perhaps more significant for Asian economies than tariffs is the impact of the new administration’s policies on US inflation and interest rates. All announced policies—to raise tariffs, reduce immigration, and extend or possibly increase tax cuts—are likely to be inflationary, leading to higher US interest rates for extended periods. These expectations are already reflected in the shift in the US bond yield structure since the US election. Despite progress by many Asian economies in reducing reliance on US-denominated debt, financial
How Can Asia Successfully Navigate New US Administration Policies?
Rising US tariffs and other policies of the new US presidential administration could create mixed outcomes for Asian economies, emphasizing the importance of building resilience through regional integration and open trade. How will new US administration policies affect economies in Asia and the Pacific, and how should they respond? To gain insight into these questions, ADB recently completed two studies based on different global models—one strong on macroeconomics and one strong on trade—to estimate the magnitude of likely effects. The first study examines the impact of the US imposing aggressive policies including 60% tariffs on the People’s Republic of China (PRC) and 10% tariffs on everyone else, reduced US immigration, and expansionary US fiscal policies. The second study focuses only on the impact of tariffs. It assumes 60% tariffs on Chinese imports and examines different tariff scenarios for the rest of the world: 10% versus 20% tariffs, tariffs across the board versus exemptions for countries with free trade agreements with the US, and equal retaliatory tariffs versus no retaliation. What do we learn from these exercises? First, the negative effects on the Chinese economy will be relatively modest even with 60% tariffs. The first study, using a macro model, finds that growth slows by just 0.3% per year during the four years of the new administration, and the trade model predicts much smaller impacts thanks to opportunities to redirect trade to other countries and smaller impacts on global output than in the macro study. The impacts will be even less severe if the US only imposes additional tariffs of 10% as has been recently announced, even though further review of US trade imbalances could lead to more tariff increases later in the year. One reason for the modest impacts of high US tariffs is that the importance to the Chinese economy of exports to the US (both direct and indirect) has fallen steadily, now accounting for just 3% of the country’s GDP. Evidence from President Trump’s first term shows that the PRC was able to redirect exports to other countries and that the cost of US tariffs was largely borne by US consumers and firms. Second, the effects on other Asian economies will be mixed, with some economies even expected to grow faster thanks to new export opportunities to the US to replace goods previously exported to the US from the PRC. Opportunities from trade diversion also were evident during the first trade war between the US and the PRC, benefiting export-competitive economies such as Viet Nam. The recent shift observed in foreign direct investment (FDI) in strategic sectors away from the PRC and toward other Asian economies, especially in Southeast Asia, is likely to be reinforced. Despite these trends, it would be a mistake to assume that US tariffs on the PRC have zero-sum impacts that hurt the PRC and help other Asian economies. This is because in recent years the Chinese economy has become increasingly linked to other economies in the region through trade and investment despite geoeconomic fragmentation globally. Thus, slower Chinese growth hurts other economies by reducing demand for imports, and reduced Chinese exports to the US hurts economies that supply capital equipment and inputs to Chinese exporters, most notably the high-tech economies in East Asia including the Republic of Korea and Japan. Also, if higher US tariffs on imports from the PRC help other Asian economies to attract more FDI and increase exports to the US, Chinese firms can still share in those benefits by increasing their outbound FDI and increasing exports of intermediate inputs to those economies. Indeed, such patterns of investment and trade have already become evident, especially in Southeast Asia. The trade study also finds that economies with trade agreements with the US will benefit if they are exempt from US tariff increases while tariffs are imposed on their competitors without such trade agreements. Most economies in the region lack trade agreements with the US and so would be negatively affected by such a differentiated policy. Finally, economies in the region should be cautious in considering whether to respond to higher US tariffs with tariffs of their own. Higher import tariffs increase the price of imports which can contribute to inflation, make goods more expensive for domestic consumers, and increase the costs of production for producers that rely on imported intermediate inputs. Perhaps of greater importance for Asian economies than tariffs is the impact of the new administration’s policies on US inflation and interest rates. All the announced policies—to increase tariffs, reduce immigration, and extend and perhaps increase tax cuts—are likely to be inflationary, which is expected to lead to higher US interest rates for longer periods of time. These expectations are already evident in the shift in the structure of US bond yields since the US election. Despite much progress by many Asian economies to reduce reliance on US-denominated debt, financial conditions in Asia remain quite sensitive to US interest rates and to inflation news when Fed policy is data dependent as it is now. Higher US rates reduce the scope for Asian central banks to lower interest rates and support growth in the region. They increase debt sustainability risks for economies with high debt levels denominated in US dollars. Given higher US interest rates, our macro model predicts that currencies in the region will depreciate relative to the dollar. However, we do not expect weaker currencies to lead to higher inflation overall because our macro model finds that the higher interest rates and trade costs associated with US policies will reduce global GDP and demand for commodities, which will lead to lower global energy and food prices. In recent years, developing economies in Asia have demonstrated tremendous resilience to large shocks associated with the pandemic, commodity prices, and geoeconomic fragmentation. This is due to sound macroeconomic management by most governments in the region. Moreover, despite global geoeconomic fragmentation, governments have maintained their commitment to open trade and investment, which has strengthened regional economic integration. This impressive track record means the region is well placed to maximize opportunities for inclusive growth and remain resilient to future shocks, including unexpected policy directions of the new US administration.
Harnessing Trade, Digital Innovation, and Connectivity for ASEAN's Growth
The Association of Southeast Asian Nations (ASEAN), in response to the evolving global economic dynamics, has the opportunity to strengthen economic stability and sustainable growth through a focus on trade, tourism, and digital advancement. In today's competitive global marketplace, countries are reassessing their supply chains to reduce vulnerabilities and are adopting protectionist policies to support local industries. Moreover, issues like climate change and the race for advanced technologies such as AI and big data are increasingly considered from a national security perspective. Within this context, the ASEAN community, consisting of 10 member states, must work together to ensure a prosperous economic future and to protect their national interests, with a particular focus on trade, digitalization, and connectivity. Trade, particularly in services, is set to be a key driver for ASEAN economies, including sectors like finance, telecommunications, tourism, transportation, and professional services. These areas are essential for job creation and economic growth. After the pandemic, while trade in goods has decelerated, service trade has shown an upward trend, positioning ASEAN as a net exporter of services. Tourism offers significant potential for ASEAN, showcasing the region's allure as a travel destination. To enhance competitiveness in tourism, ASEAN countries are expected to collaborate on infrastructure, skill development, marketing, and product innovation to increase intra-regional travel, which currently represents over 40% of ASEAN's international tourism, thus bolstering regional economic resilience. The regional digital economy, encompassing e-commerce and digital health, is expected to grow from $300 billion to nearly $1 trillion by 2030. With effective policies on digital connectivity through regional cooperation, this growth could be doubled. The Digital Economy Framework Agreement is crucial for this collaboration, covering areas such as digital standards, data flows, cybersecurity, digital trade, and the mobility of digital talent, among other components of digital public infrastructure. Digital collaboration is also expected to bring additional benefits, including positive environmental effects, social cost savings of $12-30 billion, increased resilience, job creation, and improved access to education and healthcare. Furthermore, both physical and institutional connectivity are vital for ASEAN's economic competitiveness, enhancing engagement with larger Asian and global economies. Sustainable infrastructure, including renewable energy, low-carbon transport, and urban energy efficiency, is gaining traction. By integrating this with enhanced digital cooperation and streamlined cross-border logistics and supply chains, facilitating the movement of goods, services, and people across borders will protect the environment and strengthen regional resilience. The collective approach to sustainable infrastructure is advantageous for ASEAN members committed to the Paris Agreement, with Nationally Determined Contributions aiming for net-zero CO2 emissions by 2050 and net-zero greenhouse gas emissions by 2065, to cap global temperature increases at 1.5°C. It is a strategic moment for ASEAN policymakers to reconsider collaboration. Amidst global economic fragmentation, there are areas that require cross-border cooperation. Economic self-reliance has increased in the region, and with pressing issues such as digitalization and climate change, mismanaged interdependence could lead to costs and economic challenges. Therefore, for the upcoming term of ASEAN regional cooperation until 2045, member countries should regard their collective actions as a regional public good, where the benefits of enhanced trade, tourism, digitalization, and connectivity will result in sustainable and resilient outcomes for the region's population.
Strong Institutions Shield Emerging Markets from US Monetary Shocks
The global impact of US monetary policy significantly affects capital flows and credit growth in emerging markets, highlighting the importance of macroeconomic fundamentals and institutional quality in determining resilience during different monetary cycles. The United States dollar continues to reign supreme. The dollar dominates international trade and financial transactions, and the foreign exchange reserves of central banks. As such, US monetary policy still drives global financial cycles, impacting global capital flows and credit growth. Dollar dominance ultimately limits the policy choices of financially integrated emerging markets. The global influence of US monetary policy was especially visible during the seven years of easing (2007–2014) induced by the global financial crisis and its aftermath. This was followed by 4.5 years of tightening that was kicked off by the 2013 “taper tantrum.” Subsequently, three years of easing (2019–2022), largely induced by the COVID-19 pandemic, eventually led to a major tightening beginning in February 2022 as a delayed reaction to rapidly rising inflation in the US. As US monetary policy shifts have global repercussions, capital markets in emerging economies are often vulnerable to destabilizing flight-to-quality outflows during periods of heightened uncertainty. They are also vulnerable to volatile search-for-yield inflows during periods of low returns in the US. Large inflows were observed when the Federal Reserve's massive monetary easing pushed the federal funds rate close to zero in the wake of the global financial crisis. At a broader level, these episodes placed increasing pressure on the macroeconomic outlook of emerging markets and raised their risk profile. They also impacted emerging market currencies, debt repayments, and capital flows. For instance, 2023 saw many currencies in developing Asia depreciate substantially versus the US dollar due to aggressive tightening by the Federal Reserve. A natural question that arises is why some emerging markets are more resilient and/or less vulnerable to US monetary policy cycles, an issue examined in the study The Performance of Emerging Markets During the Fed’s Easing and Tightening Cycles: A Cross-Country Resilience Analysis by Joshua Aizenman, Donghyun Park, Irfan A. Qureshi, Gazi Salah Uddin and Jamel Saadaoui. One approach is to empirically assess whether macroeconomic variables such as debt levels and institutional variables such as degree of corruption can explain an emerging market’s resilience during each cycle. The study also takes a holistic approach to measuring emerging market resilience by focusing on the bilateral exchange rate against the US dollar; exchange rate market pressure; and the country-specific Morgan Stanley Capital International Index (MSCI). In addition, the role of policy factors such as exchange rate regime type and inflation targeting were also examined. At the broadest level, the existing research finds that macroeconomic and institutional variables are indeed significantly associated with emerging market performance. Furthermore, the determinants of resilience differ during tightening versus easing cycles, and the quality of institutions matters even more during difficult times. We found that cross-country differences in ex-ante macroeconomic fundamentals and institutional variables can help explain the differences in performance and resilience of a large cross-section of emerging markets during different US monetary cycles. These determinants differ during tightening versus easing cycles. The significance of ex-ante institutional variables increased during the monetary cycles triggered by the global financial crisis and the taper tantrum. This suggests that strong institutions matter more during difficult times. To address these issues, emerging market policymakers should understand that macroeconomic variables such as the amount of international reserves, the current account balance, and inflation are all important determinants of an emerging market’s resilience to US monetary policy swings. This reinforces the conventional wisdom that strong fundamentals protect emerging markets in the face of large external shocks. In particular, policymakers should continue to focus on vulnerable sovereigns with large external debt obligations and economies with highly leveraged property markets and weaknesses in capital markets that are typically challenged by the changing interest rate landscape. The borrowing costs of these economies might rise if there is a sudden deterioration in global financial conditions, further worsening their fragile fundamentals. To safeguard their economies against the volatility induced by US monetary policy, emerging market policymakers must prioritize strengthening macroeconomic fundamentals and institutions. This will help ensure long-term financial stability and foster sustained economic growth amidst the challenges posed by global financial fluctuations.
The Fed Has Cut Interest Rates: What Does This Mean for Asia and the Pacific?
The recent interest rate cuts by the United States Federal Reserve present opportunities and challenges for central banks in Asia and the Pacific. Policymakers must adopt a balanced, country-specific approach to navigate potential inflationary pressures, exchange rate volatility, and capital inflow dynamics. The United States’ Federal Reserve (Fed) kicked off a long-anticipated monetary policy loosening cycle at its September Federal Open Market Committee meeting, cutting interest rates by 50 basis points. Committee members project another 50 basis points of cuts this year, and that Fed loosening will continue in 2025. This could have significant consequences for the global economy, including for developing economies in Asia and the Pacific. Inflationary pressures in have continued declining in the region this year, as commodity prices stabilized and the lagged effects of last year’s monetary tightening took hold. As a result, most of its central banks have paused their hiking cycle, with some switching to policy rate cuts. Others may now follow suit. In shaping their policy stance, central banks in emerging economies need to take account of interest rate differentials with the US, which impact capital flows and exchange rates. The Fed rate cut opens up the opportunity for more of the region’s central banks to loosen policy to stimulate domestic demand and growth, without triggering capital outflows and exchange rate depreciations. Still, since the pace and length of the Fed loosening cycle remains uncertain, an appropriate policy response in Asia and the Pacific will require caution and a careful balancing act, for a number of reasons. One option for central banks is to cut rates in the wake of the Fed. This would support growth, but it may also revive price pressures and encourage excessive borrowing in economies where household and corporate debt levels are already high. Alternatively, central banks in the region could continue to maintain a relatively tight monetary stance—e.g., by cutting interest rates with a lag and/or less than proportionally with respect to the Fed. In such a case, the lower interest rates in the US could increase capital flows to Asia and the Pacific, as investors adjust their portfolios toward assets with more attractive yields. This could boost equity and bond markets across the region, providing some breathing space to more vulnerable economies. However, capital inflows could also present some challenges, as significant swings in short-term portfolio investment could increase financial market volatility. Additionally, higher capital inflows may result in exchange rate appreciations vis-à-vis the US dollar in the region. This would benefit economies heavily dependent on oil and other commodity imports, reducing price pressures and improving trade balances. For economies with high US dollar-denominated debt, the depreciation of the US dollar would make it easier to sustain the debt burden. On the other hand, exchange rate appreciations would boost imports, with potentially negative effects on current accounts. In the medium term, stronger currencies could also hamper export growth, particularly for economies reliant on exports of traditional manufacturing goods, such as garments or textiles, which depend mainly on price competitiveness. This variety of potential effects and channels suggests that policy responses to the Fed loosening cycle in Asia and the Pacific will need to be country-specific and nuanced, and include a combination of the following measures. As well as adjusting interest rates, monetary authorities in the region could rely on targeted measures, such as on banks’ reserve requirements, to affect financial and liquidity conditions. Forward guidance can also be an effective tool to anchor inflation expectations and reduce uncertainty and financial volatility, by clearly laying out the future path of monetary policy for market participants and economic agents. For economies receiving increasing capital inflows, well-developed financial markets are key to absorb the inflows and turn them into productive investment in the domestic economy. Policy action should focus on increasing competition, efficiency, and transparency in the financial sector, with the central bank or other overseeing independent authority providing adequate supervision. To deal with the risks associated with rising capital inflows, capital flow management measures and macroprudential policies can be used, including measures aimed at mitigating exposure to currency mismatches. Where capital inflows result in excessive currency appreciation, targeted intervention in foreign exchange markets could help reduce volatility, while also increasing foreign exchange reserves. Fiscal policy could be used the cushion the impact of falling exports. Depending on fiscal space, stimulus could be directed at several objectives, including boosting consumer spending; incentivizing activity in particular sectors with stronger multiplier effects on the rest of the economy; and infrastructure, energy-saving, climate-adaptation, and other projects aimed at addressing structural gaps, which would also boost the economy’s productive potential. The beginning of the Fed monetary loosening cycle brings challenges and opportunities for Asia and the Pacific. Lower interest rates in the US and a weaker dollar could lower import costs, boost financial markets, and spur larger capital flows toward the region. But these positive developments would not be without risks, including possible exchange rate volatility and renewed inflationary pressures. Policymakers will need to adopt a flexible approach, remaining vigilant and proactive in taking advantage of the opportunities and addressing the risks.
Embracing Innovation in P2P Lending: A Strategic Framework for Central Banks in Asia
The rapid expansion and subsequent regulatory developments of peer-to-peer (P2P) lending in China have far-reaching consequences for financial stability and the effectiveness of monetary policy. This case serves as a critical reference for economies with growing fintech sectors, highlighting the importance of a careful equilibrium between innovation encouragement and regulatory vigilance. The financial sector is central to the implementation of monetary policy across the economy. The emergence of financial technology (fintech) has significantly reshaped this sector, especially in recent years. By leveraging digitalization and big data, fintech has played a significant role in improving financial inclusion and making credit more accessible and affordable for individuals, entrepreneurs, startups, and SMEs. However, the fintech sector might intensify the migration of credit intermediation from conventional banks to non-bank entities, leading to a more intricate financial ecosystem. Consequently, fintech introduces novel risks to the financial sector, challenging central banks in achieving their goals. Within the fintech sphere, P2P lending, which allows online lending and borrowing between individuals and small businesses without the involvement of traditional financial intermediaries, has become a significant alternative financing channel. Benefiting from its digital technology prowess and a less restrictive regulatory environment, China's P2P lending sector experienced explosive growth from 2014 to 2017, emerging as a major player in the global non-bank finance landscape. The industry's volume soared from CNY252 billion in 2014 to CNY2,804 billion by 2017, accounting for nearly 30% of all new bank loans. Regulatory measures were implemented in late 2017 to address P2P-related risks within the financial system, focusing on areas such as cash loans, illegal financing, misuse of funds for student loans, investment speculation, and real estate downpayments. By 2019, P2P platforms had either transformed into small loan creditors or shut down, effectively eliminating the P2P lending market as it was known. A recent ADB Economics Working Paper examines the impact of P2P lending on monetary policy transmission in China, using a state-dependent local projection model. The study's findings reveal that the reactions of industrial output and inflation to monetary policy tightening are more pronounced and statistically significant in non-boom P2P lending markets compared to boom markets, where responses are largely insignificant. Specifically, inflation's response peaks at 0.8% following an unexpected 100 basis point monetary policy tightening in the non-boom phase, in contrast to 0.6% in the baseline scenario. Industrial production also experiences a significant decline in the non-boom phase, particularly in the initial periods. During the boom phase of P2P lending, inflation's negative response only becomes statistically significant after 10 months, and industrial production responses are muted, not significantly deviating from zero for most time frames. The research suggests that the evolution of P2P finance could negatively affect the effectiveness of monetary policy transmission. As P2P lending serves as an alternative external financing source, market participants are less impacted by the rising costs of bank credit, reducing the impact of contractionary monetary policy. While regulatory measures in China have helped to reduce financial risks associated with P2P lending, they may also have enhanced the effectiveness of traditional monetary policy transmission. This analysis offers important insights for other economies with growing P2P lending markets, especially in developing nations such as India, Indonesia, Malaysia, the Republic of Korea, the Philippines, and Vietnam. Central banks in these regions must be cautious about the potential impact on monetary policy effectiveness and financial stability. Looking ahead, central banks and financial regulators must navigate a landscape that fosters the benefits of ongoing financial system innovation. The challenge is to strike a balance between innovation and ensuring effective monetary policy transmission while mitigating financial stability risks.