JAKARTA (TheInsiderStories) – Multiple triggers, many of which are externally driven, are putting pressure on Asian central banks to tighten monetary policy. As a result, the banks are facing some difficult policy decisions because they will have to attempt to balance stability, inflation, and economic growth priorities.
Across the Asia-Pacific central banking landscape, the combination of U.S Federal Reserve (Fed) rate increases and external account pressures will ensure a continued shift away from accommodative monetary policy settings during the next 12–18 months. However, with financial market volatility and other geopolitical and domestic political surprises being possible, central bankers across the region should be prepared for a bumpy ride.
Furthermore, monetary policy tightening is expected from many Asia-Pacific central banks during the next 12 months, although the tightening trend is not universal across all major Asia-Pacific economies. Through the end of 2019, IHS Markit expects the most aggressive monetary policy tightening to arise in Indonesia, Pakistan, and the Philippines.
Among Asian emerging market countries, we predict that Taiwan, Thailand, and Vietnam will be among the last to initiate their monetary tightening cycles. The persistence of weak inflationary pressures in Australia, Japan, and New Zealand means that these countries are expected to keep policy rates on hold through the end of 2018.
The outlook for monetary policy settings is for further monetary policy tightening for several Asia-Pacific economies during the remainder of 2018. Most of the remaining large economies will then undertake tightening in 2019.
Through the end of 2019, IHS Markit expects the most aggressive monetary policy tightening to arise in Indonesia, Pakistan, and the Philippines. Hong Kong is a special case to highlight because of the Hong Kong dollar’s peg to the U.S dollar.
Therefore, the anticipated rises in the Fed Funds Rate during the next few years (two more increases in 2018 and three in 2019) will be mirrored by the Hong Kong Monetary Authority.
Monetary policy tightening is expected to progress at a more measured pace in countries such as India, Malaysia, and South Korea. In India, the CPI inflation rate rose sharply in May and hit 5 percent in June, with expected further upwards inflation pressures. As a result, the RBI hiked policy rates in both June and August with IHS Markit expecting three more 25-basis-point rate rises in 2019.
For South Korea, the objective will be to prevent too much disparity between South Korean and U.S interest rates, which is what kicked off its tightening in November 2017. “We expect another 50 basis points of tightening before the end of 2018 (25 basis points in the third and fourth quarters) and 50 basis points in 2019.”
Otherwise, the Bank of Korea’s goal is to leave policy settings towards the accommodative side since inflation is well-contained and economic growth is on the more moderate side for South Korea. Malaysia’s Bank Negara Malaysia is expected to leave rates on hold for the remainder of 2018 after raising them in January to get ahead of risks that could arise from an extended period of monetary easing.
The greatest threat to the current policy setting in Malaysia is capital outflows worsening because of risk aversion based on either global conditions or investors losing confidence in the direction of the economic policy in the country. That said, IHS Markit expects Malaysia to proceed with cautious policy tightening into 2020 for now.
Among emerging market countries, we predict that Taiwan, Thailand, and Vietnam will be among the last to initiate their monetary tightening cycles, waiting until 2019. For Thailand and Vietnam, although higher global oil prices will probably add to inflationary pressures during the remainder of 2018, these pressures are being mitigated by the stability in food prices.
Moreover, the degree of currency depreciation pressures for the Thai baht and Vietnamese dong has been limited, an outcome heavily influenced by robust current-account surpluses. For Taiwan, inflation remains similarly well-contained, despite oil price pressures and food price pressures that arose earlier in the year, and current account remains in substantial surplus.
Therefore, IHS Markit forecasts that the central bank will aim to maintain an accommodative monetary policy setting and keep its key policy rates on hold through the end of 2018 to sustain a continued economic recovery.
Meanwhile, People’s Bank of China (PBOC) is facing a more complex monetary policy challenge, because it walks a tightrope between controlling risks to financial stability because of excessive leverage and supporting credit flows to real economy to avoid further growth moderation under the escalating China-U.S trade conflict.
As a result, the PBOC is expected to further lower the reserve requirement ratio and expand the medium-term lending facility (MLF) during the second half of 2018 to provide greater liquidity to the real economy. Notably, China’s central bank does not use the policy interest rate to drive monetary policy; instead, it targets liquidity.
Finally, the advanced economies in the Asia Pacific are expected to keep policy rates on hold through the end of 2018. Japan’s Bank of Japan (BoJ) will probably leave the current policy measures in place, and it seems that the BoJ’s 2 percent inflation target is increasingly becoming a long-term goal. The framework of Yield Curve Control will broadly remain in place, but the BoJ will continue “stealth” tapering.
In fact, the BoJ has quietly reduced the annual pace of growth for the monetary base to currently about JPY33 trillion, or the lowest level since the introduction of Quantitative and Qualitative Monetary Easing. This policy position could continue unless upside pressures for Japanese government bond yields strengthen.
Australia and New Zealand are unlikely to tighten monetary policy until at least the third quarter of 2019 as inflation expectations begin to build and inflation more meaningfully crosses into both central banks’ target ranges.
by Rajiv Biswas, APAC Chief Economist and Bree Neff, Associate Director, Asia Pacific of IHS Markit