For a frightening example of the economic damage wrought by the coronavirus, you need only look at Sri Lanka.
The country’s government has been remarkably successful at containing the spread of Covid-19, with just 3,380 cases by October 1, according to data from the John Hopkins Coronavirus Research Centre. But that has not stopped the sovereign being downgraded by all three major rating agencies — with Moody’s Investors Service cutting Sri Lanka’s rating by two notches on September 28, dropping it to Caa1.
It doesn’t matter that Sri Lanka has managed to contain the spread of the virus through a severe lockdown between March and May. The key consideration for rating agencies — and global investors — is the vast economic impact. Sri Lanka, a country that relied heavily on tourism before the pandemic effectively brought air travel to a halt, has no easy alternative to its lost revenues. The Asian Development Bank thinks the economy will contract by 5.5% this year.
The country also suffered from weak public finances going into the crisis, something that has severely limited its room for manoeuvre. Sri Lanka’s debt-to-GDP ratio was 86.8% at the end of 2019, according to data from the central bank. The country has about $4bn of offshore debt that needs to be repaid before 2025, including a $1bn bond due in October, which will probably have to be repaid from Sri Lanka’s foreign exchange reserves.
Sri Lanka’s experience is only one among many in Asia but its example points to a few things that investors, analysts and policymakers need to consider when weighing up the likely economic impact of the crisis, says Stephen Schwartz, head of Asia Pacific sovereign ratings at Fitch Ratings in Hong Kong.
“In assessing the impact of the coronavirus and policy responses, you need to look at the structure of the economy — for example, is it very reliant on tourism revenues or remittances?” he says. “You also need to consider how much success the government had in stopping the domestic spread of the virus. But it’s also important not to overlook how much policy flexibility governments actually had going into the crisis. Emerging market governments, especially those with high public debt going into the crisis, have had less room and have been less able to act quickly to fight the impact.”
How do Asian governments compare when weighing up these considerations? The region can be broadly divided into two large groups: developed countries with plenty of spending power, such as Korea, Japan and Singapore, and emerging markets such as Indonesia and the Philippines, which have largely been eager to avoid spending too much, aware that unwinding stimulus is much more difficult than implementing it.
These are very broad strokes. Malaysia, by most definitions still an emerging market, has enacted an impressive fiscal spending package, pledging stimulus worth up to 19.7% of GDP, according to data from Standard Chartered. Japan, although rich enough to announce ¥234tr ($2.22tr) of stimulus, did it despite ending 2019 with a government debt-to-GDP ratio of about 230%, something that would topple almost any other government.
There are other considerations missing from this equation. Schwartz points out that being able to rely on support from multilateral institutions such as the International Monetary Fund has proved a crucial differential for some countries. Sri Lanka, which has a combative history with the IMF, has not secured emergency funds from the lender. Pakistan, which has proved more willing to accept the restrictions that come with loans, has been offered a $1.44bn facility.
But these factors offer the best way of understanding the likely outcome of Asian economies in the wake of the crisis. By considering structural differences, the strength of public finances and the ability of governments to contain the spread of the coronavirus, economists have their best chance of identifying those countries that will emerge from this crisis the strongest. The odds appear to favour China.
Measure by measure
Every country in Asia has taken major steps to address the economic impact of the coronavirus. Singapore’s reserve-funded stimulus has reached 20% of GDP, according to Standard Chartered. Hong Kong officials, who have also dipped into their country’s reserves, have pledged 10%.
Indonesia has scrapped its 3% budget deficit cap, announced Rph695tr ($46.8bn) of spending and moved towards debt monetisation, with the central bank buying government bonds in what officials stress will be a one-off. India, which some have criticised for doing too little, has still pledged 10% of GDP, although StanChart calculates only 1.8% of that is direct stimulus.
Governments are being forced to perform a balancing act between fighting the economic impact of the virus and making sure they don’t go too far — putting in place stimulus measures they will later struggle to unwind. Some government officials also admit that they are nervous about running out of bullets before the battle is over.
“The basic assumption is that sometime in the middle of next year we will have an effective vaccine, but I’m not even sure about that,” says Carlos Dominguez, finance minister of the Philippines. “I think we are looking at a longer period. That’s why we need to keep our powder dry. We can’t spend all the money in the first blast.”
China’s response has been somewhere in the middle of the pack, less aggressive than the packages seen in Malaysia, Singapore and Hong Kong but much more nuanced than regional rival India (see Friday’s GM article on India’s response).
The People’s Bank of China has been active, cutting the reserve requirement ratio, providing banks with cheap loans to extend to SMEs and leaning on the nation’s giant state-owned lenders to share the burden through cuts to fees and lending rates that looked set to cost China’s banks the bulk of their profits for the year.
The monetary response may have been less aggressive than elsewhere in Asia — where large asset purchases have accompanied steep rate cuts — but the fiscal package has been even more restrained.
The response of Asian governments attempting to stem the economic effects of the coronavirus has focused on minimising the damage to households and small and medium-sized enterprises. The aim is simple: keep consumer spending ticking over and ensure that vulnerable SMEs, often seen as the real engines of growth, do not collapse before they have a chance to contribute to the recovery. China’s government has taken a different tack.
“China’s response to the coronavirus put a lot of emphasis on getting manufacturing going and getting the export engine started again,” says Steve Cochrane, chief Asia Pacific economist at Moody’s Analytics. “That paid off. They got supply chains moving quickly and as soon as the rest of the global economy started to pick up a bit, Chinese exports starting to rise again. It was a really remarkable success story for China.”
The country’s exports grew by 9.5% in August, partly a result of rising exports to other Asian countries, particularly Taiwan and Vietnam.
The success of China’s exports is partly a result of it having more time to react to drags, not just the coronavirus but a decrease in exports to the US, which started in 2019. China’s exports are likely to end the year flat to 2019, says Tao Wang, chief China economist at UBS — not a bad result, given the carnage of this year.
China might have been expected to take a no-holds-barred approach to fighting the impact of a pandemic that started within its own borders. But the government has had more success in containing the spread of the virus than some rich nations. Although there are reasonable questions about the reliability of official data, by October 1 there were 90,545 cases in China, according to John Hopkins. In the US, more than 7m had been infected.
Policymakers in China were also aware that a huge response to the pandemic would undermine some of the reforms taken over the past few years, particularly an attempt to lower financial leverage in the economy by curtailing shadow banking and improving credit standards at banks.
“Earlier this year, we were concerned the policy response in China might be too forceful, giving up some of the gains they have made in terms of deleveraging,” says Schwartz. “But the government has actually been relatively restrained.”
China’s fiscal response is certainly not negligible. It has pledged about Rmb5.4tr ($795bn) of direct stimulus, equivalent to about 5.4% of GDP, according to Standard Chartered. But its relatively measured approach and the evident results inspire more optimism than many of its neighbours.
Economists warn that it is too early for policymakers in China or anywhere else to relax. There is still no vaccine and the chance of second and third waves is a very real threat for economies across Asia. But for now, Chinese citizens appear much more optimistic about their economy than those elsewhere in the region.
In late September, fund manager Fidelity International published the results of an investor sentiment survey tracking responses from China, Hong Kong, Japan and Singapore. About 60% of Chinese investors said they expected their economy to have fully recovered within 12 months, compared with 27% in Hong Kong, 21% in Singapore and just 10% in Japan.
Perhaps China can help other countries endure the crisis. The Chinese Communist Party has already adopted some forms of soft diplomacy, shipping face masks and other medical equipment to emerging nations, although some countries have complained about the quality. China also said it will write off loans to some African countries and promised vaccine loans to South America.
But the real aid will come from new loans. In that regard, there is some good news for Sri Lanka. China Development Bank has lent the country $1.2bn.