For Asia, 2014 Looks Like a Year of Higher Interest Rates

Jan 6, 2014

For Asia, 2014 Looks Like a Year of Higher Interest Rates

By Natasha Brereton-Fukui and Michael S. Arnold

For much of 2013, India and Indonesia were outliers in Asia, raising interest rates and tightening policy. This year, the rest of the region is expected to join them.“As the Fed has signaled the start of a long journey back to normalization, it would be prudent for a number of Asian central banks to get in front of that and start tightening in the second half of 2014,” said Glenn Maguire, chief Asia-Pacific economist at ANZ.

Deutsche Bank economist Taimur Baig refers to the Indian and Indonesian cases as “firefighting.”  The first hints last May that the U.S. Federal Reserve would begin cutting its economic stimulus sent emerging-market currencies and assets plunging, a severe blow to countries like India and Indonesia that are struggling with high inflation and that depend on foreign money to cover large current-account deficits.

Indonesia’s central bank has raised rates by 1.75 percentage points since the spring, and some economists expect it to do so again at its meeting Thursday.

For Asian economies with lower inflation and less need for external financing, the situation is different: There, raising interest rates would signal a return to more customary levels after an extended period of easing.

Tighter policy could mean slower growth in Asia this year, but it could be necessary to get ahead of price pressures that are expected to begin rising again.

Data Tuesday from the Philippines, for example, showed consumer inflation at a two-year high of 4.1% in December. ANZ’s Mr. Maguire says the Bangko Sentral ng Pilipinas should start tightening policy late in the second quarter or early in the third, before inflationary expectations become entrenched.

“It’s good for central banks to be prudent, as we know how quickly inflation can turn around,” said Kenneth Akintewe, a portfolio manager in Asian local-currency bonds at Aberdeen Asset Management Asia Ltd., which has $324.6 billion under management.

Bank Negara Malaysia should be among the first to move. Deutsche Bank’s official call is for Malaysia to raise its benchmark rate in March from the current 3.0% — where it has been since May 2011 – but the central bank could move even sooner, Mr. Baig said.

With the Malaysian government demonstrating its seriousness about reform – cutting subsidies and staggering imports to keep the current account in the black – “our view is that the monetary authorities would want to play their part in that regard,” Mr. Baig said. “It will all be data-dependent, if inflation starts picking up and the economy looks strong on the back of exports.”

Taiwan and South Korea, export dynamos that have been among the first countries in Asia to benefit from recovery in the West, are wildcards.

Data out Monday showed consumer prices in Taiwan rose just 0.33% on-year in December, and 0.79% for all of 2013. Yet some economists say Taiwan will be an early hiker as its economy picks up and food and electricity prices start to rise.

“We think we’re near the end of the current downswing in prices. The pressures are still there,” said David Mann, head of Asian research at Standard Chartered Bank. He pointed to anecdotal evidence that Taiwanese businesses are starting to pass on increased costs to consumers.

In South Korea, authorities see the current rate level of 2.5% as extraordinarily low. But the determining factor could be Japan’s “Abenomics” program, which has weakened the yen and sent the Japanese currency to a five-year low against the Korean won last week.

“The wild card is depreciation of the yen and what it does to the competitiveness of Korean exporters,” said Frederic Neumann, co-head of Asian economic research for HSBC in Hong Kong. “If the yen continues to tumble and the won appreciates, the Bank of Korea will likely hold fire and will try to stave off pressure on the currency by not hiking rates.”

Still, the Bank of Korea and its counterparts around Asia will be wary of delaying action for too long, as investors who piled headlong into Asia in recent years become ever more discriminating.

“Central banks last year that didn’t follow prudent paths saw their assets penalized,” Aberdeen’s Mr. Akintewe said. “That will continue to be the case this year.”