Asia has been a powerful card to play for emerging market investors in recent years. Not only did local markets outperform the world's top economies in 2003 but the region has also outperformed the MSCI World index over the last five years.
Such strong performance has helped Asia shake off its emerging mantle and it is starting to become a mature economic force in its own right. In short, Asia has emerged.
Improving local economic conditions and earnings growth have underlined the region's allure. Inter-regional trade with economic powerhouses China and India has not only lessened Asia's reliance on US import demands but has also eclipsed the importance of Japan to the region. These expanding nations have become a growing source of revenue for local economies, particularly with China's voracious appetite for commodities.
A revival in domestic consumption has enabled Asian nations to start driving their own economic engines, reinforcing their survival without a US economic recovery. Growing political stability has enabled governments to drive through infrastructure chan-ges that have led to a more capitalistic attitude across the region. The region's economic giant, Japan, has been forced to acknowledge the growing importance of South-east Asia. As a nation without natural resources, Japan is embarking on efforts to create an East Asian community and free trade zone by 2012.
Local markets are traditionally closely correlated, taking direction from the US market, as well as responding to regional trends. But even though Asian economies will stay sensitive to investment flows and demand for manufacturing goods from far away, the growing economic contribution from China and India is playing a significant role in easing the region's dependence on the US for trade.
The economic dominance of China and India has been a gradual process, supported by globalisation of manufacturing and services in the US and Europe. China has capitalised on the outsourcing of manufacturing from the US while India has prospered from relocation of information technology and call centre jobs. This might provoke protectionist rhetoric from America and Europe but this shift may prove to be unstoppable as companies battle to survive in a lower-growth environment.
This year should see a continuation in this shift of economic power away from the developed world. China is already drawing in imports at a remarkable rate – up by 50 per cent in 2003 – and we expect the domestic agenda to have a stronger influence on regional trading. Goldman Sachs has predicted that China and India will be in the world's top three economies – behind the US – by 2050 and will overtake the UK in 20 years.
The challenge to the Chinese authorities is to keep their economy from overheating, with signs of overheating showing in the property market. The government's decision to target rural areas rather than coastal towns for infrastructure reform could cause the economic boom to slow in the short term. However, hosting the 2008 Olympics should help sustain growth and expansion is unlikely to be restricted by high interest rates as the central bank has so far successfully managed inflation.
According to its finance minister, the Indian economy is entering a “golden age”. The outlook for economic growth has been transformed by a sharp rise in foreign investment, the globalisation of India's private sector and strengthening consumer confidence. The general elections this year should lead to further reform and could see the nation get on with the business of joining China as an emerging economic force.
But Asia is not just a two-country story. The booming economies of India and China stand out but the rest of the region is benefiting from the pick-up in cyclical demand that has stemmed from the improving global economic environment and local economic and political reform.
Having recovered from the Asian crisis in the late 1990s, current accounts have maintained a healthy surplus, external debt levels have eased and central banks have kept interest rates at accommodative levels. Additionally, most governments have adopted expansionary fiscal policies that have led to a general improvement in economic conditions.
The fruits of such restructuring have not only been illustrated by rising economic health, but also in the receipt of sovereign rating upgrades, most recently Indonesia, Malaysia and Thailand.
Significantly, the region is becoming more self-sufficient (due in no small part to high demand from China) and therefore we cannot automatically assume that will be affected by a possible US downturn.