Asia waits for funds to give recovery a kick

Asia waits for funds to give recovery a kick

By Alan Wheatley

TOKYO (Reuters): Asia is back in business, but some economists
are afraid the region's recovery will start to run out of steam
unless badly flagging investment rates start to pick up.

With Asia still awash with capacity the 1997 financial crisis
exposed as surplus to requirements, some bankers expect it will
take another two or three years before investment claws its way
back to pre-crisis levels.

"Consumption and exports have led the rebound, aided by
stimulative fiscal policies and regional trade links. However,
for the growth story to continue its current speed, investment --
inventories and, more importantly, capital formation -- must
start growing in a meaningful way," Warburg Dillon Read's Asia
economists said in their March report.

Investment in new plant and equipment is vital to maintain
competitiveness as well as to create the new jobs that generate
spending power.

But Warburg said investment ratios this year in several
countries were likely to be still more than 30 percent below
their pre-crisis average. This will put a brake on growth next
year, causing consumption to taper off and pointing to a lower
growth trajectory in the medium term, the investment bank said.

The weakness in investment is inextricably bound up with the
fragile state of Asia's financial system. Even so, an improvement
in the health of banks might not be enough to fuel the long-term
credit growth that finances capital investment.

"For example, consider Malaysia, where significant bank
recapitalization has failed to inspire credit growth," Warburg
said.

Desmond Supple of Barclays Capital in Singapore is
particularly uneasy about Thailand. He said year-on-year Thai M2
money growth of just 1.5 percent in January is evidence private
consumption and investment are not about to take over from
exports as engines of growth.

"We're at the high water mark of export growth and yet
domestic demand hasn't followed through. You've still got up to
two years' worth of surplus capacity in urban centers in
Thailand. This is going to weigh heavily on private investment,
which was one of the key dynamics to growth pre-crisis," he said.

Superficially at least, emerging Asian economies have
something in common with Japan in being unable to recycle huge
savings surpluses into domestic investment because of excess
capacity and weak banking systems.

In the case of Japan, a Hong Kong-based economist argued, this
is in part because asset prices have not been allowed to fall to
levels at which fresh investment becomes profitable -- a recipe
for deflation as buyers wait for the right time to strike.

But economists say the differences are more important: Japan's
plight was deeper than the rest of Asia, which is also recovering
more quickly than its powerful neighbor because governments have
largely avoided Tokyo's policy errors.

J.P. Morgan says Korea's V-shaped recovery is proof positive
Asia need not fall into the Japanese trap.

True, investment last year in Korea rose only 3 percent in
real terms after a 20 percent drop in 1998, barely contributing
to GDP growth of 10.2 percent. Moreover, J.P. Morgan does not
expect fixed investment in Korea to regain pre-crisis levels
until 2002.

But this is only to be expected after a deep crisis that
depressed capacity use rates and brought home the need for
drastic restructuring, said David Fernandez, an economist with
J.P. Morgan in Singapore.

Nor is subdued bank credit a worry. When Korea recovered from
its last recession in 1993, bank lending did not kick in until
some three years later. Early investments were often funded out
of cash flows. Fernandez expects other crisis-hit countries
eventually to follow Korea's recovery pattern.

"Domestic demand is what we're counting on in stage two of the
emerging Asia recovery story. However, I wouldn't say that
anything in the pattern that we see now of investment being weak
and lagging is anything to be concerned about," he said.

On the contrary, he said the fact that investment is too low
to absorb domestic savings is generating sizable current account
surpluses that will stand Asia in good stead in the likely event
of rising interest rates in the United States and Europe.

"Having current account surpluses still at this stage of the
recovery -- not being dependent on massive capital inflows to
help them boost the recovery -- makes emerging Asia less
vulnerable to external shocks," Fernandez argued.