Fri, Dec 22, 2006 - Page 9 News List

Why 2007 will be a make-or-break year for China, rest of Asia

The region's economies are increasingly relying on China to propel growth in the face of a long-expected slowdown in the US and tepid prospects in Japan

By William Pesek  /  BLOOMBERG

Of all the questions facing Asia next year, none looms larger than what to expect from China.

The last 12 months proved more than ever how much Asia is relying on its second-biggest economy. Japan may be back and the US economy is by far the world's largest, yet China's 10 percent growth is increasingly underpinning Asia's hopes.

China isn't likely to slide into crisis next year, though the number of issues that may come to a head is daunting. On the one hand, China needs to create millions of jobs to spread the benefits of rapid growth. On the other, it must slow things down to avoid overheating -- something it hasn't done this year.

Complicating the effort, China's economy isn't like others. It lacks a liquid bond market, limiting the central bank's influence. It also lacks a cohesive, national fiscal policy centered in Beijing. It's a bit like trying to control a speeding car without decent brakes or reliable steering.

Add in to the mix worsening pollution and rising rural discontent. Almost half of China's 1.3 billion people must work more than one day to afford a Starbucks latte. It's not escaping rural Chinese that people in Shanghai, Beijing and Shenzhen appear to be getting wealthy while others struggle to find clean drinking water.

The year ahead will see China under intense pressure to boost its currency, even though it is unlikely to do so significantly. It also will be pushed to open its financial sector and clamp down on abuses of intellectual-property rights.

North Korea may cause many headaches for Chinese Communist Party leaders.

Finally, China needs to come to terms with how it can compete in the information age while limiting the flow of information. By censoring news offered by the likes of Google.com and Wikipedia.com, Beijing ensures that its best and brightest only know so much about advancements and trends a world away. China must loosen up if it is to encourage innovation and create more domestic growth.

There are other themes that are worth keeping an eye on in Asia next year. Here are five:

First is a US slowdown. Monetary policy, as Milton Friedman liked to say, operates with a lag. So far this year, the US Federal Reserve has added 100 basis points to the overnight lending rate to 5.25 percent, and those increases are still funneling through the economy.

The risk is that a marked US slowdown cripples China -- the region's current growth anchor. Asia is still too export-dependent for its own good, and the year ahead might serve as a reminder.

Second is inflation. Whether the US stands its ground or not, Asian central banks may need to take stimulus out of their financial systems. While the Fed and the European Central Bank were busy raising interest rates, Asia's central banks were concerned with boosting growth and keeping currencies from rising.

Complicating things for Asia are continued strong global growth and the risk that oil prices will climb anew. Next year, bond traders should be on guard for more active interest-rate policies. It may lead to volatile trading in markets.

Third is Japan's tepid return. Investors finally realized this year that Japan's long-awaited recovery wouldn't be as powerful as hoped.

What's more, Japanese Prime Minister Shinzo Abe, who has been in office since September, remains vague about his plans for Asia's biggest economy.

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