3 January 2019
ASEAN morning bytes

General market tone: Risk-off.

Fears of a slowing global economy sapped risk appetite overnight with the malaise seen to be carried over to Thursday. 

International theme: Poor PMI numbers and trade anxiety dent risk taking

  • Investors saw a volatile trading session with traders caught between stalling manufacturing momentum in China and Europe sparking concerns about global growth.  Meanwhile, energy prices rebounded sharply overnight on slowing production even ahead of supply cuts from Russia.  Investors will refrain from going headlong in either direction, awaiting clarity on the US-China trade situation and global growth.
Indonesia: Inflation falls below midpoint of central bank target

December inflation came in at 3.13%, a slowdown from the November reading of 3.23% but faster than expectations with food prices boosting the headline number

Inflation within the central bank’s target range of 2.5% to 4.5%

Inflation settled at 3.13% in December, slightly faster than expected but still within Bank Indonesia’s (BI’s) 2.5-4.5% target. Core inflation was also faster in December at 3.07%, matching analysts' expectations. Food inflation was tagged as the main reason for the December print hitting 3.14% with egg and chicken prices boosting the overall print the most. Inflation is likely to remain within target over the monetary policy horizon, with government officials like Economic Minister Darmin Nasution expecting inflation to “fall below 3%” for the full year with the central bank’s forecast at 3.2%. 

Inflation well-behaved, BI to focus on FX again in 2019

Monetary authorities have raised interest rates in six separate meetings in the past year amounting to a total of 175 basis points, with the central bank looking to take on a more neutral stance even as it forecasts the Fed hiking twice more in 2019. BI Governor Perry Warjiyo indicated at the last meeting- where the central bank paused- that they believe “that the current interest rate level is still consistent with efforts to lower the current-account deficit to reach the safe level and to maintain the attractiveness of domestic financial assets”. The central bank, however, looks ready to defend the stability of the Indonesian rupiah going forward to help provide financial stability. 

China: PMIs show shrinking domestic demand

The Caixin PMI (like the official PMI), fell below 50 in December, which means manufacturing activities are contracting. Even more eye-catching was that "new orders" in both PMIs fell from expansion in November to contraction in December. This confirms our view that the economy is weak and that stimulus needs to arrive quickly.

PMIs show manufacturing activities shrinking

Today's December Caixin manufacturing PMI fell from 50.2 in November to 49.7. This echoes the official manufacturing PMI, which fell from 50.0 to 49.4. The sub-indices of both PMIs tell us more.

New orders of the two PMIs also fell from expansion to contraction. This means not only that the export sector faces shrinking manufacturing activities but that the domestic manufacturing sector in general also faces contraction.

Combining with other activity data, the economy is weak

Together with a fall in industrial profits of 1.8%YoY in November from +3.6%YoY in October, and softer retail sales growth (8.1% in November from 8.6% in October), we can confirm that the economy is weakening.

The trade war has affected domestic demand

We believe that the data reflect that not only has the trade war damaged growth in the export sector. It has also hurt export-related supply chain companies and in turn, domestic demand.

If domestic demand is not supported by fiscal stimulus quickly, then further weakening will pose a risk to job security. That could create a vicious downwards cycle.

As a result, we expect the Chinese government to speed up the delivery of infrastructure investment to support the economy, which will mainly be through projects governed by local governments, e.g. new metro lines.

GDP at 6.3%

We currently estimate CNY 4 trillion fiscal stimulus (though if the economy weakens much more, this figure is likely to rise) as well as 4 further required reserve ratio cuts (0.5% to 1% each) and two interest rate cuts (5bps each) in 2019 to support the economy. If needed, local governments will ease housing measures. These measures should help support our forecast of 6.3% GDP growth for 2019.

Philippines: Inflation to close 2018 below 6%

Index heavyweights food and energy items to pull inflation lower, with the December print seen at 5.5%.

Finally below 6%

Index heavyweights food items and energy-related sub-indices are seen to have pulled inflation below the 6% handle as supply chains normalize and global energy prices plunged faster in November and December than they rose from September to the 2018 peak in October.  The 4Q harvest season and imports of grains have helped stabilize supply (and price) for most food items, with the latest government bulletin showing second week of December rice inflation at 10.03% down from November 2018’s 14.46%.  Meanwhile, domestic pump prices have tracked the freefall seen in Dubai oil prices, with gasoline prices now below pre-2018 tax reform levels and with diesel not far behind.  The November-December plunge led to transport fare adjustments being rolled back, although the government has decided to proceed with the second tranche of its excise tax adjustment to fuel (both gasoline and diesel) of P2.00 for 2019.    

Supply side inflation

2018 inflation moved well past BSP’s inflation target as a confluence of bad weather, disrupted supply chains, currency depreciation and tax reform fomented cost-push inflation.  With these supply-side oriented bottlenecks mitigated or removed, we can expect inflation pressures to dissipate quickly and the overall headline print to slide in 2019, barring any return of these supply issues.  Should inflation continue to trend lower and move within target as early as 2Q19, the BSP could move to unwind some of its aggressive hike cycle to help buttress forecasted slower GDP growth for the year.  Cuts to the BSP’s policy rate are expected to be carried out even with the central bank widely expected to slash reserve requirements (RRR) as early as 1Q19.    

Risks to the inflation outlook appear tilted to the downside

With the rice tarrification law all-but waiting President Duterte’s signature and oil prices sliding to levels last seen in mid-2017, risks to the inflation outlook appear now more tilted to the downside although upward pressure looms with possible extreme weather conditions with El Niño forecasted in the first half of 2019. Surprise OPEC supply cuts could cause crude oil’s recent plunge to reverse.  

Singapore GDP ends 2018 on a weaker note

Annualized growth of 1.6%QoQ in the final quarter of 2018 means full-year GDP growth should reach 3.2%YoY, though 2019 GDP more likely to end in a 2.5-3.0% range. 

A slow end to 2018

Although it would be easy to portray Singapore's final quarter of GDP growth of 1.6% QoQ annualised as a slowdown from previous quarters, the truth is that this has been a remarkably steady year for economic growth. Annualized figures exaggerate small differences. Whereas in fact, the range of non-annualized growth over the year has been only 0.4%QoQ, compared with more than 3% in 2017, and 2.2% in 2016. That steadiness reflects changes in the economy - no longer the big mid-year surge of exports to fuel global production ahead of the West's holiday season. This makes growth more predictable, planning easier, and investment less prone to unforeseen swings in external demand. We would view this as a positive development. 

2019 - in a 2.5% to 3.0% range.

This year, using a similar quarterly profile to that seen in 2018, would deliver a growth rate for the full year of 2.6%. In reality, we suspect the quarterly growth profile could come in a little softer than that for 2018, though this would still be in line with MAS expectations for GDP to moderate a little from 2018. 2.5% seems a sensible starting point for the forecast, with room for amendment in both directions. 

Headwinds are of course already evident. The global backdrop is one of slowing G-7 growth, not acceleration, and the outlook for the US, in particular, could see large deviations from current growth rates. China is already slowing and the full ramifications of that are yet to be felt across the region. Brexit and its impact as far away as Asia, if any, is as yet unknown. And the outlook for the rest of Europe murky.

But there is room for optimism too. US President Trump seems keen for some sort of deal with President Xi on trade, though it remains to be seen what sort of deal, and how quickly tariffs can be reduced or removed. In the meantime, the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP) of 11 countries, including Singapore, substantially reduces tariffs and could give other trade in the region a helpful boost. 

Risks tilted towards the downside

To our way of thinking, this still leaves the balance of risks tilted towards the downside, though not markedly so, and we could yet have to revise our forecast numbers up, instead of down. But with the risks tilted in this way, we would expect the MAS to proceed cautiously, just as the US Fed is also more likely to tread a cautious path during 2019. 

Reading time around 8 minutes

Good MornING Asia - 3 January 2019

First trading day of 2019 shows the USD firming sharply, but equities mixed and bond yields dropping - at least the yield curve is steepening

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