The unexpected bounce in inflation in the Philippines announced this week combined with price pressures in places such as Australia and New Zealand show how inflation continues to pose a significant problem in patches of the Asia Pacific region. Higher rates are likely to continue to hurt equity markets there.
But the region has an enormous dichotomy, as laid bare by today's inflation figures from China. Consumer prices in China rose just 2.1% in January, which is an increase from the 1.8% rate the prior month but is hardly ground shaking. Producer prices continue to fall, down 0.8%, from a 0.7% decline in December.
Taiwan also has reported inflation figures for January. At 3.0%, it is the highest figure in the last six months, although higher consumer spending during the Lunar New Year likely explains the advance from 2.7% in December. Entertainment expenses doubled and vegetable prices also escalated due to cold weather but are a temporary effect. Next month should be even milder, both in terms of temperature and price hikes.
Japan faces what is rip-roaring inflation by its own standards, at 4.0% for December, the highest rate in 41 years. With a change at the helm of the Bank of Japan imminent, there's scope for the central bank to curb some of its super-lax monetary stimulus.
A new governor will take the helm of the BOJ in April, with Japanese Prime Minister Fumio Kishida promising to nominate his pick this month. He reportedly has sounded out BOJ Deputy Governor Masayoshi Amamiya, the second-in-command to central bank chief Haruhiko Kuroda. Such a pick hardly promises a radical overhaul of policy that Amamiya, nicknamed "Mr. BOJ" for his long service at the bank, has helped oversee. Kishida's pick must be approved by parliament, but that's an easy win because Kishida's party controls both houses.
It's likely that inflation in Japan is peaking, and both the central bank and the government want an inflation rate of 2.0% to set in, permanently. Japanese companies are beginning to raise prices, but the government also wants to ensure that employers raise wages, too. Only once Japanese employees see their take-home pay increase is the central bank likely to act.
On that front, the service sector that employs so many workers is experiencing inflation of only 0.8%. The higher prices are in Japanese goods, up 7.1% in December, as supply shock works its effects and the higher production prices from rising commodities and component imports filter through.
Much of the higher inflation in Japan is a result of higher energy costs in a country that imports all its oil. Stripping out food and energy, core inflation was up 3.0% in December, a nudge higher than the 2.8% rate the previous month. In other words, not far from the 2.0% ideal rate that the administration and central bank would like to produce.
It is in nations such as the Philippines that higher prices are really beginning to hurt. Figures out of Manila this week show that the January rate jumped to 8.7% from 8.1% the month before.
The January U.S. jobs report showed an unexpectedly high rate of hiring, with 517,000 jobs created, but 91.1% of them came in the services sector. Only 46,000 of the new positions came in goods and manufacturing, indicating that the strong demand for goods seen in the wake of the Covid pandemic has ended. Yet there is still pent-up demand for services, which aside from tourism tend to have little spillover beyond one nation's border.
Nomura has calculated that the services sector is now stronger than the goods sector in 11 of the 15 economies that calculate manufacturing price increases. The trend also applies in the eurozone, the United Kingdom, Brazil, and out in Asia in China, India and Japan.
This is "not a particularly favorable backdrop for Asia," Nomura global economists Rob Subbaraman and Si Ying Toh write in a report. Asian exports are linked to manufacturing in the United States and China in particular. "The implication is that Asian exports are likely to remain in a slump in coming months because of the global tech downturn and durable-goods inventory overhang, even if the U.S. and Europe skirt recessions and China rebounds, all driven by services demand."
We've already seen Wall Street react to the prospect of the U.S. Federal Reserve keeping interest rates "higher for longer" due to strong jobs and wage growth. Poorer Asian exports and potentially a sustained higher U.S. dollar, which had been weakening, would hurt Asian financial conditions.
Consequently, an "immaculate soft landing," if the U.S. Fed pulls off its best impersonation of the U.S. Olympic women's gymnastics team, "may not be so positive for Asia, particularly if it leads to sticky U.S. inflation," the Nomura economists state.
S&P said it believes the recent U.S. jobs and inflation figures mean the Fed will raise rates above 5.0% this year. Market expectations of rates falling meaningfully later in 2023 are "unrealistic," S&P's Asia Pacific chief economist Louis Kuijs said.
Inflation has not taken off in China, Indonesia, Japan, Taiwan and Thailand. Central bank tightening and a slowing economy in Malaysia, Singapore and South Korea "choked off a burgeoning rise in core prices," Kuijs notes. As a result, Korea, Indonesia and Taiwan are now likely done with raising rates. While Thailand may continue to raise rates, that's coming off a very low level of 1.25%, driven by a return to the tourism industry, which is so key to the Thai economy.
India would like to bring sticky inflation under control but has yet to do so. It ran above the upper tolerance rate of 6.0% for the first 10 months of 2022, at which point the central bank must explain to parliament what it is doing to control inflation; however, it dipped in November and December. Economists polled by Reuters predict that Indian inflation rose slightly to 5.9% in January from the 5.7% rate reported the prior month.
The inflation rates are well above that in Australia (an implied annualized pace of 10.7%), New Zealand (8.1%) and the Philippines (8.6%). Central banks in those nations will likely proceed with rate hikes.
For equities, those nations should be skirted, while Asia-focused investors should focus their attention on the nations where interest rates have leveled off. Macro trends will cause significant divergence this year in stock performance.
