THE start of 2022 is an eerie echo of 2021. Omicron, the new variant of coronavirus, has raised infections in all parts of the world, threatening economic prospects for the year ahead.
But rather than a rerun of the severe downturns seen in 2020, the outlook is one of high global inflation and rising interest rates, with severe risks for the more vulnerable emerging and developing economies (EDEs).
In 2021, advanced economies were more resilient than expected to Covid-19 waves even without effective vaccines. The Alpha wave was appalling for people’s health, but hardly dented the global recovery. With more monetary and fiscal stimulus than proved necessary, the result was excess demand and inflation.
Getting through Omicron should be easier. Global case numbers are at record levels, but the number of deaths is still subdued.
Vaccines have proved effective at preventing serious disease and the community also has greater immunity from prior infection, so advanced economies should be better able to adapt.
Despite this, forecasts from the International Monetary Fund, Organisation for Economic Co-operation and Developmen and World Bank – which suggest that advanced economies can return to the path of economic output forecast pre-pandemic without any long-term damage – are likely to be too optimistic.
In my view, high inflation shows there were severe bottlenecks associated with running a hot economy in 2021: there are fewer workers seeking jobs, and two years of weak investment hamper economies’ ability to deliver the productivity improvements that foster non-inflationary growth.
The greatest danger for 2022 and 2023 is still inflation from demand exceeding available supply.
Headline inflation rates will fall in the second half of 2022. But the main risk to the global economy is that they stay too high for comfort.
The Federal Reserve (Fed) is belatedly responding to this threat in the United States where it may need to raise interest rates from the current 0% floor; “sooner or at a faster pace” than officials initially thought.
Many informed observers now expect four quarter-point interest rate rises this year along with the Fed selling some government bonds it owns.
However, tighter monetary policy should not be confused with a highly restrictive monetary policy stance. A nominal interest rate of 1% can still stimulate demand, especially with inflation likely to be well above the Fed’s 2% target by the end of the year.
The problem for poorer countries is that tighter, but still stimulative, US policy might well spell trouble for them. Why? Because tighter US monetary policy is likely to exacerbate an already difficult outlook for EDEs.
Poorer economies have struggled to recover as quickly as advanced ones; lacking the same degree of trust and market access to borrow freely to protect their populations in the early stages of the pandemic.
Without financial resilience and generous social security systems, the downturns in EDEs have been more persistent and recoveries weaker. The perfect storm was completed by the difficulties these economies have faced in gaining access to vaccines and in delivering them effectively to their populations.
Two decades in which emerging economies’ living standards caught up with their richer cousins have now ended. The World Bank estimates that real incomes in 70% EDE will grow slower than those in advanced economies between 2021 and 2023.
Furthermore, weakness during the pandemic is also likely to leave much larger and more persistent scars.
The World Bank estimates that recoveries in poorer countries will fall almost 6% short of pre-pandemic expectations.
This further limits their ability to service existing debts, which have risen by 10 percentage points of national income since the start of the pandemic.
This is likely to bring a hard landing, debt distress and social discontent in weaker countries.
None of this is made any easier by the possibility that the Fed will press harder on the brakes than expected this year, rattling markets and tightening global monetary conditions. The president of the World Bank now expects prospects in 2022 as “unlikely to be favourable for developing countries.” But EDEs are not all alike.
Firepower
China has ample fiscal firepower to cushion its economy in the short-term. Turkey is the prime example of a country vulnerable to a shock. High public and private debt alongside little credibility in its economic institutions is a toxic mix.
Countries in similar positions have already seen capital flight and face the threat of a vicious circle of weakening prospects and increased vulnerabilities.
As I see it, overall, the outlook is going to be difficult.
The World Bank expects 40% of EDEs still to have national income below the 2019 level in 2023. Those are the conditions likely to prompt some-form of a reckoning in 2022, rather than more muddling through.
Growth
Against the backdrop of an unexpectedly strong but uneven global economic recovery in 2021, the Malaysia economy had performed reasonably well, having promptly recovered from a “technical recession” in second and third quarter of 2021; overall, gross domestic product (GDP) in 2021 rose by 3.3%.
The rebound reflected the reopening of the domestic economy, driven by pent-up private consumption demand, rising production to meet backlogs accumulated from the lockdowns of global supply chain disruptions, alongside higher oil prices.
Vaccinations have reached a critical mass. Compared with other Asian nations, Malaysia’s growth in 2022 has been projected at an optimistic 6.4%, to be among the highest in the region, next to India, Vietnam and the Philippines.
In particular, the Malaysian manufacturing sector reported a further increase in growth momentum in the fourth quarter of 2021, as operating conditions improved at the quickest pace since April.
The headline IHS Markit Malaysia Manufacturing Purchasing Managers’ Index (PMD) – an indicator of manufacturing performance in the country, rose from 52.3 in November to 52.8 in December 2021, indicating a stronger improvement in the health of the sector.
As a result, the average performance over the final quarter was the strongest quarterly performance since the survey began in 2012.
Business reported faster expansions in both production levels and new orders. Despite the additional pressure on production lines, manufacturers scaled down workforces in December.
Business continued to report severely disrupted supply chains, with material shortages and delivery delays remaining widespread.
This contributed to a further steep increase in input costs.
The further easing of Covid-19 restrictions alleviated pressures faced by the sector and provided momentum for growth in December.
Operating conditions remained tough nonetheless. Business expectations for 2022 remained strong overall, as 20% of companies reported optimism that the worst of the pandemic has passed.
The degree of optimism eased from November. December data suggested that output rose for the third month running.
The pace of expansion was moderate and was the quickest since April. Firms commonly attributed the rise to stronger demand as pandemic restrictions were eased.
New order volumes also increased at the end of the year, with the rate of growth reaching an eight-month high.
Still, investment remained soft, as reflected in the slowing of potential GDP (i.e. the maximum output of goods and services an economy can produce when it is most efficient, at full capacity).
Hence, labour productivity had risen by only about 1% in 2016-2021; and the share of high-skilled jobs is only about 25% of labour force (productive economies have a ratio close to 60%). Without dynamic private investment spending, the Malaysian economy will soon weaken.
The World Bank in right to observe: “While the re-opening of the economy and the continued support from external demand are expected to facilitate economic recovery in 2022, the economic shock has exacerbated the hardships that the poor and the vulnerable were already facing before the arrival of Covid-19.
Addressing the challenges faced by these groups as well as narrowing the educational disparities will require both immediate and longer-term policy responses”.
For 2022, most projections I have seen are rather optimistic: between 5.5% and 6.5%, essentially recouping its pre-pandemic GDP level by the first quarter of 2022.
Most forget the severe damage that was done to the small and medium enterprises, especially by the recent widespread floods. Also, the logistics network, especially the adverse impact on seaport operators and logistics players, will continue to need serious support to revive from the trough and sustain their volumes, going forward. The situation of the tourism and air travel industry is no different.
Policy
In the short-term, policy measures has to be geared towards maintaining financial support for the poor and the vulnerable; ensuring greater inclusivity with social insurance; and mitigating further learning losses.
Over the long-term, government needs to make structural reforms: taking measures and changing (and making new) policies to reform the social protection system; ensuring they are broad-based, robust and purposefully targeted. It is not good enough that government initiatives are well-drafted and well-documented. They have to be action-oriented: readily put into practice in order to meet the intended objectives.
The public expects to see policies-in-action. To be sure, there is limited fiscal space – a key challenge, as revenues have been declining since 2013; while current operating spending is rigid and rising rapidly to soon take-up two-thirds of revenue, thereby crowding-out discretionary spending. So, there is an urgent need to rebuild fiscal buffers, through collecting more and spending smart. Then, there is the commitment to eradicate hard core poverty by 2025. Here, government must adopt a holistic and targeted approach to get the desired results. Finally, there is the issue of low wages, bearing in mind the 12 Malaysia Plan aims to arise the share of wages and salaries in GDP to 40%, from 37.2%. This simply means generating more skilled-jobs, which requires dynamic new policies to attract and bring-on highly skilled industries and a well-educated workforce.
What then are we to do
For the second year running, the pandemic has reshaped the world – not changing everything, but accelerating many things, from population decline to digital revolution. This is how these global trends will define 2022 for Malaysia: (i) Baby bust: Falling birth rates (at a faster pace during the pandemic) have been lowering global economic growth. And, further shrink the world’s labour force. Already, 51 countries (including Malaysia) have shrinking working-age populations, up from 17 in 2000. (ii) Peak China: Slowed by the baby bust, rising debt and government meddling, China still accounted for 25% of global GDP growth in 2021, down from one-third pre-pandemic. China has already peaked as an engine of growth, with serious implication for Asia, and Malaysia, indeed, the world. (iii) Debt trap: Global debt grew even faster during the pandemic, driven by government borrowing. Twenty-five countries (including the US and China but not Malaysia) have total debt above 300% of GDP, up from none in the mid-1990s. Printed money continues to inflate financial markets and deepen the debt trap. (iv) Not 1970s: Fewer workers, more government spending and rising public debt all point to higher inflation – but not to the double-digits of the 1970s. Technological changes will continue to put a lid on prices.
The bigger risk is asset prices. Financial markets have grown to four times the size of the global economy. (v) Greenflation: The fight against global warming is raising demand for green metals (such as copper and aluminium). Green policies is reducing raw material supplies. Investment in mines and oilfields has dropped sharply. The result: “greenflation” in commodity prices. (vi) Productivity paradox: Adoption of digital services during the pandemic has not ended the decline in global productivity growth. A 2020 surge was confined to the United States, and petered out late 2021.
Employees working from home put in longer hours with lower output. Despite accelerating technological progress, weak productivity persists (including in Malaysia). (vii) Data localisation: The virus hit a world turning inward, with declining flows of everything (trade, money, people) except for data. Internet traffic in 2022 is likely to exceed all traffic up to 2016, with a twist: many authorities are blocking data from crossing borders.
The most restrictive regulations are coming from emerging countries led by China, and India. (viii) Bubblets’ deflate: very few assets show classic bubble signs, from prices doubling in 12-month to manic trading. These “bubblets” grip cryptocurrencies, clean energy, tech companies with no earnings, and Spacs. Over the past year, all witnessed falls of 35% or more from the peak. (ix)Retail cooling: Retail investors rushed into the 13th year of the global bull market and excited late arrivals; often signal the party is ending.
From the United States to Europe, millions of people borrowed money to buy stock at a frenzied pace. Such manias rarely last. Even if the stock market as a whole is not at risk, the names most popular with retail investors likely are. (x) Physical matters: Rising hype for the metaverse seemed to spell decline for the physical economy. But, digital natives do need a physical shelter. Demand from millennials and Gen Z helped inflate housing markets. Future tech does not make physical resources obsolete. Behind every avatar is a human. And like it or not, labour shortages are lifting wages.
Kuala Lumpur, January 19, 2022
Former banker, Harvard educated economist and British Chartered Scientist, Prof. Lin of Sunway University was the author of “Trying Troubled Times Amid Trauma & Tumult, 2017-2019” (Pearson, 2019). Feedback is most welcome. The views expressed here are the writer’s own.