Asian economies recorded their highest inflation rates in over a decade in the first and second quarters of 2022. The speed of the increase has been damaging, with the region’s average Consumer Price Index (CPI) rising by 3.5 percentage points in the past 12 months.
Inflation was expected to rise in Asia as cyclical growth rates recovered after the pandemic. However, a series of supply chain shocks, including Russia’s invasion of Ukraine and China’s continuing COVID lockdowns, have stoked higher than anticipated inflationary pressures across the region. Asia’s ageing demographics, climate-related disruption, and transition to cleaner energy will also contribute to higher inflation rates over the medium term.
Yet, while Asia’s inflationary challenges are similar to those in Europe and North America, they are not identical. On the one hand, lower car ownership and energy consumption per capita has softened the blow of higher energy prices in some Asian markets. On the other, the cost of food accounts for a larger share of the consumer basket among a lot of the Asian markets, making many households more vulnerable to the recent rapid rise in agricultural prices.
Separately, as there are several differences between Asia’s major economies, the banking sector in the region will need to prepare for a range of inflationary dynamics and policy responses. The following are some of the main examples:
- Inflation rates diverge widely across the region. Singapore, Thailand, and India — where price pressures are highest — are reporting respective inflation rates more than four percentage points higher than those recorded in Hong Kong SAR, Mainland China, and Japan. The region’s uneven recovery is largely responsible, especially in the latter economies, where growth remains weak.
- Monetary policy has diverged even further. The Hong Kong Monetary Authority, for example, has increased rates in lockstep with the Federal Reserve owing to the dollar peg, whereas central banks in Southeast Asia have generally been slow to respond. The People’s Bank of China, meanwhile, has cut key rates in response to the country’s recent growth slowdown.
- Foreign exchange rates have fluctuated across the region as a result. Seven out of Asia’s 11 largest economies have experienced more than eight percent depreciation against the US Dollar since the start of the year, in turn further contributing to inflationary pressures, especially in the smaller markets more dependent on food and energy imports.
The banking sector’s ability to navigate through these wide-ranging and fast-changing conditions will be a measure of their success in the coming years. To highlight the potential impact on the sector, we have outlined three macroeconomic scenarios. In our view, the Stagflation and Hard Landing scenarios are the most likely. However, the situation keeps evolving quickly, and each scenario is best used as a reference point for further discussion.