East Asia and Pacific Update - October 2010

Thank you very much.

First of all, welcome to all those participating in this Speak Out! It’s always exciting to interact with people all over the world on development issues confronting East Asia, and the launch of our six monthly regional economic update and the “Speak Out! “ session that normally accompanies it affords us the opportunity to do so with regularity.

So let’s start with the first question – for which many thanks Eleanor!

China is not, by any stretch of the imagination, “the most developed developing country”. In fact, it’s per capita income of close to $4,000 (using the World Bank’s method of calculating this number) places it roughly in the middle of the developing country group – about 65th among 150-odd countries. Indeed, this is broadly true whether one uses the World Bank’s standard national income per capita measure or one adjusts it to take into account purchasing power parity (which is a better measure of comparing the purchasing power of income in different countries). Indeed, if one uses the $2 a day international poverty line (measured in 2005 PPP terms), about 200 million people in China are poor – the second largest number of poor in any country (after India)! Notwithstanding the tremendous success in poverty reduction, eliminating the poverty that remains has become harder because the poor are dispersed and harder to reach and because the responsiveness of poverty reduction to economic growth has declined.
I don’t believe China receives grants from the international community any more except, perhaps, as humanitarian support in the event of a natural catastrophe, such as the recent earthquake in Szechuan. But China does continue to borrow from international development agencies such as the World Bank and the Asian Development Bank. It does so because it values the knowledge, innovation, and best practice that these agencies bring that they embed in their limited lending. The World Bank Group’s activities in China focus on reducing poverty, inequality, and social exclusion, as well as helping the country meet its environmental challenges (many of which have spillover effects on other countries). About 70 percent of World Bank financed projects in China are located in the country’s poor inland provinces.

Your second question regarding inequality is a difficult one and to do it justice will require more time than the limited amount we have in this Speak Out! Also, one size doesn’t fit all, and policies – whether to reduce inequality or address other development challenges – need to be tailored to individual country circumstances. Having said that, let me suggest three broad ways in which countries have successfully addressed the issue of inequality. The first is by removing impediments that prevent the poor from gaining access to key public services and factors of production – particularly health, education, finance, and land. After all, the main asset that the poor have is their own labor, and anything that can make that asset more productive helps them and helps reduce inequality. Second, in many countries, a large part of inequality stems from rural-urban and inter-regional income inequality. To address this, governments must seek to provide public services (mainly health and education) equally across the country while at the same time connecting poor regions with advanced regions through infrastructure that allow people to move to jobs (a far more effective policy than moving jobs to people!). That way, countries can reduce inequality while still benefiting from the enormous advantages that derive from economic concentration and economies of scale.

What are the obstacles to achieving these objectives? Well, there are many and they differ from country to country. A key obstacle often cited is the lack of resources, but I think many governments can do a lot better with the resources they already have. The reason they don’t is usually to do with inadequate capacity in government or political economy constraints that prevent public services from reaching the poor. For example, some governments in East Asia provide large fuel subsidies that are regressive in their incidence (that is, they benefit the rich more than the poor); they can reduce these subsidies and use the savings to provide public services to the poor through various means, including conditional cash transfers. Indonesia is a good example of a country that has made some progress in this direction, but even there policymakers can do a lot more.

Dear Resti, this question indeed points to one of the key challenges the countries of East Asia face today. East Asia is attracting large capital inflows because of its sound fundamentals and expectations of higher growth over the medium term than in advanced economies. How have countries in East Asia reacted to the large capital inflows? Many have allowed their currencies to appreciate substantially. Most have intervened in foreign exchange markets and boosted the size of their foreign exchange reserves. Some – for example, Thailand - are taking steps to encourage outflows by residents.

Remarkably, very few measures that qualify as “capital controls” have been put in place in developing East Asia – and certainly no country has introduced or increased taxes in capital inflows. (This was recently done in Brazil, but not in East Asia.) You would recognize that several countries, including China, still have not opened up their capital accounts fully – but they implemented no additional measures to limit inflows.

Prospects for further quantitative easing in the U.S. – and we need to see what the U.S. Federal Reserve will announce this week – suggest that capital flows to East Asia will remain strong. Countries could continue doing more of the same, while adding new measures to tighten prudential requirements on domestic banks if they are concerned that the inflows could destabilize the banking system, result in a sharper increase in credit, or contribute to asset price bubbles. But many bankers and policymakers in the region are worried that these measures will not be enough, and some are talking publicly about explicit “capital controls.”

Jan – this is a good question and one that often comes up. Unfortunately, countries that are rich in commodities such as oil, gas, and mining have tended to under-perform economically, have a higher incidence of conflict, and suffer from poor governance. This is because extractive industries earn high profits (in economic parlance, these are termed “rents”) owing to the lack of competition in their production and the low costs of extraction relative to the price they command in the market. The challenge for government is not only to make sure that these “rents” are appropriated by government through various means, including royalty payments, concession or contractual arrangements, taxation, and so on, but that once these revenues accrue to the public exchequer, they are used for the general development of the country and its people. This is not easy to do as there are temptations on the part of industry as well as government to keep contractual arrangements opaque and confidential so that the rents can be appropriated by private parties rather than used for the public good.

Introducing a transparent legal and regulatory framework that governs natural wealth extraction and the use of related revenues for development is a win-win for all concerned. For governments, it signals a sound investment climate that helps attract international and domestic investors, and prevents conflicts that tend to arise when the rules are not clear and there are perceptions of injustice. For businesses and investors, it reduces commercial and reputational risk and supports economic stability – which is critical to earn returns on what are often long-term capital investments. And for civil society and the population at large, it ensures the availability of information not only on what resources are entering the public exchequer but also how these resources are being used for development. A better public understanding of government revenues and expenditures assists public debate and informs choices between alternative options for sustainable development.

I should note that the Extractive Industries Transparency Initiative (EITI) is committed to the goal of increased transparency in the extractive industries sector and lays down good practice for countries to follow. Mongolia and Timor Leste are EITI compliant countries which means that their policies and regulatory frameworks have been validated by the EITI.

Dear Joko, thank you for the question. I asked my colleague Enrique Blanco-Armas and Matt Grant Wai-Poi to help me reply to it. The (consumption-based) Gini coefficient for Indonesia rose before the 1997-98 Asian financial crisis, then eased through 2000 to about 30%, and then rose again through 2007 when it amounted to 37.5%. The coefficient eased in 2008 and 2009 to 36.7%. Bear in mind that there consumption-based Gini numbers tend to be 7.5 percentage points lower on average than income-based numbers – which is helpful when making comparisons with other countries. While there is no doubt that inequality rises in the early stages of development, there is even less doubt that unequal access to education and other government services makes it harder for that inequality to be reversed later.

On taxes, government revenues currently amount to about 20 percent of GDP a year (more in 2008 than in 2009), with tax revenues near 13 percent of GDP. Over the last decade, tax revenues have gradually increased as a share of GDP. There are efforts to increase this ratio, and such ratios tend to rise with income per capita. But I do not think it is realistic – or even desirable - to target a large increase quickly. In fact, if you look at countries with similar levels of income per capita, Indonesia’s ratio of revenues to GDP is not much different. In the region, revenues in China amount to about 20 percent of GDP, and the levels in Thailand and Malaysia are not much higher. This suggests Indonesia’s revenues are not out of line with regional averages – and one should be very cautious before recommending tax hikes at this stage of development.

Jennifer – Capital inflows are destabilizing to the extent they suddenly stop or are reversed. Inflows in support of long term investment are to be encouraged because such flows augment domestic saving and raise the level of investment in the economy. But capital inflows in search of higher interest rates on short maturity bonds or short term capital gains from asset price increases can leave a country just as quickly as they enter – and the whipsawing effect on exchange rates, interest rates, and asset prices can be profoundly destabilizing to economies. The best example of such an impact was the Asian financial crisis when capital flows – which had been entering East Asian emerging markets in growing amounts prior to 1997 – suddenly stopped and reversed. Exchange rates and asset prices crashed, those who had borrowed on the strength of their asset holdings suddenly found their creditworthiness evaporate, banks portfolios deteriorated causing widespread insolvency, and the sudden reduction in credit availability led to production declines, unemployment, and increases in the poverty rate. This is not an experience that developing East Asia wants to repeat – an so policymakers are being appropriately cautious in managing these inflows.

Dear Otabor, thank you for the question. There are at least three key factors. Firstly, the economic fundamentals of East Asia before the crisis were very strong and certainly much better than before the 1997-98 Asian financial crisis: government deficits were in check, government and external debt reduced from a decade earlier, foreign exchange reserves were much increased, and banks were in robust health. Secondly, the authorities in the region responded on time and forcefully to the collapse in global demand by introducing large fiscal and monetary stimulus packages. China’s infrastructure package and subsequent surge in lending clearly had a most profound impact on the region. Thanks to policy support, China’s imports from the region surged, quite unexpectedly for most observers, and helped support regional recovery. Thirdly, of course, was the unprecedented policy support in advanced economies, including the swap lines extended by the Federal Reserve to emerging economies, including to several in East Asia.

East Asia’s lessons from the crisis are simple: have strong fundamentals and ample fiscal and monetary space, and be prepared to use it on time and decisively when trouble comes. Africa is likely to benefit more from other lessons East Asia has learned however. And these lessons have to do with the importance for low-income countries to break into manufacturing.

Dear friend, our China quarterly Update is set to launch in just a few hours (November 3 at noon, Bejing time). Please visit http://www.worldbank.org/cn after that time for our detailed projections for 2011.

Dear Gregore, thank you for the question. I do think some countries in Southeast Asia need to rebalance, but in a different way most observers think about rebalancing. I think the middle-income countries other than China (Indonesia, Malaysia, Philippines and Thailand) need to invest more. Private consumption for these countries is not too low – in fact, as I argued in a recent blog post (http://blogs.worldbank.org/eastasiapacific/private-consumption-in-east-a...), in some of them it may be too high (say, in Philippines, where private consumption amounts to 70 percent of GDP, but fixed investment for about 15 percent of GDP).

Bayarmaa – You have raised a concern that underpins the reason for the recent Fiscal Stability Law in Mongolia. The law’s purpose is to ensure that Mongolia’s public revenues – most of which are derived from the commodities sector – are used sustainably and in support of long term development. I will not be so presumptuous as to suggest what Mongolia’s public expenditure priorities should be – that is something for the Mongolian people, the government, and Parliament to decide. But I will say that whatever projects are considered for the public investment program in Mongolia should be subject to strict economic cost-benefit analysis, and that the results of the analysis should be a key consideration in deciding whether the project should go ahead or not.

Barbara – this is a terrific question. There have been many efforts to encourage more intra-East Asian lending, such as the Asian Bond Market Initiative and the Chiang Mai Initiative, but these have yet to bear fruit. Even activity in the Samurai bond market in Japan had declined in recent years until Indonesia’s re-entry recently. An Asian capital market indeed has enormous potential, but the relatively little progress that has been made so far suggests large institutional and market impediments that stand in the way. Most important among these is the relative thin capital markets in most East Asian developing countries (with Japan being the notable exception) and the underdeveloped institutional framework compared to advanced countries. While efforts will continue to develop an East Asian capital market – and the latest crisis will undoubtedly further spur such efforts – the reality is that country efforts to strengthen their financial institutions and financial architecture is a necessary condition for the success of these efforts and will take time.

Dear Mohammad, thank you very much for the nice assessment and for the questions. On the first one, it is true that that the authorities in developing East Asia have refrained so far from measures to limit capital inflows – other than the measures in Indonesia to require longer holding periods for central bank bills, and the measure in Thailand to eliminate the waiver given to foreign investors in 2004 that exempted them from a withholding tax on interest from government bonds. I can see how many central banks in emerging markets are between a rock and a hard place. Evidence whether capital controls work is mixed at best, yet in the face of the growing wall of money, many central banks feel they need to do something. Tighter regulatory policies on financial institutions could help limit credit booms and asset bubbles, but so far few central banks are talking about such steps. Tightening fiscal policy may be an option – but as we saw in Eastern Europe before this crisis, countries that tighten fiscal policy and have good fundamentals tend to encourage foreign investors further. The big risk, of course, is that the wave of portfolio investment and foreign bank lending would reverse quickly. We definitely have not seen all on this issue, and I suspect many central banks will be more willing to resort to capital controls than most of us think.

On your second question, we wrote extensively about this in our previous report. We conclude that during the crisis it was entirely appropriate to use the available fiscal space to help limit the adverse impact of the collapsing foreign demand and private investment. But as private investment is now picking up – and private consumption accelerating well – it is time to start removing the fiscal stimulus. We do see a need for higher investment in the middle-income countries in East Asia other than China, including for infrastructure – a topic we discuss at length in Section III of the report.

Hai – at this point, I don’t believe that increased public sector debt is a threat to economic stability in Vietnam, but I am concerned about the debts accumulating in one part of the public sector – namely the state-owned “economic groups” and the contingent liabilities these represent for the government. Vietnam did well in dealing with the global financial crisis by introducing monetary and fiscal stimulus packages. But Vietnam has not been as quick as other countries in the region in unwinding these stimulus measures with the result that there are signs of overheating in the economy. The key beneficiaries of these stimulus measures has been the state-owned “economic groups”, but I think the time has come for the monetary stance of the central bank to be hardened somewhat and this would mean a period of gradual debt reduction on the part of the economic groups. The problems in the Vinashin group – Vietnam’s Shipbuilding Industry Group – point to governance issues and borrowing practices that need careful scrutiny. Indeed, just this morning the Ministry of Investment and Planning told the National Assembly that Vietnam should “never have another second Vinashin”. I hope that in the National Development Strategy for 2011-2015 appropriate consideration is given to the future management of these economic groups, including their privileged access to finance.

Dear Xue Zhao, thank you for the question. Emerging market economies have indeed suffered from substantial financial volatility over the last several decades. Since the 1980s, when capital flows to emerging markets began to surge, large inflows have been followed by sudden stops, with profound negative impacts on these economies. And it is not only Latin America. Many countries in Eastern Europe experienced this decade very large capital infows, credit booms, and then a sudden stop when the global economic crisis hit. East Asia of course lived through the 1997-98 Asian financial crisis. But even during the most recent crisis, capital flew out of East Asia. What was different in East Asia this time, however, were the strong fundamentals; the fact that the authorities in most countries have taken the lessons of the 1997-98 crisis to heart; and the very timely and decisive policy support. They had paid down government debt, tightened financial supervision, ran current account surpluses, accumulated sizable foreign exchange reserves. Households, companies and governments had strong balance sheets. Exchange rates were much more flexible than a decade ago. And, indeed, government deficits and debts were under control.
That said, the current large capital inflows pose substantial challenges for the countries of East Asia. In fact, the wave of foreign money is the most important emerging risk the region faces, as discussed in our update titled: “Robust Recovery, Rising Risks.”

Dear Kristine, indeed a crucial question for today’s global developments. Keep the others informed – the more the better, talk and meet regularly, stick to your commitments, avoid discriminatory and unilateral measures is how competing interests are resolved.

Zhang – we do believe that there is considerable room to increase the efficiency of investment in China, notwithstanding the fact that investment efficiency has been improving steadily in China over the years in part because of the declining share of state-owned enterprises (SOEs) in industrial production and the rise in the non-SOE share. Nevertheless, the reality is that SOEs dominate certain sectors of the economy ― especially in services ― not because they are competitive, but because they are granted oligopolistic or monopolistic status by the authorities. Indeed, the list of protected sectors is so large as to virtually guarantee the prominence of the state enterprise sector over wide swaths of the economy. An alternative approach could entail expanding the role of the private sector in manufacturing with more incentives, appropriate regulation, and indirect means of governance.

In addition, like life and death, new start-ups and bankruptcies are not separate processes but part of the cycle of economic life. Not only should new firms be allowed to enter into competition with existing firms, including SOEs, they should also be allowed to exit with minimal cost when bankrupt. Evidence shows that exiting businesses have lower productivity levels than incumbents, and entering businesses have higher productivity levels than incumbents. The reallocation effects from entry and exit account for roughly 40 percent of aggregate productivity growth. In China recent evidence suggests that nearly half of productivity growth manufacturing can be attributed to the exit of low-productivity firms and the entry of new high-productivity firms. Accelerating the bankruptcy rate, perhaps even for SOEs where justified, together with facilitating entry of start-ups, will make it easier for the restructuring process to go forward and encourage more rapid productivity growth.

Dear Leda, there are many shared economic challenges. Among the middle-income countries of Southeast Asia, for example, the need to put in place policies to avoid the middle-income trap is one. And the answer involved investing more in physical and human capital. Consider fixed investment, for example. Only in China, Vietnam and Indonesia is investment at levels that are comparable to what Japan and Korea invested during their economic take-offs – about 31 percent of GDP. But levels of fixed investment in the other middle-income countries are way too low compared with Japan and Korea and with levels before the 1997-98 Asian financial crisis. While larger investment is sufficient for growth, it is necessary – countries that do not invest enough cannot upgrade their capital stock, cannot create the environment in which innovation can flourish, and cannot improve the quality of their workforce.

There are many other shared challenges, and let me offer a sample. Improving the quality of education, including vocational education, is crucial given persistent concerns of employers about inadequate skills. Fostering industrial clusters so that companies can be more connected is another. And making cities more livable is a third one – this one is related to the fact that some of the most polluted cities on Earth are in East Asia.

Dear Mark, thank you for the questions. Firstly, without any doubt, size matters. Larger countries have larger domestic markets, larger imports, and a larger role in the global economy – and correspondingly elevated responsibilities. Countries with large domestic sectors in East Asia – notably China and Indonesia – were able to weather much better the global recession than countries with smaller domestic sectors. And as the authorities in China are planning to move further on rebalancing the pattern of growth and investment to ensure economic, social and environmental sustainability, the domestic sector will play a major role. How? China needs sustained large fixed investment – but its pattern is likely to change to enable the service sector to emerge more strongly, and to ensure the sustainability of economic expansion. China’s private consumption is likely to continue to grow strongly – recall it has been expanding at rates just below real GDP – for decades to come. Thus, a rebalanced pattern of investment will enable strong and sustainable expansion in private investment – even if the external environment is less favorable than in recent years.

In terms of the parallels with Japan, the comparisons I often hear have much more often to do with exchange rate and size, rather than with the “growth situation.” Recall than in 1985, the year of the Plaza Accord (following which the yen strengthened from ¥240 to the dollar in September 1985 to ¥160 by the end of 1986), Japan’s income per capita in real terms was about 80 percent of that in the U.S. China’s income per capita in real terms today is only a fifth of that in the U.S. – and only a tenth in current prices. Despite its rapid ascent, China’s average income is still rather low. But China’s economy is now the second largest in the world – much as Japan was in 1985.

You may (or may not!) have read the last two “Malaysia Economic Monitors” which we produce every six months. They are primarily designed to take the pulse of the Malaysian economy but at the same time they do raise medium term questions such as the one you are raising. The Malaysian authorities are very concerned that Malaysia is losing international competitiveness in traditional labor intensive manufacturing, but is not able to move rapidly up the value chain and acquire competitiveness in knowledge and skill intensive manufacturing. The country’s future success in competing in the rapidly growing markets for skill intensive goods will be central to its long term prospects – especially, as you have pointed out, the dependence in oil exports is not sustainable.

In my view, Malaysia’s long term future will depend on how effectively it does in two areas. The first is the need for additional skilled labor. Ironically, while Malaysia spends a lot on education (more than most developing countries as a share of GDP) and churns out increasing numbers of graduates, enterprise surveys point to the shortage of skills as the single biggest impediment to new investments. The reason is that while the numbers of graduates are increasing, the quality standards in education have been declining, and new entrants to the labor force require further basic training before they are considered employable and this raises the costs of employment and affects competitiveness. Second, the underlying concerns with institutions and governance in the educational system are symptomatic of a broader concern with institutional development across a range of areas. It is interesting to note that Malaysia has a current account deficit of about 15 percent of GDP – one of the highest in the world – and yet it has a very low investment rate (around 13 percent of GDP). This means that owners of capital prefer to invest their savings abroad rather than in Malaysia – and this could be construed as a comment on the attractiveness of Malaysia as a place to invest and on the quality of the institutions concerned with economic governance.

At the same time, foreign direct investment in Malaysia has also been declining for some time– and it declined sharply further during the crisis. The reality is that Malaysia is now competing for investment resources with the likes of China and India, and it needs to raise its game to ensure it remains an attractive destination for investors over the long term. The New Economic Model was supposed to be Malaysia’s response to these challenges, and we are waiting to see how the authorities intend to implement it.

Dear Ananta, China is opening up – look at the large share of trade relative to GDP for a country with 1.3 billion people. The opening to foreign investment, trade and knowledge, together with the reforms to allow market forces to operate, have been the two key forces that resulted in growth of about 10 percent a year on average for the last three decades. And China I snow investing more abroad: in 2009, China invested $44 billion abroad, up from $16 billion in 2005-2007. These outflows are likely to rise further, as Chinese companies look for growth opportunities and for natural resources abroad. And the time will come – perhaps sooner than most of us expect – when China’s outward FDI will exceed inflows.

Luuk – There seem to be three parts to your question.

First, the importance of education in East Asia cannot overemphasized. After all, for the middle income countries, higher skills are key to moving up the value chain, and this cannot be done with more and better higher education. And similarly, for low income countries to break into manufacturing, basic skills are necessary, which in turn require primary and secondary education levels at a minimum. Your point about early childhood education is well taken – the evidence shows that this is the most effective way to raise educational standards.

Second, you make the point that the procurement processes in the region tend to be slow and these tend to hinder positive development outcomes. The donor community faces the quandary that they not only want to support rapid development, but they also want to demonstrate that the money they have provided is used effectively for the purposes intended. And these two objectives sometimes come into conflict with one another. The answer, of course, is to improve country systems – something the international community has been supporting in the region, but we all recognize that institutional development in any areas, including in public financial management, is a slow and painstaking process. So we need to be patient. There is no worse enemy of development than impatience!

Finally, you make the point abour helping “the many instead of the few”. In the World Bank’s jargon, you are talking of “inclusive development” – that is, development that brings along all economic groups by ensuring that everyone has access to public services and the factors of production.

Thank you very much for the questions. On your first question, Indonesia’s economy weathered well the crisis: in fact, growth slowed only moderately in 2009 to 4.5 percent. For 2010 and 2011, we project growth to quicken to 6-6.2 percent. This growth is solid and compares well with the subdued expansion in advanced economies. But, as you know, the authorities have set out a more ambitious target of 7 percent a year from 2014. Achieving such higher growth will require more efforts than in the past. Larger fixed investment will be needed, including n infrastructure. The business environment will need to be further improved to facilitate the private investment. Education and worker skills need to be ramped up to ensure productivity growth is faster than before, and to spur the business creation that comes from entrepreneurship. And there is a large agenda to ensure that a country of many islands is more tightly connected.

Your second question is very important – and highlights that no matter how successful countries are in terms of achieving stronger growth, it is ultimately the reduction in poverty and equal opportunities for all to share in the prosperity that matter most. What do the numbers show for Indonesia? The absolute number of urban poor and rural poor fell below 11.5 million and 20 million (respectively) for the first time since 2004. The overall poverty rate declined to 13.3 percent in August 2010 from 14.2 percent a year earlier.

To reduce poverty further, sustained stronger growth will be needed – and notice my emphasis on both sustained, meaning year after year, and stronger. And that growth needs to be more inclusive, by providing opportunities for all to work, save and invest. Equitable access to education is very important: how else will citizens acquire skills and entrepreneurial abilities that allow them to command higher incomes. But so is access to other government services. Last but not least, there is a substantial role for government intervention to help the most vulnerable. In Indonesia, for example, the national community-based grant program - PNPM-Mandiri (Program Nasional Pemberdayaan Masyarakat -Mandiri) that provides community investment grants for the poorest sub-districts (kecamatan) is a resounding success. So are conditional cash transfer programs that tie cash transfers to the poor with actions on their parts.

Your question reflects the frustration felt by many that international investment tends to have little impact in building local skills. I don’t believe the answer is to impose this requirement on foreign investors, because this runs the risk of driving away foreign investment altogether. The answer lies in better education and skill development locally so that foreign investors see it in their interest to hire local staff because it is economical and profitable to do so.

As for attracting potential investors, the best approach is to (a) have a good investment environment for local and foreign investors; (b) keep trade open and ensure that there are behind-the-border barriers to trade; and (c) have good infrastructural connectivity to neighboring countries through arterial roads, and ship and air transport facilities.

Dear Ma Yan, thank you for the question. The Chinese authorities are working on the 12th five-year plan. And even more than in the 11th five year plan ending 2010, the emphasis will be transforming the pattern of growth to ensure sustainability – economic, social and environmental. This will mean, among other things, allowing more room for the service sector to grow; allowing for a greater share of household income in the national income; efforts to reduce environmental degradation and improve energy efficiency. Such rebalancing should lead to strong and more sustainable growth – and notice please the emphasis on both words.

Pornchai – this is a difficult question because much depends on how long some advanced countries will maintain their expansionary monetary stance. It also highlights some of the dangers posed by short-term “hot money” that can complicate monetary management, fuel inflation and asset price increases, and lead to exchange rate appreciation, but which can just as easily be withdrawn when global liquidity conditions change. At the same time, it should be recognized that some of the inflows into East Asian emerging market economies are for long term investment and reflect the market view that returns to investments in East Asia are likely to be superior to returns in other countries, especially advanced countries, for the foreseeable future.

As your question suggests, these inflows have, among other things, led to exchange rate appreciation in virtually all the emerging market economies of East Asia, which has raised concerns about export competitiveness over the medium term. Partly to ensure that currency appreciations occurs gradually, but also because of concerns about competitiveness, central bank authorities have been intervening in currency markets, and the best evidence of this is rapidly rising reserves in these countries. If capital inflows into these countries continue for an extended period, however, monetary and exchange rate management will become quite difficult, and will imply some tough choices for policymakers.

Yingying -- I don’t see any dangers of the kind you suggest. Policymakers in East Asia recognize the value of having open trading systems and ensuring consultative approaches to key macroeconomic decisions. The current ASEAN summit is another opportunity for the ASEAN nations to discuss these issues and fashion a common approach.

On your second question – I believe China has made significant progress in rebalancing during the 11th five year plan, although the global financial crisis may have disrupted that progress somewhat. And I am optimistic that further progress will be made during the 12th five year plan period. The Chinese authorities take plan targets seriously, and I am sure the rebalancing targets in the 12th plan will be ambitious.

China’s massive stimulus package was certainly a key part of the policy support that saved the world. Add to it the exceptional policy support in advanced economies, and the resilience of most other emerging market economies. Some interesting facts are useful at this point. Private consumption in East Asia is now about 25 percent larger than in 2007 adjusted for inflation – while consumption in the G-3 (U.S., eurozone and Japan) is still lower. (See also my latest blog post, http://blogs.worldbank.org/eastasiapacific/private-consumption-in-east-a...). In 2009, when output, domestic demand and imports all contracted in the U.S. and most other advanced economies, they expanded robustly in China and most of East Asia. Suffice it to say, without the support of the infrastructure package, China’s growth would have been much smaller – and the global contraction substantially larger.

With the package coming to an end, government-influenced investment has slowed substantially, and along with it domestic demand and imports. Growth in China, as a result, will ease to a more sustainable pace in 2011. You can read more about this in the forthcoming China quarterly report prepared by my colleagues in the Beijing office of the World Bank.

Patricia – your question is very similar in nature to the one raised by Eleanor earlier. I should note, though, that rising asset and income inequality does not necessarily mean that health and social welfare is undermined – especially if growth in a country remains high, but the income growth in some areas (or for some households), while significant, may be less than in others. Thus, although inequality in China has increased substantially, especially between urban and rural areas , rural incomes have continued to climb at an average of 5 percent a year in real terms (and above) leading to a substantial decline in poverty and a huge improvement in key social indicators (such as maternal and infant mortality, disease incidence, and so on).

But the point you raise about inequality is nevertheless an important one which governments must address – otherwise, as you point, there comes a point where social stability itself can be threatened. As I mentioned earlier, governments must try to ensure that all people – especially the poor – have access to public services, especially health care (including clean water) and education, as well as access to the means of production, especially capital and land. When it comes to accessing these critical ingredients for participation in the economic mainstream, it should not matter whether a person lives in urban or rural area, or in the north east as opposed to the south west. In economic jargon, public services should be “spatially blind” – in other words, no on area or group should be discriminated in favor of another. Similarly, access to capital is important – otherwise those with privileged access do better than others. This puts a premium on policies that support access to finance for small and medium term enterprises, not to mention households through microfinance programs.

In short, there should be equality of opportunity – but this, of course, does not mean there should be perfect equity. Society should reward individuals and groups for hard work, innovation, and ingenuity – but not for social, economic, or political status or connections. Easy to say, but difficult to do, for all the reasons I had noted earlier.

Dear Naratsetseg, let me answer your first two questions; I do not understand the third one. On the first question, let me give you an example from Mongolia, where I am now writing the answers to these questions. China accounts for about 70 percent of Mongolian exports – almost exclusively copper and other minerals. And when these imports contracted by as much as 50 percent in the first half of 2009 (year-on-year), and when global prices for copper fell sharply, Mongolia’s economy was hit hard. Fortunately, not for long. Chinese demand recovered much more briskly than demand in the rest of the world, thanks to the massive infrastructure stimulus package, and is now contributing to Mongolian real GDP growth of 8.5 percent in 2010. Thus, Chinese imports from the smaller countries in the region are very important for these countries’ economic fortunes.

Another important example is provided by the rising Chinese investment in the smaller economies in East Asia – although I should hasten to add that many other countries throughout the world are receiving large investment from China. China is now the third largest investor in Lao. Chinese investment is contributing to infrastructure development in many of the low-income countries in the region. And a recent press report – which I have not confirmed independently - mentioned that a Chinese company plans to invest $3 billion in Cambodia in energy and property development.

On your second question, let me start by mentioning how strong the pace of poverty reduction in East Asia has been. In the beginning of this century, half of the population in developing East Asia lived on less than $2 a day. This year, about 20 percent fewer people are mired in poverty – or about 360 million people. The global crisis slowed the pace of poverty reduction in East Asia, but did not result in increased poverty. The marked reduction in poverty in East Asia has indeed been accompanied by improvements in other social indicators. For example, primary education is now pretty much universal across the region – and this was not the case only ten years ago. Life expectancy at birth in Cambodia, Indonesia and Lao is up by more than 5 years over the last quarter century. On average in East Asia and the Pacific, under -5 child mortality is down from 51 per 1,000 in 1995 to 29 per 1,000 in 2008. These improvements, however, need to be contrasted with high, and in many cases, rising income inequality across the region. While in some countries increases in inequality at may mean that restrictions on people to work harder, invest more and ear more are lifted, in most cases the increases in inequality mean lack of opportunity – and exclusion from the fruits of rapid economic growth.

Sey – Trust your feelings because they are right! Cambodia’s currency is depreciating against the baht, but that’s because the Thai baht is appreciating against the dollar on account of capital inflows which Cambodia is not enjoying. At this point, I don’t think it appropriate for the authorities to defend the exchange rate, given the limited amount of foreign exchange reserves. Indeed, the depreciation of the currency has a silver lining – it should increase the competitiveness of Cambodia’s textile and tourism sectors which are badly in need of some good news. Given the appreciation of most currencies in East Asia, Cambodia must now be considered a very attractive tourist destination! To that extent, this would also be good news for Cambodian banks who have loans to this sector – although one would hope that the banks do not have uncovered foreign exchange exposure.

Stephane – At this point, the complex set of sometimes overlapping FTAs in the region resemble a spaghetti bowl and must mean very difficult and complicated lives for customs authorities in the region, and there is a real need for having an overarching FTA for the ASEAN+3 countries that does away with the many bilateral FTAs that currently exist. I know that this is something the ASEAN Secretariat considers an important priority. Having said that, the FTAs in East Asia have been supportive of the very rapid growth intra-regional trade that has occurred in recent decades and which has underpinned the success of the region. What is more, I do believe there is scope for further regional integration, not just through trade in manufactures but also increased trade in services (including financial and labor market integration). In fact, I believe further regional integration will be essential for continued rapid growth in the region.

Note that the TPP – the Trans Pacific Partnership – is a trade pact between, as the name suggests, the United States on the one hand and seven APEC countries on the other. Japan is not one of these countries (the participating countries are New Zealand, Peru, Australia, Chile, Singapore, Brunei, and Vietnam, while Malaysia is in negotiations).

Hal -- In most countries where decentralization has already taken place -- Indonesia, China, Thailand, Vietnam, Philippines -- the focus is very much on strengthening the capacity of local governments and ensuring that public financial management (especially public expenditure management) by local governments improves.

Public financial management (PFM) is a high priority in virtually all the countries we work with in the East Asia region. Even in Thailand we are embarking on a new public expenditure review (that incidentally focuses on center local fiscal relations), and we are launching a major effort in Malaysia as well. In Indonesia, Cambodia, and Lao PDR, our PFM work has been ongoing for many years now. Perhaps the most progress has taken place in Indonesia -- not surprising, given the length and intensity of the support by the international community and the higher capacity of Indonesian institutions, but even here there is a substantial amount of work that remains to be done. In this regard, an increasingly high priority is capacity building in local governments through our PEACH (Public Expenditure Analysis and Capacity Harmonization) program.

In all countries, the biggest challenge in my view continues to be in public procurement systems where improvements have been less impressive than we would have liked. This is an area in which the international community needs to intensify its support.

David – I think of all the developing regions of the world, East Asia has the best medium term prospects for improving the lives of the rural poor. I see no reason why the huge progress that has already taken place in China, Malaysia, Thailand and Indonesia cannot be continued. The pace of poverty reduction in these countries has been impressive, and rural areas have part of this process – although poverty rates there may not have fallen as rapidly as in urban areas. And given that Cambodia and Lao PDR are located in a rapidly growing neighborhood, I am convinced that their prospects are bright too. In the Philippines, there is renewed optimism that the incoming Noynoy administration will undertake the necessary reforms to turn around the economic prospects of the rural areas and reduce inter-regional inequality. And the commodity exporters of Mongolia, Timor Leste, and PNG are likely to continue to enjoy elevated commodity prices for the foreseeable future, and provided they are able to ensure that public revenues are spent wisely and sustainably, their futures look bright too.