We have earlier argued that Asia’s manufacturing activity has been impacted more by demand-side than by supply-side pressures, due to strict COVID-related policies. Supply constraints in Asia have been less acute than in the US and Europe, and we had forecast resilient industrial growth in 2022 and 2023 as regional demand recovers.
However, the global growth outlook has deteriorated since then. Following our recent downgrade to 2023 GDP growth forecasts for most Asian economies, we now expect weaker industrial growth in Asia. That said, there will be divergence across the region (Exhibit 1).
Exhibit 1: Faltering demand will weigh on industrial output next year
Production shows mixed trends in Asia
Notwithstanding continuing uncertainties from geopolitical tensions, supply chain pressures are improving (Exhibit 2). Input costs are peaking as commodity prices ease. But moderating supply constraints haven’t translated into output growth across Asia as demand conditions have diverged.
Exhibit 2: Supply chain pressures have eased
Latest data show mixed trends in industrial activity in Asia (Exhibit 3). Unsurprisingly, China is seeing a rebound after the major COVID lockdowns earlier in the year. But output is also rising at a solid pace in Japan and in parts of Southeast Asia. While Japan is benefitting from backlogs in the auto industry, Southeast Asia is gaining from a revival in tourism and pent-up demand from delayed reopenings.
Taiwan and South Korea, on the other hand, are dealing with sequential contractions in factory output, as is Singapore, due to a slowdown in the global electronics cycle.
Exhibit 3: Mixed production trends in Asia
In the short term, we still see some pockets of optimism. We expect Japan’s auto production will continue to recover into early 2023, which should bolster manufacturing output, as auto industry accounts for 16% of Japan’s industrial production. Our industry team expects Japan’s auto production to expand by 8.8% in 2023.
Moreover, India and Southeast Asia could see positive effects from firms diversifying away from China given the rising risks of technological decoupling between China and the West. However, on the whole, we think that reasons for optimism are fading fast.
Demand side drivers are buckling
Signs of weaker global demand are already visible in the manufacturing PMI surveys. New orders have fallen in the advanced Asian economies. They are still showing an uptrend in emerging Asia (Exhibit 4), but this is primarily because of rising domestic orders. We think it is only a matter of time before temporary boosts from reopening and “post-COVID” normalisation give way to weakening domestic demand, amid tightening financial conditions and slowing global growth.
Exhibit 4: Emerging Asia benefits from improving domestic demand
After our latest growth downgrades, we now forecast a mild global recession in 2023. This is particularly bad news for Asia’s largely export-oriented manufacturing sector, and we expect the industrial slowdown to become broad-based and gather pace into the fourth quarter of 2022 and the first half of 2023. Domestic stimulus measures will likely keep China’s industrial production from slowing further. But with exports accounting for more than 50% of the mainland’s manufacturing output, the slowdown in external demand will limit the output next year.
Further accentuating downside pressures on Asia’s production will be the ongoing rotation away from goods to services and growing signs of oversupply in the semiconductor industry. From mid-2020 until recently, chip demand boosted economies focused on high-tech goods. In Asia, Taiwan was the key beneficiary, followed by Singapore and South Korea. But those economies are being buffeted by the slowdown in chip demand. Our industry team forecasts global electronics production will only grow 2.6% in 2023, down from 6.3% this year.
Meanwhile, easing supply chain pressures have led to a build-up of inventories, which will drag on production in an environment of falling demand (Exhibit 5 and Exhibit 6).
Exhibit 5: Inventories are building up again…
Exhibit 6: …and will drag on production as demand weakens
Sharply lower industrial production growth in 2023
Overall, we forecast Asia’s industrial production growth to slow to 2.7% in 2023 from 3.9% in 2022, before recovering to 4.7% in 2024 (Exhibit 1). We expect the downturn to be especially pronounced for advanced Asia, though Japan should outperform.
In our baseline, we foresee industrial production in advanced Asia ex-Japan contracting 0.5% in 2023, after growing 1.8% in 2022. Excluding China, we see industrial growth in emerging Asia slowing to 1.9% next year from 5.5% this year.
Admittedly, China remains a wildcard, potentially with both upside and downside risks. China does not suffer from an input cost problem. And we continue to look for a recovery next year in Chinese growth. But we have toned down our expectations considerably, and much depends on how the zero-COVID approach progresses and its impact on demand and industrial activity.
A faster pace of interest rate hikes, both regionally and globally, is a key downside risk to our baseline forecast, as it would result in weaker demand than we currently forecast and raise the cost of capital for manufacturers. Uncertainties also abound on logistics and other supply side issues. While producer prices may be peaking in many places, ongoing geopolitical tensions could result in energy and other raw material prices staying higher for longer.
Priyanka Kishore has more than a decade’s experience in macroeconomic research and forecasting across emerging markets, with a special focus on India and ASEAN. She currently leads Oxford Economics’ Singapore Global Macro Services team and is responsible for overseeing the firm’s South and South East Asia research.