SpirE-Journal 2008 Q4

Asia-Pacific Outlook 2009

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Asia-Pacific Outlook 2009

Spire E-Journal (SEJ): The world is in the grip of what has been termed the worst recession since the Great Depression of the 1930s. Blue-chip names in the financial services industry have fallen, such as Lehman Brothers and Merrill Lynch, or are tottering like AIG, while inflation has hit dangerous levels and may pick up again. In Asia, the talk is of ailing economies, a credit crunch and political instability. Would you agree with this bleak assessment?

Leon Perera (LP): This is the first time since the Depression of the 1930s that Europe, America and Japan are simultaneously in a severe recession, but that’s where the comparisons end. The Great Depression was an event of historic proportions. At its height, unemployment exceeded 30% of the labor force in the US. Soup kitchens were set up to avert mass starvation on city streets. Banks were collapsing and wiping out the entire life savings of families. When GDP contracts by double digits, basic social and political stability become undermined, and we see riots, a breakdown of law and order and massive human suffering (disproportionately borne by the poor). This happened in Indonesia in 1998, in the ex-Soviet states in the early 1990s and in the US, Germany and many countries during the Great Depression. In Germany, of course, Adolph Hitler came to power during that time.

We are nowhere near such a situation now. Currently, not only is unemployment at much lower levels – under 7% in the US now – but also governments worldwide are still in a position to prop up the financial sector and inject spending into the economy. With consumer spending not seeing a wholesale collapse, emerging economies still growing at respectable rates, the banking sector still remaining viable and huge fiscal stimulus packages on the way, we won’t see another Great Depression this time. Part of the reason is the lessons learnt by policy-makers from the experience of the Great Depression itself – such as the need to guarantee bank deposits.

SEJ: Is the worst yet to come or have we hit bottom?

LP: Spire expects to see some bottoming out in mid or late 2009. This is the likeliest scenario. There is a small (but significant) chance of a continuation of the crisis into 2010 or 2011. It will probably get worse before it gets better. US consumer spending began year-on-year declines only in October 08 and this will continue for at least six months before we see a reversal. And the US is still the world’s largest single economy, running a major trade deficit with the rest of the world, meaning that the imports it sucks in really matter, not only to emerging Asia but also to developed regions like Japan and Europe. Recovery will be slower in Japan thanks mainly to the current state of political gridlock between the ruling party (LDP) which controls the Lower House and government, and the opposition party (DPJ) which controls the Upper House. In Europe, the speed of recovery will be in between that of the US, which tends to bounce back quickly, and Japan, which is facing these political problems.

However the good news is that emerging economies will not be as badly affected as the developed ones. China is on track for 7-8% growth in 2009, India for roughly the same level of growth and Southeast Asia will grow in the 4-5% range. Russia and Brazil will also turn in respectable performances thanks to decent domestic demand and commodity exports.

SEJ: How would we know when the economy has bottomed out?

LP: The key indicator would be the rate of unemployment, which is the major factor affecting consumer confidence while also being the best current indicator of business confidence. Equity markets also tend to lead the real economy in recovery from a crisis, by about six months. So the direction of equity and commodity prices would provide a clue. The key is to recall that emerging markets will bottom out after the developed ones, since developed countries make up two thirds of global GDP and hence have more power to move the world economy. But the definition of hitting bottom in emerging countries may be a positive real GDP growth of between 4% and 7% (with a few exceptions) whereas in the developed zone it could be hitting a GDP contraction of 1% or 2%.

SEJ: Will B2B demand be better or worse than consumer demand?

LP: From the studies Spire has undertaken, our sense is that the B2B market will be worse affected in 2009, though it will also recover earlier as pent-up demand builds up. Companies have been hurt by tighter credit. Banks are reluctant to lend, even when it comes to providing things as simple as letters of credit for international trade or bridging loans to financially healthy firms. This is forcing companies to seek “small-ticket” solutions such as equipment leasing and renting rather than owning facilities – as opposed to big-ticket solutions like capital expenditure and opening new subsidiaries. The tighter corporate governance requirements that have arisen since the collapse of Enron, such as Sarbanes-Oxley compliance, have also tended to empower the Finance function in companies, making it easier for CFOs to clamp own on “nonessential” corporate expenditure, including spending that is championed by sales and marketing departments.

One final factor is the incredible volatility that we have seen in factor costs in
2008 – such as the price of oil and other raw materials as well as foreign exchange rates. This has frightened the business sector and made most companies far more conservative when it comes to spending, preferring to hoard cash as far as possible. However some sections of the B2B market will remain healthy – such as Foreign Direct Investment from rich countries into poorer ones, and of course Government-related demand.

As for consumer demand, this is actually the bright spot of Asia. In the big emerging economies, such as China and India primarily but also Indonesia, Vietnam and a few others, while consumer spending has slowed, it is still healthy and even vibrant compared to what is happening almost everywhere else in the world. Luxury retailers are still opening new outlets in Asia, even in second and third tier cities – for example in the northern Chinese city of Harbin, a city classified as second tier by the government, European luxury brands Louis Vutton and Salvatore Ferragamo are building new retail outlets to be opened in 2009! The same is true of parts of the former Soviet world, such as the big cities in Russia. Only in the most economically mature parts of the emerging world, like Taiwan, Singapore and Korea, will consumers be downbeat.

SEJ: Is the government the customer segment offering the best potential for growth in 2009?

LP: That’s a very interesting point. What is happening now is a historic shift in economic orthodox away from Reagan’s “supply-side economics” and back to a focus on aggregate demand and how counter-cyclical government fiscal stimulus is needed – or, in other words, Keynesianism. The Finance Ministries and central banks of the world are reacting to this crisis with pledges of big fiscal stimulus, and this is being lauded by multi-lateral bodies like the IMF and World Bank, who express the economic orthodoxy of the times. Almost all major economies have announced large fiscal stimulus packages, and Spire has discussed this phenomenon in a number of recent commentaries. Much of this government spending will go to the building of infrastructure – mainly roads, bridges, airports, ports, power plants and water treatment plants. Some of it will take the form of loans or cash grants for R&D. Some will go to the construction of public housing and industrial parks. And no doubt some of it will go to raising government operating expenditures in areas like IT, facilities and vehicles. Hence the business of big tenders to governments or government-linked bodies is going to be big business in 2009. This will benefit firms that are experienced in handling government business.

SEJ: What are the key trends shaping markets in 2009? What will be the critical success factors for marketing and business development in 2009?

LP: What we have now is a conjuncture of an economic downturn combined with above average levels of inflation. While inflation has fallen since the peaks of mid-2008, Asian inflation is still high by the standards of the last ten years or so. And of course incomes are constrained while unemployment is creeping upwards. Such situations bring about a change in market dynamics. Firms that are able to respond to these changes quickly will thrive.

It’s interesting that Amazon.com in the US registered its highest ever level of Christmas sales in 2008. I think one competitive success factor will be the ability to deliver value – either lower prices or a better quality or range of products at the same prices. This is what will boost e-commerce revenues during this period, since e-commerce at its best will be able to provide better prices, a wider range of products and reduced transport costs to consumers. And it is clear that with the current pervasiveness of E-communities, consumers are in a better position than ever before to compare information and product experiences.

Another group that will thrive from the same set of circumstances would be vendors of parallel imports, made-in-Asia products, generics and other low-cost product offerings. Big pharmaceutical firms now have to compete tooth and nail in pharmacy stores with generic drugs for many (if not most) of their product lines. At the same time big international brands will launch their own counterrevolutions against these competitors, such as power tool manufacturers releasing discounted second brands to compete against cheap China-made tools.

SEJ: Will there be major social shifts that marketers need to take cognizance of?

LP: The current downturn will accelerate a trend which has already gathered momentum in preceding decades – which is that of managers and professionals from the US, Europe and Japan moving to emerging countries to live, work and set up businesses. We can expect to see a large growth in the expatriate populations in Asia from countries like the US, Japan, Canada and the countries of Western Europe, driven by greater long-term (and, in the current situation, short-term) economic opportunities in emerging markets, as well as by emerging economies now being more welcoming of “foreign talent.”

The other major social phenomenon unfolding is the rise of an active citizenry in emerging Asia. The internet, mobile phones and social media websites have fuelled the growth of organization, identity and social networks, particularly among educated youth. This has translated into political expression and organization as well as engagement around consumer issues. In China this year, for instance, there were two major boycott campaigns organized over the internet against French retailer Carrefour – one after the Olympic torch relay in Paris and one after French President Nikolas Sarkozy met the Dalai Lama. This sort of organization has played a pivotal role in political activity all across Asia – from the protests in Korea against President Lee’s policy on US beef imports to the street protests in Bangkok for and against former Prime Minister Thaksin Shinawatra.

SEJ: What sort of strategies will be popular in the new year, and which ones will fall from favor?

LP: There will still be a position for premium marketing. Inequality has been on the rise in Asia since 1998. The incomes of the richest 10-20% of the population are generally still buoyant. So it is not a question of all marketing shifting to the bargain basement. However we will see more resources ploughed into value marketing.
There will also be more engagement of opinion leaders in the market, those that have the ability to shape new market trends and public opinion, through their blogs and internet postings for example. Firms are waking up to this and actively seeking to engage these opinion leaders, to seek feedback on their brands and products and encourage them to help define new products and new marketing campaigns. This engagement can take the form of special E-community sites, special clubs for brand owners as well as special events like training sessions for customers. What we see as probably declining would be mass-marketing that is too heavily reliant on traditional (and expensive) radio-print-TV (RPT) campaigns, as well as marketing messages that are confusing and deceptive. Asian customers are far from naive.

SEJ: How about the general business environment within which all marketers operate? Will there be more instability in prices in 2009, particularly oil and food prices, or are we over the worst of it?

LP: In some ways the evolution of the current crisis has confounded the predictions of mainstream economic theory – the way the US dollar strengthened after the collapse of Lehman Brothers, for example. The movement of oil prices, from a high of nearly USD150 a barrel to around USD30 a barrel in six months – is also historically unprecedented. On balance, the global financial system is probably entering a phase of stabilization. There might still be failures of big financial institutions to come, but these will probably be few and far between. So there will be fewer shocks from the financial sector. The resumption of lending by the banks will take a little longer, but we can expect to see progress towards normalcy by the second half of 2009.

Inflation will continue to run at above average levels into 2009 and beyond, but it is unlikely that inflation will hit the peaks seen in some countries in mid-2009, when oil and food prices were spiking and many governments removed fuel price subsidies as a result, pushing oil prices higher still. As for commodity prices, we believe that they will rise in 2009, with the exception of agri-food, where the crisis of under-production was fairly easily and quickly correctible. However as far as energy is concerned, current prices are probably too low and will rise significantly in 2009 and beyond. Russian Prime Minister Vladimir Putin recently made a major speech in which he stated that the era of low prices for natural gas was coming to a close, because the marginal costs of extracting gas were rising due to natural scarcity, and it was inevitable that these costs would get passed onto the customer. The same can be said for oil and other fossil fuels. Oil is getting more and more expensive to produce, with fresh deposits found in locations that are hard to drill and extract. So we do see some upside to oil prices in 2009 but perhaps not to the peaks of 2008.

SEJ: What Asia-Pacific countries offer the best opportunities and also which ones harbor the worst pitfalls?

LP: The big emerging countries offer the best opportunities, because of the fundamental dynamic of people moving from rural to urban areas, from the informal to the formal economy, which is how you get emerging market growth rates of 8-10% or more. This means China and India primarily, which are now among the largest economies in the world, not only in Purchasing Power Parity terms but also in hard currency terms as well. They are certainly the world’s fastest growing major economies, with GDP growth in excess of 7%. Incidentally, Russia should be added to this list. However growth is not confined to China and India by any means. Indonesia is the world’s fourth most populous nation (and third largest democracy) and has been performing remarkably well during the current crisis, with economic growth exceeding 6% in spite of a major fuel price hike in 2008 and a presidential election in 2009. Vietnam is a country of over 80 million people which has registered growth rates similar to or even exceeding China’s over the past 10 years or so. Vietnam only joined the WTO in 2007 (China joined in 2001). Both these nations afford excellent growth prospects.

The ASEAN (Southeast Asian) group of countries, that also includes Malaysia and Thailand, will also see some boost from the on-going process of regional integration whereby ASEAN countries are combining their economic strengths to forge a free trade area similar to what the European Union was prior to the Maastricht treaty of the 1990s. In the longer-term we should also not count out mature countries which are centers of R&D and innovation, such as Korea, Australia, Singapore, Hong Kong and Taiwan, even though the short-term prospects in these countries are not exciting. In contrast, we do not see much positive movement in countries facing structural political problems, such as Pakistan, Myanmar and North Korea.

SEJ: Are there wild cards on the horizon that could derail the growth picture for Asia? An India-Pakistan war over the Mumbai attacks perhaps, worsening political instability in Thailand or continuing political gridlock in Japan between the LDP and DPJ?

LP: The on-going gridlock in Japan since 2007 presents a huge missed opportunity for the region. Japanese consumers, companies and financial institutions are holding onto trillions of US dollars worth of cash that could be channeled into spending or investment were the right political conditions to appear. Japan could provide a far greater stimulus to the region in terms of import demand and outward FDI than it is currently providing if policy issues like the proper management of pensions and the liberalization of post office savings were optimally managed. But this is a gradual, structural issue and will not generate any sudden shock. We do not believe that war between India and Pakistan is likely over the issue of the Mumbai terrorist attacks. Cooler heads on both sides will probably prevail, as they did after the attacks on the Indian parliament building a few years ago. Even if fighting does break out, it is likely to be contained, similar to the brief Indo-Pakistan war over the Himalayan region of Kargill in 1999. As for Thailand, we do not see a wholesale political melt-down, just a period of slower growth. It should be recalled that the Thai economy continued to grow substantially throughout the political crisis of 1992, which saw the bloody suppression of riots on the streets of Bangkok with huge loss of life, followed by the overthrow of a military government.

SEJ: Is Asia still the world’s premier region for growth? What are the prospects for other emerging market regions such as Russia, Latin America and MENA (Middle East/North Africa)? Are they linked to the Asia story?

LP: Asia is still the largest emerging market region in the world in terms of purchasing power and growth taken together. However Russia and Brazil are clearly a part of the league of fast growing, major emerging economies. Russia and Brazil are actually more industrialized and urbanized societies than emerging Asian countries like China and India, with a larger proportion of their people living in urban areas. So they lack some of the growth dynamic that comes from moving people from an agrarian to an urban setting. But this is compensated by a more sophisticated industrial base. Russia and Brazil possess world-class technology and world-class companies in specific fields such as aerospace, automotives, energy and agri-food. The political system is very much pro-growth. And we should not forget that, of course, Russia is the world’s biggest exporter of natural gas and one of the world’s biggest energy exporters. Spire is fairly bullish about the economic prospects for Russia and Brazil. The Middle East has not been aggressive enough in developing a non-oil economy, but it is making concrete strides in this direction and hence is another region to monitor, particularly Saudi Arabia and the Gulf states which together will remain the world’s most important exporters of oil for at least a generation to come. Economic links between Asia and these other emerging regions are frankly at a very early stage and have tremendous room to expand.

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