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Economics: The Asian Juggernaut
New York: June 27, 2005
By John R. Stephenson

The world economy continues to be dominated by two engines of growth - Chinese productive capability and American consumption. But there appears to be a potential economic headwind that could start to dramatically slow the Asian economic miracle. The problem? The rising price of crude oil, U.S. protectionism and a possible slowing of the Chinese economy.

With the Pan-Asian economy representing some 35 percent of total economic output, not to mention the world's largest and fastest growing region, a slowdown in Asia could spell trouble for the world economy. A possible slowdown in Asia could shave some 0.7 percent off world economic growth and could result in earnings disappointments as planned growth rates for American and European companies fail to materialize.

Between 1999 and 2004, Asia's economy grew at an average annual rate of 5.6% a year, which accounted for some 53 percent of global economic growth. Most of that growth (74 percent) has been concentrated in China, Japan and India. Asian economic growth has been led by China which is posting annual growth rates in the 6 to 9 percent range - largely because of a strong export-led economy. But with ongoing saber rattling in Washington over currency revaluation and import tariffs, not to mention internal restructuring, China's economic growth may begin to take a breather.

For starters, the price of oil, an important commodity for industrial development, has been way up lately. Importantly, Dubai oil (a heavier grade of oil which represents Asia's most important source of supply) has moved up sharply recently as has the price for both Brent and WTI oil. Not only are prices elevated, but due to the rapid industrialization and the failure to focus on conservation, China uses 2.3 times and India 2.9 times the oil per unit of economic growth (GDP) as we do here in the west. Higher prices and poorer efficiency in consumption will likely start pinching economic growth in Asia.

Not only are rising oil prices a potential headwind for Asia but so, too, is a rising protectionist tide in America and Europe for an economy that is export led. Already, there are signs that Asian export growth is starting to slow, as the Baltic shipping index is down some 50 percent from its December 2004 peak. Across Asia, the export growth rate (ex China) has fallen from 18% in early 2004 to about 7% in the first quarter of this year. Moreover, the Chinese government is becoming more aggressive about reducing speculative activity in the housing sector within China. The combination of government efforts to restructure mortgage financings and alter supply and demand patterns in an effort to tame the speculative frenzy in coastal residential property seems to be working. Anecdotal reports indicate that these efforts (initiated on the 12 th of May this year) have brought property transactions in Shanghai to a standstill.

With a potential economic slowdown in China and the rest of Asia as the result of internal restructuring, rising oil prices and protectionist pressures, the world economic growth rate could begin to slow. If the Pan-Asian economic growth rates slow from their current 5.6 percent range to the 4.5 or even 5.0 percent range, this could shave some 0.7 percent off the world economic growth. If the overall world economy starts to slow, American companies could be some of the biggest losers in this scenario. Some 10 percent of America's economy is due to exports with fully 25 percent of exports destined to Asia. This means that every 10-percentage point shortfall of exports to Asia can result in a shaving of some 0.2 to 0.3 percent off the U.S. economic (GDP) growth. Slowing world growth prospects could take the wind out of the sails of many U.S. equities that have been priced with the most optimistic of assumptions.

In the short run, a slowdown in Asia could present a buying opportunity for investors who are interested in commodities. With broader commodity indices already starting to decline, the pullback could be much sharper still as the world's largest importer of raw materials (China) starts to experience a slower economic environment. Another short-term effect of a slower Asian economy and hence world economy would be more moderate inflation overall which would help keep American interest rates from rising - a positive for the bond market.

For the American consumer who has feasted on a diet of lower interest rates, a slowing Asian economy will likely allow the party to continue. Prolonged moderation in interest rates will likely lead to even headier days in the U.S. property market pushing prices firmly into the stratosphere. Not only that, but the already indebted U.S. consumer is likely to plunge further into trouble and continue to spend not from earned income but rather from using the inflated asset values of his/her home to finance personal consumption. Unfortunately, when the global economic imbalances eventually correct, a highly levered and overly indebted consumer who has pinned all of his/her economic hopes on inflated housing prices is likely to take it on the chin.

Investors looking to profit from the Asian economic juggernaut should consider buying the stocks of commodity producers - particularly oil and gas companies on a pullback. The slowdown is likely to be modest (in the order of a couple of years) as Europe and North America are unlikely to be able to substitute for Asia as the leader in global economic growth. Homeowners, as always, are cautioned to reduce their indebtedness and lock in with a long-term mortgage while interest rates remain modest.

StephensonFiles is a division of Stephenson & Company Inc. an investment research and asset management firm which publishes research reports and commentary from time to time on securities and trends in the marketplace. The opinions and information contained herein are based upon sources which we believe to be reliable, but Stephenson & Company makes no representation as to their timeliness, accuracy or completeness. Mr. Stephenson writes a regular commentary on the markets and individual securities and the opinions expressed in this commentary are his own. This report is not an offer to sell or a solicitation of an offer to buy any security. Nothing in this article constitutes individual investment, legal or tax advice. Investments involve risk and an investor may incur profits and losses. We, our affiliates, and any officer, director or stockholder or any member of their families may have a position in and may from time to time purchase or sell any securities discussed in our articles. At the time of writing this article, Mr. Stephenson may or may not have had an investment position in the securities mentioned in this article
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