Asia's Good Times at Risk

Illustration for TIME by Nilanjan Das

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The muslim holiday of Hari Raya, the final days of Ramadan, is usually a joyous time in Malaysia. The offices of Kuala Lumpur's skyscrapers empty as Malaysians travel to their home villages to celebrate with family and friends. But this year is different. As Ahmad Mustapha, a 48-year-old banker, boarded a bus in Kuala Lumpur with his wife and two children to visit his parents, all he could think about was what might happen to him and to his country when he returned to work. After Wall Street's U.S. stock swoon on Sept. 29 and Washington's inability to pass the $700 billion package to rescue the U.S. financial system, Mustapha is waking up to the potential dangers the region faces from a collapsing American economy. "The U.S. is such a giant and we are so intimately connected with it," he says. "If it falls, we will fall, too."

His worst-case scenario: a repeat of the Asian crisis of a decade ago, when regional economies and governments were convulsed by devastating recession. That prospect still seems remote. Growth in Asia has remained relatively robust in 2008 and financial sectors sound. But Asian stock markets, most of which have plummeted by 30% or more this year, are signaling harder times ahead. Falling export growth and tighter credit are already beginning to pinch. Merrill Lynch expects GDP growth in Asia (excluding Japan) of 7.7% this year, the slowest pace since 2003. Next year could be worse if the U.S. enters a full-blown recession. "There are few signs as yet of the damaging effect but it will show up soon enough," says Ramon Navaratnam, a former senior official in the Malaysian Finance Ministry. "We cannot escape the contagion."

That realization is causing a rapid shift in economic policies by governments that are increasingly concerned about maintaining growth. A few months ago, the biggest threat appeared to be inflation — running at double-digit rates in countries including Indonesia, India and Vietnam — which led Asian central bankers to hike interest rates, hoping to cool off overheating economies and keep a lid on rising costs. But inflation worries have eased with recent sharp declines in the prices of oil and other commodities. Now policymakers are opening the money taps again. In September China's central bank lowered its key interest rate to 7.2%, the first cut since 2002. More central banks are expected to follow. "We're going to move from monetary tightening to monetary loosening in Asia," says Manu Bhaskaran, a Singapore-based economist with the Centennial Group. "Inflation is yesterday's story."

Instead, stimulus is quickly becoming the order of the day. Taiwan recently unveiled a $5.6 billion spending package for its sagging economy that included subsidized mortgages and new infrastructure projects. Japan's Cabinet on Sept. 29 proposed a $17 billion supplementary budget to help ease the burden of high energy and food prices on businesses. Newly installed Prime Minister Taro Aso is also calling for tax cuts to boost domestic demand. "Rebuilding the Japanese economy is an issue of utmost urgency," Aso said in his first policy speech. China, which could see its GDP growth rate fall below 10% next year for the first time since 2002, is widely expected to announce a major stimulus package at an October plenum of the Communist Party.

Asia is somewhat better protected than other parts of the world against recession. For one thing, most Asian governments are in sound financial condition and can prime their economic pumps almost at will, says Song Seng Wun, regional economist at CIMB-GK Research in Singapore. "They all face the downturn with a few more bullets in their pocket than they had in the past," he says. The high growth rates of the past several years provide an additional buffer. With the exception of slow-growing Japan, which may already be in a recession, Asian countries will likely account for the majority of the world's GDP growth this year.