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Thread: Asia faces inflation challenge!

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[quote=FRANKENSTEIN,294861]In Japan, anaemic growth combined with the constant threat of deflation is perhaps the region's exception where some inflation could help overcome some of the structural impediments. In the latest stock market downturn coincident with a weakening dollar, it has again been the exporters that have felt the most pain. It is hoped that modestly rising prices may help those companies exposed to domestic consumption factors and allow for some margin expansion.

Historically, in Asia higher inflation has initially been positive for equity markets, being supportive of higher valuations and earnings. However, later in the cycle markets have typically suffered as economies have lost competitiveness and margins have been eroded. At the same time central banks have stuck to their policy of shadowing the US dollar and therefore have not been pro-active in attempting to avoid 
the later damage caused by rising prices. Hence, investors are examining central bank policy closely in the current cycle and policy makers have an opportunity to establish credibility internationally. Many have already acted to raise rates and tighten credit.

The Reserve Bank of India has perhaps surprised investors in its resolve and has consequently enhanced its reputation. Repeated measures to tighten money supply may cost the economy growth over the next couple of quarters, but most likely has prevented the building of a bubble that would have been more costly in the longer  term.
                                
For the region's investors, higher inflation and higher interest rates present different challenges. International diversification has been the watchword in the past year or so,  whereby more institutional and private investors have begun to consider investment into international asset classes.

Despite the theoretical argument of greater diversification and consequently lower aggregate volatility, it is the allure of higher returns  that dominates consideration. From a Japanese perspective, investing internationally has proven highly attractive given the moribund state of the domestic stock market that struggles to attract domestic institutions and retail investors alike.

For other economies in the region higher interest rates will challenge the attractiveness of equities generally and international equities specifically - it is difficult to convince investors to move money overseas when local interest rates are at an elevated level - even if real rates are negative.[/quote]

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