South Asia Economic Focus, Fall 2013 : A Wake-Up Call

Global capital re-balancing has highlighted structural weakness and vulnerability in South Asia, acting as a wake-up call for policy makers. While recent economic developments in advanced countries are encouraging, large parts of the region continue to slow. Portfolio outflows, triggered by the prospect of unwinding Quantitative Easing (QE) in the US, have made current account deficits more difficult to finance across emerging markets. Meanwhile, supply-side constraints and macroeconomic imbalances remain a challenge in most South Asian countries. But the depreciation of regional currencies offers an opportunity to stimulate growth and create space for reforms to improve the investment climate. While the medium term outlook for the region remains cautiously positive, two highly complementary policies are central for needed higher and sustainable growth. First, continuing to tighten the stance of fiscal and monetary policy will help to promote macroeconomic stability and raise tax revenue to reduce vulnerability. Second, removing supply side constraints, both regulatory and physical, will pave the way for increasing investment and growth. Given the recent economic turmoil across emerging market economies, this edition's focus section examines the relationship between the transmission of economic shocks from India to the rest of South Asia, as well as from the world to South Asia. The main findings of the analysis suggest that, independent of global business cycle movements, India plays an important role in influencing growth across the region, and that this effect has increased since the 2008 global crisis. Furthermore, the United States played a larger role in influencing global cyclical real GDP movements before the global crisis, but since then its independent influence has diminished as all regions are moving together with greater frequency. Nonetheless, much of the cyclical real GDP variation in the region remains idiosyncratic.