Economics@ANZ ANZ International Economics Monthly · ANZ International Economics Monthly – January 2007 Page 2 Global soft landing in 2007 It is nearly official – global real

Inside:

Main article...............................1

Financial Markets Update............9

FX and Policy Rate Forecasts.....11

Macro Economic Forecasts ........12

LT FC Govt. Bond Ratings .........13

Country Updates .....................14

Authors:

Amy Auster Head of International Economics +61 3 9273 5417 [email protected]

Katie Dean Senior Economist, International +61 3 9273 5466 [email protected]

Jasmine Robinson Senior Economist, International +61 3 9273 6289 [email protected]

Dr. Alex Joiner Economist, International +61 3 9273 6123 [email protected]

Paul Braddick Head of Financial System Analysis +61 3 9273 5987 [email protected]

Mark Rodrigues Senior Economist, Australia +61 3 9273 6286 [email protected]

Sean Comber Economist, New Zealand +64 4 802 2286 [email protected]

January 2007

ANZ International Economics Monthly

Commodities expected to hold strong in 2007

Economics@ANZ

In our last edition, we detailed our global forecasts for 2007, a year in which we expect global growth to remain strong and consumer price inflation low. This month, we go through our forecasts for commodity prices in the coming year, covering the primary energy and metals sectors. Unsurprisingly, we view strong global demand as likely to continue to feed through to demand for hard commodities this year. Moreover, we believe that high global liquidity levels, which have promoted commodities as an increasingly traded product in the financial markets, are set to continue throughout this year. Therefore, we believe commodity prices will remain supported in this trading environment.

A recent weakening of oil and base metals has led to speculation that the commodity price rally of the past few years is set to fade. In the event, oil prices have since rebounded while some base metal prices have pushed through to break new record highs. Moreover, we believe it is important to differentiate between oil – which is the most heavily traded commodity and prone to rapidly changing events ranging from weather to geopolitical tensions – and underlying demand for commodities arising from the global production and investment cycles.

Among the major energy and metal commodities, we expect:

• Oil prices to continue to rise from recent lows, to average US$63/bbl this year. In 2008, we expect constrained supply to drive prices up further to an average of US$66/bbl.

• The return of gold as a favoured inflation hedge to underpin further rises in the gold price in 2007 and 2008.

• Strong global demand to keep coal prices elevated through 2007 and 2008, albeit at slightly lower levels than the records achieved in 2006.

• Iron ore prices to rise strongly again in 2007 before increased global supply underpins a small price decline in 2008.

• Base metal prices to retreat from recent record highs in the coming period, and to experience greater than usual volatility.

Energy and Metals Commodity Price Forecasts (end-period)

Current Jun 07 Dec 07 Dec 08 Long-term

Gold US$/oz 653 660 675 700 480

Aluminium US$/t 2815 2550 2100 2300 1800

Iron ore US$/t 75 82 82 78 40

Copper US$/t 5356 5350 5000 4200 3500

Nickel US$’000/t 39900 35000 30000 20000 15000

Zinc US$/t 3190 3300 2900 2500 1500

Lead US$/t 1615 1300 1100 800 750

Coking coal US$/t 115 98 98 85 80

Thermal coal US$/t 52.5 51 51 43 40

Crude oil (WTI) US$/bbl

58.9 64 64 67 65

Sources: Bloomberg, Reuters, Datastream, ABARE, Economics@ANZ

Economics@ANZ ANZ International Economics Monthly – January 2007

Page 2

Global soft landing in 2007

It is nearly official – global real GDP growth probably reached 5.1% YOY in 2006. This is a repeat of the stellar performance of 2004, and a global growth rate that had not previously been recorded since 1988. Credit for the performance is due to the rapidly developing economies in East Asia, South Asia and Eastern Europe that together brought growth for the developing world to 7.6% as against only 2.7% YOY for industrialised economies.

In 2007, we project global real GDP will expand by 4.4% YOY, still well above the historic trend of about 3.6%. Growth should again be led by the developing world, which is forecast to expand at a rate of 7% YOY while the industrialised world grows at a below-trend rate of 2.1% YOY. In the industrialised world, the only countries expected to grow at an above-trend rate are Greece and Ireland.

Meanwhile, consumer price inflation is expected to decline. Global headline CPI rose at a rate of 3.4% YOY in 2005 and 2006, pushed along by tight labour markets, rising capacity constraints and multiple factors that sent oil prices soaring above US$70/bbl. With demand on the decline and oil prices softening, headline inflation should moderate to just 3%. This is well below the 10-year average of about 4.3% for global CPI.

Global growth is strong amid low CPI

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80 86 92 98 04

Real GDP % annual change ANZ

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8

97 99 01 03 06 07

CPI % annual change ANZ

forecast

Note: GDP and CPI based on 50 countries aggregated using ‘purchasing power parity’ weights. Sources: Datastream, IMF and Economics@ANZ.

Global annual growth

30 year average

Global annual headline CPI

10 year average

Asia’s expanding middle class….

The rise of developing economies as the global growth driver is a major factor prompting the sustained rise in commodity demand. Continued high rates of growth amid low inflation are supporting the accumulation of household wealth, with GDP per capita rising across the emerging world. Although this process is happening gradually – with poverty still a tremendous problem – the population density of large developing countries means that even a relatively small shift in per capita GDP sends millions of people into the ranks of the middle class. As shown in the chart below, in an OECD economy such as Korea, 93% of the population is considered middle class. This is about 44 million people. In China, the middle class is

estimated to be only about 20% of the population, but this is 290 million people. India is believed to have only 9% of its population in the middle class, but this is nearly 100 million people. A paper from the University of Minnesota1 estimated that the total size of the middle class in the largest 10 emerging market countries as at the end of 2003 was roughly 630 million, which is more than double the entire population of the Eurozone and nearly equivalent to the G7’s total population of 719 mn.

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IND INR CH PHIL MAL KOR

% of population

Sources: Senauer and Goetz, University of Minnesota, 2003.

Size of middle class in Asia

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MAL PHIL INR KOR IND CH

Mns of people

….Demands more hard commodities

As the middle class grows, higher living standards imply increased infrastructure and energy needs. Developing economies to date have been far less efficient in commodities use than their industrialised counterparts, as shown in the following chart. In industrialised countries, one million tonnes equivalent of oil (MTOE) produces about US$11.5 bn in gross domestic product. In developing countries, only US$7.5 bn of GDP is achieved per MTOE. The energy efficiency of East Asia is even lower, at only US$6.5 bn of GDP/MTOE.

Low energy efficiency in developing world

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US EUR JAP Asiaex-J

DevEcon

20022005

US$ bn

Note: Energy efficiency estimated as amount of GDP produced by 1 mn tonnesequivalent of energy. Sources: BP Statistical Yearbook, IMF, Economics@ANZ.

Oil efficiency Primary energy efficiency

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US EUR JAP Asiaex-J

DevEcon

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US$ bn

Moreover, economies the world over are far less efficient in their use of non-oil primary energy, such as coal and natural gas, than in their use of oil. Again looking at the above chart, one tonne of

1 Senauer, Benjamin and Goetz, Linda, “The Growing Middle Class in Developing countries,” University of Arizona, February 2003


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primary energy generates US$5.3 bn of GDP in the US and US$8.1 bn of GDP in the EU. Across all emerging economies, one tonne of primary energy generates only US$2.2 bn of GDP, and in East Asia only US$1.9 bn of GDP. China generates US$1.4 bn of GDP per tonne of primary energy, reflecting its use of domestic coal for electricity generation.

Other commodity inputs face the same story on the demand side, with considerable infrastructure still to be built in the emerging world. The below charts highlight the story in power and telecomms. In the OECD economy of Korea, electricity consumption is 8,000 kilowatt hours per capita and there are 542 fixed telephone lines installed per 1,000 people. In Asia’s other large economies - China, India and Indonesia – those ratios are far lower. This trend is repeated across all areas of hard infrastructure in the industrialising world, implying decades of accelerated demand for raw materials.

More infrastructure build to go

0

2,000

4,000

6,000

8,000

IND INR CH ML HK KR

Per capita kWH

Sources: World Bank Development Indicators, 2006.

Electricity consumption

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600

900

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INR IND CH ML HK KR

Fixed Mobile

# of lines/1,000 people

Telephone lines

Supply side is key driver of prices in future

Given the above, it is not surprising that commodity prices have been driven sharply higher over the past few years as demand in emerging economies has accelerated. Consensus that this trend will continue has increased the popularity of commodities as traded products in the financial markets. The charts below highlight how prices for oil, gold, copper and iron ore are well above their long-term averages.

Commodity prices at record highs

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US$/bbl

Long term average

WTI oil

Source: Bloomberg, Economics@ANZ

Gold

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US$/tonne

Long term average

Copper

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US$/tonne

Long term average

Iron ore

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00 01 02 03 04 05 06

US$/oz

Long term average

Assuming steady demand, the primary determinant for commodity prices in the near- and medium-term will be the supply side response. Among the various forms of primary energy and base metals, the ability of a supply side response to meet demand varies significantly. It is this demand-supply balance and likely price response across specific commodities that is discussed through the rest of this note.

Long-term oil prices will be high

The short- and medium-term price for crude oil is perhaps one of the more obvious commodity prices to forecast because of the very limited capacity for more supply to come on line. Although oil prices fell in late 2006, we believe prices will rise through 2007 to average US$63/bbl. Further, we believe the long-term price for oil is above US$60/bbl. This is because growth in global demand is outpacing additional new supply. As can be seen in the charts below, oil consumption has been higher than oil production since the mid-1980s, while the pace of growth of proven reserves has slowed markedly over that same time frame.

Oil consumption outpacing supply

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1965 1975 1985 1995 2005

Production

Consumption

Mn barrels per day

Production and consumption Proven reserves

Source: BP 2006 World Energy Review

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1000

1200

1400

1980 1990 2000

'000 million barrels

The reason why demand for oil has accelerated so suddenly in recent years is almost entirely due to high growth in demand out of Asia – specifically, China, which has contributed more than 40% of the increase in global demand for oil in five out of the past six years.

Asia driving global oil demand

Source: BP 2006 World Energy Review

Contribution to global oil demand

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USAChinaJapanIndiaGermany

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Unlike other raw materials discussed further below, there is limited scope for the world’s oil producers to switch on the crude tap. Proven reserves are not rising as quickly as demand, perhaps reflecting years of declining exploration when oil prices were low. Even if new reserves are found in the next several years, it will take time for these reserves to come to market. Further, refining capacity is also limited, particularly in the northern hemisphere.

In its annual outlook, the International Energy Agency states outright that current trends in energy consumption, “are neither secure nor sustainable – economically, environmentally or socially.” The IEA forecasts that fossil fuels – including oil and coal – will remain the dominant source of global energy through 2030, and will account for 83% of the overall increase in energy demand through this horizon. In its forecasts, global oil demand rises from 86 mn bpd in 2005 to reach 99 mn bpd by 2015 and a whopping 116 mn bpd by 2030. This is assuming a rather conservative 1% per annum growth in population, and average real GDP growth of 3.4% over the next 25 years, which is slightly below our estimate of 3.6% global trend growth.

World Primary Energy Demand (Mtoe)

1980 2004 2010 2030

Oil 3107 3940 4366 5575

Coal 1785 2773 3354 4441

Gas 1237 2302 2686 3869

Nuclear 186 714 775 861

Hydro 148 242 280 408

Biomass 765 1176 1283 1645

Other 33 57 99 296 Source: International Energy Agency

Of course, there is always scope for oil consumption to decline with the takeup of new, less oil-intensive technologies. Continued elevated oil prices will support a shift toward alternative fuels, including biofuels. However, the takeup of these technologies is likely to be slow, particularly in high-growth developing economies where the costs can be prohibitive. Even a shift in the mix of primary energy use, as shown below, does not substantially alter the demand profile for oil, which remains the dominant form of primary energy through 2030.

Finally, the continued role of OPEC in guiding price expectations in the crude oil market cannot be ignored. Prior to the runup in oil prices over the past few years, OPEC had indicated a desire to maintain crude oil prices at between US$25 and US$30 per barrel. With oil-exporting countries having now experienced the joys of windfall oil revenues, however, OPEC members appear to have indicated their preference for oil at above US$50/bbl. Rapid declines in spot oil prices in late 2006 saw OPEC announce quota cuts for its members, a confirmation that US$50/bbl does seem to be OPEC’s new target. Thus, even a marginal decline in oil demand may not yield a similar decline in price.

Base metals seeking new equilibrium

The current global economic boom has underpinned one of the biggest bull markets in base metals in history, with prices rising for five consecutive years by a cumulative 280%. In 2006, market euphoria reached new heights as global supply continued to lag strong demand. Moreover, high global liquidity saw an increase in financial investor activity in these markets, with investor portfolios directing an increasing allocation of funds into (high-yielding) commodities markets. The combination of these factors drove price gains that were nothing short of spectacular. From peak to trough nickel and zinc prices rose by 157% and 140% in 2006, lead increased by 72% and copper by 75%. Even the ‘underperformers’, aluminium, alumina and iron ore, still posted strong gains of 27%, 18% and 17% respectively.

In 2007 and 2008 the bull run in base metal prices is expected to be replaced by a search for ‘equilibrium’ as global supply starts to catch up to global demand. While increased supply should curb momentum for another sharp and sustained upswing in prices, likewise continued strong and steady global demand should cap price falls. As stated above, we are of the view that long-term real growth rates in developing economies will remain high and that, this, combined with growing real incomes in this expanding part of the world does represent a medium-term structural shift up in demand for hard commodities, base metals included. This in turn indicates that the ‘equilibrium’ level, or at least the medium-term average, in base metal prices has also shifted to a new higher plain2.

Emerging economies will continue to drive strong metals consumption

World metals consumption growth 2002-05

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Aluminium Copper Lead Nickel Steel Tin Zinc

Rest of world

Other major emergingmarketsChina

PPt contribution to annual change

Source: IMF World Economic Outlook September 2006Other Major Emerging Markets are Brazil, India, Mexico and Russia

In the coming year two additional factors will also keep base metal prices higher than the ‘traditional’ long-term average. The first factor is the likelihood of ongoing delays in the supply response. While high rates of investment in new mining capacity will

2 That said, the new equilibrium price for base metals is unlikely to be as high relative to the historical average compared with the oil price. This is because overall reserves of base metals are generally considered unlimited, unlike the world’s finite reserves of hydrocarbons.


Page 5

eventually provide a significant boost to base metals supply, it is just not a matter of ‘turning on the tap’. Shortages persist across most of the global mining industry, particularly in supporting infrastructure, including transportation (on and off-mine), mining-related equipment, skilled labour and, in some cases, power and electricity. These shortages have already caused significant delays in the process of turning initial investment into physical market supply and will continue to do so over the short-term. Related to these shortages, and the other factor that will likely keep base metal prices elevated relative to historical averages, is that production costs across the mining industry are also now sharply higher.

Costs of production are higher

Cash Costs of Production for Base Metals

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Aluminium Copper Nickel

2002

2005

2006

Ratio of price to marginal cost

Source: Brook Hunt Metal Consultants; Deutsche Bank (2006) and IMF staff calculations in IMF World Economic Outlook September 2006

Global financial conditions will also continue to impact base metal prices in the period ahead. The current global liquidity boom, which has been supported by high growth, low consumer price inflation and low interest rates, shows no signs of abating. M0 growth remains around 10% YOY (in US$ terms) in the G7 (excluding Japan) and M2 growth is still above 10% YOY in ex-Japan Asia. With short-term global interest rates, which are already below historical average levels, now nearing peak levels for this business cycle, this liquidity will, as we have already seen, look for yield in alternative investments. In this context, exchange tradeable commodities, such as base metals, will continue to attract attention as a short-term investment destination.

Despite some claims to the contrary, research suggests that financial investors, while increasing their presence in the market, are not powerful enough to drive the direction of base metal prices. Indeed, IMF research concludes that increases in spot and futures prices cause increased speculation in the copper market, not, as has been speculated, vice versa3. That said, an increasing presence of speculative short-term investment in commodity markets will likely exaggerate movements in prices, up and down, in base metals beyond which would

3 IMF, ‘The Boom in Non-fuel Commodity Prices: Can it Last?”, World Economic Outlook September 2006.

otherwise be achieved by fundamental supply and demand market balance. We are therefore likely to see a continued rise in volatility around exchange traded base metal prices in the period ahead.

As well as continued historically high prices and increasing volatility, the other enduring theme for base metals in the coming period is set to be the diverse performance of individual commodity prices. In terms of price direction (and broad magnitude), it all comes back to the short-term supply outlook. For base metals, the extent to which increased production will be enough to match continued strong and steady global demand, and thus the price response, will vary across individual commodities in the coming year. This has already been borne out by recent price movements. While an increase in LME stock levels has seen copper prices drop sharply in recent weeks, continued falls in LME stocks have in contrast lifted nickel prices to all-time highs.

Low inventory levels a source of upward pressure on prices

Copper

Source: Datastream

Aluminium

Nickel Zinc

0100020003000400050006000700080009000

94 96 99 01 04 060

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StocksPrice

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In 2007, we expect growth in global supply to outstrip continued strong demand in copper and aluminium, forcing stock levels up and prices down further from current levels. In contrast, supply increases are predicted to be more constrained in lead, nickel and zinc. Inventory levels for these commodities are likely to remain low with the zinc market set to remain in deficit. Markets for these commodities will be more sensitive to unexpected supply disruptions and this will support prices near or even above current levels. Continued robust global industrial production meanwhile will underpin a strong rise in iron ore prices or around 9.5% in 2007 with most price contracts for the year ahead now settled. In 2008, we expect world demand for base metals will remain robust but that, as current high levels of investment come to fruition, global production growth will be stronger. As such we expect prices of all base metals to decline further by the end of this year, albeit to levels still higher than historical averages.


Page 6

Coal prices expected to fall slightly

Global demand for coal is expected to remain solid in the coming years with the International Energy Agency forecasting a 32% increase in coal use by 2015. In the thermal coal market, voracious appetite is expected to remain in place from developing Asia, particularly from India and China where coal is the major fuel for electricity generation. This is expected to offset a potential reduction in demand from some economies such as Japan, the world’s largest coal importer, as it moves towards increasing the use of other forms of energy sources, although coal-fired electricity generation is expected to remain significant. The other big importers, namely Korea and Taiwan, are expected to demand more coal over 2007 with Korea, in particular, having invested heavily in expanding its coal-fired electricity generation capacity. Indonesia is also looking to expand its use of coal in generating electricity with the government aiming to reduce its reliance on oil.

On the supply side, China, the world’s largest producer of coal and a net exporter of thermal coal is expected to continue to lift output and increasingly divert its supply into the local market through a reduction in export incentives. Consequently, exports are likely to decline and import growth is expected to slow though the latter is likely to stay in double-digits given the strong demand.

Australia’s productive capacity has expanded significantly with heavy investment in coal mines and infrastructure over the past few years, thanks to the lift in prices. Output of thermal coal is estimated to reach 185 mn tonnes in 2007, up 6% from 2006, and along with Indonesia, Australia will continue to dominate the thermal coal market.

Indonesia, the world’s largest exporter of thermal coal, has seen exports accelerate from around 40 mn tonnes in 1997 to over 150 mn tonnes in 2006. However, it may fail to fully capitalise on the expanding domestic and external markets unless investment accelerates. The government’s plans to increase its use of coal in electricity generation could have consequences for exports over the medium term unless investment takes off. It has tabled for parliamentary approval laws aimed at giving foreign investors more control over mining investments but concerns over the legislative and implementation processes will mean that investors are likely to remain cautious.

In the metallurgical coal market, global consumption of metallurgical coal is expected to rise by 6% in 2007 following an estimated 11% increase in 2006 according to the ABARE. Production, on the other hand, while also growing at a slower rate of 7.2% compared with 13% in 2006, is forecast to exceed total consumption in 2007. Australia is expected to extend its lead as the world’s largest exporter of coking coal with production forecast to rise by a

further 7.7% in 2007 to over 140 mn tonnes following a 2.2% increase in 2006.

Japan, and Korea, the two largest single-market importers are only expected to increase their demand for metallurgical coal slightly. However, rapid industrialisation in developing Asia, particularly India and China, will continue to underpin increases in demand for steel and, in turn, for coking coal. Both these economies alone are expected to account for around 40% of the increase in the volume of metallurgical coal imports in 2007.

Mild declines in 2007 underpinned by solid demand

Sources: ABARE, ANZ

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Japan EU 25 Korea India Brazil Taiwan China

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Expected change in import demandin 2007 compared with 2006

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EU 25 Japan Korea Taiwan India China otherEurope

Expected change in import demandin 2007 compared with 2006

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Hard coking coal

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In terms of pricing, Japan and increasingly China remain the main players in negotiations with suppliers. With countries such as Australia, China, Colombia and Indonesia lifting production, benchmark prices for thermal coal are likely to soften marginally but from a high base. Australia-Japan benchmark prices for 2007 have yet to be agreed. ANZ expects a small decline of around 4% for the fiscal year beginning April 2007. In the metallurgical coal market, negotiations at the end of 2006 saw Japan’s four biggest steelmakers agree with Australia on a 15% reduction in the price of hard coking coal to US$98/tonne for the fiscal year beginning April 2007.

Gold prices determined by market As with other hard commodities, gold prices increased rapidly in 2006, peaking at US$714/oz in May 2006, or a 90% gain over the previous 12 months. Gold now trades at around US$645/oz. In this section, we highlight some of the main drivers of the gold price in recent years and how these factors are expected to keep prices elevated in 2007.

Unlike most commodities, the recent run up in the price of gold is arguably less due to supply and demand factors and more due to the trading of gold as an asset, particularly one with intrinsic value. This is evidenced by a relatively good balance between supply of and demand for gold. Despite a deficit between mine output and fabrication demand existing for some years, the short-fall in “new” supply has been more than made up from other sources, including scrap as well as sales from official


Page 7

sources (most commonly central banks). In the year to September 2006, central banks sold around 400 tons of gold (around 10% of supply), under the 500 tons limit set down by the Central Bank Gold Agreement. Scrap sales were estimated at just over 1000 tons, around one quarter of total supply. According to GFMS figures, the supply of gold in the first three quarters of 2006 increased by 1% over the same period of 2005.

While the overall supply of gold rose slightly, total demand for gold fell around 15% YOY in the first three quarters of 2006. Of total demand, fabrication demand accounts for about 82%. Demand for jewellery fell significantly, with the volatility in prices at levels above US$600/oz a deterrent to buyers in the Middle East and Asia.

The lack of demand for gold for fabrication suggests that it is gold’s role as a traditional hedge against uncertainty that is leading to its increasing value in world markets. Gold has become easier to trade as an asset, with an increased number of “exchange traded funds” in Europe and Asia. These funds allow investors to invest in gold without having to hold physical gold. The exchanges themselves hold around 600 tons of gold.

Gold price & net non-commercial positions

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85 87 89 91 93 95 97 99 01 03 05 07-100

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Average correlation 1985-90 = 44%

US$/oz net non-commercial contracts 000s, 12mma



Gold price (LHS)

net no. of positions

net no. of positions 12mma

Source: Economics@ANZ, Bloomberg

The chart above highlights this trend by showing that the number of non-commercial (non-deliverable) positions on gold has increased in proportion with the price in recent years. Meanwhile, the proportion of gold price to the net number of positions has remained remarkably stable. Some cursory statistical analysis indicates not only that the correlation between the number of positions taken and gold prices has increased, but also that some statistical causality exists between the two. Further, it is found (over various lag lengths) that bidirectional causality exists between the number of positions taken in gold in the market and the gold price. This indicates that gold prices have risen due to increased positions being taken, and vice-versa.

Gold is still the key inflation hedge The main fundamental driver of increased market positioning in gold seems to be rising oil prices and a weakening of the US dollar – that is, gold has

resumed its traditional role as a hedge against inflation. The stabilisation of gold prices in late 2006 as shown in the above chart coincided with both a reduction in the number of positions taken on gold as well as a fall in oil price. Also there seems to be some reestablishment of the inverse link between gold and the US dollar with falls in gold prices from peak levels accompanied by some US dollar strength.

The chart below shows that the relationship between oil and gold prices at present is very similar to the relationship that was in play during the 1970s oil shock. During the period 1970-1979, changes in oil prices explained nearly 90% of the change in the gold price. This relationship weakened significantly during the 1980s and 1990s, to the point where oil explained less than 20% of gold price movements. However since 2000, the strong relationship has returned with shifts in the oil price accounting for 81% of the movement in gold prices.

Gold and Oil – Back to the Future?

Source: Economics@ANZ

Oil = 0.08Gold + 0.20R2 = 0.87

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A final factor that seems to have contributed to the run-up in gold prices is the weakness of the US dollar in recent years. The chart below shows the behaviour of the price of gold as against the US CPI index and the US dollar trade-weighted index. From 1990 through 2004, the US dollar trade weighted index remained above the level of the gold price, particularly during the late 1990s when the global financial markets crisis brought about a “flight-to-quality” to the US dollar. Since 2004, however, the US dollar trade weighted index has softened, even as global inflation concerns were rising on the back of higher oil prices. This is when the gold price really began to accelerate, suggesting that gold has come into favour as an alternative store of value to the US dollar as the global reserve currency.


Page 8

Nominal price of gold, US trade weight index and the implied long-run price of gold 1987-2006

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Gold price (LHS)

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Inflation hedge price 1986- 2006 (LHS)

US Trade weighted index - inverted (RHS)

index

Inflation hedge price 2001- 2006

(LHS)

Source: Economics@ANZ, Bloomberg

What does all this mean for prices? Our forecast assumes that demand for real (fabrication) gold will remain strong as per capita incomes increase in Asia and the Middle East. Mining production is expected to increase marginally in 2007, with higher production in Australia, the United States and Latin America offsetting the continued falls in production in South Africa. Central bank gold sales are expected to decline in 2007, which may put some pressure on supply. However, there is a great deal of uncertainty as to the intention of some large central banks. Gold from Germany may add significantly to supply, whereas there is speculation that the People’s Bank of China will add to its gold reserves. Recently, it has been suggested that the IMF could sell 400 tons of gold.

However, we expect the price of gold will still mainly be affected by its perceived value as an inflation hedge. We expect oil prices to remain high, and also expect the US dollar to remain broadly neutral in 2007 and 2008, as this currency remains hostage to the conflicting forces of a stronger US economy and continued Asian (particularly Japanese yen) currency appreciation. These factors should continue to support gold’s attractiveness as an alternative store of value. As such we expect gold prices will remain elevated, averaging above US$600/oz throughout 2007 and 2008.

Amy Auster Head of International Economics Email: [email protected] Ph: +61 3 9273 5417

Katie Dean Senior Economist - International Email: [email protected] Ph: +61 3 9273 5466

Jasmine Robinson Senior Economist - International Email: [email protected] Ph: +61 3 9273 6289

Dr Alex Joiner Economist - International Email: [email protected] Ph: +61 3 9273 6123


Page 9

Financial Markets Update

Exchange rates, US$ per local currency unit, indexed

80

85

90

95

100

105

110

115

Jun-06 Aug-06 Oct-06 Dec-06

03 Jan 2005 = 100

Korea

Australia

Japan

China

New Zealand

India

97.5

102.5

107.5

112.5

117.5


03 Jan 2005 = 100

Indonesia

Singapore

Thailand

Philippines

Malaysia

Vietnam

Exchange rates

• With the BOJ bucking market expectations and remaining on hold in recent months, support dropped for the yen, which traded above USD/JPY 121 in January – or its weakest level in almost four years.

• After hitting a 2-year high in early January, diminishing expectations for a local interest rate rise has since weighed on the AUD. Despite expectations for higher local rates, recent carry-trade liquidation has seen the NZD also lose ground since the start of the year.

• The CNY reached parity with the HKD in early January and has since continued to appreciate against the USD underpinned by strong trade surpluses and a strengthening in reserves.

• Following the introduction of capital controls in Thailand, the Thai baht has been volatile with moves exaggerated by the thin trading conditions.

90

95

100

105

110

115

120

125

130

135

140

Jun-05 Dec-05 Jun-06 Dec-06

Jan 2003=100

NZ

Australia

Korea

Japan

China

Taiwan

Real exchange rates, US$ per local currency unit, indexed

95

105

115

125

Jun-05 Dec-05 Jun-06 Dec-06

Jan 2003=100

Indonesia

Thailand

Philippines

Malaysia

Singapore

Real Exchange rates

• While price growth in South East Asia has eased considerably in recent months, inflation still remains well above that in the US. This, together with continued nominal currency appreciation, has pushed up real exchange rates across most of South East Asia.

• While this is eroding price competitiveness, continued strong global growth means the impact of real exchange rate appreciation on South East Asia’s exports, to date, has been minimal.

• Local currency appreciation as well as higher inflation compared with the United States has also pushed up Australia and New Zealand’s real exchange rate.

• In contrast, yen weakness and persistently low inflation is capping the Japanese real exchange rate.

Policy rates

0

1

2

3

4

5

6

7

8

Jan-05

Apr-05

Aug-05

Nov-05

Feb-06

Jun-06

Sep-06

Jan-07

Korea

Taiwan

%

USAustralia

New Zealand

Japan

China

0

2

4

6

8

10

12

14

Jan-05

Apr-05

Aug-05

Nov-05

Feb-06

Jun-06

Sep-06

Jan-07

Thailand

Malaysia

Philippines

%

Singapore

Indonesia

Policy rates

• A run of weak data saw the Bank of Japan (BOJ) keep interest rates on hold in January. We now expect the BOJ to raise its policy interest rate, for only the second time since the move toward normalisation of interest rates began, in March.

• Indonesia is well into its accommodative push with several rate cuts since its peak of 12.75% in April 2006. Thailand has followed with a cut in its policy rate, the 1-day repurchase rate, to 4.75% from 4.9375% in January against the backdrop of a moderation in economic activity and inflation. Malaysia and the Philippines are also forecast to cut rates by the second half of 2007 as inflation pressures ease.

• Lower-than-expected CPI and a moderation in credit growth should keep interest rates on hold in Australia in the near term. Expectations for a further easing in price pressures suggest the next move in interest rates is more likely to be a cut, possibly before the end of this year.


Page 10

Government Bond Index

1

2

3

4

5

6

7

8

9

Jun-05 Sep-05 Jan-06 Apr-06 Aug-06 Dec-06

US

Yield (on traded index)

Australia New Zealand

China

Japan

India

Korea

1

3

5

7

9

11

13

15

17

Jun-05 Sep-05 Jan-06 Apr-06 Aug-06 Dec-06

Indonesia

Thailand

Yield (on traded index)

Philippines

Malaysia

Singapore

Source: JPMorgan

Philippines’ index is the 10-year bond yield as there is no GBI index.

Bond markets

• US yields have edged up as a recent run of stronger than expected economic data highlights the Fed’s concerns about inflation risks.

• Inflation pressures in India have ticked up with the Wholesale price index reaching highs last seen in 2004. This has, in turn, kept yields up.

• Bond yields in Indonesia, on the other hand, continue their downward move underpinned by reduced inflation pressures as illustrated by a lower-than-expected January CPI. An improvement in the Fitch ratings outlook from stable to positive has also supported a lower yield.

• Continued strong liquidity growth, including from international investor flows, and easing inflation is also keeping bond yields low across most other South East Asian nations.

50

100

150

200

250

300

350

400

Jun-06 Sep-06 Jan-07

Gold US$/Troy OunceJan 07 - US$652.8

Copper US$/MT Jan 07 - US$5,704

Oil (Tapis) US$/bbl Jan 07 - US$59.9

Jan 2004=100

Commodity Prices

0

50

100

150

200

250

300

350

Sep-05 Jan-06 May-06 Aug-06 Dec-06

Sugar UScents/lb Jan 07 - 10.71 cents

Jan 2004=100

Palm Oil US$/MT Jan-07 - US$597.5

Coffee (Robusta) cents/lbJan 07 - 81.5 cents

Source: Datastream

Commodities

• Oil prices dropped to be near US$50/bbl at the start of the year as weather remained warmer than expected in the Northern Hemisphere. More recently however winter has begun, the temperatures have dropped and oil prices have jumped up to nearly US$60/bbl in the last week.

• Most base metal prices have dropped sharply in the last month. This move has partly been due to increases in supply as well as an unwinding of speculative investor positions. In contrast, gold prices have continued to rise.

• Palm oil prices are continuing to rise following India’s cut in import duties on vegetable oils. India is the world’s third largest vegetable oil importer.

Share price indices

100

120

140

160

180

200


1 Jan 2004 = 100

Japan

Korea

Taiwan

China

Hong Kong

75

100

125

150

175

200

225

250

275


1 Jan 2004 = 100

Singapore

Malaysia

Indonesia

Philippines

Thailand

Source: Datastream

Equity markets

• Investor interest in emerging markets, such as Asia, remains strong as abundant global liquidity continues its search for yield.

• The Philippines has been the stand out performer amongst South East Asian equity markets, underpinned by strong local economic growth and improving investor sentiment in light of ongoing local fiscal and economic reform.

• Thailand has been the exception in the continued rally in equity markets across Southeast Asia. The junta’s recent actions over capital controls and foreign investment has only served to add to investor confusion and clouded the business environment.

• Northeast Asian markets have seen some recent declines, although these falls have been marginal compared with the strong run through 2006.


Page 11

Foreign Exchange and Policy Rate Forecasts Jan 07 Mar 07 Jun 07 Sep 07 Dec 07 Mar 08 Jun 08

China

USD/CNY, eop 7.77 7.71 7.62 7.53 7.45 7.43 7.40

AUD/CNY, eop 6.00 5.94 5.79 5.65 5.44 5.35 5.25

One year base lending rate 6.12 6.12 6.12 5.85 5.85 5.85 5.85

Hong Kong

USD/HKD, eop 7.81 7.80 7.79 7.78 7.74 7.74 7.75

AUD/HKD, eop 6.02 6.01 5.92 5.84 5.65 5.57 5.50

HKMA discount rate 6.75 6.75 6.50 6.00 5.75 5.75 5.75

India

USD/INR, eop 44.2 43.9 43.5 43.0 42.8 43.4 43.9

AUD/INR, eop 34.1 33.8 33.1 32.3 31.2 31.2 31.2

Reverse Repo rate 6.00 6.25 6.00 5.75 5.75 5.75 5.75

Indonesia

USD/IDR, eop 9,093 8,800 8,650 8,500 8,300 8,413 8,525

AUD/IDR, eop 7,014 6,776 6,574 6,375 6,059 6,057 6,053

BI rate 9.50 9.00 8.75 8.00 8.00 8.00 8.00

Korea

USD/KRW, eop 941 924 922 915 905 903 908

AUD/KRW, eop 726 711 701 686 661 650 645

Overnight call rate 4.50 4.50 4.50 4.50 4.50 4.25 4.25

Malaysia

USD/MYR, eop 3.50 3.48 3.45 3.43 3.40 3.43 3.45

AUD/MYR, eop 2.70 2.68 2.62 2.57 2.48 2.47 2.45

Overnight policy rate 3.50 3.50 3.25 3.25 3.25 3.00 3.00

Philippines

USD/PHP, eop 48.9 48.5 48.0 47.5 47.0 48.3 49.5

AUD/PHP, eop 37.7 37.3 36.5 35.6 34.3 34.7 35.1

Overnight Reverse Repo rate 7.50 7.25 7.25 7.00 7.00 7.00 7.00

Singapore

USD/SGD, eop 1.54 1.52 1.52 1.51 1.50 1.52 1.53

AUD/SGD, eop 1.19 1.17 1.16 1.13 1.10 1.09 1.09

3-month interbank rate 3.44 3.40 3.35 3.35 3.30 3.30 3.30

Taiwan

USD/TWD, eop 32.9 32.7 32.4 32.1 31.3 31.2 31.1

AUD/TWD, eop 25.4 25.2 24.6 24.0 22.8 22.5 22.1

Discount rate 2.75 2.87 2.87 2.87 2.87 2.87 2.87

Thailand

USD/THB, eop 34.6 32.5 34.0 35.5 36.0 36.5 37.0

AUD/THB, eop 26.7 25.0 25.8 26.6 26.3 26.3 26.3

1-day repo rate 4.75 4.50 4.25 4.25 4.00 4.00 4.00

Vietnam

USD/VND, eop 16,039 16,112 16,149 16,181 16,213 16,246 16,275

AUD/VND, eop 12,372 12,406 12,273 12,136 11,836 11,697 11,555

Japan

USD/JPY, eop 121.5 120.0 117.0 113.0 110.0 108.0 106.0

AUD/JPY, eop 93.7 92.4 88.9 84.8 80.3 77.8 75.3


Australia

AUD/USD, eop 0.77 0.77 0.76 0.75 0.73 0.72 0.71

Cash rate 6.25 6.25 6.25 6.25 6.00 5.75 5.75

New Zealand

NZD/USD, eop 0.68 0.70 0.68 0.64 0.62 0.60 0.58

AUD/NZD, eop 1.13 1.10 1.12 1.17 1.18 1.20 1.22


United States Fed Funds Rate, eop 5.25 5.25 5.25 5.25 4.75 4.75 4.75


Page 12

Macro Economic Forecasts Real GDP Growth (%)

2005 2006e 2007f 2008f

Australia 2.8 2.4 2.6 3.7

Cambodia 13.4 8.1 7.6 7.7

China 9.9 10.7 9.6 8.8

Hong Kong 7.3 6.7 6.0 6.5

India+ 9.0 9.3 8.7 8.5

Indonesia 5.6 5.5 6.3 5.7

Japan 2.6 2.4 2.0 1.8

Korea 4.0 5.1 4.4 4.2

Malaysia 5.2 6.0 5.5 4.8

New Zealand 2.1 1.5 1.5 2.3

Philippines 5.1 5.4 6.0 5.5

Singapore 6.3 7.7 4.7 4.9

Taiwan 4.0 4.9 4.4 4.8

Thailand 4.4 4.9 5.0 6.1

United States 3.2 3.4 2.5 3.0

Vietnam 8.4 8.2 8.1 8.1

Nominal GDP (US$ bn)

2005 2006e 2007f 2008f

Australia 709.9 758.2 803.7 792.5

Cambodia 6.3 7.1 8.0 8.9

China 2233.7 2529.6 2888.9 3234.3

Hong Kong 177.7 188.7 203.2 221.2

India+ 753 872 1005 1150

Indonesia 281.2 336 375 420

Japan 4758.2 4882.2 5024.6 5181.5

Korea 787.2 845.6 913.8 985.5

Malaysia 130.8 144 156 168

New Zealand 108.5 103.9 106.0 94.3

Philippines 98.4 116.9 128.6 142.0

Singapore 116.6 127 134 142

Taiwan 346.2 355.5 376.3 402.1

Thailand 176.5 193 208 227

United States 12,456 13,254 13,821 14,516

Vietnam 53.1 61.3 70.1 80.2

Inflation (%)

2005 2006e 2007f 2008f

Australia 2.7 3.5 2.4 2.6

Cambodia 5.8 4.7 5.0 5.1

China 1.8 1.5 3.8 2.9

Hong Kong 0.9 2.0 1.7 2.3

India+ 4.2 6.0 6.0 5.5

Indonesia 10.5 13.3 5.2 5.5

Japan -0.2 0.0 0.6 1.0

Korea 2.87 2.7 3.3 3.5

Malaysia 2.9 3.6 3.0 2.5

New Zealand 3.0 3.4 1.9 2.6


Singapore 0.5 1.0 0.9 0.7

Taiwan 2.3 0.6 1.5 2.0

Thailand 4.5 4.7 3.5 3.0

United States 3.4 3.2 1.5 2.0

Vietnam 8.2 7.5 6.9 6.7

Fiscal Balance (% of GDP)*

2005 2006e 2007f 2008f

Australia 1.2 1.7 1.5 1.2

Cambodia -5.6 -5.8 -6.0 -6.1

China -1.1 -2.0 -1.9 -2.1

Hong Kong -0.4 -0.2 -0.5 -0.5

India+ -4.2 -3.8 -3.6 -3.5

Indonesia -0.5 -1.0 -1.1 -1.0

Japan -6.2 -6.0 -5.8 -5.5

Korea -0.3 -0.8 -0.2 0.1

Malaysia -3.8 -3.5 -3.4 -3.3

New Zealand 4.1 7.3 3.8 3.4

Philippines -12.1 -4.9 -6.0 -4.0

Singapore 0.2 -1.3 0.1 0.1

Taiwan -2.5 -2.0 -2.6 -2.0

Thailand 0.1 -0.8 -2.0 -1.0

United States -3.0 -2.0 -1.8 -1.6

Vietnam -2.1 -1.8 -1.9 -1.8

Current Account (% of GDP)

2005 2006e 2007f 2008f

Australia -5.8 -5.1 -5.2 -5.9

Cambodia -10.9 -10.6 -10.3 -10.2

China 6.7 4.4 4.0 3.5

Hong Kong 11.4 9.0 8.0 8.5

India+ -0.9 -1.7 -2.3 -2.8

Indonesia 0.3 0.8 0.4 0.5

Japan 3.9 4.0 3.0 1.0

Korea 2.4 1.7 1.2 1.1

Malaysia 15.3 14.7 12.0 9.1

New Zealand -9.0 -8.9 -7.8 -7.7


Singapore 28.4 29.9 23.5 18.3

Taiwan 4.7 5.8 5.5 6.0

Thailand -2.1 1.9 0.2 -1.6

United States -6.4 -6.4 -5.8 -5.6

Vietnam 0.9 1.5 1.7 1.9

Foreign Exchange Reserves (US$ bn)

2005 2006e 2007f 2008f

Australia 43.3 55.1 n/a n/a

Cambodia 0.94 1.09 1.2 1.3

China 818 1066 1400 1750

Hong Kong 147 154 160 162

India 131.0 170.2 195 215

Indonesia 33 41 45 50

Japan 828 865 880 900

Korea 215 225 230 234

Malaysia 69.3 81.7 89 95

New Zealand 9.1 13.1 n/a n/a

Philippines 18.5 22.3 23.0 24.0

Singapore 115.3 136.3 150 160

Taiwan 301 313 320 325

Thailand 50.5 65.1 70 75

United States 37.84 41.5 n/a n/a

Vietnam 7.0 8.9 12.9 16.5


Page 13

Long Term Foreign Currency Government Bond Ratings Investment Grade Sub-Investment Grade

Moody’s S&P Moody’s S&P

Aaa AAA Ba1 BB+ Australia Australia Costa Rica Egypt Canada Canada Egypt El Salvador France France Morocco Morocco

Germany Germany Panama Peru Japan Singapore

New Zealand United Kingdom Ba2 BB Singapore United States Brazil Colombia

United Kingdom Colombia Costa Rica United States Fiji Jordan

Aa1 AA+ Guatemala Panama Belgium Belgium Jordan Brazil

New Zealand Guatemala Vietnam

Aa2 AA Ba3 BB- Italy Hong Kong Peru Cook Islands Aa3 AA- Vietnam Indonesia

Cayman Islands Japan Turkey Philippines Hong Kong Taiwan Serbia

Kuwait Turkey Qatar Venezuela

Taiwan Ukraine UAE A1 A+

Czech Republic Italy Macau Kuwait B1 B+

Qatar Papua New Guinea Argentina Saudi Arabia Philippines Ghana Suriname Pakistan

A2 A Ukraine Fiji China Chile Indonesia Uruguay Chile China Pakistan

Cyprus Cyprus Uruguay Hungary Korea B2 B

Israel Oman Honduras Papua New Guinea Kuwait Venezuela Poland

Saudi Arabia A3 A- B3 B-

Korea Czech Republic Argentina Bolivia Malaysia Hungary Bolivia Lebanon

Oman Israel Lebanon Paraguay Malaysia

Baa1 BBB+ Mexico Bulgaria Caa1 and below CCC and below

South Africa Hungary Cuba Ecuador Thailand Poland Ecuador

Russia Nicaragua South Africa Paraguay Thailand

Baa2 BBB Mauritius Mexico Tunisia Tunisia Russia Russia

Baa3 BBB-

Bulgaria Romania India India

El Salvador Romania

At the end of May, Moody’s changed its ratings methodology and established new country ceilings that are 1 or 2 notches above the sovereign credit rating for many countries rated A and below. Bloomberg’s CSDR page now shows the new country ceilings rather than the old sovereign bond ratings. We are evaluating the change and how we will interpret the new rating.


Page 14

Country Update: Australia Inflationary pressures have peaked

0

1

2

3

4

5

Dec-00 Dec-02 Dec-04 Dec-06

Trimmed mean

Weighted median

Headline

% change from year earlier

Consumer price inflation(excl. GST)

Source: Westpac and Melbourne Institute

Demand for new finance is easing

17000

18000

19000

20000

21000

22000

Nov-05 Feb-06 May-06 Aug-06 Nov-06

$mHousing finance commitments

Seasonallyadjusted

Trend

Source: Australian Bureau of Statistics

• Inflation fell to -0.1% in the December quarter 2006 (3.3% annual), driven by a reversal of earlier rises in petrol and banana prices. However, the real surprise was the moderation in core inflation, which was just 0.5% in the quarter (3.0% annual), down from 0.9% in the June quarter and 0.8% in the September quarter.

• Elsewhere in the economy, there is mixed evidence on the extent to which monetary tightening in 2006 is impacting consumer behaviour. Retail sales volumes rose by 1.3% in the December quarter, with the annual rate running at a healthy 4.3%. Other higher frequency indicators suggest that robust trading conditions continued over the crucial Christmas holiday period.

• In contrast, demand for new finance clearly trended down in the second half of 2006. The value of housing finance approvals fell in each of the five months to November to be down over 10% from the recent peak in June 2006. Personal finance approvals also fell by 1.2% in November, continuing the downturn from mid 2006, while commercial finance approvals remain broadly flat in trend terms.

• The labour market remains tight and a source of upside risk for wages and inflation. Employment grew by a further 44,600 in December taking the total number of jobs created over 2006 to over 300,000. The unemployment rate held steady at a 30-year low of 4.6%.

• On balance, evidence of moderating inflation and demand for new finance should be sufficient to keep the RBA on the interest rate sidelines in the near term. Beyond that, our forecasts suggest that recent sub-trend growth will further ease price pressures in the economy. In this event it is likely the monetary policy debate will begin to shift toward the possibility of rate cuts in the latter part of this year and early in 2008. We have pencilled in a 25bp rate cut in November 2007 and another in February 2008.

Mark Rodrigues

Economic data – Australia Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Building Approvals, 000’s 12.8 13.1 14.2 12.6 13.1 12.2 12.6 12.4 Retail Sales, % YOY 5.5 5.7 6.1 5.4 6.1 6.8 6.6 6.3 Exports, % YOY 10.6 23.2 14.2 18.5 15.9 16.6 14.2 4.5 Imports, % YOY 16.4 14.9 10.6 11.6 10.9 17.2 5.3 8.1 Trade Balance, AUD bn -2.02 -0.44 -0.43 -0.39 -0.76 -1.49 -0.90 -1.34 Foreign Exchange Reserves, US$ bn 51.3 47.4 52.4 51.1 46.2 50.1 51.3 55.1 Quarterly data Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Dec 06 Real GDP, % YOY 2.0 3.0 2.9 3.2 3.2 2.2 2.2 n/a - Private consumption 3.6 3.4 2.7 2.4 2.8 2.6 2.8 n/a - Government consumption 3.8 3.8 2.8 3.5 2.6 4.6 5.3 n/a - Gross fixed capital expenditure 3.4 8.1 9.3 9.9 10.4 6.2 3.1 n/a Consumer Price Index, % YOY (nsa) 2.4 2.5 3.0 2.8 3.0 4.0 3.9 3.3 Current Account, AUD bn -15.0 -11.8 -13.0 -14.3 -13.3 -13.3 -12.1 n/a Capital Account, AUD bn (nsa) 14.2 10.6 15.1 14.3 13.1 11.3 14.3 n/a

Sources: Australian Bureau of Statistics, RBA Note: data seasonally adjusted unless otherwise statedNote: data seasonally adjusted unless otherwise stated


Page 15

Country Update: Cambodia

GDP Growth to moderate in 2006

8.1

5.45.7

5.0

12.6

8.4

7.76.2

8.6

10.0

13.4

-2

0

2

4

6

8

10

12

14

16

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

%

Agriculture, Fisheries & Forestry Industry Services Taxes on Products less Subsidies

Forecast

Source: Cambodia National Institute of Statistics, Economics@ANZ

Inflation falls due to lower food prices

-2

0

2

4

6

8

10

12

14

16

Aug-03 Jan-04 Jun-04 Nov-04 Apr-05 Sep-05 Feb-06 Jul-06 Dec-06

All Items

Transport & communications

Food, beverages & tobacco

YOY %

Inflation

Source: Cambodia National Institute of Statistics

• The performance of the Cambodian economy has surprised many in recent years. GDP growth came in at 13.4% in 2005 and averaged a very strong 9.5% for the period 1999-2005. In 2006, it is expected that some “normalcy” will return to GDP growth rates which are forecast at 7½-8½% for the year. This moderation of growth is based on several factors. The agricultural sector is unlikely to expand at the same rate in 2006 as it did in 2005 in which favourable weather conditions drove an exceptionally strong expansion. This slowing in growth is despite improvements in efficiency and irrigation techniques in the sector.

• The tourism-based services sector will continue to expand on the back of the significant rise of tourist arrivals. In 2006 and 2005, tourist arrivals increased by 19.6% and 43% respectively, reaching just over 1.7 million visitors last year. This increase in tourist numbers has driven significant increases in receipts in recent years, officially reaching US$840mn in 2005, up around 40% from 2004. This figure would be expected to increase by around 20% in 2006. Going forward, it may be that the expansion in tourist arrivals will be increasingly difficult to sustain, with infrastructure around Cambodia’s key tourist sights coming under increased pressure as tourism expands.

• The third major sector, manufacturing, will remain reliant on garment exports. This industry has benefited from productivity enhancements and improvements in labour conditions to maintain its overseas market share. The garments-based external trade sector experienced dramatic growth in 2006. According to IMF Direction of Trade statistics, exports and imports expanded by 139% and 234% respectively in the 9 months to September, compared with the same period last year. Tourism and garments look as if they will remain the only significant drivers of growth in the economy in the short-term with the development of other sectors relatively limited at this stage. This lack of economic diversification remains the key risk to the Cambodian economy.

• Inflation fell significantly in 2006 falling to 2.8% YOY in December. Inflation averaged 4.7% in 2006 compared with 5.8% in 2005. Inflation fell in the latter half of 2006 on the back of much lower food prices. It is expected that going forward the food-heavy inflation index will continue to be heavily influenced by the supply/demand of agricultural production and foodstuffs.

Alex Joiner Economic data – Cambodia Monthly data May Jun 06 Jul 06 Aug Sep 06 Oct 06 Nov Dec 06 Consumer Price Index, % YOY 4.9 3.8 5.1 5.1 4.4 4.1 3.2 2.8 -Transport & Communication 10.5 10.1 11.2 10.5 8.6 6.2 6.7 7.4 -Food & Beverages 7.2 4.3 6.3 6.1 5.0 4.9 2.9 2.0 Exports, % YOY 30.6 24.1 30.4 21.4 23.1 n/a n/a n/a Imports, % YOY 21.1 27.2 18.4 18.6 43.7 n/a n/a n/a Trade Balance, US$ mn -149.6 -117.2 -51.8 -13.1 -105.3 n/a n/a n/a Foreign Exchange Reserves, US$ mn 1,007.3 1,026.8 1,034.8 1,022.0 1,007.5 1,050.1 1,082.1 n/a Tourist Arrivals, % YOY 19.3 20.7 9.7 12.6 23.2 18.8 n/a n/a GDP Composition 2005 Trading Partners Exports Imports Real GDP, % YOY 13.4 2005 % share US 60.0 Thail’ 24.7 - Agriculture, % YOY 5.1 Germany 11.5 China 16.3 - Industry, % YOY 3.3 UK 4.6 HK 13.4 - Services, % YOY 4.5 Vietnam 4.5 Vietn’m 12.8 Nominal GDP, US$ bn 5.5 Cananda 3.9 Sing’ 8.2

Sources: Datastream, National Institute of Statistics of Cambodia


Page 16

Country Update: China Fixed asset investment slowing, exports

picking up

0

10

20

30

40

50

60

01 02 03 04 05 06

Industrial production

Fixed asset investment

% YOY

Exports

Key growth indicators

Sources: Datastream

External surpluses continue to grow

Trade surplus + FDI

Sources: Bloomberg, Datastream

Foreign exchange reserves

-10

-5

0

5

10

15

20

25

30

35

40

01 03 05 07

FDI

Tradebalance

US$ bnANZforecast

0

300

600

900

1200

01 02 03 04 05 06

US$ bn

• Real GDP was reported to have risen 10.4% YOY in the fourth quarter, bringing full-year growth for 2006 to 10.7%. This was slightly above both consensus and the government’s projections. At the same time, CPI rose 2.8% YOY in December, the highest rate of annual inflation since early 2005. These results prompted speculation that the PBOC will further raise interest rates to cool growth.

• However, we do not expect a further hike in interest rates as growth is clearly moderating. Industrial production rose 14.9% YOY in November, down from an average annual growth pace of 17.5% in H1 2006. More importantly for the PBOC, fixed asset investment growth slowed to 26.5% YOY in October and November (annual cumulative) as against growth of 29-30% in the first three quarters. While there is no doubt that inflation is trending higher – across durables, food and housing – we expect any further tightening by PBOC to be in reserve requirements and not in interest rates, as higher interest rates would put further upward pressure on the RMB.

• External surpluses are massive, as the trade surplus reached US$177 bn in 2006, up from US$101 bn in 2005. FDI was steady at US$59 bn last year versus US$58 bn in 2005. Foreign exchange reserves have risen by US$247 bn over 2006, suggesting at least US$11 bn of “other” inflows. The pace of reserve accumulation accelerated in Q4 2006, averaging an increase US$26 bn per month as against US$18 bn per month over the first three quarters. Although export growth is expected to decelerate in 2007, we expect falling import growth to leave a surplus of US$254 bn for 2007. This with steady FDI suggests FX reserves could reach US$1.4 trillion by end-2007.

• The Financial Work Meeting, which occurs every five years to set financial sector policy decisions, was held in January. One decision out of the meeting seems to be the creation of a new agency to manage China’s FX reserves, similar to Singapore’s GIC or Korea’s KIC. If so, there would be a stronger probability that China will use its foreign exchange reserves to acquire strategic energy assets.

Amy Auster

Economic data – China Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Industrial Production, % YOY 17.9 19.5 16.7 15.7 16.1 14.7 14.9 n/a Retail Sales, % YOY 14.2 13.9 13.7 13.8 13.9 14.3 14.1 14.6 Consumer Price Index, % YOY 1.4 1.5 1.0 1.3 1.5 1.4 1.9 2.8 Exports, % YOY 25.1 23.3 22.5 32.7 30.6 29.5 32.8 24.86 Imports, % YOY 21.7 18.9 19.7 24.5 21.9 14.7 18.3 14.06 Trade Balance, US$ bn 13.0 14.4 14.57 18.81 15.31 23.81 22.93 20.71 Foreign Exchange Reserves, US$ 925.0 941.1 954.6 972.0 987.9 1009.6 1038.8 1066.3 Quarterly data Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Dec 06 Real GDP, % YOY 9.9 10.1 9.8 9.9 10.4 11.5 10.6 10.4 - Primary sector 4.6 5.0 5.0 5.2 4.5 5.1 4.9 5.0 - Secondary sector 10.9 11.0 10.9 11.7 12.5 13.2 13.0 12.5 - Tertiary sector 9.7 9.8 10.0 10.5 8.9 9.4 9.5 10.3 Nominal GDP, US$ bn 511.2 532.5 563.9 638.1 593.7 626.5 640.6 n/a Current Account, US$ bn 148.7 155.8 168.3 170.5 182.2 205.0 221.5 236.6 FDI (actual), US$ bn* 13.4 28.6 43.3 60.3 14.3 28.4 42.6 63.0 Sources: Datastream, Bloomberg * - Quarterly sum


Page 17

Country Update: Hong Kong The external sector continues to improve

Visitor arrivals

-12

-7

-2

3

8

13

18

23

28

02 03 04 05 06

% yearly change 3mma

4

Exports

Source: Datastream, Economics@ANZ

0.0

0.5

1.0

1.5

2.0

2.5

02 03 04 05 06

Mn persons 12mma

The HKD is now weaker than the CNY

7.60

7.65

7.70

7.75

7.80

7.85

7.90

7.95

8.00

8.05

Jun-06 Jul-06 Sep-06 Nov-06 Jan-07

USD

USD/HKD

USD/CNY

Hong Kong and Chinese currencies

Source: Bloomberg

• Recent economic developments confirm that the Hong Kong economy is expanding at a solid pace. Consumer spending remains well supported by an improving labour market and wealth gains from the booming property and equity markets. The external sector is also performing well with visitor arrivals continuing to rise as Chinese tourism accelerates and other exports are also showing signs of a pick up in recent months. Inflation meanwhile continues to slowly accelerate, rising 2.3% YOY in December, partly due to rising house prices.

• As anticipated, the steadily appreciating USD/CNY reached parity with Hong Kong’s pegged exchange rate in the first few weeks of 2007. Since then, the CNY has continued to appreciate, surpassing the HKD to be stronger relative to the USD.

• While these currency developments have had a symbolic impact on local markets, the practical impact has been minimal. The stronger CNY is unlikely to prompt the Hong Kong Monetary Authority to abandon its 23-year USD currency peg in favour of a CNY peg. The economies of China and Hong Kong share few similarities such that pegging the HKD to the CNY would link Hong Kong to a very different business cycle than its own. Moreover, while Hong Kong is a leading global financial market centre, Chinese financial markets remain underdeveloped and tightly controlled. While we would eventually expect greater currency integration between Hong Kong and China, significant further economic and market development in China, including for example a fully-convertible CNY, is required before this can take place.

• The economic impact to Hong Kong of the stronger RMB will in the short-term be small, but mixed. As Hong Kong imports most of its food and raw materials from China, the weaker HKD will both reduce local purchasing power and put some upward pressure on inflation. Providing some offset to this is that Hong Kong’s exports will now be more price competitive.

Katie Dean

Economic data – Hong Kong Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Visitor Arrivals, %YOY 7.3 8.3 5.7 11.2 2.4 2.5 1.0 n/a Retail Sales, % YOY 3.6 3.4 5.2 6.5 5.9 5.2 5.0 8.2 Consumer Price Index, % YOY 2.1 2.1 2.3 2.5 2.1 2.0 2.2 2.3 Exports, % YOY 0.4 6.9 10.7 9.8 4.5 7.5 13.8 n/a Imports, % YOY 3.0 10.1 11.5 12.2 7.9 10.8 15.9 n/a Trade Balance, US$ bn -1.9 -1.8 -0.7 -1.2 -1.5 -0.4 -1.1 n/a Foreign Exchange Reserves, US$ bn 127.0 127.0 127.0 129.0 130.0 131.0 133.0 133.0 Quarterly data Dec 04 Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Real GDP, % YOY 7.5 5.6 7.2 8.4 7.9 7.9 5.4 7.0 - Private consumption 6.0 4.0 2.0 4.0 3.0 5.0 5.0 4.0 - Government consumption -2.0 -5.0 -2.0 -2.0 -4.0 1.0 -1.0 -1.0 - Gross fixed capital expenditure -2.0 0.0 5.0 3.0 8.0 8.0 5.0 13.0 Nominal GDP, US$ bn 42.1 42.7 44.3 44.9 45.8 46.3 46.9 48.0 Current Account, US$ bn 7.5 5.1 4.5 4.6 6.0 4.7 1.9 6.6 Capital Account, US$ bn -0.1 -0.3 -0.2 -0.1 -0.1 -0.1 0.1 n/a Source: Datastream


Page 18

Country Update: India Inflation pressures persist

Source: Datastream

CPI and WPI

Real credit growth

Stockmarket

0

2

4

6

8

10

01 02 03 04 05 06

%YOY

CPI

WPI

2000400060008000

10000120001400016000

01 02 03 04 05 06

05

1015

20253035

01 02 03 04 05 06

BSE-30 Sensitive

%YOY

Index

10203040

50607080

01 02 03 04 05 06

Oil prices (WTI)US$/bbl

Current account remains in deficit but reserves improve thanks to capital inflows

External balances

60

80

100

120

140

160

180

03 04 05 06

US$ bn

Foreign Exchange Reserves

Source: Datastream

-20000

-15000

-10000

-5000

0

5000

10000

02 03 04 05 06

US$ mn

Current account

Trade balance

services balance

transfers

• Buoyant domestic demand has raised inflation pressures. Wholesale prices have resumed their upward climb to 6.12% YOY on 6 January 2007, the highest rate since December 2004. In terms of asset price inflation, India is in uncharted territory with equity and real estate prices continuing to accelerate. Real credit growth continues to be robust, rising by an average 22% YOY during January-September 2006. Against this backdrop, the RBI is expected to maintain its tightening bias, which it has held since late 2004. The reverse repo rate has been raised by 125 bps since October 2004 to 6% while the repo rate has been lifted by 275 bps to 7.50%. In December 2006, the RBI announced that it would raise the cash reserve ratio (CRR) for domestic banks by 50 bps, to 5.5%, in two stages (first 25 bps hike was on 23 December and the next 25 bps increase took effect from 6 January). Inflation risks are likely to persist as domestic demand stays strong.

• The current account remains in deficit. However, constraints on the balance of payments have been alleviated by strong capital inflows. According to the Institute of International Finance, FDI inflows, which averaged US$2-3 bn pa. in the 1990s, are now around US$6-7 bn pa and are expected to climb. Portfolio capital flows have been more substantial in recent years, averaging US$11 bn per year between FY2003/04-FY2005/06.

• In India, parliamentary elections are not due until 2009 but the pressures of coalition politics are likely to ensure that progress on economic reform remains slow. However, the Indian National Congress-led United Progressive Alliance (UPA) coalition has been given a lift in the recently-released survey by the Centre of Developing Societies. Results showed that Congress party president Sonia Gandhi received the highest percentage of support and the government led by Prime Minister Manmohan Singh is in stronger shape than when elected in 2004. This will bode well for the ruling Congress-led coalition in key state elections due this year.

Jasmine Robinson

Economic data – India Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Industrial Production, %YOY 11.5 9.5 12.9 10.1 11.3 4.4 14.1 n/a Passenger car sales, % YOY 27.7 24.3 20.9 13.2 20.4 15.5 25.2 24.7 Consumer Price Index, % YOY 5.9 7.3 6.3 6.0 6.4 6.9 6.0 n/a Exports, % YOY 29.6 40.2 40.7 41.1 41.2 19.0 57.1 19.5 Imports, % YOY 21.7 24.0 42.8 32.2 49.1 39.3 60.3 41.8 Trade Balance, US$ bn -3.8 -3.8 -4.0 -3.5 -5.3 -6.2 -6.2 -5.7 Foreign Exchange Reserves, US$ bn 156.0 156.0 157.0 159.0 158.0 161.0 168.0 170.0 Quarterly data Dec 04 Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Real GDP, % YOY (at factor cost) 7.0 8.6 8.5 8.4 7.5 9.3 8.9 9.2 - Agriculture 8.1 6.8 9.5 6.3 7.0 7.9 9.7 10.5 - Industry -1.2 1.5 3.4 4.0 2.9 5.5 3.4 1.7 - Services 9.4 11.4 9.8 9.7 8.2 10.8 3.7 11.1 Nominal GDP, US$ bn 171.9 175.9 168.4 168.3 191.1 196.4 183.6 180.8 Current Account, US$ bn -5.8 4.1 -3.6 -5.0 -3.8 1.8 -4.8 -6.9 Capital Account, US$ bn 11.7 12.4 4.4 10.0 -0.6 10.9 10.7 8.6 Source: Datastream, Bloomberg


Page 19

Country Update: Indonesia Consumption improves as inflation moderates

0

2

4

6

8

10

12

14

16

18

20

03 04 05 06

% YOY

-60

-40

-20

0

20

40

60

80

02 03 04 05 06

Auto Vehicle sales

Motorcycle sales


%YOY, 3-mth mvg avg

InflationMotorcycle and vehicle sales

CPI

External balances strengthen

-10

-8

-6

-4

-2

0

2

4

6

8

10

12

97 98 99 00 01 02 03 04 05 06

Services and income balance

Trade balance

Current acc. balance

US$ bn

-8

-6

-4

-2

0

2

4

6

04 05 06

Other inv

Portfolio invDirect inv

Financial & Capital acc balance

US$ bn

• Bank Indonesia continued with monetary easing. We expect further rates cuts through the year, bringing the BI rate to 8% by end-2007. Inflation has moderated to the 5-6.5% YOY level and is expected to stay in this range barring further cuts in fuel subsidies. The Indonesian rupiah is also expected to contain imported inflation with a steady appreciation of a further 5-6% forecast against the US dollar by end-2007.

• The economy is estimated to have expanded by 6.6% YOY in Q4 2006, making it the strongest growth performance in seven quarters. Domestic demand is likely to gain momentum this year assisted by lower interest rates although exports are likely to moderate. Partial indicators suggest a pick-up in private consumption although investment remains weak but more tax incentives and reforms are expected in the coming months. In early January, the Ministry of Finance announced that 15 industries including pharmaceuticals, electronics, and chemicals would be granted tax concessions in an effort to lift both domestic and foreign investment.

• Indonesia’s external balances strengthened considerably in 2006, with the current account posting an estimated surplus of US$9.7 bn, up from just US$307 mn in 2005. The surplus, however, is forecast to narrow in 2007 reflecting a weaker trade profile as imports pick up with a recovery in domestic demand while export growth slows as global growth moderates. Capital inflows, however, are expected to rise as macroeconomic conditions improve.

• First-ever local elections held in Aceh on 11 December 2006, saw former separatist rebel Irwandi Yusuf elected governor of the province in an overwhelming victory. He has indicated that he will not push for independence and remains committed to the peace agreement signed in 2005, which has served to allay concerns over the potential for renewed separatist conflicts.

Jasmine Robinson

Economic data – Indonesia Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Industrial Production, %YOY -4.0 -0.7 0.4 0.7 5.5 0.2 24.2 n/a Motor cycle sales, % YOY -23.1 -28.0 -21.6 -12.8 9.1 -29.8 49.7 27.1 Consumer Price Index, % YOY 15.6 15.5 15.2 14.9 14.6 6.3 5.3 6.6 Exports, % YOY 16.1 26.1 26.2 26.4 19.0 12.3 30.7 17.4 Imports, % YOY 1.9 20.2 11.8 4.0 15.5 -6.2 45.0 3.1 Trade Balance, US$ bn 3.3 2.8 3.4 3.3 3.1 4.2 3.1 4.6 Foreign Exchange Reserves, US$ bn 42.1 38.3 39.2 40.3 40.7 38.2 39.9 n/a Quarterly data Dec 04 Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Real GDP, % YOY 7.0 6.3 5.7 5.8 4.7 4.8 5.1 5.6 - Private consumption 3.9 3.4 3.8 4.4 4.2 2.9 3.0 3.0 - Government consumption -2.2 -7.0 -5.7 14.9 32.7 11.2 26.7 1.5 - Gross fixed capital expenditure 16.3 13.9 14.7 9.1 2.7 1.5 1.4 0.0 Nominal GDP, US$ bn 66.0 67.7 69.2 69.7 74.6 83.0 87.9 92.8 Current Account, US$ bn 0.5 0.3 0.4 -1.2 0.8 1.6 0.6 4.0 Capital & Financial Account, US$ bn 2.4 -0.6 0.5 -3.3 3.6 2.2 -0.1 -0.7 Sources: Bloomberg, Datastream, Bank Indonesia


Page 20

Country Update: Japan All inflation measures have turned down

Price trends Interest rates

Sources: Datastream, Economics@ANZ

-3

-2

-1

0

1

2

3

4

01 02 03 04 05 06

Corporategoods price

index

% YOY

Headline CPI

Core CPI

0

1

2

3

01 02 03 04 05 06

10-year bond rate

% pa

3-month interbank rate

Households still feeling blue Industrial production

-8

-6

-4

-2

0

2

4

6

8

01 02 03 04 05 06

% YOY

Retail sales

Disposable income

Households

Sources: Datastream, Economics@ANZ

-20

-15

-10

-5

0

5

10

15

20

01 02 03 04 05 06

% YOY Machinery orders

Industrial production

• The Bank of Japan left interest rates on hold in January after rising speculation that rates would be lifted. Expectations followed a spate of solid data, rising credit growth and comments from unnamed BOJ officials that the BOJ was ready to move. The fact that the BOJ did not raise rates led to concern that the BOJ bowed to pressure from the government. However, subsequent data has been surprisingly weak. Core inflation fell 0.1% MOM in December, while retail sales fell 0.3% YOY and household consumption fell 1.9% YOY.

• The weak inflation data were a surprise to us, and the fact that consumption still has not gained traction is a concern. The fourth quarter GDP deflator is the only important data release between now and the BOJ’s next policy meeting on 20 February. As such, we have removed our forecast for the BOJ to raise rates by 25 bps in February and delayed it until the 21 March meeting. However, the call remains data dependent and another negative core CPI reading would further delay our next forecast rate hike. It is worthwhile to note that interbank interest rates continue to rise on falling liquidity, as the monetary base shrank by 21% YOY in January.

• A disappointed market pushed the yen to USD/JPY121.95 at the end of January, its weakest level in 4 years. We expect the yen to remain weak; as long as rates remain this low, the carry trade will remain in play. However, a weak yen will continue to bolster exports, while the import bill will decline on lower oil prices. Net exports could make a significant contribution to growth this quarter, as the trade surplus reached ¥94 trillion last year and appears likely to expand in the first half of this year. We have revised our yen forecast to current trading levels in the near term, although we expect the currency to strengthen later this year.

• The true unknown in the BOJ equation is the political fortunes of the administration of Shinzo Abe, whose popularity has been falling steadily to only 40.7% in the latest polls. Political uncertainty could feed into consumer pessimism and prevent strong corporate activity from translating into higher consumption.

Amy Auster

Economic data – Japan Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Industrial Production, %YOY 2.8 5.1 5.0 5.8 4.9 6.1 4.9 4.4 Retail Sales, % YOY 0.1 0.2 -0.1 1.1 0.7 0.1 -0.2 -0.3 Consumer Price Index, % YOY 0.1 0.5 0.3 0.9 0.6 0.4 0.3 0.3 Exports, % YOY -1.7 8.6 10.5 12.2 9.4 8.0 13.3 10.8 Imports, % YOY 8.6 12.2 13.1 10.8 11.0 13.8 8.6 8.6 Trade Balance, US$ bn 3.4 7.0 7.4 1.7 8.6 5.1 7.8 9.5 Foreign Exchange Reserves, US$ bn 842.8 844.0 850.6 857.9 861.1 865.6 875.9 874.6 Quarterly data Dec 04 Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Real GDP, % YOY 1.1 0.7 1.8 2.2 2.9 2.7 2.2 1.7 - Private consumption 0.4 0.6 1.3 1.7 2.7 1.9 1.5 -0.1 - Government consumption 1.3 2.1 1.5 2.5 0.7 -0.8 0.6 0.1 - Gross fixed capital formation -0.5 1.1 2.2 3.9 2.6 3.5 3.5 1.9 Nominal GDP, US$ bn 4513.9 4679.7 4770.4 4815.7 4767.0 4757.5 4732.5 4702.2 Current Account, US$ bn 170.2 170.9 167.9 165.5 167.4 200.4 190.5 157.1 Capital Account, US$ bn -2.5 -7.0 -4.7 -2.7 -1.4 -11.9 -11.0 -5.2 Source: Datastream


Page 21

Country Update: Korea Fourth Quarter GDP weakens on PCE and

exports

-4

-2

0

2

4

6

8

10

12

14

2000 2001 2002 2003 2004 2005 2006

Government Expenditure

GFCF

Net Exports

Private Consumption Expenditure

% YOY, contributions to growth rate

May vary from actual GDP growth rate as statistical discrepancy not included


Inflation remains in check, other signals mixed

0

1

2

3

4

5

6

01 02 03 04 05 06 07

CPI

% YOY

Core

Inflation Unemployment and LEI

0

1

2

3

4

5

01 02 03 04 05 06 07-4

-2

0

2

4

6

8

10

12

14

16

Unemploymentrate (LHS)

% YOY% sa

Leading EconomicIndicator (RHS)


• Korea’s economy slowed in the fourth quarter of 2006 due to weaker exports and the continued moderation in consumer spending. GDP growth came in at a softer-than-expected 4.0%YOY in Q4. Consumption expenditure slowed to 3.7%YOY with consumers remaining under a heavy debt burden. This was reflected in the consumer sentiment index that continued to fall in December, down 9.2%YOY. Net export growth also slowed to 12.9%YOY, as the appreciation of the won late last year, especially against the yen, hurt the competitiveness of exports.

• Industrial production was weaker in December, contracting by 3.9%MOM, due largely to strikes in the auto sector and a slowdown in the electronics sector. This dragged the YOY result down to 2.3%. Industrial production will most likely strengthen in January in the lead up to Lunar New Year and consequently soften in February. Despite the general weakness of the economy in late 2006, January has seen exports jump 21.4%YOY. This result was assisted by the relative weakness in the won in the year thus far.

• In 2007, the government will support economic growth by front-loading 56% of its budget expenditure in the first half, up from 53% in 2006. The government will also take steps to implement property market policies aimed at bolstering housing supply in order to ease soaring house prices.

• The government also intends to “…react pre-emptively against risks in the financial and foreign exchange markets”. It was reported that the BoK intervened in the market several times last year to rein in the appreciation of the won.

• Apart from this, the BoK may have little to do in 2007 with policy interest rates widely tipped to remain unchanged at 4.5% throughout 2007. Inflation remains largely in check, with headline inflation falling to 1.7%YOY in January and the core measure stable at 2.1%YOY.

Alex Joiner

Economic data – Korea Monthly data May 06 Jun 06 Jul 06 Aug 06 Sep 06 Oct 06 Nov 06 Dec 06 Industrial Production, %YOY 12.2 11.5 6.6 10.7 11.0 11.9 6.2 4.9 Retail Sales, % YOY 5.7 6.7 4.2 6.8 2.5 6.1 5.0 2.9 Consumer Price Index, % YOY 2.3 2.4 2.4 2.7 2.5 2.2 2.1 2.1 Exports (US$), % YOY 20.8 17.9 11.0 16.9 21.0 10.7 18.7 12.6 Imports (US$), % YOY 23.6 22.2 18.7 22.9 22.0 13.2 12.2 13.7 Trade Balance, US$ bn 1.8 1.9 0.2 0.3 1.9 2.4 3.9 1.4 Foreign Exchange Reserves, US$ bn 224.3 224.0 225.3 226.6 227.8 228.6 233.7 238.4 Quarterly data Mar 05 Jun 05 Sep 05 Dec 05 Mar 06 Jun 06 Sep 06 Dec 06 Real GDP, % YOY 2.6 3.3 4.5 5.3 6.0 5.4 4.8 4.0 - Private consumption 1.7 3.1 4.0 4.1 4.9 4.4 4.0 3.7 - Government consumption 3.2 4.2 5.1 4.8 5.3 5.2 5.8 6.5 - Gross fixed capital expenditure 0.4 2.0 1.9 4.2 3.9 0.8 3.8 4.5 Nominal GDP, US$ bn 192.4 197.6 197.7 199.6 211.7 220.6 223.2 n/a Current Account, US$ bn 5.3 2.4 2.2 5.2 -1.1 0.7 0.4 6.1 Capital Account, US$ bn -0.5 -0.7 -0.7 -0.5 -0.7 -0.8 -0.7 -0.9 Source: Datastream


Page 22

Country Update: Malaysia Inflation expected to moderate, giving scope for

interest rates to fall in 2007

Inflation

-2

-1.5

-1

-0.5

0

0.5

1

1.5

2

2.5

01 02 03 04 05 06

% pa

Real interest rates


0

1

2

3

4

5

01 02 03 04 05 06

CPI

%YOY

Commodity prices give added support to Ringgit

60

80

100

120

140

160

180

200

220

3/01/05 6/07/05 6/01/06 11/07/06 11/01/07

Tin (26 Jan 07: US$12,260/mt)

Rubber (26 Jan 07:714 MYR cents/kg)

Palm oil(26 Jan 07 US$600/mt)

3 Jan 2005=100


• Malaysia has been hit by its heaviest rainfall in more than 50 years, causing widespread flooding particularly in the south, resulting in the displacement of many. Infrastructure repairs are estimated to cost around RM350 mn (US$100 mn) with bridges, roads etc damaged by landslides. The Meteorological Department has warned of a third wave of floods.

• On the economic front, inflation continue

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Economics@ANZ ANZ International Economics Monthly · ANZ International Economics Monthly – January 2007 Page 2 Global soft landing in 2007 It is nearly official – global real