Published Date: 20 September 2022
"Critical Economic Uncertainties" - Keynote
Speech by Mr Ravi Menon, Managing Director,
Monetary Authority of Singapore, at the
SuperReturn Asia Conference on 20
September 2022
Ladies and gentlemen, good morning.
I am happy to join you at the SuperReturn Asia Conference - the first time the conference
is being held fully in person since the start of COVID-19, and the first time here in
Singapore.
Uncertainty has become the dominant theme in investment today. Let me touch on four
key uncertainties around the global economy:
first, how severe will the economic downturn be next year?
second, where is inflation headed in the medium term?
third, how will geopolitical tensions impact the global economy?
fourth, how might climate risks affect investor portfolios?
HOW SEVERE WILL THE ECONOMIC DOWNTURN BE NEXT YEAR?
The global economy is facing a severe bout of inflation with two positive stimuli to
demand coming up against two negative supply shocks.
On the demand side, the lagged effects of the massive fiscal and monetary stimulus in
response to the pandemic coupled with the unleashing of pent-up demand following
the re-opening of economies have substantially added to general inflationary
pressures.
Supply disruptions stemming from the lingering effects of the pandemic and the
Russia-Ukraine war have sharply driven up global food, energy, and commodity
prices.
The surge in inflation has necessitated monetary policy tightening by central banks, at
a pace not seen in the last four decades.
It is inevitable that economic growth needs to slow down to bring aggregate demand
and supply back into balance.
The risk of the major advanced economies entering a recession in 2023 is high.
The latest Consensus Forecasts has US and Eurozone GDP growth for 2023 coming in
at 0.5% or less.
Two recent polls by Bloomberg place the probability of recession in the US and the
Eurozone in the next 12 months at 50% and 80% respectively.
The Asia-Pacific economies are at lower risk of a recession but they will see a spill-over
from the broader global slowdown. Exports from the region are already declining.
The key question is: how deep and prolonged will the downturn be? That will depend
on how high and persistent inflation is. For if inflation turns out to be stubborn, central
banks will have to tighten monetary policy more and for longer than currently anticipated
by markets.
The good scenario is a short and shallow downturn, maybe even a technical
recession - a "so landing". What are the signs of hope?
First, output gaps in the major economies are relatively modest and bringing
aggregate demand and supply into balance may not require much more policy
tightening.
Second, the recent moderation in global food and energy prices will help to ease
overall inflationary pressures and help to prevent inflation expectations from rising. In
fact, long-term inflation expectations appear to be well anchored.
Third, as suggested by recent research by the Bank for International Settlements (BIS)
[1]
, so landings are more likely when the number of job vacancies is high and when
policy tightening is front-loaded. These conditions seem to be in place, at least in the
US economy.
The bad scenario is a longer and deeper recession - a "hard landing". What are the
risks of this happening?
First, as pointed out by the BIS, when private sector debt levels are high, monetary
policy tightening can trigger feedback loops through financial institutions and
markets that intensify the downturn. The BIS estimates that private debt service ratios
in the advanced economies could rise sharply to pre-global financial crisis levels if
policy rates were to increase by the same extent as the US Fed's tightening in
[2]
20042006.
Second, labour supply may continue to remain weak. Labour force participation and
non-resident labour flows may not fully recover to pre-pandemic levels. This means
continued labour market tightness and wage pressures, and therefore more
aggressive policy tightening to stabilise inflation.
Third, fresh supply disruptions from the war in Ukraine remain a key risk. A cessation
of gas supplies to Europe will likely have strong knock-on effects on global energy
prices.
WHERE IS INFLATION HEADED IN THE MEDIUM TERM?
The medium-term inflation outlook is likely to be "higher-for-longer" compared to
the past decade of low and benign inflation.
Global inflation averaged 3.8% per annum during the last two decades (2001-2020).
What will inflation be like over the next decade, aer the current bout of high inflation
is tamed? A fair guess is that we are likely to see more recurrent bouts of higher price
increases compared to the last two decades.
There are four structural factors underpinning this prognosis: supply chain
developments; labour market dynamics; energy transition; climate change impacts.
First, the ongoing reconfiguration of global supply chains is likely to mean higher
costs and hence prices, at least over the medium term.
Following the disruptions caused by the pandemic and the Ukraine war, there is now
heightened awareness of supply chain vulnerabilities.
Countries and companies are focusing on building resilience in their supply chains
through near-shoring and supply diversification, even at the expense of cost
efficiency.
This will increase prices in the short term and may have an inflationary impact over
the medium term as supply chains reconfigurations are complex and take time.
Second, we may be facing a structural shortage in global labour supply that could
put upward pressure on wages, liing prices across the board.
The pandemic seems to have shied employee preferences about working conditions
and job satisfaction, prompting some to choose jobs in the gig economy or to stay
home, thereby reducing hours worked or labour force participation rates.
There is also a widening skills gap across many sectors of the global economy- from
healthcare to digital industries - that could result in persistently high vacancy rates.
Finally, a rapidly aging population in many parts of the world could mean growing
demand for goods and services that a shrinking workforce will struggle to meet.
Third, the energy transition is likely to mean energy prices remaining on a steady
upward trajectory.
The imperatives of energy security and environmental sustainability are driving in the
same direction - to reduce dependence on imported fossil fuels and switch to
renewable energy.
In the short to medium term, this transition to cleaner energy is likely to be
inflationary.
The Bank of England estimates that inflation will increase by nearly 0.6
percentage points in the 2020s in an orderly transition scenario and by as much
as 2 percentage points by the early 2030s in a disorderly scenario.
With the ongoing energy crisis. we are probably seeing a preview of a disorderly
transition.
And it is not just energy prices. Demand will surge for minerals such as copper,
aluminium, cobalt, lithium, nickel, and rare earths, which are critical to various clean
energy technologies, including wind turbines and electric vehicles. This could lead to
what some analysts have referred to as greenflation, or rising prices for those metals
and minerals that are essential to renewable energy and technology.
Fourth, climate change could disrupt agriculture, driving food prices higher.
Extreme weather conditions are becoming more frequent worldwide.
Just this year, China and Europe have experienced one of their worst droughts on
record, and Pakistan and India have seen devastating floods. Reduced precipitation is
causing aridification in parts of North America, with the Corn Belt shiing northward.
Floods and droughts of increasing frequency and intensity could cause not just
disruptions in food supply but potentially also a permanent reduction in agricultural
yields, with worrying implications for food price inflation.
The era of cheap money, cheap labour, and cheap energy is most likely over.
This is unhelpful for global inflation but not necessarily bad from a broader
perspective. There has been too much borrowing, too much inequality, and too much
carbon emission globally.
With inflation likely to be higher than before, global interest rates are not going back
to the zero lower bound. Borrowing costs that are more reflective of time horizons and
risk premiums will perhaps help to reduce debt and leverage in the system.
With declining labour force growth in many parts of the world, we can no longer rely
on cheap labour to power our economy and society. But hopefully it will help to li
wages at the lower end of the spectrum and reduce inequality.
With the cost of energy likely to go up as the world progressively switches to cleaner
energy, it will help reduce carbon emissions, cap global warming, and avoid
catastrophic climate change.
HOW WILL GEOPOLITICAL TENSIONS IMPACT THE GLOBAL ECONOMY?
Geopolitical tensions are likely to lead to greater decoupling in the global economy.
The two key geopolitical tensions in the world today - between Europe and Russia
and between the US and China - are likely to persist over the medium term and lead
to some degree of economic fragmentation.
A weakening in globalisation in turn means less cost efficiency, less technology
transfer, less innovation, and ultimately less productivity growth.
The ongoing war in Ukraine could put Europe's fiscal sustainability under growing
strain.
The continent is facing an energy crisis, with record high natural gas prices in the wake
of the Ukraine war and hydroelectric energy production affected by widespread
droughts.
Governments across Europe are having to spend more to cushion households and
businesses against high fuel and electricity prices and to accelerate investments in
renewable energy.
Europe is also entering a period of significantly greater defence spending in view of
heightened geopolitical tensions. This will further strain public finances.
The strategic rivalry between the US and China is deepening across multiple fronts,
with increased decoupling in trade, technology, and finance.
The US-China trade conflict has reduced bilateral trade and dampened global trade
more broadly.
The trade tariffs imposed by the two countries on each other have not helped either
country, contributing to supply frictions and price pressures.
More worryingly, the volume of global trade stagnated since the imposition of the
tariffs in early 2018 until the eve of the pandemic in end-2019.
While the pandemic drove a temporary surge in shipment volumes due to demand for
some products such as personal protective equipment (PPE) and electronics, it
remains to be seen whether global trade will recover on a sustained basis.
There is increasing risk of bifurcation in crucial technologies, as the US and China
seek to reduce their reliance on each other.
As the two countries diversify their respective technology bases and supply chains,
the development of important technologies such as semiconductors, artificial
intelligence and 5G telecommunications will increasingly bifurcate.
Recently, the US introduced restrictions on the export to China of advanced
processors widely used for AI calculations.
Cross-border mergers and acquisitions across technology firms have been blocked by
both sides due to anti-monopoly and national security considerations.
US-China tensions are also causing a ri between the two rivals' financial systems.
Increasing scrutiny of Chinese listings in the US has prompted some Chinese firms to
think about delisting from US markets.
China, as well as some other countries, are seeking to reduce their dependence on the
US dollar and US payment system.
These developments could lead to a more fragmented global financial system over
time.
The growing decoupling between the US and China in trade, technology, and finance
are likely to have far-reaching economic consequences.
At the broad macro level, this decoupling cannot be good for global economic growth.
At the micro level, there will be adjustments in supply chains, trading relationships,
technology procurements, and financial arrangements that will have differentiated
implications across countries and sectors.
HOW MIGHT CLIMATE RISKS AFFECT INVESTOR PORTFOLIOS?
Perhaps the most challenging, pervasive, and enduring of all the risks that the
global economy is confronting is climate change.
Climate change poses two key risks to investors' portfolios:
First, physical risks arise from the impact of climate hazards on a company's
operations, supply chains and consumer markets.
Companies can mitigate this by putting in place adaptation measures through
de-risking, re-shoring, and diversification.
Second, transition risks arise from the impact of higher carbon prices, stricter
environmental standards, shis in consumer preferences, and advances in
lowemissions technologies.
This will require transforming carbon-intensive business activities and processes
- before regulation bites, competitiveness suffers, and assets become stranded.
Assessing portfolio companies' vulnerabilities to climate change is becoming an
integral part of business planning and shareholder engagement.
Climate change is already happening. It is no longer a question of 'whether it will
happen' but 'how much' and 'how fast'.
The trajectory of both physical and transition risks is highly uncertain. Global carbon
emissions have not peaked. At the same time, commitments towards achieving
netzero have never been stronger, foreshadowing stronger policy actions and growing
clean energy investments.
It is within this wide spectrum of possible outcomes that investors will need to make
portfolio allocation decisions.
INVESTMENT PIVOTS FOR PORTFOLIO RESILIENCE
Against the backdrop of these four short-term to long-term uncertainties, the overall
investment environment has deteriorated.
Return prospects are lower, and risks are higher.
Bright spots exist but they are more segmented and there is a need to seek them out
more carefully.
This environment presents an opportunity for private capital to shine.
Private equity (PE) and venture capital (VC) managers are more nimble than investors
in public markets.
They can focus on investment themes in differentiated market segments and high
growth markets to add diversification and enhance portfolio resilience.
Let me suggest three pivots for private market investment strategies in the uncertain
environment ahead.
one, pivot from growth to sustained profitability;
two, pivot to South and Southeast Asia as key growth markets;
three, pivot to private credit as a new avenue for capital;
PE/VC managers are increasingly prioritising profitability over growth.
More managers are rightly focused on selecting companies with strong balance
sheets, low burn rates, and good prospects for profitability in an environment of lower
growth, higher inflation and higher interest rates.
As these shis are being made to strengthen resilience, the industry can also position
itself for more sustainable growth.
Compared to public equity investment managers, PE/ VC managers typically have
more control and influence over their portfolio companies, and greater access to
information on their financial and sustainability performance.
South and Southeast Asia are becoming one of the most important regions for
private market investment opportunities.
Last year, growth in PE/VC investments in India outpaced most major economies,
including China.
India and ASEAN together accounted for almost 30% of the record US$296 billion of
[3]
private equity investments that poured into the Asia-Pacific region last year.
South and Southeast Asia are among the most dynamic economic regions in the
world.
Growth in these two regions is driven by favourable demographics, rising affluence,
young tech-savvy consumers, and rapid urbanisation.
ASEAN is likely to benefit from supply chain diversifications and an outward shi of
labour-intensive manufacturing from China.
South and Southeast Asia have booming tech sectors that present opportunities for
PE/VC investments.
The pandemic has accelerated digitalisation in Southeast Asia as retail transactions
and communications migrated online to overcome COVID-19 restrictions. According to
[4]
industry estimates, 3 out of 4 persons in ASEAN are now online.
Higher digital adoption in ASEAN has helped spur a vibrant technology sector.
There is a burst of entrepreneurial energy in ASEAN and the region is home to many
innovative high growth companies.
The number of unicorns in ASEAN has continued to increase over the last few years.
ASEAN's early wave of tech giants like Grab, GoTo and Sea have made public exits.
As other promising start-ups in the region scale up and expand their footprint, they
will need to raise capital and seek PE/VC funding.
Private credit will be a key driver of growth in private markets.
There are opportunities for private credit to play a larger role in Asian enterprise
financing just like its private equity counterpart.
Private credit is generally structured in the form of floating rate exposures. Hence,
investors benefit from larger coupons as interest rates rise. Asset owners are swapping
out part of their fixed income exposure for private credit, supporting demand for this
asset class.
Given that private credit is higher up in the capital structure of a firm than private
equity, the former can also offer investors better protection during a downturn.
Despite the uncertain global outlook and more cautious lending environment, private
credit players are well placed to seize lending opportunities in Asia and globally.
MAS is taking steps to develop Singapore as a full-service private markets hub
through the expansion of its Private Markets Programme.
I am pleased to announce that MAS has expanded the size and scope of its Private
Markets Programme (PMP) to invest an additional US$1 billion with top global private
credit fund managers.
Under the PMP, MAS allocates investment mandates to PE and infrastructure fund
managers who are committed to establishing or deepening their presence in
Singapore.
As a result of the US$2.2 billion allocated to-date, these managers have committed to
grow their assets under management in Singapore. Some have designated the
Singapore office as the regional HQ, grown their value creation teams here, and
collaborated with institutes of higher learning to create training programmes.
The US$1 billion top-up brings the size of the PMP to US$6 billion.
CONCLUSION
Before I conclude, let me add that Singapore's connectivity and ecosystem provides
the perfect springboard for PE/VC managers to capture opportunities in Asia.
Singapore has political and economic stability, well-regulated financial markets,
excellent transport and digital connectivity, a skilled talent pool, and extensive trade
linkages with ASEAN.
Singapore has one of the most vibrant PE/VC ecosystems in Asia.
PE/VC assets under management increased by 42% year-on-year to S$555 billion in
2021. Over the last five years, growth in PE/VC investments has averaged nearly 30%
per annum.
As of June this year, there were a total of 428 PE/VC managers in Singapore, up from
336 at the start of 2021. Many existing players have expanded their capabilities and
investment teams.
The Asia Pacific region remains the top investment region for this group of managers,
with 55% of assets invested within the Asia Pacific.
Singapore accounted for 46% of the record-high US$20 billion in VC deal value in
[5]
ASEAN last year .
To make PE/VC investment opportunities more accessible, we now have private
market platforms in Singapore - such as ADDX and CapBridge. MAS is working to
anchor more such platforms here.
Investing to deliver sustained long-term returns in an increasingly uncertain world is no
easy task. I hope today's conference will give you ideas for growth and opportunities to
connect with valuable partners. Thank you and best of luck.
[1]
Boissay, F, De Fiore, F, and E Kharroubi, "Hard or So Landing?", BIS Bulletin No.59, July 2022
[2]
BIS Annual Economic Report 2022
[3]
Bain & Company Asia-Pacific Private Equity Report 2022
[4]
Preqin Territory Guide ASEAN 2022
[5]
Preqin Territory Guide ASEAN 2022