S&P Global Ratings upgrades growth forecasts for Asia-Pacific to 7.3% for 2021 from 6.8% previously. A faster-than-expected global vaccine rollout, a large dose of U.S. stimulus, and upside surprises in trade and manufacturing push our forecasts higher and offset recent weakness in household spending. We expect consumers to power the recovery later in 2021 as gradual vaccine coverage lifts confidence and spending on services, creating jobs and boosting incomes.

We expect inflation in the region to remain subdued, notwithstanding higher commodity prices. The passthrough to core inflation, excluding volatile items such as food and energy, will remain weak so long as activity is well below potential. A robust service sector rebound, and an associated rise in hiring, will be needed to ignite inflation. In turn, this will keep most central banks on the sidelines.

We raise our forecast for China to 8% in 2021 (from 7% previously) and edge up to 5.1% for 2022 due mainly to stronger-than-expected exports and lingering momentum in the property market. We expect a cautious policy stance to dampen investment later in 2021, while consumption should pick up. We raise our forecasts for India to 11% (from 10% previously) for fiscal year 2021-22 in part due to an expansionary fiscal policy that should boost domestic private spending. We maintain Japan's outlook at 2.7% for 2021 but revise up to 2.0% in 2022 on better prospects for capital goods exports. We hold Australia's 2021 growth forecast at 4% after a much better-than-expected 2020.

In emerging markets, including Malaysia, the Philippines, and Thailand, we see a delayed but not derailed recovery. We revise down Indonesia's growth to a below-trend 4.5% in 2021 (from 5.4% previously) as the COVID wave early this year dented confidence and held back consumer spending.

With these latest revisions, we see risks to the economic growth outlook over the next 12 to 18 months as balanced. The pandemic remains the main downside risk. But along with a tetchy U.S.-China relationship, other risks include the threat of sharply higher real yields in global bond markets that could tighten Asia-Pacific's financial conditions. Upside risks include even hotter external demand, more confident consumers sitting on a stockpile of savings, and productivity gains from rapid digital adoption during the pandemic.

Widespread Vaccination And Immunity Most Likely Path To New Normal

Achieving widespread immunity is still the most likely route back to normal but for Asia-Pacific, this may come later than in Europe and the U.S. Low infection rates in Asia-Pacific (and, therefore, less natural immunity) may mean higher vaccine coverage is required. At the same time, the region's vaccine rollout has been more gradual, due to vaccine hesitancy among the population and limited supplies.

Some countries are targeting full coverage by later in 2021 (including Australia, Korea, and Singapore). Others, including China, Japan, and emerging economies such as Indonesia, may have to wait until 2022 or later. Still, the closer economies get to herd immunity, the more that activity can resume, jobs can come back, and households can spend.

Leaders And Laggards Across Asia-Pacific Economies

While a three-speed recovery has emerged in Asia-Pacific, we expect the laggards to pick up speed later in 2021. Early recoveries have been helped by containing COVID before the vaccine rollout, more exposure to global electronics trade, and less exposure to tourism.

The leading group includes China, New Zealand, Taiwan, and Vietnam, where activity is already above pre-pandemic levels. The middle group includes Australia, Japan, and Korea, where activity should reach pre-pandemic levels in early to mid-2021. India has joined this group following a sharp rebound in recent months. The lagging group consists mainly of emerging markets, including Indonesia, where uncontained spread of COVID and a gradual vaccine rollout mean getting back to pre-COVID levels only in late 2021.

As the recovery matures, laggards are likely to grow more quickly (relative to their trend growth rates) than leaders later in 2021 and early next year. The speed of recovery will then be driven by vaccine rollout, service sector reopening, and private consumption.

Chart 1

Consumers To Help Power Next Leg Of Recovery

We expect consumers to boost Asia-Pacific's recovery later in 2021. Up to now, Asia's own domestic demand recovery has been sluggish, even in those economies that have contained COVID. Household spending, while improving, has been soft compared with other major economies. Weak social protection partly explains this gap. While coverage has broadened in recent years, it often remains shallow and provides limited support during shocks. The Asian Development Bank has calculated that pre-COVID, social protection spending per intended beneficiary reached just 4% of GDP per capita. There have been exceptions, especially Australia, and these economies have seen a quicker pick-up in household spending.

In turn, weak domestic demand shows up in the region's rising current account surplus with the rest of the world, as seen in the gap between domestic saving and investment (see chart 2). It is striking that the region that managed COVID best has, relative to the rest of the world, saved more and invested less. While stimulus in the major economies may boost Asia's exports and surpluses for a while longer, we should expect some narrowing as the region's consumer recovery and imports gather steam.

Chart 2

Higher Demand For Services Will Create Jobs

As the vaccine is gradually rolled out, Asia-Pacific's consumers should gain confidence and spend more. When consumers lift their spending, we think it is likely that domestic service sectors hammered by the virus may be the largest beneficiaries. Appetite for activities outside the home will be robust. This is also where most jobs are created. In Asia-Pacific excluding China and India, before the pandemic, there were over three times as many service sector jobs than in industry (see chart 3).

This can create a virtuous cycle of higher spending, more jobs, and higher incomes. While Asia-Pacific's job losses were relatively moderate, people working part time or in temporary jobs were hit hard and this clearly dented consumer confidence in most economies.

Chart 3

U.S. Stimulus And Improving Capex To Support Asia's Exports

COVID-related spending that drove the first stage of Asia's export cycle will fade as economies reopen and global consumer spending switches more to domestic services and away from gadgets. Supply bottlenecks and higher prices for some goods could also curtail some spending and export momentum in 2021, but we do not expect these factors to significantly dampen growth.

So what drives the next leg of the trade cycle?

Higher U.S. demand due to the new fiscal stimulus will help. Final demand in the U.S. accounts for about 5% of GDP, on average across Asia-Pacific, according to the Organization for Economic Co-operation and Development. (This estimate looks through supply chains.) About half of this exposure is in the manufacturing sector and this is where the largest impact will be felt--Korea, Malaysia, Singapore, and Thailand stand to benefit most. Even after the trade war, China will also see some positive spillovers on its exports.

Global capital spending can also keep trade and manufacturing on track, but we will see wide divergence in investment demand across sectors, including between manufacturing and service sector firms. For manufacturing firms, whose operations were little affected by COVID and for whom demand has been strong, there may be incentives to boost investment (indeed, Japan's exports of semiconductor capital equipment are already picking up). However, in the services sector, where balance sheets have been damaged by a long period of dormant demand, the appetite to start spending may be lower.

Overall, we expect capex to make an important positive contribution to growth in most economies in 2021, via domestic investment and exports. For emerging market economies, including Indonesia, infrastructure investment will be especially important for the economy and this will depend, in part, on the willingness of foreign investors to fund a widening current account deficit.

Real Exchange Rates Close To Trend

Despite leading the recovery, at least in terms of activity getting back closer to potential, real effective exchange rates are close to trend for most economies. In other words, the region's exchange rates are not obviously overvalued and in need of a correction, while exports retain their usual competitiveness.

Unsurprisingly, most of the economies with the strongest currencies are those that are at the leading edge of the rebound, including China, New Zealand, and Taiwan. The exception is the Philippines where the peso is about 5% appreciated versus its long-term trend, despite its lagging recovery. Other emerging market economies' currencies are all either close to trend or somewhat weaker.

Chart 4

Gradual Reflation, Not Surging Inflation

Despite a steady recovery, with growth rates amplified this year by the low base in 2020, we expect Asia-Pacific's low inflation--about 0.2% during the final quarter of 2020--to pick up only gradually. We do not expect a broad-based, cost-push consumer price inflation surge. This should continue so long as many people are looking for work and businesses, especially in the service sector, are operating far below capacity. This means inflation will largely remain below central bank targets.

Still, higher commodity prices will pass through to headline inflation, more so in emerging markets (see "Rising Commodity Prices Are Generally Good News For Emerging Markets--But Watch Out For Inflation," published March 19, 2021, on RatingsDirect). Higher weights of food and energy in the consumer price index almost guarantee this outcome. Consider that the average weight of food and energy in India, Indonesia, and Malaysia is about 30%, compared with less than 20% in Australia, Japan, and Korea. Subsidies and price controls may blunt the impact in emerging markets a bit. However, inflation in these economies has in the past been more sensitive to commodity prices (see chart 5).

Chart 5

Higher commodity prices are more of an issue for household disposable income than for inflation. With domestic output gaps so wide, workers in many industries are in a weak position to ask for higher wages to compensate for their food and energy bill hikes. In other words, commodity price spikes could ultimately prove deflationary, by damping spending, at least in the early stages of recovery.

Negative Fiscal Impulse Delayed

While headline deficits may shrink by a few percentage points of GDP, the fiscal stance will remain supportive. In fact, we may see only mildly negative fiscal impulses defined as the change in the fiscal balance unrelated to the economic cycle and which directly adds or subtracts demand.

This is because we should expect fiscal balances to improve quite sharply when growth is growing above potential and the output gap is closing. However, most governments are playing safe and putting off large adjustments that would subtract multiple percentage points from domestic demand even as activity rebounds. India, in contrast, will further ease fiscal policies, mainly by boosting spending, over the next 12 months.

Central Banks To Keep Rates Low, With An Eye On Bond Yields

Central banks will carry the burden of stimulus longer than governments. In most cases, they will keep policy rates at post-COVID lows for as long as domestic economic conditions warrant. At some point in the next 12 months, the focus will turn to the start of policy normalization. We do not expect substantial hikes in policy rates until 2023. Still, we expect some unconventional policies, such as asset purchases in India or bond yield targets in Australia, to be phased out as early as the end of 2021. Japan has already widened its tolerance range for the 10-year government bond yield, albeit slightly.

The rise in long-term global bond yields, led by the U.S., will complicate the task of central banks in keeping financial conditions supportive. For developed market economies with high asset price correlations with U.S. markets, yield curves may continue to steepen. This will raise many longer-term rates priced off government bonds and swaps. For emerging market economies, higher global yields could trigger capital outflows and abrupt currency depreciations.

Our baseline growth forecasts assume that Asia's emerging economies should withstand rising U.S. yields. This assumes that events reflect reflation, and not a monetary shock in the style of the 2013 taper tantrum. These economies are better able to withstand higher yields now given improved current account positions, low inflation, and higher real interest rates (see "Emerging Asia's Recovery Can Withstand A Reflation Trade," March 16, 2021). Market conditions can change quickly. For now this is a downside risk rather than a baseline assumption.

Asia-Pacific's Credit Flow Heatmap Is Stabilizing

After the peak and trough in credit to real economies in 2020, credit flows are stabilizing. This is good news for the growth outlook. We had worried that impending exits from certain supportive financial sector policies--such as loan moratoriums--could tighten access to credit. In turn, this would increase pressure on financially weak households and firms, constrain spending, and set back growth. Some of these challenges still lie ahead, but in many economies the share of loans in moratorium has either fallen a lot (Australia) or remained small (Korea). In some others (Indonesia) loans under moratorium remain high.

Chart 6

Risks To Growth Over The Next 12-18 Months Are Balanced

In our last forecasts, we suggested risks were balanced (rather than skewed lower) for the first time in about two years. This played out with several upgrades to our forecasts for 2021 and 2022 (including China, India, Japan, and Taiwan). We retain our view that risks remain balanced, with a roughly equal probability of upgrades or downgrades. Still, until the pandemic is behind us, uncertainty remains unusually high.

Downside risks include:

• Pandemic. A delay in vaccinations or new variants would keep us in the 80%-90% economy world for much of 2021 and obviously delay the recovery. More importantly, it would mean higher permanent costs.
• Global financial conditions. Markets may start to price in an earlier exit from extraordinarily loose monetary policies by major central banks, forcing real yields higher.
• Geopolitics. Hard to quantify but potentially a large impact. There has not been a major change yet in the dynamics of the U.S.-China relationship under the new U.S. administration.

Upside risks include:

• External demand. The flipside of global inflation concerns is the potential for a much larger boost in export demand that drives the region's manufacturing sector.
• Consumer boom. Household saving has risen sharply across the region and has remained stubbornly high. If vaccine rollout boosts confidence, spending may rebound quickly.
• Productivity shock from COVID. This is an emerging long-term risk, but the region's economies are learning new, more efficient ways of doing business that will stick.

Australia Set To Grow 4% In 2021, With Lower Permanent Damage

Australia's economy is healing faster than many expected. After a much stronger second half to 2020, we still expect real GDP growth of 4% this year and 3.3% in 2022 as the service sector reopening continues and hiring picks up, albeit at a slower pace. The swift jobs rebound may be temporarily hit by the end of wage subsidies, but after faster than expected progress in recent months we expect a steady fall in the broad unemployment rate (including underemployment).

Remarkably few people have been discouraged from working by the COVID recession. The participation rate (the percentage of the working-age population that is either in employment or looking for a job) has rebounded above pre-COVID levels, likely aided by lower immigration. This means new jobs should more directly affect unemployment rather than bring new people into the labor force.

This may sustain the nascent rebound in wages, which grew by an annualized seasonally adjusted 2.4% (or 1.4% in year-on-year terms) during the final quarter of 2020. Household spending, which accounts for about 55% of GDP, should grow faster than income in 2021. We anticipate the saving rate will drop from 12% at the end of 2020 gradually towards the pre-COVID five-year average of just above 5%. In real terms, we expect private consumption growth of about 6%.

Investment should also pick up to about 5%, helped by residential construction. The house price correction was short-lived. The combination of improving job market prospects and low borrowing rates has boosted housing demand. Dwellings investment rose over 4% during the final quarter of 2020 and the Australian Industry Group's surveys point to stronger new orders. Commodity demand will influence business investment and exports. The pace of global growth will determine commodities consumption, while demand from China may cool as investment growth there slows. Fiscal support should fade, but we do not anticipate abrupt changes that could derail growth.

The largest change to our forecast projections is for permanent damage, which comes down by about 1 percentage point to 2%. With a higher GDP base than we anticipated from 2020 and keeping our forecasts the same, we end up much closer to the pre-COVID trend. This is a direct result of a faster reopening, which has stemmed further corporate bankruptcies and kept people in jobs.

Inflation should continue to rise toward, but remain below, the Reserve Bank of Australia's (RBA) target range of 2% to 3%, through 2022. The RBA has committed to hold off from hiking its policy rate, currently at 0.1%, until "[actual] inflation is sustainably within the 2%-3% range." This shift to focusing on actual inflation rather than forecast inflation could mean the RBA waits longer to hike than it would have in the past.

The RBA thinks the conditions for a rate hike, principally wage growth above 3%, will be met in 2024 at the earliest. Assuming the RBA retains its new approach of focusing on actual rather than forecast inflation, we anticipate lift-off for the policy rate in 2024. The RBA may be much quicker to unwind its unconventional measures, especially its 0.1% target for the three-year government bond yield.

The key downside risk for growth over the next 12 to 18 months remains the pandemic, notwithstanding recent success in tamping down outbreaks. Sharply higher global bond yields could also abruptly tighten financial conditions for domestic borrowers given Australia's integration in global financial markets and high asset price correlations. On the upside, stronger global growth could boost commodity prices and exports, while consumers may run down their savings faster than we expect.

We Revise China's 2021 Growth Up To 8% On Momentum In Manufacturing And Property

China is leading the global recovery but a rotation in demand, towards consumption, will be needed to ensure a healthy, sustainable expansion. We revise China's growth to 8% (from 7%) in 2020 and edge up to 5.1% (from 5%) for 2022. The economy retained substantial momentum through the final quarter of 2020. This was due mainly to three key drivers: infrastructure investment, real estate, and exports. Even in the unlikely scenario that the economy flatlined in 2021, the statistical carryover from late last year would mean growth of 6%, which is also the minimum level targeted by the government.

Early indications from 2021 suggest that the shape of China's recovery remains intact for now. Manufacturing, powered by investment and exports, is still expanding at an annualized rate of about 8%. Some areas of the economy are booming. While we expect tighter fiscal, credit, and housing policies to cool infrastructure and real estate investment growth through this year, these drivers may last for a little while yet.

COVID-related demand helped exports from China. While this may fade, higher global growth and nascent signs of a pickup in capital goods demand suggests that real export growth could remain buoyant at about 14% in 2021. The real effective exchange rate has appreciated to the strong side of its recent range recently, but we do not expect this to have a large effect on China's competitiveness.

We anticipate real private consumption growth of about 10%, as service sector hiring picks up and the vaccine rollout proceeds. So far, consumption has remained soft throughout the recovery. For example, retail sales in 2020 fell by almost 4% even as the overall economy grew by 3% in nominal terms. Early data in 2021 do not yet suggest an inflexion point in household confidence. Higher saving rather than lower incomes explains this weak spending. The household survey shows that urban per capita incomes continued recovering during the second half of 2020 and had easily surpassed pre-COVID levels, while spending has lagged.

So why the lack of confidence? One reason may be the lack of direct income support during the peak of the pandemic, which is encouraging higher precautionary saving. We also have a clue from official service sector surveys. These indicate that hiring has been soft, which could be having an outsized effect on migrant workers who left the cities in early 2020 and never returned.

Pipeline inflation pressures are building as the manufacturing sector booms and producer prices rise, but we do not expect this to lead to a broad-based consumer price inflation surge.

Consumer prices have tipped into a very mild deflation in recent months, even excluding volatile items such as food and energy. Until the service sector starts growing at or above pre-crisis growth rates, which would fuel a pickup in hiring, incomes, and spending, we expect core inflation to remain below 2%. This should keep headline inflation below the government's 3% target in the absence of food supply shocks.

Our forecasts assume that policies tighten slightly. Overall financial conditions, which reflect the broad policy stance, have already tightened substantially over recent quarters. The three-month net credit flow, as a percentage of trend GDP, is at the low end of its 10-year range. For 2021, the government aims to narrow the fiscal deficit by 0.4 percentage points of GDP, some of which will be explained by the rebound in activity. However, we believe that some local governments may feel some financing pressure, which could affect policy support in some regions.

Property developers should face increasingly tight financing restrictions, with demand cooling measures likely in higher tier cities. Macroprudential policies should either remain steady or tighten further. With low inflation and other policies tighter, we think the People's Bank of China will keep its policy rates, including the seven-day reverse repo and the medium-term lending facility rate, little changed through the year. This will anchor the loan prime rate, now used to benchmark interest rates on loans to the real economy.

Downside risks stem from continued weakness in household spending. Vaccine hesitancy, lingering restrictions, and household caution could delay the full reopening of the service sector. Efforts to restrain leverage and keep financial conditions tight could result in lower infrastructure and real estate investment.

The effect of higher global bond yields on growth should be limited directly, as China's bond market is weakly correlated with those elsewhere. However, there may be an indirect effect, via trade, if higher yields result in stress and lower demand from trading partners.

The U.S.-China relationship remains a downside risk. The threat of a renewed exchange of tariff hikes has receded. However, progress in resolving the more structural aspects of the economic relationship, including technology transfer, has been limited.

Consumers also represent the largest upside risk to growth. If confidence returns quicker, then a speedy reduction in higher household saving could ignite faster consumption growth. External demand, driven by policy stimulus in major economies, could also sustain the export boom for longer.

We Lower 2021 Growth Forecast For Indonesia To 4.5% On Weak Domestic Demand

Weak retail sales, slack consumer confidence, falling core inflation, and weak imports reflect lingering weakness in the Indonesian economy. The corporate and financial sectors are facing challenging operating conditions. The corporate credit impulse, which is net new credit as a percentage of GDP, is still contracting after falling through 2020.

Indonesia cannot shake off the persistent effects of COVID. Indonesia is vaccinating about 0.1 persons per 100 people, one of the higher rates in Asia, but achieving broad immunity through vaccination is still some way off.

Unemployment rose to 7.1% in the third quarter of 2020. Weak activity since then means that employment conditions have not improved. The downturn is straining small and midsize enterprises, and informal sectors of the economy, which weighs on employment. Total employment contracted by 0.2% between August 2019 and August 2020, while annual growth in the working age population is about 1.6%. This means that a job creation gap has opened, which is creating longer-term losses in activity while job seekers find jobs.

Output is well below its full capacity level, which will keep underlying inflation below the mid-point of Bank Indonesia's (BI) 2%-4% target range. Even BI has cut the reverse repo rate by 150 basis points, we estimate that monetary policy remains broadly neutral, as measured by the real policy rate. BI will be closely watching local bond yields and the Indonesian rupiah (IDR), which are both sensitive to rising U.S. long-term yields. The window for further policy easing is likely to have closed. Fiscal policy was moderately accommodative in 2020 and is set to consolidate only gradually over the next few years.

The weak first quarter will likely push back recovery by about three months, which will lower growth this year and raise growth next year. However, the downturn will deepen balance sheet losses and constrain the economy's recovery. Trade remains favorable and commodity prices are relatively high, which is providing some external support to the economy. We revise our growth forecast for this year lower by 0.9 percentage points to 4.5%, followed by above-trend 5.4% in 2022.

We Revise India's Forecast Higher Even As COVID Risks Linger

The economy has been recovering briskly over the past several months. Seasonally adjusted GDP grew by more than 6% quarter on quarter over the final quarter of 2020. High frequency indicators including bank credit, trade and manufacturing, and purchasing managers' indices show the economy continued to recover in early 2021. Services activity is still lagging behind manufacturing and we expect this to persist until the third quarter of the year when the vaccination rollout is more advanced and fiscal stimulus spending is underway.

COVID-19 risks loom. There has been a spike in new infections and the country could be entering a second pandemic wave. Some targeted lockdowns have been implemented already and more of these will likely be needed. The cost of broader lockdowns on the economy would be very severe as they would cut the recovery short.

The speed of the vaccination rollout will determine how severe the fresh COVID-19 wave will be. India has one of the highest doses administered globally at about 40 million vaccine doses, but given the large population, this is only about three doses per 100 people. This is notably lower than the highest vaccination covers. The U.K. and the U.S. have administered 40 and 35 doses per 100 people. India will need to hit a much higher vaccination rate over the next few months to contain the pandemic.

The Reserve Bank of India (RBI) has kept the policy rate at 4.0%, while core inflation has risen to 5.9% compared with an average of about 5.0% over 2018 and 2019. Food inflation has eased in recent months, so headline inflation remains in the target range of 2% to 6%. However, rising energy prices and sticky core inflation does pose upside risks for inflation. We expect the central bank to respond by hiking policy rates this year.

We forecast growth of 11% over fiscal year 2021/2022, followed by 6.1% over 2022-2023. Larger corporate sector firms have fared much better than smaller players, and the balance sheet weakness in smaller and informal businesses will weigh on the recovery.

We Maintain Our Forecast For Japan's 2021 Growth At 2.7%, With Upside Risks From Trade

We maintain Japan's forecast for 2021 GDP growth at 2.7% and revise 2022 higher to 2.0% (1.3% previously) due to the spillovers from stronger global demand. We expect a gradual vaccine rollout, although there remains uncertainty when broad population coverage can be achieved. Assuming Japan makes good progress in the second half of 2021, we expect a sustained reopening of the service sector, and a steady improvement in household spending, mostly later this year.

Soft consumption had been a soft spot for the economy even before COVID, as household saving climbed back to decade highs. During the pandemic, confidence has been easily shaken by new infection waves and restrictions, further denting spending. A jobs recovery will help. The country has already clawed back half of the 2% drop in employment it suffered because of COVID. However, with many new jobs now part-time or temporary, it may take a sustained period of hiring and clear evidence of higher wage growth to restore fully consumer confidence. We expect real private consumption growth to improve to about 1.5% but still lag behind GDP for the full year.

Public spending has plugged the large hole in domestic demand since COVID, with government consumption rising 2.7% in 2020. The draft budget for fiscal year 2021 suggests ongoing support for demand although the impulse, the change in the growth rate, will now fade. Investment has stabilized at a low level. Prospects for a rebound are improving as corporate profitability is improving, albeit with sharp differences across some sectors.

Exports have bounced quickly off their lows and, in real terms, are almost back to pre-pandemic levels. There are signs that global demand for capital goods is picking up, alongside the manufacturing boom, with machinery orders already back at pre-pandemic levels. At the same time, the real effective exchange rate remains depreciated relative to its longer-term trend. We anticipate real exports growth of about 10%.

Inflation should remain well below the Bank of Japan's (BOJ) target of consumer prices (excluding fresh food) rising sustainably above 2%, at least through 2022. The economy will need to work through its excess capacity, including an unemployment rate that is about 0.7 percentage points above pre-pandemic lows. Core inflation (excluding both food and energy) has rebounded off its lows but at 0.2% is not yet high enough to generate a material shift in inflation expectations. Higher global commodity prices are unlikely to change this picture. The passthrough to consumer prices since 2010 has been very weak.

The BOJ is likely to maintain a steady policy after recently widening the band around its 0% yield curve target for government bonds from plus/minus 20 basis points to plus/minus 25 basis points. It also scaled back its equity purchases to ensure a "sustainable" policy. As a recovery is not yet secured, inflation is likely to stay well below target. And with the fiscal impulse starting to fade, there are few good options open to the central bank. We may see some tweaks to monetary policy (including asset purchase targets), but nothing that would alter this stance too much.

Downside risks to the economy stem mainly from the pandemic, especially a slower-than-expected vaccine rollout, and the knock-on effect on fragile consumer confidence. We expect limited effects of rising global bond yields, including on financial institutions whose exposures are manageable, although the BOJ may need to scale up its bond purchases to ensure 10-year yields remain within its new target range. Upside risks are emerging, however, especially via the effect on stronger external demand on exports.

We Maintain Korea's Growth Forecast At 3.6% As Trade Offsets Wobbly Start For Consumption

We maintain our growth forecast for Korea at 3.6%. External demand and brighter prospects for investment help offset bumpy consumption. We have set our 2022 assumption slightly lower, to 3.1% from 3.2%. Manageable, yet recurrent, mini waves of COVID infections have dented consumption. But as cases have headed lower, irregular workers are experiencing a jobs recovery after a concerning decline early in 2021. Irregular workers account for almost one half of the workforce.

For the full year, vaccine rollout is key and the government is targeting "herd immunity" coverage by the fourth quarter of 2021—this would boost consumer confidence and spending on local services, helping to drive the unemployment rate back to pre-COVID lows of about 3%. Household debt may be a lingering headwind for the speed of the bounce, however, as the debt-to-income ratio has risen by over 10 percentage points over the last two years to 171%, according to the Bank of Korea (BoK).

We now expect higher exports and investment growth in 2021 as external demand picks up and electronics demand shows persistence. Profitability is improving in some key sectors, including semiconductors and more recently autos. Even in some lagging sectors, including oil refining and chemicals, improving demand is lifting revenues. This should support real capital spending which suffered a sustained decline during the 2018-2019 U.S-China trade war.

We expect inflation to gradually move closer to the BoK's target of 2%, helped by the jobs recovery and a pick-up in wages, especially among irregular workers. Still, with the fiscal impulse gradually fading, unemployment remaining above pre-COVID levels through 2023, and inflation below target, we expect the BoK to keep its policy rate unchanged at the record low level through 2022. This should keep financial conditions supportive—S&P Global Ratings has revised down its credit loss estimates for banks, and this should help support lending. Lift-off for rates may come in late 2023 if the BoK expects inflation to edge above the 2% target in 2024.

The pandemic, especially a delayed vaccine rollout and new mini infection waves, present the key downside risk to growth over the next 12 to 18 months, especially as household confidence remains fragile and debt service has risen.

A surge in global inflation and a disorderly rise in global bond yields could tighten domestic financial conditions, and the speed of any currency depreciation could affect how long the BoK is willing to keep interest rates at their record low—the BoK has explicitly highlighted "fund flows to asset markets" as an important consideration.

The U.S.-China relationship is a lingering risk, especially if it affects the outlook for investment in the technology sector. The main upside risk stems from stronger external demand, especially for electronics and autos. Korea's economy is one of the most exposed to U.S. final demand in Asia-Pacific.

Malaysia Growth Forecast Lowered Due To Renewed Economic Weakness In The First Quarter

We forecast growth of 6.2% this year and 5.6% in 2022 from our earlier forecasts of 7.5% and 5.2% respectively. Fresh mobility restrictions following a rise in COVID infections early in the year lowered activity in the first quarter. The recovery in labor markets and consumer spending has slowed, and the recovery will be delayed. Normalization will depend on the containment of the pandemic and local vaccination efforts. Trade and manufacturing have remained resilient, and external demand is strong, especially for electronics. Trade presents an upside risk to growth this year given Malaysia's position in electronics supply chains and exposure to U.S. final demand.

Inflation will rise this year after prices fell over 2020. Higher oil prices will drive energy related components of inflation higher. Due to the weak demand conditions, core inflation halved over 2020 from about 1.5% before the pandemic to about 0.7% at the end of the year. Core inflation will only rise later in the year when demand rotates toward consumption, and until then low core inflation will buffer some of the rise in noncore inflation. Given the slight pickup in inflation, we expect monetary policy to be on hold this year.

Weak Mobility Weighing On Private Demand In The Philippines

Mobility indicators remain far below pre-COVID levels, and movement restrictions have extended far longer than we expected. Vaccination efforts have begun, but progress has been expectedly slow. We continue to expect a pickup in mobility in the second half of the year, but there will be a delay in economic recovery.

Meanwhile, inflation is high despite the lack of demand, on the back of sharp supply-side driven increases in food prices. We expect this to be transitory, but it does weigh on consumption in the first half of the year. Taken together, these lead us to revise our growth forecast for 2021 downward to 7.9% from 9.6% earlier, pushing some of the recovery into next year. We expect output to be about 10% below its pre-COVID trend, which will keep underlying inflation subdued.

It is doubtful that fiscal support will rise significantly this year compared with 2020. On the monetary policy front, we expect Bangko Sentral ng Pilipinas (BSP) look through the transitory rise in inflation and instead focus on supporting the recovery. At the same time, real policy rates are already low and the ability of the BSP to hold policy steady will depend on the impact of higher global bond yields on capital flows, the currency, and pass through to headline inflation from any depreciation.

The lack of additional policy support implies a sharper downside risk if the economy's mobility suffers further impediments. This may be due either to a lack of confidence in the speed of vaccine rollout, or to fresh infection waves if vaccinations cannot keep pace. Global bond yields also present a risk if they threaten to limit the space for the BSP to keep real rates low.

Consumer Spending Still Subdued In Singapore

Private consumer spending is still well below normal given weaker labor market conditions, social distancing measures, and the absence of international travel. Employment losses have been broad based, but the impact on the unemployment rate has been cushioned by the asymmetric impact on foreign workers. The service sectors excluding the finance and telecoms have been more heavily affected. Tourism and aviation sectors will remain weak amid a slower reopening of borders and weak travel demand. Manufacturing, finance and telecoms have provided some support.

Inflation is expected to pick up modestly because of a rise in energy prices, while wage growth will be subdued and keep a lid on core prices. Fiscal policy is consolidating following a large stimulus package in 2020 worth Singapore dollar (S$) 75 billion. The government has announced a modest stimulus this year of S$11 billion. We anticipate monetary policy settings to remain unchanged this year. The Monetary Authority of Singapore (MAS) manages the currency and will continue to keep the currency flat against a currency basket.

Trade and manufacturing will be the main drivers of growth in 2021. Private consumption will pick up over the course of this year and will drive growth in 2022. Ongoing fiscal consolidation may be a downside risk to growth. We expect the economy to grow by 5.8% in 2021 and 3.7% in 2022, compared with our earlier forecasts of 6.0% and 3.0%.

Electronics Driving Economic Outperformance in Taiwan

Growth in 2020 surprised on the upside due to exports. In particular, global demand for semiconductors is driving strong growth in the electronics sector. We expect this to continue this year as export orders remain buoyant and geographically broad-based. Domestically, COVID remains under control, consumer confidence and spending are recovering gradually but remain weak partly due to social distancing measures.

Inflation is set to rise this year due to higher global oil prices and as returning consumer demand pushes core prices higher. Core prices rose at about 0.8% for the first two months of the year, which was in line with the medium-run core inflation rate. While Taiwan's central bank is expected to maintain an accommodative policy stance, a rate hike cannot be ruled out once higher inflation reflects stronger consumption. Fiscal policy is expected to consolidate following a stimulus of about 6% of GDP last year.

We forecast above-trend GDP growth of 4.2% in 2021 but slower growth of 2.7% in 2022 from our earlier forecasts of 2.9% and 2.5% . External demand remains the key swing factor this year. Any slowdown in the global electronics cycle could weigh on manufacturing, but there is also significant upside risk from stronger demand in the U.S. as exports to the U.S. comprise about 8% of GDP.

Recovery In Thailand Delayed Due To More Gradual Recovery In Consumption And Tourism

Consumption was less negative than feared in the final quarter of 2020 reflecting fiscal stimulus spending and some resilience in domestic activity. However, the outlook for consumer spending overall remains weak given fragile confidence and soft employment. The labor-intensive tourism sector is still missing in action and accounts for about 11% of the economy. Manufacturing remains a pillar of strength with both autos and electronics production and exports holding up.

Fiscal policy is set to contract only gradually as some of the total fiscal stimulus planned remains unutilized. The policy interest rate will remain low at 0.5% but core inflation is still steady at near 0%, reflecting not only weak demand but also structural factors, such as aging, that have depressed inflation for some time. Headline inflation may rise modestly due to higher energy prices this year, but not enough to affect the path of monetary policy. Given its strong external balance sheet, Thailand is also less affected by capital flow volatility than other emerging market peers.

We forecast growth of 4.2% this year, down from our earlier forecast of 5.0%. The delayed recovery will mean higher growth of 4.5% next year compared with our prior forecast of 3.9%. The timing and speed of recovery depends on travel normalization, which we assume only resumes gradually starting in the final quarter of the year. Trade and manufacturing could provide some upside risk to growth, especially as U.S. final demand accounts for almost 4% of GDP, purely via manufacturing.

Growth Outlook Remains Favorable In Vietnam On Strong Trade and Manufacturing

Strong global demand for electronics coupled with a mild COVID outbreak meant that economic performance in Vietnam was strong. The economy outperformed expectations in 2020, with the initial phase of economic recovery happening earlier than expected. The recovery started in the second half of 2020, which means growth in 2021 will happen from a higher base. As a result, we have revised down our 2021 growth forecast to 8.5%. Nonetheless, our current GDP growth expectation remains one of the strongest globally.

With the growth outlook relatively strong and the inflation rate fairly stable but not low, we expect State Bank of Vietnam to maintain rates at current levels throughout the year. Large positive current account balances due to strong exports have driven large capital inflows into the country. Vietnam has entered the U.S. Department of Treasury's currency manipulation watchlist given its peg against the U.S. dollar and rapidly rising foreign exchange reserves. The risk of U.S. tariffs or similar measures on Vietnamese imports has risen over the past year.

We believe Vietnam will continue to benefit from a strong consumer electronics sector, especially with a significant U.S. stimulus on the way, while demand from China and northeast Asia also remains strong. Domestic consumer demand is also recovering gradually.

S&P Global Ratings believes there remains high, albeit moderating, uncertainty about the evolution of the coronavirus pandemic and its economic effects. Vaccine production is ramping up and rollouts are gathering pace around the world. Widespread immunization, which will help pave the way for a return to more normal levels of social and economic activity, looks to be achievable by most developed economies by the end of the third quarter. However, some emerging markets may only be able to achieve widespread immunization by year-end or later. We use these assumptions about vaccine timing in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.

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