FRBSF Economic Letter
98-10; March 27, 1998
East Asia's Effect on the Twelfth District
Pacific Basin Notes. This series appears on an occasional
basis. It is prepared under the auspices of the Center
for Pacific Basin Monetary and Economic Studies within the FRBSF's
Economic Research Department.
Since July 2, 1997, when the fall of the Thai baht against the U.S.
dollar rang the first alarm about problems in East Asia, numerous economists
have forecast the effect of those developments on growth in the United
States. Current consensus estimates suggest that the Asian turmoil likely
will reduce real GDP growth in the nation by ½ to 1 percentage point
in 1998. Since the Twelfth District ships about twice as much of its gross
product to East Asia as the nation does, some observers have speculated
that District growth could decline by twice this much, or by a full percentage
point or more during the year. However, as noted in a recent Economic
Letter by the President of the San Francisco Fed, Robert T. Parry,
there are reasons to be cautious about using this simple metric to estimate
the relative impact of East Asia on District growth. This Economic
Letter reviews some of these reasons.
Effects of East Asia on growth in the
U.S.
Estimates of the impact of East Asia on U.S. growth over the next year
assume that developments in East Asia will affect the U.S. economy primarily
through two trade-related channels. First, reductions in the value of
East Asian currencies will increase the relative prices of goods and services
produced in the U.S., slowing U.S. exports to East Asia and the world
and accelerating East Asian imports to the U.S. Second, underlying economic
weakness in many East Asian nations will slow economic growth there, further
depressing demand for U.S. exports. Such changes in the terms and patterns
of trade as well as significant weakening among some of our primary East
Asian trade partners worsen the U.S. trade balance, ultimately damping
growth. Accounting for effects through both of these channels and for
the fact that exports to and imports from East Asia amount to roughly
3% and 5% of U.S. GDP, respectively, most estimates suggest that the Asian
turmoil is likely to reduce real U.S. GDP growth in 1998 by between ½
and 1 percentage point. (For the purposes of this analysis, East Asia
includes Malaysia, Thailand, Indonesia, the Philippines, South Korea,
Taiwan, Singapore, Hong Kong, Japan, and China.)
Ideally, estimates of the impact of the East Asian financial crisis
on District growth should account for import and export effects through
both of these channels, as they do for the U.S. However, data constraints
relating to imports make a complete analysis at the state and regional
level significantly more difficult. Therefore, many studies of the effects
of East Asia on District growth are based on examinations of District
export exposure to East Asia. Under the assumption that the effects of
import substitution are similar across states in the U.S., the export
component of District trade can provide a basis for judging the relative
exposure of the District economy to developments in East Asia.
District export exposure to East Asia
The figure displays merchandise
and service exports to the world and to countries in East Asia as a share
of GDP for the Twelfth District and the U.S. Merchandise exports include
manufactured and non-manufactured commodities and reflect Department of
Commerce data on origin-of-movement of goods; service exports include
business and personal services, passenger fares, royalties and licensing
fees, and freight and port services and must be estimated for the District.
District service exports were computed based on the assumption that the
relationship of service exports to merchandise exports for District states
is similar to that for the U.S. Two relevant observations for the U.S.
regarding service exports are: (1) service exports are half the value
of merchandise exports or about one-third of total exports, and (2) the
most common services exported are business and consulting services, which
include engineering and management services, packaged software products,
and telecommunications support. An additional observation at the District
level is that business and consulting services represent a larger fraction
of the economy in western states than in the U.S. Based on this information,
District service exports were estimated by multiplying the value of merchandise
exports by a weighted merchandise to service export ratio, where the weighted
ratio equals ½ times the ratio of the value of business services
in District states to the value of business services in the average state
in the U.S.
The estimates shown in the figure
indicate that the Twelfth District exports a larger fraction of its GDP
than the U.S. The U.S. exports about 11.4% of GDP compared to about 13.4%
exported by District states. Moreover, when exports to East Asia are compared,
the District's dependence relative to the U.S. grows. The average District
state exports more than 50% of its total exports to destinations in East
Asia, compared to about 30% exported to East Asia by the average U.S.
state. In GDP terms (as shown in the figure), District states export approximately
7% of GDP to East Asia, or more than twice the 3.3% of GDP exported to
East Asia by the average U.S. state. Thus, other things equal across the
U.S. and the District, an equal percent decline in East Asian exports
in the District and the U.S. might be expected to reduce District growth
by about twice as much as it reduces U.S. growth.
However, a number of factors suggest caution is warranted when using
this estimate. First, such a calculation assumes that any decline in East
Asian demand for exports affects the U.S. and the District equivalently,
or more simply, that the product mixes of District and U.S. exports to
East Asia are similar. Second, it assumes that the total value of exports
shipped from the District is created in the District and that District
industries are not affected by reductions in exports from other areas
of the U.S. The remainder of this Letter reviews why these assumptions
may not hold.
Linking District export exposure to
District growth
Differences in the composition of exports between the U.S. and the District
(detailed in the December 1997 issue of Western Economic Developments)
suggest that the District-U.S. export exposure ratio may not accurately
characterize the vulnerability of the Twelfth District relative to the
U.S. In particular, relative to the U.S., District exports to East Asia
are more concentrated in high-tech products, aircraft production, and
business services, and less concentrated in heavy machinery, primary metals,
and agricultural commodities. Anecdotal reports and preliminary data from
coastal ports indicate that, thus far, the composition of District exports
has worked to temper the disproportionate impact of East Asia on District
growth suggested by the 2 to 1 export exposure ratio between the District
and the U.S.
In the case of high-tech manufacturers in the District, who provide
nearly 25% of District exports to East Asia, reports indicate only slight
declines in export demand since the East Asian currency crisis began.
Industry experts attribute part of the current resiliency of this sector
to the fact that many high-tech exports to East Asian nations are intermediate
goods used to create final demand products, such as computers, for reexport.
The future stability of this component of East Asia's demand for high-tech
products will depend on the continued ability of East Asian businesses
to secure financing for production. Scattered reports of declines in export
demand, primarily in the semiconductor manufacturing equipment sector,
have been associated in part with disruptions in financing arrangements.
In the transportation sector, shipments of aircraft dominate the District's
exports to East Asia. Boeing currently has a backlog of orders and is
running operations at full capacity. Thus, outstanding orders from customers
in the U.S. and countries outside of East Asia could substitute for any
near-term slowdown in demand from East Asia.
The sectors where the slowdown in District exports has been most evident
are agricultural commodities, processed foods, and products related to
natural resources. Producers in these sectors have reported order cancellations,
buyer financing problems, and significant declines in demand for future
deliveries. While such declines likely will have a noticeable impact in
certain areas of the District, exports to East Asia from these sectors
combined account for just 15% of District exports to East Asia and less
than 1% of District GDP.
These findings suggest that while District exports have been affected
by developments in East Asia, the composition of District exports has
served to mitigate some of the disproportionate effect predicted by the
District's large East Asian export exposure relative to the rest of the
U.S.
Another concern with using the District's relative East Asian export
exposure to characterize the impact on District growth is that the total
value of exports shipped from the District is not created in the District.
The total value of exports represents a collection of value-added components,
many of which are produced outside of the District. Thus, the effect of
a given reduction in demand for District exports may not be borne entirely
by the District. Rather, it will be distributed throughout the U.S. in
proportion to the value-added inputs to the final good. However, on the
other side of the coin, District manufacturers of intermediate and capital
goods used in non-District exports to East Asia also will be affected.
The net effect of these two factors must be considered in any calculation
of the effect of East Asian developments on District growth.
Estimating the net effect on District growth is not an easy task. Research
on production linkages across the United States is scarce, and studies
that are available focus on all products, not just those traded with East
Asia. Still, assuming that production linkages across states are equivalent
for total exports and for the subset of products shipped to East Asia,
this research provides some statistical basis for estimating the net effect
of a decline in export demand on District growth. In one such study, Shao
and Miller (1990) suggest that, in general, regions of the U.S. included
in the Twelfth District are net demanders of production inputs from other
regions of the U.S. This implies that a given dollar reduction in demand
for U.S. exports may have a smaller effect on District growth than the
impact on total District exports would imply. More precisely, the impact
on the District's value-added component of products is likely to be less
than the measured reduction in District exports. Under these circumstances,
the net effect of District production linkages serves to mitigate, rather
than to enhance, the impact implied by the 2 to 1 export exposure ratio.
Conclusions
In summary, although Twelfth District states are about twice as dependent
on exports to East Asia as the U.S., this does not necessarily imply that
the East Asian impact on District growth will be twice as large. Other
factors, including the District's product mix and the value-added component
of exports relative to the U.S., in principle, could serve to mitigate
or magnify the District's vulnerability to East Asia as measured by export
exposure ratios. Thus far, these factors appear to be tempering the East
Asian impact on District growth, bringing it closer to that estimated
for the total U.S.
Mary Daly
Economist
References
Parry, Robert T. 1998. "Prospects for the U.S. and California Economies."
FRBSF
Economic Letter 98-06 (February).
Shao, Gang, and Ronald Miller. 1990. "Demand-Side and Supply-Side
Commodity-Industry Multiregional Input-Output Models and Spatial Linkages
in the U.S. Regional Economy." Economic Systems Research
2, pp. 385-420.
Opinions expressed in this newsletter do not necessarily reflect
the views of the management of the Federal Reserve Bank of San Francisco,
or of the Board of Governors of the Federal Reserve System. Editorial
comments may be addressed to the editor or to the author. Mail comments
to:
Research Department
Federal Reserve Bank of San Francisco
P.O. Box 7702
San Francisco, CA 94120
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