To each their own cycle: Asia Pacific interest rate paths are diverging

Asia-Pacific central banks will not necessarily follow the US Fed with rate cuts this year, as domestic needs dominate. We see some keeping monetary policy tight to tackle local inflation pressures, while others cut rates in 2024 to boost growth. The spillover effect of high US Treasury yields will continue to impact Asia via long-term rates, which we expect to be higher for longer. For insurers, this implies higher reinvestment income and stronger saving demand, but higher lapse risks than pre-pandemic years.

• In 2024, Asia-Pacific policymakers are focusing more on domestic growth and inflation, with lower sensitivity to the Fed's rate cut schedule.
• China, India and Indonesia are the most likely candidates for rate cuts to support growth. For Malaysia, Taiwan and Thailand, current rate levels are not overly restrictive.
• Australia and Singapore will likely hold monetary policies tight given inflation pressure, while South Korea, New Zealand and Philippines are expecting smoother disinflation and possible rate cuts in 2H24.
• Japan and Vietnam are expected to increase interest rates in 2024.
• Despite the likely different short-term policy rate paths in 2024, long-term yields across Asia are still likely to follow US Treasury yields closely.

The general expectation that 2024 will be "the year of rate cuts" as financial markets wait impatiently for the US Federal Reserve to begin easing, only tells half the story. Economies' interest rate cycles began to desynchronise globally last year, when some emerging market central banks began to cut ahead of the Fed. In most of the Asia Pacific (APAC) economies we track, interest rates are now at or close to cyclical peaks, but central banks need not mechanically follow the Fed as their room for manoeuvre on monetary policy has grown recently. This is because financial markets anticipating the Fed cuts this year have driven down US Treasury yields across the curve at the end of last year, widening the spread between Asian and US yields (which were negative; see Figure 1). This has reduced the depreciation pressure on Asian currencies.

Figure 1: Spread between emerging Asian and US Treasury yields

We expect APAC central banks to adjust short-term policy rates according to their domestic growth and inflation conditions, which vary across the region in 2024 (see Figure 2). Policy rate paths across Asia will therefore likely diverge in the coming quarters. However, we see the region's long-term rates, which are more relevant to insurers, staying closely linked to long-term US Treasury yields, which we anticipate to be higher for longer this year.

In many APAC economies, domestic rather than global factors are driving the inflation and growth outlook for 2024. India, Indonesia and China are most likely to cut rates this year to support growth (and raise inflation, in the case of China). In New Zealand, Philippines and South Korea, above-target headline inflation has also kept central banks hawkish thus far.¹ However, larger falls in core inflation rates due to weakening domestic demand give us more confidence these central banks will cut rates towards 2H24 as they focus more on growth.

The Bank of Thailand also deemed its current policy rate appropriate given its key tourism industry is still recovering and is less rate sensitive. Malaysia and Taiwan did not increase rates aggressively during their tightening cycles. As they enter cyclical export recoveries in 2024, rates can stay on hold.

Figure 2. Asian economies' policy interest rates, and outlook for 2024

(click on each cross to see our forecast interest rate path  for each country)

Australia and Singapore are experiencing strong demand-pulled rent and service price increases due to tight labor markets, immigration/tourism inflows, and low housing supply. The Reserve Bank of Australia in November forecast that CPI inflation would return to target only by late 2025.² The Monetary Authority of Singapore expects "core inflation to exceed its comfortable range (just below 2%) throughout 2024"³. We expect both these central banks to keep monetary policies tight this year to prioritise tackling inflation.

In general, EM central banks that hold the path of their short-term rate constant may see their exchange rates appreciate and even overshoot, relative to what may be implied by the yields differentials. Falling long-term yields therefore also ease financial conditions for firms with USD-denominated debt, but export sectors may face weaker growth prospects due to a stronger currency.

Finally, we expect policy rates to increase in both Japan and Vietnam. For Japan, this is a historic moment as it exits negative interest rates (we think in mid-year). But the actual increase will be miniscule in mangnitude and conditional on wage/inflation data keeping in line with BOJ expectations⁴. For the State Bank of Vietnam, which was among the first to cut rates in 2023, it begins the next hiking cycle: we see gradual rate rises this year as the economic recovery firms.

While the paths of short rates differ across the region, long-term rates for Asia are still expected to be heavily driven by 10-year US Treasury yields. We think the market is currently pricing in too many cuts to the fed funds rate and the large fall in US Treasury yields in 2023 is unlikely to be repeated. Long-term rates in Asia this year are thus likely to edge down from their peaks in 2023 but stay above the pre-pandemic averages (2015-19).

As a result, Asia-Pacific insurers should continue to see higher reinvestment income, stronger demand for saving products sustained by more attractive annuity rates, but should also take into account potentially higher lapse risks.⁵