Economic performance in the third quarter of 2026 demonstrated the ability of most Asian economies to overcome significant headwinds including the oil price shock, protectionism and geopolitical uncertainties. However, with the forces shaping next year’s economic outlook looking less favourable, policymakers in Asia are preparing measures to strengthen economic resilience.
While President Trump’s tariff measures were eventually watered down, with tariff rates turning out lower than expected and exemptions moderating the effective increase, other frictions are now threatening world trade.
One trend is a broadening backlash against China’s surging export competitiveness. The European Union is contemplating significant measures to protect its industries from China’s export prowess, and many emerging economies are following suit. China has warned that it will retaliate. If it does, the increased trade frictions would cast a shadow on export-oriented Asian economies that are integrated into Chinese supply chains.
Concerns over fiscal trajectories have mounted as bond issuance has soared
Separately, countries are employing a wider array of tools to defend their domestic producers against exporters. More countries are adopting aggressive industrial policies that promote the interests of domestic manufacturers against foreign exporters. Beyond this, heightened concerns over national security and the need for resilience have prompted many countries to impose controls on the exports of sensitive goods and to restrict foreign investment in sectors that impinge on national security.
Financial stresses
Bond yields are rising across the developed world, particularly in the US whose currency is the anchor of global finance and whose 10-year bond yield helps determine valuations of assets such as equities. Concerns over the fiscal trajectories have intensified just as bond issuance has soared, led by the astounding scale of capital spending by businesses leading the AI revolution.
In addition, it is clear that the US central bank will be raising rates somewhat more aggressively than expected earlier in the year. Other major central banks are also tightening monetary policy.
Financing the AI buildout has become much more expensive
As rates have risen, portfolio investors are becoming more risk-averse. Emerging economies in Asia typically have shallow bond, equity and currency markets. A further sharp increase in risk aversion, which seems quite possible, would lead to significant asset price falls and weaker currencies in Asia.
AI capex
Recent months have seen AI-related businesses announcing unprecedented levels of planned investment in datacentres, semiconductor plants, power generation and related areas that are central to the AI buildout. Some estimates put the total planned investment by such businesses at over US$1 trillion.
Several factors point to a likely slowdown in AI capital spending. Financing the buildout has become more expensive as bond yields have risen. There are some signs that investors are beginning to question the viability of business models. The ability of Chinese AI businesses to offer performance at a much cheaper rate than their competitors in the US has also been a key factor. Meanwhile there is a growing backlash against AI in western economies as citizens grow more concerned about the environmental impact of datacentres, and AI causing unemployment and wider income inequality.
South Korea, Singapore and Malaysia have all enjoyed growth rates in excess of what was considered their maximum potential because of the AI capex surge. Any slowdown in AI spending will therefore cause a major correction in these economies.
Foreign direct investment in Asia ex-China continues to increase
Offsetting positives
Against these risk factors, Asian economies can count on a number of supportive factors. Foreign direct investment in Asia excluding China continues to increase. These countries will also be helped by more measures in China to boost economic growth. The weaker economic numbers seen in July and August are likely to prompt Chinese policymakers to step up stimulus measures including a faster implementation of the ‘six networks’ infrastructure programme.
Given the likely pressures in currency markets, central banks in Asia will be wary of easing monetary conditions to support economic growth should these challenges materialise. The bulk of the policy response will have to come from fiscal stimulus measures as well as structural reforms which could boost growth prospects. On this basis, countries such as Vietnam, Malaysia and Singapore appear best placed to weather the coming storm.
