Singapore achieves double-digit growth even in double-dip scenario

Morgan Stanley revises 2010 GDP forecast up to 16% with potential sequential pullback on biomed.

2Q10 GDP advance estimate released by the Ministry of Trade and Industry (MTI) on Thursday shows the economy rising 19.3% YoY. The key drivers of the strong growth are manufacturing (+45.5% YoY vs.+38.2% YoY in 1Q10) and, to a lesser extent, services (+13.5% YoY vs. +10.2% YoY in 1Q10). As a result, MTI revised upward its GDP forecast range from 7-9% YoY to 13-15% YoY, according to a Morgan Stanley research report on Singapore Economics.

With the strong 1H10, Morgan Stanley thinks that a lot of growth is already in the bag. Its mathematical exercise shows that even if sequential declines of the type seen during the Lehman event in 2008 were to happen, annual 2010 growth would still come round to 13-14%. If sequential QoQ growth stays flat, annual growth would come to around 17%. From this perspective, MTI’s forecast range looks slightly conservative.

Leading economic indicators have shown inflexion points recently. The US ISM New Orders Index (with a four-month lead) is the best correlated indicator for non-oil domestic exports and is suggesting some underlying growth moderation (but not a double dip) in 3Q10. The volatility in GDP growth lies in a potential biomed correction given that biomed production has outstripped relevant exports recently and may revert.

Morgan Stanley is raising its 2010 GDP forecast from 9% to 16% to take into account the strength in 1H10. The report said, "A global double-dip scenario is not our base case. Yet, embedded within the 16% headline growth is some sequential pullback, potentially on the back of biomed volatility. 2Q10 likely marked the peak in terms of the GDP trajectory, but we expect quarterly headline GDP to stay in double-digit territory."

The Ministry of Trade and Industry (MTI) released the 2Q10 GDP advance estimate on Thursday morning. Following upwardly revised 1Q10 GDP growth of 16.9% YoY, 2Q10 is now estimated to expand 19.3% YoY (vs. Morgan Stanley’s and consensus expectations of 18.0% and 17.3% YoY, respectively). MTI also released forecasts for three GDP sub-components.

Underpinning this robust 2Q10 headline growth is 45.5% YoY growth in manufacturing. This was evident in the Apr-May monthly manufacturing data, which averaged 54.1%YoY.

Thursday’s 2Q10 numbers suggest MTI expects a deceleration in manufacturing growth for June. Meanwhile, both construction and services industry momentum is expected to accelerate to 13.5% YoY (vs. +10.2% YoY in 1Q10) and 11.4% YoY (vs.+11.2% YoY), respectively (see page 5). With a high 1H10 GDP growth rate of 18.1% YoY, MTI revised upward its 2010 GDP forecast from 7-9% to 13-15%.

With Thursday’s numbers, GDP (seasonally adjusted) is way past its pre-crisis peak levels of 1Q08 (13.3% higher). Not only have the GDP losses been recouped, GDP level is also now quite near (just 1.8% below the trajectory), where the economy would have been if the Lehman episode had not happened and if a 7-8% CAGR trend (seen in 2004-07) had been maintained since 2008.

Delving more into the specific drivers of the strong GDP growth, the manufacturing sector and, to a lesser extent, the cyclical services segments such as wholesale/retail and financial subsectors are keys. With the manufacturing sector seeing the highest growth rate and percentage point contribution to headline GDP growth, one question is the extent to which the notoriously volatile biomed industry has been supporting the current recovery. The biomed industry had been a negative drag on the economy in the two quarters pre-Lehman in Sep-08. This was partly why the economy had fallen into a recession as early as 2Q08. This time on the way up, GDP has similarly been buoyed by the volatile biomed industry first in 2Q-3Q09 and then again in 1Q-2Q10.

For 2Q10, Morgan Stanley guesstimates that the biomed sector likely contributed as much as around 5ppt to the headline GDP growth of 19.3% YoY. In 1Q10, the contribution was likely around 3ppt out of the 16.9% headline growth.

Morgan Stanley said, "The high 1H10 numbers mean a lot of the growth is already in the bag for 2010. Our mathematical exercise shows that even if we factor in a global double dip a la a repeat of a Lehman-type event with QoQ sequential declines of ~2-3% for both quarters in 2H10, 2010 annual growth would still come to around 13-14% YoY. If QoQ sequential growth were to stay flat, YoY growth in 2H10 would remain in double-digit territory because of the spurt we saw in 1H10. Further, on an annual basis, 2010 growth would come round to about 17% YoY. In this regard, whilst MTI deems 'a double-digit recession as unlikely at this juncture' in its press release, it seems to us that sequential declines are embedded in MTI’s forecast 13-15%."

With Thursday’s data very much backward looking and concerns regarding the global double dip, an annual 2010 GDP growth number that would be high even in a worst-case scenario may be of lesser comfort to markets. What matters more is the trajectory the economy is likely to take in 2H10. In previous research, Morgan Stanley’s global colleagues have discussed how various US leading economic indicators such as the ECRI weekly leading economy indicator, OECD leading indicator, and US ISM have shown inflexion points off late.

Whilst these leading indicators are helpful predictors of turning points for the export segment of the small open economy, they are showing varying degrees of slowdown. In Morgan Stanley's view, some leading indicators are more useful than others in gauging the extent of moderation for Singapore. All that said, for Singapore, the US ISM New Orders shows the best correlation with non-oil domestic exports, with a four-month lead or so, likely reflecting the time needed from orders to production completion.

The report added, "With perfect hindsight, the US ISM New Orders have been accurate in predicting the V-shaped recovery in NODX, on which we were initially skeptical. Now, the US ISM New Orders has moved sideways to slightly downward in the latest Jun-10 datapoint. As a result, recent exports data are looking slightly toppish, in our view. With the four-month ahead visibility, we think exports will slow somewhat in 3Q10, but so far, the moderation in the next couple of months looks mild and nothing like a double dip at this point."

How exports would spill over to headline GDP is slightly trickier to decipher. Exports represent end external demand but GDP incorporate supply-side reaction by corporates as well. The correlation of GDP with export momentum may vary depending on what happens on the inventories front. Interestingly, plotting GDP against US ISM New Orders suggest that GDP somewhat overshot compared to its historical relationship.

Delving into the details, the divergence between the two is due to high biomed production (captured in GDP) despite declining biomed exports (captured in non-oil domestic exports), suggesting some inventory addition at least in the biomed sector. Historically, such divergences do not persist for long and, ultimately, biomed production has to mean revert to a level closer to the export trend. In this regard, Morgan Stanley suspects a biomed slowdown may be at hand, which could add to the headline deceleration expected.

Morgan Stanley is revising upward its 2010 GDP forecast from 9% to 16% YoY. "A global double-dip is not our base case. Indeed, our US economist, Richard Berner, still sees moderate and sustainable growth for the US economy in 2H10 supported by still supportive fiscal policy, lean inventories, and healthy export demand from the emerging world. In Europe, Morgan Stanley’s European economist, Elga Bartsch, expects 2010 GDP growth to be below consensus at 1.2%. The weaker euro is expected to be offset by austerity measures, but they do not expect a double-dip scenario in their base cases. Our 16% YoY forecast for 2010 incorporates some potential sequential pullback on biomed. On a YoY perspective, GDP growth will moderate with 2Q10 representing the peak, but it is likely to remain in double-digit territory due to the high base entering 2H10."