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After being hit hard by the global economic crisis, Asia is now rebounding rapidly, the International Monetary Fund (IMF) says in its latest report on the region. The region is outpacing other regions of the world, with the “green shoots” of recovery appearing earlier and taking firmer root than elsewhere.

According to the Regional Economic Outlook (REO) for Asia and the Pacific, Asia’s growth is forecast to accelerate to 5¾ percent in 2010 from 2¾ percent in 2009, both higher than previously projected.

“The primary driver of Asia’s recovery has been a progressive return towards normalcy following the abrupt collapse in global trade and finance at the end of 2008,” says the report. “Just as the U.S. downturn triggered an outsized fall in Asia’s GDP because international trade and finance froze, now their normalization is generating an outsized Asian upturn.” This development confirms that Asia has not decoupled from the rest of the world, the REO notes. In fact, Asia’s fortunes remain closely tied to that of the global economy.

The other key driver of Asia’s recovery, according to the report, has been the region’s rapid and forceful policy response. This reaction was made possible by Asia’s strong initial conditions: fiscal positions were sounder, monetary policies more credible, and corporate and bank balance sheets sturdier than in the past. These conditions have given policymakers the space to cut interest rates sharply and adopt large fiscal packages, helping to sustain overall domestic demand.

What lies ahead?

The REO notes that global conditions are expected to continue to improve gradually in 2010. According to the IMF’s latest forecasts, output in the large G7 economies is forecast to grow by 1¼ percent next year, recouping only half the contraction estimated for 2009, because private demand in these countries remains constrained by the legacy of the crisis. Consequently, overseas demand for Asia’s products will remain subdued, keeping the region’s growth well below the 6 2/3 percent average recorded over the past decade.

In this environment, policymakers will face two major challenges, the report notes. In the near term, they will need to manage a well integrated balancing act, providing support to the economy until the recovery is sufficiently robust and self-sustaining while ensuring that the support does not ignite inflationary pressures or concerns over fiscal sustainability.

Over the medium term, policymakers will need to find a new momentum to return to sustained, rapid growth in a new global environment of likely softer G7 demand. In this “new world,” Asia’s longer term growth prospects may be determined by its ability to recalibrate the drivers of growth to allow domestic sources to play a more dynamic role. To be successful, rebalancing will require greater exchange rate flexibility and structural reforms that will allow for a smooth reallocation of resources across the economy, says the report.

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