Major Economies Slowing; Regional Power Outlook Deteriorating

BMI View : We have revised down our 2014 forecasts for the electricity generation in Asia from 5.7% to 5.3% this quarter. This is due to a major deterioration in the economic outlook for several major countries in the region. Crucially, we are witnessing signs of an economic slowdown in both China and Japan - the world's second and third largest economies (by nominal GDP in 2013) and major trading partners with many countries in the region. Our long-term outlook for Asia's power sector remains relatively sanguine, and we are seeing increased activity in the nuclear energy sector. We believe this can be attributed to diminishing fears over nuclear power, as well as the continued need for cost-effective and clean energy.

The near-term economic outlook for Asia appears to have deteriorated in recent months, leading us to moderate our forecasts for electricity consumption and generation in the region. While the US economy had strengthened as of late, Asian economic powerhouses China and Japan are showing signs of a slowdown, which is likely to have major ramifications for industrial production and investment across the region. Structurally, we continue to see some positive developments that should support medium-term economic growth in Asia, such as reduced exposure to Western demand. However, these positive medium-term developments are likely to have negative effects on short-term growth, owing to the structural deficiencies and shadow-banking issues facing China.

As mentioned previously, we decided to include Australia and Japan in our regional outlook for the Asian power sector in Q1 2014, due to the growing importance of regional dynamics to both markets. The availability and price of feedstock for energy generation are increasingly integrated across the Asian markets. To be sure, we have witnessed increasing competition for feedstock and a convergence in regulations and electricity markets.

Near A 13-Year Low
China - Fixed Asset Investment (Ex-Rural), % chg y-o-y

BMI View : We have revised down our 2014 forecasts for the electricity generation in Asia from 5.7% to 5.3% this quarter. This is due to a major deterioration in the economic outlook for several major countries in the region. Crucially, we are witnessing signs of an economic slowdown in both China and Japan - the world's second and third largest economies (by nominal GDP in 2013) and major trading partners with many countries in the region. Our long-term outlook for Asia's power sector remains relatively sanguine, and we are seeing increased activity in the nuclear energy sector. We believe this can be attributed to diminishing fears over nuclear power, as well as the continued need for cost-effective and clean energy.

The near-term economic outlook for Asia appears to have deteriorated in recent months, leading us to moderate our forecasts for electricity consumption and generation in the region. While the US economy had strengthened as of late, Asian economic powerhouses China and Japan are showing signs of a slowdown, which is likely to have major ramifications for industrial production and investment across the region. Structurally, we continue to see some positive developments that should support medium-term economic growth in Asia, such as reduced exposure to Western demand. However, these positive medium-term developments are likely to have negative effects on short-term growth, owing to the structural deficiencies and shadow-banking issues facing China.

As mentioned previously, we decided to include Australia and Japan in our regional outlook for the Asian power sector in Q1 2014, due to the growing importance of regional dynamics to both markets. The availability and price of feedstock for energy generation are increasingly integrated across the Asian markets. To be sure, we have witnessed increasing competition for feedstock and a convergence in regulations and electricity markets.

Vulnerabilities In North Asia: China, The Slowing Giant

We continue to witness signs of a slowdown in China, with recent data reaffirming our below-consensus outlook for the Chinese economy. A rapid deceleration in fixed asset investment in February was a major indicator of this slowdown, with investment falling to its slowest rate of expansion (17.9% year-on-year [y-o-y]) in nearly 13 years.

Near A 13-Year Low
China - Fixed Asset Investment (Ex-Rural), % chg y-o-y

Meanwhile, February exports registered a massive retrenchment, with shipments for export falling by 18.1% y-o-y, the category's worst showing since August 2008. The huge miss has been blamed on Lunar New Year distortions, which has some validity. However, even if we take an average of January and February data to strip out this effect, shipments still posted a contraction, albeit much more mild at 1.7% y-o-y.

Contraction Set To Continue
China - Export And Import Growth, % chg y-o-y

This slowdown in fixed asset investment and exports points to a slowing Chinese economy, which has serious ramifications for electricity consumption, generation, and investment in the country. A slowdown in the Chinese economy would also have a widespread impact on electricity consumption and investment in other countries across the region. This is due to the fact that China drives export demand across Asia ( see 'China's Shadow Banking Bubble: Assessing The Regional Threat', February 13). A slowdown in the Chinese economy would hit export volumes from these Asian countries, and therefore affect industrial production and investment, which would in turn affect electricity consumption and electricity investment.

Varying Degrees Of Exposure
Asia - Exports To China, % of Total Exports And % of GDP

We believe that power sectors of Asian countries that are highly reliant on commodity exports will be particularly vulnerable to a slowdown in China. In particular, we believe that electricity consumption and investment in generation capacity in Australia, New Zealand, and Indonesia, would be affected. A prolonged slowdown would also affect Hong Kong and Taiwan, which typically export semi-finished goods to the mainland for re-export. Conversely, South Asian economies do not have a great deal of exposure to Chinese export demand. Although China is a substantial investor in the likes of Bangladesh and Sri Lanka, it is not a major export destination, with these markets much more focused on meeting demand from the US and Europe.

Japan: Signs Point Towards A Slowdown

We are also witnessing signs of an economic slowdown in Japan. The country recorded a massive trade deficit of JPY2.8trn in January (versus JPY1.6trn a year earlier), equivalent to over 4% of GDP on an annualised seasonally adjusted basis. This means that the monetary stimulus measures (causing a weakening of the yen) promoted by Prime Minister Shinzo Abe are dissipating and having a limited impact on boosting Japanese exports. Such measures are also putting upside pressure on the country's import bill thanks in large part to the inelastic demand for imported fuels, which is beginning to counteract the benefits of higher exports.

Exports Losing Steam
Japan - Trade Balance, JPYbn

We had also witnessed a slowdown in private sector investment, with machine orders - a leading indicator of capital expenditure - posting the largest monthly decline in 22 years in December 2013 ( see 'Obvious Cracks Appearing In Japan's Recovery', February 12). This is a negative sign for the electricity sector as it points towards a slowdown in industrial production and electricity consumption growth.

Huge Monthly Drop Could Be A Warning Sign
Japan - Machine Orders, Excluding Volatile Components, Seasonally Adjusted, % chg y-o-y

We note that all of Japan's 58 nuclear reactors remain offline, and maintain our view that two to three reactors are likely to be restarted in 2014. This would lead to a reduction in fuel imports, which would also help improve the country's trade balance ( see 'Core View In Play: Nuclear In The Mix', March 18). More importantly, however, a reduction in Japanese liquefied natural gas (LNG) demand could lead to a reduction in Asian LNG prices. A fall in Asian LNG prices would have an impact on numerous Asian countries that are highly dependent on gas-fired generation, such as South Korea and Thailand. As such, we believe that a greater-than-expected number of nuclear restarts poses an upside risk to our regional outlook.

India: Potential Upside In H2 2014

We believe that there are two key upside risks to our India forecast which could materialise in the second half of 2014. Firstly, we note that interest rates in India could be reduced as early as Q1 FY2014/15 (April-June) as the Chairman of the Reserve Bank of India, Raghuram Rajan, turns his attention to growth concerns. We expect a reduction of at least 50 basis points in the next fiscal year, and believe that this could drive up investment and electricity consumption ( see 'New CPI Focus Will Not Negate Eventual Growth Concerns', January 29).

Additionally, the country's elections are due to be held by May 2014. At present, we are leaning towards a victory for the opposition (and more market-friendly) Bharatiya Janata Party (BJP). After the the ruling United Progressive Alliance (UPA)'s disappointing second term in office, we believe this scenario would be looked upon kindly by investors ( see 'Re-Emergence Of The 'Third Front' Poses No Major Threat', February 26). The BJP had made significant ground in state elections held in December 2013 (including Delhi), meaning that the party will head into the 2014 campaign very much on the front foot. A BJP victory would improve the country's political risk profile and increase the potential for economic reform. This in turn could encourage Indian companies to build out capacity and foreign investors to seek out investment opportunities, including in the power sector, in 2014.

Beyond 2014: Outlook Stable And Sanguine

Our outlook beyond 2014 remains stable, and we are forecasting electricity generation in the region to grow at an average rate of 5.1% per annum between 2014 and 2023. Notably, this is higher than the global growth average, which can be attributed to several factors.

  • Economic and demographic growth: We believe that emerging Asia is set to outperform the global economy over the medium-to-long term due to positive demographic and structural factors ( see 'Global Assumptions - Q2 2014 - Update', March 24). While the era of double-digit real GDP growth might be over, we note that the Chinese, Indonesian and Indian economies are set to grow at relatively healthy rates over the long term, and this will drive electricity consumption growth.

  • Low electrification rates: Electrification rates in Asia are relatively low at present - approximately 78% of households in Asia had access to electricity in 2009 - and are set to increase alongside economic and technological development in the region. To be sure, several countries in the region have already initiated programmes to improve electrification rates, such as the development of the first 500kV transmission line in Myanmar ( see 'Myanmar Transmission Project Desperately Needed', March 6).

Diverse Electrification Rates
South East Asia - Electricity Access In 2009, %
  • Positive regulatory developments: The majority of governments in Asia are pushing for greater competition, transparency and sustainability in their power sectors via various reforms. In fact, a number of countries have allowed electricity prices to rise in order to improve viability for investors and cut government subsidies. Looking ahead, we see room for further price increases in the future ( see '2014: Upward Pressure On Electricity Tariffs In Asia', January 10). Other countries in the region (such as Vietnam) are also moving towards a fully deregulated market, which would greatly increase the attractiveness of the sector to private investors ( see 'Numerous Challenges For Private Investors', October 9 2012).

REGIONAL ELECTRICITY GENERATION GROWTH, % CHG Y-O-Y
2014f 2015f 2016f
Asia 5.3% 5.1% 5.0%
CEE 2.3% 1.5% 2.5%
Developed States 1.0% 1.1% 1.2%
Latin America 3.8% 3.8% 4.6%
MENA 4.7% 4.8% 5.4%
SSA 4.5% 6.1% 5.0%
Source: BMI

Long-Term Trend: Nuclear Energy Growing In Prominence

We have noticed a number of key developments in the nuclear energy sector in Asia, and believe that it is set to play an increasingly important role in the Asian power sector over the coming decade. Fears regarding the technology following the Fukushima accident in 2011 appear to be dissipating, and several countries have resumed their nuclear programmes. Key developments include:

  • China: On March 12 2014, the Chairman of China National Nuclear (CNNC), Sun Qin, said during an interview with Reuters that China was on track to beat its 2020 targets for nuclear power. Sun said that the country will surpass its goal of having 58GW of installed nuclear power capacity by the end of the decade after getting back on track with projects that had been halted after Japan's Fukushima disaster. The expansion plans were suspended in 2011 following the earthquake and nuclear disaster at Fukushima, but are now back on track as construction on new plants is expected to resume with approvals granted in the coming months ( see 'Nuclear Sector On The Path To Criticality', March 13).

  • South Korea: On January 29 2014, the South Korean government approved the KRW7.6trn (US$7.0bn) Shin Kori 5 & 6 nuclear project, which will see two new 1,400MW reactors built at the existing Shin Kori nuclear site. Construction of the project - which will use APR1400 reactors - is expected to begin in September 2014 and scheduled for completion in 2020. There are currently five other reactors under construction ( see 'New Nuclear Approvals Provide Relief', February 3).

  • Vietnam: Construction of the Ninh Thuan 1 nuclear plant - the first nuclear plant in the country - will be delayed by up to six years amid concerns over safety and efficiency. Construction on the VND200trn (US$9.5bn) plant was originally scheduled to begin in 2014 and completed by 2023, but statements made by Prime Minister Nguyen Tan Dung in January have indicated that the construction date will be pushed back ( see 'Potential Nuclear Delay Underscores Gas Supply Limitations', January 20). We highlight that the government did not make any amendments to its plan to build 14 nuclear reactors by 2030.

We believe that nuclear energy is set to play an increasingly important role in the Asian power sector over the coming decade. This is because of increasing competition for feedstock for thermal generation, pollution problems, and the relative benefits of nuclear energy. This will be particularly evident in countries that have little or no hydrocarbon reserves (South Korea and Japan) and in China as growth in feedstock demand has outstripped growth in supply ( see 'Increase In Domestic Energy Investment No Guarantee Of Greater Energy Independence', September 20 2013).

China Already At The Top
Global - Thermal Coal Exports (LHS) & Imports (RHS) By Geography (2012e)

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