The 2008 Financial Crisis and Potential Output in Asia: Impact and Policy Implications

Abstract

"Monitoring the behavior of potential output helps policymakers implement appropriate policies in response to an economic crisis. In the short-run, estimates of the output gap can guide the timing of the implementation and withdrawal of stimulus measures. In the medium- to long-term, these estimates can also provide the basis for gauging productive potential and, hence, guide policies to support sustainable, non-inflationary output growth. In this paper, we investigate the post-crisis behavior of potential output in emerging East Asian economies by employing the Markov-switching model to account for structural breaks. Results show that after the 1997/98 Asian financial crisis, potential output in Hong Kong, China; the Republic of Korea (Korea); Singapore; and Malaysia reverted to levels consistent with trends prior to the crisis. While there were permanent drops in potential output for both Thailand and Indonesia, growth rates returned to precrisis trends. The People’s Republic of China (PRC); Taipei,China; and the Philippines are special cases as explained in the report. Econometric estimates of a simple growth model show that the differences among the patterns of post-crisis recovery can be attributed to the investment-to-gross-domestic-product (GDP) ratio; macroeconomic policies; exchange rate behavior; and productivity, which is proxied by the level of technological activity. These results can be used to guide policy in the aftermath of the 2008 global financial crisis. "