India is feeling the brunt as growth slows across the region, write Shamim Adam and Kevin Hamlin.
Asia's role as the world's growth engine is waning as economies across the region weaken and investors pull out billions of dollars.
The Indian rupee fell to a record low this week, Thailand is in recession and Indonesia's widest current account deficit pushed the rupiah to its lowest since 2009. Chinese banks' bad loans are rising and economists forecast Malaysia will post its second straight quarter of sub-5 per cent growth this week.
The clouds forming in Asia as liquidity tightens and China slows down are fuelling a sell-off of emerging market stocks, reversing a flow of money into the region in favour of nascent recoveries in the US and Europe. Emerging markets from Brazil to Indonesia have raised borrowing costs this year to try to help their currencies as the prospect of reduced US monetary stimulus curbs demand for assets in developing nations.
"The eye of the storm is directly above emerging markets now, two years after it hovered over Europe and four years after it hit the US," said Stephen Jen, co-founder of hedge fund SLJ Macro Partners in London and former head of foreign exchange strategy at Morgan Stanley. "This could be serious for Asia."
Almost $US95 billion ($105 billion) was poured into exchange-traded funds of American shares this year, while developing-nation ETFs got withdrawals of $US8.4 billion. Signs of a stronger US economy may prompt the Federal Reserve to begin paring back its $US85 billion in monthly bond purchases as soon as next month.
"The pendulum is swinging back in favour of the advanced countries," said Shane Oliver, head of investment strategy at AMP Capital Investors.
Indian policy makers are battling to stem the rupee's plunge, attract capital to bridge a record current account deficit and revive growth.
The currency has weakened about 28 per cent against the US dollar in two years, reviving memories of the early 1990s crisis, when the government received an International Monetary Fund loan as foreign reserves waned.
"It seems now the pain is going to be in the emerging markets," said Nitin Mathur, an analyst in Mumbai at Espirito Santo Investment Bank. "The problems in India are not temporary blips. The problems are much more serious, which will take a lot of effort to get resolved."
In Thailand, the economy entered recession last quarter for the first time since the global financial crisis. Toyota said car sales in Thailand would fall 9.5 per cent this year. The government cut its 2013 growth forecast as exports cooled and local demand weakened. Higher household debt restricts scope for monetary easing.
Last week, Taiwan cut its 2013 growth and exports forecasts and said the global outlook for the second half was worsening.
"We are seeing a turning point," said Freya Beamish, an economist with Lombard Street Research, who says China's competitiveness has been hurt by labour costs that are 30 per cent too high.
Sentiment is also being subdued by the prospect of a decline in US stimulus, which often finds its way to export-based countries.
Investors will be looking for clues on how quickly the US Federal Reserve will trim its monthly asset purchases when the federal open market committee's July meeting minutes come out on Wednesday.
The $US3.9 trillion of cash that flowed into emerging markets over the past four years has started to reverse since Fed chairman Ben Bernanke talked about a tapering in quantitative easing this year.
"The emerging Asia story is crumbling and dollar is once again the king," said Indranil Pan, chief economist at Kotak Mahindra Bank in Mumbai.
India's moves to tighten cash supply, restrict currency derivatives and curb gold imports since July failed to arrest the rupee's slump to a record low of 63.23 against the US dollar. The deficit has widened to 4.8 per cent of gross domestic product. The government plans to narrow the gap to 3.7 per cent, or $US70 billion, this year.
India's slump is worse than elsewhere because the country has failed to carry out long-overdue structural changes to the economy.
"We have great policies on paper but the gap between the what's on paper and the implementation is unduly large," said R.C. Bhargava, chairman of Maruti Suzuki India, the nation's biggest carmaker. "If we just implement what's already there, we can get back on track in the next two to three years."
One bright spot is Japan, where the economy has bounced back on Prime Minister Shinzo Abe's fiscal and monetary stimulus.
The Topix stocks index has risen 34 per cent this year. Abe has yet to show he can sustain the recovery by restructuring company and labour laws and taming the nation's debt, which topped 1 quadrillion yen ($11 trillion) in June.
"Some Asian countries, especially India, have their own significant domestic challenges," said economist Jim O'Neill. "But China is slowing primarily to improve its growth model and, at 7 to 7.5 per cent annual growth, is still delivering $US1 trillion nominal GDP. And Japan ... is looking better than it has done for a very long time."
The slowdown in Indonesia and Thailand was part of global weakness, World Bank chief economist Kaushik Basu said. The US recovery "was so slow that even the slightest pick-up is looking like a pick-up", he said. "I don't think the Asian situation is any worse. In fact, if anything, Asia is probably better off than the rest of the world."
But that may not help markets in Asia, as money continues to flow back to Europe and the US.