In our 2026 Asia Outlook published late last year, we highlighted the region's export resilience amid tariff uncertainties and its unique position within the global AI supply chain. Fast forward to today, and the first half of 2026 has been a tale of two Asias. On one hand, a powerful export boom driven by the global AI investment cycle has provided a significant lift to growth across much of the region. On the other, the escalation of conflict in the Middle East has exposed a critical vulnerability: Asia remains home to many of the world's largest net energy importers.
Looking ahead, the macro backdrop appears to be turning more constructive. Questions around the durability of the AI investment cycle are beginning to emerge, but we continue to see scope for the export tailwind to persist, particularly for economies occupying strategic positions in the semiconductor and technology ecosystem. At the same time, with oil prices seemingly past their peak, the drag from the energy shock may gradually begin to ease.
The outlook is far from uniform. A growing set of country-specific challenges, ranging from capital outflows and fiscal pressures to balance-of-payments strains and currency instability, continues to shape the trajectory of individual markets. As a result, Asia is increasingly becoming a story of divergence. The time has come to take stock of where Asia stands today—and to consider what the region's next chapter may look like.
Export exuberance has become the dominant driver of Asia's growth outlook. Asia is a central part of the global AI supply chain (see Cameron Chui’s article for more details). The AI-led capex cycle has lifted demand for semiconductors, memory, servers, networking equipment and related electronics, helping offset tariff uncertainty and muted consumer demand globally.
The benefits, however, are far from evenly distributed. As Chart 1 illustrates, economies with stronger positions in the AI supply chain have been the primary beneficiaries, while those with limited AI exposure have experienced a much more modest export uplift.
Taiwan, for example, is on track to deliver a second consecutive year of robust double-digit export growth, supported by its dominant role in advanced semiconductor fabrication. Korea has seen export growth accelerate sharply, rising from 8% last year to 54% in the first half, driven by strong demand and tight supply conditions in high-end memory products. Japan has also benefited meaningfully through its strengths in semiconductor equipment, precision machinery, and industrial automation.
China remains a vital part of the ecosystem as a major manufacturing and assembly hub, particularly in mature-node semiconductors, optical components, and power electronics. Meanwhile, Southeast Asia, especially Malaysia, Singapore, and Vietnam, is playing an increasingly important role as a destination for electronics manufacturing, data center investment, and supply chain diversification.
By contrast, economies such as India, Indonesia, and the Philippines have captured fewer gains from the AI boom, reflecting their more limited integration into the hardware and semiconductor supply chain.
Despite recent market volatility, we believe Asia’s AI dividend remains durable. First, an economy’s position within the AI value chain matters. Visibility on the AI investment cycle over the next one to two years remains strong. As cloud providers and hyperscalers continue to invest aggressively in data centers and semiconductors, firm memory prices and sustained demand for computing capacity should likely continue to support exports in economies with advanced technological capabilities such as Taiwan and Korea. By contrast, economies positioned further from the highest-value segments of the AI ecosystem are likely to rely more heavily on volume growth, assembly margins, and policy incentives. Second, the breadth of industrial diversification is equally important. Highly concentrated economies are generally more exposed to sector-specific shocks, while those with broader and more diversified manufacturing ecosystems tend to exhibit greater resilience. China and Japan are good examples of this dynamic.
A more fundamental risk is that the AI boom could further reinforce the “K-shaped” growth dynamics already evident across many economies. The AI investment cycle is highly capital-intensive, with benefits concentrated among companies, sectors, and regions closest to the technological frontier. As a result, strong export performance and corporate earnings growth may not necessarily translate into broad-based income gains or stronger domestic demand, potentially widening economic disparities across different segments of society and the economy.
The Middle East conflict has been a major stress test for Asia, home to many of the world's largest net energy importers. With roughly 90% of oil transiting the Strait of Hormuz destined for the region, the shock has exposed longstanding vulnerabilities stemming from limited domestic energy resources and energy-intensive growth models. Higher energy prices have weighed on input costs, terms of trade, current accounts, and in some cases fiscal balances through expanded subsidy programs.
Parts of Asia have demonstrated resilience to the shock. Korea and Taiwan benefited from strong industrial pricing power, with margins remaining resilient, and in some cases expanding, amid robust AI-related demand. Japan approved a sizable supplementary budget to subsidize energy costs, helping to contain the pass-through to inflation. India moved aggressively to secure oil and gas supplies, diversify sourcing, lower import duties, and expand subsidies, preventing major shortages and limiting reserve drawdowns.
China presents a more mixed picture. Oil imports declined sharply as the country drew on reserves, but Q2 data still pointed to weakness in parts of the industrial sector. Domestic fuel price controls compressed refining margins while coal output was disrupted by nationwide safety inspections, which combined discouraged upstream production. Within Southeast Asia, Singapore and Malaysia weathered the shock relatively well, supported by strong fiscal buffers and lower import dependence respectively. By contrast, Thailand and the Philippines experienced a more pronounced slowdown in activity and a greater deterioration in external balances.
Looking ahead, country-specific factors will increasingly drive performance. Japan and India could face growing fiscal strains if the conflict proves prolonged. In China, pressures should likely ease as energy prices stabilize, particularly given the country's comparatively diversified energy mix. Across parts of South and Southeast Asia, however, balance-of-payments pressures may persist even if oil prices stabilize, highlighting deeper structural vulnerabilities exposed by the shock.
At the start of 2026, we had a constructive outlook on China, citing continued export strength and encouraging signs of a recovery in domestic demand (see Yuxuan Tang and Timothy Fung’s article for more details). The export story not only played out as expected—it exceeded even our already optimistic expectations. However, a closer look under the hood reveals an increasingly unbalanced growth engine. Robust external demand has been doing most of the heavy lifting, while domestic activity have struggled to keep pace.
China's export sector enjoyed an exuberant 1H, acting as the economy's locomotive and pulling headline growth forward. Since Covid, China's export success has been driven primarily by volume expansion. Leveraging its manufacturing scale, cost efficiency, and technological progress, China continued to gain global market share while helping to ease inflationary pressures worldwide. The clearest examples were the so-called "new three" industries—solar panels, batteries, and electric vehicles. China's automobile exports, for instance, surged from roughly one million units five years ago to almost eight million units today, making the country the world's largest auto exporter. This year, market leadership has broadened into AI-related industries. Exports of machinery and electronics rose 20.1% yoy in 1H, accounting for 63.5% of total exports. In several categories, both shipment volumes and prices increased simultaneously, leading to a meaningful improvement in corporate profitability.
Memory semiconductors illustrate this shift particularly well. While Korea retains a technological lead in cutting-edge products such as high-bandwidth memory (HBM), China has achieved significant maturity in mainstream DRAM production and enjoys capacity advantages in parts of the value chain. Combining related categories, exports increased by approximately 86% yoy in the first half. Importantly, a meaningful portion of this growth came from higher prices. This suggests Chinese exports are beginning to move beyond the traditional model of quantity-led growth, which often delivered limited gains to corporate profit margins.
In contrast, domestic demand remains stuck in first gear. Five years into the property downturn, household confidence is still fragile. While some greenshoots appeared in Tier-1 cities’ housing markets, nationwide gauges remain in decline. Retail sales grew just 1.3% yoy in January–June, down sharply from around 5% over the same period last year. Recognizing this challenge, the State Council approved the 15th Five-Year Plan for Expanding Consumption in July, targeting total retail sales of consumer goods to reach RMB 60tn by 2030, which implies annualized growth of a cautious 3.7%. The plan is not a major stimulus package, though it may help reduce some institutional frictions at the margin. We therefore remain cautious and expect the consumption recovery to be gradual and uneven.
The path to reflation remains an unfinished jigsaw puzzle. Higher energy prices following the Iran conflict temporarily pushed PPI back into positive territory, but this reflected a supply shock rather than a resolution of the underlying supply-demand imbalance. The subsequent de-escalation has eased upstream cost pressures, which is particularly important for China, where weak consumption has limited the ability of midstream and downstream firms to pass on higher input costs, squeezing margins. That said, sustained reflation in 2H will ultimately require a meaningful recovery in domestic demand.
Looking into 2H and 2027, exports are likely to remain the main growth driver, while easing energy pressures should likely support industrial activity, corporate profits and investment. We expect policymakers to provide more support as pressure on domestic demand persists, primarily through faster deployment of existing fiscal resources. The PBoC is also likely ramp up easing, though still maintaining a finetuning approach to support liquidity and credit growth, as resilient exports and the absence of a sharp slowdown limit the case for a large stimulus. Overall, policy support is likely to remain measured and incremental.
Japan is still walking a tightrope between reflation, fiscal credibility and currency stability. In 1H, PM Takaichi’s fiscal agenda was largely shaped by the need to shield households from rising energy costs. In March, the government moved to top up the gasoline subsidy fund by drawing on contingency reserves, while resuming payments to oil wholesalers to keep nationwide retail fuel prices contained. By early June, as existing funding was close to being depleted, the government finalized a JPY3.1tn supplementary budget, equivalent to around USD19bn. A large portion of the extra budget was aimed at replenishing contingency reserves used to subsidize gasoline, electricity and gas bills. Separately, the government announced direct assistance for electricity and natural gas charges from July to September 2026, when summer demand typically rises. As a result, inflation gauges softened in Q2.
Energy subsidies can cap near-term CPI pressure and support real household income, but they also complicate the fiscal picture. The extra budget is set to be funded entirely through deficit-financing bonds. Looking ahead, the previously proposed cut to the food tax is unlikely to come before next April at the earliest. The government has tried to reassure markets that it will avoid increasing overall bond issuance by offsetting the costs with stronger tax revenues and non-tax income. Still, the balancing act remains tricky at a time when the BOJ is normalizing policy and JGB yields are already sensitive to concerns around debt sustainability.
On the one hand, the Bank of Japan could argue that it does not have an urgency to act. As shown in below charts, real wage growth still remains muted, which has been the main argument that BOJ cited to stay ultra-gradualist approach in policy normalization. On the other hand, at the end of July USDJPY rose to a 40-year high of above 163, breaking through the widely watched “line in the sand” around 160–162. The root cause is that Japan’s real short-term rates remain deeply negative, while U.S. real rates continue to push higher. The fiscal overhang only compounds the problem. Excessive currency weakness is far from ideal: it raises imported inflation for an economy heavily dependent on energy and raw-material imports, erodes household purchasing power, and risks undermining macroeconomic credibility. If depreciation becomes disorderly, international investors may begin to view it not as a normal FX adjustment but as a broader sign of policy vulnerability, raising the risk of capital outflows. Currency intervention – which occurred at a massive scale at the end of July – can smooth disorderly moves, but without a credible monetary-fiscal mix, intervention alone rarely changes the trend. Given this. our view is that Japanese authorities will accelerate interest rate hikes to avoid the circular dilemma created from capital outflows and a falling currency.
We wrote in November last year (see Yuxuan Tang and John Li’s article) that the Reserve Bank of Australia (RBA) could stand out as an early hiker, and potentially the most hawkish G10 central bank in 2026. That view has played out well, with the RBA delivering three consecutive hikes in 1H as inflation remained sticky. The challenge now is balancing still-elevated inflation — though this time largely imported via the oil price shock — against a softer growth backdrop, with signs of slowing consumer momentum and housing market weakness.
Over 1H, the pickup in consumer and business sentiment in 2025 reversed lower. Fiscal policy aimed at cooling the overheated property market came into focus. In the May 2026 Budget, the government introduced two major property-investor tax changes. First, negative gearing will be limited mainly to new-build residential properties, reducing the tax attractiveness of buying existing investment homes. Second, the existing 50% capital gains tax discount for individuals, trusts and partnerships will be replaced by cost-base indexation and a 30% minimum tax rate on capital gains. The policy objective is to reduce speculative demand for existing housing and redirect capital toward new supply. As a result, nationwide house prices fell 0.4% m/m in June, the largest sequential decline since 2022. On top of that, consumers also taking a hit from higher oil prices. While Australia is a net energy exporter as the world’s second largest natural gas exporter, it’s still a price taker on oil and oil refined products.
While India remains one of Asia’s strongest structural growth stories, the macro narrative has become increasingly challenged. After several years of support from market-friendly reforms, corporate deleveraging, favorable demographics, and a thriving IT sector, macro fundamentals remain robust but the momentum is fading. At the same time, investors are becoming more focused on forward-looking questions surrounding India’s positioning in the AI era and a challenging geopolitical backdrop.
The AI debate centers on two key concerns. First, the outlook for India’s software and services sector. The country’s technology ecosystem is heavily concentrated in IT services, software development, and business-process outsourcing. While certain segments could benefit from AI adoption, others face growing disruption risks as generative AI automates tasks that were previously outsourced. This has sparked a broader debate over the medium-term outlook for India’s services exports. Second, India remains underrepresented in the AI hardware supply chain. As discussed earlier, the first phase of the AI boom has been driven overwhelmingly by semiconductors, data centers, servers, memory chips, and related manufacturing. India’s exposure to these segments remains relatively limited, leaving it less directly positioned to capture the capital spending boom that has benefited its Asian peers.
Geopolitics have not helped. A surprising escalation in U.S. trade measures unsettled investor confidence: in August 2025, the U.S. imposed a 25% tariff on Indian goods, which was subsequently raised to 50% in response to India’s continued purchases of Russian oil. Fortunately, negotiations proved successful, and February 2026 marked a major turning point. Reciprocal tariffs were reduced to 18%, while the Russia-related punitive tariffs were removed. However, just as markets were beginning to welcome the improvement in bilateral trade relations, the Iran conflict erupted, delivering a fresh sentiment shock. As the world’s second-largest crude oil importer, India imports roughly 85–90% of its oil requirements, leaving the economy particularly vulnerable to higher energy prices, supply disruptions, and a deterioration in its terms of trade.
As a result, an economy that was once a favorite among international investors experienced significant portfolio outflow pressure despite broadly resilient macro fundamentals. The Indian rupee (INR) depreciated by ~12% against the U.S. dollar over the past 12 months.
Looking ahead, we expect near term growth momentum to improve, supported by the U.S.-India trade agreement, which has helped reduce a key source of uncertainty for exporters and investors. The government is also likely to maintain its focus on infrastructure investment and fiscal consolidation, providing an important anchor for medium-term growth. In addition, the RBI may not face the same pressure to tighten policy as aggressively as some other major central banks, which should offer modest support to domestic financial conditions.
The ASEAN region is no longer moving in a lockstep. Economic performance has become increasingly uneven across the region in 2026, with key divide between economies that are well positioned to capture technology and capital inflows, and those grappling with external financing pressures, weaker balance of payments dynamics, or a loss of investor confidence.
Frontrunners: Singapore and Malaysia.
Benefiting from their deep integration into the global semiconductor and electronics supply chain, both economies have delivered strong growth in high-tech manufacturing and exports. For Singapore, its position as a regional financial hub has continued to attract capital amid global uncertainty, while strong fiscal buffers and institutional credibility provide resilience against external shocks (see Weiheng Chen’s article for details). Malaysia, meanwhile, has benefited from sustained foreign direct investment into electronics manufacturing and supply-chain relocation trends as multinational firms diversify their production footprint across Asia. Its status as a net energy exporter has also helped cushion the economy from the oil-price shock that weighed on many of its regional peers. We expect both economies to maintain their lead, given the largely structural nature of these advantages.
Laggards: Indonesia, Thailand, Philippines.
Indonesia has long been a darling of foreign investors. With abundant natural resources and a large domestic market, one might have expected the economy to prove resilient through this year's energy shock. Yet, in a surprise to many, 2026 saw a sharp deterioration in investor confidence that significantly disrupted local markets (see Dominic Harjo’s article for details). At the time of writing, capital outflows remain ongoing, and the rupiah is still struggling to establish a durable bottom despite emergency rate hikes by Bank Indonesia. We caution that it may take considerable time for investor confidence to recover, given the high level of uncertainty over shifts in the domestic political landscape. Against a backdrop of elevated global interest rates and increasingly fragile risk sentiment, investors may also become more selective toward their EM exposure.
Thailand faces a broad set of balance-of-payments challenges. The economy has been squeezed by elevated energy import costs, softer tourism inflows, and limited foreign investor interest. Thailand's current account balance deteriorated sharply, contributing to sustained depreciation pressure on the baht. While equities have rallied that majority of that outperformance was driven by a single company in the AI supply chain. Meanwhile, growth in the Philippines has likewise been constrained by its vulnerability to higher energy prices, weak investment momentum, and fiscal execution challenges. While overseas remittances remain a key source of support, the economy continues to be held back by longstanding infrastructure bottlenecks and a relatively underdeveloped manufacturing base. We expect both economies to remain vulnerable in the period ahead, given their heavy reliance on imported energy, limited participation in the technology supply chain, and comparatively narrow fiscal space to cushion external shocks.
While we are in the midst of a positioning unwind across the AI infrastructure theme that will keep near-term Asia EM equities volatile, we see fundamentals that will ultimately play out and retain a positive view towards South Korea, Taiwan, and China. Asia ex Japan remains in an AI infrastructure earnings super-cycle due to its dominance in key bottlenecks across the supply chain including logic, memory, networking, and power. While backward looking performance has been strong, significant growth remains due to a continued shortage in compute. Earnings continue to see positive revisions with MSCI Asia ex Japan now expected to grow earnings in 2026/2027 by 50-55%/25-30% and trading at just 10.5x forward P/E. In particular, South Korea is expected to grow earnings in 2026/2027 by 345-355%/38-42% and trading at just over 5x forward P/E.
On the flip side, MSCI China has underperformed year-to-date, but we see potential for a better 2H26. While the domestic macro recovery in China remains underwhelming, the micro backdrop is incrementally improving. Importantly, the much-publicized fast commerce/food delivery price war over the past year seems to be moderating faster-than-expected. While this may be partly due to prioritizing financial resources for AI investments, it is helping to stabilize earnings estimates that have been in steady decline. Agentic AI adoption and model development are also showing real progress that highlight the importance of potentially another AI ecosystem for investors. Valuation at 10.4x forward P/E remains inexpensive and acts as a nice counterweight to the semiconductor-heavy South Korean and Taiwanese equity markets.
In Japan we see cross-currents that make us broadly neutral equities, and prefer select opportunities across banks, industrials, and technology sectors. On the one hand, our base case of a managed de-escalatory path in the Middle East should drive a broadening out of equity performance to more cyclically sensitive sectors and be a net benefit to Japanese equities. A moderately weaker Japanese Yen is also supportive for corporate earnings growth. On the other hand, with domestic imported inflation the key concern of voters, the bias remains for rate hikes from the Bank of Japan that should benefits banks but weighs on the broader market. We also find TOPIX valuation at a forward P/E at 17x quite high relative to history.
Asia credit outperformed broader fixed income markets in 1H 2026, supported by the asset class's shorter-duration profile in investment grade (IG) and attractive carry in high yield (HY). We believe Asia credit enters the second half of the year on solid footing, with carry likely to remain the dominant driver of returns in a higher-for-longer rates environment. Over the next 12 months, we expect total returns of approximately 5.0–5.5% for Asia IG and 7–8% for Asia HY, supported by attractive all-in yields and significantly healthier credit fundamentals than those seen during the default cycle of recent years.
We continue to highlight Asia High Yield as one of the most compelling opportunities in the region. Following the record default wave of prior years, we believe the asset class has turned a corner. Performance in 1H 2026 has reinforced this view, with total returns approaching 4% and defaults remaining close to zero year-to-date. Looking ahead, yields remain attractive at around 7.8%, while stronger corporate balance sheets and a more supportive refinancing backdrop should likely help keep default rates contained. Asia HY could also benefit from renewed investor interest in emerging market debt and currently offers a yield premium of roughly 35bps versus CEMBI HY, supporting relative-value demand.
Under the hood, specific credit themes we like include Hong Kong Real Estate, Macau Gaming, Japanese Life Insurers, India and Indonesia USD Credit. We also see value in AUD-denominated fixed income. With the RBA's tightening cycle now largely complete, investment-grade bonds offering yields of around 5.5–6.0% present an attractive opportunity for income-oriented investors.
Asia FX is increasingly becoming a story of divergence rather than a single regional theme. Differences in external balances, exposure to the AI investment cycle, policy credibility and capital flows are creating increasingly differentiated currency trajectories across the region.
We expect moderate CNH appreciation into 2027, although any gains are likely to be gradual, managed and orderly. Strong exports have widened China’s current-account surplus, providing a fundamental anchor for the currency. Exporters have also become more willing to convert foreign-currency proceeds into yuan, a dynamic that can meaningfully influence FX flows given the importance of trade settlements. As sentiment toward China improves and the U.S. dollar remains broadly stable, we expect CNH to continue its idiosyncratic strengthening trend.
We remain neutral on JPY and expect USDJPY to hover around 160 as authorities prioritize currency stability. This view assumes the BOJ delivers 3-4 rate hikes over the next 12 months, taking policy rates to around 2%, a path increasingly (but not sufficiently) signaled by recent BOJ communications. Failure to follow through could leave the yen vulnerable to renewed depreciation. At the same time, persistent fiscal concerns, including costly energy subsidies and other spending initiatives, continue to limit the case for a materially stronger yen.
We are constructive on AUD over medium term. AUD’s strong performance in 1H was supported by attractive carry, favorable terms of trade and a disciplined fiscal backdrop. While the carry advantage may narrow as other central banks continue tightening, the latter two factors should remain supportive. We also continue to favor Australian fixed income, given compelling carry and a constructive currency outlook.
We remain cautious on INR, although the pace of depreciation may slow. Capital outflow pressure remains a key headwind. Measures such as the RBI’s FCNR deposit scheme should help attract inflows at the margin, but their impact is likely to be gradual. More fundamentally, India’s limited participation in the AI-driven capex cycle continues to constrain both growth prospects and investor appeal at a time when capital is increasingly flowing toward economies with deeper semiconductor and AI hardware exposure.
We also remain cautious on most ASEAN currencies. Ongoing capital outflows and external vulnerabilities continue to weigh on the bloc, although SGD stands out as an exception. The MAS’s tightening bias, prospects for continued capital inflows and the managed nature of the exchange-rate regime should allow SGD to remain relatively resilient and potentially strengthen further.
All market and economic data as of August, 2026 and sourced from Bloomberg Finance L.P. and FactSet unless otherwise stated.
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