The region's overheated economy faces a period of adjustment - and for some countries the correction could prove very painful.

Southeast Asia, so long a byway of the world economy, has become a well-worn path for foreign investors seeking refuge from the continuing after-effects of the global financial crisis. They have come because the region has been surging ahead over the last few years, even as the West slumped, China readjusted and India stuttered.

As confidence grew in Southeast Asia's newfound ability to realize its potential, success followed success: Indonesia is on the cusp of becoming the region's first trillion-dollar economy, and achieved an investment-grade credit rating for the first time in 14 years in late 2011, something the Philippines also attained for the first time ever earlier this year; manufacturing has been booming in Malaysia and Thailand; and the Philippines began to challenge India as the top destination for offshore services, while posting first-quarter GDP growth of 7.8%, Asia's best performance.

However, just when everything seemed to be going so well, cracks have begun to emerge in the foundations of the Southeast Asian boom. A bust is still avoidable, economists believe, but the fate of the regional economy over the next couple of years probably depends more on events in Europe and other turbulent sectors of the global system than on the decisions of local governments and central banks.

Southeast Asia - Too much of a good thing

The Catch-22 for Southeast Asia is that, while economic success is welcome, too much of it can be dangerous.

As the optimism about Southeast Asia became contagious, foreign capital - desperately short of promising avenues elsewhere in the world - began to flood the region. But before long, this was looking like too much of a good thing. Real estate prices rose quickly and stock markets spiked: asset bubbles, in other words, were starting to form. The Philippine stock market, for example, has risen 20 percent in the first half of this year after growing strongly in 2012, making it one of the world's hottest exchanges. The abundance of money has also fuelled a glut of domestic consumption, with ordinary Southeast Asians making the most of easy access to credit, and accumulating household debt.

Meanwhile, national economies, despite posting impressive growth, began showing signs of stress as it became clear that Southeast Asia could not simply forge ahead irrespective of the tough global conditions. As a result of the recession in the West and China's ongoing economic readjustment, Southeast Asia has been exporting less; market weakness reduces the value of the commodities it sells. Even strong South-South trade, which had helped insulate the region's economies from the Western crash, has begun to cool, with Brazil and other major developing countries now experiencing slowdowns of their own.

In the first half of 2013, things have started to come to a head. Rajiv Biswas, Senior Director and Asia-Pacific Chief Economist at IHS, points in particular to the "destabilizing impact" of the quantitative easing programs launched by the U.S. Federal Reserve and the Bank of Japan; these have released additional money into the system, much of which has flowed straight into Southeast Asia. The problem is that these flows can quickly go into reverse - and investors could very rapidly pull their money out if the sentiment surrounding Southeast Asia cools. This has left Southeast Asia's currencies and stock markets vulnerable, says Biswas.

By Trefor Moss

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