Two scenarios for modelling the energy shock on Asian fixed income
High energy prices create challenges for Asian nations. We examine two oil price scenarios and examine how fixed income investors can best position themselves.
Key takeaways
- In our base case scenario, the impact of higher energy prices on Asia is manageable, but policy choices would lead to diverging outcomes across countries.
- If oil prices were to remain persistently high, fiscal buffers could come under pressure, growth risks would rise and some currency weakness could emerge.
- We see potential value in front-end Korean and Thai government bonds, while favouring a yield-curve steepening position for Indonesia and India. In currencies, we see relative value in the Malaysian ringgit and Chinese renminbi versus the Indian rupee, Thai baht and Philippine peso.
Asia has a high demand for energy, much of it imported from the Middle East. Conflict in the region is already impacting energy prices. How does this affect the outlook for investors in Asian fixed income?
Our base case scenario assumes that, notwithstanding recent price spikes, Brent crude will average USD 85 a barrel in 2026. For most Asian countries, this price level implies slower growth, rising inflation and a deterioration of external balances. However, we think the effects are manageable, with most nations able to smooth the shock through subsidies, tax adjustments and price controls.
A more extreme scenario, in which the oil price averages USD 120, could be more disruptive for production and trade – though the disruptions might offer opportunities for bond investors. In this article, we examine the possible impacts of these scenarios and share our latest investment views.
Why high energy prices are a challenge for Asia
There’s little doubt that higher energy prices affect Asian growth – empirical estimates suggest that a 10% increase in oil prices lowers regional GDP growth by between 10-20 basis points. Inflation also rises, with the largest pass-through typically seen in economies such as the Philippines and Thailand (Exhibit 1), although the extent varies with domestic pricing regimes. Higher energy prices also weaken external balances, with the largest current-account deterioration concentrated in economies such as Thailand and South Korea (Exhibit 2).
Exhibit 1: Impact of a 10% rise in crude oil price on CPI inflation (basis point)
Source: BofA estimates, AllianzGI Global Economics & Strategy, as of March 2026.
Exhibit 2: Impact of a 10% rise in crude oil price on the current account (% of GDP)
Source: BofA estimates, AllianzGI Global Economics & Strategy, as of March 2026.
Besides oil, Asia is a major importer of liquefied natural gas (LNG). With limited storage capacity and low inventory, LNG markets may be more vulnerable to physical supply disruptions than oil (Exhibit 3), making them a key risk in a prolonged shock. Economies such as China benefit from a higher share of domestically produced coal and renewables, providing a degree of insulation from global energy price volatility. In contrast, Japan, Korea and Taiwan remain highly dependent on imported fuels across the energy spectrum (Exhibit 4).
Exhibit 3: LNG inventory is much more limited than crude oil
E = exporter. Source: Morgan Stanley, estimates.
Exhibit 4: Share of energy consumption met by imports (2023)
Source: Morgan Stanley.
Tough choices for governments
So far, policymakers across Asia have prioritised shielding consumers, with governments and state-linked entities absorbing much of the initial shock. But if prices stay high, policymakers face a trade-off: either pass prices through to households, raising inflation, or allow the adjustment to occur externally through currency depreciation. Exhibit 5 displays how different Asian countries are positioned in this environment.
Exhibit 5: Where is the energy shock felt, and how are policymakers responding?
Source: AllianzGI, as of April 2026
Malaysia, one of few Asian countries that is a net energy exporter, is in a favourable position. China too is less vulnerable than its peers because of its diversified energy mix, larger buffers and controlled pricing regime. Japan and Korea remain energy importers, but their stronger fiscal capacity allows governments to smooth the shock for longer through subsidies, caps and other support measures.
In economies such as India, Thailand and Taiwan, however, we expect costs that have so far been borne by quasi-sovereign entities to migrate onto government and/or consumer balance sheets. Taiwan is planning to raise gas prices for industrial users, for example, while Thailand is considering borrowing to pay for oil subsidies.
In Indonesia and the Philippines, which have limited fiscal and external buffers, there is a greater chance the price shock will be transmitted through inflation, currency depreciation and ultimately monetary policy. That could put pressure on the short end of the yield curve.
Scenario one: risks are manageable at USD 85 a barrel
Our base case still assumes Brent crude averages USD 85 a barrel in 2026. At that price, we would expect policymakers in most countries to smooth the shock through subsidies, tax adjustments and price controls. For some economies, high pass-through from global to domestic fuel prices does raise the probability of second-round effects, particularly for those with less fiscal capacity to cushion shocks. In this context, we no longer expect the Philippines to ease monetary policy this year.
The main implication for bond investors is that we believe front-end rate tightening is overpriced for certain markets. Markets appear to expect a return to a 2022-style reaction function, in which central banks hike interest rates aggressively to combat inflation. But we think economic conditions broadly differ from 2022, with weaker growth and lower starting inflation. Here are some of our insights on sovereign bonds:
- In Korea and Thailand, we believe central banks are likely to be more dovish than market prices currently imply. We see potential value in front-end Korean Treasury Bonds and Thai government bonds.
- India is directionally similar, though we express the view more cautiously given the country’s greater sensitivity to weaker external financing conditions.
- The case is weaker in Indonesia and the Philippines, where external constraints may still require a more defensive bias.
- We recognise that persistent oil prices gradually shift the cost burden towards the fiscal balance sheet. This creates a mild bias towards yield curve steepening, particularly in Indonesia, Thailand and India, where subsidy regimes and fiscal risks are more pronounced.
- In currencies, we believe the Indian rupee, Thai baht and Philippine peso remain vulnerable on external balances, while the Malaysian ringgit and Chinese renminbi are relatively resilient.
Scenario two: oil stays at USD 120, more disruption ensues
Though it is not our expectation, we have also modelled the effects of a significantly greater energy shock, in which the oil price averages around USD 120 a barrel. At that level, the issue is no longer price alone, but the interaction between sustained high costs and potential supply constraints, particularly in LNG markets. The shock would become more disruptive to production and trade, raising the risk of rationing, electricity price adjustments and broader inflation persistence.
In this environment, a 2022-style tightening response is unlikely to repeat, and instead policy outcomes would likely diverge across countries. In higher-income economies with room for fiscal manoeuvre, such as Japan, Korea and Taiwan, central banks would be likely to delay or avoid monetary tightening, prioritising growth stability as the shock feeds through to production and demand. That would be positive for front-end bonds and curve steepening, as markets unwind overly hawkish expectations.
By contrast, in externally constrained economies such as Indonesia and the Philippines, the adjustment would likely occur through currency depreciation. This could feed back into inflation, forcing central banks into defensive tightening despite weaker growth. This could lead to pronounced depreciation in the Philippine peso, Indonesian rupiah, Thai baht and Indian rupee, while we would expect the Malaysian ringgit and Chinese renminbi to continue to outperform on a relative basis.
In this scenario, we would be:
- Underweight duration in Indonesia and the Philippines, due to more hawkish policy stances.
- In India and Thailand, we would consider a yield-curve steepening position, while in higher-income economies such as Japan, Korea and Taiwan, front-end bonds would become more compelling.
- Our currency positioning would likely shift to become more directional, favouring a long US dollar position against Asian currencies such as Philippine peso, Indonesian rupiah, Thai baht and Indian rupee.
Look beyond first-order effects to understand the energy shock
Higher oil prices in Asia are often framed through their impact on growth, inflation and external balances. While these first-order effects remain relevant, we believe the more important driver of market outcomes is how the shock is distributed across balance sheets.
For fixed income investors, the implication is that oil itself is not the tradeable variable. Rather, the focus should be on when and where the system is forced to adjust, and how that adjustment is transmitted across inflation, fiscal balances and exchange rates.