Cambodia's economy is expected to remain stable this year as uncertainty surrounding China’s economic slowdown appears to ease, and backed primarily by strong performance in garment and footwear manufacturing, as well as construction, the Asian Development Bank (ADB) said yesterday.

In its flagship annual economic publication, Asian Development Outlook 2016, the bank’s economists forecast slightly lower expectations for Cambodia’s economic growth, projecting 7 per cent GDP growth this year, down from 7.2 per cent announced last September. It said 2017 could see a moderate level of growth of 7.1 per cent.

“With continued expansion in industry and services, diversification in garments and light manufacturing sectors and in export destinations, Cambodia is expected to exhibit robust economic growth over the next two years,” said Samiuela Tukuafu, ADB country director for Cambodia.

Despite competition from other low-cost destinations, ADB senior country economist Jan Hansen said Cambodia’s garment and footwear industry continued to perform well. The industry’s growth accelerated to 9.8 per cent last year, and is expected to decline slightly to 9.5 per cent in 2016.

While construction slowed from 2014, it remained strong at 19.2 per cent growth last year, with the expectation that it will continue to ease in 2016. Meanwhile, strong domestic demand for real estate services saw the sector grow by 12 per cent last year.

Agriculture, which accounts for about 30 per cent of Cambodia’s $18.5 billion GDP in 2015, recorded just 0.2 per cent growth last year. ADB economists attributed the tepid performance to the El Niño meteorological phenomenon, which resulted in late rains and drought, and predicted the sector would likely bounce back to 1.2 per cent growth as climactic conditions ease.

Nevertheless, the report warned that external risks remain if there is disappointing growth in major export markets under a strong US dollar, while weaker than expected growth from China trickle down through investment, banking and tourism channels.

“Given its high degree of market openness, Cambodia is particularly vulnerable to spillover effects from its major economic partners,” warned Hansen.

On the domestic front, the speed of financial deepening and credit growth amongst banks and MFIs has outpaced other Asian countries during their economic expansion, said Hansen.

However, this has also stretched thin the supervisory capacity of banking and financial regulators.

And as banks and MFIs have become increasingly reliant on external funding, increased “volatility in global financial markets could exacerbate funding costs and liquidity pressures”, he said.

The report urged that although gross international reserves rose by 16 per cent to $5.1 billion, or the equivalent of 4.4 months to cover imports, “it is better to save in a boom and spend in bust,” remarked Hansen.

While the government significantly opened up fiscal space with the 2016 budget targeting a fiscal deficit of 4.3 per cent of GDP, Hansen said that “efforts to build policy buffers and resilience should continue”.

However, with the Cambodian economy being highly dollarised, the country remains highly vulnerable to external shocks.

“The room for economic policies to stop external shakes is limited due to high dollarisation and a lack of monetary control,” he said.

While the report also noted that Cambodia has the ability to capitalise on a shift within China as it becomes a more consumer-oriented economy and manufacturing moves to Southeast Asia, Cambodia’s base for growth remains narrow.

Cambodia’s typical growth model built on attracting FDI through inexpensive, low-skilled labour may not be viable for much longer, the report read.

“To sustain growth, Cambodia needs to further diversify its economy and provide further opportunity for employment by attracting new industries,” said Tukuafu.

Stephen Higgins, managing partner of Cambodia-based investment firm Mekong Strategic Partners, said looking beyond low-skill industries is crucial.

“While it has worked well for Cambodia so far, and will continue to do so for the next few years, in the longer-term it only works if you have failed to upskill your population, and failed to improve wages,” he said, adding that the government does not want that outcome.