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Amber alert across Asia, but not red
Publication Date : 23-09-2013
Despite some slowdown, odds of a widespread financial crisis are low.
The economic picture in many Asian markets may not be looking all that bright right now but suggestions that we are heading for a repeat of the 1997 Asian financial crisis are grossly exaggerated.
It is true some countries are having problems, says Selena Ling, head of treasury research and strategy with Singapore's OCBC Bank, but she does not think we are heading toward another Asian meltdown.
"I think calling a currency and economic crisis at this juncture is missing the point somewhat, even though risks persist," she says.
She says Asian economies, despite some problems, are on a much firmer economic footing than they were in 1997.
Paul Gruenwald, Standard & Poor's Asia-Pacific chief economist, agrees. He said in a statement: "The road may be rocky in the near term, particularly for the largest deficit countries such as India and Indonesia, but we don't think this is the Asian crisis all over again."
Analysts say much of the market turbulence that has taken place on Asian and emerging markets in recent months is being driven primarily by hints that the US Federal Reserve could start winding back its massive US$85 billion in monthly bond purchases as early as this month.
Coupled with this, there have been a number of recent cuts in Asian growth forecasts, including China.
In July, the Asian Development Bank lowered its growth forecasts for developing Asia for 2013 and 2014, citing a softer outlook for China, the world's second-biggest economy.
The Manila-based bank lowered its growth forecast for developing Asia by 0.3 percentage points to 6.3 per cent in 2013 and 6.4 per cent in 2014.
It cut its growth estimate for China by 0.5 percentage points to 7.7 per cent and 7.5 per cent this year and the next. Although below 8 per cent, this is still a respectable growth number.
"The financial markets appear to be in the midst of pricing in a different path for US monetary policy," said Standard & Poor's Gruenwald.
"During that process, we are likely to see bouts of volatility in emerging Asian economies, along with weaker currencies, lower asset prices and subdued sentiment and growth. But, in our view, this is not a repeat of the 1997 Asian financial crisis.
"The external positions for the emerging Asian economies are much stronger. The central banks are also not defending their exchange rates. In addition, the increase in leverage over the past five years has been moderate in the economies with high external risks," Gruenwald said.
After years of economic boom, many Asian economies are now starting to show signs of stress; most notably India, Indonesia, Malaysia and Thailand, which have all seen widening current account deficits and slowing growth.
In India, the rupee is in free fall, having lost around 30 per cent of its value against the US dollar since May, while the stock market has not fared much better. At the same time, the current account deficit stands at around $70 billion — 3.7 per cent of GDP.
In Indonesia, the current account deficit continues to widen, pushing the rupiah to its lowest level since 2009.
Thailand, which triggered the Asian financial crisis in 1997, has slipped into recession, while Malaysia is considering whether to introduce a goods and services tax by 2015 to curb its fiscal deficit.
The Thai government recently downgraded the country's expected growth rate for 2013, from 4.2 to 5.2 per cent to 3.8 to 4.3 per cent. Thailand reported growth of 6.4 per cent for 2012.
The country's economy contracted unexpectedly 0.3 per cent in the June quarter, following a 1.7 per cent fall in the first quarter, indicating a recession.
These are the first two consecutive quarters of negative growth in Thailand since the initial phase of the global financial crisis, when the economy contracted by 5 per cent in the final quarter of 2008 and 2.5 per cent in the first quarter of 2009.
The Thai currency, the baht, has dropped to its lowest level in three years against the US dollar. The current account has dramatically changed from a surplus of $1.3 billion in the first quarter of 2013 to a deficit of $5.1 billion in the second quarter.
Indonesia recently hiked both its benchmark policy rate and overnight deposit rate by half a percentage point to shore up the rupiah and reduce domestic demand. The government has also announced a raft of policy measures to reduce the current account deficit.
The problems facing Asia and emerging markets, however, are not entirely of their own making.Now that the economic dark clouds that have hung over Europe for years are starting to clear and with the economies of Japan and the US starting to show new signs of new life, the so-called hot money that flooded into emerging markets is now rushing back out to what The Economist described as the "perceived safety of rich-world assets".
But unlike 1997, Asia now has China, which has become the region's most important market. But even as China's growth slows slightly, the ripple effect is nonetheless hurting some Asian markets.
Is it enough to trigger another financial crisis?
OCBC Bank's Ling sees some similarities such as the risk of capital outflows triggered by a tapering of quantitative easing, as printing more dollars is known, in the US.
She says there are the "deteriorating economic fundamentals", such as current account weaknesses, credit booms and asset price inflation.
Some of these worsening economic fundamentals are now starting to be seen in India, Indonesia and Malaysia.
But there are a number of differences between what is happening today and back in 1997, Ling says.
"Foreign reserve levels are significantly higher and outweigh external debt by comfortable margins," she says.
"Macroprudential measures have been prevalent, limiting the risk of a sharp asset price correction when interest rates normalise, made another difference.
"The risk of a domestic-triggered systemic banking sector crisis is less today than it was back then, while unemployment levels are low and household balance sheets are healthy."
Ling says that currencies are free-floating and can partially buffer against any external shocks while swap line facilities are also available.
"Some are harkening back to the 1997 Asian financial crisis as if it's about to happen again in 2013," she says. But although there are some risks, Ling believes that the chances of a similar crisis are low.
"Asian economies have been on a steamroller boom for the last three-plus-years since the 2008 global financial crisis."
Many economies in the region are fundamentally on a much firmer economic footing this time round, Ling says.
But she adds that stories featuring elevated foreign positioning in local currency government bond markets — currently more than 30 per cent in Malaysia and Indonesia — and credit booms accompanied by asset inflation, do not usually have a happy ending.
Ling says that she would characterise the current bout of risk-off for emerging markets and Asian economies as "more like an unwinding after very strong QE-fuelled liquidity inflows into the region".
"With the Fed contemplating QE tapering and the US dollar to gain more traction amid rising US Treasury bond yields, the carry proposition is very different," she says.
"Risk premiums likely have to rise for emerging market countries, given that China is serious about its reform agenda and deliberately shifting to a more sustainable medium-term growth trajectory, which will have serious implications for regional growth, especially from the intra-regional trade angle.
"But this is not to downplay the risks within Asia, namely that the credit booms and rapid asset price inflation may mean leaner days ahead for the economy and banking systems when correction hits."
But Ling reiterates that the Asian banking systems are more resilient and robust compared with 1997, and that macroprudential measures have featured prominently in recent years.
"So while non-performing loans may rise somewhat with any significant price correction, a systemic domestic banking crisis looks less likely to arise from domestic factors."
Ling adds that the deteriorating current account balances for selected countries, such as India, Indonesia, and possibly even Malaysia, remain bugbears for now.One bright spot in the region is the Philippines, which recently saw its growth expand at a higher 7.5 per cent in the second quarter — the fourth consecutive quarter when growth has been above 7 per cent.
"A current account surplus, a high level of foreign exchange reserves and low foreign currency debt mean the Philippines is in a good position to cope with the turnaround in investor sentiment," Capital Economics, a macroeconomic research institute, said in a recent note.
Looking at the wider region, the head of Asian economic research for HSBC, Frederic Neumann, believes that even with the cracks, the current jitters are unlikely to evolve into a classic financial crisis.
"It's easy to draw parallels to 1997. But that would be misplaced," Neumann told The Sydney Morning Herald recently.
"Climbing US rates in themselves are not sufficient to knock out the region's financial system and spark a crisis that many apparently fear. At the same time, high leverage renders Asian growth a lot more sensitive to global financial conditions than in the past."
He also referred to how financial conditions have "undoubtedly tightened".
"The result is that growth will limp along, unlikely to accelerate sharply any time soon. In most markets, debt levels are higher than in 1997, or at any time in the previous two decades.
"Higher funding costs, even if not prohibitive, are bound to weigh on growth. And there is little central banks can do to offset this — nor should they, for their primary objective must be to curb even greater financial excesses rather than to boost growth artificially."