Asia Needs a Regional Capital Market
William Pesek Jr. Bloomberg News
Tuesday, April 8, 2003

TOKYO With weak global growth, war and a mysterious respiratory illness spooking investors, Asia is realizing anew the need to build a regional bond market.

Last week, representatives from 16 Asia-Pacific countries gathered in Seoul to do just that. It is an important step for a region that is too dependent on bank borrowing. Investors should pay close attention: without a well-functioning bond market, Asia remains vulnerable to the kind of capital flight that was seen in 1997.

“It’s urgent to accomplish the goal,” says Kim Jin Pyo, the South Korean finance minister.

Here’s why. East Asian countries boast accumulated foreign exchange reserves of about $1.2 trillion and savings rates that exceed 30 percent of gross domestic product. The trouble is, most of that money flows into U.S. and European markets. That is especially true these days; investors have been leaving Asia in search of more liquid bond markets.

If Asia could only hang on to that money. For one thing, it might lead to less volatility in economies. For another, it would offer lower borrowing costs and more creative financing options to companies that now borrow from banks. Finally, selling debt in local currencies could shield Asia from problems across the globe.

The 1997-98 Asian financial crisis would not have been so bad if the region had had credible bond markets. As equities plunged, investors in Indonesia, Malaysia, South Korea and Thailand had few options other than leaving. If there had been liquid government, corporate or asset-backed securities denominated in local currencies to buy, perhaps investors would have stayed.

The region’s reliance on bank loans, which can be called in, and foreign borrowing, which became more costly to repay when Asian currencies fell, contributed to the financial crisis. Excessive dependence on bank and short-term foreign currency financing created serious mismatches of currency rates and debt maturity.

Asia’s bond markets have expanded since the late 1990s, but they are still illiquid. Creating bigger ones, where borrowers can trade and offer debt, would eliminate such risks. It could also reduce Asia’s dependence on dollar and euro borrowing. Hence the rising sense of urgency in Bangkok, Kuala Lumpur and Seoul to build well-functioning local debt markets.

It is less clear how that will be accomplished, though. Asian governments need to create some kind of credit-guarantee body that would ease investors’ fears about issuers defaulting on debt. Reliable settlement systems are needed. Also, Asian governments may seek to set up a regional credit-rating company to ensure transparency in their new markets.

Then there is the actual structure of the market. Some proposals favor a kind of joint market created from a pool of debt containing the bonds of regional governments. Others favor countries building individual markets, but with similar rules and securitization methods.

The details are less important than the effort itself. To varying degrees, governments have worked to repair the fragile financial systems and reduce the corruption that left them so vulnerable in 1997. Economies also cut short-term debt levels and issued as little foreign-currency debt as possible.

What has been missing, though, is regional cooperation on financial matters. Sure, Asian leaders and finance ministers talk a good game of working together, but there is rarely any follow-through on the policy side. Asians are realizing that the global economy has been polarized into three currencies - the dollar, euro and yen - and they need to work hard to stay relevant.

The dollar, for all its problems, is still the world’s reserve currency. The euro has come into its own as a unit of trade and finance; an increasing amount of debt is being denominated in the single currency. But unfortunately for Asia, the yen has less credibility with global investors because of how actively Tokyo controls it.

Japan’s constant, aggressive attempts to weaken the yen to strengthen exports hardly serve foreign investors. So when the region’s biggest, most liquid currency fails to pull in capital, regional economies can suffer. Hence the argument in Asia for a single currency to compete with the euro and the dollar.

A credible bond market could go a long way toward drawing more foreign capital to Asia. It also would help Asia open up a key source of capital that has been underutilized. The region, says Olarn Chaipravat, chairman of the Shinawatra University Council in Bangkok, will realize greater potential with “regional bonds by Asia, for Asia and in Asia.”

Small and medium-size enterprises would be among the biggest beneficiaries. These companies often go hungry for investment capital. Banks are far too preoccupied with older and larger businesses to lend to less established upstarts. Vibrant bond markets would give smaller companies more financing options, creating jobs and bolstering entrepreneurship.

In fact, entire economies would benefit. An Asian capital market is the next big step in the direction of self-reliance and regional integration that economies in the West have been pursuing for years.

As the Japanese vice minister of finance, Takayoshi Taniguchi, put it: “Well-developed Asian bond markets would serve to prevent the recurrence of a currency crisis and would also make a major contribution to attaining economic stability in the region, including stable currency values.”