There is no question that Asian countries are in better shape to deal with capital flight now than they were in the Asian financial crisis, or even 2008 – but they need to be better.
Asia’s economies represent strong and sustainable GDP growth, low levels of sovereign debt, high foreign-currency reserves and, in many cases, stout budget surpluses, but capital continues to flee these markets when things get bad in the US and Europe.
Asian stock market investors see this as a crushing injustice, but there it is. Across the problem nations in 2011, the Dow gained 5.6%, the S&P500 was flat, the FTSE100 lost 5.6% and Germany’s DAX lost 14.7%. Yet emerging markets were down 20%, as was Hong Kong’s Hang Seng index. And of the mighty Asian Brics, the supposed engines of global growth, China lost 18.2% in US dollar terms – worse in RMB – and India 37.1%.
So long as Asian markets remain risk-on bets to global portfolio managers, this is going to keep happening, both in equities and debt. It is more important than ever for the Asian nations with free market access to be ready for it.
This is because foreigners have built up unprecedented positions, in particular in Asian government debt. By August, foreigners accounted for 36% of all Indonesian government debt in rupiah, for example, and there are high levels of foreign engagement in other markets, such as Malaysia and Thailand. The fear has long been: what if it all goes away again? And, if the European situation turns for the worse, there is every chance that it will.
There was something of a test case in September, when a period of dollar strength, related to fears about Greece, led to a decline in most Asian currencies and a correction in bond yields. Capital started to leave.
In Indonesia, the most closely watched, the foreign ownership level fell from 36% to under 30% in weeks.
Indonesia spent about $10 billion of its reserves to defend its currency and brought to bear an elaborate set of initiatives to keep support in government bonds. Not only did it succeed in stabilizing the markets, it also sent an important message that it was going to back its assets. The absence of such a message in 1997/98 saw a sevenfold collapse of the currency in weeks.
Malaysia’s central bank argues that the maturity of the financial system, from the banks and asset managers to the local capital markets, means the system is more able to intermediate flows, in or out, without broader damage to the marketplace or panic. Similar arguments are made, with variable plausibility, in Thailand and the Philippines.
Asian nations today can handle volatility; they can handle shocks, even distant crises. But something as systemically vast as the collapse of the euro?