“Prolonged global financial market volatility, a rise in risk aversion along with re-pricing of credit risk could lead to a reversal of capital flows into the region,” says Jong-Wha Lee, Head of ADB’s Office of Regional Economic Integration.
The current global credit market turbulence is the first test of innovative financial instruments that have been used to distribute risks in globally interconnected markets and where reverberations can spread at an alarming speed.
While the impact on emerging East Asian economies and markets has so far been limited, a sharper slowdown in global growth and tighter credit policies could damp both household and corporate spending, reduce new issuances and delay those already in the pipeline, adds Mr. Lee.
ABM highlights the need for improved transparency in credit markets through better valuation and accounting of off-balance sheet instruments, strengthening of risk management and enhancing the enabling environment for local currency bond markets. It recommends stronger regional cooperation in monitoring and regulating financial markets and in developing financial institutions’ risk management techniques.
Continued policy reforms and liberalization of bond markets in emerging East Asia has led to several sovereign credit rating upgrades, a move that augurs well for more rapid expansion of the region’s bond markets, which are growing faster than gross domestic product in most markets.
ABM says the value of local currency bond markets in emerging East Asia rose 9.9% in the first half of 2007 from US$2.7 trillion outstanding at end-2006 and is up 17.2% from June 2006.
Foreign exchange gains lifted the dollar value of bonds in most economies. Government local currency bond markets grew 10% in the first half of the year, partly because central banks issued more debt to absorb excess liquidity derived from the region’s large capital inflows.
After outpacing government bond market growth for the previous 18 months, corporate bond markets in emerging East Asia grew at a slower pace in the first half of 2007 partly due to the rising cost of short-term finance.
Yield curves generally steepened in 2007, reversing a two-year trend, as short-term rates fell while long-term rates rose as inflationary pressures emerged in many markets. The report warns that although inflationary pressures remain manageable in most economies, any further overheating could pose a significant upside risk and push bond yields lower.
Despite turbulence in global credit markets, the ABF Pan Asian bond index gained 5.4% in the nine months to September 2007, compared with full-year returns of 13.64% in 2006.
ABM examines local currency bond developments in Emerging East Asia, defined as the Association of Southeast Asian Nations member countries, plus the People’s Republic of China, Hong Kong and the Republic of Korea.
