Transparent capital markets stretch across ASEAN borders replacing the secrecy of banks, local-currency bond markets reducing risk of currency and maturity mismatch. Capital markets in Asia are set to rise in prominence as the global financial crisis of 2008-09 has turned future world economic development into a tale of two halves.
The half of the advanced markets is set to grow much more slowly, with the half of the emerging markets enjoying substantially faster expansion. This will open up opportunities for Asian capital markets to take away some of the business and roles of advanced markets.
The slow but calculated move to raise the international usage of the Chinese yuan is a case in point. It will define the future of Hong Kong and other centres. In the long run, the yuan could even become the core currency around which other Asian currencies revolve. The more Asian countries become part of the same supply chains with China, the stronger the role of the yuan.
Beyond currency, there are other key drivers for more rapid capital market development in Asean. What are they? First, the move toward the Asean Economic Community will lead to more intra-regional trade in goods and services. A lot of financing will be required, and it will have to expand beyond the banking channel into the capital market channel.
Second, we must encourage Asean economies to invest more in each other. In the past, countries invested surplussavings in advanced markets only to see them recycled into countries with deficits. Asean investors need to get more comfortable with Asean financial products.
Third, the Asian Crisis of 1997-98 showed that capital markets can be much better than banks in allocating scarceimported capital to deserving projects. Because bank lending is a secret between a bank and its customer, it can easily lead to overinvestment and overcapacity.
Capital markets, on the other hand, are transparent. Resource allocation is based on comparative risk and return. They face public analysis by stockbrokers, financial advisers, the media, credit rating agencies and others. Investors know your future business plan and also those of your competitors. Overexpansion will be stopped in its tracks.
Capital markets can help with risk management too. The existence of local-currency bond markets lessens the risk of both the currency mismatch and the maturity mismatch. But the most important key driver for capital market development is actually the need for a liquidity crisis tool.
In Thailand, the 1997 crisis started with finance companies. Soon, banks stopped lending to finance companies. Then, large Thai banks stopped lending to small Thai banks. Finally, foreign banks stopped lending to Thai banks. In the end, even industrial companies demanded cash before delivery.
In that situation, the Bank of Thailand had no way to act as the lender of last resort. Whatever liquidity it put in stayed only at the banks that had no need of it. The banks that had a need had run out of market instruments a long time ago.
The Bank of Thailand had no choice at that time but to lend money to the finance companies directly through theFinancial Institutions Development Fund. They took in boxes of loan contracts. But it was only for superficial comfortbecause the law required debtors' consent to legally transfer the loans, which was impossible to do at the height of the crisis.
A large part of the loans went bad, and the central bank was heavily criticised. Some of its executives and staff were publicly investigated and ridiculed. It is ironic that in the global crisis in 2008-09, all the big advanced countries did exactly the same things as Thailand and other Asian economies had done a decade earlier. All the central banks in Europe and the US went in to rescue their banks. All were rescued except poor Lehman Brothers.
In hindsight, the criticism to the Bank of Thailand was harsh. A law has since been passed to prevent the central bank from making such unsecured lending again. So what will happen when there is the next financial crisis without the FIDF, the only way for banks in Thailand to look after them is to speed up development of the bond markets.
Banks must have more instruments on hand that they can always sell in the market regardless of their reputation. For the Asean capital market development agenda, there is no key driver as important as this one.