NIKKEI ASIAN REVIEW
Facing mounting financial pressure, Asian leaders will rue failure to reform sooner
October 10, 2018
The best time to plant a tree is 20 years ago, goes the old adage. The second-best time? Now.
Timber-rich Indonesia does not suffer from a lack of forests. But officials in Jakarta are definitely ruing their failure two decades ago to put down the roots of a better economic system.
With the rupiah plumbing its 1997-1998 depths, now is as good a time as any for President Joko Widodo to step up efforts to cultivate a better foundation for Southeast Asia’s biggest economy.
Indonesia is not alone in this regret. As Donald Trump’s trade war slams China, and emerging markets quake anew, Thailand and the Philippines are reliving the ’90s. The former faces liquidity shortfalls; the latter a currency in free fall.
Nor are Indonesia’s technocrats starved for advice. Policymakers, financiers and business people are on the resort island of Bali this week for the annual meetings of the International Monetary Fund and World Bank. Among the many questions they are tackling not the least important locally is whether it is already not too late for Southeast Asia’s weakest links to take remedial economic action.
One reason to worry is that Asia is behind the curve, in the face of the specter of a huge spike in U.S. yields that destabilizes markets everywhere. In recent days, the 10-year Treasury rate jumped to 3.25%, the highest since May 2011. Morgan Stanley issued a “mea culpa” on its view debt yields would remain stable.
You will recall it was Morgan Stanley that listed a “fragile five” — Brazil, India, Indonesia, South Africa and Turkey — in 2013, the last time developing nations panicked over U.S. borrowing costs. Then it was fear the Federal Reserve might over-tighten. Now, it is bond vigilantes giving Asia’s emerging markets pause.
These are the shadowy characters who protest against fiscal and monetary policies they deem dangerous. Their weapon: bidding up government yields as a warning to public officials. The government in their sights, it appears, is U.S. President Trump’s — but the fallout could slam Asia.
Ten months ago, Trump’s Republican Party tossed $1.5 trillion of tax-cut stimulus at an economy already near full employment. More recently, it okayed spending increases that put Washington’s budget deficit on course for the $1 trillion mark. The assumption by Trump’s White House is that China, Japan and America’s other Asian bankers will continue gorging on its debt. Perhaps not, the bond vigilantes are suggesting.
That would alter Southeast Asia’s calculus significantly. The IMF’s most recent Global Financial Stability Report makes for sober reading. It warns that, 10 years after the “Lehman shock,” large challenges loom for the global economy to prevent a second Great Depression.” Blunt language from a hyper-cautious institution, talk that seems at odds with its 3.7% projection for global economic growth in 2018, down marginally for an earlier 3.9%.
A separate report this week from the Washington-based Institute for International Finance helps connect the dots. Titled “How Vulnerable is EM Asia?,” it seeks to allay concerns that the region is cascading toward another 1997-like crack up.
Indonesia, and developing Asia generally, planted a fair number of trees these last 20 years. Financial systems are stronger, governments are more transparent, currencies are more flexible, foreign exchange reserves are ampler. The lines between public and private sectors were drawn a bit more clearly.
Yet the speed with which India, Indonesia and the Philippines find themselves back on the brink in the markets raises troubling questions. The IIF’s numbers provide a key answer. On the one hand, it is a bit less optimistic on global growth, forecasting 3.1% for 2019 as emerging markets gyrate and Trump’s actions intensify. On the other, government debt levels globally have increased an astounding $29 trillion in less than two years to $247 trillion.
As of the first quarter, IIF points out, the debt-to-gross-domestic-product ratio for government IOUs around the globe is now 318%. This unprecedented burden is weighing on market psychology at the same time the World Bank warns of liquidity problems in Indonesia and Thailand, the places most affected by Asia’s late ’90s meltdown.
Increased capital outflows pose “potentially disruptive implications for business operations and solvency on the corporate side, and for deficit financing and debt sustainability on the sovereign side,” the World Bank said in an Oct. 4 report. As of last week, foreigners yanked a net $6.6 billion out of Thai equities and about $3.7 billion from Indonesia.
The exodus could accelerate for any number of reasons: new Trump tariffs, a sudden downshift in Chinese growth, rising U.S. debt yields. The first two risks are largely priced into world markets. Since slapping taxes on $250 billion of Chinese goods, Trump has telegraphed upping the ante as high as $505 billion, the amount of goods China sent to the U.S. last year. Chinese data on imports, industrial production and fixed-asset investment, meantime, signal a slowdown is afoot.
Surging Treasury yields would raise the stakes considerably. When the IMF mentions the “D” word, it is eyeing trigger points like Italy’s debt, China’s bubbles and Southeast Asia’s liquidity challenges. A sudden and disorienting reappraisal of the linchpin asset of global finance could boost 10-year yields to 4%, 5% or more. It could shake the U.S. housing market anew and imperil Washington’s remaining AAA ratings. That would create entirely new control problems from Rome to Beijing and Jakarta.
Already developing Asia faces a volatile mix of threats to economic stability: trade wars, risk-averse investors, rising populism, institutional weakness and geopolitical tensions related to everything from territory to natural resources.
Southeast Asia also faces net capital outflows and worsening balance-of-payments dynamics that dramatize how “downside risks to the outlook are intensifying,” warns Yasuyuki Sawada, chief economist at the Asian Development Bank.
It is high time governments in Jakarta, Manila and New Delhi addressed their current-account and budget deficits. They need to accelerate investments in infrastructure, education and increase innovation and productivity. They also need to batten down the policy hatches for headwinds coming from both Washington and Beijing.
Asia should plant more trees, and fast.
William Pesek is an award-winning Tokyo-based journalist and author of “Japanization: What the World Can Learn from Japan’s Lost Decades.” He was given the 2018 prize for excellence in opinion writing by the Society of Publishers in Asia, for his work for the Nikkei Asian Review.