The Future of Asian Finance

Ratna Sahay, Cheng Lim, Chikahisa Sumi, James Walsh, and Jerald Schiff

• Publisher: INTERNATIONAL MONETARY FUND
• Year: 2015
• eBook ISBN: 9781498317191

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Part I: The Structure of Finance in Asia

Chapter 1. Introduction

Ratna Sahay, Jerald Schiff, Cheng Hoon Lim, Chikahisa Sumi

Asian economies are rich in diversity. Yet a common thread runs through them: In recent decades they have grown faster than have the economies of other regions. In fact, they now account for about 30 percent of the world’s GDP. Asian markets have expanded and they are more interconnected with each other and the rest of the world. A growing and vibrant middle class—the backbone of stable and sustainable growth—and continued prosperity will transform Asia’s growth models in the future. This growth will be driven more by domestic demand and consumption than by exports. Estimates show that by 2030, two-thirds of the world’s middle class will be in Asia.

The potential for expanding consumption is high, as it accounts for only 20 percent of the world’s GDP. A growing middle class with higher household incomes will demand a greater range of goods and services, especially financial services. The latter includes home mortgages and auto financing, working capital for more start-ups, equity financing as companies expand, trade credit for corporations going global, bonds to finance infrastructure, and financial products to provide stable incomes for retirees. Technological innovation, including mobile and Internet banking, is extending the reach of finance to rural and previously unbanked areas, leading to greater financial inclusion of low-income households and small and medium-sized enterprises.

Even as Asia continues to evolve and grow, however, pockets of uncertainty remain. After two lost decades of growth, Japan is making a concerted effort to tackle deflation and revive its economy through a three-pronged strategy—aggressive monetary easing, fiscal stimulus, and structural reforms. With an aging population and a large public debt, this task is not easy. China’s mighty economy is slowing, and given its prominence in global goods markets, its spillovers are already being felt in declining commodity prices. India and Indonesia are counting on their newly elected governments to improve governance, modernize their economies, and reduce the gap between rich and poor. Economic and financial integration of the Association of Southeast Asian Nations (ASEAN) economies, a region of more than 600 million people and a GDP of over $2.5 trillion, is promising. Low-income countries in Asia are also reforming to promote broad-based and sustainable growth, but they face a more unfavorable global environment than do Asian trail blazers that have now reached high-income status.

On a broader level, there are several reasons to be concerned: changing demographics in countries that were once major engines for growth, falling exports resulting from weak external demand, and infrastructure bottlenecks that are hindering total factor productivity growth. Despite a prolonged period of very low global interest rates, world events are stoking fears of “secular stagnation” and negative spillover to the rest of the world. These include sluggish growth and high unemployment in some major advanced economies, political turmoil in the Middle East, and the Russia-Ukraine impasse.

Set against these forces at play, what does the future hold for Asia? How will the region transform its long-standing growth model of a manufacturing hub to meet the evolving needs of the region and the world? There is no single answer or simple solution. Asia has many faces, with countries at different stages of development. This book considers one aspect—the role of the financial sector in facilitating Asia’s transformation. We argue that the financial sector will take on a bigger role than it has in the past and will, itself, become an engine of growth.

The financial sector will face many challenges, including:

• Better managing accumulated saving. An aging population in the countries that have been the region’s major engines of economic growth—China, Japan, Korea, and Singapore—will put increasing downward pressure on that growth. To help ensure adequate retirement saving and alleviate fiscal pressures, the large saving accumulated in these countries will need to be managed better.
• Efficiently mobilizing saving. As demographic changes occur and Asia becomes less of a net saver, a long-term global shortage of saving could develop. This could, in turn, cause long-term interest rates to rise. To counter this potential development, the financial sector will need to more efficiently mobilize saving and governments will need to adopt policy measures that encourage rebalancing from surplus to deficit countries.
• Investing in human and physical capital. Many Asian countries have a young population, and can expect a demographic dividend in the future. However, many are currently burdened with a high young-age dependency ratio and are in need of large-scale investment both in human (education, health, and training) and physical (transportation, electricity, and telecommunication) capital to reap the benefits of an expanding labor force and avoid development of a youth-unemployment problem.
• Deepening capital markets to escape a “middle-income trap.” Asian bond markets are still shallow and equity and venture capital play a limited role in corporate financing. Deepening capital markets to provide long-term and risk-sharing capital, reducing the dominance of state banks in several countries, and developing a domestic institutional investor base will help increase productivity, diversify sources of funding, and mitigate capital flow volatility.
• Supporting economic and financial integration of ASEAN. Most ASEAN countries are still at an early stage of development and have large infrastructure gaps. Establishment of an ASEAN Economic Community will provide opportunities for further liberalizing inter- and intraregional flows of goods, services, and capital. The financial sector can play a critical role in supporting integration initiatives and help unlock growth-enhancing cross-border flows of capital.

Rapid growth of the financial sector can, in itself, pose risks. Although Asian financial markets showed remarkable resilience during the global financial crisis of 2008, they are becoming bigger, more complex, and interconnected. At the same time, global regulatory reforms are also creating domestic and cross-border challenges for markets and regulators alike. The implementation of this agenda is influencing market structures and liquidity, financial products and flows, the size of banks and shadow banks, financial safety nets, and resolution frameworks. Asia will need to adapt to and influence these changes and be ready to manage emerging risks.

Understanding how this process will work requires looking deeply into Asia’s financial systems, at what they have in common and how they differ, at why they proved so resilient to global financial shocks, and at how successful they have been at deepening and diversifying their financial services. It also requires digging down into how these issues affect the financial sector, and how market participants, supervisors, and households in turn react. Many of these questions have been raised in some countries, but in this book we try to look at them for various countries across the region, drawing insights for the high-income countries and financial centers, along with emerging markets and, when possible, low-income countries as well.

In this book, we adopt a chronological approach by first taking stock of the current state of play in Asia’s financial sectors. We then assess how they must adapt to support the transformation of Asia’s growth models to become more service oriented and to meet the high expectations of its diverse populations. Finally, we consider the challenges that will need to be addressed in this process.

Three chapters in Part I describe the structure of finance in Asia. Chapter 2 presents an overview of Asia’s financial system and the next two chapters investigate how capital markets in Asia can be developed further to provide adequate stable funding for long-term investment and risk capital for innovation and entrepreneurship.

In Chapter 2, “A Bird’s-Eye View of Finance in Asia,” Heedon Kang, Phakawa Jeasakul, and Cheng Hoon Lim describe Asia’s financial systems. As home to about half the world’s population and highly heterogeneous economies, Asia’s financial systems are quite diverse, ranging from global hubs for securities and derivatives trading to low-income economies where financial services have yet to reach much of the population.

Yet across the region, there are some striking similarities. Asian banking sectors tend to be large, constituting about 60 percent of the aggregate assets of financial institutions across the region. The role of government in banking is significant. Asian banks tend to be quite conservatively run—they focus on commercial lending, their liabilities are dominated by deposits rather than wholesale funding, and they tend to be well capitalized. Financial inclusion, as measured by access to finance by small and medium-sized enterprises and households, tends to lag other regions.

The simple and risk-averse business model was a strength going into the global fina...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Contents
• Foreword
• Contributors
• Part I The Structure of Finance in Asia
• Part II Where Is Asia Going?
• Part III Challenges Ahead
• Index
• Footnotes