The Changing Capital Markets of East Asia

Ky Cao, Ky Cao

• Publisher: Routledge
• Year: 1995
• ISBN:
  9781134806157
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

In recent years much attention has been given to the unparalleled economic development of East Asia. In The Changing Capital Markets of East Asia the contributors look at the growing sophistication of capital markets in this area and discuss the possible economic and political consequences. The theme of the book is more strategic than technical and

Chapter 1
Introduction

Ky Cao

THE EQUILATERAL TRIANGLES

Whether described as a Triad in Ohmae’s terms,¹ or the Three Thirties as in financial markets parlance, world economic activity has consolidated over the last decade into a three-legged phenomenon involving North America, West Europe and East Asia. Each region now commands more or less a third of total world GNP, hence the term Three Thirties’. Of the three regions, East Asia has attracted the most interest since it is the recent recruit, setting aside Japan, to the world’s prosperity club.

Before going into further discussion, it would be useful to define East Asia, or ‘the region’, for the purposes of this book. Technically, we are focusing loosely on the eight better known countries of East Asia excluding Japan, namely China (the PRC, Taiwan, Hong Kong, South Korea, Indonesia, Thailand, Malaysia and Singapore. These are not covered evenly, and not every one of them is included in each of the chapters that follow. The inconsistent availability of quality data between them has meant that some countries are bound to be less analysable than others in certain areas. Roc, Heij, and Hancock and Tower provide as broad a comparative cross-country study of, respectively, stock market development, taxation and accounting issues, as practicable. Others, by design, give a vertical look at specific issues in particular countries. Brooks discusses in depth the PRC’s equities market, backed up by Zhang and Zheng’s presentation of the PRC’s regulatory framework in the banking sector. Chu, on the other hand, describes the political economic change that has accompanied Taiwan’s financial deregulation over the past twenty years, while Lee and Tcha study South Korea’s recent foreign direct investment experience in Southeast Asia.

Australia comes frequently into the picture from a particular angle, that of belonging strategically and economically to the region as well as being the country where much of the research for this book has been done. References, at times extensive, to countries not included in the above ‘region’ are made for comparative purposes, in particular to Japan in Chapter 2. Japan’s special position is that of a superpower whose perceived alternative ‘Asian’ economic model had been touted in the 1980s as a contrast to the West, or the major English speaking economies of North America and Britain. This ‘alternative’ role model, and Japan’s obvious postwar success, gives the country a leading influence in shaping East Asian economic thought and development policy.

The structural change that Japan has undergone in recent years, however, has had a significant impact on the direction that many East Asian countries are taking with regard to capital markets development and economic integration. Although the structure of industrial organisation has always differed between Japan on the one hand, and China or East Asian NIEs (newly industrialised economies) on the other, surprise has been expressed in some quarters that Japan is not being seen as the role model for East Asia’s financial system development—as if it ever was. The China basin (Northeast Asia excluding Japan) and Southeast Asia have been undertaking fundamental and well documented political, social and economic change. How the emerging capital markets of the region fit into the patterns of international and regional economic integration, and the manner in which these markets reflect economic and socio-political change in the domestic economies, constitutes the subject of this book’s study.

In May 1993 a reputable team of analysts from the University of California, San Diego, forecast that the Pacific Rim countries (excluding Japan) that make up the Pacific Economic Cooperation Council (PECC) would grow by 4.2 per cent in 1993 and the same in 1994, up from 3.3 per cent in 1992. ² This would happen despite the perceived weak US and Japanese economies, which were expected to grow by 3.2 per cent and 2.3 per cent respectively in 1993, and 2.3 per cent and 3.2 per cent in 1994. China, on the other hand, was predicted to come in at 10.1 per cent in 1993 and 9.5 per cent in 1994. ‘This giant’s growth’, team leader Krause said of China, ‘is having a huge impact on the region,’ As it turned out, the team’s optimistic punting was actually an underestimation of the Asian ‘giant’, whose GDP growth reached 13.5 per cent for 1993 and caused a governmental clampdown on credit availability in early 1994.

Notwithstanding individual country forecasts, similar views concerning the region have been expressed before and since. The OECD’s 1993 Economic Outlook saw East Asia outperforming the rest of the world in the next year or two, predictions that were confirmed in its 1994 Outlook. The World Bank projected East Asia’s growth to continue to lead the world over the following decade, as shown in Table 1.1. East Asia gradually detached itself from the global (Western dominated) economy from the early 1980s, when the region developed its own momentum, generated partly by the Japanese upturn (the longest since Meiji and probably Tokugawa times) but mostly by its own transnational trade and investment activity. Time Australia, in a 1992 special survey of Asia, reported that Pacific Rim countries were their own best customers: about 65 per cent of Asia-Pacific trade was intraregional, compared to 62 per cent for the European Community, and ‘achieved without the discriminatory methods of the EC…’ It went on to say that, while the IMF had lowered its forecast of world economic growth in 1993, the Asian Development Bank predicted average growth among its twenty-five developing member nations at triple the world rate.³

The World Bank’s Chief Economist for the East Asia and Pacific region, V.Thomas, noted in late 1993 that imports by the Chinese Economic Area (CEA—consisting of China, Hong Kong and Taiwan) were almost two-thirds as large as Japan’s, and could exceed the latter by 2002. He added that in view of the structural ratios such as the share of population in agriculture, capital labour ratios, and natural resource endowments, CEA would still be at an early stage of development in 2002 and could potentially sustain a leadership role in growth for a long time.⁴

Table 1.1 Real GDP growth

Table 1.2 Stock market capitalisation, in US$ billion

Table 1.2 of course can only be viewed as a rough indication of a snapshot in time for the markets concerned. It does not provide performance details, when exchange rates are adjusted. The Tokyo stock market capitalisation went up by around 75 per cent during the two year period, although its true, exchange rate adjusted growth had been far less.

But data on relative stock market returns do point to the region’s detachment from the world trend. Tables 1.3 and 1.4 depict the contrast between the emerging East Asian stock markets and the recession-hit West in 1992. Similar results came from Greenwood, who used monthly data for the US and East Asia between January 1988 and August 1992 to create an efficiency frontier.⁵ His Asia stock was the Morgan Stanley Capital International Combined Far East (East Asia) which excluded Japan. As expected, the frontier showed that diversifying US funds into East Asia had the potential to raise return and/or reduce risk. For example, allocating 40 per cent of a US portfolio to East Asia could lift annual return by 1.5 per cent for a given level of risk, or diverting 20 per cent could raise return by 0.75 per cent per annum while actually reducing the risk level.

The West–East stock market divergence persisted into 1995–94. Far Eastern Economic Review (FEER) weekly data showed that exchange rate adjusted stock market index growth between the Morgan Stanley world index and Southeast Asian stock market indices remained uncorrelated in those years. Whereas the MS index recorded about 5 per cent return in the eighteen months to September 1993, the unweighted average return for Singapore, Kuala Lumpur, Bangkok and Jakarta indices was over 20 per cent.⁶

Table 1.3 IFC stock market index return: 1992

Table 1.4 Stock market performance: 1992

Our tests corroborated these funds management implications for investors. Figures in Table 1.5 were derived from the same FEER data and show how East Asia’s recent attempts at deregulating national financial markets have heightened certain markets’ volatility. While these figures do not show it explicitly, much of the increased volatility had resulted directly from domestic financial market liberalisation moves. It is not surprising that the Morgan Stanley world index had shown less volatility than individual Southeast Asian markets. The implied message is that portfolio risk could be cut by spreading investments worldwide rather than concentrating funds in Southeast Asia. This message complements Greenwood’s results.

Of interest are the covariances between Southeast Asian markets. They say that risk could be reduced not only by spreading investments between Southeast Asia and the rest of the world, it could also be done by allocating funds between certain Southeast Asian countries. For instance, the Bangkok SET and Kuala Lumpur indices record positive performance correlation while the SET and Jakarta Composite show negative correlation. Lack of correlation also characterises individual East Asian stock indices and Japan’s Nikkei. For example, while the Hong Kong Hang Seng surged over 1991–93, the Nikkei 225 remained strapped during this period around its lows after suffering a 50 per cent+decline from its 1990 peak.

East Asia’s cyclical detachment from the rest of the world has been accompanied by further intraregional economic integration. Japan, which had initially felt reserved about the APEC (Asia-Pacific Economic Cooperation) concept, has come to embrace warmly the idea of an Asia– Pacific economy.⁷ Among others, Japanese Diet member Tetsuo Kondo mooted the need for a great triangle of cooperation linking the ASEAN nations, Australia and Japan. In this vision, Japan would supply technology and capital, ASEAN natural and labour resources, and Australia both natural resources and technology.⁸ Here, Kondo was talking about the region from a resource endowment perspective, a partial and quite outdated picture given the rapid rises in NIE wage rates over the past decade.

Table 1.5 Stock market volatility

East Asia is well entranched in Western business perceptions as an Oriental El Dorado. The caricature of a region of high savings and investment returns made possible by diligent, well educated and growth driven workforces has not been too far off the mark. After a couple of postwar decades entrapped in political totalitarianism or authoritarianism, East Asia by the late 1970s had emerged bursting with energy. One billion Chinese are now on the march, not retreating.deep in the hinterland as in the 1930s, but forward towards the sea of open commerce where significant expatriate Chinese capitalist economies are operating with zeal. Taiwan, Hong Kong and Singapore have accrued in just two generations the sort of foreign reserves that are the envy of the bulk of the OECD.

On the left shoulder of the Chinese heavyweight dangles South Korea, an industrial power in its own right. Korea has transformed itself into a world class exporter of raw and rolled steel, commercial tankers and luxury cars. Along China’s southern flank lies Southeast Asia, the hub of non-Chinese (except for Singapore) states fragmented by history and ethnicities, yet united in modern times by a common fear of socialism and a shared yearning for economic progress.

Beyond geography, however, Southeast Asia’s economies have been driven historically by the Chinese minorities.⁹ Commercial development in the area has tended to go hand in hand with the establishment of the overseas Chinese migrant communities in those countries. Surveying the broader Asia-Pacific region as a contemporary economic phenomenon, it would be difficult not to remark on what indeed constitutes a salient feature of the region: the Chinese. It could equally be called ‘China-Pacific’,

This generalisation, although very tempting, would run the risk of overlooking East Asia’s other mosaic, the ‘strategic perceptions’ one. For although China and its ethnic diaspora account for a large portion of the Asia-Pacific economy, this Greater China is adequately balanced by Japan in the east and the non-Chinese Southeast Asian polities in the south. Politically, the non-Chinese carry a slightly stronger position than displayed in economic terms, part courtesy of the PRC’s underdeveloped superpower diplomacy.¹⁰ Most of the world’s multilateral developments are still initiated by the seasoned West. Despite Greater China’s status in landmass, population and more recently economic performance, the world’s monetary lever remains firmly in the hands of the Western based Group of Seven (G–7). This Western dominance is the more conspicuous when China’s GDP is related to others through purchasing power parity estimates, which rank the PRC second only to the US.¹¹

China’s rise in political and diplomatic status will likely be slower than its economic performance. This is because of the strategic interests that sometimes team up East Asia’s culturally diverse nations to keep subregions in check from one another. These strategic alliances are frequently overlaid on the region’s economic characteristics. Japan, perhaps, views itself as aligned more with Australia than with any other country in the region. This view does not rest just on Japan’s appreciation of its own stakes in a free trade world— overriding though this economic imperative is—a world that offers among other benefits Australia as a complementary trading partner endowed with resources that Japan lacks. Nor is it simply a reciprocation to Australia’s national interests as a small, relatively open economy in pursuit of the GATT agenda. The alignment reflects also the new realities that developed Western nations have come to reassess since the mid–1980s: the rise of mainland China as a very real economic superpower in the next century.¹² Constrained by its ambiguous position in Asia as a result of its imperialist past, Japan is carefully playing a contributory rather than leading role in continental Asia’s development. Most appropriate to its national interests, Japan is orchestrating an ‘open Pacific’.

China is rising in its own way to the economic challenge of the 21st century. Its leaders have proved to be adept at identifying the strikes that count the most. GNP growth since 1979 has been phenomenal. On the non-economic side, China has also been trying hard to accommodate change although it has refused to absorb the type of institutional change that scuttled the ex-Soviet Union and parts of East Europe. Beijing allowed the existing bureaucracies to turn themselves into capitalists, rather than let a completely new class of capitalists emerge independent of the former and of the military. Certainly, the private sector in China has boomed beyond predictions, with the non state-owned share of ...