FIS­CAL CHAL­LENGES CAST SHADOW ON POL­I­TICS

Financial Chronicle - - DIVE -

Much of Asia is vulnerable to an in­ten­si­fi­ca­tion and broad­en­ing of ten­sions be­tween the US and China, a source of geopo­lit­i­cal risk. For some APAC sovereigns, do­mes­tic pol­i­tics, in­clud­ing po­ten­tial changes in pol­icy pri­or­i­ties, are an ad­di­tional source of un­cer­tainty that could weigh on govern­ment credit qual­ity.

Vote-driven changes to fis­cal plans, in­clud­ing pre­vi­ous bud­getary con­sol­i­da­tion ob­jec­tives and/or mea­sures aimed at broad­en­ing the tax base, could call into ques­tion the ca­pac­ity and will­ing­ness to re­form, es­pe­cially as the growth and fi­nanc­ing en­vi­ron­ment be­comes more chal­leng­ing.

Vul­ner­a­bil­i­ties

Po­lit­i­cal and pol­icy pri­or­i­ties will also de­ter­mine the ef­fec­tive­ness of mea­sures to ad­dress bank­ing sec­tor – and in the case of In­dia, non-bank fi­nan­cial sec­tor – vul­ner­a­bil­i­ties. In some ad­vanced economies, untested poli­cies fo­cus­ing on in­come equal­ity, while ben­e­fi­cial to so­cial sta­bil­ity longer term, could be a drag on near-term eco­nomic ac­tiv­ity.

Elec­tions this year could re­sult in lead­er­ship changes but are un­likely to cause sig­nif­i­cant pol­icy shifts. As­sum­ing reg­u­lar elec­tion cy­cles, par­lia­men­tary elec­tions will be held in Aus­tralia, In­dia, In­done­sia, the Solomon Is­lands and Thai­land, in­volv­ing the po­ten­tial for lead­er­ship changes. Lo­cal elec­tions are due in Hong Kong, while the Philippines will hold mid-term elec­tions, with the en­tire lower house of Con­gress and half the Se­nate up for re­elec­tion, but there will be no lead­er­ship change.

Con­sis­tent with Moody’s do­mes­tic po­lit­i­cal risk scores for these coun­tries, the elec­tions are not ex­pected to re­sult in sig­nif­i­cant shifts in poli­cies that would slow near-term eco­nomic ac­tiv­ity, or al­ter sov­er­eign credit qual­ity. In Thai­land, where elec­tions are sched­uled to take place for the first time since the mil­i­tary took power in 2014, re­lated risks are lim­ited, par­tic­u­larly in light of the con­sti­tu­tion passed in 2017 that ties the new ad­min­is­tra­tion to the cur­rent mil­i­tary govern­ment's devel­op­ment strat­egy, in­clud­ing im­ple­men­ta­tion of the East­ern Eco­nomic Cor­ri­dor.

Fis­cal chal­lenges

Fis­cal chal­lenges have in­creased most no­tably in Malaysia and Sri Lanka. In Malaysia, the abol­ish­ment of the goods and ser­vices tax in favour of a nar­rower sales and ser­vices tax will shrink the govern­ment's tax base. In gen­eral, the govern­ment's fo­cus on supporting growth and in­comes of poorer house­holds is a fac­tor be­hind a slower fis­cal con­sol­i­da­tion path than pre­vi­ously pro­jected.

The ad­min­is­tra­tion is ex­pected to pur­sue fis­cal con­sol­i­da­tion from wider deficit lev­els. But should the govern­ment prioritise growth and pro­vi­sions to low-in­come house­holds fur­ther, Malaysia's fis­cal strength would weaken. In Sri Lanka, there will be con­tin­ued po­lit­i­cal ten­sion and dis­rup­tion to fis­cal and eco­nomic pol­i­cy­mak­ing to slow bud­getary con­sol­i­da­tion ef­forts and keep the govern­ment debt bur­den higher for longer.

Up­com­ing elec­tions could also weigh on fis­cal con­sol­i­da­tion in In­dia and hin­der the In­done­sian govern­ment's plan to widen the tax base. The im­pact of pol­icy choices on fis­cal out­comes would be more lim­ited in Aus­tralia, where we ex­pect bud­get deficits to con­tinue to nar­row de­spite a frac­tious po­lit­i­cal en­vi­ron­ment that has per­sisted for some time, and in the Philippines.

Bank­ing and fi­nan­cial sec­tor chal­lenges re­main in Bangladesh, In­dia and Viet­nam. Lend­ing by state-owned banks to state-owned en­ter­prises and/or to fi­nance pub­lic projects with low re­turns has long weighed on prof­itabil­ity and as­set qual­ity in all three of these economies. Non per­form­ing loans are high across state-owned banks in Bangladesh and In­dia, while a num­ber of these in­sti­tu­tions are un­der­cap­i­talised.

For Viet­nam, prof­itabil­ity and as­set qual­ity in state-owned banks have in­creased from low lev­els, but still-high credit growth raises the risk of boom-bust cy­cles. Sta­te­owned banks ac­count for more than 50 per cent of bank­ing sys­tem as­sets in In­dia and Viet­nam, and around 30 per cent in Bangladesh, pos­ing eco­nomic and con­tin­gent li­a­bil­ity risks to the sovereigns.

In In­dia, chal­lenges now ex­tend to non-bank fi­nan­cial in­sti­tu­tions (NBFIs), which are largely funded by whole­sale de­posits and ac­counted for 30 per cent of new credit over the past five years. A sharp slow­down in credit avail­abil­ity, should NBFIs ex­pe­ri­ence a liq­uid­ity squeeze, would raise do­mes­tic in­ter­est rates and weigh on growth.

Qual­ity of life

So­cial pol­icy tilt in Ja­pan and Korea, while fos­ter­ing more in­clu­sive growth, could weigh on near-term eco­nomic ac­tiv­ity. These two ad­vanced economies have started to place more em­pha­sis on so­cial wel­fare and qual­ity of life. Work­style re­forms in Ja­pan limit over­time to 100 hours a month for non-white-col­lar work­ers, and raise com­pen­sa­tion for part-time and tem­po­rary work to en­sure “equal work for equal pay” with full-time em­ploy­ees. Korea raised the min­i­mum wage by 16% in 2018 and re­duced the cap on the num­ber of hours worked per week to 52 from 68 pre­vi­ously. Korea's min­i­mum wage will in­crease by a fur­ther 11 per cent in 2019.

While im­prove­ments to so­cial wel­fare would re­duce po­lit­i­cal risk stem­ming from so­cioe­co­nomic chal­lenges such as in­come in­equal­ity over the longer term, these pol­icy mea­sures could weigh on near-term in­vest­ment and do­mes­tic de­mand, should higher labour costs lower busi­ness sen­ti­ment, re­duce profit mar­gins, and weaken job growth and busi­ness spend­ing. Com­pa­nies and labour unions alike have op­posed the new la­bor poli­cies and job growth has fallen sharply in Korea. New Zealand is also fo­cus­ing on the qual­ity of growth through its Liv­ing Stan­dards Frame­work, which in­cor­po­rates hu­man, nat­u­ral and so­cial cap­i­tal con­sid­er­a­tions in pol­i­cy­mak­ing. While the coun­try has a longer track record in im­ple­ment­ing so­cial wel­fare poli­cies, busi­ness con­fi­dence has fallen fol­low­ing the 5 per cent in­crease in the min­i­mum wage in 2018, with a fur­ther 21 per cent in­crease by 2021 planned.

Lam­badi tribeswomen pose with their ink-marked fin­gers af­ter cast­ing their votes in the Te­lan­gana state leg­isla­tive as­sem­bly elec­tion, on the out­skirts of Hy­der­abad last month.

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