The Hindu Business Line

The grow­ing pains of ex­ter­nal debt in Asia

The in­creas­ing im­por­tance of pri­vate bond hold­ers in such debt, even as cap­i­tal flows to the re­gion turn more volatile, is cause for concern

- CP CHAN­DRASEKHAR IS­TOCK Business · Finance · Asia · United States of America · China · Total S.A. · Indonesia · Philippines · Thailand · India · the Chinese government

The global cri­sis and sub­se­quent slow­down in im­ports of ad­vanced economies put a brake on the ex­por­to­ri­ented growth of de­vel­op­ing Asia, forcing many coun­tries in the re­gion to look for other sources of dy­namism.

The in­sta­bil­i­ties and vul­ner­a­bil­i­ties in the north­ern mar­kets were clearly the re­sult of the end of the debt­driven bub­ble in the US and some other Euro­pean coun­tries, and should have served as a stark warn­ing to other coun­tries to avoid such a volatile tra­jec­tory.

Iron­i­cally, how­ever, that was not the les­son that was ap­par­ently learned by eco­nomic pol­i­cy­mak­ers in de­vel­op­ing Asia. Instead, to en­able re­cov­ery from a cri­sis that was marked by the bust­ing of a credit bub­ble, Asian gov­ern­quite

ments chose to push their own mar­kets to ex­pand on the ba­sis of grow­ing debt rather than ris­ing wage in­comes.

Much of this was do­mes­tic debt, es­pe­cially di­rected to­wards re­tail credit for hous­ing and real es­tate, and bank credit to the con­struc­tion in­dus­try.

China pro­vides the most strik­ing ex­am­ple of this, with debt-to-GDP ra­tios more than dou­bling for all sec­tors: house­holds, cor­po­rates, provin­cial gov­ern­ments. But debt also in­creased sharply in sev­eral other Asian coun­tries.

The rapid in­crease of ex­ter­nal debt in the past decade has been less com­mented upon, but this is sig­nif­i­cant be­cause ex­ter­nal debt can pro­vide an ad­di­tional source of vul­ner­a­bil­ity for th­ese de­vel­op­ing coun­tries. Chart 1 in­di­cates just how rapid this in­crease has been. To­tal cross-border and for­eign cur­rency de­nom­i­nated debt of Asian de­vel­op­ing economies in­creased from $375 bil­lion at the end of the first quar­ter of 2007 to $1.394 tril­lion by the first quar­ter of 2019.

Struc­ture of debt

What is more, a sig­nif­i­cantly greater share of this ex­ter­nal or for­eign-cur­rency de­nom­i­nated debt is not just held by banks as credit in the tra­di­tional pat­tern: much more of it is now in the form of bonds held by pri­vate non-bank in­vestors. Chart 2 gives some in­di­ca­tion of this shift for par­tic­u­lar coun­tries.

By the last quar­ter of 2018, the share of to­tal ex­ter­nal debt held as securities by non­banks in­creased to 58 per cent in In­done­sia and 63 per cent in the Philip­pines.

In Thai­land it in­creased to 22 per cent from 14 per cent six years pre­vi­ously, while for In­dia the in­crease was from 7 to 21 per cent over the same pe­riod.

Why should this be a concern? Es­sen­tially this can be a prob­lem be­cause bond mar­kets are no­to­ri­ously fickle and can ex­pe­ri­ence large swings Net cross-border cap­i­tal flows have be­come more volatile and turned close to neg­a­tive for many Asian coun­tries

rel­a­tively small changes in per­cep­tion.

Bond mar­ket sell-offs can be rapid, and have caused both bal­ance of pay­ments and fis­cal prob­lems when­ever they oc­cur, as the bat­tered coun­tries of the euro zone pe­riph­ery can tes­tify.

So de­vel­op­ing coun­tries with such ex­po­sure can ex­pe­ri­ence prob­lems at much

lower lev­els of debt-to-GDP ra­tios.

This sud­den in­crease in ex­ter­nal debt lev­els is not only the re­sult of greater pol­icy will­ing­ness in devel­op­ment Asia to ac­cept such debt.

It also re­flects global push fac­tors, most of all the long pe­riod of loose mone­tary poli­cies in the form of more liq­uid­ity pro­vi­sion (quan­ti­ta­ton

ive eas­ing) and very low in­ter­est rates in the ad­vanced economies.

Be­cause of th­ese poli­cies, the world is now awash with liq­uid fi­nance seek­ing higher re­turns wher­ever pos­si­ble, and Asian economies have been among the ma­jor re­cip­i­ents of this mo­bile cap­i­tal.

In­deed, the risks in­her­ent in such re­liance have been

ev­i­dent as net cross-border cap­i­tal flows have be­come more volatile and turned close to neg­a­tive for many Asian coun­tries. Charts 3 and 4 pro­vide ev­i­dence of this volatil­ity in China and in other Asian de­vel­op­ing and emerg­ing economies.

Net out­flows from China have oc­curred in sev­eral pe­ri­ods since 2008, but they were sig­nif­i­cant be­tween early 2014 and mid 2017. Since then they ap­pear to have sta­bilised, largely be­cause the Chi­nese gov­ern­ment brought in var­i­ous cap­i­tal con­trols to pre­vent or re­duce cap­i­tal flight. It should be noted that China still re­tains many more weapons in its eco­nomic arse­nal to com­bat such cap­i­tal ac­count volatil­ity.

But the rest of the Asian re­gion as a whole also shows de­creas­ing net in­flows — and th­ese coun­tries mostly do not have the same in­stru­ments of con­trol at their dis­posal, or at least have cho­sen not to use them.

They are, there­fore, much more at risk of be­ing ad­versely af­fected by sud­den out­flows, in­clud­ing by bond hold­ers. And this is of­ten for no rea­son con­nected with their own economies, but be­cause of pol­icy changes and other events in the North.

This means that, in ad­di­tion to the un­cer­tain­ties in the Asian re­gion cre­ated by the on­go­ing trade war be­tween the US and China, there are real and grow­ing con­cerns about the cap­i­tal ac­count and ex­ter­nal debt vul­ner­a­bil­ity of sev­eral Asian economies.

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