Contagion could hurt Asia growth prospects

All options have not been exhausted to rule inevitability of Grexit

Capital controls imposed by Greece and the European Union’s preparations for a plan B in the event of a Greek default followed by an exit from the euro has increased the prospect of Asian emerging economies taking a hit from the fall out.

Analysts say the impact of a Greek default on Asia will depend on the extent of contagion.

“If the EU is successful in ring-fencing Greece, then contagion to the rest of the Eurozone may be limited. While there is likely to be initial turbulence in global financial markets and a flight to safe haven currencies and assets, notably to the US dollar and US Treasuries, the contagion effects to Asia may be limited if the rest of the Eurozone is successfully ring-fenced from the Greek exit,” said Rajiv Biswas, Asia-Pacific Chief Economist, IHS Global Insight.

However, in a more severe contagion scenario where vulnerable Eurozone countries such as Spain, Portugal and even Italy could be impacted by contagion and investor doubts about whether these countries might also eventually exit the Eurozone, the euro could depreciate more sharply.

Safe haven assets in focus

“Global financial markets could suffer more stress due to renewed uncertainty about the Eurozone outlook. In this scenario, a flight to safe haven assets could hit Asian emerging market currencies, equity markets and local bond markets as investors rebalance their portfolios to USD and US Treasuries,” said Biswas.

IHS estimates that the impact of a Greek exit with significant contagion effects would also hurt Asia, lowering GDP growth in the Asia-Pacific region by 0.3 per cent in 2016. The most vulnerable

Although Greek events take the Eurozone into unknown territory, the real risk is the fallout to other countries. Analysts say, the contagion effect so far has been limited at best.

“Italian and Spanish bond yields have been drifting higher in recent days but after jumping on the back of the news about Greek capital controls they are now retreating from recent highs. German bunds remain safe haven flavours of the month, but until we get another dire Greek headline even German Bund yields could stabilise,” said Kathleen Brooks, research director, UK EMEA at Forex.com.

Forex analysts say the market is obviously concerned with what is going on, but it is willing to sit back and wait to see how this plays out. “After all, there’s still a referendum in Athens that is scheduled to take place next Sunday, and we haven’t heard from the Eurogroup or European Commission to see if debt forgiveness is a real possibility,” said Brooks.