Joep Huntjens, Head of Asian Fixed Income at NN Investment Partners
The Asian financial crisis marked its 20th anniversary in July this year. Thanks to extensive reforms, the region has since strengthened its defenses against financial shocks. The crisis in 1997 was precipitated by factors such as fixed or semi-fixed exchange rates, large current account deficits and poorly supervised foreign borrowing. Today, most Asian economies enjoy sizeable current account surpluses and have built up extensive foreign exchange reserves to defend their currencies against speculative attacks.
Asia’s stronger fundamentals have helped the region weather other storms as well. In the 2008 Global Financial Crisis (GFC), Asia suffered from the fall in global trade along with the rest of the world, but it was largely spared the financial turmoil and seizing up of credit markets that plagued the US and Europe, thanks to credible monetary policies and fiscal surpluses. In another example, the plunge in commodity prices in 2015 caused the Malaysian ringgit to drop 19%, but the central bank was able to stabilise the currency and reduce volatility, thanks to its increased foreign exchange reserves and central bank policies that helped reduce speculative activity.
Much has changed since 1997, and none more so than the importance of China’s economy. Back then, China sat on the side-lines as its closed financial system shielded the country from Asia’s turmoil. Today, China is the epicentre of Asia, having grown to become the second-largest economy in the world behind the US and contributing about 40% to global growth. China’s ability to turn on the credit taps during the GFC in 2008 helped to cushion the global downturn.
However, China has not just become a source of growth and stability for the world. It is also a font of fresh risks; in particular, global investors are concerned that the country’s rapid build-up of debt – which rose to 250% of GDP at the end of 2016 – might herald a financial crash.
The good news is that the government is aware that its reliance on debt to fuel growth is not sustainable in the long term. Following better-than-expected first-quarter GDP growth this year, policymakers commenced deleveraging efforts once again. Interbank lending rates have risen, which have helped to dampen lending growth. Local bond issuances have also fallen. As a result, total social financing as a percentage of GDP, a broad measure of credit in the economy, declined slightly in the second quarter.
China appears serious about deleveraging. The likelihood of near-term interruptions has been reduced after China announced that the economy expanded at 6.9% in the second quarter, surpassing the government’s 6.5% annual growth target. President Xi Jinping is also readying for China’s five-yearly leadership reshuffle in the fourth quarter of this year, and is expected to consolidate power by appointing his allies to the top positions. All this puts China in good stead to sustain the momentum for painful but necessary structural reforms.
The current environment of steady economic growth and China’s orderly rebalancing is most advantageous for Asian credit. Corporate fundamentals stand to benefit from the stable backdrop, and we expect the default rate to remain low this year. Compared to other emerging market regions, Asian credit is less vulnerable to the shifting tides of global sentiment as about 80% of Asian credit is owned by Asian investors. These same regional investors tend to be less affected by global volatility, thus making Asian credit more stable.