Asia's indebted firms face gloomy prospects

With China already on a rocky path, emerging market companies, with borrowings exceeding US$18 trillion, cannot afford a US slowdown

PUBLISHED : Sunday, 11 October, 2015, 11:40pm
UPDATED : Sunday, 11 October, 2015, 11:40pm

Poor United States jobs data for last month and lowered World Bank forecasts for economic growth in East Asia merely serve to bring into sharp relief the spectre of burgeoning emerging market corporate debt that has already caught the attention of the International Monetary Fund in its October 2015 Financial Stability Review.

The IMF reported that the corporate debt of non-financial firms across major emerging market economies had soared to well over US$18 trillion last year from US$4 trillion in 2004, with the accompanying higher leverage being also "associated with, on average, rising foreign currency exposures".

Asia's indebted corporates should not take much solace from the pushing back of market expectations for a Federal Reserve interest rate rise after the unexpectedly disappointing US employment data.

While the appeal of lower-for-longer near-zero US interest rates is understandable for any borrowers looking to service dollar-denominated debt, if last month's rise of 142,000 in US non-farm payrolls, well below the 203,000 expected by economists, is a prelude to weaker jobs data going forward, then that is a very real problem for Asia.

With the euro zone continuing to show only tentative signs of economic recovery, Japan's economy having shrunk in the second quarter, and China still navigating its choppy path to a new normal economic model, Asia's corporates can ill afford the US economy to falter too.

The Asian corporate debt burden would only become more onerous if prospects for selling goods to the US were to dim.

No doubt, many economies will ultimately benefit from last week's landmark Trans-Pacific Partnership trade deal, even though China was not a signatory, but for now the World Trade Organisation felt it necessary to lower its own world trade growth forecast for this year to 2.8 per cent from April's 3.3 per cent.

The IMF argues "that emerging markets must prepare for the implications of global financial tightening" but in reality, investors can choose to avoid or worse withdraw capital from emerging markets even when developed market interest rates still remain near zero.

For those investing into emerging markets, the grass is often only greener there as long as the turf is laid down on a soil of good consumer demand elsewhere, particularly in China and the US. If that soil appears to be eroding, investors soon seek new pastures.

In a similar vein, the Bank for International Settlements explored "the influence of Chinese and US financial markets on Asia-Pacific" in a paper published this month.

"China's increasing regional influence arises, first and foremost, from its strong trade linkages and, to a lesser extent, from its financial linkages with Asia," the BIS said. "As the largest trading nation in the world, China trades extensively with other Asian-Pacific economies. This reflects China's significant role in the Asian production chain as well as its expanding capacity in generating final demand for Asian exports."

Essentially, if China catches a cold, a lot of the Asian production chain, much of it burdened by dollar-debt, gets influenza. If China and the US start sneezing at the same time, the health of the Asian production chain becomes even more imperilled.

The World Bank lowered its forecasts for the East Asia and Pacific region on October 4.

It now expects growth there to ease to 6.5 per cent this year from 6.8 per cent last year, and an average of 6.3 per cent over 2016-17.

It said "this decrease, more pronounced than previously projected, mainly reflects a moderate slowdown in China".

Moreover, the World Bank's "baseline scenario for regional growth is subject to a greater-than-usual degree of uncertainty, and risks are weighted to the downside" with a specific reference to the uncertainty surrounding the "the trajectory of, and spillovers from, China's economic rebalancing".

Add to that the possibility that US economic growth may start to show signs of flagging, and it becomes even clearer why the IMF has qualms about the build-up in emerging market corporate debt in recent years.

An uncertain outlook for China, if combined with signs of clouds gathering over the US economy, would leave Asia's indebted corporates in the midst of a violent typhoon.