A woman looks at bananas on display at a market in Singapore on October 24. Asia’s economic fundamentals are much stronger than they were a decade ago, at least. Photo: EPA-EFE
Opinion
Macroscope
by Nicholas Spiro
Macroscope
by Nicholas Spiro
Asia’s market turmoil has the US’ fingerprints all over it
Sell-offs are happening in markets around Asia despite key economic indicators improving, with core inflation in particular moderating
The overriding factor is the divergence in global monetary policies, with the rapid rise in US Treasury yields sucking capital out of emerging markets
An adage on Wall Street is that to quell inflation, the US Federal Reserve must raise interest rates until something breaks. In Asia, the cracks have deepened significantly over the past few months, fuelling concerns about financial stability across the region.
On Monday, the Malaysian ringgit sank to its lowest level against the US dollar since the 1997-98 Asian financial crisis, taking its decline versus the US currency since early February to nearly 13 per cent. With the exception of the Japanese yen, it is the worst-performing currency in Asia this year.
The Indian rupee, moreover, is trading within a whisker of its record low against the US dollar, reached in October last year. The selling pressure faced by the Indonesian rupiah was so intense this month that it forced the country’s central bank to raise interest rates last week. When Bank Indonesia last tightened policy in January, it was confident it had done enough to bring inflation back to within its 2 to 4 per cent target.
However, the financial landscape in Asia has changed so dramatically in the past several months that the region’s local currency government debt markets suffered net outflows of foreign capital in August having enjoyed inflows as recently as June, according to data from JPMorgan.
What is particularly concerning is that the sell-off is happening at a time when key economic indicators are improving. Core inflation, which strips out volatile food and energy prices, in India has dropped to 4.8 per cent, having been higher than 6 per cent in January. In Indonesia and Malaysia, it has fallen to 2 to 2.5 per cent, while in Thailand – which has also faced heavy selling pressure – it has slipped to just 0.8 per cent.
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Pakistani families struggle to pay electricity bills that can take up entire pay cheque
Pakistani families struggle to pay electricity bills that can take up entire pay cheque
In some countries, especially those that are net energy importers, domestic risks have contributed to the turmoil. India’s current account deficit is widening and could go further if oil prices rise sharply because of the dramatic escalation in geopolitical risk stemming from Israel’s war against Hamas. Meanwhile, a stronger-than-anticipated increase in Indonesia’s bond issuance has exacerbated the sell-off in the nation’s local debt market.
Yet, the overriding factor in the sharp falls in asset prices in Asia is the divergence in global monetary policies. The rapid rise in yields on benchmark US Treasury bonds is driving up the US dollar and sucking capital out of riskier assets such as emerging markets. The closely watched real 10-year Treasury yield, which was barely above zero just a year ago, has surged to 2.4 per cent, its highest level since 2008.
Asia is more exposed than other developing economies because interest rates tend to be lower here. According to JPMorgan, the average interest rate gap between Asia’s emerging markets and the United States is negative for the first time in more than two decades, depriving the region of an adequate “yield buffer” to withstand the spike in Treasury yields.
Even though the declines in core inflation across Asia should be “bringing closer the start of central bank [interest rate] easing cycles rather than pushing them further away”, JPMorgan notes, improving domestic fundamentals are being trumped by the aggressive repricing in US debt markets.
Still, it is important to put things into perspective. Asia’s economic fundamentals are much stronger than they were a decade ago, when India and Indonesia were part of the “fragile five” group of vulnerable emerging markets.
Balance of payments positions have improved, central banks have amassed large foreign reserves and policy reforms have increased the appeal of the region – especially India – among global investors. And foreign fund flows into Asian equity markets outside Japan this year are still in positive territory, according to HSBC data.
Moreover, the blame for the abrupt deterioration in sentiment towards Asia lies squarely with mounting stresses in US bond markets. If something is in danger of breaking, it is the US economy, which is in a much more perilous position than it was a few months ago.
US President Joe Biden gets ready to deliver remarks on his economic policies, in the South Court Auditorium of the Eisenhower Executive Office Building on the White House complex, in Washington, on October 23. Photo: EPA-EFE
The source of the unexpected US resilience – a massive pandemic-induced spending surge under President Joe Biden, following reckless tax cuts under his predecessor Donald Trump, that has swelled the budget deficit to 6.3 per cent of gross domestic product – has contributed to the surge in bond yields.
The sharp increase in the supply of US debt just when interest rates have reached a 22-year high is emboldening investors to demand higher yields to buy Treasuries, squeezing companies and consumers. Mounting concern about the state of US public finances could drive yields higher, helping bring about a recession in the run-up to a highly unpredictable but hugely consequential US presidential election.
With US interest rates set to remain higher for longer because of “sticky” core inflation, Asian markets are likely to continue to be held hostage to the US bond market. The one consolation is that this time round, the region’s economies are not the cause of the turmoil and are better placed to cope with the harsher financial conditions.
