The Art of Reform
Author | Andrew Sheng |
Position | Former Chairman of the Hong Kong Securities and Futures Commission, is Tun Ismail Ali Visiting Professor at the University of Malaya, and Adjunct Professor, Graduate School of Economic Management, Tsinghua University |
Applying lessons from Suntze to Asia's financial markets
As one of the fastest growing regions in the world-with the highest savings-Asia appears to have a bright future. But nine years after the East Asian crisis, the region's financial markets have not fully addressed their problems of inefficient intermediation and poor risk management. Although most of the conditions exist for Asia to move forward with the necessary reforms, progress has been slow. One reason is that Asia's subjective, relationship-based economy worked when its economies were closed, but no longer does. Globalization has changed the game: open economies are subject to transparent international standards of behavior that enhance comparability and accountability.
The decline in market capitalization triggered by the financial crisis caused a staggering loss of wealth in Asian stock markets. From its peak in 1989 to August 1998-the acknowledged trough of the crisis-the Japanese stock market declined by an estimated $2.4 trillion, or 53.3 percent of Japan's GDP in 1997. Between 1996-97 and August 1998, the other East Asian stock markets also lost $1.4 trillion, or 65.9 percent of their combined GDP, excluding losses in the banking system's write-offs of nonperforming loans and provisioning and losses caused by sharp falls in real estate prices.
The good news is that the crisis spurred major changes in Asia's financial system. But an enormous amount remains to be done for Asia to reinforce its position as a major player in the world economy. As someone who has been actively involved in financial sector reform in Asia for the past 30 years, I shall attempt to describe what the strategy for reform might look like, drawing on lessons from a fifth-century BC Chinese strategist. Such strategic tools for change management, which are common for corporate reformers, have not been applied to financial system reforms.
Asia accounts for 55 percent of the global population, roughly one-third of global GDP in purchasing power parity terms, and one-fourth of global exports, but only 13 percent of the global equity market. Its savings, averaging about 30 percent of GDP over the past two decades, are manifested in total Asian financial assets (defined as the sum of bank credit to the private sector, stock market capitalization, and total bonds outstanding) of about 300 percent of GDP in 2004, broadly similar to the level of European and U.S. financial assets.
But there are several ways in which Asia's financial system differs from those in Europe and the United States. (Asia here refers to Japan, China, Hong Kong SAR, India, Korea, Indonesia, Malaysia, Singapore, and Thailand.) First, it is dominated by banks (see table), with bank credit to the private sector accounting for 108 percent of GDP, only slightly less than the European Union's 125.3 percent. Although Asian stock markets, in terms of capitalization, are reasonably large and comparable in depth to European stock markets (both about 75 percent of GDP), in reality, they are considerably shallower than EU and U.S. markets. The reason is that, if Japan is excluded, Asian bond markets account for only 45 percent of GDP, half the size of EU bond markets (see chart).
[ SEE THE GRAPHIC AT THE ATTACHED ]
Second, Japan's economy and financial system, which accounted for 52 percent of GDP and 64 percent of total Asian financial system assets in 2004, are dominant in Asia. In other words, Japan is almost twice as large as the rest of Asia combined. Because the Japanese financial market is largely domestic and also dominated by banks, even the international financial centers of Hong Kong SAR and Singapore cannot compensate for the fact that Asia is not pulling its weight globally. Japan and the larger markets of China, India, the newly industrialized Asian economies, and members of the Association of Southeast Asian Nations share responsibility for the current state of Asian financial intermediation.
Third, institutional development in Asia's nonbank sector is weaker than that in Europe and the United States. Innovative capital market...
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