Myanmar’s Complex Military-Industrial Cudgel

2019 September 13 by

The United Nations Human Rights Council, charged last year with investigating the Myanmar army’s (Tatmadaw) business empire as the biggest single corporate owner amid findings of abuses and war crimes in three states, presented a complex construct of domestic and investor ties to be rolled back and unwound altogether under diplomatic and commercial imperatives. The report focuses on widespread violations in Kachin, Shan and Rakhine states, the first two with longstanding independence movements in gem-producing regions and the last the source of the 850,000 Rohingyas’ escape to Bangladesh after company-supported “cleansing operations” that may fit the universal genocide definition. Senior generals leading the two main Myanmar Economic Holdings (MEHL) and Cooperation (MEC) conglomerates are already under personal international sanctions and asset freezes, and the UN Council’s work, to be debated at the September General Assembly, is designed to reinforce the military’s isolation.

 Its “outsize power” is responsible for systemic persecution and violence and has compromised post-2015 election democracy and free market transition, the document comments. Aung San Suu Kyi is the civilian government head after her party won the most seats, but the Tatmadaw automatically controls one-quarter of the legislature and can veto proposed constitutional revision. It is autonomous with no budget oversight, and retains interior and border ministries along with defense. Dozens of foreign joint ventures and other business connections were identified with MEHL and MEC, and the expose notes the gem industry’s “global reach” and calls on multinational firms, banks, and development lenders to sever all links. A formal boycott could be adopted at the UN plenary next month, as the United States and European Union continue to crack down over the generals’ absence of accountability for the mass Rohingya displacement.

The UN has guiding principles on business and human rights supplemented by Global Compact provisions, and separate codes were prepared by the European Commission and the Organization for Economic Cooperation and Development. The OECD sets out a due diligence framework for conflict minerals and overall human rights supply chain integrity, with another convention outlining anti-bribery and corruption steps. Executives have been held liable in international criminal court for bad conduct, with past cases from Sierra Leone and Yugoslavia. Under general investment criteria, basic accounting and reporting should be available, and neither MEC nor MEHL offer financial documents or list fiscal contributions from oil and gas, minerals and bank ownership. In 2017 the Defense Ministry claimed MEHL revenues at $120 million, and its Myawaddy Bank as the number two taxpayer, without verification.

 Each parent controls an estimated sixty companies, divided into services, trade and production groups in MEHL’s organization. MEC’s focus is more on agriculture and hydrocarbons raw materials, alongside financial and insurance holdings.  Myawaddy is considered a private bank under existing law with almost $1 billion in assets as of 2016, according to the World Bank. The main MEC bank is Innwa, managed by military officers to enable international system access within existing curbs. In Kachin and Shan States jade and ruby extraction is intensive along with family and state-owned partners. Combined operations include large tourism resorts and land tracts, and following new accounting procedures for government-run enterprises reserves can be earmarked for military use. So-called crony companies headed by wealthy individuals such as Asia World, Eden, First Myanmar and KBZ were the target of solicited “donations,” amounting to tens of millions of dollars, for northern Rakhine State road and border wall construction after the Rohingya expulsion, and they provided cash for that purpose as early as 2017, the report suggests. They often have Singapore stock exchange listings and company ties where ethics and governance codes bar such behavior. Chinese and Korean joint ventures are common in mining and steel, and French cement giant Lafarge and Indian construction outfits have also entered. Russia and Ukraine have traded arms and weapons technology under embargo from dozens of other countries and in potential violation of dual-use export restrictions.

The UN study concludes that forced labor and sexual violence are routine in mining areas, and that Rakhine development projects to “erase the Rohingya” may implicate the Tatmadaw and associated businesses in war crimes. Dozens of overseas partners may be drawn in indirectly, and it urges investors, consumers and donors to end all engagement inviting these risks and tragedies for eventual extrication from the broader economic and financial sector regime. 

Asia’s Isolated Islamic Finance Flashes

2019 August 30 by

Indonesia and Malaysia stock markets lagged on the Morgan Stanley Capital International index through July, with the former up 7%, just behind behind the overall gauge increase, while the latter fell 2.5% despite strong Islamic finance indicators. In the first half sukuk issuance rose almost 55% to near $90 billion, with Malaysia accounting for half and Indonesia one-tenth the global sum. The total outstanding is now over half a trillion dollars, but only half a percent of world fixed-income activity, according to a recent report by the London-based Official Monetary Institutions Forum (OMFIF). Saudi Arabia is the other main market with a 15% share, followed in the Gulf with Qatar’s 3%. Sovereign is catching up with dominant corporate placement, as governments and central banks establish yield curves and liquidity facilities. Indonesia floated the first “green” $1 billion sukuk last year to promote clean energy transition, and Malaysia engineered several murahaba commodity buybacks beyond traditional techniques.

Sharia-compliant assets are 30% of Malaysia’s banking and 10% of its insurance industries, with longstanding official support of commercial and regulatory development. Tax benefits and professional fee discounts are available for Islamic funding, with small and midsize company borrowing rates lowered an average 2% compared with conventional sources. In the Gulf ratings agency Standard & Poor’s predicts 25% sukuk growth this year for debt refinancing and budget deficit coverage. Asia and the Gulf Cooperation Council cooperate to harmonize rules, and in 2018 Malaysia’s Islamic financial services and Bahrain’s accounting and auditing bodies agreed to devise common prudential and governance norms. However “regulatory dissonance” prevails in the OMFIF’s view as thousands of scholars in dozens of countries differ over interpretations and standards following the Koran’s text. Despite a global market estimate of trillions of dollars in the medium term across the complex, multilateral convergence is lacking and may be further delayed as new administrations in Indonesia and Malaysia confront messy domestic policy agendas.

 An Indonesian court confirmed President Joko Widodo’s re-election by a 10% margin, with his coalition also winning over half of parliamentary seats, despite continued Jakarta street clashes in part over the durability of 5% gross domestic product growth. Consumption dependence in the world’s fourth most populous nation is a buffer against external shocks, but heightened by manufacturing and foreign direct investment weakness, after the latter dropped 9% last year. The government unveiled consecutive infrastructure packages to close the gap with neighbors, but spending eroded budget balance and fueled the 2% of GDP current account deficit with equipment imports. Instead of direct control, Finance Minister Sri Mulyani Indrawati, expected to stay in her post in the second term, proposed tax breaks for land acquisition and feasibility studies that will also apply to securities buyers. Likely looser fiscal policy will be matched on the monetary front, as bank reserve requirements were already eased in June, and the 6% benchmark rate  is due to normalize after emergency hikes nine months ago.

Rate cuts must be weighed against the need to preserve foreign portfolio inflows, particularly in local government bonds where international ownership is 30%. They may help stimulate bank credit, which jumped 12% in the first quarter, but the financial system remains “shallow” at 75% of GDP in the words of the latest International Monetary Fund Article IV review. Bank corporate lending has pulled back amid new rules limiting foreign exchange exposure after offshore bond defaults, and fintech competition is a priority in Jokowi’s second turn to improve access and lower costs. Stock market heavyweight state-run Bank of Central Asia will invest heavily in technology and small business outreach, and rating agencies identified potential financial sector takeoff to mirror regional peers as a factor in a recent one-notch upgrade.

Malaysia’s central bank was the first in ASEAN to ease, but it has not boosted the popularity of Prime Minister Mahathir Mohamed’s Pakatan coalition one year after taking office. Public opinion approval is around 35%, as the economy feels the fallout of Asian semiconductor supply chain disruption and public investment retrenchment after a workout of China Belt and Road projects. The government avoided a $5 billion penalty with renegotiation of the East Coast rail link, as growth was pared to the 4% range with goods and services tax rebates saved for other mounting contingencies.

Asia’s Fraught Frontier Framing

2019 August 23 by

Through the first half Vietnam and Kazakhstan led Asian frontier stock markets on the Morgan Stanley Capital International Index with respective 8% and 15% gains, the former in line with the overall gauge’s increase. Bangladesh was up 3%, while Sri Lanka was among the worst performers with a near 10% loss. Since Pakistan returned to the main index, dedicated fund managers have been on the lookout for potential new entrants, with Mongolia often mentioned with dozens of listings in comparison with Cambodia and Laos with just a handful. However MSCI’s June review proposed no additions, as Vietnam remains on the “watch list” for potential upgrade to full emerging market status.

 It noted positive steps to combine the Ho Chi Minh and Saigon stock exchanges and establish a central clearinghouse, modernize securities law, and open to full foreign ownership in sensitive banking and other sectors without a promotion timetable. Foreign inflows spike in advance to reflect greater global index weighting, but await direction as MSCI in the past criticized Vietnam’s “low liquidity” and is wary of strengthening Asia’s hold on the core roster. China, Korea, Taiwan and India already account for 60%, but even as it stays frontier Vietnam will become a larger component as Kuwait likely graduates by the end of this year. Kazakhstan in turn aims to solidify its position as the Astana International Financial Exchange was officially launched, with a wave of privatization offerings signaled in the coming months.

The US-China trade imbroglio reinforced longstanding production relocation to lower cost Vietnam, but export growth slowed in the first quarter with smartphone assembly down in the regional supply chain. As the International Monetary Fund’s July Article IV report cautions, it must upgrade productivity on digital technology, and also faces a looming demographic cliff as rapid aging sets in over the next decade. Economic growth has settled at 6.5% on inflation at half that figure, but weak domestic private investment and state-owned banks remain a drag.

 Stock and bond market development are priorities to diversify funding sources, but public debt at 55% of gross domestic product, 5% below the statutory ceiling, continues to preempt commercial purposes. Treasury bonds are issued at 5-year maturity, but short-term bills are absent for cash and risk management and yield curve creation. The fiscal deficit is forecast to fall to 4% of GDP next year, assuming higher tax collection and reduced civil service spending, but the Fund recommends a tighter medium-term debt ceiling to avoid trouble.

Monetary and exchange rate policies are under close investor tracking, with runaway double-digit credit growth until this year. The central bank slammed the brakes, with consumer and real estate loan limits and asset-liability maturity mismatch prohibition, to slow the annual pace to 3% in June. With Asian Development Bank support, a domestic credit rating agency is in formation, and Basel II bank capital adequacy standards go into effect in 2020. An inflation target will be adopted over time, and the government’s asset management agency has whittled the reported 6.5% bad loan pile, but the bank equity shortfall is still estimated at 2% of GDP bolstering the case for wider foreign ownership. The currency was “broadly stable” against the dollar in the first quarter within a narrow 3% fluctuation band, but investors prefer a more market-determined rate. Intervention with $60 billion in reserves on hand has drawn scrutiny from the Trump Administration Treasury Department, which also criticizes anti-money laundering gaps.

The IMF recently completed a Kazakhstan visit as a successor to longtime President Nazarbaev took office promising to jump-start economic and financial sector agendas. He was formerly parliamentary speaker, and as a ruling party stalwart developed solid business community relationships favoring blue-chip IPOs in the oil and gas and other industries. Growth should approach 4% this year on broad pickup in hydrocarbon and mining exports, construction, and services. Inflation is in the 4-6% target range, and the central bank cut the policy rate in April as banks undergo a thorough asset quality review to determine outstanding risks likely to accelerate disposals at the state Problem Loan Fund. A May study by auditing firm KPMG suggests that private equity, with only a few deals worth $100 million annually, could be interested in  privatization and distressed credit stakes that further raise the frontier market profile.

China’s Stumbling Star Turn

2019 August 16 by

With foreign net inflows in June at $3 billion as “A” shares added to the MSCI index were up over 30%, domestic investor attention in July was on opening of the new Star small cap market designed to lure listings from the US Nasdaq and Shenzhen’s tech tier. Stocks jumped 150% the first trading day pending creation of a benchmark, with 100 companies in the offering pipeline. It has no daily fluctuation limit, but investors need a minimum RMB500,000 account and two year track record. International access is expected over time as officials announced further steps at capital market and industry entry, as rating agency S&P assigned its first financial institution grades with a AAA to an ICBC unit. The moves came as Q2 growth was reported at 6.2%, the lowest in almost three decades, with consumption and fixed investment the main drivers. In the first half exports were flat in dollar terms, as US sales dropped 8% in June with continued trade friction. President Trump has accused Beijing of currency manipulation as well, but the IMF’s periodic review of major economy interaction found fundamentals in line as it urged more flexibility. Analysts point out that depreciation would aggravate the external debt burden, as part of the overall 300% of GDP load according to the latest IIF tally. A new report by the Germany-based Kiel Institute also estimated Chinese overseas lending in dollars at $700 billion, dwarfing other bilateral and multilateral providers, as another impetus for maintaining relative rates.

Corporate bond placement doubled in the first half, and China accounted for 40% of the emerging market total, industry trackers calculate. Dozens of defaults, including at high-profile Minsheng Investment Group, were recorded, and the government is steering real estate developers to refinancing only operations offshore to curb future exposure. House prices in most cites rose 10% on annual basis through June, and municipalities still rely on rising land values as collateral for their own borrowing. The Kiel institute survey also reveals increased non-payment and restructuring among Belt and Road initiative countries, with low-income recipients in Africa and elsewhere in particular experiencing troubles. The total cross-border package of loans, sovereign bonds, and portfolio and direct equity is up tenfold this century to $5 trillion, with thousands of operations in over 150 nations.

The Star market inauguration contrasted with clashes between police and pro-democracy protesters in Hong Kong around the Star ferry, including a standoff in the legislative chamber where the extradition law focusing initial anger was considered. Beijing and its allies condemned student violence and blamed the US for fomenting it with trade negotiations on hold. Shops remain shuttered and damaged, as banks cut the economic growth forecast to 1.5% on home price and tourism tapering. Food costs climbed 3% in June on pork shortages from a disease outbreak, as the local dollar regained its footing within the intervention band despite a setback from cancellation of a multinational beverage company IPO. Official unemployment was 3%, but housing costs and income inequality are major social issues that future Beijing-backed representatives must tackle as the current Carrie Lim-led team’s star fades.

Asia’s Halting Halftime Heft

2019 August 3 by

The Emerging Asia block was roughly in line with the Morgan Stanley Capital International benchmark 9% gain in the first half, while lagging Europe and Latin America and distant from early year euphoria on overcoming growth, debt and trade issues. China “A” shares led with an over 30% jump, followed by the Philippines and Thailand, respectively up 12% and 15%. India, Indonesia, Korea and Taiwan advanced single-digits between 3-9%, while Malaysia was flat and Pakistan was the big loser, down 17%. In the frontier rung, Bangladesh (+3%) and Vietnam (+8%) were positive, and Sri Lanka shed almost 10%.

 Investors positioning for the rest of the year looked to the Japan G-20 summit for signals, with relief that further Washington tariff and currency retaliation against China in particular is on hold with resumed talks. Elections are over in India, Indonesia and Thailand with the status quo prevailing, amid opposition challenges over vote manipulation and broader business and financial community economic policy doubts. Capital spending is weaker after a long period of tech and manufacturing expansion, despite monetary pauses or easing in the region following the US Federal Reserve’s stance. The latter shift may stall bank and non-bank deleveraging after rapid credit growth still outstripping gross domestic product increases, as the second half ambivalent outlook avoids worst case scenarios but lacks macro and structural inspiration.

Chinese May data reported industrial output and fixed investment up 5%, and retail sales 9%, on an annual basis, but the second quarter private-sector Beige Book cited only “modest improvement.” Its shadow bank lending measure was the highest on record, with Beijing relying on this channel for smaller non-state firms after the Baoshang Bank collapse froze the negotiated certificate of deposit market. These borrowing costs 5% above traditional sources raise financial sector risk, according to the research. A central bank survey at the same time confirmed falling loan demand from the previous quarter, with Hong Kong’s Bank of East Asia separately revealing a “worsening real estate portfolio” in major mainland cities. Overlapping fears were underscored when giant developer Evergrande rescued second tier Shengjing Bank with a capital injection, doubling its ownership stake to 35%.

 Local government monthly bond issuance also was at a multi-year peak of RMB 900 billion, as Fitch Ratings found fifteen delayed repayments in 2018 and brokerage CICC estimated that operating income covers just 40% of obligations over the next year. The foreign exchange body SAFE warned of a 12% rise last year in external debt to almost $2 trillion on Chinese company US dollar borrowing. The Yuan threatened to breach 7/dollar, as authorities resorted to new local currency bond issuance in Hong Kong to stave off the prospect. With Presidents Xi and Trump agreeing to reopen negotiations in Osaka, fund managers are now focused on the specific currency elements of a future pact that could serve as a template for resolving neighboring country frictions under US Treasury Department “monitoring.”

India was removed from that list, but is likewise a Trump administration trade target with a $30 billion surplus as it ended duty-free entry preference under a longstanding garment export program. On a New Delhi visit, Secretary of State Mike Pompeo declared that bilateral reciprocity was in sight with wider local access promised by his Indian counterpart. Despite Prime Minister Modi’s resounding re-election, GDP growth was at a 5-year low the last quarter at less than 6%, with questionable methodology in official statistics suggesting even worse performance. The central bank could come under even greater strain to tow the government line with the renewed mandate, as another senior representative resigned after the benchmark interest rate was cut. The upcoming budget will preview any fresh fiscal consolidation or structural reform for a skeptical domestic and foreign investor audience. The combined state and federal deficits are around 9% of GDP, equal to net household savings, and the Reserve Bank will likely again be asked to cough up “excess reserves” to plug the gap. However the non-bank financial sector is in rough shape following the collapse of a blue-chip participant, adding to mainstream state lender woes the authorities have been slow to tackle. Domestic mutual funds have shied away from nonbanks aggravating their liquidity crunch, as the overriding allocation theme for the last six months of 2019 is to split the crisis-confidence difference.

Iran’s Battered Bank Switch Spirits

2019 July 28 by

Amid worsening stagflation, currency depreciation and the comprehensive US sanctions campaign moving the past month from oil to other exports and Supreme Leader Ayatollah Ali Khameini’s multi-billion dollar religious foundation controlled assets, the Tehran stock market index recently reached a record 240,000 after poultry and chemical company initial public offerings. In dollar terms it still had outperformed the Morgan Stanley Capital International Frontier Index at the end of April with a 7% loss versus MSCI’s 12% on an annual basis, with  price-earnings ratios at eight times or half the broader emerging market universe average. In the earlier stages of the Trump Administration’s self-described economic “maximum pressure” for renegotiation of the anti-nuclear pact, banks long struggling with undercapitalization and double-digit bad loan portfolios were still relative stock exchange buys. President Hassan Rouhani had campaigned on a re-election platform of modernizing and strengthening the sector, including through more independent central bank oversight and capital market diversification.

 In March four banks linked to the powerful military were merged, following a move last year to bring unregulated credit providers, some associated with the Revolutionary Guard (IRGC), under supervision after poor practice triggered depositor runs. Toward the end of the last fiscal year through March system deposits rose one-third to over $150 billion at the prevailing exchange rate, with even Ansar Bank, newly targeted by Washington as IRGC-owned, reporting steady inflows. However the full onslaught since, including the Guard’s official designation as a terrorist organization placing financial institution holdings at greater risk, has reinforced the domestic “resistance” revolutionary philosophy originally driving bank nationalization four decades ago. Instead of recognizing and incrementally addressing a “slow motion crisis,” in the words of a June analysis from the Washington-based Peterson Institute for International Economics, the regime has indefinitely shelved reform. It will be difficult to revive even after the siege passes, and may invite outright collapse that neither the Rouhani nor Trump administrations planned for in ratcheting the confrontation.

Iran’s official statistics reported that gross domestic product shrank 5% last fiscal year and inflation was almost 40% in June, with staple food and medicine prices rising even more. The International Monetary Fund and World Bank predict worse output contraction and 50%-plus inflation this year, in part due to nonstop currency devaluation. The government rate is around 40,000 for defined essential imports, and the parallel one it has tried to muffle with dealer raids has fluctuated between three and four times that level in recent months.

 Oil sales with the end of waivers to US allies were an estimated 500,000 barrels/day in May, one-quarter the total after ramping up in the immediate aftermath of sanctions relief two years ago. The Treasury Department added steel shipments to the prohibited list, in a push championed by White House national security hardliners when separately applying tariffs on China. Unemployment figures have not been updated, with the youth rate already 30%, as big European carmakers Daimler and Peugeot shut local operations. France, Germany and the UK devised a non-dollar alternative payment structure, Instex, to allow cross-border commerce, but it has not yet been tested and will focus initially on pure humanitarian transactions.

The Peterson Institute paper points out that inflation is also due to 20% annual money supply growth, mainly from central bank liquidity injections to state and private lenders over the past year’s sanctions-aggravated crunch. Its lines also fund the budget deficit, estimated to exceed 3% of GDP this year in contrast with previous balance. Central bank head Abdolnasar Hemmati has considered issuing bonds to outside retail and institutional investors as another outlet, as he also received new authority several months ago to experiment with open-market operations in monetary policy. However his priority now is on tightening the central bank’s grip on the payment and foreign exchange systems, and wholly or partially state-run institutions to overcome US pressure magnifying the “bad situation already” into 2018 according to the Peterson research. Capital adequacy at 4% of assets is half the Basel recommended standard, and nonperforming loans are conservatively estimated at 20-30% of the total if international classification norms apply. Iran has relatively low domestic debt at 30% of GDP, and critics argue that it may be able to throw money at the problem, as reform chances are also thrown away for the foreseeable future in the renewed sanctions squeeze recoil.

Asia Bonds’ Road Map Detours

2019 July 28 by

The Asian Development Bank’s June local bond monitor for nine East Asian markets charts an unsettled period through May with lower yields reflecting downward gross domestic product growth, while the US-China trade and investment battle embeds “mixed” foreign investor sentiment. It notes currency and stock market falls as well, amid global oil price spikes on geopolitical strife and contagion from poor performing emerging economies elsewhere, particularly Argentina and Turkey. Regional central banks including in Malaysia and the Philippines started to cut interest rates, as advanced country counterparts likewise signal continued easing or pause in the Federal Reserve’s case. The outlook is for increased financial stability risks, as the three-year ASEAN+3 blueprint for bond market strengthening goes into effect. It emphasizes infrastructure finance, innovation such as “green” instruments, and common regulatory standards, with the publication featuring potential for housing-related securities. The plan originally was launched against a solid growth and ambitious reform background, but with moderation and repeated trade tensions the near-term agenda may be diverted, the ADB implies.

In the first quarter ending March East Asian market size was $15 trillion for 15% annual growth, with China accounting for 75% of the total. Korea is number two at $2 trillion, and Thailand leads ASEAN at $400 billion. The Government and corporate bond split is roughly 60/40, and together represent over 80% of regional GDP. Foreign ownership in Indonesia is highest at near 40%, but shares fell in Thailand and the Philippines to 18% and 6% respectively, while Malaysia’s was steady at just under 25%. The ADB’s April regional growth forecast was for 5.5%-plus this year and next, with “simmering trade conflict” disrupting cross-border shipments and business and consumer attitudes. Retail price inflation should be constant at 2.5%, but shifting world commodity values across energy, agriculture and mining could upset the prediction. The review cautions that Washington-Beijing tariff retaliation coincides with fading of a “2-year cyclical upswing,” placing emerging Asian economies at both structural and secular disadvantage.  Currencies were whacked by broader universe weakness since April, as Argentina’s peso and Turkey’s lira hit new lows. Election uncertainty joined doubts over runaway sovereign and corporate debt, and fiscal and external account adjustment programs.

Malaysia has the biggest Islamic sukuk market at 60% of the $350 billion total, while Indonesia’s central bank has started to issue both conventional and sharia-compliant bills. Vietnam is the smallest overall at $50 billion, as corporate bond development remains slow. Cambodia is now tracked in the Monitor database, and the first corporates were recently listed on the tiny stock exchange there. One was a micro-finance firm offering a foreign exchange-indexed component in its $20 million deal. The ADB has also completed a basic guide for Laos, and Mongolia coverage is in the works. In the first quarter aggregate foreign investor inflows were over $8 billion, but Korea experienced outflows at half that figure with won depreciation and Trump-Kim summit failure. Thailand also had modest exit, with the military preparing continued dominance in elections to return civilian government. Cross-border local currency transactions were about the same as the previous quarter at $5.8 billion, with Laos’ power company placing in Thai baht, and Singapore firms in Chinese renminbi, Hong Kong dollars and Korean won. Hard currency issuance from January-April was $115 billion, with the US dollar share almost 95%, and China accounting for $75 billion of the sum with big property and technology group transactions. Malaysia led ASEAN with 5% of activity, including a $2 billion sovereign samurai bond.

Hong Kong’s Monetary Authority, while intervening as the local dollar reached the lower part of the band against the greenback, unveiled a ‘green and sustainable” finance framework to match the government’s 2030 climate action plan seeking to slash carbon emissions by two-thirds. Korea’s financial services regulator introduced a new corporate debt evaluation system, as it tries at the same time to safely manage the household burden. Higher retail investor disclosure is a core element, amid reports that brokerages promoted sophisticated structures with heavy losses, including derivatives beyond customer understanding. Korea also has one of the region’s most advanced housing bond markets, including mortgage-backed and covered versions. The ADB praises their liquidity and credit risk contributions, while property overheating especially around Seoul is an offsetting worry reflecting East Asia’s fixed-income tradeoffs.

Sri Lanka’s Second Wave Wallop

2019 June 16 by

While Pakistan’s stock market losses and risk of return to the MSCI frontier index occupy specialist investor thoughts with announcement of another $6 billion International Monetary Fund fiscal and balance of payments rescue, Sri Lanka’s quieter year-long extension of its program after drawing $1 billion also raises eyebrows. The request was not as abrupt a departure as with Prime Minister Imran Khan’s initial spurning of a deal, and then replacing his finance minister and central bank head with former officials of the maligned Bretton Woods institutions.

It was sealed after “setbacks” including a delayed budget from last year’s political standoff between the president and prime minister over dismissal and possible new elections, and the April multiple church and hotel terrorist bombings killing and injuring hundreds. The authorities declared a state of emergency in the aftermath, as retaliation attacks targeted Muslims and leading foreign visitor sources issued travel warnings. Fresh parliamentary and presidential polls are scheduled over the coming year, but both bond and equity buyers continue to closely track erratic debt refinancing and economic reform signals amid the security contingency and additional donor lifeline.

In March the government tapped external bond markets through a $2.5 billion dual issue at 7% yield to shore up dwindling reserves, below $7 billion at the end of last year. The exercise helped steady the exchange rate, which tumbled almost 15% in 2018 against the dollar on a 3% of gross domestic product current account gap from a combination of lagging agricultural exports and high oil imports. In the latest IMF review not yet incorporating the terror incidents’ fallout, that deficit is projected to improve slightly on 3.5% commodities and manufacturing-driven growth. Despite food price stabilization with normal weather, inflation will be 4.5%, and global financial and trade “adverse shocks” threaten tourism, capital flows, and foreign direct investment.

 Public debt is 90% of GDP, with “lumpy” near term repayments increasing rollover risk, and the fiscal deficit 3.5% target will stay out of reach without state enterprise restructuring and sale. The electricity, petroleum and airline companies had 1.5% of GDP in losses in 2018, and governance and subsidy overhauls are long overdue, according to the document. Divestiture through stock exchange listings could boost foreign investor sentiment after temporary currency controls ended in March, it suggests. While debt owed to China is in the headlines with the $1 billion takeover of the Hambantota port, it accounts for less than 10% of the external total compared with heavier loads due the Asian Development Bank and Japan.

A new central bank law aims to phase out government lending, limit currency intervention and boost independence. It steadied the rupee in the aftermath of the April carnage, but net purchases in the $150 million range have been minor compared with $1 billion last year. A cap on foreign buying of local government bonds remains in place at 5% of the outstanding amount, following large fund outflows during the early 2019 skirmish between the President and Prime Minister. Annual credit growth will approach 15% this year, with bank and non-bank bad loan ratios at 3.5% and 7.5%, respectively. Non-banks need fresh capital to meet Basel III standards, and comprehensive deposit insurance for the entire system will soon be introduced as anti-money laundering procedures are also upgraded to Financial Action Task Force compliance levels, the IMF commented.


Korean stocks that were positive through April on the other hand also got an excess credit non-bank warning in a May Article IV report. It forecast lackluster 2.5% growth on China-related semiconductor export drag that will only be partially offset by fiscal stimulus. Unfavorable demographic and productivity trends, rising income inequality, and rigid labor and product markets stifling small firm competition against the chaebol conglomerates are longer-term structural obstacles, joining the geopolitical uncertainty on the peninsula with Northern  diplomatic negotiations in limbo. Household credit expansion is still above 5% with the ratio to disposable income at a dangerous 160%, and two-thirds of the total at variable rates. Macro-prudential debt service limits will be extended to non-banks in the coming months, as they shift client emphasis from personal to corporate borrowers in a possible preemptive strategy. Their business real estate lending is up 30%, as aggregate company leverage tops GDP and property defaults raise the specter of a non-nuclear chain reaction.

Central Asia’s Skidding Transition Tread

2019 June 10 by

The International Monetary Fund’s April update on the Caucasus/Central Asia (CCA) region quelled investor excitement about political and economic transition in Morgan Stanley Capital International frontier-listed market Kazakhstan and elsewhere, as it cited incomplete banking system and structural reforms among other legacies throttling competitiveness and growth. Kazakhstan’s 9% gain through end-April lagged the core emerging market index, despite President Nursultan Nazarbaev’s decision to turn over power to a successor after decades in office, and the prospect of large-scale state enterprise privatizations through the stock exchange following years of preparation. State governance is unlikely to improve should family members or political allies assume the post as expected, and the corporate version will also be stymied by public sector continued ownership control with asset divestiture. The Fund review points out that such ingredients threaten to repeat currency and financial system disaster patterns in the region amid low productivity, as main trading and investment partners China and Russia struggle with their own performance and stabilization challenges.

CCA forecast gross domestic product growth through next year is 4%, with oil exporters relying increasingly on the non-oil pillar. Kazakhstan can look to manufacturing and Azerbaijan to construction and services alongside new gas pipeline operation. Armenia, Georgia and Tajikistan will suffer from falling Russian remittances, offset by infrastructure projects within fiscal consolidation programs. Inflation through 2019 is estimated at 8%, before a drop to 6.5% at end-decade which could allow monetary easing. Medium-term growth will stay constant at 4%, half the clip in the post-independence 2000s, and insufficient to hike incomes to peer economy levels. Bank bad loan ratios in double-digits plague half a dozen countries; Uzbekistan has a long history of government-directed lending; and Armenia and Azerbaijan foreign currency borrowing is unhedged. Kazakhstan and the Kyrgyz Republic provided emergency liquidity, and insolvency is a “lingering risk” with bank resolution and supervision gaps, according to the outlook.

 Interest and exchange rate regimes have been in flux since the 2014-16 Russian ruble depreciation, with widespread shifts toward inflation-targeting and floating currencies. However Tajikistan and Turkmenistan still manage overvalued units, which can raise bank balance sheet pressure in highly-dollarized systems, and foreign exchange trading is typically shallow. Fiscal rules and stricter tax codes were adopted throughout the region, but expansionary policy elevated public debt to 50% of GDP for oil importers. Geopolitics is a drag with the prospect of additional commercial sanctions against Moscow and US military and aid withdrawal from Afghanistan. The export range outside commodities is narrow, and concentrates disproportionately on China and Russia. Capital market development lags such as creation of local government bond yield curves, and better private business climates would foster global supply chain integration. While Bank cleanup is in limbo associated money laundering and corruption can persist, the review warns.

The Fund’s Middle East/North Africa take released at the same time also sounded the alarm by first noting that a new Reported Social Unrest index was at a multi-year peak. It calculates the share of media coverage devoted to conflict, protests and civil strife in recent flashpoint countries including Algeria and Sudan. The gauge has an inverse relationship to per-capita income growth, where Jordan and Lebanon score poorly, as well as investor-friendly rule of law. Gulf oil exporters will grow only 2% this year, but inclusion in the benchmark emerging market external sovereign bond index could spur $40 billion in inflows to counter credit deterioration from energy price swings and spillover from the Syria and Yemen civil wars. Domestic credit expansion is barely positive, and despite healthy bank capitalization real estate exposure will dent earnings and franchise value. Fiscal balance is remote and tax mobilization and spending restraint has slowed, and the state company-led loss-making model is unable to generate the million new jobs annually needed for Gulf Cooperation Council (GCC) members. Small business can be a major employer, but funding access is a chronic impediment demanding deeper securities markets. The Fund urges the GCC to construct a common financial and monetary conditions indicator to equally guide the real economy, but components are either absent or reported with serious lag. In oil importers Egypt, Jordan and Lebanon public debt is above 80% of GDP posing a next-generation burden, the review cautions for more investor pessimism.


Asia Financial Inclusion’s Selective Reach

2019 May 19 by

An IMF working paper, in view of inclusive growth’s place on the Sustainable Development Goals ahead of a UN conference, sets out to measure credit and insurance access progress across Asia, where many countries promote dedicated strategies. Economic and savings benefits are “well documented “and measured by indicators such as citizens with an account and the number of ATMs. Of the 40% unbanked in low and middle-income regions as of 2017, half were in Asia and only one-tenth of the population in these places formally borrows. Despite numerous demand and supply barriers, it outperforms peers amid wide disparities between developed Japan and Korea and poorer members like Myanmar. China, Malaysia and Thailand score well in traditional/ digital banking, while Cambodia and Nepal rely 60% on informal sources despite mobile money strides. Over half of Indians have a bank account following a push early in Prime Minister Modi’s first term, but only one-fifth use it. Gender differences are stark in South Asia, where only 30% of women versus 45% of men are banked. Poverty and rural location is even more exclusionary, with only 10% of poor Indonesians in the system. Higher income levels equate with inclusion, but governments can take specific steps to remedy gaps, such as Cambodia’s mobile public-private partnership, and the Maldives’ fishing boat outreach. Small Pacific island states like Samoa and Tonga have lagging infrastructure and wide interest spreads and are remittance-dependent, with correspondent relationships often in jeopardy from money laundering rules compliance. With their natural disaster threat, fintech is now promoted as preferred safer alternative. Asian companies have less concern about account ease compared with other geographies, but ones in Mongolia, Nepal and Sri Lanka cite both debt and equity constraints. The regulatory climate can be an overriding factor, and the Global Microscope survey based on a dozen metrics has India, Indonesia and the Philippines as leaders and Bangladesh and Myanmar at the bottom. However, consumer and privacy protections, and enforcement and supervision capacity are missing, according to the Fund document.

Public bank ownership can boost penetration at the cost of lower efficiency and earnings, and on the subcontinent usage is compromised by distance and collateral demands. Fintech is a major driver in China and elsewhere, with artificial intelligence reinforcing basic approaches, Chinese consumers have skipped a generation bypassing credit and debit cards, and ASEAN is far along with Thailand’s physical bank branches falling. Despite the region’s pace, it is behind Africa in mobile technology, where the East African Community is particularly active. The paper concludes that inclusion and broader development are not always correlated, with securities market building typically a distinct category. A separate Price Waterhouse-Economist study on major emerging markets projects trends into 2030, when China and India companies and stock exchanges are expected to dominate globally. Outside Asia, Brazil, South Africa and Russia will be top players, as the Chinese retail investor base of 300 million already will be a “huge pot.” The research notes that rivalry with New York and London is stiffer with domestic institutional assets and tighter corporate governance, while geopolitics remains a “drag,” with trade conflict and populism spread defying inclusion.