Under threat

As Greece goes to the polls this weekend, few expect the result will lift the cloud of uncertainty hanging over world markets and the global economy.

Although analysts say Asia is now better prepared than it was at the start of the credit crunch in 2008 following the collapse of Lehman Brothers, central bankers and finance ministers are growing increasingly concerned by the failure of Europe to get its fiscal house in order.

This fear was highlighted by Australia’s former prime minister Kevin Rudd in a keynote address in Beijing earlier this month. Rudd warned that unless Europe restored some order in its banking system, the fallout would spread to “even the most robustly growing corners of the world”.

“The joint prosperity that Australia and China share will not be enough to protect them,” he said in the address to the APEC China CEO Forum in Beijing. “Global financial flows are now so vast that they have the capacity to overwhelm the financial resources of individual national governments.”

In recent weeks, China, Brazil and Australia have cut interest rates as global growth continues to contract.

Around Asia weak economic data from China, India, Indonesia and South Korea point to contraction rather than growth for the region although China’s export figures for May surprised many analysts at 15.3 percent growth year on year compared with 4.9 percent in April.

They say continuing political and economic uncertainty plaguing the European banking system and the possibility of Greece leaving the euro have exacerbated unease in Asia, especially on the trade side.

“The data is turning,” HSBC’s co-head of Asian economics Frederic Neumann says in a note to clients.

“The trade cycle is about to take a hit. Globally, new export orders have started to contract for the first time since last December.”

In South Korea, exports fell for the third straight month in May as manufacturing continues to slow.

India, Asia’s third-largest economy, has seen economic growth in the January-March quarter fall to 5.3 percent, its lowest level in nine years.

Ratings agency Standard & Poor’s in a report Will India be the first BRIC Fallen Angel? warned that India is at risk of losing its investment grade rating due to slowing economic growth and lack of economic reforms.

Any downgrade to India’s credit rating would be a serious blow to investor sentiment and would increase overseas borrowing costs not only for the government but for businesses as well.

Analysts also say the announcement on June 9 of a 100 billion euro ($125 billion) bailout of the Spanish banks by the eurogroup did little to restore confidence.

In a recent interview with the Australian Financial Review the chief executive of the ANZ Banking Group, Mike Smith, said he feared it may take a crisis similar to the scale of the collapse of Lehman Brothers in 2008 for European leaders to summon the political will to solve Europe’s debt problems.

Smith said he remained pessimistic about the outlook for Europe: “If we’re looking for a plan B or plan C, I think the worrying thing is there doesn’t appear to be a plan A.”

Huw McKay, senior international economist with the Australian Westpac banking group, says while Asia is in better shape than it was in 2008, it is feeling some of the pain from Europe.

“The European banking system is the biggest foreign lender to Asia with about 40 percent of all international banking claims on the Asian region,” he tells China Daily Asia Weekly. “Some economies will be hurt more than others as the European banks continue to withdraw funds.”

McKay says the European banks have been actively reducing their Asian positions for some time as they try to meet new capital requirements within the eurozone.

“To meet these new capital requirements non-core assets have to go and (European banks’) Asian operations are considered non-core,” McKay says. “If you come into a situation like the one we are now in with a large external financial buffer, such as a current account surplus, your exposure is minimal.”

The economist says countries like Malaysia and Singapore which have current account surpluses are much less exposed than others, like India, which has a big deficit and needs to finance that in the international marketplace.

“South Korea is looking better than it did during the Lehman shock while Hong Kong and Singapore are fairly well buffered in terms of financial shocks,” he adds. “But Hong Kong and Singapore are exposed to the goods and services trade side of things. So as trade slows they will be impacted.”

Manu Bhaskaran, partner in the Washington DC-based Centennial Group, agrees, saying there is no doubt that the weakness in the eurozone is already impacting Asian economies.

“Asian exports are weakening, not surprising since the European Union as a whole is still the single-largest export market in the world and export-oriented economies such as South Korea, Taiwan, Singapore and Malaysia are feeling the slowdown,” he tells China Daily Asia Weekly.

The increased risk aversion of global investors is causing an outflow of portfolio capital which is making currencies in Asia weaken and asset prices fall.

“For countries with weaker external accounts such as India, Indonesia and Vietnam, this could be serious,” he adds.

Asian resilience to external shocks improved significantly since the 1997 Asian financial crisis.

“Foreign exchange reserves have grown, balance sheets of companies and banks are strong, the capacity for pro-active monetary and fiscal policies has been strengthened and there has been some diversification of Asian economies,” Bhaskaran says.

“All this helps resilience in the sense that Asia can bounce back from an external shock like the eurozone. But it doesn’t alter the vulnerability of Asian economies to these global problems.”

According to him, China is decelerating faster than the government expected, prompting policy easing.

“The outlook for global demand is poor and the chances are that weakening external demand will slow China’s economy further in coming months,” he says.

“Since it will take some time for policy easing to feed into the economy, the near-term prospects could be challenging.”

On June 8, China cut its one-year lending rate, its first interest rate cut since December 2008, in the wake of poor domestic economic data and growing unease with the deepening crisis in Europe.

People’s Bank of China, China’s central bank, cut the lending rate by a 0.25 percentage points to 6.31 percent.

China saw industrial production in May come in at just 9.6 percent — its lowest since mid-2009 and a long way from the 16.5 percent growth experienced in the lead-up to the 2008 financial crisis.

The official purchasing managers’ index (PMI) for manufacturing indicated a sharper-than-expected slowdown in May, while separate PMI data released by HSBC showed a contraction for the same month.

Retail sales were short of expectations, growing at their slowest pace since February 2011 while consumer price inflation eased to 3 percent, its lowest level since the middle of 2010.

Annette Beacher, head of Asia-Pacific research for TD Securities, says that despite the poor data, “our view has not changed … China is experiencing a soft landing driven by global factors as well as the impact of earlier monetary tightening policies”.

Beacher expects further unwinding will be ramped up in the second half of the year, giving the new administration room to overachieve next year’s 7 percent growth target.

HSBC’s Chief India and ASEAN Economist Leif Eskesen says India’s weakening economy is like a “gasping elephant”.

“The slowdown in growth has proven deeper than expected,” he says.

India’s other indicators are a source of worry too with the rupee at historic lows against the dollar, annual inflation at 7 percent, and the current account and public deficits large.

That makes it difficult for policymakers to respond to slowing growth, since the bulging public deficit gives little scope for added government spending and high inflation makes cutting interest rates difficult.

In South Korea, exports have contracted for the third month in a row and global investors are fleeing Indonesia.

The big question now is what happens this weekend?

Malaysia’s central bank governor Zeti Akhtar Aziz, who as acting governor implemented capital controls in Malaysia in 1998, said recently that a Greek exit from the euro would cause “contagion comparable to that during the Asian crisis”.

Westpac’s McKay says: “A win by the left in Greece will have a negative impact on stock markets that will cascade around the world. That negative sentiment will continue until we see what the left is going to do in terms of concrete announcements.”

McKay doesn’t think anyone is going to the Greece election saying they want out of the euro.

“But the Greeks want their cake and they want to eat it too,” he says. “Yes, there has to be some fiscal discipline put in place but not at the cost being asked for.

“There is this old saying that if I owe the bank $1,000 that is my problem; but if I owe it $1 million, then that’s the bank’s problem. That is the situation in Europe today — north versus south.”