The 1998 Asian Financial Crisis left a huge scar amongst South East Asian economies with GDP falling at an average of 36% across major South East Asian countries and led to significant devaluations in asset prices, stock markets and currencies. Regulatory cracks and unsustainable practices in the financial sector were some of the primary causes of the financial crisis as highlighted by the IMF. Coming out of the crisis, ASEAN member states have improved tremendously in terms of invigorating their macroeconomic framework and also boosting their efforts to facilitate a higher level of financial integration and coherence within the region.
With the establishment of the AEC, the finance sector amongst all ASEAN countries has seen dramatic improvement particularly in two aspects: harmonisation of its regulatory and financial framework and creation of a suitable environment for businesses as well as financial institutions to strive. Initiatives such as The ASEAN Banking Integration Framework, The Working Committee on Capital Account Liberalisation and The ASEAN Capital Market Infrastructure are some initiatives ASEAN leaders have formulated in its goal to achieve a region-wide financial liberalisation.
The importance of a sustained and well-managed financial liberalisation and integration in ASEAN should not be undermined. A more integrated, liquid and safe financial sector would act as a catalyst for more inter and intra-regional trade of goods and services to take place and expand the movement of capital into and out of ASEAN, which can help reduce the infrastructure and development gap amongst ASEAN countries. Furthermore, financial integration can also help to facilitate the development of larger and more liquid markets. This can lower the cost of capital, improve resource allocation, enhance diversification of risks, lengthen the maturity of financing, and improve trading and settlement practices. It could also impose greater discipline on governments, banks, and non-bank corporations, and make the economy more resilient to shocks. These factors are extremely paramount for ASEAN as it seeks to become one of the world’s main economic power in the years to come. A sound financial sector in ASEAN will help attract more FDI into the region, which is beneficial for the long-term growth and globalization of ASEAN.
Financial integration is generally seen to increase in tandem with the increase in FDI inflows and also trade integration within the region. In recent years, we have seen a proliferation of FDI inflows (the most common channel for financial integration in ASEAN) into ASEAN countries and also an increase in trade relations, representing 23% of all ASEAN countries trade. From a banking perspective, local banks in various states have increased their cross-border exposure to Asia and amongst ASEAN-5 countries as these countries have stronger financial framework in place. However, bilateral banking agreements have been relatively slow compared to Asia’s average and also the rest of the world. Asian Development Bank (2013) reports that foreign banks accounted for 18 percent of total commercial bank assets in Malaysia, the Philippines, and Thailand in 2009. The share of ASEAN-based banks in Malaysia, at 8.5 percent, was the highest among the three member states; the share was 0.4 percent in the Philippines and 3.7 percent in Thailand.
ASEAN-5 countries have also experienced large inflows of cross-border investments portfolio as a result of the development of current bond markets, the Asian Bond Market Initiative and also ASEAN’s efforts to link the stock markets of Malaysia, Singapore and Thailand in an effort to further promote further financial integration in ASEAN. This has led to an influx in the flow of funds although these flows are still very vulnerable to external shocks of the global economy (See figure 2). However, it should be noted that the securities market (bond, equities, derivatives etc.) are still far from being developed in other ASEAN countries such as Myanmar and Laos although intensive efforts have been taken to ameliorate this problem. Additionally, financial integration is actually lagging behind trade integration. “Compared to the world norm, most ASEAN economies’ rapid expansion into global trade has not been matched by their role in international finance.
With ASEAN’s current development, there are still substantial untapped potentials in ASEAN. Given ASEAN’s growth prospects and future investments in infrastructures, this will pave way for a healthy development in debt capital markets and syndicated loan as well as structured fixed income products to attract foreign investors. Growth amongst ASEAN companies will also be one of the opportunities in ASEAN. As companies seek various ways of growing, issuing debt and equity on top of participating in rigorous M&A activities should be a common story in ASEAN in the coming years. This could lead to substantial developments in investment banking revenues for ASEAN banks and simultaneously contribute to the financial integration of ASEAN. Additionally, growth in the financial sector could fill in the large vacuum of financial products that is currently inaccessible to ASEAN citizens, particularly from less developed countries such as Myanmar and Laos. Coupled with government’s efforts to liberalise the financial industry, financial products such as insurance plans and banking services could see a huge surge. Aside from conventional banking products and services, Islamic Banking and Finance is also seen as a large opportunity in ASEAN. As a pioneer and frontrunner of Islamic Finance, Malaysia has implemented a successful framework and financial environment for Islamic Finance to thrive. Malaysia has successfully issued ‘Sukuk’ bonds (Bonds that comply with Syariah rules) to be traded in the financial markets, which is a huge development of Islamic Finance within the region.
However, there are still a few inhibiting factors towards financial integration. Aside from the risk that is entailed from unregulated financial integration, the ASEAN banking market is integrated in the context of very diverse banking and financial regulation. This is further exacerbated with the fact that unlike the EU, ASEAN has no over-arching legal system in decision making. In the EU, all banks can be regulated and be requested to comply with EU directive in order to operate in member states across the EU. This allows foreign banks to operate so long as they meet the minimum criteria set by EU regulators. The absence of such a system and the reliance of criteria for Qualified ASEAN Banks (QAB) inhibit certain foreign banks from operating in other member states and hence reduces the scope of financial integration in ASEAN. The different level of financial market development across ASEAN countries may also be a mitigating factor towards a more comprehensive financial integration. Less developed countries may want to focus more on developing financial infrastructures in their home countries before liberalizing it to increase competition. In doing so, it dampens ASEAN’s efforts of establishing a fully integrated financial sector.
Some countries maintain rules and regulations that obligates companies to prioritise the recruitment of local talent and limit the inflow of foreign ownership into the country. The lack of foreign and local talents in the financial industry further amplify the lack of innovative financial products. Furthermore, the absence of a comprehensive accounting framework that meets the requirement of standards set by the International Accounting Standards Board (IASB) reduces the liquidity and transparency of companies and consequently negates the liquidity and investor confidence on the market. Issues such as this may deter investors from investing into some ASEAN state members. However, this issues have seen tremendous progress in terms of creating a suitable solution to tailor the needs of each member state through consensus and understanding.
Ultimately, ASEAN is indubitably a growing economic power with a huge potential in its financial sector. Companies across the world are starting to realise ASEAN’s economic significance within the global trade network. With that in mind, ASEAN has to proactively seek to facilitate better financial integration to cater for the growing demand of capital and opportunities in the region. The “Rise of Finance in ASEAN” is an unescapable phenomenon and ASEAN’s true economic potential can only be realized with the aid of a comprehensive regional financial market.
Written by: Muhammad Hafiz Bin Adenan
Hafiz is an Associate at Aseanite and he is studying Accounting and Finance at the University of Warwick. He previously worked as a Corporate and Retail Banking Summer Analyst with HSBC UK. An investment and finance enthusiast, Hafiz occasionally writes on the global market for the Market Mogul.
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