Achieving greater Asian financial integration will require a well thought-out strategy.
Last week, I identified five phenomena in the way the Asian economies operate, which give me cause for concern, and suggested that greater Asian financial integration would be a good thing. This week, I would like to suggest five elements that should feature in a strategy for promoting the stability, integrity, diversity and efficiency of financial intermediation across jurisdictions in Asia.
The first is the establishment of linkages between jurisdictions across the whole spectrum of financial infrastructure – the trading, payment, clearing, settlement and custodian systems for money and for financial instruments. This would facilitate the movement of savings between jurisdictions and make cross-border transactions more efficient. In this age of advanced information technology, these linkages are not difficult to establish. Rather, the difficulty lies in the concern that some of us may have about a possible net migration of financial-sector activity away from the domestic markets as a result of the establishment of those linkages. And so the common response to proposals for such link-ups has been that there is no demand for such services – why build a road that will have no traffic on it? But I think there is a bit of a "chicken-and-egg" question here. My guess is that the traffic will come as trade and economic integration in the region continues and transactional needs arising from such activities expand, leading to more financial intermediation across jurisdictions. The cost of setting up such linkages is nothing compared with building a road. The technology, in the form of electronic messaging platforms of acceptable security is already available and in international use.
The second element concerns the relaxation of non-supervisory restrictions, where they exist, against access by foreign financial intermediaries to the domestic financial markets. The size of financial intermediaries, measured for example in terms of capital, is often a barrier to market access; but, as we know, size is not necessarily a good indicator of quality. Capital adequacy, assessed objectively by reference to risk, provides a better safeguard. Greater competition, wherever it comes from, also enhances efficiency, although allowances should be made for the weaker domestic institutions to enable them to cope and find viable long-term solutions, in the interest of financial stability. Consideration may also be given, if necessary, to the relative importance of the bilateral trade and economic relationship with a particular jurisdiction when granting access, in order to achieve at least proportionate treatment for those in the region.
The third element concerns the harmonisation of standards in the financial system. A degree of harmonisation, at least the adoption of minimum acceptable international standards, is essential for improving investor confidence and enriching the flow of capital within the region. It would also be conducive to the stability and integrity of the financial system. I would emphasise the word “international”. There should not be a different set of regional standards, although there may need to be some flexibility to address specific regional issues. Many of these standards have already been developed by international financial institutions and professional bodies, together with supervisory systems. There is probably no need for a separate regional surveillance mechanism, unless this strategy for Asian financial integration, for monetary co-operation or other reasons, takes on an institutional form, in which case the work could be more conveniently and perhaps more effectively organised.
The fourth element concerns the strengthening of co-operative efforts in financial system development. We have been making good progress in our co-operative efforts to develop the domestic and regional debt markets through various regional forums and involving the international financial institutions. In the context of developing Asian Bond Fund 2, for example, we have achieved a few firsts, including the introduction of the first exchange-traded bond index fund in Asia, arranging for two Asian markets to allow exchange-traded funds for the first time, and opening up the renminbi inter-bank bond market for the first time to foreign investors. These co-operative efforts should be sustained. There is obviously scope for further development to increase the diversity of financial intermediation channels in individual jurisdictions in the region and for sharing experience in development efforts, whether on a bilateral basis or in the context of a multilateral initiative.
The fifth element is simply the need for greater capital mobility, in other words the relaxation of restrictions on cross-border investment. It is hard to advocate lifting all such restrictions in the region as this would depend on the ability of the financial system in individual jurisdictions to cope with the ensuing risks. However, it is obvious that greater capital mobility is the necessary condition for financial integration across jurisdictions. The relaxation of controls on cross-border transactions, for both inward and outward investment, would result in more efficient allocation of resources. With freer flow of capital, savings can be channelled to investments with the highest risk-adjusted rate of return as perceived by investors. The higher expected return following portfolio diversification would encourage more domestic consumption and more sustainable growth.
I am confident that greater capital mobility and progress in the other elements of this strategy for Asian financial integration, given the clearly higher growth potential, will result in greater retention of Asian savings in Asia. The stability, integrity, diversity and efficiency of financial intermediation among jurisdictions in Asia thus achieved would help recycle the vast regional savings to investments within the region, and in turn promote the stability of capital flows to the region. There already seems to be an increasing desire for the diversification of foreign reserves, given recent rapid accumulation on the one hand and the concentrated exposure to developed markets on the other. With greater financial stability, achieved through greater Asian financial integration, there should be less of a need to hold large amounts of liquid foreign reserves in the reserve currencies.
Joseph Yam
22 September 2005
Related Viewpoint Article:
Related Press Releases:
Click here for previous articles in this column.
Document in Word format
