Daylight dawns for the Asian financial system

Based as I am in Australia, I’m well used to heading to bed as European markets open and waking up – sometimes suddenly – to surprising news from the US. Even during my frequent visits to Asia, financial markets seem to be set in the dead of night.  And it’s been that way for all of the 35 years that I have been working in the region.

Happily, for us in Asia at least, the financial centre of gravity is shifting to our region. ANZ’s new report, Caged Tiger: The Transformation of the Asian Financial System, makes the point that price setting, that impact on financial markets of major economic data releases and news events, will increasingly take place in Asia.
That’s just one detail of a much bigger story.

Asia’s economy already accounts for a quarter of global economic output, up from 17 per cent two decades ago. But ANZ expects Asia’s share to rise to 35 per cent in 2030 and to be over half the world economy by 2050. The US and Europe, which currently account for around half the world’s economic output, could see their share fall to less than a quarter by mid-century. This is a tectonic jolt in the global economic landscape and the basis for the shift in where market moving events will have their epicentre.

While the ultimate scale and impact of these changes remains uncertain, our research highlights that the continued development of financial markets in Asia will become increasingly important to support economic growth in the region.

Strong economic growth will continue in Asia but, crucially, it will be slower if financial markets are prevented – whether by policy or regulation – from the further liberalisation that allows capital to seek out the best investment options and receive the best returns.

When currencies are allowed to trade freely, internal pressures on financial systems are mitigated. Where investment flows are allowed to seek out their own returns, internally or across borders, the savings of individuals are best rewarded and economies grow.

China of course will play a leading role through its intended reforms in coming years as it moves toward liberalising its capital account and allowing greater foreign and domestic investment. Across the region existing financial centres are likely to grow significantly. Newer, niche financial centres will become more established. Shanghai will rival New York, Singapore Zurich, Hong Kong London.

While our research by its nature is high level and serves to highlight the broad issues, the enormity of change is undeniable.

There are risks to the scenario set out in our research.  There is a danger some countries, by preventing the development of markets and flexible policy, will fall into the so-called “middle income trap” where wages rise to a point where existing, usually export, industries lose competitiveness but new - often service - industries can’t evolve.

I think it is clear though that Asia will increasingly finance Asia, not rely as it has on London and New York. Instead of the somewhat passive flow of Asian savings into official markets, particularly US Treasury bonds, Asia’s private sector will have a much bigger role in investing Asian savings.

That will occur at both the portfolio level into bond and equity markets and directly, through foreign investment across borders. It’s why prices will be increasingly set in Asia and not the north Atlantic.
For example, ANZ projects the outstanding stock of Chinese Foreign Direct Investment (FDI) into other countries was around US$500 billion in 2012. This could rise towards US$10 trillion in 2030 and increasingly favour Asia Pacific as a destination.

Chinese private portfolio flows into global bond and equity markets could increase by US$1.3 trillion a year for the five years following the opening up of the Chinese financial system.

Of course, this shift in the financial centre of gravity is already occurring – we all already pay much more attention to the Chinese flash manufacturing index for example. But if the potential of the Asian Century is to be fully realised, the financial systems of many Asian economies must continue to be reformed, deregulated and opened up to global markets.

I know policy makers in the region understand these challenges and the prize if they succeed is truly enormous.  View our 'Caged Tiger’ report - I’d be interested in your views about Asia’s growing dominance of global financial markets, please comment below.