Asian bond market: On its way to reality

---An interview with S. Ghon Rhee, Executive Director of the Asia-Pacific Financial Markets Research Center, University of Hawaii

CHINAMONEY: What is your definition of the Asian bond market? Is this a market geographically confined to the East Asian region?

Rhee: A narrowest definition of an Asian bond market may be the union of the three circles signifying Asian issuers, Asian investors, and Asian currencies. I am afraid that some of Asian bond market initiatives tend to favor this narrow definition because of strong regionalism in over-reaction to bitter experiences of the East Asian financial crisis in 1997-1998. This is not a constructive approach. As long as Asian borrowers issue bonds at a minimum cost and these bonds are purchased by institutional investors from the region as well as outside region, allowing them to gain the maximum yield, all other considerations become secondary. It does not matter where these bonds are issued; who rates these bonds; who serves as the lead manager; where the bonds are traded; where they are cleared and settled; and in which currency they are denominated.

CHINAMONEY: With the globalization of the financial markets, do you think it makes sense to pursue a regional program to create an Asian bond market?

Rhee: In general, I can cite three major reasons for which the creation of a regional bond market does not make sense.

First, regional bond market activities are far more integrated with global bond market activities than normally acknowledged. For example, approximately 45% of global bond issues by Asian borrowers are purchased by Asian investors on the primary market. Another example is an active participation by Asian investment banks in underwriting these issues. Asian borrowers raised about US$53 billion through global bond issues during 1991-2001. About one-third of these issues were underwritten by Asian investment banks. The market share of Asian investment banks appears surprisingly large considering the fact that 18 of the top 20 lead managers in the global investment banking business are U.S. or European banks.

Second, the feasibility of creating a regional bond market has to be questioned. Take a look at the shogun and samurai bond markets in Japan. Shogun bonds are the bonds denominated in foreign currencies and issued in Japan by foreign institutions. The last time shogun bonds were issued was in 1993. Samurai bonds are denominated in Japanese yen and issued in Japan by foreign institutions. The amount of new samurai bond issues in 2003 (US$7 billion) was even smaller than that of Singapore dollar bond issues by foreign institutions in Singapore (US$11 billion) while the size of Japanese bond market is greater than the Singapore bond market by more than 100 times. When Japan alone is unable to promote regional bond market activities, how do we expect 13 countries (ASEAN+3) with differing stages of economic development and with un-harmonized market infrastructure to create a regional bond market? We also observe that domestic bond markets in Asia attract very little intra-regional investments, which throws doubt on the feasibility of a regional bond market.

Third, the sustainability of a regional bond market is questionable because of strong sense of regionalism. Efforts are being directed toward the creation of a regional clearing and settlement system, a bond rating agency, a trading system, etc. These measures will simply raise the cost of issuing bonds by requiring an additional financial infrastructure. No Asian borrowers will issue bonds in the regional market if they have to pay higher costs than in New York or London.

CHINAMONEY: What do you think the regionÕs economies should do if the creation of a regional bond market does not make sense?

Rhee: I would like to make two points. First, a regional bond market must be a part of global markets rather than being a segmented and isolated market. Naturally, Asian economies should make every effort to eliminate any legal and regulatory impediments to facilitate regional activities to be part of global activities. Second, the regionÕs economies must develop domestic bond markets first before the creation of a regional market. After all, the mobilization of savings is the main function of domestic bond markets. This mobilization process cannot be left with a regional market.

CHINAMONEY: Are you then completely against the idea of a regional bond market?

Rhee: No, that is not true. At the BoÕao Forum last year, I put forward two major considerations that do stand out to make the distinction between regional and global markets meaningful: (i) Asian common currency and (ii) credit enhancement program. The importance of Asian common currency is demonstrated by the lessons from the European Union. The elimination of exchange risk, the harmonization of market practices, and the redenomination of government debt into euro denominated debt heralded the emergence of a bigger, deeper, more liquid, and more homogeneous bond market in Europe. Similar advantages may be gained in Asia through fully or partially coordinated monetary, fiscal, and exchange rate policies among the region’s economies. Unfortunately, a regional level formal policy dialogue is missing at present.

The region’s economies will gain by focusing on a more realistic program for credit enhancement and credit support for small- and medium-sized enterprises (SMEs) and for bridging the credit gaps of sovereign and quasi-sovereign borrowers from the region. For any economies in the region, SMEs produce two-thirds or three-quarters of gross domestic products. The fact of the matter is that SMEs have access to neither capital market financing nor bank financing.

CHINAMONEY: What kind of role do you expect China to play in developing the Asian bond market?

Rhee: One may view that China’s role should be limited because of closed capital account and non-convertibility of RMB. I do not agree with this view because China can play a bigger role in a regional level dialogue on coordinated monetary, fiscal, and exchange rate policies. With an increasing amount of foreign exchange reserves, China can play a leadership role in creating an Asian Bond Bank (ABB) which is modeled after municipal bond banks in the United States and Canada to support credit enhancement program for SMEs and sovereign and quasi-sovereign borrowers. I proposed the creation of ABB at the Pacific Economic Cooperation Council Finance Forum Annual Meeting in Huahin, Thailand in 2002 to provide operational framework of regional market activities in lieu of the Asian Basket Currency (ABC) Bond Corporation which was discussed by ASEAN+3 working groups. The proposed ABC Bond Corporation lacked operational details and the idea of an Asian basket currency is premature to discuss at this stage.