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Talk of a region-wide framework for local currency bond issues has again raised hopes for better linkages between Asia’s financial markets. However, ensuring that Asia’s growing savings pools go towards regional development is not an easy task.

The promise of a single economic community across the Association of South-East Asian Nations, or ASEAN, is the most visible commitment to Asian integration. Nevertheless, with less than two years to go before the December 2015 deadline, many hurdles remain.

Initiatives to strengthen the capital markets through common rules and standards for participants are in place, but have yet to bear fruit. Trade tariffs are not fully removed and national restrictions on investment in certain industries are still in place.

“We recognise the need to address cross-border flows of trade and investment,” said ASEAN Secretary General Le Luong Minh, speaking at Credit Suisse’s Asian Investment Conference in March.

“Looking forward, it is important to improve our resilience against the global economy. The economic centre of gravity is shifting to Asia and ASEAN must integrate to compete successfully.”

ASEAN has created some cushions against global economic shifts, notably a series of currency swaps under the Chiang Mai Initiative. The agreements give governments in the region emergency access to liquidity should international markets seize up. The goal is to reduce Asia’s dependence on US dollars.

“Looking forward, it is important to improve our resilience against the global economy. The economic centre of gravity is shifting to Asia and ASEAN must integrate to compete successfully.”

Analysts note that only a small portion of the US$240bn headline total can be accessed immediately, since the vast majority of funding depends on the International Monetary Fund’s participation. However, the scheme allows regional policymakers to spend less time and resources defending their currencies, says Noritaka Akamatsu, deputy head of the ADB’s office of regional integration.

“The Chiang Mai Initiative Multi-lateralisation (CMIM) means there is less need for global FX lines, so Asia can allocate more resources towards productive investment,” Akamatsu said.

“Countries should only need FX reserves to cover short-term capital inflows and three months of imports. So, with the right frameworks in place, there is an opportunity to move away from US Treasuries and towards local currencies.”

Low levels of foreign exchange reserves exacerbated the Asian financial crisis in the late 1990s. Many Asian countries have since built up vast pools of reserves and, while that has helped regional currencies, the policy has created other problems.

“Asia’s international reserves are largely in US dollars and non-regional currencies. To manage liquidity risks, that means all the region’s savings are in US Treasuries, and they are coming back as short-term speculative capital,” Akamatsu said. “The ideal solution is to divert some of that pool to more productive uses within Asia.”

However, sitable alternatives to US Treasury holdings are not readily available. China’s renminbi is on its way to becoming a global reserve currency, but convertibility restrictions mean it is not there yet, and other Asian currencies lack liquidity. Early talk of an eventual Asian single currency disappeared quickly in 2008, when the eurozone ran into trouble.

Bilateral agreements offer one area of potential. The central banks of China and South Korea agreed at the end of 2012 to provide renminbi for trade settlement in each country, turning a previously agreed US$56bn currency swap into a local currency tool.

Woon Ken Chia, head of local markets strategy for Asia at RBS, said the “unprecedented move” to promote the renminbi could lead to similar agreements elsewhere.

“We envisage that more of the existing swap lines will be similarly activated, while the PBoC continues to extend new swap lines to more central banks globally,” Chia said.

On the front line

While politicians keep forging closer ties, companies and investors remain reluctant to cross borders.

Uniting Asian savings requires greater integration between individual capital markets, and cross-border agreements have been moving ahead only slowly.

The Asian Bond Market Initiative, which the ADB and ASEAN set up over 10 years ago, has recommended a multi-currency issuance framework to speed up cross-border bond sales, but the first such deal has yet to emerge. (See next chapter.)

A handful of high-rated public sector issuers, such as Export-Import Bank of Korea, have successfully sold bonds in other Asian markets, but private- sector companies often need credit enhancement to entice new investors. Several guarantee schemes are in place, but deals have been few and far between.

“Getting these things off the ground is tricky,” said Henrik Raber, global head of debt capital markets at Standard Chartered. “The driving force behind any deal is economics, but there are also documentation and settlement issues.”

Further capital-market integration will require countries to lift restrictions on cross-border issuance and the convertibility of their currencies – something that has proved politically sensitive in the past.

Thailand allows overseas companies to issue bonds in the local baht market, but each deal needs to pass an approval process that runs only twice a year, complicating efforts to time any issue.

Diverting local funds for foreign use has added to political tensions in the past, and the country’s embattled government has made no suggestion to change that process.

Other challenges remain around the free flow of trade and labour, but Minh reaffirmed the region’s commitment to developing an ASEAN Economic Community come December 2015, saying the momentum and commitment of member states was “very strong”.

“We are well on the way to having a free flow of investment across ASEAN,” he said, noting that FDI in the region had risen from about US$20bn in 2001 to over US$110bn in 2012. Intra-ASEAN investment had grown from around US$5bn in the late 1990s to over US$20bn in 2012, Minh pointed out.

Economic agreements for trade and services are largely in place, and intra-regional tariffs, while not yet entirely abolished, have been reduced to an average of less than 1%, according to Minh.

ASEAN members have also agreed to investment frameworks covering key industries and to invest a collective US$55bn–$60bn a year on connectivity projects to boost productivity.

With the political will in place, progress appears assured. The pace of change, however, will be slow.

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