Following is the speech by the Secretary for Financial Services and the Treasury, Mr Frederick Ma, at the Symposium on Asian Economies and Financial Markets in Singapore today (May 28) (English only):
Developing Asia's Bond Market: Fostering Financial Stability and Enhancing Economic Development
Good morning ladies and gentlemen,
It is a great pleasure to join you today here in the Lion City to share some views on how, working together, we may build on our economic and financial strengths to foster financial stability and create more development opportunities in the region. I would like to thank the Conference Board for inviting me to join this symposium as it is always nice to visit Singapore, which is a beautiful and dynamic city.
Overview on Asian Economic and Financial Development
Before we look forward, let's just rewind a little bit to see what lessons can be learnt from our immediate past. The Asian financial crisis exposed underlying structural weaknesses in many Asian economies. Before the crisis, we may have chosen to ignore some of those weaknesses. But the devastating impact of the financial turmoil in 1997 and 1998 illustrated the need to take a good, hard look at how our financial markets had been operating, to introduce painful but necessary reforms, and to work more closely together to ensure the smooth function of markets across the region.
By and large, Asian economies have risen to this challenge. The result? A renaissance over the past six or seven years. Governments in many economies reformed their economic structures, financial systems and legal frameworks. There is greater due diligence. Markets are stronger as well as more open, transparent and resilient. So, it is fair to say, that we have forged a silver lining from the dark storm clouds that engulfed the Asian economies a few years ago. The speed at which Asian economies recovered from the SARS crisis last year also demonstrated how our markets are now better prepared and equipped to deal with external or unexpected shocks.
Indeed, the East Asian economies as a whole grew by 4% in 2003, slightly faster than the 3.9% growth of the global economy. Asian economies are forecast by IMF to grow by 4.8% this year, which is again faster than the forecast of 4.6% growth for the global economy.
The single biggest factor impacting on the development of the region is the rising importance of Mainland China (the Mainland), both as an integral part of the East Asian supply chain and also as an increasingly lucrative domestic market. To reduce costs, and hence maximise profits, many foreign companies, including those from East Asia, have established manufacturing and production operations in the Mainland. These increased investment flows have undoubtedly contributed to elevating world economic growth, through a more efficient allocation of resources and cheaper products for consumers.
The rising manufacturing might of China has also increased its appetite for imports from within the region. Between 1998 and 2003, East Asia's exports to China grew by an average of 18.3% per annum, while the share of these exports rose from 9.2% to 16.3% of East Asia's total exports. The Mainland economy has become, and will continue to be, an important market for the East Asian economies, driving growth in the region.
Equity financing, an important source of financing to facilitate growth, has managed to recover from the trough in 1997 and 1998. Indices of some markets in the region have even exceeded the pre-1997 levels. As you can see from the table, total market capitalisation of stock markets in the Mainland, Hong Kong, Singapore, Thailand and South Korea increased significantly between 1997 and 2003.
The Need for a Balanced Financial Market
The existence of an efficient financial market plays a key role in supporting economic development. For the Asian economies to realise their expected promising economic growth, we need to have a robust financial system, supported by an efficient and advanced infrastructure and a sound regulatory framework, to facilitate enterprises in various sectors in raising the necessary funds to establish and expand their businesses to grasp the rich investment opportunities.
The Asian financial crisis highlighted the importance of establishing a deep, liquid and mature bond market so as to avoid over-reliance on bank and equity financing. Traditionally, Asian economies relied on bank loans to finance their business activities. When capital markets began to develop in the 1980s and '90s the equity markets became another source of financing. A heavy reliance on bank financing led to a significant mismatch in the maturity structure of assets and liabilities. Funding of long-term investments such as infrastructure projects by bank loans made many corporations and regional economies vulnerable to economic swings.
To make matters worse, Asian borrowers, prior to the financial crisis, tended to borrow in foreign currency and then swapped them into local currency. This created a currency mismatch problem. As you can see from Table 3, Asian economies rely heavily on bank financing rather than bond financing compared to the United States and Japan. However, the situation has improved over the last eight years in part due to governments' initiative in developing the local bond market.
The absence of a deep bond market in many Asian countries means that local economies are prone to sudden, short-term swings in investor confidence. When foreign funds of significant size are suddenly withdrawn from a particular economy, banks and corporations are faced with real risks of insolvency even if their long-term asset quality is healthy. Therefore, the presence of a well-developed bond market, particularly in local currency, will enhance the region's long-term economic development and significantly reduce the likelihood of future financial instability.
I would also like to point out that only a small portion of our central banks' reserves is invested in regional financial markets. Asian economies collectively hold more than US$2 trillion of official reserves, but the great majority of these reserves is held in major currencies outside this region. Some of these reserves are channelled back to Asia in the form of bank loans and equity investments. But, regional bond markets do not seem to have directly benefited from these capital flows. The development of a deep and liquid regional bond market can facilitate effective intermediation of savings to investments in the region.
Favourable Factors for Bond Market Development in Asia
There are several economic and financial strengths in Asia that I believe can provide a solid foundation to further develop our bond markets. First of all, the savings rate in Asia is high - it stands at about 30% compared with 17% for the United States and 22% for Europe EMU. This can provide an abundant supply of funding to support the development of capital markets.
Good prospects for economic growth is another favourable factor. Over the past few years, economies in the region have demonstrated a remarkable ability to recover from significant setbacks. Regional economies are forecast to grow quite strongly over the next few decades. More enterprises with substantial financial strengths are likely to emerge and the number of qualified corporations for issuing bonds may increase as a result.
More importantly, governments within the region are placing increasing emphasis on the development of bond markets and co-operating to develop these markets from both the demand and supply perspectives. I am delighted to see that Asian economies have moved from "planning" to "implementation" with the development of bond markets. And it is encouraging to see that a number of regional forums such as APEC, ASEAN+3 and EMEAP are working on a lot of ideas and plans on how to develop the regional bond market.
The EMEAP Group Asian Bond Fund (ABF) initiative, being developed under the EMEAP Working Group on Financial Markets chaired by the Hong Kong Monetary Authority, is tackling the development of a regional bond market from a demand perspective. The first phase - the US dollar ABF - has a size of about US$1 billion and is fully invested in US dollar denominated Asian bonds. This US dollar ABF is an important step towards promoting efficient financial intermediation in the region. It is helping to channel a small portion of the very sizeable official reserves held by the Asian economies back into the region. The EMEAP Group has moved to the second phase of the ABF project, that is, the local currency-denominated ABF, or ABF2 as it is called. We expect that the ABF2 will have a significant effect on promoting the development of domestic and regional bond markets. It will help foster investors' interest in Asian currency bond funds, and also enhance the market infrastructure of domestic and regional bond markets.
Meanwhile, ASEAN+3 is undertaking the Asian Bond Market Initiatives (ABMIs) to develop the Asian bond markets from a supply perspective. This Forum's emphasis is on the need to facilitate access to the market by a wide variety of issuers, and the creation of an environment conducive to developing bond markets. Six study groups have been established to examine the creation of new securitised debt instruments, the issuance of debt by international financial institutions, regional credit guarantees and enhancement facilities, as well as both local and regional credit-rating agencies.
Whether or not the regional bond market takes off will depend on whether supply and demand factors match each other. This also hinges on whether the necessary financial infrastructure, the software and hardware for bond markets, is in place. This is where the APEC Initiative on Development of Securitisation and Credit Guarantee Markets comes in. This Initiative is chaired by Hong Kong, together with Korea and Thailand, and sponsored by the World Bank. While the ASEAN+3 and EMEAP initiatives tackle bond market development at the regional level, the APEC Initiative aims to tackle bond market development at the domestic level. The APEC Initiative complements the other regional initiatives. It aims to promote understanding and awareness of the importance of securitisation and credit guarantees to bond market development, and to assist APEC economies to identify and take concrete steps to remove impediments to the development of securitisation and credit guarantee markets. The value of the APEC Initiative lies in the fact that it provides a focus and impetus to pool resources and promote co-ordination among various ministries to achieve the goal of developing domestic bond markets. Thus central banks, Ministries of Finance, Securities Commission and other related government agencies are brought together through the inter-departmental task force to devote joint efforts towards removing any market impediments. Good progress has been made. So far, two expert panel visits have been made to Thailand, one to China and one to Mexico. Two high-level policy dialogues have also been held.
Areas to Work On
Other than factors such as regulatory and financial infrastructure, good corporate governance is crucial to the development of bond markets because it is the key to maintain investors' confidence and ensure the integrity of our financial markets. One of the key elements of corporate governance is information transparency.
Timely disclosure of reliable information, including price sensitive information, enables investors to make informed decisions for themselves. Key to this is information disclosure by borrowers seeking to raise funds from the public. In reaching out to the investing public, these borrowers have an obligation to provide timely, accurate and full disclosure of material information.
Ratings made by credible credit agencies provide important investment reference for investors. The availability of objective analyses of, for example, bond issuers, can help investors assess the risks of holding different bonds and enhance their confidence in making such investment decisions. It would be conducive to the development of bond markets if more potential borrowers could actively communicate with credit rating agencies, and secure credit ratings, to provide an objective assessment for reference by investors.
To develop the demand side of financial markets, investor education is an important area to work on. Despite the high savings rate in Asia, the percentage of the total population investing in financial markets, particularly the bond market, is relatively low compared with other regions. There is thus tremendous potential in the region for channelling these savings into investments other than bank accounts.
Benchmark Yield Curve
Apart from what I have just mentioned, the forming of benchmark yield curves is also instrumental in the development of bond markets. Yield curves provide investors with an important reference when making investment decisions, and they also help fund raisers to map out their funding strategies. However, the bulk of fixed-income securities issued in the region are short term in nature. More efforts are required to promote the size and liquidity of medium to long-term government bonds before a reliable benchmark yield curve can be constructed to facilitate the efficient pricing of private sector bonds. The availability of a more diverse range of debt products in terms of maturity would facilitate the development of benchmark yield curves. This is a crucial building block for the long-term development of the bond market.
Hong Kong's Experience
In Hong Kong, the development of the bond market has been high on my policy agenda. From a macro perspective, the development of the bond market gives the public and private sectors an additional channel to raise long-term capital not to mention that it will reinforce Hong Kong's position as an international financial centre. For individual investors, a more developed bond market offers wider investment choice that can better suit different investment needs and risk appetite.
I mentioned earlier that corporate governance is key to the development of the financial market. I would like to share some of what we have been doing in Hong Kong on this subject. Last year, together with the Securities and Futures Commission (SFC) and the Hong Kong Exchanges and Clearing Limited (HKEx), I reviewed the measures being taken by various parties to improve corporate governance. We then drew up an Action Plan to identify priority areas, assign ownership and devise a timeframe for implementation of all measures.
First, the Securities and Futures Ordinance was implemented in April 2003. Two elements are particularly relevant to corporate governance. These are the dual filing arrangements and the enhancement of the SFC's inspection and investigative powers. The dual filing provisions render the filing of false or misleading listing documents and ongoing disclosure materials with the SFC a criminal offence. The SFC's enhanced powers allow it to obtain explanations and documents from parties closely connected to listed companies such as banks, auditors and transaction counterparts, thereby enabling the regulator to conduct inquiries into corporate misconduct more effectively.
Second, following the completion of the Phase I Corporate Governance Review by the Standing Committee on Company Law Reform (Standing Committee), I introduced the Companies (Amendment) Bill 2003 into our Legislative Council in June 2003 to implement recommendations in the Review relating to shareholder remedies such as statutory derivative action. In Phase II of the Review, the Committee also made recommendations on different aspects of directorship, shareholders' rights, conflicts of interests, and corporate reporting. Implementing these recommendations will represent a major step forward in our corporate governance regime.
Third, we are pressing ahead with initiatives on the oversight of auditors and the quality of financial reports. These include the establishment of a Financial Reporting Review Panel, to examine the financial statements of companies to ensure better compliance with the accounting requirements of the Companies Ordinance, and the setting up of an Independent Investigation Board to deal with complaints against breaches of professional codes by the auditors of listed companies. These measures should be able to enhance the standards of financial reporting and the accountability and transparency of the auditing profession in Hong Kong.
Other measures that Hong Kong has undertaken in promoting our bond market include simplifying the issuance process and offering tax incentives. Last year, we introduced measures to shorten, from five years to three years, the minimum eligible maturity period for a 50% tax concession for qualified debt instruments (QDIs). We also increased the tax concession for QDIs of not less than 7-year maturity period from 50% to 100%. These tax incentives should bolster the supply and trading of medium- and long-term debt instruments, which will foster the development of our bond market.
The Hong Kong Government has also been actively encouraging public corporations to take the lead in launching debt issues, particularly at the retail level, for products such as Hong Kong dollar bonds with longer maturity periods. In the past year or so, Hong Kong dollar bonds, including retail bonds, with maturities ranging from seven to 15 years have been issued by the Hong Kong Airport Authority, the Mass Transit Railway Corporation Limited and the Kowloon Canton Railway Corporation. These bonds provide benchmark yield curves for market reference. By the end of the first quarter of 2004, the outstanding amount of Hong Kong dollar bonds, including Exchange Fund Bills issued by the Hong Kong Monetary Authority, amounted to HK$569 billion, a 37% increase over the past five years.
Another recent Government initiative has been to deepen the bond market by providing more diversified products for retail and institutional investors. This will not only help attract overseas capital, but also enhance the healthy development of our financial markets. Securitisation is one of these products and in Hong Kong this is gradually gaining strength. The Hong Kong Mortgage Corporation has been issuing mortgage-backed securities since 1999. More recently, synthetic securitisation and credit card receivable securitisation has begun to appear. Securitisation is not only a tool for developing the bond market, it is also useful for financing infrastructure projects. In Hong Kong, the Government has just launched a bond programme that securitises the income of government-owned toll tunnels and bridges. This exercise raised about HK$6 billion and is the largest securitisation transaction in the region. We also plan to issue government bonds up to HK$20 billion to finance capital projects. We believe this will enhance investor interest in bonds, which in turn will encourage more private and public corporations to issue bonds. Needless to say, we place a lot of emphasis on investor education as investments in bonds also carry risks such as interest rate risk and credit risk.
Ladies and gentlemen, developing a regional bond market is not an easy task, especially in a region as diverse and complex as our own. However, since we share the common goal of enhancing financial stability and economic growth, we have a common interest in stepping up our efforts and enhancing co-operation. In developing the regional bond market, we must work together at both the regional and domestic levels, and tackle both the supply and demand sides. There is no doubt in my mind that Asia will continue to be a major focus for the international investment community, as the region can offer a high return and good opportunity for risk diversification. As policy makers, our role is to create an environment that facilitates market development and enhances market quality. There are many areas in which we can join hands and work together for our mutual benefit.
Ends/Friday, May 28, 2004