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Asia’s next crisis could be a flood of debt

Asia is still traumatised by the great financial crisis of 1997, when Thailand’s devaluation of the baht set off a regionwide collapse in markets. Could it happen here again?

Asia is still traumatised by the great financial crisis of 1997, when Thailand’s devaluation of the baht set off a regionwide collapse in markets. Could it happen here again?

The mere question will strike many as odd, given Asia’s rapid growth and progress in strengthening financial systems, improving transparency and amassing trillions of dollars of currency reserves. But Asia now faces three risks that could quickly undo those gains: Federal Reserve tapering, a Chinese crash and an explosion of household debt.

The danger of the Fed pulling too much liquidity out of markets has been well documented. So have China’s rising vulnerabilities. Debt, though, deserves far more scrutiny. As economists survey the scene, Thailand once again tops the worry list. Debt there has risen rapidly, underwriting standards appear loose and non-performing loans are rising.

Thailand has plenty of company in Asia, Oxford Economics warns in a new report. Financially-conservative Singapore has seen credit growth in the past six years exceed that of the United States in the run-up to its 2008 subprime meltdown.

Several nations now have private-debt ratios of between 150 per cent and 200 per cent of gross domestic product. They include the higher-income set — Australia, Hong Kong, South Korea and Taiwan — as well as China, Malaysia, Thailand and Vietnam. Even where debt levels are lower, in Indonesia and the Philippines, the trajectory is troublesome.

“Debt surges of this kind often end badly,” said Mr Adam Slater, an economist with Oxford.

ASIA NOT AS HEALTHY AS IT SEEMS

Even more worrisome than the absolute levels of debt is the pace of increase, said Dr Frederic Neumann, Hong Kong-based co-head of Asian economic research at HSBC. For all its rapid growth and buoyant markets, Asia is not as healthy as it appears on the surface and might take on even more debt to support growth. As leverage exceeds the peak before the 1997 crash, is a sharp correction on the way?

“The optimists argue that’s unlikely to occur in Asia, where people tend to be more prudent and save more of their monthly income,” Dr Neumann said. “Well, not necessarily.”

All this fresh debt leaves Asia highly exposed to financial shocks and economic shifts. Any destabilising event — Fed chairman Janet Yellen over-tightening, renewed turmoil in Europe, a Chinese credit crunch, surging oil prices, trouble in Japan’s bond market — could push Asia back to the brink.

And it is not as though export markets are booming to provide a cushion.

What should governments be doing to avoid disaster? “It’s all about productivity growth,” Dr Neumann said. “If it slows, profits come under pressure and there’s a tendency to leverage up to maintain returns on equity, so anything that boosts productivity growth, really. For example, state-owned enterprise reform, infrastructure, less labour market rigidity and trade liberalisation.”

Few of these upgrades are afoot. Certainly not in Thailand, where the generals who seized power on May 22 are too busy consolidating power to restructure the economy. Ambitious talk of change in Hong Kong, South Korea, Malaysia and elsewhere has not been met with noticeable action. And the real worry, of course, is China. Last Friday, the central bank warned that credit and money supply are increasing too rapidly, months after Premier Li Keqiang pledged to tackle China’s lending bubble.

Beijing’s unprecedented stimulus binge after Wall Street’s 2008 reckoning supported growth throughout Asia. Beijing’s epic largess could come back to haunt the region if growth slows sharply or giant debt defaults slam world markets. The same goes for the Fed’s quantitative easing programme. Ultra-low US rates pulled tidal waves of capital Asia’s way, helping to facilitate a surge in private-debt ratios. But now Fed policies and China’s growth engine risk shifting into reverse.

Thailand’s implosion was only the most spectacular example of Asia’s propensity for boom-and-bust cycles since the late 1990s. Others include Hong Kong’s property slump in the early 2000s, mini-crises in unsecured debt in South Korea and Taiwan in the mid-2000s and Vietnam’s real-estate blow-up that began in 2010. This track record is a warning against downplaying the damage unsustainably high debt could inflict.

Granted, Asia is still among the world’s least ugly economic regions, with Greece and Portugal back in the news and Argentina defaulting anew. Also, stricter loan-to-income ratios and robust “macroprudential” policies such as taxes and regulations that limit money flows could save Asia from revisiting the depths of 1997.

But, Oxford Economics’ Mr Slater warned, the risks from the debt build-up look sufficient to call into question the much-touted trend of the rise of the Asian consumer. That would be bad news for everyone.

ABOUT THE AUTHOR:

William Pesek is a Bloomberg View columnist based in Tokyo who writes on economics, markets and politics throughout the Asia-Pacific region.

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