Singapore: Ignoring increasingly frothy asset markets may not be the most prudent strategy to adopt when the world is still healing from a financial crisis, but Asia’s monetary authorities seem set to do precisely that.
Awash in cheap cash that central banks and governments have pumped into the ailing global economy, the prices of shares and property have jumped to levels that belie weakness in other parts of Asia.
House prices in Singapore and Seoul are estimated to have jumped 10 to 40% in the past year or so, while their stock markets have climbed by some 50 to 80% since March.
Both economies bounced back in the second quarter, Singapore from its deepest recession on record, yet it was a patchy recovery with conspicuous weakness in exports and labour markets and disproportionate contribution from policy stimulus.
Some of the region’s share markets sank on Wednesday under a heavy bout of profit-taking stoked by fears that authorities may curb robust bank lending.
Yet, the lopsided economic picture has market participants believing that central banks in Asia will not tighten policy soon for fear of derailing nascent recoveries, even if they sense there are asset market bubbles in the making.
“It is a question of what they should do and what they will do,” said HSBC’s regional economist Frederic Neumann.
Ideally, central banks should be raising policy rates as well as allowing their currencies to appreciate — to minimise the inflationary impact of the cash chasing those surging assets and to make it more expensive to dabble in markets.
Neumann reckons policy rates ought to rise by as much as 3 to 4 percentage points on average to effectively rein in property and share prices.
Rate rises of that magnitude would draw more money into Asia, pushing up its currencies. And a loss in terms of trade is the last thing the region’s trade-dependent economies want now, when a slump in global demand has already depressed export incomes.
Given the heavy resistance to higher rates or currencies, Neumann says he is ultimately left with “policy makers remaining behind the curve and bubbles blowing larger and larger”.
Is it a bubble?
For a start, no one is sure if the extraordinary run up in markets will be sustained long enough to be termed a bubble, or if indeed markets are getting ahead of themselves in pricing in future economic growth and improvements in corporate earnings.
An additional challenge for Asian authorities, whose policies have timelessly been geared towards growth, is deciding at which point they interrupt the party. Asset reflation is already making consumers feel richer and helping banks repair balance sheets.
Retail ownership of stocks and property in Asia is far lower than in the developed world, minimising the impact of rising asset prices on inflationary expectations in the short term. Only 10% of households own equities in India, where the main stock market has surged 84% since March.
There is also the question of how far rate rises can really tame asset markets. Whether a percentage point or 2 of increases in funding costs will deter investors looking to reap between 30 to 100% returns on property or stocks is highly debatable.
Still, in a world nursing its wounds from a crisis that sprouted in an overvalued US property market, it would be unbecoming of central banks to brush aside threats of a bubble.
Average interest rates in Asia, excluding Japan, are just above 4%, meaning the spread over near-zero dollar rates is sufficiently attractive for investors seeking yield.
But widening that spread by 3 to 4 percentage points, which is the kind of tightening analysts believe is needed when markets get too bubbly, would put upward pressure on the currency in other ways. For a start, domestic investors would keep their money at home and businesses would borrow more abroad.
Morgan Stanley analyst Chetan Ahya says this is why the more cyclical and open economies, such as Malaysia, Singapore, Taiwan and Hong Kong, will have difficulty tightening policy until they see a pick up in global demand.
If they raised rates, their large current account surpluses would balloon further, unless they let their currencies appreciate.
“For them, the challenge is bigger precisely because these countries are dependent on external demand which is weak and therefore they don’t have capacity utilisation at levels tight enough to pose inflation risk. This makes it more difficult to lift policy rates,” Ahya said.
For now, analysts say policy makers in the more hawkish countries, such as India and Korea, would merely tinker with monetary settings, by raising bank reserve requirements, issuing more short-term bonds or other direct controls on lending.
China has already embarked on that path, having started issuing more bills and restraining banks from lending recklessly.
But such moves, known as monetary sterilisation, have their limits. In 2007 and 2008 Korea and India tried in vain to halt spiralling property markets and ran fast out of instruments to soak up cash from the market.
“Right now we are not in a bubble stage,” said Ahya.
“But in six to 12 months’ time, if the asset markets have already gone up and external demand has not recovered, that is when the real policy dilemma will come.
“There are risks, but it is hard to quantify that now. At this stage, they will probably let this first round of reflation continue.”