First of a series
IN the broadest sense, the ultimate goal of an integrated Asean Economic Community (AEC) is the free movement of goods, people, and capital within the region. In order to achieve the capital market aspect of the target, an ambitious plan to create an integrated regional market has been underway since 2007.
With only three quarters of the year left before the end-2015 deadline for the launch of the AEC comes, however, it is clear that the effort trails its optimistic timeline by a wide margin; there is a sense among observers that the region’s market stakeholders and policymakers may have bitten off more than they can chew with a plan that underestimated the maturity of individual markets within the region.
Nevertheless, market integration does appear to be developing, if more slowly than originally thought possible. This week’s special report breaks down this critical part of the entire AEC concept: What it hopes to achieve, the challenges that must be overcome, and what investors and market watchers might expect to see in the near future.
At the Asean level, the capital market integration effort is coordinated by the Asean Capital Markets Forum (ACMF), whose members are the securities and exchange regulators of the 10 member-states. The current chair of ACMF is Datuk Ranjit Ajit Singh, who is the chairman of the Securities Commission in Malaysia.
The Implementation Plan adopted by the ACMF in 2009 was developed beginning in 2007 with the assistance of a ‘group of experts’ from the private sector, and was designed to achieve three broad objectives, within which six narrower ‘strategic components’ were identified:
Creating an environment for regional integration by adopting a mutual recognition framework. The benign language of this particular goal belies the difficulty that has been and will continue to be encountered on the road to realizing it. What the “mutual recognition framework” envisions is harmonization of investment rules, regulatory requirements, tax regimes, and general standards and practices across the Asean region.
That there are 10 separate market systems with widely-varying rules and levels of development makes the task more than complex enough, but because many of the reforms—for example, relaxation of foreign investment restrictions—require domestic legislation or even constitutional changes, they fall outside the purview of the ACMF. This makes the market integration effort unavoidably dependent on other parts of the overall Asean integration blueprint, which may be the market integration effort’s Achilles Heel.
Creating the necessary market infrastructure and regionally-focused products and intermediaries. The ACMF Implementation Plan spells out three specific goals in building a regional market infrastructure: An “Asean exchange alliance and governance framework,” promotion of the Asean as an asset class, and further strengthening of the regional bond market.
While the ACMF and the market stakeholders in the Asean countries have made considerable progress in these areas, success depends on whether or not the efforts actually attract more market investors, particularly in the less developed markets.
Strengthening the implementation process. In order for the integration effort to succeed, intraregional coordination must be improved, the Implementation Plan explains, by aligning domestic capital market development plans with the regional integration agenda and reinforcing the Asean working process.
The still-in-process merger of the Philippines’ stock and bond markets is one example of the sort of effort being pursued at a domestic level in support of the regional objective; although it is not explicitly stated in the Implementation Plan, integration of equity and security exchanges—or in some cases, most notably Vietnam, creation of a local bond market —is a presumption the plan makes throughout.
In an interview with the Singapore Straits Times last month, ACMF chairman Ranjit explained that the rationale behind the market integration effort was obvious. Collectively, the Asean makes up the world’s seventh-largest economy – accounting for nearly 6 percent of global gross domestic product at an estimated $2.4 trillion. In terms of market capitalization, the Asean collectively accounts for about 3 percent of the world total, with a third of that coming from Singapore. For comparison, a combined Asean market would be about the same size as Germany’s in terms of value.
As impressive as those numbers are, they are indicators of an underachieving part of the regional economy, in Ranjit’s view. “Certainly, the Asean exchanges’ current collective size at 3 percent of global market capitalization does not wholly reflect the region’s economic clout and future growth prospects,” Ranjit said. “[This] further underscores the scope for further progress and gains.”
Some of the improvements achieved so far, according to Ranjit, include harmonized disclosure and reporting standards for securities, which is intended to facilitate cross-border capital raising; more efficient approval processes for secondary listings in other Asean markets (although not all of the 10 Asean members have implemented these); and the beginnings of a market connectivity structure called the Asean Trading Link, which is intended to facilitate the ultimate goal of providing a virtual single market for issuers and investors.
A key initiative is to “elevate the profile of Asean as an asset class,” as Ranjit put it, which envisions the creation of securities traded at the regional rather than domestic level. According to the ACMF chairman, recent achievements such as “allowing providers of collective investment schemes such as unit trust funds to offer their products across the region, and identifying major regional companies through avenues such as the Asean Corporate Governance Scorecard” are steps that have been accomplished so far.
Some key obstacles remain
In reviewing various assessments of the capital market integration plan and results, the challenges faced by the initiative fall into two broad categories. First, there are the institutional differences among the 10 individual Asean members, which is the current worry for ACMF chairman Ranjit. Areas that still need work include rationalizing divergent domestic policies on account liberalization, improving protections for investors, and coming to terms with conflicting withholding tax structures.
“However,” Ranjit diplomatically explained, “As these reforms do not always fall within the direct remit of ACMF members, they will be pursued through the various avenues for cooperation available under the Asean institutional structure.”
The second problem is more fundamental. Asean capital markets are almost universally regarded as being small, offering a limited range of products and services, and generally illiquid; as a consequence, said Satoshi Shimizu, senior economist for the Japan Research Institute’s Center for Pacific Business Studies (and no relation to the Japanese boxer of the same name), the markets remain highly vulnerable to external shocks.
Ironically, explained Satoshi, “this situation has been responsible for the continuing existence of restrictions on capital transactions, which have impeded progress toward regional financial integration. That is why regional financial integration has moved forward more slowly than integration at the real economic level,” the imbalance that also concerns the ACMF’s Ranjit.
In other words, the capital restrictions meant to protect small, vulnerable markets are precisely what is keeping them small and vulnerable, by preventing them from leveraging the formidable collective strength of the region. Underutilization of the bond and equities markets will eventually impact the wider economy as other financial channels, primarily bank lending, approaches a saturation point.
In a real sense, there is resignation even in Ranjit’s optimistic view that other parts of “the Asean institutional structure” will find ways to lower the barriers—the message, whether intended or not, seems to be that the ACMF has done what it could, and that further progress toward market integration lies in the hands of individual countries.
That state of affairs, while unwelcome from a regional perspective, could present some opportunities for domestic markets like the Philippines. Development of the local stock and bond markets has accelerated in the past year as AEC 2015 has drawn closer; that very well may have, in the view of local market executives, provide a window of opportunity for ‘new and improved’ Philippine markets to gain market share over lagging regional competitors.
But according to those same officials, the Philippines’ equities and securities markets are still critically underdeveloped, leading to some evident anxiety among market stakeholders. In part two of this special report, the state of development in local markets in relation to the capital markets integration effort and regional competition will be examined.