Published Date: 17 September 2006

Speech By Managing Director Heng Swee Keat at DBS Formal Dinner, 17 September 2006

Asia's Financial Markets - The Challenges Ahead

Distinguished guests,
Ladies and gentlemen,

1   It is my pleasure to be here this evening, and I thank our host, DBS Bank, for this privilege to address you.  To all our foreign guests, I bid you a very warm welcome and I hope that you are having a pleasant stay in Singapore. 

Recovery from the crisis

2   The financial crisis which hit Asia about a decade ago devastated many economies in the region.  At that point, a number of observers began to express doubts about the "Asian economic miracle".  A decade later, Asia has emerged stronger and more resilient, and has become the most dynamic economic region in the world again.  

3   How did this remarkable turnaround come about? I believe it was the efforts of governments and corporates in taking painful action to address structural weaknesses in their economies and financial sectors.  The banking sectors were re-capitalised and prudential oversight was stepped up, with greater emphasis on building up a sound credit culture and corporate governance.  In some countries, competition was enhanced when foreign entities were allowed greater access to the domestic financial markets.  I believe, however, the critical factor behind Asia's revival was its continued engagement with the global economy, as it seized new opportunities over the subsequent years.

4   The growth of China and India is certainly phenomenal, and has helped lift the entire region.  Japan's economic revival will provide a further boost.  Let us not forget that ASEAN is growing strongly as well.  For the last 3 years, ASEAN's GDP [1] grew by a weighted average of 5.8%, exceeding the global growth of 4.8%.  In fact, ASEAN's combined GDP of US$883 billion compares well with India's GDP of US$772 billion and China's GDP of US$2.2 trillion, especially when considering that ASEAN's population is less than half of each of  these 2 giants.  The ASEAN economies have also built up important economic and financial strategic linkages as well as partnerships, and these will further deepen as ASEAN countries move towards a single market under the ASEAN Economic Community and enter into Free Trade Agreements with all the key partners in the region.

Financing Asia's Growth

5   Asia has become an integrated factory though its growth remains dependent on external demand, especially from the US and Europe.  To ensure sustainable growth into the future, Asia will also need to raise domestic consumption and make further major investments in education, infrastructure and housing.  Asian corporates need to achieve scale and depth, if they are to compete beyond just cost advantages.  Capital has to be efficiently raised and strategically deployed to meet these growing needs.  The region, however, is not short of savings.  In fact, both foreign reserves and household savings are the highest in the world and growing rapidly.  The critical issue is not the adequacy of savings or investment opportunities.  The issue is whether Asian financial markets are sufficiently deep, efficient and innovative to effectively intermediate these savings, channeling them to their most productive use.

6   Today, financing in Asia still remains largely bank-dominated. For example, in China and Indonesia, domestic bank credit constitutes about 70% and 45% respectively of total financing sources in 2005, compared to 22% for US [2] .  Capital markets in Asia ex-Japan are fragmented, and characterised by numerous but small domestic equity and bond markets.  In Asia ex-Japan, the total size of capital markets is 1.5 times that of bank lending.  While this is an improvement from 1.1 times before the crisis, it is way below the more developed markets of the US and UK, which have a ratio of 7 times.  In absolute value, the combined size of bond markets in Asia ex-Japan is only 10% of the US bond market. 

7   Asia's fragmented capital markets make it difficult for investors to invest in them effectively.  A number of impediments remain that discourage the development of domestic securities markets and cross-border flows.  Asia needs broader and deeper capital markets to re-cycle and invest Asia's savings in ways that facilitate better pricing of risk, as well as increase the efficiency and returns of investments.

The challenges ahead

8   In the coming years, I believe Asia's financial markets will develop along two complementary tracks - the strengthening of the banking system, and the further development of capital markets. 

9   Given the dominance of banking today, the banking system will remain the principal channel for intermediating savings for some time.  Hence, regulators in the region will continue to focus on strengthening the banking system.  Much progress has been achieved, although further reforms are necessary.  The shift away from policy-directed lending and the unraveling of complicated cross-holding must continue as banks move towards more commercially oriented lending.  This, together with efforts to strengthen corporate governance and the credit culture will improve the quality of banking operations, and contribute to overall financial stability.  Many countries, including Malaysia, Indonesia and Thailand are encouraging banking consolidation in order to strengthen the capacity of banks to compete and to manage risks.  Several countries have also allowed greater foreign presence, which has led to greater competition.

10   In the coming years, greater consolidation, intensifying competition and enhanced emphasis on risk management will remain as major themes for the banking scene in Asia.   

11   The second track of financial market development relates to the growth of capital markets. This will be driven by both the private sector and regulators, working together.  Let me suggest a few ideas where we can catalyse these developments.

12   Firstly, the markets need to create a more diverse and sophisticated range of products.  This will draw in investments not just from within Asia, but also from Europe and the US, as investors are attracted to participate more broadly in the region's economic dynamism.  In recent years, newer asset classes such as REITs, Infrastructure Funds and asset-backed securities like CMBS have appeared in Asia, thus reducing the over-reliance on bank loans for capital-intensive projects.  Singapore can be a center for raising capital to finance regional investments. We already have a thriving REITs and CMBS market which now extend to overseas assets. We hope to play a similar role for infrastructure financing in the ASEAN region.  To kickstart this, Minister for Education and Second Minister for Finance Tharman Shanmugaratnam announced yesterday that Singapore will be introducing a set of tax incentives aimed at promoting infrastructure financing through our capital markets.  Such capital market products can reduce the over-concentration of credit risks in the banking sectors, and facilitate better management of systemic risks.

13   The introduction of multi-country regional products will also promote investment in the region.  In this regard, the Asian Bond Funds I and II are a step in the right direction.  I also applaud ADB's launch of a US$10 billion multi-currency bond issuance programme last Thursday.  DBS is the lead manager for the Sing-dollar portion of the issuance.  On the equities front, an ASEAN-40 ETF, based on the FTSE-ASEAN equity index, was launched last week.  We hope that their successful launch will encourage other financial products to be developed that can take advantage of regional investment opportunities. 

14   Secondly, regulators can promote greater connectivity by working together to harmonise standards on disclosure, accounting and auditing, distribution rules, and the qualifications of accounting and investment professionals.  Unlike the US and Euro-zone, Asia also does not have an integrated system for cross-border trading, clearing and settlement.  A standardised clearing system can enhance inter-market accessibility thereby, reducing the costs of capital and promoting greater regional flows.  So would the further opening up of financial markets to foreign participation.  If such liberalisation measures can become an integral part of free trade pacts, it would send a strong signal of the resolve in the region in enhancing economic connectivity. 

15   Last but not least, as our markets become more closely linked and sophisticated, new risks will appear.  The scope and scale of activities of large financial institutions, as well as the greater connectivity of markets will increase contagion risks.  The widening of the range of financial products, while facilitating risk intermediation, can also pose new risks because of their complexities.  Raising the risk management capabilities of the industry will be critical for the healthy growth of markets in Asia.  It is an area where I believe banks, financial market players, regulators and even the academic community can work in partnership to deepen capabilities.  In this regard, I am glad that universities here have stepped up their education programmes in financial risk management and product structuring.  The National University of Singapore (NUS) has, for example, set up a Risk Management Institute.


16   In summary, since the crisis, Asia has made good progress in the reforms of the corporate and financial sectors.  However, challenges remain, but they also present opportunities for Asia to push ahead in developing a vibrant financial sector.  Regulators and market players must remain committed to banking reforms and to the broadening and deepening of capital markets.  We can, with our concerted efforts, build a financial system that is resilient, efficient and innovative to help propel Asia's next lap of growth.  On this note, I wish everyone an enjoyable evening ahead.


1   ASEAN 10

2   BIS Papers No 28 : Banks and aggregate credit: what is new?