Research Blog
What if Asian currencies come under attack?
For more details, please contact:
Mingchun Sun
(852) 2773 8751
mingchun.sun@hk.daiwacm.com
Kevin Lai
(852) 2848 4926
kevin.lai@hk.daiwacm.com
Christie Chien
(852) 2848 4482
christie.chien@hk.daiwacm.com
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30 November 2011
Summary
- Despite solid fundamentals, Asian currencies are not immune to an acute global financial crisis.
- All Asian currencies have depreciated in the past weeks
- Most are well positioned to avoid a major crisis in the event of a currency attack
- The Rupee, Rupiah and Won could show the largest volatility in the coming months
Fundamentals
Since 1 August 2011, the Indian Rupee (INR) has depreciated by nearly 19% against US dollar, raising concerns that the European sovereign debt crisis could spread to Asia sometime. In fact, among the 10 economies that we cover, 9 of their currencies depreciated since 1 August, with the exception of the RMB (which also stopped appreciating a month ago).
Changes of spot exchange rates against USD since 1 August
Source: CEIC and Daiwa
Judging from the changes in FX reserves since the end of August, all Asian central banks (except HKMA) intervened in the FX market to stabilize their currencies, causing declines in their FX reserves. In particular, FX reserves fell by 9.1% in Indonesia in just two months (September-October), suggesting significant pressure on Bank Indonesia to defend the Rupiah.
Change of FX reserves (Aug 2011 - Oct 2011)
Source: CEIC and Daiwa
In our view, most Asian currencies have strong support from economic fundamentals. All economies, except India, have been enjoying current account surpluses over the past three years. However, it is worth noting that the surpluses in Indonesia and Hong Kong have shrunk sharply since 1Q11 and they seem likely to turn into deficits within 1-2 quarters.
Judging from the ratio of short-term external debt to FX reserves, most Asian currencies are well positioned to avoid a crisis even in the event of a currency attack. However, it is worth noting that the ratio is 46% for South Korea and 36% for Indonesia, making their currencies more vulnerable to sudden capital outflows than their neighbours (except Hong Kong and Singapore). As international financial centres, Hong Kong and Singapore’s economies are no doubt the most open in Asia, hence most exposed to external shocks. But their special currency regimes should help limit the volatility of HKD and SGD.
For these reasons, we judge that the Indian Rupee, Indonesian Rupiah and Korean Won could show the largest volatility in the event of contagion from the European crisis. Equity investors should note that sharp currency depreciation will not only cause higher import inflation pressure, weaker imports and lower purchasing power of domestic entities, but also increase the debt service burden of local companies with foreign debts significantly. If the depreciation is too sharp and lasts for too long, some could be pushed to bankruptcy as they have no way to repay the suddenly ballooning debt service burden.
Mingchun Sun, Chief economist, Asia, ex-Japan
Kevin Lai, Senior economist, Asia, ex-Japan
Christie Chien, Research associate, Asia, ex-Japan
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