The Fed and Asia
After all this, now that?
Rough summer. But turns out the Fed isn't tapering just yet. Markets are thrilled, and much needed reprieve for
battered EM investors is on its way. With Chinese data having turned up, and the BoJ running at full speed, it looks
like Asia might get its mojo back. Whether this will stick depends on reforms. The window will not be open for long:
the Fed still thinks it will be done with QE by mid-2014 and tapering has probably been postponed by only 3 months.
True, the BoJ will provide support for longer. But remember that the latest sell-off was about more than tapering: it
was about increasingly wobbly fundamentals.
You will have heard: no taper for now, plus lots of dovish noise. That's a big relief for Asia's hard-pressed emerging markets.
True, in the last couple of weeks, things had already stabilized, but the Fed's decision to keep pumping money should provide a
further lift. Add to this the BoJ's aggressive monetary easing, which is only in its early stages, and financial conditions should
stay highly supportive for a while longer. Even India and Indonesia, experiencing the greatest balance of payments pressures of
late, should benefit nicely.
To put things in perspective, consider the attached chart. Here we show the balance sheet size of the world's major central
banks. Continued asset purchases by the Fed, even if slightly reduced in December as our US economists suspect, will inject
further substantial sums of cash. The ECB, for the time being, might see its balance sheet shrink slightly on repayments of
earlier emergency loans (although our chief European economist, Janet Henry, remains worried about the strength of the
Eurozone recovery, implying that the ECB could ultimately be forced to provide additional accommodation). By contrast, with
the way data is tracking in the UK, additional easing appears unlikely for now.
That leaves the BoJ. All the worries about tapering this summer were always a bit misplaced. With Japan's central bank turning
on the spigot (fire hose, rather), there's plenty of liquidity made available right on emerging Asia's doorstep. In our view,
investors never fully appreciated the impact BoJ easing cycles have had historically on neighboring economies. And with
this cycle being far more aggressive than others, there's a solid backstop in place for when the Fed decides to rein in its asset
purchases.
All reassuring stuff. But there is another perspective to the recent sell-off in Asia. In this view, tapering fears were just a trigger
for a market plunge that had much deeper sources. In many Asian economies, growth fundamentals have gradually deteriorated
for years. Easy cash has been a decidedly mixed blessing for the region. While it helped to buffer export dependent economies
from the malaise in the West, it also blunted any incentives for structural reforms and enabled a dependence on debt to sustain
prosperity amid slowing growth in productivity.
The fact that the money train will continue for a while means the risk of a hard-landing or a balance of payments crisis has
been greatly reduced, if not averted. But, the Fed only postponed its tapering and even the BoJ will not print money forever. To
avoid another rough summer, policy-makers in Asia will need to use this brief window to implement structural reforms to put
Asian growth on a more sustainable path. That would make for a true bull market.
Frederic Neumann
Co-head of Asian Economics Research
