ASEAN Financial and Capital Markets —Policies and

2 RIM Pacific Business and Industries Vol. XIV, 2014 No. 54

ASEAN Financial and Capital Markets—Policies and Prospects of Regional Integration—

Summary

1. Asia is moving toward increasing economic integration in the run-up to the establishment of the ASEAN Economic Community at the end of 2015. This process includes the accelera-tion of intraregional financial integration through the liberalization of capital transactions. There has been considerable progress toward the development of financial and capital markets in ASEAN. However, the markets are still relatively small and vulnerable to external shocks. Moreover, 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. From this perspective, efforts to move toward regional financial integra-tion as a way of creating an integrated and functionally efficient regional financial system are centering primarily on the liberalization of financial services and capital transactions, the de-velopment of settlement systems, and the development and integration of capital markets.2. There is wide variation in the both types of financial systems in ASEAN countries and also in their level of development. To achieve regional integration, member countries will therefore need to strengthen the competitiveness of their domestic financial and capital mar-kets and financial institutions, and to improve their financial regulations and other systems. As far as banks are concerned, the specific areas in which efforts are needed include the improve-ment of operating efficiency, the development of new business, human resource development, and the facilitation of inter-bank mergers. Stock and bond markets will also require improve-ments, including increases in the numbers of issuers and investors, human resource develop-ment, the development of financial products, the development of market infrastructure, sys-tems and regulations, and the improvement of liquidity in secondary markets. The expansion of domestic investors will also be extremely important from the perspective of coping with capital flows. Growth in the numbers of issuers and investors involved in cross-border transac-tions can also be expected to accelerate market expansion and development.3. A key requirement when developing financial systems is to ensure that systems contribute to economic development. Funds need to be allocated to productive purposes, and a particular priority within the ASEAN region at present is infrastructure finance. To accelerate intrare-gional financial integration, it will be necessary not only to strengthen each country’s markets, but also to implement measures to facilitate integration, such as the development of cross-border investment products, the modification and harmonization of regulations and systems, and the liberalization of capital transactions.4. Intraregional financial integration also leads to escalating competition and is unlikely to bring benefits to all participants. The adjustment of national interests within the region and support for less developed countries will therefore be important priorities. To minimize the risks of intraregional financial integration, sound macro-level policy management and the development of domestic financial and capital markets, as well as the creation of crisis man-agement systems, must be treated as prerequisites for the liberalization of capital transactions. The most important priority in the immediate future will be to raise the standard of financial systems in each country. This will facilitate intraregional financial integration and ensure that markets are ready to absorb capital flows from outside of the region. There is strong demand for funds in ASEAN countries, especially for infrastructure development, and the region will inevitably remain reliant on external funds to some extent.

By Satoshi ShimizuSenior Economist Economics DepartmentJapan Research Institute

3RIM Pacific Business and Industries Vol. XIV, 2014 No. 54

Introduction

Capital flows into developing countries in Asia and other regions have expanded rapidly in recent years. In addition to the benefits that these capital flows have brought, there have also been signifi-cant negative consequences, including increased public and private sector debt, and greater volatil-ity in capital flows. In May 2013, indications that the United States was about to change its quan-titative easing policy triggered a shift in capital inflows into developing countries, which had pre-viously been expanding rapidly. There are no indi-cations that developing countries are likely to face a crisis situation in the foreseeable future. How-ever, there is a renewed awareness of the need to be prepared for risks.

This situation requires a multifaceted response from developing countries. First, they need to strengthen their liquidity support systems for emergencies, mainly by accumulating foreign cur-rency reserves and expanding bilateral and mul-tilateral currency swap agreements. Second, they must to ensure appropriate macroeconomic policy management. Third, they need to improve their domestic financial systems.

All of these measures are used in response to in-creases in capital inflows, but restrictions on capi-tal transactions also merit consideration as a way of curbing inflows. In Asia, however, efforts are focusing on the achievement of ASEAN financial integration with the establishment of the ASEAN Economic Community at the end of 2015. For this reason, the best strategy would be to accelerate regional financial integration by moving forward with the liberalization of capital transactions, while working to reduce reliance on capital from advanced countries and build robust markets.

In this article we will examine the current state of financial systems in ASEAN countries and ana-lyzes some of the challenges that confront them as they move toward regional integration. Part 1 pro-vides a detailed analysis of the content of regional financial integration in ASEAN. Part 2 looks first at the strategies needed to achieve regional finan-cial integration. This is followed by an examina-tion of the situation in the banking sector, stock

markets and bond markets, and the outlook for in-tegration in each of these areas, as well as some of the issues that exist at present. Part 3 describes ap-proaches that could contribute to economic devel-opment and facilitate regional financial integration by describing specific examples, such as infra-structure finance and funds passport schemes. Part 4 begins with a retrospective analysis of Europe’s experience of financial integration and the lessons that can be learned from it. This is followed by some important approaches to regional financial integration.

Financial systems in ASEAN countries are small by international standards, and there is also considerable variation among countries within the region. Progress toward regional financial inte-gration would bring many benefits, including the reduction of reliance on external funds because of the increased circulation of funds within the re-gion, an enhanced presence for the region result-ing from economies of scale, and improvements in the standard of regional financial systems and the quality of financial services. However, the achievement of integration in the ASEAN region is likely to take considerable time because of the need to reconcile national interests, and reduce disparity within the region by assisting relatively less developed countries with financial technol-ogy.

Financial integration in ASEAN basically means the expansion of local banks into other countries in the region, and an increase in cross-border securities transactions. These changes would require the liberalization of capital trans-actions and the adjustment and harmonization of financial regulations, systems and market infra-structure. This opening up would also entail risks, and sound macro-level policy management and the development of domestic financial and capi-tal markets are prerequisites for the liberalization of capital transactions. To minimize the risks, it would also be necessary to develop and harmonize financial regulatory and supervisory structures, a process that would require sustained efforts at the regional level. This balancing of integration and risk management would be a key priority.

One of the most important requirements is to


tensified, and in October 2003 agreement was reached at the 9th ASEAN Summit in Bali to es-tablish an ASEAN Community by 2020. It was decided that the three core components of this community would be the Political-Security Com-munity, the ASEAN Economic Community (AEC) and the Socio-Cultural Community.

At the 13th ASEAN Summit, which was held in Singapore in November 2007, members de-cided to bring forward the creation of the ASEAN Community to 2015. This decision resulted from growing awareness of several factors, including a rapid rise in economic interdependence within and beyond ASEAN, and the increased urgency of ef-forts to reduce economic disparity within ASEAN through the establishment of the AEC. It was at this time that ASEAN adopted the AEC Blueprint as its roadmap for regional integration. In Decem-ber 2008 ASEAN was given legal status with the adoption of the ASEAN Charter.

The AEC Blueprint identifies ① a single mar-ket and production base, ② a highly competitive economic region, ③ equitable economic develop-ment, and ④ full integration into the global econ-omy as the four key characteristics of the AEC. These four characteristics are broken down into 17 core elements and 176 targets (Fig. 1). It was further decided that 2009, 2011, 2013 and 2015 should be the milestone years for measuring prog-ress in each of these areas.

Unlike the EU’s single market, the AEC will be neither a tariff union nor a full common mar-ket. However, the creation of a single market and production base will bring a number of benefits, including economies of scale and more efficient production networks. Countries at varying stages of economic development will be included in the AEC, and those countries will be able to play dif-ferent roles within production networks. Market and production base integration will lead to the expansion of intraregional trade and investment (Fig. 2). ASEAN’s giant consumer market will also be attractive to investors.

While the establishment of the AEC will bring major benefits, however, it will also require changes, including the removal of barriers to in-vestment and the trade in goods and services, and

ensure that as many participants as possible can benefit from regional financial integration. This requires deeper debate among participants about how integration should be approached. The most important priority at present is likely to be mea-sures to raise the level of financial systems in member countries. Attention to this aspect will enhance the achievability of ASEAN financial in-tegration, which is a major policy goal, while also helping to build robust financial systems and de-velop structures to accommodate capital inflows from outside of the region. ASEAN countries have a voracious demand for funds, especially for in-frastructure development, and they will inevitably continue to rely on funds from outside of the re-gion to some extent.

1. Moves toward the Establish-ment of the ASEAN Economic Community and ASEAN Finan-cial Integration

(1) Creating the ASEAN Economic Community

In this section we will examine policy moves toward the formation of the ASEAN Economic Community and ASEAN financial integration. We will begin with an overview of the ASEAN Eco-nomic Community.

ASEAN was formed in 1967 by Indonesia, Malaysia, the Philippines, Singapore and Thai-land. These five original members were subse-quently joined by Brunei in 1984, Vietnam in 1995, Laos in 1997, Myanmar in 1997, and Cam-bodia in 1999. While continuing to achieve eco-nomic growth, ASEAN members have sought to strengthen ASEAN as a group by working active-ly to overcome a variety of conflicts of interest, and by moving toward economic integration. The benefits of economic integration are likely to in-clude improved international competitiveness and enhanced attractiveness to investors outside of the region.

Enthusiasm for integration has gradually in-


rations by individual countries. Nor are there any compulsory mechanisms or penalties to ensure that targets are reached.

Despite these issues, ASEAN seems to be mak-ing gradual progress toward the creation of the AEC. However, differences in legal and regula-tory systems and the processes used to establish laws and regulations are causing bottlenecks in the AEC formation process. Progress toward the liberalization of service transactions and achieve-ment of free flows of skilled labor appears to be slow at present. Furthermore, the scorecard items are not specific, and the scores achieved may not fully reflect the actual progress made.

While the establishment of the AEC at the end of 2015 will be an epochal event, it can also be seen as simply a milestone on a longer journey. ASEAN’s current targets after almost 50 years of history are macroeconomic stability, the reinforce-ment of international competitiveness, the reduc-tion of disparity, environmental protection and the maintenance of centrality. Having introduced a single currency, the EU is now working ultimately toward political union through a top-down pro-cess. In contrast, ASEAN has adopted a Blueprint that calls for development through a bottom-up process. While there is continuing debate about the appropriateness of the contents of the Blue-print, what is clear is that ASEAN needs to deep-en its integration in order to cope with escalating competition from developing countries, especially China and India.

the harmonization of numerous regulations. Other essential prerequisites include the development of enhanced infrastructure to improve the efficiency of trade, and competitive financial services. The ASEAN countries will need to work very hard to achieve the many targets listed in the AEC Blue-print.

According to the scorecards used to monitor progress under the Blueprint, ASEAN is moving forward steadily toward the achievement of these goals. However, ASEAN has no central organiza-tion, and scorecard monitoring is based on decla-

Fig. 2 Intraregional Export Ratios of Asian Countries

Source: Asian Development bank, Asian Economic Inte-gration Monitor, Jul. 2012

60.555.5

36.230.5

45.5

69.5

61.4

46.3

33.1

52.6

0

10

20

30

40

50

60

70

80

Primary goods

Intermediate goods

Capital goods

Consumer goods

Total

2000 2010

(%)

Fig. 1 Blueprint for the ASEAN Economic Community

Source: Asian Development Bank Institute [2014]

1. Single Market and Production Base 　① Free flow of goods　② Free flow of services　③ Freer flow of capital 　④ Free flow of skilled labor　⑤ Free flow of investment　⑥ Foodstuffs, agriculture, forestry　⑦ Priority sectors for integration

2. Highly Competitive Economic Region　⑧ Competition policy　⑨ Taxation　⑩ Electronic trading　⑪ Consumer production　⑫ Intellectual property rights　⑬ Infrastructure development

3. Regional Commitment to Equitable Economic Development

　⑭ SME development

　⑮ Initiative for ASEAN Integration

4. Full Integration into the Global Economy　⑯ Consistent approach to external economic

relations (FTAs, etc.)　⑰ Increased participation in global supply

networks


domestic financial services and capital transac-tions, and the harmonization of regulations. In other words, ASEAN aims to achieve integration through liberalization and harmonization. Finan-cial and capital markets in individual ASEAN are small, and this approach will allow them to achieve economies of scale. In addition, competi-tion among markets within the region will help to strengthen financial systems and financial institu-tions. This will in turn improve the efficiency with which funds are allocated and ensure that appro-priate financial services are available for a wide range of domestic and cross-border economic activities. With these achievements, the aim of regional financial integration is to reduce depen-dence on external capital and financial systems and to allocate regional savings to regional invest-ment.

However, the achievement of financial integra-tion in Europe has taken over 50 years, and ba-sically there appears to be no reason why Asia should approach the process in a hasty and slip-shod way. Because of the variation in the eco-nomic and financial development stages of Asian countries, ASEAN’s position is that priority must be given to national sovereignty and preparations to deal with the risks that will result from integra-tion, and that variation in the pace of integration in different countries is acceptable, especially be-tween the original five members and Brunei, Cam-bodia, Laos, Myanmar and Vietnam (BCLMV).

Financial systems in ASEAN countries are gen-erally small, and the level of development varies from country to country. Approaches to regional financial integration will need to take these char-acteristics into account.

The ASEAN financial integration initiative is based on the Roadmap for Monetary and Finan-cial Integration (RIA-Fin), which was endorsed at the 2003 ASEAN Finance Ministers Meeting (Fig. 4). The plan outlined in the AEC Blueprint on this basis is described below. These items have been identified as steps required for the creation of a single market and production base. The goal is to create an integrated regional financial system ca-pable of functioning efficiently.

First, financial services liberalization (FSL) will

(2) Outline of ASEAN Financial Inte-gration

① Motivation for Regional Financial In-tegration, the Overview Depicted in the AEC Blueprint

We will look next at ASEAN financial integra-tion, which is being pursued as part of the AEC Blueprint. Although there has been significant progress toward the improvement of financial and capital markets in ASEAN, the markets are still relatively small and vulnerable to external shocks. This is reflected in the existence of restrictions on capital transactions, which have been an obstacle to regional financial integration. That is why prog-ress toward regional financial integration has been slow compared with economic integration (Fig. 3). The integration of labor, goods and money is commonly linked together, but there are particular problems in the area of money, including the dif-ficulty of differentiating capital flows, and the risk of capital outflows. The development of policies to allow regional financial integration will there-fore involve considerable effort.

The basic plan for ASEAN financial integration calls for the integration of all ASEAN financial and capital markets through the liberalization of

Fig. 3 Intraregional Investment Ratios of Asian Countries

Notes: Investment sources: Hong Kong, Indonesia, South Korea, Malaysia, the Philippines, Singapore, Thai-land Investment recipients: The above countries plus China and Vietnam

Source: IMF, Coordinated Portfolio Investment Survey

12.0

15.316.7

20.4 19.8 20.8

17.9

33.0

30.128.1 27.0

28.5

0

5

10

15

20

25

30

35

2001 2007 2009 2010 2011 2012

Long-term bonds Stocks

(%)

(Calender years)


be deemed to have been achieved. Third, as with financial services liberalization,

ASEAN will proceed cautiously with capital ac-count liberalization (CAL). The plan emphasizes the need to avoid the risks of liberalization while ensuring that all member countries share the ben-efits. The plan calls specifically for liberalization in areas that will help to promote direct invest-ment and capital market development. However, progress under the plan is likely to be extremely gradual, since the goal for all items is to “progres-sively liberalize, where appropriate and possible.”

The ASEAN Secretariat is monitoring progress toward financial integration using a scorecard sys-tem. It has also commissioned the Economic Re-search Institute for ASEAN and East Asia (ERIA) to assess the plan. According to ERIA, the key components of financial integration should be implemented from 2015 onwards. However, the establishment of the AEC at the end of 2015 is certain to provide a strong impetus for progress toward financial integration.

② Liberalization of Finance ServicesIn April 2011, the central bank governors of

ASEAN countries formulated the ASEAN Finan-cial Integration Framework (AFIF). This frame-work provides an overall picture of ASEAN’s ap-proach to financial liberalization and integration as it works toward the establishment of the AEC. The aim is to create a semi-integrated financial and capital markets by 2020.

be achieved after the development and stabiliza-tion of the financial sector. Countries can liber-alize as soon as their preparations are complete, and the liberalization process will be based on respect for each country’s policy goals and level of economic and financial development. The spe-cific action required is the achievement of some degree of liberalization by 2015. The ultimate tar-get year is 2020, by which time countries should have achieved large-scale deregulation regarding all of their financial service sectors. This process is to be based on a liberalization plan consisting of a list of “pre-agreed flexibilities.” The lists that make up the plan have been compiled in stages covering the periods to 2015 and 2020 and from 2020 onwards. This means that full liberalization may not be achieved by 2020. Moreover, the defi-nition of “full liberalization” is not entirely clear.

Second, the following targets have been set con-cerning capital market development and integra-tion (CMD) in the period to 2015: ① facilitation of harmonization of rules concerning bond issu-ance, information disclosure and sales of securi-ties, ② mutual recognition of qualifications, edu-cation and experience of market professionals, ③ increased flexibility with regard to language use and enabling laws for securities issuance, ④ reas-sessment of withholding tax systems relating to bonds, and ⑤ market efforts toward the linkage of securities exchanges and bond markets, including cross-border issuance. It is not entirely clear what steps need to be carried out before these goals can

Source: Singh [2009]

Fig. 4 The ASEAN Integration Process

ASEAN VISION 2020 (declared in 1997)　4 long-term goals　　① Harmony in ASEAN, ② partnership in dynamic development　　③ A community of equitable societies, ④ an outward-looking ASEAN

↓Bali Concord Ⅱ(declared in 2003)Establishment of an ASEAN Community consisting of the triple pillars of economic cooperation, political and security cooperation, and socio-cultural cooperation by 2020

⇒ (RIA-FIN)

↓AEC 2015 Blueprint (agreed to in 2006)Target date for establishment of economic community brought forward to 2015

⇒ (FSL, CMD, CAL)

↓ACMF Implementation Plan 2015 (adopted in 2009)Concrete strategy for realization of Blueprint


gion’s banks, facilitate the development of closer cooperative relationships, and contribute to finan-cial sector stability. However, the facilitation of banking integration will also heighten the system-ic risk by deteriorating financial performance of foreign banks operating in ASEAN countries due to their lack of understanding about the local mar-ket characteristics in the host country. Other dan-gers that have been highlighted include increased volatility in capital flows due to speculative cross-border transactions, and dominance of host coun-tries’ markets by foreign banks. That is why the harmonization of prudential regulations and the creation of international risk response systems are so important. Phased liberalization is needed be-cause of the different amounts of time required to strengthen the banking sector in each country.

ASEAN members are negotiating over details of financial services liberalization through the Working Committee on Financial Services Liber-alization. Stage 6 of these negotiations has been completed, and the Committee has now entered Stage 7. As far as can be gauged from the progress of these negotiations, ASEAN is moving forward steadily with the liberalization of financial servic-es, including insurance sector.

③ Capital Account LiberalizationThe regulations that currently govern capital

transactions in ASEAN countries can be summed up as follow. First, while some countries, such as Singapore, Cambodia and Indonesia, already have extremely open systems, other ASEAN members still maintain a certain level of regulation. Second, most of these regulations target capital outflows rather than inflows. This situation will need to be reconsidered from the perspective of facilitating regional integration, since it has the potential to limit capital flows among ASEAN countries while facilitating inflows of funds from outside of the region. Third, while most ASEAN members are covered by IMF Article VIII, they still impose re-strictions on current account transactions. Fourth, most ASEAN countries restrict the use of their currencies overseas. Fifth, there are few restric-tions on inward investment in securities, but there are numerous restrictions on overseas borrowings,

Financial services liberalization will allow banks, insurance companies and investment com-panies in ASEAN countries to provide services in other countries of the region. The aim is to create an environment in which Qualified ASEAN Banks (QABs) that have reached a certain standard in terms of competitiveness and other factors will be treated on an equal footing with local banks. The ASEAN Banking Integration Framework (ABIF) was created, together with the AFIF (see above), as a structure within which QABs can be recog-nized.

Asian Development Bank [2013] explains fi-nancial services liberalization in terms of three elements. First, the QAB framework will allow banks from ASEAN countries to operate in other countries in the region. To eliminate the concerns of host countries, QABs will be required to meet rigorous standards of soundness. Not many banks in the region will be able to qualify under these standards, which will function both as targets to-ward which banks in ASEAN countries should as-pire, and also as guidelines for the establishment of prudential regulations by the banking authori-ties.

Second, it will be necessary to treat banks mov-ing into markets on an equal footing with local banks. Third, to ensure the proper functioning of this framework, it will be necessary to move to-ward the harmonization of banking regulations in member countries. It will also be necessary to de-velop financial infrastructure in each country, in-cluding rating agencies, credit guarantee facilities and inter-bank markets. Capacity development will be a priority for countries that have not yet developed this infrastructure, and those countries will not be able to accept QABs until after this has been achieved. This means that the framework cannot be applied at the same time in every coun-try. Moreover, the more advanced countries within the region will need to provide less developed countries with assistance on financial technology.

Progress toward regional banking integration (defined here as the expansion of banks from ASEAN members into other countries within the region) will enhance the efficiency with which funds are allocated. It will also strengthen the re-


In relation to capital market settlements, the Asian Development Bank recommends the adoption of international standards for straight-through pro-cessing for both domestic and cross-border settle-ments, and the expansion of DVP/PVP settle-ments.

In a related move, the ASEAN+3 countries are working to create a settlement system to support cross-border bond transactions under the Asian Bond Market Initiative (ABMI). Recent progress includes the completion of a reassessment of busi-ness feasibility relating to the establishment of a regional settlement intermediary (RSI) by Task Force 4. In addition, discussions are continuing within the newly established Cross-border Settle-ment Infrastructure Forum, which is based on voluntary participation by member countries. Inui [2014] describes the current status of a settlement system covering 10 ASEAN countries and re-gions, based on work carried out in the ASEAN+3 Bond Market Forum (ABMF), which is part of the ABMI. Under this system, bond settlements are processed by central securities depositories (CSDs) operated by central banks or securities ex-changes in each country. Settlements of funds are processed using real time gross settlement (RTGS) systems provided by central banks, and in many cases settlements are carried out on a delivery ver-sus payment (DVP) basis, which means that bonds and funds are settled at the same time.

Cross-border settlements are also processed through settlement systems in individual coun-tries. However, there are issues in areas other than settlement systems, including restrictions on capi-tal transactions, and systems requiring the quali-fication of foreign investors. Another problem is the fact that many of the elements that make up settlement systems in individual countries, such as messages and securities numbers, do not comply with international standards.

As previously noted, the priorities now are the standardization of settlement systems in individual countries, and the introduction of STP for cross-border bond transactions and settlements. Prog-ress in these areas would reduce settlement costs and settlement risks. The key question in this con-text is how cross-border settlements of funds (di-

and overseas lending denominated in domestic currencies. Sixth, many ASEAN countries restrict foreign exchange risk hedging by investors. Sev-enth, some ASEAN countries still levy withhold-ing tax on securities investment.

Progress toward the expansion of investment, trade and business within the ASEAN region is dependent on the liberalization of capital transac-tions. ASEAN members have completed the task of checking and assessing their restrictions on capital transactions and are now in the process of developing liberalization roadmaps. The Work-ing Committee on Capital Account Liberalization (WC-CAL) has stepped up its monitoring of prog-ress toward liberalization in ASEAN countries and is also discussing policies relating to the risks of liberalization.

④ Development of Settlement Systems Asian Development Bank [2013] contains

recommendations relating to trade settlements, money remittances, retail payments and capital market settlements. The goals identified are ① the improvement of settlement infrastructure, ② the standardization of settlement systems (settlement technology, market practices, regulations, etc.) to allow efficient cross-border settlements, and ③ studies concerning the linkage of settlement systems within ASEAN. Harmonized settlement systems are likely to play an important role in the AEC, and the Working Committee on Payment and Settlement Systems (WC-PSS) is assessing the current situation and making policy recom-mendations concerning settlement systems.

The level of settlement systems also varies ac-cording to the level of financial systems devel-opment. ASEAN countries first need to improve their domestic settlement systems, and then to form links with other countries in the region.

Among the medium-term goals recommended concerning trade settlements are the facilitation of overnight (T+1) settlements of cross-border pay-ments, and settlements in local currencies. Rec-ommendations concerning retail payments include the diversification of the products available (e.g., ATM cards, debit cards, credit cards) and the ex-pansion of services, such as overseas remittances.


region. As listed below, many concrete achievements

have resulted from the work of the ACMF. (a) Expedited Review Framework for Second-

ary Listings—A mechanism designed to reduce costs and improve efficiency for secondary listings by regional corporations within the securities exchanges of ASEAN countries by simplifying assessing proce-dure

(b) The ASEAN Corporate Governance Score-card—Used to assess the corporate gover-nance of listed companies in the ASEAN region

(c) ASEAN and Plus Standards—uniform dis-closure standards developed to improve the efficiency of cross-border securities issues

(d) Work relating to the ASEAN Exchanges, which enabled trading in 210 representative stocks via an electronic network linking seven ASEAN exchanges (Indonesia, Ma-laysia, the Philippines, Singapore, Thailand, Hanoi, Ho Chi Minh)—The establishment of this structure is being studied by sub-working groups responsible for the four ar-eas of business planning, regulation, market management and technology.

(e) Cross-Recognition of Qualifications on Ed-ucation and Experience of Market Profes-sionals

(f) ASEAN Framework for Cross-Border Of-fering of Collective Investment Schemes—Known as the “fund passport” system, this concept will be examined in detail later in this article.

(g) Development of ASEAN stock indices—In 2005, The FTSE ASEAN 180 Index and the FTSE ASEAN 40 Index were developed in collaboration with the FTSE Group of the United Kingdom.

Progress on all of these items has been led by the securities authorities of Malaysia, Singapore and Thailand. When viewed in relation to the Im-plementation Plan for ASEAN Capital Markets In-tegration, these items appear to align with the key initiatives relating to ① a framework for harmo-nization and mutual recognition, or ② an alliance

rect settlements among the currencies of member countries) can be enabled.

The Cross-Border Settlement Infrastructure Fo-rum, which also works collaboratively with the ABMF, has issued a report stating that the most promising regional settlement infrastructure mod-el is not the Asian ICSD or CSD linkage model (settlements of funds using money from commer-cial banks), which the forum had been considering until now, but rather a CSD-RTGS linkage model based on the linkage of CSDs and central bank fund settlement systems (RTGS) in each country.

⑤ Development and Integration of Capital Markets

A key goal in the context of ASEAN’s capi-tal market liberalization efforts is capital market integration, which would allow regional issuers to implement issues in any ASEAN country, and regional investors to invest in any country in the region. Another goal is to allow intermediaries to offer their services in any country within the re-gion, subject to approval by the authorities in their home country.

In 2009, the Implementation Plan for ASEAN Capital Markets Integration was adopted. This plan defines specific measures to compensate for the inadequate scale of capital markets in indi-vidual ASEAN countries, including the harmo-nization of market infrastructure with the aim of expanding intraregional cross-border transactions in securities exchanges within the ASEAN region. The main themes of the plan are the creation of an enabling environment (① a framework for harmo-nization and mutual recognition), the creation of market infrastructure (② an alliance of ASEAN securities exchanges and a governance struc-ture, ③ the development of new products, ④ the strengthening of bond markets), and the strength-ening of the integration process (⑤ the alignment of domestic capital market development plans, ⑥ the reinforcement of structures within ASE-AN). Progress on this plan is being driven by the ASEAN Capital Markets Forum (ACMF), which was established in 2004 as a forum for discus-sion among securities regulatory authorities about capital market development within the ASEAN


Third, there are initiatives relating to financial inclusion and literacy. Financial literacy initiatives are led by Brunei, which has established a forum for information sharing and other activities. ASE-AN countries are also cooperating on financial in-clusion initiatives.

2. Financial Systems in ASEAN Countries

(1) Overview of Financial Systems, Strategies for Regional Integration

As discussed in the previous section, the ASE-AN countries need to move toward regional fi-nancial integration while also reducing the risk of financial crises by responding appropriately to ex-panding flows of foreign investment. A key prior-ity in this context is the reinforcement of financial and capital markets and financial institutions in individual ASEAN countries. In this section, we will examine financial systems in ASEAN coun-tries from this perspective.

There is considerable variation in the level of development of financial systems in ASEAN countries. Even where the level of development is similar, there are differences in other characteris-tics, such as market size and financial infrastruc-ture and regulations. For this reason, individual countries have different needs in relation to finan-cial integration, and while some countries want regional integration, others regard links outside of the region as more important.

This means that regional integration will need to be open rather than closed. Moreover, since in-tegration will also cause competition to intensify, it will be necessary to strengthen the competitive-ness of financial systems in individual countries, and to reduce development gaps between coun-tries. ASEAN countries need to debate their ap-proach to regional financial integration fully and will need to move forward gradually, while re-maining focused on the 2015 and 2020 deadlines.

A comparison of financial assets as percentages of GDP shows that while Malaysia, Singapore and Thailand rank alongside the EU countries, the ra-

of ASEAN securities exchanges and a governance framework. Items (a) through (c) relate to issues, (d) through (e) to transaction infrastructure, and (f) and (g) to investment.

Obviously there are many differences in the capital market regulations and systems and market infrastructure of ASEAN countries, and it will not be easy to overcome these differences and achieve mutual recognition. Of particular importance are tasks relating to the facilitation of cross-border securities issues, including the harmonization of disclosure standards, definition of securities and rating systems.

Work carried out by the Working Committee on Capital Market Development (WC-CMD) in-cludes ① the creation of the Bond Market De-velopment Scorecard, ② the development of a capacity building program to rectify problems identified using the scorecard, and ③ research on market development issues and policy recommen-dations to ASEAN members in collaboration with the ACMF.

In addition, the ACMF, WC-CAL, WC-CMD and WC-PSS are continuing their efforts to im-prove capital market infrastructure.

⑥ Other ActivitiesFinancial integration in ASEAN involves sev-

eral other processes in addition to the four items outlined above. First, there is the reinforcement of regional surveillance. Organizations monitoring economic and financial conditions in the region include the ASEAN+3 Macroeconomic Research Office (AMRO), which was established by the ASEAN+3 countries. The surveillance and capac-ity building programs were further strengthened with the creation of the ASEAN Integration Moni-toring Office within the ASEAN Secretariat in May 2010.

Second, ASEAN is working to strengthen infra-structure finance. The ASEAN Infrastructure Fund (AIF)(1) was established in 2012 with the aim of strengthening physical connectivity within the region and reducing infrastructure gaps. The first project using the AIF was carried out in Indonesia in 2013, followed by projects in Indonesia, Laos and Vietnam in 2014.


tered in the past. This is an important issue requir-ing countermeasures at the regional level.

When diverse financial systems are integrated, there is no way to ensure that all participants will benefit, and inevitably some will be disadvan-taged. Considering this point, a number of pri-orities will need to be tackled as ASEAN moves toward financial integration. First, it will be nec-essary to engage in continual debate about ways to reconcile differences in the needs of individual member countries. Second, ASEAN will need to work to reduce differences in development levels, which are partially responsible for differences in the needs of each country. Third, in addition to efforts to enhance the competitiveness of finan-cial and capital markets and financial institutions in member countries, it will also be necessary to improve institutional infrastructure, such as finan-cial regulations. The development of the banking sector in the BCLMV countries, which are still in the early stages of financial development, will be a particular priority in this context. Fourth, the specifics of integration and the ways that integra-tion benefits national interests must be accept-able to member countries. Fifth, there should be a schedule for the achievement of integration. Sixth, regional structures should be created to deal with the risks associated with integration. Seventh, fi-nancial authorities should provide leadership for the steady implementation of integration plans.

The most important priority at present appears to be the improvement of financial systems in member countries. Efforts to raise the level of

tios for Vietnam, the Philippines and Indonesia are similar to those for developing countries with sim-ilar income levels (Table 1). The ratios for Brunei, Cambodia, Laos and Myanmar are extremely low, and their stock and bond markets are underdevel-oped (Table 2).

Financial inclusion varies widely within the ASEAN region (Table 3). There is also consid-erable disparity in the insurance sector, and the urgent need for improvement is apparent from the fact that the average number of people served by each life insurance company branch is over 300,000.

Financial systems in ASEAN countries are dominated by banks, although Malaysia and Singapore are starting to improve their capital markets. However, the small size of the ASEAN economies is reflected in their financial and capi-tal markets, which are small by world standards, and it will not be easy to improve their interna-tional competitiveness and increase their presence. Moreover, even though stock markets are expand-ing in step with economic development, the low level of liquidity means that markets are vulner-able to fluctuations in the activities of foreign in-vestors. These factors are all incentives for capi-tal market integration. Namely, the realization of economies of scale is an important reason for in-tegration. However, this goal can only be achieved if each country has robust domestic markets.

Moreover, while the achievement of financial integration in some form will bring benefits, it will also create risks different from those encoun-

Source: Asian Bonds Online, IMF, World Economic Outlook Database

Table 1 Financial and Capital Markets as Percentages of GDP

2000 2012Banks

(domestic credit)

Bond market issue

balance

Stockmarket

capitalizationTotal

Banks (domestic

credit)

Bond market issue

balance

Stockmarket

capitalizationTotal

China 112.3 16.9 48.5 177.7 157.1 46.3 44.9 248.4Hong Kong 133.8 35.2 363.1 532.2 201.3 67.6 1,078.3 1,347.1Indonesia 52.8 32.0 16.2 101.1 39.4 12.7 48.8 100.9Japan 227.8 96.2 66.7 390.8 230.5 196.3 58.6 485.4South Korea

102.5 66.6 27.8 196.9 178.5 130.2 104.4 413.2

Malaysia 138.4 73.2 120.7 332.3 135.3 107.3 153.1 395.7Philippines 34.9 25.9 31.2 92.0 52.4 39.6 91.7 183.7Singapore 87.1 47.2 164.5 298.8 99.0 81.2 269.1 449.3Thailand 110.0 25.3 23.8 159.1 131.5 76.1 106.5 314.1

(%)


these systems will enhance the feasibility of ASE-AN financial integration. Also, the development of robust financial systems will lead to the creation of structures capable of coping with inflows of capital from outside of the region.

ASEAN is moving toward financial integration not only because of the progress toward integra-tion at the real economic level, but also because of a loss of confidence in capital from outside of the region, which has repeatedly flowed into and out of the region since the Asian financial crisis. After experiencing the crisis, however, Asian countries have dramatically improved their emergency li-quidity support systems, in part by accumulating foreign currency reserves. As a result, they were Source: Asian Development Bank Institute [2014], p.144

Table 3 Financial Inclusion of Commercial Banks in ASEAN (2010)

Deposit accounts per 1,000 people

Loan accounts per 1,000

people

Bank branches per 100,000

people

ATMs per 100,000 people

Cambodia 108.0 28.9 4.0 5.1Indonesia 504.7 274.8 8.3 13.4Laos 44.3 4.0 2.6 4.3Malaysia 1,619.9 284.1 10.5 56.2Philippines 487.8 n.a. 7.7 14.9Singapore 2,134.3 967.7 10.3 58.6Thailand 1,119.9 237.0 11.2 77.7Vietnam n.a. n.a. 3.3 17.6

Japan 7,169.0 171.0 34.0 133.0Advanced European countries

2,022.0 701.0 32.0 94.0

U.S. 2,021.9 n.a. 35.7 173.8

Source: Expert Panel on Financial Cooperation with Asian Countries [2014]

Table 2 Overview of Financial Systems in Cambodia, Laos, Myanmar and Vietnam

Cambodia Laos Myanmar Vietnam

Banks

・Banks are very sound, but in recent years there has been a rapid increase in lending, especially to the real estate sector. ・Financial statements still require

improvement, and bank lending is based on collateral. ・There is no interbank market due

to inadequate disclosure.・Banks account for the bulk of

intermediation, but microfinance is expanding, and regulatory systems are inadequate.

・State-owned banks account for 60% of total assets. ・Bank interest rates have been

liberalized and are tending to remain high. Lending is concentrated into the service and real estate sectors. There is concern about the worsening quality of loans, resulting in part from limited credit screening capabilities. ・Despite the rapid expansion of

bank lending, risk management systems remain inadequate. Banks are also unable to prepare financial statements. ・The inter-bank market remains

undeveloped.

・There are four state-owned banks, 22 private banks and 35 foreign banks (representative offices). ・No inter-bank market has been

established due a lack of trust among banks. ・There is a shortage of bank

workers who understand banking services. Loans depend on collateral. There is no detailed checking of the value of collateral. ・The central bank has not

established a supervisory system. ・Microfinance is expanding.

・There has been a rapid increase in bad loans. The Vietnam Asset Management Company was established in July 2013 to buy non-performing assets. ・Screening for credit risk is

inadequate. Lending depends on collateral (real estate, etc.). A Credit Information Center (CIC) has been established within the State Bank of Vietnam. ・Bank supervision is also

inadequate.

Stock market

・In July 2011, Cambodia established a stock exchange with assistance from S. Korea. As of June 30, 2014, there were only two listed companies. Slow progress on the improvement of corporate accounting is seen as a major reason for this.

・A stock exchange was established in Oct. 2010 with assistance from S. Korea. As of June 30, 2014, there were only three listed companies. The majority of companies are family- operated SMEs and not used to procuring funds from investors. ・Laos is working to foster

investors. All securities companies are joint ventures with foreign companies (Thailand, China, Vietnam).

・In 1996 a securities trading center was established with assistance from the Daiwa Institute of Research. Only two securities are traded. There are plans to establish a stock exchange in October 2015 with Japanese assistance. ・A securities exchange law

was enacted in July 2013. Preparations are under way for the establishment of a securities exchange committee and securities companies.

・There are stock exchanges in Ho Chi Minh and Hanoi. Investors are mostly individuals. Institutional investors invest in government bonds or central bank bonds.

Bond market

・The fiscal deficit (5-8% of GDP) is financed by aid from international organizations and advanced countries. Government bonds are not issued.

・Laos has a chronic fiscal deficit. Only short-term government securities and central bank bonds are issued. ・In 2013, Laos issued baht-

denominated bonds in Thailand.

・The fiscal deficit is financed by short-term government securities underwritten by the central bank. The central bank law was amended in July 2013 to limit financing by the central bank. ・Since 1993, Myanmar has issued

2-, 3- and 5-year government bonds. However, the interest rate is higher than the deposit rate, so banks normally hold the bonds until maturity.

(Omitted)


in ASEAN countries are between one-fiftieth and one-hundredth the size of Japanese megabanks. Fifth, there is a major gap between ASEAN and advanced countries in terms of financial inclusion, including the number of bank branches and bank deposit accounts per unit of population. Sixth, there is considerable variation among ASEAN countries in terms of levels of banking sector de-velopment, bank size, and financial inclusion. This situation will be a major impediment to progress toward regional financial integration(3).

An analysis of progress toward regional bank-ing integration in this environment shows that while some banks from Singapore, Malaysia and Thailand (usually the top 1-3 banks in each coun-try) have expanded into a number countries in the region, their overseas activities are less extensive than those of major Western Banks, such as Stan-dard Chartered, Citibank and HSBC (Table 4). Moreover, the majority of ASEAN banks are re-luctant to expand into other countries within the region, mainly because of the small scale of their operations and their lack of international competi-tiveness. Another possible reason is the fact that the domestic financial markets in ASEAN have not yet been fully developed and still offer ample

able to respond appropriately to the sudden de-cline in liquidity resulting from the 2008 Lehman shock. Efforts to improve financial systems are steadily producing benefits, including the recovery of financial soundness in the banking sector, and the establishment of a position for Asian bonds as a target for investment by investors in advanced countries. These achievements can be seen as evi-dence of a measurable strengthening of the capac-ity of ASEAN countries to accommodate capital inflows from outside of the region.

As discussed later in this article, ASEAN coun-tries have a voracious demand for funds, especial-ly for infrastructure development, and will inevi-tably continue to rely on funds from outside of the region to some extent. The most important priority for ASEAN in this context is to combine the pur-suit of financial integration with continuing efforts to strengthen financial systems to ensure that the region can achieve a form of integration that will allow it to remain open and outward-looking.

(2) The Banking Sector

① The State of the Banking Sector The following analysis examines the financial

systems of ASEAN countries by looking first at the banking sector, and then at stock markets and bond markets. We can identify a number of characteristics in the banking sectors of ASEAN countries(2). First, banking reforms implemented since the Asian financial crisis have dramatically improved banks’ financial soundness and earning performance, with the result that banks in ASEAN now compare favorably with banks in advanced countries. Second, because banks had maintained sound management policies, they were affected little by the global financial crisis. In fact, their financial positions have tended to improve con-tinuously since the crisis. Third, there has been no significant change in the relative size and im-portance of the banking sector within domestic financial systems. ASEAN countries still have fi-nancial systems centering on banks, which were seen as a major cause of the Asian financial crisis. Fourth, the size of banks is relatively small by in-ternational standards (Fig. 5). For example, banks

Notes: As of the end of 2010 for Brunei and the end of 2009 for other countries. For reference, the total as-sets of the Sumitomo Mitsui Banking Corporation amounted to ¥135,966.4 billion (approx. $1,359.7 billion) as of March 31, 2014.

Source: Lee and Takagi [2013]

Fig. 5 Average Sizes of Commercial Banks

1.8

0.2

2.2

0.1

14.4

0.2

3.2

15.1

9.7

1.9

0

2

4

6

8

10

12

14

16

($billions)

Brun

eiC

ambo

dia

Indo

nesi

a

Laos

Mal

aysi

aM

yanm

arPh

ilippi

nes

Sing

apor

eTh

aila

ndVi

etna

m


which are ranked second and fourth respectively in the Malaysian banking sector, have reached basic agreement on a merger including Malaysia Building Society Berhad (MBSB), a major non-bank financial institution(4). The aim of this merger is to gain a competitive advantage in the domes-tic market, which is not really big enough, and to achieve the scale needed for overseas expansion.

The insurance sector is relatively open to for-eign participation, but local insurance companies lack competitiveness, and there have been few cases of overseas expansion (Table 5). Most of the companies that have gained shares of ASEAN markets are insurance companies from advanced countries, and there has been little progress to-ward integration within the region.

② Outlook for Bank Integration, Priorities for the Banking Sector

Most of the foreign banks that have established operations in ASEAN countries are from outside of the region. While this situation has started to change, the limited scale of local banks means that only a minority of banks are likely to achieve QAB status in the immediate future, and that progress toward integration will therefore be grad-

scope for growth. ASEAN countries also seek to protect their lo-

cal banks by restricting participation by foreign banks and discriminating against foreign banks in their domestic markets. Restrictions of these types were substantially relaxed after the Asian finan-cial crisis so that foreign capital could be used to drive the bank restructuring and rehabilitation pro-cess that followed the crisis. However, there has since been a resurgence of moves to protect and strengthen local banks by limiting participation by foreign banks. In 2012, for example, Indonesia lowered the ceiling for foreign ownership from 99% to 40%. On the other hand, in July 2014, the Philippines announced that it intended to abolish the 60% ceiling on foreign ownership, and Myan-mar has finally started to issue business licenses to foreign banks. These examples show how dif-ferences in the development stages, financial and capital market development needs and stances of ASEAN countries are reflected in restrictions on participation by foreign banks.

Banks are also starting to restructure in re-sponse to environmental changes caused by prog-ress toward regional integration. For example, media reports indicate that the CIMB and RHB,

Notes: Rep=Representative officeSource: Asian Development Bank Institute [2014], pp.148-149

Table 4 Presence of Banks in ASEAN Countries (End of 2011)

Brunei Cambodia Indonesia Laos Malaysia Myanmar Philippines Singapore Thailand Vietnam

Global

HSBC ○ ○ ○ ○ ○ ○ ○Standard Chartered

○ Rep ○ Rep ○ Rep ○ ○ ○ ○

Citibank ○ ○ ○ ○ ○ ○ ○

Japan

SMBC Rep ○ ○ Rep Rep ○ ○ ○Mizuho FG ○ ○ ○ ○ ○ ○ ○Bank of Tokyo-Mitsubishi UFJ

○ ○ ○ ○ ○ ○

Indonesia Mandiri ○ ○BCA ○BNI ○ ○

Malaysia Maybank ○ ○ ○ ○ Rep ○ ○ ○ ○Public Bank ○ ○ ○ Rep ○CIMB ○ ○ ○ ○ Rep ○ ○ ○

Philippines Metrobank ○ RepBDO ○BPI ○

CambodiaDBS ○ ○ Rep Rep ○ Rep RepUOB ○ ○ ○ Rep ○ ○ ○ ○OCBC Offshore ○ ○ Rep ○ ○ ○

Thailand SCB ○ ○ ○ ○ JVBangkok Bank ○ ○ ○ Rep ○ ○ ○ ○B. Ayudhya ○ ○


system, would benefit considerably from integra-tion and is actively promoting the ABIF. Indone-sia, however, has a large domestic market, but the competitiveness of its financial institutions ap-pears to be relatively weak, and there is ongoing debate about the relative merits and costs of inte-gration.

Differences in the size of financial markets and development levels of ASEAN member are also reflected in significant variation in the level of prudential regulations and infrastructure support-ing financial stability. The original ASEAN mem-bers and the BCLMV countries will need to fol-low a double-track approach that gives priority to capacity building in the latter group. However, it will not be easy to create a roadmap based on this method that will ultimately lead to the integration of the entire region, and there is a strong possibil-ity that funds will be concentrated in particular countries during the integration process.

As is apparent from the preceding analysis, there are still many issues affecting the bank in-tegration process. While it would be possible for banks that are relatively competitive within the region to lead the way in adapting to integration, it will not be possible to achieve integration on a level that will bring real benefits without consider-ation for those that cannot keep up with competi-tion.

The priorities for the banking sector are summed up in Fig. 6. First, as will be analyzed in detail later in this article, it will be necessary to improve banking services in ways that contribute to economic development, including the promo-tion of financial inclusion, and an involvement in domestic demand-related business areas. Sec-ond, the competitiveness of banks will need to be strengthened. There are many possible strate-gies to achieve this, including the facilitation of mergers, the improvement of operating efficiency, human resource development, and the develop-ment of new business areas. However, banks must also maintain their present level of soundness by avoiding excessive expansion of their activities. Third, to maintain soundness during the integra-tion process, it will be necessary to develop and harmonize banking regulatory and supervisory

ual. There is little possibility of comprehensive banking integration as seen in the EU.

However, Asian financial systems center on banks, and bank integration is likely to play a central role in financial integration. The ASEAN Senior Level Committee on Financial Integration (SLC) was formed as a high-level organization for the planning and monitoring of financial integra-tion.

The four core components of the ASEAN Bank-ing Integration Framework. (ABIF) are ① harmo-nization of principles of prudential regulations, ② the creation of the infrastructure required for financial stability (macroprudential policies, cri-sis management policies, deposit insurance, etc.), ③ the provision of capacity building programs for the BCLMV countries, and ④ the adoption of standards for QABs. Working groups have been formed with responsibility for each of these areas. To minimize the risks associated with integration, it will also be necessary to establish regional-level monitoring and supervisory functions. In addition to the development of closer cooperation among authorities within the region, AMRO and the Chiang Mai Initiative Multilateralization (CMIM), which have been established within the ASEAN+3 framework, are also expected to play a significant role in this area.

Despite extensive debate by the four work-ing groups, the positions of individual ASEAN members still differ. Malaysia, which has a small domestic market but a highly developed financial

Source: Asian Development Bank Institute [2014], p.150

Table 5 Ownership of Insurance Companies (2010)

Number of Insurance CompaniesForeign share (%)Domestic

Majority foreign

ownership

100% foreign-owned

Total

Brunei 12 1 5 18 33.3Cambodia 3 4 0 7 57.1Indonesia 88 38 0 126 30.2Laos 0 10 0 10 100.0Malaysia 26 0 17 43 39.5Philippines 123 13 4 140 12.1Singapore 24 76 50 150 84.0Thailand 88 0 6 94 6.4Vietnam 20 4 19 43 53.5ASEAN 384 146 101 631 39.1


expanded rapidly, the size of domestic issuer and investor bases is limited. Institutional investors are still at the developing stage. The underdeveloped markets of the BCLMV countries make up the fourth group. These markets are at the initial stage of development, and financial infrastructure and regulatory frameworks are still being developed. The domestic investor base is small, and apart from Brunei and Cambodia, all countries in this group tightly regulate capital transactions.

A variety of capital market reforms have been implemented by ASEAN countries. The Singa-pore exchange was established in 1999, while the Philippine Stock Exchange became a joint stock corporation in 2001 and was listed in 2003. In Indonesia, the Jakarta and Surabaya Stock Ex-changes merged in 2007. Malaysia has gradually eased restrictions on capital transactions, and in-vestment in domestic securities by non-residents has expanded. Thailand announced capital market development plans in 2002 and 2006.

Over the past 10 years, the number of listed companies in all ASEAN countries has increased by 30%. In Indonesia and Malaysia in particular, the trend toward corporate privatization is help-ing to drive this growth. In the past stock market intermediaries were mostly global banks from ad-

systems. Fourth, support for BCMLV countries in the area of financial technology will need to be stepped up in order to reduce disparity among ASEAN members.

(3) Stock Markets

① The State of Stock Markets(5)

ASEAN stock markets have achieved rapid growth over the past 10 years (Table 6). The mar-kets can be broadly divided into four groups. The first group consists of one market in a financial hub (Singapore). Singapore is a financial hub for the whole of Asia, including ASEAN, and in ad-dition to its wide range of financial products and market participants, it also has a large offshore market. Established domestic markets (Malaysia and Thailand) form the second group. These mar-kets have ample domestic issuer and investor bas-es, and Islamic financial products are a feature of the Malaysian market. The level of over-the-coun-ter trading in financial derivatives is still low in both of these markets. Investment from overseas is affected by certain limitations, including restric-tions on capital transactions. The third group con-sists of still developing domestic markets (Indo-nesia, the Philippines). While these markets have

Source: Compiled by JRI

Fig. 6 Priorities for the Development of Financial Systems in Asia

(Development of Financial Systems in Asian Countries)

−Banks− −Stock/Bond Markets

・Expansion of business that contributes to economic development

⇔ ・Expansion of issuer base・Diversification of financial products issued

・Strengthening of banks’ competitiveness　　　-Expansion through mergers　　　-Improvement of operating efficiency　　　-Human resource development

⇔

・Expansion of investor base・Improvement of secondary market liquidity　　　-�Improvement of level of intermediaries,

human resource development・Development of market infrastructure

・Development of banking regulatory and supervisory structures

⇔ ・Development of market regulations and systems

・Reduction of gaps among ASEAN countries

(Toward Integration)

・Efforts to regional integration　　　-Liberalization of capital transactions, participation by foreign banks　　　-Harmonization of market infrastructure, regulations and systems　　　-�Direct linkage (participation of banks under QAB system, integration of transactions and settlement

systems)


the small size of individual countries regarding economies and financial and capital markets. As the economic growth of China and India began to accelerate in the 2000s, the ASEAN countries re-alized with alarm that their stock markets would be unable to compete with other markets without further improvements in a number of areas, in-cluding secondary market liquidity, transaction costs, product line-ups, and financial technology innovation. This provided the motive to speed up regional integration, which had still not reached a satisfactory level, leading in 2009 to the an-nouncement of the Implementation Plan for ASE-AN Capital Markets Integration.

Regional integration would result in improved international competitiveness resulting from the expansion of the investor base and product line-ups, the reinforcement of domestic markets, and the improvement of liquidity. ASEAN would be

vanced countries. More recently, however, bank-affiliated securities companies in Malaysia and Singapore have adopted strategies that are clearly designed to promote regional market integration, and they are playing an increasingly important role in the region. In addition, institutional inves-tors, such as pension funds and insurance com-panies, are expanding in ASEAN countries in response to a conspicuous build-up of savings, improvements in healthcare and pension systems, and other factors. At the same time, there has been an easing of restrictions on investment. There has also been a rapid increase in foreign investment in stocks and government bonds.

② Outlook for Stock Market Integration, Priorities for Stock Markets

As we have already seen, the main reason for economic and financial integration in ASEAN is

Notes 1: The figures for China and India are totals for two exchanges (Shanghai+Shenzhen, Bombay+National).

Notes 2: The figures in ( ) under “Number of Listed Companies” refer to foreign companies. The value of shares issued is the sum of IPOs and supplementary issues.

Source: World Federation of Exchanges

Table 6 Stock Market Trends($billions)

Market Capitalization Number of Listed Companies

End of 2002

End of 2007

End of 2008

End of 2013

End of 2002

End of 2007

End of 2008

End of 2013

China 463 4,479 1,779 3,949 1,223 1,530 1,604 2,489

Hong Kong 463 2,654 1,329 3,101 978(10) 1,241(9) 1,261 1,643(90)

India 243 3,479 1,247 2,252 6,566 6,217 6,327 6,973(1)

Indonesia 30 212 99 347 331 383 396 483

South Korea 216 1,123 471 1,235 683 1,757(2) 1,793 1,813(15)

Malaysia 123 325 189 500 861(3) 986(3) 976 910(10)

Philippines 18 103 52 217 234(2) 244(2) 246 257(3)

Singapore 101 539 265 744 501(67) 762(290) 767 776(297)

Taiwan 261 664 357 823 641(3) 703(5) 722 866(64)

Thailand 45 197 103 354 398 523 525 584

Annual Turnover/Market Capitalization (%) Value of Shares Issued

2002 2007 2008 2013 2002 2007 2008 2013

China 83.9 228.3 216.4 193.3 8 101 50 70

Hong Kong 39.7 75.5 122.6 46.7 14 70 55 49

India 63.2 45.7 82.4 25.1 6 45 63 14

Indonesia 41.6 54.8 110.8 42.3 1 5 8 5

South Korea 254.4 170.5 304.3 106.1 6 7 4 2

Malaysia 24.9 51.6 49.4 32.9 3 2 2 7

Philippines 13.6 28.6 32.8 27.6 1 2 1 4

Singapore 53.8 67.9 98.1 37.8 1 10 3 7

Taiwan 217.4 142.7 232.7 77.0 2 2 0 4

Thailand 90.4 65.3 112.5 109.4 2 3 3 5


approach that allows countries to participate when they are able. The integration process is unlikely to move forward unless each country is confident that they will be able to benefit from integration.

There are several priorities relating to stock markets. First, it will be necessary to expand the investor base. Stock investment is not widespread, so there are few individual investors. Only 9% of Singaporeans invest in stocks, compared with 35% in Hong Kong and 17% in Australia. Individ-ual investors account for 60% of transactions on the South Korean stock exchange, compared with just 20% in Malaysia. The scale of institutional investors is also small in ASEAN countries other than Malaysia and Singapore, and their investment strategies tend to be conservative.

Second, while ASEAN stock markets have achieved a certain level of development, as evi-denced by ratios of market capitalization to GDP and other indicators, most are also affected by the problem of low liquidity, which is a source of market instability. One possible solution for this problem would be the expansion of the individual investor base, but more wide-ranging measures should also be considered.

Third, the level of cross-border investment within the ASEAN region remains low (Table 7). High levels of cross-border investment are limited to transactions between specific countries, such as Indonesia and Malaysia. ASEAN members will therefore need to implement a wide range of mea-sures, such as the harmonization of market infra-structure, to expand cross-border investment. An-other approach that could be effective would be to educate individual investors about the potential of regional companies as attractive targets for invest-ment.

As outlined earlier in this article, Malaysia, Singapore and Thailand are leading progress to-ward stock market integration. The smooth transi-tion toward integration among these three coun-tries is significant as a successful model for other ASEAN countries to follow. However, there is a vital need for further home market development to ensure that these other countries can really participate. What is needed specifically is further improvement, liberalization and harmonization in

recognized as a single asset class, and the inter-est of foreign investors could be expected to rise. These changes would in turn lead to accelerated economic growth and the diversification of chan-nels for procuring and investing funds.

Integration would also be expected to bring benefits for market participants. First, the potential benefits for investors include better financial prod-ucts and services, lower transaction costs thanks to competition among intermediaries, and the di-versification of investment targets. Second, lower service provision costs, made possible by econo-mies of scale and scope, and an expanded investor base are among the likely benefits for intermediar-ies. Third, issuers would benefit from lower secu-rities issuance costs thanks to the harmonization of regulations and other systems. Fourth, regula-tory authorities would benefit from the develop-ment of appropriate regulations for cross-border transactions as the integration process advanced.

Stock market integration is likely to be strengthened through harmonization and mutual recognition, and through the role of the ASEAN exchanges, which are expected to support integra-tion as market infrastructure. Other key factors will include the development of products that will facilitate cross-border transactions, such as cross-border sales frameworks for collective investment schemes.

Progress toward integration can also be expect-ed to accelerate the development of markets in relatively less developed countries. However, care will be needed to ensure that regional integration does not hinder the market development efforts of individual countries. This is another reason why policy adjustment efforts and the establishment of clearly defined short-, medium- and long-term tar-gets are essential.

The needs of ASEAN members differ according to their specific circumstances, and differences in development levels will also be an issue in rela-tion to stock market integration. There is also vari-ation in legal and regulatory systems. For these reasons, ASEAN should aim for gradual integra-tion through the expansion of cross-border trans-actions rather than through the creation of a single market. It will also be necessary to take an opt-in


extremely small size of the market at the starting point.

Second, as with the banking sector and stock markets, the level of market development var-ies widely among countries in the region. This is apparent from ratios of outstanding bond issues to GDP. Nor is the average ratio for the region particularly high. Financial systems in ASEAN countries are dominated by banks, and compared with stock markets, which have expanded to some extent, bond markets offer the greatest scope for development.

Third, while the development of the govern-ment bond and corporate bond markets is in bal-ance to some extent, the development of the cor-porate bond market involves greater difficulties. The development of the government bond market is a prerequisite for that of the corporate bond market. The corporate bond issuer base is weight-ed toward certain types of issuers, such as finan-cial institutions, infrastructure-related companies, government-affiliated companies and a few large corporations. Reasons for the lack of growth in corporate bond issues in the past include the stag-nation of real investment by corporations, and a tendency to prefer financing from retained earn-ings or through share issues. In addition, Cambo-dia, Laos and Myanmar have only just reached the stage at which they will need to start developing their bond markets.

such areas as capital transaction regulations, tax systems, capital market regulations, product line-ups, and corporate governance.

Fourth, human resource development is a vital priority. There is a shortage of capital market ex-perts in ASEAN countries, and in addition to the development of market infrastructure and regula-tory frameworks, the recruitment and training of these specialists will also be extremely important.

(4) Bond Markets

① The State of Bond MarketsExcessive reliance on borrowing from domestic

and foreign banks because of the underdeveloped state of bond markets within the region is seen as one of the triggers of the 1997 financial cri-sis. Recognition of this problem has led to bond market development efforts by governments in the region, and to regional financial cooperation through the ABMI and other forums. The fol-lowing is a brief analysis of the characteristics of ASEAN bond markets(6).

First, the Asian market as a whole has expanded significantly since the financial crisis, both in ab-solute terms and also as a percentage of the world bond market (Table 8). However, the dramatic growth of the Chinese market is responsible for a large share of this expansion, and we need to dis-count this factor. We also need to be aware of the

Notes 1: China and Vietnam are not included among the source countries due to the non-availability of data. Notes 2: Figures shown at the lower right represent total world securities investment balances. Source: IMF, Coordinated Portfolio Investment Survey

Table 7 Balance of Cross-Border Stock Investment in ASEAN (2010)($millions)

Source Country

Recipient country

Indonesia Malaysia Philippines Singapore Thailand TotalTotal

investment balance

Intraregional investment ratio (%)

Indonesia ... 766 ... 2,877 21 3,664 60,971 6.0

Malaysia ... ... ... 8,613 12 8,625 55,467 15.6

Philippines ... 28 ... 974 2 1,004 17,089 5.9

Singapore 22 7,196 5 ... 585 7,808 132,728 5.9

Thailand ... 320 ... 2,978 ... 3,298 55,443 5.9

Vietnam ... 31 ... 395 12 438 2,698 16.2

Total 22 8,341 5 15,837 631 24,836 324,395 7.7

Total investment balance

948 25,050 19 194,121 5,035 225,173 15,503,684 1.5


2.3 33.3 24.6 8.2 12.5 11.0 2.1


Sixth, although there has been gradual progress toward regional integration, the level of integra-tion remains low (Table 9). Compared with inves-tors in advanced countries, however, Asian inves-tors generally have a regional bias and invest a high percentage of their assets within the region. In addition, there now appears to be a growing trend toward investment in Asian bonds among Japanese investors. This suggests that Asia, in-cluding Japan, can be expected to move further toward regional integration in the area of bond transactions in the future(7).

Recently there has been an increase in dollar-denominated bond issues by Asian issuers, result-ing in part from low interest rates in advanced countries (Fig. 7). Many of these dollar-denomi-nated bonds have low ratings, and some observers have warned that repayment risk could increase. Another factor contributing to the increase in is-sues is the fact that a variety of issuing structures are available in dollar-denominated bond markets. Asian issuers and investors are rapidly becoming more sophisticated, leading to the diversification of bond issues. One example of this pattern is the growth of covered bond issues in Singapore.

② Outlook for Bond Market Integration, Priorities for Bond Markets

Initiatives toward ASEAN financial integration currently appear not to include active moves to

Secondary market liquidity is low. Reasons for this include the fact that many institutional inves-tors in ASEAN are still at the development stage, and the fact that the usual investment style is buy and hold. Another factor is the general lack of de-velopment of markets for hedging tools, such as derivatives and repos.

Fourth, bond market development has been ap-proached as a policy priority. Different countries have implemented different policies, and while those policies have resulted in market develop-ment, they have not always led to the achievement of the goals adopted when the ABMI was first cre-ated, specifically the reduction of borrowing from domestic and foreign banks, and the creation of balanced financial systems.

Fifth, there has been qualitative development of bond markets, in the sense that quantitative ex-pansion has been accompanied by efforts to cre-ate robust markets. Some observers have pointed out that bond markets functioned as a “spare tire” by providing those seeking funds with an alterna-tive to international capital markets and domestic banking sectors during the Lehman shock. With the additional impetus provided by global mon-etary easing and the rapid growth of Asian econo-mies, the importance of these markets as targets for investment from advanced countries has risen dramatically. However, this has had a negative im-pact by heightening market instability.

Notes: GDP ratios as of the end of 2013Source: BIS data for figures as of the end of 1997, Asian Bonds Online for figures as of the end of 2013

Table 8 Increase in Outstanding Issues in Asian Bond Markets($billions)

End of 1997 End of 2013 Expansion (Times) GDP Ratio (%)

Govt. bonds

Corporate bonds

Govt. bonds

Corporate bonds

Govt. bonds

Corporate bonds

Govt. bonds

Corporate bonds

China 45.1 42.7 3,073 1,652 68.1 38.7 32.7 17.6

Hong Kong 13.1 28.0 108 86 8.2 3.1 39.6 31.5

Indonesia 0.9 3.3 90 18 100.0 5.5 12.0 2.4

South Korea 32.5 120.8 626 1,015 19.3 8.4 47.9 77.6

Malaysia 19.4 37.7 182 130 9.4 3.4 60.7 43.1

Philippines 16.6 0.0 87 13 5.2 ― 33.6 5.1

Singapore 13.1 10.6 150 92 11.5 8.7 51.1 31.4

Thailand 1.4 9.0 214 62 152.9 6.9 58.7 16.9

Total 142.1 252.1 4,530 3,068 31.9 12.2 ― ―Total (excl. China) 97.0 209.4 1,457 1,416 15.0 6.8 ― ―


opment Bank to provide information about Asian bond markets, and the efforts to standardize bond issuing rules and to improve and integrate regional settlement systems through the ABMF.

The target as far the standardization of bond is-suing rules is concerned is the establishment of the ASEAN+3 Multi-Currency Bond Issuance Framework (AMBIF) as a common regional bond issuance program for professional investors. Mu-tual recognition under this framework will allow greater integration of bond markets for profession-al investors in each member country. When it was first established, the ABMF was expected to take a top-down approach to the creation of offshore markets in Asia. However, a bottom-up approach was found to be more practical, and this now ap-pears to be the most appropriate strategy. Even so, the achievement of mutual recognition will not be easy. The Joint Statement of the ASEAN+3 Fi-nance Ministers and Central Bank Governors in May 2014 acknowledges the progress of efforts to “clarify commonalities and differences of bond is-suance documentation and procedures,” but so far this work does not appear to have resulted in any actual bond issues.

There are several priorities for bond markets. First, it will be necessary to expand the issuer base (Table 10). As with investors, one approach to this task would be to attract overseas issuers. To allow bond issues by small and medium enterprises, it

integrate bond markets. However, efforts through the ABMI have been based from the outset on the view that it would facilitate cross-border trans-actions. Current efforts are focusing mainly on the facilitation of issues, including cross-border issues, through the establishment of the Credit Guarantee and Investment Facility (CGIF) as a guarantee institution for corporate bond issues within the ASEAN region, the maintenance of the Asian Bonds Online website by the Asian Devel-

Notes: The eight Asian countries/regions are Hong Kong, Indonesia, South Korea, Malaysia, the Philippines, Singapore, Thailand and Vietnam

Source: Asian Bonds Online

Fig. 7 Dollar-, Euro- and Yen-Denominated Bond Issues

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q

2011 2012 2013 2014

China 8 Asian countries/regions

($millions)

(Year/quarter)

Notes 1: China and Vietnam are not included among the source countries due to the non-availability of data. Notes 2: Figures shown at the lower right represent total world securities investment balances. Source: IMF, Coordinated Portfolio Investment Survey

Table 9 Balance of Cross-Border Bond Investment in ASEAN (2010)($millions)

Source Country

Recipient Country

Indonesia Malaysia Philippines Singapore Thailand TotalTotal balance

of inward investment


Indonesia ... 253 695 8,054 42 9,043 35,735 25.3

Malaysia 12 ... 18 6,468 125 6,624 39,662 16.7

Philippines ... 512 ... 1,687 46 2,245 25,113 8.9

Singapore 622 1,967 96 ... 23 2,707 34,831 7.8

Thailand ... 165 ... 2,280 ... 2,445 10,186 24.0

Vietnam ... ... ... 91 ... 91 2,633 3.4

Total 634 2,897 810 18,580 235 23,155 148,159 15.6

Total investment balance

4,432 10,770 5,266 126,746 13,311 160,524 21,735,503 0.7


14.3 26.9 15.4 14.7 1.8 14.4 0.7


tors would lead to market instability. However, with their advanced investment technology and diverse investment styles, there would also be sig-nificant benefits. Foreign investment in corporate bonds could also be expected to increase.

Markets would also benefit from diversification of the investment styles of domestic investors. Pension systems should be improved, in part as a way of expanding the institutional investor base.

would also be necessary to create bond markets for companies with low credit ratings.

Second, the investor base will need to be ex-panded. There has been some diversification of the investor base, but more needs to be done to improve secondary market liquidity (Table 11). Expectations toward investors should focus on foreign as well as domestic investors. There is a risk that increased participation by foreign inves-

Source: Compiled using articles from Asiamoney

Table 10 Overview of Current Conditions and Issues in the Corporate Bond Markets of Five ASEAN Countries

Singapore Malaysia Thailand Philippines Indonesia

Market overview, issuers, products

・The bond market has expanded rapidly since 2008. Overseas issuers have also increased their bond issues in Singapore. ・Products issued are

becoming more diverse, including sukuk and yuan- denominated bonds.

・There is limited scope for expansion of the government bond market, but there is room for expansion of the corporate bond market. ・Indonesian and Thailand

issuers are issuing bonds in Malaysia. ・Securitization is expected

to increase.

・There is scope for further expansion of government bond issues. Corporate bonds are in short supply. There have been little issues by government-affiliated companies. ・The relatively high

number of issues with low ratings is a feature of the market. ・Issues by foreign issuers

are restricted. ・Sukuk issues are

expected to increase.

・Approval for issues takes considerable time. ・Credit spreads do not

function efficiently and are not necessarily accurate.・The number of issuers is

limited, and the size per issue is small.

・The level of market development is similar to that of Malaysia in the late 1990s. ・Issuer diversification is

needed. ・Indonesia is an Islamic

country, and although the sukuk market is expected to expand, it is still small at present.

Investors ・Investors are mainly private sector banks.・There is little investment

in foreign bonds by domestic investors.

・There is a “rating cliff,” and investment in bonds with ratings of single A or below is minimal. ・Few individuals or

overseas investors participate in the corporate bond market.

・The percentage of foreign investors in government bonds is relatively high, but there is little foreign investment in corporate bonds.

・Individual investors are almost non- existent, and institutional investors are not well developed.

・There are almost no individual investors in corporate bonds.

Liquidity ・Because of the saving surplus, bonds are basically held until maturity (“buy and hold”)

・Bonds with low ratings have low liquidity.

・Market liquidity is low because of the imposition of capital gains taxes on individual investors, who account for the majority of investment in the corporate bond market. ・There are no functioning

market makers.

・Transactions are small, and liquidity is low.

・Bond market liquidity is low, and risk premiums are large.

Notes 1: Figures as of December 2013 for China, the Philippines and Indonesia, and as of September 2013 for other countries

Notes 2: Some figures are estimates because of differences in the categories used in each country.Source: Asian Development Bank, Asia Bond Monitor, March 2014

Table 11 Investor Mix in Government Bond Markets(%)

China South Korea Malaysia Thailand Philippines Indonesia Banks 77.0 18.0 31.9 13.0 31.6 33.7Pension funds ―

27.032.2 27.0 24.4 4.0

Insurance companies 5.4 5.8 23.0 ― 13.0Investment trusts, etc. 4.8 21.0 ― ― ― 4.3Foreign investors ― 10.0 28.2 17.0 ― 32.5Others 12.8 24.0 1.9 20.0 44.0 12.5


3. The Desirable Ways of Finan-cial System Development

(1) Contribution to Economic Develop-ment

① ProvidingDiversifiedFinancialServicesReinforcement of domestic financial systems is

a prerequisite for progress toward regional finan-cial integration. Another important consideration is the mutually facilitating relationship between the reinforcement of domestic financial systems and domestic economic growth.

One source of insights into the role that finan-cial systems are expected to play in ASEAN coun-tries is Malaysia’s Financial Sector Blueprint, which was released in December 2011. This docu-ment identifies future priorities for the financial sector, especially banking. The targets for the pe-riod to 2020 cover four areas: ① a financial sector that best serves the Malaysian economy, ② en-hancing regional and international financial link-ages, ③ safeguarding the stability of the financial system, and ④ other key enablers for the develop-ment of the financial system (Table 12).

Recommendations relating to regional financial integration, which falls into the second of these categories, include the reinforcement of regional and international linkages through the gradual opening up of domestic markets to foreign banks,

There is also the view that what bond markets need is not more investors but more issuers, but the diversification of investor demand is likely to result in increased issues. Another way to increase investment in corporate bonds would be to ease restrictions on investment by pension funds and insurance companies and the government bond holding requirements for banks.

Third, there should be efforts to improve mar-ket infrastructure and institutions that encompass harmonization and standardization. As noted ear-lier in this article, the development of settlement systems for securities and funds is especially im-portant, and some form of standardization of the rating methods used in ASEAN countries would also be useful. Other essential steps include the development of derivatives markets, and the aboli-tion of withholding tax.

Fourth, efforts toward market integration are needed. Like the banking sector and stock mar-kets, however, bond markets are extremely di-verse, and there is continuing debate about mean-ingful approaches to integration.

Source: Bank Negara Malaysia, Financial Sector Blueprint 2011-2020

Table 12 Financial Sector Blueprint

The financial sector that best serves the Malaysian economy1. Effective intermediation for a high value-added and high-income economy2. Developing deep and dynamic financial markets3. Financial inclusion for greater shared prosperity

Enhancing regional and international financial linkages1. Strengthening regional and international financial integration2. Internationalization of Islamic finance

Safeguarding the stability of the financial system1. The regulatory and supervisory regime2. Raising the standards of governance and risk management3. Regulation and greater regional and international integration

Key enablers for the development of the financial system1. Electronic payments for greater economic efficiency2. Empowering consumers3. Talent development to support a more dynamic financial sector


cerned, since bond issues are limited almost ex-clusively to large corporations with high credit ratings, there are many areas, such as lending to SMEs and consumers, in which the banking sec-tor must provide appropriate services. Priorities in these areas include the development of credit risk information data bases to facilitate lending, and the enhancement of credit guarantee systems. In the area of consumer services, improved con-sumer protection and appropriate regulation are needed, in part because of the possibility of exces-sive lending.

A diverse range of financial services will be needed as economic structures change. Examples include pension-related financial products, ser-vices for high-net-worth people, credit for newly established companies, finance for infrastructure projects, microfinance and Islamic finance. The types of services needed will vary according to the way of economic development. The promotion of financial inclusion is also a common priority for ASEAN countries.

② Real Economic Trends and Financial Sys-tems

Walsh [2014] analyses the priorities for Asian financial systems from the perspective of eco-nomic growth and development in the region’s countries in the following terms. First, financial systems must support continuing rapid growth. Asia is expected to achieve growth in excess of the world average in the foreseeable future, and fi-nancial systems will be required to play an impor-tant role in that context. Second, financial systems must meet the region’s huge demand for funds for infrastructure development. The level of infra-structure development in ASEAN countries is in-

international cooperation among financial authori-ties, the development of financial infrastructure to encourage increased cross-border transactions, and an expanded role for the Labuan International Business and Financial Center (IBFC). The Blue-print also calls for efforts to internationalize Is-lamic finance, including the expansion of market participants, the standardization of documenta-tion, and the enhancement of consideration about regulations and tax systems (Table 13).

The first section of the Blueprint calls for the creation of the financial sector that will best serve the Malaysian economy. The main goal relating to “effective intermediation for a high value-added and high-income economy” is the development of new financial tools— such as infrastructure finance and finance for newly established com-panies—that will contribute to economic growth. In addition, the Blueprint states that as economic structures change, pension services and business with affluent customers will become increasingly important and banks will need to become more competitive.

In the section calling for the development of deep and dynamic financial markets, the Blueprint emphasizes the importance of improvements to the bond and foreign exchange markets and settle-ment systems, and the development of a balanced financial system. The Blueprint also calls for fi-nancial inclusion for greater shared prosperity and identifies financial inclusion as an important step toward the acceleration of Malaysia’s economic growth and the reduction of income disparity.

While this example relates to Malaysia, the contribution of the financial sector to economic growth is a key factor common to all countries in the region. As far as the banking sector is con-

Source: Islamic Financial Services Board, Islamic Financial Services Industry Stability Report 2014

Table 13 Balances of Islamic Financial Assets by Region (June 30, 2013)($billions)

Bank Assets Sukuk BalanceIslamic Fund

Assets Takaful Insurance

PremiumsAsia 192.3 166.0 24.2 3.5GCC 490.3 74.9 30.6 7.6Middle East/N. Africa (excl. GCC) 518.3 1.2 0.4 7.1Sub-Saharan Africa 20.6 2.2 1.6 0.2Others 62.2 1.0 12.1 0.01Total 1,283.7 245.3 68.9 18.3


to seek profit opportunities overseas. In this way, economic development leads to in-

creases in the scale and complexity of the financial system, and to deepening international integration. This article has emphasized that regional financial integration will not be easy in the existing envi-ronment. However, sustained economic develop-ment can be expected to increase the likelihood that integration will deepen. This is because the mutually facilitating development of economy and the financial system also helps to drive regional fi-nancial integration. This process will heighten the need to liberalize systems that hinder integration, such as restrictions on capital transactions, and build structures, such as financial regulations, to limit risks.

③ Issues Relating to Infrastructure Finance and Financial Systems

Infrastructure development is regarded as an important concern for the establishment of the ASEAN Economic Community. Better infra-structure enhances a country’s ability to provide public services, reduces the costs involved in the transportation of people and goods, and strength-ens domestic and regional connectivity. This is extremely significant for the formation of produc-tion networks and the achievement of economic growth. Goals under the Master Plan on ASEAN Connectivity, which was adopted in 2010, include not only the improvement of physical infrastruc-ture, but also the removal of institutional barriers to distribution and the promotion of human inter-action at the social and cultural levels.

Infrastructure development cannot be funded solely from fiscal resources, and the mobilization of private sector funds under public-private part-nership (PPP) frameworks is an important prior-ity. However, infrastructure projects involve high initial costs, especially for construction, while the recovery of costs through usage charges and other means takes many years. For this reason, infra-structure development requires not only access to long-term finance, but also accurate assessments of the risks involved in complex projects. Many risk factors can affect infrastructure projects, in-cluding governance and political risks. A key is-

adequate at present (Table 14). Factors that are ex-pected to drive a rapid increase in the demand for a diverse range of infrastructure include urbaniza-tion, the growth of intraregional trade, and grow-ing demand for telecommunications and travel. It will not be easy to meet the demand for infra-structure development funds in this environment. Third, financial systems must be able to keep pace with shifts in the demand for investment and pro-curement of funds resulting from demographic change. Long-term investment tools will need to be improved, in part because of an anticipated fall in savings rates in countries affected by rapid de-mographic aging, such as Japan, China and South Korea. Countries with expanding working popula-tions, such as India and Indonesia, will meanwhile need to find sources of finance, not only for infra-structure development, but also to meet demand from both companies and individuals in areas ranging from new businesses to housing. Only by strengthening cross-border financial intermedia-tion systems will it be possible to meet demand in both types of countries.

Basically, if an economy grows, the funds nec-essary for financing will also expand, leading in-evitably to the expansion of the financial system. As an economy matures, simple profit opportuni-ties will decrease, causing financial institutions to become involved in more complex business areas and provide more sophisticated services, and also

Notes: Based on Global Competitiveness Report (2013-2014), sample: 148 countries, score: 1-7 (the higher the better)

Source: Asian Development Bank Institute [2014], p.167

Table 14 Infrastructure Indices of ASEAN Countries

Rank Score

Singapore 2 6.41

Malaysia 29 5.19

Thailand 47 4.53

Brunei 58 4.29

Indonesia 61 4.17

Vietnam 82 3.69

Laos 84 3.66

Philippines 96 3.40

Cambodia 101 3.26

Myanmar 141 2.01


would be the provision of government subsidies or credit enhancements.

Another way to encourage investment is by im-proving transparency through the accumulation of data on project costs and returns. Investment in unprecedented areas is not easy, and the accu-mulation of data—at least concerning future proj-ects—is vital.

The fact that infrastructure investment frequent-ly involves multiple countries is another reason why progress toward regional financial integration is essential. This type of infrastructure develop-ment has the potential not only to enhance ASE-AN’s international competitiveness, but also to reduce regional disparity.

Other priorities from a financing perspective include support from Japan, China and South Ko-rea for the aforementioned ASEAN Infrastructure Fund, and capacity building to improve govern-ment capabilities in relation to PPP projects.

(2) Policies to Facilitate Regional Fi-nancial Integration

Facilitation of regional financial integration will require not only the strengthening of markets in individual countries, but also the implementa-tion of measures to promote integration, such as further development of cross-border investment products, modification or harmonization of regu-lations and systems, and the liberalization of capi-tal transactions (Table 15).

sue with the PPP approach is the level of capacity on the government side. Asia has abundant sav-ings, but the important question is how those sav-ings can be applied to infrastructure development.

Traditionally banks were the main providers of finance for infrastructure projects. However, long-term funds provided by banks are sourced mainly from deposits, especially short-term deposits, and the capacity of banks to expand long-term financ-ing is limited, in part because the level of capital required for long-term financing will increase under Basel III. That is why there is a need for in-vestment by institutional investors with access to long-term funds.

Institutional investors use several methods to invest in infrastructure projects. First, there is in-vestment in unlisted infrastructure funds. A re-cent estimate places the balance of these funds at around $22 billion. Second, there is investment in bonds rather than equity. Examples include proj-ect bond investment funds and project securitiza-tion. Bond issues are generally suitable for long-term, large-scale financing. Further expansion of the supply of funds through bond markets will require an increased focus on the improvement of bond markets and the development of institu-tional investors. Another hurdle that will need to be overcome is the creation of acceptable combi-nations of risk and yields. Institutional investors will be reluctant to invest in anything other than investment-grade bonds providing yields that are commensurate with risk. One effective approach

Source: Compiled by JRI

Table 15 Essential Steps for Facilitating Cross-Border Transactions

1. Progress on dialog concerning approaches to economic and financial integration within and beyond the region (debate over the costs and benefits of financial integration), reconciliation of differences in national positions and views

2. Reduction of differences in bond market development stages through market development in member countries (development of bigger issuers, improvement of credit ratings, improvement of secondary market liquidity, development of risk hedging mechanisms and settlement systems, etc.)

3. Expansion of issuer base: The use of securitization and credit guarantees to complement issuer creditworthiness

4. Expansion of investor base: Development of regional institutional investors, information distribution and public relations activities for investors

5. Product development: Development of cross-border products (securitization products, Asian corporate bond funds, mutual funds, etc.) as catalysts

6. Modification and harmonization of systems and market infrastructure (including capital transaction regulations, tax systems, market-related laws and regulations, rating systems and other credit risk data, accounting and auditing standards, and settlement systems)

7. Solution of currency-related problems (liberalization of capital account transactions, internationalization of regional currencies)


As mentioned earlier in this article, Singapore, Malaysia and Thailand agreed in October 2013 to establish a similar program as part of their efforts toward ASEAN financial integration. The main driving force for this program was an initiative by Singapore. In the future it may be necessary to reconcile multiple programs. China and Hong Kong are also considering a reciprocal approval system for funds.

The UCITS scheme is also expanding beyond Europe, especially into Asia, and in particular into Singapore and Hong Kong. Asian countries are unable to exert any influence over UCITS, which is a European system. The development of Asian standards would be useful from the perspective of promoting regional financial integration. How-ever, the Fund Passport scheme would require the harmonization and mutual recognition of systems in member countries, and the aims of individual countries would be reflected in the evolution of the system. We need to be aware that the recon-ciliation of national interests and support for less developed countries as part of the integration pro-cess would also be necessary under this system.

4. Key Factors Affecting Prog-ress toward Regional Financial Integration

(1) Europe’s Experience of Financial Integration

① The Evolution of European Financial In-tegration

In this section we will examine the European experience of financial integration and consider the implications for financial integration in ASE-AN. The EC market integration plan implemented between 1985 and 1992 called for free movement of goods, services, capital and labor within the European region. Financial integration initiatives were implemented as part of the process of real-izing this plan. Financial integration measures included ① the full liberalization of capital trans-actions, ② the introduction of a single licensing scheme (mutual recognition of licenses) for finan-

We will look next at recent developments con-cerning the Asia Fund Passport concept(8). In terms of the framework shown in Table 15, this concept involves the modification and harmonization of regulations and systems, together with the devel-opment of cross-border investment products.

The Asia Fund Passport concept was initially proposed to Singapore and Hong Kong by Austra-lia, which has an active mutual fund industry, in 2009. Since then it has been the focus of debate primarily through APEC. Under this system, col-lective investment schemes (CIS), such as mutual funds that have been approved in one Asian coun-try, could be approved and sold in other Asian countries without the need for registration or other complex formalities. To gain this status, a CIS would need to meet specific criteria, which can be interpreted as CIS safety standards. A similar scheme, the Undertakings for Collective Invest-ment in Transferable Securities (UCITS), is al-ready in wide use in Europe.

Sellers of mutual funds would be able to avoid the problem of different approval procedures in different countries, while achieving economies of scale by selling their funds to investors in multiple countries. Potential benefits from the investors’ perspective include lower mutual fund fees and the diversification of products available for pur-chasing. Provided that sellers of mutual funds are based in Asia, this structure has the potential to facilitate the overall circulation of funds in the re-gion.

A pilot program was initiated following the signing of a Statement of Intent by Australia, South Korea, New Zealand and Singapore in Sep-tember 2013. It was decided that this program would cover collective investment schemes that allow sales to individual investors. In April 2014, a public consultation paper was released, and Thailand and the Philippines joined the program. Because the program will require law changes in participating countries, actual implementation will not begin until 2016. Information released so far indicates that funds will be required to meet very stringent criteria designed both to strengthen com-petitiveness in the Asian asset management indus-try, and also to protect investors.


advanced prudential regulations and supervision, and action on other issues, such as taxation sys-tems.

There were also developments relating solely to securities markets. In 2001 the Final Report of the Committee of Wise Men on the Regulation of European Securities Markets (the Lamfalussy Report) was completed. This report highlighted problems caused by the complexity of the existing securities-related legislative process in order to promote financial integration, and recommended improvements. These recommendations resulted in the establishment of two regulatory and su-pervisory organizations: the European Securities Committee (ESC) and the Committee of Euro-pean Securities Regulators (CESR). Known as the Lamfalussy process, this new regulatory and supervisory structure was extended to the banking and insurance sectors in 2002.

However, progress toward the harmonization of regulation and supervision under this system has not been entirely satisfactory. Harmonization has proved to be extremely difficult in the absence of a consensus about the appropriate regulatory and supervisory model. Another problem was the fact that differences in the regulations applied in fi-nancial centers, such as the United Kingdom and Luxembourg were a source of competitiveness.

Efforts to facilitate financial integration on a practical level, such as market infrastructure, in-cluded programs to ① extend the effectiveness of monetary policy, ② strengthen and integrate stock and bond markets, and ③ integrate financial services for companies and individuals. Specific measures included the introduction of the Trans-European Automated Real-time Gross Settlement Express Transfer (TARGET) system, the acceler-ated integration of short-term financial markets and short-term securities markets, the unification of securities settlements, and the unification of bank account settlements.

These efforts have resulted in steady progress toward financial and capital market integration, including the reduction of yield gaps among mar-kets, increased correlation between rates of return in each sector, and the expansion of cross-border transactions. The gradual harmonization of laws

cial institutions and free access to regional stock exchanges for securities companies with stock ex-change seats, and ③ a minimal level of harmoni-zation among the financial regulations of member countries.

Efforts to liberalize capital transactions bogged down in the early 1960s, but 1986 saw the begin-ning of a gradual liberalization process based on EC directives. It was decided that full liberaliza-tion would be achieved by July 1990 (1992 for certain countries, such as Spain). Capital flowed into peripheral countries, such as the United King-dom and Spain, because of the expectation that monetary union would cause interest rates to fall. However, the emergence of doubts about mone-tary union triggered an outflow of capital, leading in 1992 to the outbreak of the European currency crisis. The currency fluctuation band was widened to 15% in attempt to resolve the situation, but this showed that the free movement of capital would inevitably be accompanied by currency fluctua-tions as long as countries retained autonomy over monetary policy.

Another important issue is the harmonization of regulations. Recognizing that the harmonization of laws among member countries would not be easy, the European Commission developed a strategy combining minimal harmonization with mutual recognition, which it presented in its 1985 white paper, Completing the Internal Market. However, even mutual recognition proved to be far from simple, and there was little growth in cross-border transactions. Progress toward the integration of national markets was also impeded by the fact that Europe already had an efficient offshore market in which Eurobonds could be issued cheaply.

With the achievement of monetary union in 1999, Europe began to implement a common monetary policy within the region. This height-ened the importance of efforts to integrate short-term financial markets and government bond markets. In May 1999, the European Commission announced the Financial Services Action Plan. The strategic goals identified in this plan were the completion of a single wholesale market, the de-velopment of open and secure markets for retail financial services, the implementation of the most


progress toward regional financial integration.

(2) Conclusions

① Need for Reconciliation of National In-terests and Support for Less Developed Countries

In this final section, we will summarize the key points for regional financial integration. Regional financial integration would lead to an increase in cross-border financial and capital market transac-tions and would also facilitate the reciprocal use of markets in ASEAN countries. Prerequisites for this include the liberalization of capital transac-tions, and the harmonization and mutual recogni-tion of regulations, systems, market infrastructure and other elements.

ASEAN financial integration would bring a va-riety of benefits, including economies of scale, improvements in the quantity and quality of ser-vices on offer thanks to the increased competive-ness of the region’s financial systems, support for member countries’ economic development and in-tegration at the real economic level, the reduction of disparities in the economies and financial sys-tems of ASEAN countries, and increased circula-tion of funds in the region, leading to a reduced reliance on outside funds. Even the relatively less developed ASEAN countries would enjoy signifi-cant benefits from integration.

However, ASEAN is characterized by the gener-ally small size of member countries’ financial sys-tems, and by wide disparities between countries in the region. Integration would be driven mainly by private sector economic entities and would lead to escalating competition, and not everyone could be a winner. As far as the integration of labor and goods is concerned, it would be possible to dis-cover factors that would give relatively less devel-oped countries an advantage, such as lower wages and abundant natural resources. However, there would be few such factors in relation to financial integration. This characteristic of financial trans-actions is responsible for the difficulty of moving forward with regional financial integration. From this perspective, it becomes clear that the recon-ciliation of national interests and the reduction of

and regulations has also contributed to growth of cross-border transactions, but the most important factor appears to be the elimination of exchange rate risk as a result of monetary union. However, there are areas in which integration has been rela-tively slow, such as banking services for individu-als.

Europe’s experience shows that the harmoniza-tion of financial regulation and supervision is not a simple task. However, there are also areas in which progress toward integration will be relative-ly easy, such as settlement systems and other mar-ket infrastructure. The overall integration process is likely to benefit significantly from increased ef-forts in these areas.

② The European Crisis(9)

Currency union caused capital to flow into pe-ripheral countries in the region. Consequences for the countries concerned included asset price bubbles, and a loss of international competitive-ness due to rising currency values. The subse-quent global financial crisis caused the financial positions of European banks to deteriorate, and government fiscal positions were also adversely affected, in part by the cost of rescue measures. Because there had already been a certain amount of progress toward regional financial integration, banks in each country held government bonds is-sued by various countries in the region. The result was a vicious circle of deteriorating bank finances and worsening fiscal positions.

Lax financial regulation and supervision has been highlighted as one of the causes of the Euro-pean crisis. While there had been some progress toward the harmonization of financial regulations, bank supervision was still under the control of individual governments. This meant that mecha-nisms established to cope with crises, such as prudential regulations, deposit insurance systems, bank liquidation systems, and liquidity support structures, were inadequate in the environment created by the expansion of cross-border transac-tions.

Based on this experience, Volz [2013] empha-sizes the need to create regional financial moni-toring and supervision organizations in step with


③ The Need to Address RisksBecause regional financial integration opens

markets up to foreign participation, it also results in increased risk. The prerequisites for the lib-eralization of capital transactions include sound macro policy management and the improvement of domestic financial systems. The lower the level of economic and financial development, the lower will be the extent to which these prerequisites can be fully met. Integration can bring major benefits for the relatively less developed countries in the region, but these countries also face the greatest risks. The full benefits of integration cannot be realized unless the prerequisites for liberalization are met. This means that the obvious choice is an approach whereby countries participate in inte-gration when they are ready. Full liberalization of capital transactions is not an easy goal for any country.

The creation of crisis preparedness systems also plays a vital role in reducing risks. Related measures include capital flow monitoring, the re-inforcement of emergency liquidity support sys-tems, the strengthening of financial regulations and the improvement of financial supervision. These preparations need to be made on a regional basis, which will require the harmonization of regulatory and supervisory systems. ASEAN has no central agency responsible for promoting re-gional integration, and the integration process is instead based on respect for each country’s auton-omy. Given this situation, the resolution of issues such as the harmonization of financial regulations and the establishment of regional financial super-visory organizations will be long-term challenges. ASEAN will need to maintain a balance between progress toward integration and risk management within these limitations.

Asian financial systems have not become the source of a major financial crisis since the 1997 financial crisis. As they move toward regional fi-nancial integration, the ASEAN countries will need to maintain the soundness of their financial systems.

disparities between ASEAN countries will be im-portant priorities. The reduction of disparities will require the reinforcement of financial technology assistance systems for the less developed coun-tries, but this process is likely to take considerable time.

Decisions about whether competition should be encouraged or curbed will need to be made on a case-by-case basis, taking a range of factors into account. A balanced approach is needed.

② Contribution to Economic Development as a Criterion for Moves toward Integra-tion

Contribution to economic development is the fundamental purpose of a financial system and should remain a focus during the integration pro-cess. Volz [2013] states that the aim of regional banking integration should contribute to regional economic development by giving priority to trade finance and infrastructure finance, and that the emergence of Asian banks as leading international banks is not an essential goal. ASEAN countries also need to be aware that there is a mutually fa-cilitating relationship between regional economic development and financial integration. The most important priority is to discourage the excessive pursuit of profit in ways that do not contribute to the support of real economic activity, and instead to aim for the creation of sound, robust financial systems.

Specifically, the key issues for banks are the types of companies and individuals that should be given loans, and the areas of business on which to focus. The important questions in the case of eq-uity and bond markets are the types of issuers to attract and the types of products to issue.

The overall priority is to allocate funds toward productive purposes. Infrastructure finance is es-pecially important in the current situation. An-other key issue is the ability of financial systems to cope with demographic aging, the expansion of the middle class, environmental degradation, the increased frequency of disasters, and other chang-es.


④ Reinforcement of Financial Systems the Most Important Priority

Reinforcement of each country’s financial sys-tem will be a prerequisite for progress toward regional integration. This will involve a range of specific priorities. The priorities for banks include the improvement of operating efficiency, the de-velopment of new business areas, human resource development, and the facilitation of inter-bank mergers. Among the priorities for stock and bond markets are the expansion of issuer and investor bases, human resource development, the develop-ment of financial products, the improvement and harmonization of market infrastructure, systems and regulations, and the improvement of second-ary market liquidity. The expansion of the domes-tic investor base is also important from the view-point of coping with capital flows. Growth in the number of cross-border transactions by issuers and investors can be expected to result in acceler-ated market expansion and development.

The reinforcement of financial systems in ASEAN countries in step with progress toward ASEAN financial integration would contribute to economic development while also helping to re-duce risk. Another benefit would be the creation of structures to accommodate funds from outside of the region. This leads to the conclusion that the development of robust financial systems capable of supporting open integration is the most impor-tant goal from a long-term perspective.


7. According to an article about the rapid expansion of in-vestment in Asian bonds in the Nippon Keizai Shinbun of July 27, 2014, Japanese investors were net buyers of medium- and long-term bonds issued in Asian countries (especially Singapore and Malaysia) by ¥411.5 billion in the first five months of 2014. This is 70% higher than the total for the same period in 2013. In an article in its Au-gust 12, 2014 edition about the shift from government bonds to foreign bonds and infrastructure regarding the asset management of life insurance companies under low interest rate environment, the Nippon Keizai Shinbun ob-served that major life insurance companies had started to expand their investment in bonds and other products is-sued in emerging countries, including those in Asia, and that some companies had established specialist depart-ments for this purpose.

8. The main sources for these comments are Date [2011] and Okada [2014a] and [2014b].

9. The author referred to Volz[2013]

End Notes

1. The AIF was established in Malaysia with contribu-tions of $335 million from ASEAN members and $150 million from the ADB. Each year it provides loans up to a ceiling of $75 million each for around six projects. Loans are available for projects that contribute to pov-erty reduction, trade expansion and the promotion of in-vestment. The ADB manages the AIF and provides com-mitments for additional project co-financing.

2. For a detailed examination of the banking sectors of Ma-laysia, Thailand, Indonesia and Vietnam, see Japan Re-search Institute Limited [2012].

3. In relation to this issue, a senior official of the Philippine central bank commented in February 2014 that the small size of Philippine banks meant that the Philippines was unlikely to benefit from integration in the present envi-ronment, and that banks needed to prepare for integra-tion by strengthening their positions in their home mar-kets and improving their risk management systems.

4. Nippon Keizai Shinbun, October 10, 2014

5. See Oliver Wyman and CIMB ASEAN Research Insti-tute [2013] and Korea Institute of Finance [2014] for analyses of stock markets.

6. References with detailed discussions of Asian bond mar-kets include Shimizu [2014].


7. Kamio, A. [2012], ASEAN Shihon Shijo Togo no Tori-kumi (Asian Capital Market Integration Initiatives in ASEAN) Daiwa Institute of Research, August.

8. Kamio, A. [2013], Asean Ginko Sekuta no Jiyuka Togo no Torikumi (Banking Sector Liberalization and Integra-tion Initiatives in ASEAN), Daiwa Institute of Research, August.

9. Kamio, A. [2014], Ajia Shinkokoku no Teikakuzuke Sai-ken-to ni Ryunyu suru Mane (Money Flowing into Low-Rated Bonds, etc., in Asian Emerging Countries), Daiwa Institute of Research, July.

10. Date, N. [2011], Ajia Fando Pasupoto Koso e no Kitai (Expectations toward the Asia Fund Passport Concept), in Institute for International Monetary Affairs, Kokusai Kinyu Topikkusu (International Monetary Topics), No. 193, April 25.

11. Toyomaki, Y. [2014], Fando Pasupoto no Shinten (The Evolution of the Fund Passport), in Mitsubishi UFJ Trust and Banking Corporation, Mitsubishi UFJ Shintaku Shisan Unyo Joho (Mitsubishi UFJ Trust Asset Manage-ment Information), August.

12. Hayashi, H. [2014], Asean ni okeru Ginko e no Gaishi Shusshi Kisei to Saikin no Ugoki (Recent Trends in Re-strictions on Foreign Investment in Banks in ASEAN), in Nomura Capital Market Quarterly, Spring.

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Documents

ASEAN Financial and Capital Markets —Policies and