The ASEAN+3 Macroeconomic Research Office (AMRO) has again stressed on the need to increase the monitoring and detection of financial stability risks as it assesses the developments and condition of the region’s risk factors such as elevated inflation, prolonged high interest rates, and increasing debt levels.
AMRO on Tuesday, Dec. 5, released its inaugural ASEAN+3 Financial Stability Report (AFSR 2023) during the 2nd ASEAN+3 Economic Cooperation and Financial Stability Forum in Japan.
The AFSR 2023, which is AMRO’s second flagship report, touched on the many risks to the region such as potential resurgence of inflation, its impact on interest rates, economy and financial systems.
“Given the swiftly evolving global financial landscape and its substantial reverberations on the region, the significance of financial surveillance in ASEAN+3 cannot be overstated,” said AMRO Chief Economist Hoe Ee Khor.
He talked about financial market volatility Tuesday, which could “spike as it adjusts to the new normal of a ‘higher-for-longer’ interest rate environment with receding liquidity.”
According to AMRO, the region is mostly concerned about spillovers effects during stress episodes and existing vulnerabilities in the US banking sectorm – “where key banking sector stocks have lost more than 10 percent of their value since the US regional banking stress in March 2023.”
“Despite ample US dollar liquidity globally, US dollar stress may emerge if investor confidence falters amid tighter global monetary policy and heightened market volatility,” it said.
The AFSR 2023 which was presented virtually in a press briefing, also touched on the region’s market developments and potential risks due to the impact of high debt on financial stability.
ASEAN+3 financial systems have been proven to be resilient because of strong macroeconomic fundamentals, enhanced regulatory regimes and external buffers – all these are lessons learned since the Asian Financial Crisis.
Still, AMRO said ASEAN+3 economies “are facing heightened uncertainties and volatilities in a rapidly changing and increasingly complex financial environment. Spillovers and contagion risks also intensify as global and regional integration deepens.”
“Furthermore, accelerated cross-border capital flows, driven by greater financial market integration and digitalization, can rapidly transmit shocks, creating new challenges for policymakers,” said Khor.
The AFSR report, in assessing and evaluating the risks to the region’s financial stability, provided thematic and in-depth analysis on financial stability risks from elevated debt levels, which it noted has reached 300 percent of the region’s GDP at the end of 2022.
“The low-for-long interest rate environment that existed before the recent global rise in inflation facilitated substantial debt accumulation by businesses, households, and governments. Monetary and fiscal stimulus measures implemented during the pandemic further contributed to the rise in debt-to-GDP ratios,” said AMRO. Thus, the “increased debt stocks and rising debt servicing costs in the current high interest rate environment have increased risks to financial stability, especially as pandemic support measures have been or are still being phased out.”
Meanwhile, it said a “correction in house prices and escalating debt burdens due to higher interest rates or a recession may heighten the risk of defaults, particularly for highly leveraged households.”
It said companies “with weakened balance sheets may encounter challenges in refinancing and meeting interest expenses.”
“Governments with elevated debt-to-GDP may face increased refinancing costs and rollover risk on maturing debt. The resilience of some banks and non-bank financial intermediaries, acting as debt intermediaries and creditors, may be tested, potentially exacerbating vulnerabilities in the financial market,” said AMRO.
With increasing non-financial private debt and systemic risks, AMRO said policymakers have the macroprudential tools “to curb risks from high household and corporate debt and excessive property developer leverage.”
For corporate debt, more responsible corporate lending practices can be encouraged, including by fostering better governance framework and mitigating credit risks of small-medium enterprises with credit guarantee schemes. To mitigate financial stability risks associated with high public debt, strategies should include medium-term fiscal consolidation, maintaining a sound debt structure, and diversifying the investor base, it further noted on Tuesday.
According to Khor, “in addressing the risks posed by the higher debt levels amid tighter monetary conditions, authorities need to strengthen their defenses through a well-balanced policy mix across monetary, fiscal, and macroprudential policies. Close cooperation across jurisdictions is also essential.”
In his foreword in the AFSR, Khor said the higher debt levels amid tighter monetary conditions have created the potential for financial stability risks to emerge.
“Addressing these challenges effectively necessitates a well-balanced policy mix across monetary, fiscal, and prudential policy frameworks, with concerted efforts among authorities. Central banks should prioritize price stability while striving to maintain financial stability and support growth,” he said.
He added that monetary authorities “should stand ready to provide targeted liquidity support to financial institutions with clear communication during times of stress.”
“The soundness of financial intermediaries, including NBFIs (non-bank financial institutions), must be ensured through strengthening regulatory, supervisory, and risk management. Furthermore, regional cooperation and external buffers are essential to ensure access to US dollar liquidity in times of crisis and reduce dependence on the US dollar in the long term,” he also said.