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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The writer is senior economist for emerging Asia at Natixis Corporate & Investment Banking
Capital markets today look rather competitive with developed markets’ yields elevated and AI equity and debt issuance hoovering up liquidity. A year ago, in the wake of Donald Trump’s punishing tariff regime and pressure on the Federal Reserve to ease policy, investors sought diversification from US-concentration risks. But these efforts have led to a further concentration of capital.
Asian investors, armed with trade surpluses, have become more selective about investing in economies and sectors perceived as less dynamic or less aligned with market-friendly policies. Flows have favoured Japan and South Korea over larger domestic demand economies such as India, Indonesia and the Philippines.
Both Japan and Korea have unfavourable demographics and contracting home markets, yet they remain attractive to investors. Their growth strategies depend on productivity gains and external demand for high-tech goods ranging from chips to ships and autos. Competitive exchange rates are a necessary part of this outward orientation. The yen’s depreciation to around 162 against the dollar, from an average of roughly 110 in 2021, helps with Japanese competitiveness and foreign earnings. Although the Bank of Japan has intervened, the pace has been measured, and rate hikes gradual. Export competitiveness has improved, while inbound tourism has surged. Domestic households face higher import costs, but the country’s net external asset position provides a buffer that more domestic-facing economies lack. Better corporate governance is another pull.
South Korea is following a similar path with its equity markets, and its exports are even more competitive. Earnings from memory chipmakers such as Samsung Electronics and SK Hynix propel the economy. Mindful of the cyclical nature of the semiconductor sector and dependence on outbound shipment for growth, authorities have not meaningfully resisted currency weakness, which has helped the Korean won become more competitive. Tourism and retail sales have received a boost. Korea is also pushing for corporate governance reforms, seeking an upgrade to developed market status.
The outperformance of some Asian economies has pushed others to be more assertive to attract capital. India, which has long protected its domestic market with high import tariffs, has started to look elsewhere for sources of growth and to tackle barriers to investing in local markets. It is starting to liberalise trade, signing free trade agreements such as one with the EU in January, and lowering import tariffs, albeit very gradually. In capital markets, in response to foreign outflows, the central bank has cut swap costs to encourage inflows, while tax on foreign investment in government bonds has also been reduced. But net foreign direct investment remains low.
Indonesia faces similar challenges. With the fourth-largest population in the world and abundant natural resources, it should be benefiting from the energy supply shock and investors’ search for diversification. Instead, markets are wary of President Prabowo Subianto’s policies including further centralising of exports and a free school lunch programme. Indonesia can win back investors with more market-friendly policies, and it will need to do so in a more competitive investment landscape.
The Philippines has taken positive steps to liberalise its renewable energy market, attracting investors. But fallout from the Iran war, as well as a government corruption scandal, is adding a risk premium. The central bank has raised rates, but will need to do more to answer investor demands for higher rewards.
Asia is a region of capital surplus because of higher savings than investment rates in economies such as China, Japan, Korea, Taiwan and Singapore. Much of that capital can be recycled back to India and peers in south-east Asia that offer fast growth and diversification from over-concentration risks. But to do so, investors have to feel confident that their risks are being rewarded, either by high bond yields or attractive equity valuations.
There have been some steps in the right direction. The Indonesian central bank raised rates to give its bonds some of the highest yields in the region. India’s aggressive moves to shore up the rupee and liquidity have also helped boost not just bond inflows but also equity flows to financial services.
With the right reforms, emerging markets in Asia can move higher up investors’ radar. But even as flows cautiously return, more pull factors are still needed — inflows are not a given.
