There are two main transmission mechanisms through which the recent Euro Area fiscal crisis could affect ASEAN. The first is direct through trade flows and the second is indirect, mainly through a tightening in liquidity as banks reduce funding exposures in interbank markets.
On the first, ASEAN's direct economic exposure through exports to Portugal, Spain, Ireland and Italy is small but somewhat larger when the broader EU region is included (table). Thus, any demand shock should be limited, assuming that financial market fallout from the stressed Euro area economies remains limited.
In terms of the second indirect channel, the ASEAN banks have limited exposure to the Euro area and thus the impact to regional balance sheets should likewise remain limited.
The key risk in this respect is that the liquidity provision by Euro area banks could slow and could tighten liquidity in global money markets. This risk could affect the region through two channels. The first is through hard currency funding markets, mainly US$ funding. The second would be through local currency funding in the event that domestic banks begin to rein in counter-party risk and thus curtail interbank exposures.
In this context, the availability of intra-regional hard currency swap lines provides a significant mitigant and moreover, with local currency liquidity conditions still very flush and, with central banks on the alert, the risk of a siezing up in local currency liquidity also seems to be limited.
Of note, the region has in place US$ swap lines established under the Chiang Mai Initiative Multilateralization (CMIM) which was put into effect in March. Under the CMIM, China, Japan and Korea have in place a US$96 billion line while the ASEAN countries have a US$24 billion line, under the ASEAN Swap Arrangement (ASA) - with total US$120 under the broader CMIM umbrella. The linkages between the various countries provides for comprehensive swap facility that should more than offset short term hard currency funding pressures (www.mof.go.jp/english/if/CMI_0904.pdf).
Moreover, several regional central banks - Korea, Japan and Singapore - had established swap lines with the US fed during the 2008/2009 crisis. Although the recent swap facility in many cases has expired, the precedent of the previous swap arrangement suggests that a re-initiation should be relatively straight-forward. On this, recent Fed literature suggests that the swap lines have been successful in easing US$ funding pressures (www.newyorkfed.org/research/staff_reports/sr429.pdf).
In terms of local currency funding pressures, most countries did not face significant duress even in 2008/2009. Though perhaps the exception is Indonesia and is reflected in the sharp increase in interbank spreads relative to the policy rate in 3Q08 which juxtaposes with the Malaysian experience (first chart). However, unlike 2008, banking system liquidity in Indonesia currently remains very flush, reflecting strong BoP inflows and also a still lackluster expansion of credit (second chart). Indeed, 1-month JIBOR rates have remained below the policy rate of 6.5% even with the recent volatility seen in the FX markets. Thus the risk of a repeat of the 2008 experience remains low.
That said, relative changes in domestic interbank rates would be a useful barometer of onshore local currency funding pressures.
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