Banking Sector Integration in ASEAN-
The level of development of the banking sector across the Southeast Asian region varies significantly across nations, mirroring the differences in their levels of economic development. Factors such as rudimentary banking practices and the extent of political interference in the working of the system have made this an undertapped channel for meeting the financing requirements of the region’s infrastructure development. Given that banks are the most important source of financing after government funds, this is a major area that the governments of the region need to address. The integration of the regional banking sector with the upcoming ASEAN Economic Community (AEC) is one measure to do so; however, progress towards this has been slow. Southeast Asia Infrastructure analyses the current situation concerning the region’s banking sector integration, risks and challenges involved, and what it could mean for the infrastructure financing scenario…
The need for banking sector integration and its possible implications on infrastructure financing
The most important benefit of integration of the regional banking sector is a significant reduction in banking cost and financial services. This would mean access to medium- and long-term debt for infrastructure projects that are in limbo because of lack of funds. Besides, a larger pool of bank financing will lessen the burden on the government to meet infrastructure financing needs. This would be particularly true for growing economies such as the Philippines and Indonesia.
Regional integration will also help improve operational efficiency, increase competition and enable banks to exploit scale economies. A well-structured regional banking sector, with standardised procedures for project appraisal, will also aid in the process of identifying “bankable projects”. Another major advantage that may be expected is non-fund exposure in the form of guarantees (which would involve a financial ranking of projects) that would act as important enablers in attracting interest from private sector players. Besides, the move will also enable the delivery of project advisory services, which will help hone the efficiency of banks’ investment mechanisms.
The integration of the region’s banking sector will provide a basis for cross-border settlements and hence guide the flow of capital to growth areas. More regional savings will be mobilised for more productive investment through expanded networks of banks and help accelerate growth the in ASEAN region.
Besides, the heterogeneity of the region, characterised by different levels of economic development and different stages of maturity in the capital markets, could be reduced by the presence of regional players. The integration will also promote closer cooperation among individual member states in the fight against potential threats to their economic stability, and provide a buoyant environment for investment in infrastructure.
Progress thus far
The AEC, planned to come into effect in 2015, is expected to liberalise goods, capital and skilled labour flows in the ASEAN region. While there has been considerable progress in the area of trade integration, financial integration still lags behind.
Currently, the level of integration in ASEAN’s banking sector is relatively limited. The share of ASEAN’s banking assets held by regional banks is smaller than that held by global banks. Indonesia has the highest share of banking assets held by other ASEAN banks at almost 15 per cent, followed by Malaysia at around 9 per cent. Malaysian and Singaporean banks have been actively expanding their operations in recent years into other ASEAN markets. For example, CIMB Bank from Malaysia has large subsidiaries in Thailand and Indonesia while United Overseas Bank of Singapore has a strong presence in Malaysia and Thailand.
As of January 2015, the ASEAN Central Banks’ Working Committee on Payment and Settlement Systems adopted principles for product transparency and disclosure on cross-border trade settlements. The principles are designed to ensure that consumers have clear, timely, easily accessible and comparable information to take informed decisions when settling cross-border transactions. Malaysia, the Philippines, Singapore and Thailand will be the first to implement the principles, while economies such as Brunei, Cambodia, Indonesia, Laos, Myanmar and Vietnam will adopt the principles by the end of 2015.
To strengthen regional economic integration further, the committee is also undertaking a study on establishing key enablers to promote the use of local currencies for cross-border trade settlements. The committee also aims to improve the payment and settlement infrastructure for ASEAN member countries that are ready to support financial integration within the AEC.
Outlook fraught with risks and challenges
The emergence of competitive banks as a result of banking sector integration will help strengthen the soundness and resilience of the region’s banking sector. On the risk side, the host country may be destabilised by the spillover effect of a downturn in the home country of entrant banks. In some economies, there will be concerns regarding the stability of the financial system if weak entry criteria enable banks with inadequate risk management capacity to enter the domestic markets.
It is pertinent to note that depending on the process of integration, there is a possible risk that produces winners and losers among member countries because of differences in their levels of development. For instance, there is a possibility that the integration will accelerate a unilateral inflow of regional capital into the ASEAN-5 because of their highly developed financial markets. Or, conversely, it could lead to a massive inflow into smaller countries such as Brunei, Cambodia, Laos, Myanmar and Vietnam (BCLMV) because of expectation of higher growth rates in these countries. There is also a risk that the domestic markets of BCLMV will be dominated by foreign banks outside the region. In this regard, it is likely that several smaller players will merge in a bid to consolidate their businesses. Besides, entrenched incumbents in a saturated market may be hard to dislodge. For instance, Singapore banks, which are dominant in the banking market, will be hard to compete with.
Thus, dropping regulatory barriers alone may not be sufficient to bring about cross-border integration – the authorities should also work towards strengthening regulatory and supervisory cooperation frameworks to deal with the potential spillovers. While a big upside to the banking integration would be greater access to infrastructure funds (that are much needed in the region), the policies of each of the countries need to be tailored to the demands of integration and to meet the individual economic goals of their economies.
