Asian markets got pummeled on Tuesday as investors dumped stocks across the region in the wake of Wall Street's worst decline in seven years. Japan's benchmark Nikkei stock market index closed down nearly 5%, Hong Kong's Hang Seng index fell 5.4%, and Seoul's KOSPI index dropped 6.1%. In Taiwan, where the main index slumped 4.9%, the government encouraged banks and state funds to buy shares to support the market.
The declines come after investment bank Lehman Bros. filed for bankruptcy and Bank of America reached a deal to acquire Merrill Lynch. The biggest worry of Asian investors, however, isn't so much the stability of Asia's own financial system. For the most part, Asian banks and securities firms have not suffered the mortgage and property losses of their U.S. counterparts. Asia's financial institutions have become more conservative in recent years, having learned their lessons from past speculative investments in assets such as office blocks and shopping malls during the Asian financial crisis that began in 1997. Several Japanese banks, including Shinsei Bank and Mitsubishi UFJ Financial Group, are creditors of Lehman, but any potential losses from their exposure aren't expected to have a significant impact on Japan's banking system. In fact, the problems on Wall Street are actually benefiting some Asian financial institutions. Large Japanese banks, including Mitsubishi UFJ, have been striving to expand their international presence, filling a hole left by retrenching American and European banks.
But investors are concerned about the potential negative impact Wall Street's woes will have on the U.S. economy. Though Asia's economies aren't as dependent on the U.S. market for growth as they traditionally were, exports to the U.S., Europe and Japan are still a key driving force in Asia's rapid development. Any global slowdown dims the outlook for Asia. "There will be important economic implications of the financial meltdown in the U.S. on Asia," says Dariusz Kowalczyk, chief investment strategist at CFC Seymour in Hong Kong. The continued financial chaos in the U.S., he says, raises fears in Asia that the American economy will experience a more protracted downturn. "There doesn't seem to be any light at the end of the tunnel," Kowalczyk says.
So far, Asia's economies have held up quite well, but in recent weeks, economists have been scaling back their growth forecasts. Merrill Lynch last week cut its Asia GDP growth estimate to 7.7% from 7.9% for 2008, citing weak demand in industrialized economies for Asian exports. Though that's far from a recession, Merrill says that Asian growth is falling below the expected trend of about 8%. Asian policy makers have been limited in their efforts to stimulate growth because of rising inflation, which has forced most central banks to hike interest rates.
Asia, though, is waking up to the risks to its growth, and the focus in some governments appears to be shifting from fighting inflation to bolstering economies. In an attempt to stimulate growth and stabilize markets, the People's Bank of China on Monday lowered its key interest rate by 27 basis points to 7.2% the first cut since 2002. The central bank also reduced reserve requirements for some Chinese banks, a step that could increase lending. Goldman Sachs economist Hong Liang commented that the moves "clearly signaled the central bank's intention to support growth" and "could provide some badly needed boost to investors' confidence." Last week, Taiwan unveiled a $3.7 billion stimulus package for the sagging economy that included interest-free housing loans for newlyweds and subsidies for firms that hire new workers.
Economists are divided, though, over how far Asia's policy makers will go to stimulate the region's economies in response to Wall Street's problems. Andrew Freris, senior investment strategist for Asia at BNP Paribas Private Banking in Hong Kong, says central bankers face "a conundrum." Though he says there is "psychological pressure" to cut interest rates, Freris believes that concerns about inflation and the continued strength at Asian financial institutions will keep them cautious. Policy makers "aren't going to jump because the U.S. is having domestic problems," Freris says.
But Glenn Maguire, chief Asia-Pacific economist for Société Générale in Hong Kong, expects that Asia's central bankers will move towards looser policy to support their economies and head off any possible liquidity shock from the U.S. meltdown. "It's pretty clear that the tightening cycle in Asia is over," says Maguire. Tuesday's market tumble will likely convince policy makers "to be much more accommodating on policy immediately." That may be the only good news in a dark day for investors.