Four Vulnerable Fellows
Indonesia has been included by HSBC analysts as one of the four emerging markets that are most vulnerable should the global financial market fall into panic, alongside Brazil, Mexico and South Africa
EXACTLY a year ago, the global financial market was in ruins when Covid-19 started hitting Western countries. The prices of various financial assets, bonds and stocks fell apart. Luckily, there was an injection of liquidity from the central banks of several developed economies that prevented market from collapsing. Now, the same symptoms are reappearing as the market resumes its rumbling.
The injection of liquidity has ballooned prices to levels that completely disproportionate. The injection that had saved the market will become the cause for a price crash due to its overdose. In other words, it is the time for corrections on prices that have jumped unreasonably high.
Investors around the globe have received ample warnings. The latest comes from Guo Shuqing, the Chairman of the China Banking and Insurance Regulatory Commission. On Tuesday, March 2, he said that financial markets in Europe and America will be going through price corrections sooner or later.
Signs of volatility have appeared in the bond market. Prices are dropping, and it means yields are rising. Investors’ concern for returning inflation causes the bond market immediately reacts. Even Warren Buffet has sent a chilling prediction. “Fixed-income investors worldwide—whether pension funds, insurance companies, or retirees—face a bleak future,” wrote the Chief Executive of Berkshire Hathaway, an investment management company, in his annual letter to shareholders.
The market grew even more restless when Jay Powell, the Federal Reserve chairman, showed no signs for an immediate action to stop the collapse of bond prices. Powell had conveyed a policy line which remains consistent: The Fed will be patient maintaining liquidity injections as long as inflation has not reached the target. But for the market, that is not enough; investors take it as a sign that the Fed will not move aggressively when bond prices fall apart.
If the bond market is panic for too long, there will be high risks for Indonesia. Now, the Indonesian bond market is still under control because it offers very high yields to investors. The 10-year Indonesian government bond yield reached 6.25 percent at the end of last week. This is attracting foreign investors into Indonesia.
When yields in developed countries are low, and even negative in real terms, the rupiah-denominated bond is clearly an attractive option. That is reflected in the portion of foreign ownership in government marketable securities. From a total of Rp4,095 trillion, as of March 4, Rp964 trillion are in the hands of foreign investors.
The problem is, if the global bond market keeps panicking and prices are crashing, the high share of foreign ownership in government bonds can pose a problem. If foreign investors in Indonesia follow Buffett’s advice and quickly release their bonds, Indonesia’s economy can be in serious trouble.
That had actually happened a year ago at the start of Covid-19 pandemic. Foreign investors sold of massive amounts of Indonesian government bonds. The flight of foreign capital triggered the downfall of the rupiah to Rp16,575 per US dollar. Foreign ownership fell Rp150 trillion in less than a month. Once again, it was fortunate that the market panic did not last long due to injections from the Fed.
After one year, the similar risk resurfaces. And thus, Indonesia has been included by HSBC analysts as one of the four emerging markets that are most vulnerable should the global market fall into panic, alongside Brazil, Mexico and South Africa.
There is nothing wrong with the inflow of foreign capital into Indonesian government bonds. This is also a solution to overcome the current account deficit. The trouble is this solution will quickly become a serious problem should the market reverse course.