FIMA Research Center, University of Hawai'i 1 Further Reforms of the JGB Market for the Promotion of Regional Bond Markets S. Ghon Rhee University of Hawai ‘ i ADBI WORKSHOP “Development of Domestic and Regional Capital Markets” June 2001, Bangkok, Thailand

FIMA Research Center, University of Hawai'i 2 Looking Back: The Asian Financial Crisis  Reversal of Capital Flows to Crisis- Affected Economies: $105-$110 billion or 10% of the Pre-Crisis Combined GDP  Was the Reversal Too Large for the Asian Economies as a Group to Cushion Its Impact on Their Currency and Equity Markets?

FIMA Research Center, University of Hawai'i 3 Magnitude of Reversal Less than 5% of Pre-Crisis Combined Domestic Savings of $2.3 Trillion Less than 5% of Pre-Crisis Combined Domestic Savings of $2.3 Trillion Only 1/6 th of Pre-Crisis Foreign Exchange Reserves of $700 Billion Only 1/6 th of Pre-Crisis Foreign Exchange Reserves of $700 Billion Accumulated by 5 Crisis-Affected Economies Plus China, Hong Kong, Japan, Singapore, and Taiwan

FIMA Research Center, University of Hawai'i 4 What Would Have Happened? Had These Domestic Savings Been Channeled Into Corporate Financing Without Relying on Short-term Financing from Abroad Had These Domestic Savings Been Channeled Into Corporate Financing Without Relying on Short-term Financing from Abroad Had 15% of Foreign Exchange Reserves Been Allocated for the Region’s Capital Account Crises Had 15% of Foreign Exchange Reserves Been Allocated for the Region’s Capital Account Crises

FIMA Research Center, University of Hawai'i 5 Valuable Lessons from the Recent Crisis Sufficient Funds Were There in Asia, but the Region Lacked: Short-Term Financing Facilities to Utilize Region’s Foreign Exchange Reserves Short-Term Financing Facilities to Utilize Region’s Foreign Exchange Reserves Fully Developed Domestic Bond Markets and Regional Bond Markets Fully Developed Domestic Bond Markets and Regional Bond Markets

FIMA Research Center, University of Hawai'i 6 Two Major Initiatives “Chiang Mai Initiative” by “Chiang Mai Initiative” by ASEAN + Three Bilateral “swap” arrangements and repurchase agreements Need A New Initiative to Create Regional Bond Markets Need A New Initiative to Create Regional Bond Markets

FIMA Research Center, University of Hawai'i 7 Gaisai Bond Issues Unit: ¥ trillion Unit: ¥ trillion Number of Samurai Number of Shogun Number of Samurai Number of Shogun Year Issues Bonds Issues Bonds Year Issues Bonds Issues Bonds

FIMA Research Center, University of Hawai'i 8 New Miyazawa Initiative Three measures under the NMI are related to regional bond market activities a.Acquisition of sovereign bonds by Japan Bank for International Cooperation b.Use of credit guarantee and/or interest subsidies c.Establishment of international guarantee institution

FIMA Research Center, University of Hawai'i 9 Size of Government Bond Markets Outstanding Government Securities (as of December 2000) Hong Kong:$13.94 billion Singapore:$24.97 billion Australia:$40.33 billion (as of March 2001) US:$2,966.9 billion Japan:$3,176.7 billion

FIMA Research Center, University of Hawai'i 10 Why the Tokyo Market Did not Capitalize on the NMI? Without joint effort by the region’s economies, Japan alone cannot create a truly a regional bond market Without joint effort by the region’s economies, Japan alone cannot create a truly a regional bond market The Japanese government bond (JGB) market suffers from its own weaknesses The Japanese government bond (JGB) market suffers from its own weaknesses

FIMA Research Center, University of Hawai'i 11 Big Bang Financial Reforms: Japan (I) 1.Deregulation of cross-border transactions and foreign exchange business 2.Adoption of a competitive auction method to issue financing bills 3.Abolition of securities transaction tax 4.Deregulation of brokerage commission 5.Preparation of legal framework for loan/asset securitization 6. Allowance of off-exchange trading

FIMA Research Center, University of Hawai'i 12 Big Bang Financial Reforms: Japan (II) 7. Allowance of banks and financial institutions to issue bonds 8. Entry by banks, securities companies, and insurance companies into each other’s business 9.Introduction of individual stock options 10. Replacement of merit-based licensing system with a disclosure-based registration system for securities companies

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FIMA Research Center, University of Hawai'i 14 Post-Big Bang Reform Measures  Creation of the primary dealer system  Adoption of the uniform-price auction method  Introduction of when-issued trading  Revamping the REPO market

FIMA Research Center, University of Hawai'i 15 Creation of the Primary Dealer System  Existence of primary dealers does not necessarily guarantee intense competition on the primary market but they are experts in pricing, market making, and distribution  No primary dealer system: Japan and Germany  MOF’s dual role (buyer and seller) to be blamed for the lack of primary dealer system in Japan  Syndicated underwriting: Past norm  Public auction systems are now used for: 2-, 4-, 6-, and 20-year bonds 2-, 4-, 6-, and 20-year bonds

Issuing Techniques of Government Bonds Fixed Price Public Subscriptions Fixed Price Public Subscriptions Underwriter consortium utilized Private Placements Private Placements In the absence of well-functioning secondary markets Tap Issues Tap Issues Sold directly into the secondary market through branch network of banks or securities companies Auctions Auctions Multiple price auction vs. Uniform Price Auction

Issuing Techniques of among OECD Members Uniform Price Auction Uniform Price Auction Finland, Italy, Netherlands, Norway, and Switzerland, UK Multiple Price Auction Multiple Price Auction Australia, Austria, Canada, Sweden, UK Tap Issue Tap Issue US, UK, Germany, Canada, and most of OECD members, but not Japan

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Adoption of Uniform-Price Auction Method (I) Multiple-price auction method a.Successful bidders pay the prices they bid…. …..“winner’s curse” b.Bidders tend to shade their bids below the maximum that they are actually willing to pay Uniform-price auction method a.All successful bidders pay the same price for a given security b.Hence, some successful bidders may pay a lower price than they actually bid.

Adoption of Uniform-Price Auction Method (II) Empirical Evidence a.The uniform-price auction method generates higher revenue for the government b.US Treasury has been utilizing the uniform-price auction method for all Treasury securities since 1997 c.Japan never adopted the uniform-price auction method

Introduction of When-Issued Trading Most advanced markets allow trading during the period between the time a new issue is announced and the time it is actually issued. Most advanced markets allow trading during the period between the time a new issue is announced and the time it is actually issued.  Ranging from one week to two-weeks (US market)  As short as two days (France) When-issued trading functions like trading in a forward market. When-issued trading functions like trading in a forward market. Major Benefits Major Benefits  Minimize price and quantity uncertainties.  Lower underwriting risk  Increase revenue from the new issue By not allowing when-issued trading in Japan, the MOF foregoes these benefits. By not allowing when-issued trading in Japan, the MOF foregoes these benefits.

FIMA Research Center, University of Hawai'i 22 Revamping of the REPO Market (I)  Major Functions of REPO Market a.allows primary dealers to cover their short positions b.allows institutional investors to maximize investment income by lending their securities c.allows foreign investors to reduce currency risk through money market hedging d.facilitates clearing and settlement transactions

FIMA Research Center, University of Hawai'i 23 Revamping of the REPO Market (II) Traditional Gensaki Market  European-style REPO (sell-and-buy-back)  Ownership to the security is transferred to the buyer  No marking-to-market  Major instruments: Short-term Treasury and financing bills American-Style REPO market  Borrow and Lend  No transfer of security ownership  Marking-to-market  Major instruments: All Treasury and corporate securities

FIMA Research Center, University of Hawai'i 24 Creation of Regional Bond Markets A comprehensive study and detailed blueprint are needed a.Asian Common Currency b.Credit Enhancement and Guarantee Agency c.Regional Clearing and Settlement Systems d.Cross-Border Securities Borrowing and Lending Facilities e.Cross-border Trading Systems f.Regional Rating Agency g.Harmonization of Tax and Accounting Rules

Thank You!

Asian Common Currency Major Benefit of the Euro for Europe’s Bond Markets Major Benefit of the Euro for Europe’s Bond Markets i.Elimination of Exchange Risk ii.Harmonization of Market Practices iii.Re-denomination of European Government Bonds in Euro Full or Partial Currency Unification in the Region? Full or Partial Currency Unification in the Region? Coordinated Monetary and Fiscal Policies? ASEM Meeting (Jan 13, 2001) supported AMU ASEM Meeting (Jan 13, 2001) supported AMU

FIMA Research Center, University of Hawai'i 27 Credit Enhancement and Guarantee Agency  Regional credit enhancement & guaranty agency New Miyazawa Initiative but no follow through  Structured financing arrangements  Bond Insurance  Borrow the idea of Municipal Bond Bank concept?

Cross-Border Clearing and Settlement GovernmentCorporate Securities Bonds AustraliaReserve Bank InformationFinancial Transactions and Transfer SystemRecording and Clearance System Hong KongCentral MoneyMarkets Central Clearing & UnitSettlement System JapanBOJ Financial Networkn.a. System (BOJ-NET) SingaporeGovernment Book-EntryDebt Securities SystemC&S system

FIMA Research Center, University of Hawai'i 29 Regional Bond Borrowing and Lending To promote cross-border REPO transactions and C&S To promote cross-border REPO transactions and C&S a.Uniform Legal Framework for Securities Borrowing and Lending and Sell-and- Buyback Arrangements b.Uniform Tax and Accounting Treatment

Bond Trading Systems Order- vs. Quote-Driven Trading 1.Market Makers’ Involvement Pre-trading negotiations and personal relationships among market markets 2.Inter-Dealer Brokers

FIMA Research Center, University of Hawai'i 31 A Regional Credit Rating Agency? a.Economically Feasible? b.How to Harmonize Accounting and Disclosure Standards? c.How to Improve the Dialogue Between Credit Rating Agencies and Asian Issuers