The US US Federal Reserve eased monetary policy by another 25 basis points on October 31, taking the US Federal Reserve Funds target rate to 4.5%. US Federal Reserve easing should help to preempt broad erosion in financial conditions while recent data indicated that US economic activity outside the housing sector remains relatively unaffected by the ongoing housing correction and recent credit tightening.
However, the financial setting remains fragile amid housing-induced financial stress and higher market risk premiums, and it still poses downside growth risk. We remain concerned about future earnings releases and losses in consumer and mortgage portfolios as well as the need for further write-downs.
We think that the idea that emerging Asia is a safe haven and has decoupled from the US seems premature. More than 70% of intra-Asian trade consists of intermediate goods used in production, and of this, 50% is driven by final demand outside of Asia. Consequently, about 61.3% of total Asian trade exports is eventually consumed in G3 countries-the US, Europe and Japan. Monetary policy decoupling has not occurred, in particular in Vietnam where the degree of dollarisation is high.
Asian currency volatility vs. the US dollars is relatively low, with the dong, Chinese renminbi and Malaysian ringgit trading in a narrow band vs. the US$. The US remains the major source of overseas capital flowing into emerging Asia in terms of FDI and portfolio investment.
Stock market correlations between emerging Asia and the US or Europe are at all-time highs. For those linked to global trade, such as Vietnam, weaker G3 demand could pose a big risk, especially with more fallout from the US housing slump on consumption and from the financial market turmoil. Despite continuing inflation pressure raising concern about policy tightening in many emerging and commodity markets, we see weaker G3 growth as a bigger risk to emerging Asia than rising oil prices. Oil prices, which began the year near US$50 per barrel, are now hovering around US$95, adding price pressures to a variety of fuel products globally. The extent of the impact, though, has been mitigated by a high degree of price controls on fuel in many emerging markets, including Vietnam.
Oil prices could decline if global growth weakens or oil supply uncertainties diminish. The appreciation of a broad array of emerging market currencies could help to offset the inflationary effects of the rise in the US dollars price of commodities, including petroleum.
While strengthening currencies are cushioning the effects of imported inflation, they are generating concern among some policymakers about slowing export growth in countries where trade/current account deficits are problematic such as Vietnam. The central banks of Vietnam and Korea, for instance, are accumulating reserves, while in Vietnam and some other countries-for example, India and Indonesia-talks about resorting to capital controls to contain increasing pressure for currency appreciation have never subsided.
This information is given by Citigroup