Local-currency Bond Markets: Viable Alternative Source of Funding for Emerging Market Issuers

The local-currency bond markets in emerging markets are becoming an alternative funding source in several countries. These markets have grown rapidly, doubling in size from US$2.2 trillion in 2003 to US$5.5 trillion as of end 2008 (Figure 1). These markets are playing an important role in the provision of finance to emerging market governments and corporations, which were largely shut out of global financial markets during the credit crisis, and in reducing dependence on the banking sector. In many emerging markets, they are also helping to correct currency and maturity mismatches, thus contributing to financial stability.

Figure 1: Trends in Local Currency Bond Markets in Emerging Markets by Region (2000-2008)

Source: BIS and author calculations


Development of local-currency bond markets is among the efforts emerging-market governments have undertaken to prevent a rerun of the string of financial crises that occurred during the 1990s, particularly the 1997 Asian financial crisis. East Asian countries have been at the forefront of bond market development. At the end of 2008, East Asia accounted for 55.4% of total outstanding value of local-currency bonds in emerging markets (see EAP in Figure 1), followed by Latin America (24.3%, LAC), Eastern Europe (10.2%, ECA), South Asia (8.4%, SA), and Sub-Saharan Africa (1.7%, SSA).

Local-currency bond markets in emerging market countries are diverse in their size, issuers, liquidity, supporting infrastructure, and degree of openness to foreign investors. In 2008, the top 10 markets were – China, Brazil, India, Mexico, Malaysia, Poland, Turkey, Thailand, and South Africa. Together, these countries accounted for 85% of the value of local bonds outstanding at the end of 2008 (Figure 2).

Figure 2: Top 10 Emerging Market Local Currency Bond Markets (2003-2008)

Source: BIS, IFS and author’s calculation


In 2008, eight out of the world’s 16 largest local-currency bond markets (measured as percentage of GDP) were in emerging markets (Figure 3). Brazil, China, Malaysia, Thailand, and South Africa have made remarkable progress in deepening their domestic bond markets, while recent regulatory reforms in India, Mexico, and Turkey have enabled these countries to make some progress.

Figure 3: Bond Market as Percentage of GDP (2008)

Source: BIS, IFS and author’s calculation


As a result of the concerted efforts by the policy makers in the East Asia region through the ASEAN+3 initiatives, the bond markets have grown rapidly and gaining in sophistication. The Asian Bond Markets Initiative (ABMI), launched by ASEAN+3 in 2003, has contributed substantially to the growth and diversity of issuers in domestic bond markets in East Asia. ASEAN+3 countries have also undertaken reform efforts, ranging from unifying government bond issuing authorities to simplifying corporate bond issuance procedures for securitisation, to removing barriers for bond issuance by domestic and foreign entities. Regulatory reform efforts gained momentum at a March 2009 ASEAN+3 summit,1 where a new Asian bond market roadmap was developed. The roadmap facilitates demand for local currency-denominated bonds, and recommends legal framework and infrastructure improvements for bond markets in the region. The roadmap is expected to foster development of local-currency bond markets and increase the role of regional bond markets in meeting corporate-sector funding requirements. A regional bond clearing system, Asiaclear, is also being contemplated.

As an outcome of the ABMI, most East Asian countries have been able to reverse the ‘original sin’, i.e. the inability to borrow abroad in their own currencies. This is a problem that has led countries to borrow in foreign currencies.2 In fact, bond issuance in many East Asian countries is almost exclusively in local bond markets. Assistance in the development of domestic bond markets in developing countries has also been given priority by G7 countries, and multilateral development banks have been asked to increase their efforts in this area. Collaborative efforts similar to those undertaken by ASEAN+3 should be considered by other regions, as such initiatives help accelerate policy reforms through sharing of experiences and peer pressure.

Corporate Bond Markets

Several emerging markets have made notable progress in developing domestic bond markets in recent years. Diversification and growth of the market for corporate bonds is crucial in meeting the funding requirements of the corporate sector, as the access by emerging-market corporations in international financial markets have been curtailed during this global financial crisis. For instance, emerging market corporates and banks face large refinancing needs of their foreign currency-denominated bonds and syndicated loans, especially in emerging Europe. According to estimates by the IMF (2009), these total US$400bn over the next two years. This makes the case stronger for further developing domestic corporate bond markets to reduce future possible rollover risks in foreign currency bonds.

In terms of developing corporate bond markets, emerging-market countries face several hurdles that advanced countries generally do not: small issue size, lack of a market-based yield curve, difficulties with proper disclosure of accounting information, and weakness in corporate governance. Malaysia, Thailand, Chile, South Africa, and China have been relatively successful in building deep corporate bond markets in terms of percentage of GDP (Figure 4).

Figure 4: Major Corporate Bond Markets in Emerging Market Countries

Source: BIS and author’s calculations


Local-currency Corporate Bond Markets are a Growing Source of Funds

There are clear signs that domestic bond markets are becoming a major source of funding. Between 2005 and 2008, domestic bond issuance by corporations in emerging market countries has sharply increased from US$221bn in 2005 to US$430bn in 2008 and has maintained strong momentum in 2009 so far (Figure 5). The main issuers of corporate bonds in domestic markets are from China, South Korea, India, Russia, Thailand, Malaysia and Mexico and Brazil.

Figure 5: Domestic Corporate Bond Issuance by Selected Emerging Market Countries

Source: Dealogic


As the financial crisis has severely lessened the ability of emerging market corporations to borrow in foreign markets, the need to raise capital in domestic markets has increased. Companies in countries with relatively deep domestic corporate bond markets are, therefore, better positioned than those in countries with relatively small domestic corporate bond markets unless government take measures to accelerate growth of these markets. For instance, Figure 6 clearly shows that domestic bond issuance dominates foreign one for corporations in emerging market countries. While domestic issuance has steadily increased from 2005, foreign bond issuance has relatively stagnated and been severely hit by the global financial crisis in 2007 and 2008.

Figure 6: Domestic and Foreign Corporate Bond Issuance in Emerging Market Countries

Source: Dealogic


Figure 7 compares corporate funding strategies in the two countries Brazil and South Korea. Since 2005, Brazil’s corporate sector has largely borrowed in the domestic bond market but has seen a large drop in domestic bond issuance in 2008 so far. In contrast, South Korea has been able to tap domestic funding sources through the financial crisis, as evidenced by the stable domestic debt issuance in Figure 7. Even corporates in other emerging market countries, such as Malaysia and Thailand, have maintained a pipeline of domestic bond issuance in 2008 and 2009, somewhat buffering the impact of more difficulties in raising money through foreign currencies.

Islamic Bonds are an Alternative Funding Source

Shariah-compliant Islamic bonds (Sukuk) had soared in response to surging demand for shariah-compliant products from financiers in the Middle East and other Muslim countries as alternative investments before the first round of severe market disruptions in 2007 showed the first effects in capital markets. Gross issuance rose from US$7.2bn in 2004 to close to US$39bn by the end of 2007, owing largely to enabling capital market regulations, a favorable macroeconomic environment, large infrastructure development plans in some Middle Eastern economies and financial innovation aimed at establishing shariah compliance.

Even though Sukuk issuance has been down dramatically since the beginning of the financial crisis, some countries such as Malaysia and Indonesia have been able to place domestic Sukuk among foreign and domestic investors. Issuance of Sukuk in emerging market countries that have a sizable Islamic population can provide corporates as well as sovereigns with an alternative funding source to conventional debt.

Figure 7: A Comparison of Brazil and South Korea Corporate Debt Issuance

Source: Dealogic


Domestic Institutional Investors are the Largest Investors in Local-currency Bond Markets

Thus far, domestic investors have been the primary purchasers of local-currency bonds, especially government bonds. In fact, bonds have become the preferred asset class in the portfolios of emerging-market institutional investors (pension funds, insurance companies, and mutual funds), which are seeking to avoid the high volatility experienced in emerging equity markets after 1997. Pension funds and insurance companies, both of which tend to have very long-term liabilities, are best funded by high-quality debt instruments such as long-term government bonds. However, local-currency bond markets have also attracted retail investors looking for relatively safe instruments with higher yields than bank deposits.

Assets under management by institutional investors in emerging markets have grown in recent years as the result of several factors:

  • The excess of national savings over national investment, particularly in several East Asian countries.
  • Pension reforms (in Brazil, Chile, Mexico, and Thailand, for example).
  • Rapid growth of the insurance industry (in China and Thailand, for example).
  • Expansion of collective investment schemes in most major emerging markets.

As shown in Figure 8, the size of pension fund assets as a percentage of GDP is significant in many Latin American countries. There is also substantial pension asset growth potential in China, India, Russia, and Thailand. As pension funds in countries such as these expand, so does demand for local-currency bonds.

Figure 8: Pension Assets as a Percentage of GDP (2007)

Source: OECD


Domestic institutional investors can play key roles in bond market development. They have a stable investment horizon and buy-and-hold behavior that can contribute to the financial stability of domestic financial markets. Institutional investors can maintain their asset allocations unchanged during market downturns (or even go against market trends), therefore providing a buffer against volatile capital flows. In addition, the existence of a domestic institutional investor base will attract foreign investors to domestic markets, as these investors can provide them with a put option if they wish to exit the market.

Top Priority: Deepening Local Currency Bond Markets for Emerging Markets

Deepening local currency corporate bond markets should now be a top priority for emerging markets countries. Countries at an early stage of domestic bond-market development should focus on building the market infrastructure of the primary market that include:

  1. Risk-free interest-rate benchmarks.
  2. A well-functioning primary dealer system (i.e., a network of financial intermediaries).
  3. A credible credit-rating system.
  4. Efficient trading platforms.
  5. Robust, secure clearing and settlement systems.
  6. A diversified investor base.

Countries at an advanced stage of corporate bond market development need to undertake efficiency-based reforms, including:

  1. Strengthening primary dealer systems by offering liquidity supports through repurchase agreements, in return for market making.
  2. Creation of a securities borrowing and lending facility to enable primary dealers to borrow securities from institutional investors for trading purposes.
  3. Establishment of a central information system to disseminate bond-market information.
  4. Diversification of local-currency bond markets through promotion of corporate and municipal bonds.
  5. Expansion of the investor base for bond markets.
  6. Development of derivatives markets to facilitate risk management.
  7. Increased participation of foreign investors through removal of impediments such as withholding tax and capital controls.

The views expressed in this article are those of the authors and do not necessarily represent those of the IMF, IMF policy or George Washington University.


  • International Monetary Fund, 2009, Global Financial Stability Report, “The Road to Recovery,” Chapter 1. World Economic and Financial Surveys (Washington, September).

1 Press statement by the ASEAN+3 meeting on Global Economic and Financial Crisis, March 1, 2009.

2 The term coined by Hausmann and Eichengreen.


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