PP 7767/09/2010(025354)

Economic Highlights
Global
•
MARKET DATELINE

27 July 2010

1 European Banks Rose As Stress Tests Eased Concerns

Over Capital

2 US New Home Sales Bounced Back In June

3 South Korea’s Real GDP Growth Moderated In The 2Q

4 Japan’s Exports Slowed Down In June

5 Singapore’s Industrial Production Slowed Down In June

6 Chinese Banks See Risks In 23% Of The US$1.1 Trillion

Loans

Tracking The World Economy...

Today’s Highlight

European Banks Rose As Stress Tests Eased Concerns Over Capital

Share prices of European banks rose, after the stress tests’ results unveiled that the region’s lenders need to raise only
€3.5bn (US$4.5bn) of capital. Before the results were published, analysts estimated that the banks would have to raise
€30-85bn of capital. The significantly smaller amount of capital required by European Union banks led some analysts
to question the stringency of the tests. Twenty-four banks would have fallen below the 6% capital threshold had the test
included losses on sovereign debt held in banking books and the combined capital required by those banks would have
reached €15bn, according to some analysts. Had the Tier 1 threshold been 7%, 24 of the banks would have failed, argued
others.

Recall that the stress tests took into account potential losses only on government bonds the banks trade, rather than
those they are holding until maturity, as regulators do not believe there will be a national default. According to a survey
done by a research house, lenders hold about 90% of their Greek government bonds in their banking book and 10%
in their trading book. Hence, they only have to write down the bonds in their banking book if there is serious doubt
about a state’s ability to repay in full or make interest payments. The stress tests also assessed the impact of a four-
step credit rating downgrade on securitised debt products, a 20% slump in European equities in both 2010 and 2011 and
50 other macroeconomic parameters, including a drop in the EU’s GDP over two years. At the same time, regulators
tested portfolios of sovereign five-year bonds, assuming a loss of 23.1% on Greek debt, 12.3% on Spanish bonds, 14%
on Portuguese bonds and 4.7% on German state debt.

Nevertheless, some argued that the US stress tests carried out in 2009 were initially criticised as being too soft as well.
The stress tests then found that 10 US lenders, including Bank of America Corp. and Citigroup Inc., needed US$74.6bn.
However, the evaluations on 19 banks managed to persuade investors that the financial system was sound, contributing
to a 36% rally in the Standard & Poor’s Financials Index in the following seven months. As a result, they believe the
Europe’s stress tests have, to some extent, been enough to restore investor confidence.

Meanwhile, the euro has bounced back by around 8% to US$1.2907/euro on 26 Jul, from the recent low of US$1.1924/
euro on 8 June. Earlier, the euro depreciated by about 17% from US$1.4405 on 31 December to the low of US$1.1924/
euro due to the deepening sovereign debt crisis. The strengthening of the euro was aided by the combination of growing

Peck Boon Soon

(603) 9280 2163
Please read important disclosures at the end of this report.
bspeck@rhb.com.my

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confidence in Europe’s economy and mounting evidence of a slowdown in the US economy. As a result, investors have
shifted their focus to the US, causing the US dollar to depreciate by 8% from a four-year high in June. On the other
hand, confidence in the euro returned after the most-indebted countries in the region announced budget cuts and the
European Union crafted a €750bn (US$970bn) financial backstop in May to forestall defaults. Also, Spain, Portugal,
Ireland and Greece have successfully auctioned more than €17bn of bonds and bills since 13 July.

The US Economy

New Home Sales Bounced Back In June

◆ US new home sales rebounded from a record low to increase by 23.6% mom or at an annual pace of
330,000 units in June, from -36.7% in May and compared with +9.9% in April. Despite the rebound, the sales
remained at a low level, suggesting that a recovery in the housing market after the expiry of the government’s tax
incentive will likely be slow. Yoy, new home sales fell by 17.3% in June, albeit by a smaller magnitude compared
with -27.2% in May. This was the second consecutive month of decline, after turning around in the previous two
months, indicating that a recovery of the housing market remains uneven. The pick-up in sales lowered the supply
of new homes for sales to 7.6 months of stocks in June, from 9.6 months of stocks in May. Meanwhile, median
prices of new homes fell by 1.4% mom in June, compared with +5.1% in May. Yoy, median prices of new homes
fell by 0.6% in June, compared with -2.7% in May and -6.1% in April, indicating that a drop in new home prices
has eased somewhat.

Asian Economies

South Korea’s Real GDP Growth Moderated In The 2Q

◆ South Korea’s economic growth moderated to an annualised rate of 6.0% in the 2Q, from +8.8% in the 1Q
and +0.7% in the 4Q of last year, mainly on account of a slowdown in public consumption and a decline in
construction investment. Yoy, South Korea’s real GDP growth softened to 7.2% in the 2Q, from +8.1% in
the 1Q. This was the first easing after returning to positive growth in the 3Q of last year, indicating that the economic
recovery is beginning to show signs of weakness. Real exports slowed down to 13.9% yoy in the 2Q, from +16.6%
in the 1Q, as demand for the country’s exports softened. Similarly, consumer spending slowed down to 3.7% yoy
in the 2Q, from +6.3% in the 1Q. In the same vein, public consumption eased to 3.2% yoy, from +3.8% during
the same period. These were made worse a slowdown in fixed capital formation, which weakened to 6.1% yoy
in the 2Q, from +11.4% in the 2Q, mainly on account of a decline in construction investment. Despite the
moderation in growth, Bank of Korea raised its key policy rate by 25 basis points to 2.25% on 9 July,
in a move to normalise its monetary conditions after leaving the rate at 2.0% for more than a year.

Japan’s Exports Slowed Down In June

◆ Japan’s exports rebounded to increase by 10.5% mom in June, after two consecutive months of decline and from
-9.8% in May. Yoy, the exports slowed down to 27.7% in June, from +32.1% in May and the high of +45.4%
in February. This was the fourth straight month of slower growth and the slowest pace in six months due to a
slowdown in global demand for Japan’s exports. The slowdown was due to a slower increase in exports to Europe,
which eased to 9.0% yoy in June, from +17.4% in May and the high of +26.7% in March. Similarly, exports to
Asia slowed down to 31.7% yoy in June, the fifth straight month of slowing down and from +34.4% in May. In
particular, exports to China weakened to 22.0% yoy, from +25.3% during the same period. These were, however,
mitigated by a pick-up in exports to the US, which grew at a faster pace of 21.1% yoy in June, compared with
+17.7% in May and +34.4% in April. Similarly, imports softened to 26.1% yoy in June, from +33.4% in May and
compared with +24.3% in April. As a whole, a slowdown in exports highlights the vulnerability of the Japanese
economy to a slowdown in global trade, after exports drove the economy to expand by an annualised rate
of 5.0% in 1Q 2010.

Singapore’s Industrial Production Slowed Down In June

◆ Singapore’s industrial production slowed down to 26.1% yoy in June, from +58.4% in May. This was the
slowest growth in four months, indicating industrial activities are moderating but remaining resilient. The slowdown
was due to a slower increase in the production of biomedical products, which eased to 29.8% yoy in June, from
+117.7% in May and +96.2% in April, on account of a slowdown in the production of pharmaceutical and medical
technology products. Similarly, the production of electronic products softened to 46.8% yoy in June, from +52.1%
in May and the high of +82.0% in February. This was attributed to a slowdown in the production of computer
peripherals and a decline in the production of data storage products. These were, however, mitigated by a pick-

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 27 July 2010

up in the production of semiconductors and information, communication & consumer electronic products. Mom,
industrial production fell by a seasonally adjusted rate of 23.4% in June, compared with +5.2% in May and
+17.6% in April.

Chinese Banks See Risks In 23% Of The US$1.1 Trillion Loans

◆ About 23% of the RMB7.7 trn (US$1.1 trn) loans that Chinese banks lent to finance local government
infrastructure projects may turn non-performing, according to a person with knowledge of data collected by
the nation’s regulator. It was reported that about half of all loans need to be serviced by secondary sources
including guarantors because the ventures could not generate sufficient revenue and the China Banking Regulatory
Commission (CBRC) has told banks to write off non-performing project loans by the end of this year. The CBRC
Chairman said this week that borrowing by the so-called local government financing vehicles may threaten the
banking industry. Indeed, the country’s five-largest banks, including Agricultural Bank of China Ltd., plan to raise
as much as US$53.5bn to beef up their capital after the sector extended a record US$1.4 trn in credit in 2009.
Earlier, local governments have set up the financing vehicles to fund projects such as highways and airports as they
are not able to borrow money directly. This forced the central government this year to restrict these financing
vehicles’ borrowings on concern money is not being used for viable projects. In June, the Government ordered
local governments to ensure repayment and to concentrate on completing projects already under way. In addition,
local governments have been barred from guaranteeing loans taken by their financing vehicles. Also, the State
Council said on 13 June that financing units that fund only public projects and rely on the fiscal income of local
governments to repay debt should stop spending.

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