Empirical studies show that both the economic fundamentals of a country, (such as the reserve ratio of broad money to foreign exchange reserves) and the non-economic fundamentals of a country ,(such as its level of democratisation or its experience through a financial crisis) affect the transparency of central banks. Using this type of analysis when looking at the coordination effect of information in East Asian financial integration, it is found that East Asian financial integration might depend more on political circumstance than on economic fundamentals.

There is currently a need for an independent regional surveillance institution. This would enable the activation of Chiang Mai Initiative (CMI) credit lines, the first step towards East Asian financial integration. The current Economic Review and Policy Dialogue has been unable to perform as a surveillance function as it is staffed by officials who often feel that revealing financial data is sensitive and typically refrain from pointing fingers at wrong-doers.

An independent surveillance institution could also set a precedent for broader East Asian financial integration. Financial integration among the ASEAN+3 countries currently faces sovereignty and political issues. Based on the Bali Agreement, signed in May this year, the ASEAN+3 countries have already created a panel of experts assisted by the ASEAN secretariat and the Asian Development Bank (ADB). Eventually the ASEAN+3 countries will need their own regional surveillance institution, with its own secretariat that can extract the CMI program from the IMF surveillance process.

An independent surveillance institution can overcome the institutional issues facing ASEAN+3 financial integration. Sovereignty and political issues that the ASEAN+3 countries are currently facing are much more difficult to overcome (than economic issues). Political reforms and democratisation can take decades. To bypass poor political fundamentals that affect the transparency of economic institutions, the introduction of an independent surveillance institution is more efficient than trying to solve sovereignty issues and institute political reforms. If the decision to reveal financial data is left to the discretion of senior officials representing individual countries, they may never reach a level of fiscal transparency sufficient for a program such as CMI credit lines, which are essential for regional financial integration. This aversion to transparency might be abated by the reputation effect. Some of the ASEAN+3 countries are still non- or only partially democratic. Moreover, there is a collective action or a free-rider issue in that no country wants to be the first to become financially transparent even though a broad regional movement towards transparency would make individual nations better off.

Empirical evidence shows that countries that have experienced a financial crisis are more likely to have higher levels of transparency, supporting the conjecture that individual countries do not self-interestedly seek to reveal information: there must be some incentives for them to do so. Hence, if an independent regional surveillance institution can be fully established, it will be a significant step towards institutionalizing an East Asian financial arrangement. Furthermore, transparency through an effective independent regional surveillance institution has a multiplier effect because with such an institution, regional financial arrangement can be institutionalized, which increases economic fundamentals, and this in turn, can increase the incentive for transparency.

Maria Monica Wihardja is an Associate Member of the Centre for Strategic and International Studies, Jakarta (CSIS), and a lecturer at the University of Indonesia.

For further reading see Maria’s full paper on the topic here [pdf].