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The sub-prime crisis and East Asian financial cooperation

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In Brief

East Asian economies should push ahead with Financial Cooperation measures initiated in response to the 1997/98 crisis, as well as other cooperation measures in direct response to the current sub-prime crisis. These measures will facilitate the ability of countries in the region to shore up their economies in the short-term, their growth path to be less dependent on exports as the main growth engine in the medium term, and strengthen the region’s economic and financial resiliency and protect itself from future crises in the medium to long term.

It is now clear that the indirect impacts of the sub-prime crisis on the region through the trade channel will be very severe.


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Exports have declined sharply for most economies in the region . Large-scale layoffs can be expected and the crisis may trigger a social crisis bigger than that in the aftermath of the 1997/98 crisis. In the former crisis, the affected countries could export their way out of the crisis, aided by depreciated currencies. In the current global crisis, this is not a feasible option. In the short-term, governments have been vigorously using the fiscal pump, and also pursued rapid monetary easing. However, many financial cooperation measures at the regional level are needed to supplement country specific measures.

First, all countries must avoid protectionism; otherwise global fiscal stimulus efforts will be less effective in generating global multipliers to boost individual stimulus efforts. In the context of export dependent economies, it is also very important to avoid competitive depreciations as this will not benefit anyone, and will make structural adjustments of the economy toward less reliance on the export engine more difficult. Investment projects that will be needed to move toward a more balanced growth path will also become more expensive.

In the short-term, fiscal expenditures to counteract the downturn and provide social safety nets for the poor are needed. For countries starting from strong fiscal positions, domestic financing of these expenditures should be sufficient. However, many countries face fiscal constraints or will be facing one given the stimulus that have already been committed. For these countries, the role of external financing is very important. Both multilateral and bilateral sources should be made available to countries in need. The ability to quickly disburse these funds will be essential. After 1997, Thailand found that it was very difficult to disburse loans from multilateral agencies to cushion the social impacts quickly because of various rules and regulations of the lenders. We were very grateful that the Japanese government came forward with the so-called Miyazawa Initiative, providing financial assistance in a way that could be disbursed very quickly. Currently, Japan has scaled up Official Development Assistance (ODA) loans to Asian countries in response to the sub-prime crisis. This is very helpful. Other donor countries should follow, even though their own fiscal positions have been harmed by the crisis.

In the medium term, countries need to increase domestic sources of growth. Public infrastructure investment can be an important growth driver over the next 3-5 years. However, given liquidity constraints in the global financial system, or lack of fiscal space for further fiscal expenditures, many countries may need new regional or global assistance to facilitate the financing of public investment. For the Asia region, the capital increase for the Asian Development Bank that has already been approved should be very helpful. Initiatives to set up an Infrastructure Fund have been under discussion in East Asia for a couple of years. The 2007 ASEAN Finance Ministers Meeting in Chiang Mai, which I chaired, agreed to explore the setting up of an infrastructure financing mechanism for ASEAN. No concrete agreement has been reached yet, but it is timely now to seriously explore this at the East Asia level. Given the saving surplus and large foreign reserves in East Asia, recycling investment funds within the region can also help countries with financing constraints. Further development of the Asian Bond Markets (through the Asian Bond Markets Initiatives and the Asian Bond Funds) can provide important support to countries seeking to increase fiscal stimulus for growth.

East Asia also needs to strengthen its Regional Financial Architecture (RFA) to supplement the Global Financial Architecture (GFA). The current GFA has proven inadequate time and again for preventing financial crises, whether in emerging market economies or in advanced economies. Important reforms of the GFA have been put forward following previous crises, particularly the need to regulate highly leveraged institutions and scrutinize the role of credit rating agencies. Nothing substantive was done. These institutions are again at the very heart of the current sub-prime crisis.

An important step in strengthening the RFA is a quick conclusion of the multilateral Chiang Mai Initiative (CMI), moving from a series of bilateral swap agreements to a reserve pooling mechanism. This was already agreed to in principle two years ago at the 2007 ASEAN+3 Finance Ministers Meeting in Kyoto, which I co-chaired with my Chinese counterpart. There are a number of steps to be taken. First, countries need to agree on the size of contributions. The total amount is US$ 120 billion, with 80 per cent from the Plus 3 countries (China, Japan and South Korea) and 20 per cent from ASEAN countries. Because countries tend to think of their contributions as quota in the new mechanism (or voting power), agreement has been rather slow. However, this has finally been agreed at the 12th ASEAN+3 Finance Ministers’ Meeting in Bali on May 3, 2009.

The next step is to flesh out the implementing mechanism, particularly how countries can make use of the pool. Particularly contentious at present is the need to link to an IMF program if a country utilizes more than 20 per cent of its quota. Given experiences with the IMF during the 1997/98 crisis, no government of any country that went through an IMF program at that time can survive if it takes the country into another IMF program. The CMI should be de-linked from the IMF. Also countries should be able to carry out a swap agreements with the CMI, similar to swap agreements that South Korea and some other countries have with the US Federal Reserve. In addition, funds from the CMI can also be combined with supplementary contributions by various countries for specific borrowing programs.

Another important step needed to effectively implement the mechanism is to set up a monetary organization for the region to coordinate the scheme. I am sure that there will be some who will raise the issue of so-called ‘moral hazard’ as was done when the idea of an Asian Monetary Fund (AMF) was suggested a decade or so ago. However, in the current context, this would be ludicrous. Given that one hardly hears any strong protests about the huge moral hazards being created in various US bailout programs, while moral hazard was raised so often during the 1997/98 crisis, it would indeed be doubly hypocritical for those in the west or in the IMF to use this argument to try to block the setting up of such an organization again.

In my view, an Asian monetary organization will be an essential part of a new GFA that can provide better regional and global surveillance to prevent future crises and more balanced crisis resolution mechanisms. East Asia, as one of the largest creditor regions, needs to play a much more proactive role in global surveillance, particularly surveillance of the largest debtor countries (where the creditor nations have invested their assets) to protect their investments. The current GFA lacks adequate institutions and mechanisms for effective surveillance when problems arise from advanced economies, such as in the current crisis. An Asian monetary organization, apart from its regional role, can also contribute to filling this gap at the global level.

Chalongphob Sussangkarn is Distinguished Fellow, Thailand Development Research Institute (TDRI), and Former Minister of Finance of Thailand.

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