Lecture 5: Economic Cultures From Reconstruction to Growth to Instability
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| partial recessions, experienced to different degrees in different countries, were also experienced in roughly the years 1973-1975, 1979-1982, 1991-1993. Along with differential and partial slowing of growth in countries such as Germany (mid-1990s), Japan (late 1990s), and relatively low global economic growth through 2001-2002, has suggested that assumptions of uni-interrupted growth may be dangerous when applied even to advanced economies such as Germany, the US, and Japan. Likewise, even modest declines in growth rates in developing countries such as India, PRC and Indonesia can mean they will fall short of infrastructure and basic developmental needs, leading to possible political and governance crises if they fall far short of expectations of elites and the wider populations. Sustained growth rates of 5-8% might be needed to ensure such stability for developing states (Kumar 1999).
These factors came together to undermine the sense of growth and optimism in the so-called golden age of capitalism, i.e. basically a period from the early 1960s down to 1973, when several industrialised countries experienced boom years (most consistently during 1961-1966, Webber & Rigby 1996, p18). This sense of expectation of continued growth and then uncertainty has been well expressed by Webber & Rigby: - Yet there was growth and it was expected to continue. Now those hopes and with them the consensus lie shattered. In retrospect, internal pressures were building in the advanced capitalist countries that must have derailed long-run growth eventually; rates of economic growth in North America were beginning to falter in the late 1960s and with them rates of profit. Nevertheless, by common consensus the outstanding symbol of the break occurred on 17 October 1973, when the ten member of the Organization of Petroleum Exporting Countries announced a plan to cut their collective output of oil by 5% per month . . . A less commonly identified symbol of the break occurred on 15 August 1971, when President Richard M. Nixon announced that US dollars would no longer be convertible to gold, thus denying the world a stable reserve currency. The hike in oil prices and the end of the Bretton Woods agreement only symbolize the end of the golden age; they did not cause it. Yet they are symbols of an end that we have collectively taken a long time to recognize. (Webber & Rigby 1996, pp6-7) At the same time, the period of high growth down to 1973, and continued sporadic development through the 1980s, led the accumulation of vast amounts of money in the advanced industrial economies generally (especially in the U.S., EU, and Japan), in oil producing countries, as well as in some NICs. Thus by the 1990, annual global output onto markets exceeded $22 trillion, six times the level running in 1950 (Webber & Rigby 1996, p14). It is this accumulation which has created the huge fund of investments which now seek outlet in stock markets, inter-bank loans and in currency markets, ushering in a new new age of 'finance capitalism' where investment flows rather than industrial production seem to be the dominate factors in controlling the world economy. Thus the 'world of finance is now completely different from that of 1970. Money flows of currency, commercial paper, bonds, and equities between the countries of the world now tie us all together in a manner that would have been impossible to foresee even 20 years ago' (Webber and Rigby 1996, pp25-26). In 1997, it was estimated that $2 trillion changed hand daily in currency markets (Hurt 1997). This system has been made possible through partial deregulation of national banking systems, the creation of off-shore banking, and the linking together of these commercial markets by electronic and computer networks. These electronic networks have increased the speed of response by those playing in these markets (often exacerbating positive or negative feedback in the system), as well as greatly increasing the velocity and volume of the funds being moved. Furthermore, privately owned investment funds began to greatly outstrip that controlled by central or reserve banks, e.g. by 1990 international bonds and interbank deposits totalled $4.75 trillion, six times the total foreign exchange funds held by central banks (Webbber & Rigby 1996, p29). This means of course, that with floating or only loosely pegged currencies, that speculation can function effectively in currency markets. It was estimated that in the early 1990s over 90% of foreign exchange flows were 'unrelated to current account positions and the strength of a currency no longer measures a nation's trade balance or current account' (Webber & Rigby 1996, p31). It is this system which has presented the individual nations with major problems of regulation and predicability. The World Bank and the IMF have taken on a major responsibility to stabilise economic flows between currencies, in dealing with economic settlements, in stabilising local countries, and in restructuring developing and post-communist countries to meet the requirements of trade in the international system. The IMF and World Bank, for example, from 1993 put together a total package of aid to the tune of $44 billion for Russia, though of course these funds are released slowly depending on economic and political criteria being met. Yet even this aid has not been sufficient to meet the requirements of fully stabilising the Russian economy and maintaining the value of the ruble - in May 1998 Russia tried to find extra lines of credit for an extra $10 billion. Even this could not avoid the major crises of the Russian economy in 1998. Through 1999-2005 there have been improvements in the Russian economy, but in part this has been based in part on a growing sale of oil and gas into international markets. The IMF has also been active in Mexico, Thailand, South Korea, Indonesia, and Argentina in attempting to stabilise important economies, and thereby protect the international financial system by supporting partial debt repayments and major trade flows. This was a massive task, requiring regular topping up of IMF moneys by participating nations, especially the U.S., Europe, and Japan. However, there have been strong criticisms of the IMF and the World Bank, and debate about whether the IMF is really able to muster enough funds and operate quickly enough to balance out instabilities and speculation in currency markets (for a defence of the IMF, see Litan 1998). Furthermore, the last thirty years has seen a serious drift in the way these organisations function: - Even the IMF and the World Bank have played roles as tools of the North rather than serving the general good. The IMF, for example, has shifted from its original role of overseeing currency exchanges to policing debts, thus ensuring that borrowers in the South and eastern Europe meet the strict conditions to obtain balance of payment financing. The World Bank, set up to make easy-to-repay loans for economic development, along with the IMF, became net takers of funds from the South in the 1980s instead of net givers, a result of the South paying off its huge debts. (Henderson 1998, p259). This has meant that some countries see the IMF and World Bank as already having been guided by a specific liberal capitalist ideology which fits national economies into the global economy as cogs in a machine which has its own purposes. As such, the issue of 'structural adjustment', the basis on which most IMF loans were given, has become highly politicised. As we shall see, a number of countries have felt that IMF help sometimes amounted to interference in the sovereignty and the internal working of a nation. Thus former President Suharto of Indonesia tried for a time to argue for an 'IMF plus', whereby the IMF demands would be moderated, and funds from other sources (including Singapore and Australia), could be used to avoid the negative social impact of freeing up markets on key staples such as rice and kerosene (see further below). Likewise, other countries at times have tried to avoid IMF loans, and use others sources of aid to maintain themselves during periods of crisis, e.g. direct aid from countries such as Japan, or help from the Asian Development Bank (run under the auspices of ESCAP, the United Nations Economic and Social Commission for Asia and the Pacific). Malaysia, for example, in its 1997 currency and stock market crisis, avoided a major IMF bail-out. However, problems in Indonesia, Thailand, and South Korea (for Korea, the total package was aimed at $58.2 billion, IMF 1998) were on too large a scale to avoid involvement of the International Monetary Fund. Ironically, in the late 1990s IMF structural adjustments and rapid opening to external market forces undermined some of the World Bank anti-poverty programs in countries such as Indonesia, leading to extra programs to reduce poverty and social risk by donors such as Australia. This led through 1997-2003 for calls for reform within the IMF. For a time the possible creation of a parallel AMF (Asian Monetary Fund) was considered: the plan was to support weaker Asian currencies, to operate more quickly in emergencies, and, largely based on Japan, to develop some distance from Washington-led agenda. The Japanese effort to create an Asian Monetary Fund hoped to be less intrusively than IMF packages, an idea lead by Japan at a G-7 meeting in 1997. In the end, the idea was not taken up, nor seriously raised through APEC or the ADB (Asian Development Bank), largely because of American opposition (Johnstone 1999, p125; Wesley 1999, p67; Acharya 1999, p14). In the end, reform in the IMF did allow it to disburse funds more quickly, and to be somewhat more sensitive to the cultural and political structures of the countries in which they operate, and to consider the impact on poverty in least developed countries (see further below). Today, especially after the 2001-2002 crisis in Argentina, debates continue about the impact of IMF policies on poverty, and whether the structural conditions of loans from the IMF have a triggering effect potentially deepening crisis. Such loans may delay economic collapse (making the collapse deeper when it comes), or through IMF decisions to hold off payments, erode international confidence in an economy, triggering further capital and investment flight. There has been some ongoing fine-tuning of both IMF programs to reduce negative impact on highly indebted nations and reduce cross impact onto poverty, as well as a re-tasking of World Bank towards more effective poverty-reduction programs working at the local level (Stone 2003; see further below). Here, the pyschological climate of confidence, caution, or excessive pessimism can have enormous impact on the future of the global economic system. Hopes continue that growth would continue unabated into the 21st century, even if the world was a much more competitive environment than in the past (Henderson 1998, p236). Relatively strong growth in general terms returned to the global economy in 2004, but with some levelling off for 2005: - A growth rate of 2.0 percent in 2004 seems to be the "magic" number; all countries below this benchmark are expected to grow faster in 2005 than in 2004, and almost all countries above it (with the exception of Canada and Denmark) are expected to slow down in 2005. Since the faster growing economies will slow down and slower growing ones will accelerate, the growth in these 15 countries will be even more synchronized in 2005 than in 2004. Among the main reasons for such synchronization is integration of financial and commodity markets, which becomes even stronger over time and induces co-movement of business cycles across countries. . . . Out of 24 emerging economies, only four are expected to have higher growth rates in 2005 than in 2004: Egypt, India, Israel, and South Africa. For most of the countries, a growth slowdown is predicted. Furthermore, the largest drops in growth are expected among the fastest growing markets, e.g., Turkey (from 9.1 percent to 5.0 percent), Singapore (from 8.3 percent to 4.4 percent), and Hong Kong (from 7.6 percent to 4.6 percent). As a result, the average growth rate in the emerging markets will be significantly lower in 2005 than it is in 2004. (Lugovsky 2004) In one view, stronger growth in 2006 will be sustained through 2007-2008, though not without some risks: - Led by the surging Chinese and Indian economies and supported by solid performance in most industrial and emerging-market economies, world real GDP growth reaccelerated to over 5 percent in 2006. With a significant slowdown now apparent in the US economy and with most of the rest of the world economy operating at near, or even somewhat above, potential, some slackening in the pace of global economic advance - down to about 4.5 percent - is now vritually certain for 2007 and 2008. (Mussa 2007). Part of the problem is whether free market forces will establish some sort of self-correcting equilibrium or balance in the different markets and economies of the world. This might be partly true of stock markets and in the trade of goods and services. However, recently even the business guru George Soros has accepted that this is not necessary true for free floating currency markets (Soros 2002). Put another away, it may be difficult to use notions of equilibrium during periods of rapid change, uneven growth and differential economies of scale across different economies (see further Davies 2004): - Actually, all economies are off equilibrium. Change is intrinsically non-equilibrium and is not generaly well understood as a shift between a pair of equilibria. . . . The demand and supply of commodies differ geographically and vary historically; wages depend on the demand and supply of labour but also on historical and geogaphical conditioning; capital is under- or oversupplied. Equally productivity change is an inherently probabilistic process in which marginal adjustments and learning reflect imperfect attempts to find better technical conditions rather than optimal states: firms innovate, learn, imitate, compete. And location is dominated by history and by local attempts to overcome history. The East Asian dragons and other NICs have demonstrated just how powerful local struggle can be in escaping structural traps. (Webber & Rigby 1996, p488). Serious economic turmoil in Asia through 1997-1998, followed by uneven returns through 2001-2004 led to a wider debate about the world economy. Although the investment community, the IMF, and major investment funds have learnt several lessons from the 1997-1999 period, thereby limiting contagion effects from one economy to others, at present there is no guarantee that the global financial system has inherent, structural resilience (for cautious optimism concerning the future stability of banking and financial sectors, see IMF 2002). Indeed, uncertainty remains a major components of the current financial system which funds seek to control in various ways, including complex patterns of investments which hedge against market behaviour that seeks to gain from both rising and falling values in the market, as well as the use of debt to make larger investments (see Mallaby 2007 for the systemic risk this poses when large hedge funds collapse, e.g. Amaranth Advisors or Long-Term Capital, but the counter argument that different managers will use different models and make different decisions, avoiding widespread crashes in areas of the global market). Continued debates within the IMF emphasise the need for reform in the sovereign debt system, perhaps through a sovereign debt restructuring mechanism (SDRM) that would preserve assets, maintain debtor viability, as well as protect creditor rights, though through early 2003 this proposal was temporarily shelved (Krueger 2002, p7; for recent controversies and other ways to restructure debt, see Economist 2003). This scheme has for the present been replaced with other approaches that allow a restructuring of debt: - The Sovereign Debt Restructuring Mechanism would have created a procedure under which financially troubled countries could call a moratorium on servicing their private and public sector debt. Restructuring without obstruction by individual creditor institutions or countries would then have been possible. The scheme would have acted as a curb on the activities of "vulture funds" that seek to exploit countries facing debt crises. But the plans ran up against resistance from the US Government. Wall Street's big institutions, led by investment banks, were opposed to the concept on the ground that they could potentially incur heavy costs. The reluctance of the US Treasury and the White House to confront the Wall Street lobby ensured that the plans were suspended, although British and other officials insisted that they may be resurrected and that background work would continue. Finance ministers from the Group of Seven industrial countries agreed an alternative system that allows emerging-market countries issuing government bonds to include provisions designed to make agreement with creditors on restructuring easier to achieve. (The Times 2003) The pressing need to deal with the issue of sovereign and national debt remains a key current issue, with different approaches being debated through 2003-2005, e.g. 'a "contractual approach" by way of the introduction of collective action clauses (CAC) in bond contracts, and a "statutory approach" put forward by the International Monetary Fund (IMF), which calls for the establishment of an international debt restructuring mechanism (called the sovereign debt restructuring mechanism or SDRM) that would have many of the features of an international bankruptcy regime' (Sharma 2004). In general terms, sovereign debt remains an outstanding problem with the need for a reduction to sustainable levels: - There is now a grand total of $1.6 trillion in emerging market sovereign debt on the global books. Latin America accounts for a significant 27 percent, but its share in the financial markets is overwhelming--more than half of the $416 billion bonds held in investor portfolios. Dangerous debt levels of 80-100 percent of GDP that were endorsed by the IMF as recently as 2001 are now deemed unsustainable by the Fund. For economies dependent on agricultural and commodity exports, both of these low-margin and volatile, the current prescription is 20-40 percent. (Lerrick 2005) 3. Shocks to the International Financial System Numerous shocks to the international system, ranging from the OPEC oil shocks of the 1970s through to impact of the transnational terrorism from 2001. The case of problematic development in Southeast Asia provides one insight into this issue. From the end of World War II , Southeast, East Asia as a whole and parts of Latin America seem to have made rapid progress in building national economies, increasing the standard of living of many of their citizens, and building new, modern nations with a considerable role in world affairs. This has been particularly true of Singapore, Malaysia, Thailand, Japan, South Korea, Taiwan, Indonesia and most recently China. These factors, along with the participation of Southeast Asia in the wider economic vitality of the Asia-Pacific via the APEC organisation and strong trading relations with the U.S. and Japan, seemed to indicate that the region had come of age as a mature player in the international community. Rapid economic growth in Southeast Asia seemed part of a wider ‘Asian Miracle’ which would make the 21st century a Pacific and Asian one. This was summarised in the pithy but perhaps premature saying: ‘the Mediterranean is the ocean of the past, the Atlantic is the ocean of the present, the Pacific is the ocean of the future’ (Mutalib 1997, p81. See further Borthwick 1992). These visions received a strong shock in 1997 with a series of sustained crises which influenced much of Southeast Asia, and parts of East Asia. This included a massive failure in currency markets, in confidence in some banking sectors, and severe impact on regional stock markets and the base economy. This crisis, first becoming apparent in the middle of the year (1-2 July 1997) in Thailand, with subsequent crises for Malaysia (September 1997) and Indonesia as well. Later in the year, South Korea also found itself in a financial crisis, while mounting pressure was felt on the currencies of Hong Kong, and to some extent China itself. The crisis as a whole seemed to indicate a possible ‘Asia meltdown’ and an almost complete reversal of the optimistic picture most had painted the year before. The result included greatly weakened national budgets in Thailand and Indonesia, and reliance on strong IMF packages to help provide some sort of future economic security (for Thailand, the total package was targeted at $17.1 billion, IMF 1998). Attendant social turmoil was apparent to some degree in Thailand, but was strongest felt in Indonesia. In Indonesia the rapid decline of the value of the rupiah, the collapse of many businesses, growing unemployment and increasing cost of base commodities exacerbated existing political tensions concerning the future leadership of the country, culminating in the resignation of Suharto in May 1998. In this light, the combined crises of 1997 represented a serious challenge to core policies of states like Indonesia, and of ASEAN as whole. In fact, serious changes in financial, fiscal and economic policies were required if Southeast Asia is to retain its notion of regional resilience. These local crises, however, were part of a much wider international problem with flow on affects for other Asia-Pacific economies, including Australia, Japan and the U.S., as well as some slight slowing of growth in the world economic system. Indeed, by June 1998, some journalistic commentators were afraid of an emerging global currency emergency, and the prospect of currency wars reshaping the international financial system (for some of these debates, see Loungani 2000). By 1999 these fears began to fade, and it was possible to suggest that this was a regional rather than a global meltdown. At the same time, it was clear that crises in the Asian economy had flow on effect to their trading partners, and also was a direct challenge to regional political stability. The collapse of the Suharto government, for example, caused an entire rethink of Indonesia-Australia relations, as well as serious efforts by ASEAN to build a peer-monitoring system that would warn of possible contagion in future, the ASEAN Surveillance Process (see Manzano 2001), plus effort to engage more deeply with North-east Asia and as well as deepening ASEAN's economic foundations from 2003 via the Concord II agreements for building a shared free trade and financial area. Most importantly, however, these crises showed that in spite of twenty years of apparently solid growth, the future economic security of developing countries in the Asian region was not guaranteed. This mean that trading partners around the Asia-Pacific had to carefully assess the impact for their own economies. Australia at first hoped that the flow on effects would be small, since Southeast Asia as a whole accounts for much less trade than Northeast Asia.. The long term effect on Australia was moderated by the fact that investors, looking for new outlets but cautious of the Asian markets, were willing to invest in Australian markets, rather than Southeast Asia. The U.S., of course, had during the mid-1990s been experiencing an extremely strong economy combined with low levels of inflation and unemployment (see Krugman 1998 verses Zuckerman 1998). The monetary failures led to harsh criticisms of the notion of Asian values, an intense review of the problems of Asian economic institutions including claims of cronyism, corruption, lack of transparency, lack of adequate monitoring of the exposure of risk in private banks. However, by mid-1998, as continued pressure was felt in Indonesia, and as Japan began to find the strength of the yen decreasing, new realities dawned in America and the G8 group as a whole. A serious decline in Northeast Asia would directly reduce exports and trade, with the immediate impact being felt in the U.S. stock exchanges in June 1998, particularly for certain areas, including high technology companies and middle size companies. In the long run, though individual currencies might weaken, a sustained East Asian recovery was needed to bolster Asia-Pacific trade flows. China, in the meantime, had held its controlled currency firm, in spite of continued pressure which suggested it would need to allow its devaluation. However, by June 1998, China had stated that it would need to review its position unless serious efforts were made the strengthen the yen. If the yen and the Chinese currency, the renmimbi, slipped, it was feared that there would be a renewed cycle of economic crisis in Asia, since many of the smaller Asian states strongly rely on Japan was a trading, investing and aid partner to help them slowly rebuilt confidence. As a result, the U.S. agreed to help support the yen, with billions of dollars being committed to purchase the yen and thereby strengthen it in mid June 1998 (Hopkins 1998). The Chinese action was interesting, since it was perhaps the first forceful entry of China into playing a role in international currency diplomacy (Harding 1998). Furthermore, it suggested a strong degree of covert cooperation among China, Japan, and the U.S. to deal with a real problem threatening the Asia-Pacific region. It seems likely that China herself was cautiously trying to avoid any serious down-turn in her own economy. A stall in growth could aid serious unrest within China, and decrease regime-maintenance for the current leadership and the Communist Party as a whole, which over the last decade has prided itself on economic reform and pragmatic gains. Serious reforms in the Chinese economy, have been pushed ahead to try to ensure this sort of sustained growth of around 8% per annum. Likewise, China needed to gain access to the World Trade Organisation to further sponsor trade-lead growth, explaining the great importance of accession procedures for China (1999-2002). From 1998-2003 PRC managed to retain average growth of 7.75%, in spite of a challenging international environment, and of 9-10% through 2004-2006 (DFAT 2003b; DFAT 2005; DFAT 2006). Currency instability combined with speculative trading attacks had influenced a range of countries in the last two decades, including Mexico, South Africa, Russia, Ukraine and Argentina (see Hurt 1998; Mussa 2002; Palast 2003). These general trends suggest market failures based not only on problems of local governance and the local business culture (though these helped trigger and deepen the crises). Rather, the current global currency and financial system may itself not be stable, and may not always be able to find a dynamic equilibrium with predictable outcomes. If so, serious efforts need to put into place to investigate the way currency markets and investment patterns interact with the base productive and industrial economies. To begin this discussion, we will need to turn back to the Asian currency crisis in a little more detail before returning to the issue of the global economy. 4. The Political and Social Costs of Financial Instability In the Asian crisis the destabilisation of currency markets, currencies and stock markets particularly affected Thailand, Malaysia, Indonesia and South Korea. That a serious crisis was emerging was signalled by an 18% depreciation of the Thai baht on 2 July (it dropped 32% by September 1997) but this was only the tip of the iceberg. As many currencies in the region begun to drop, people spoke of contagion or Asian flu. Indonesia soon followed. Indonesia had allowed from 1995 the floating of its currency with certain levels of change (4-5% per year, Rosenberger 1997, p236). On the 11 July 1997, this band was widened to 12%. On 21 July, investor confidence began to drop, with the rupiah dropping to 2,510 to the US dollar. This has cushioned some of the impact, but in late 1997 to early 1998 serious drops in value against the US dollar occurred. After September 1997, there were serious falls in the Jakarta stock market, and the rupiah continued to fall, by 27 October it was near 3,600 to the U.S. dollar (losing 30% of its value). There are many reasons for the sudden reversal in fortune for Indonesia. The Indonesian economic situation worse than people thought, with Indonesian conglomerates much more exposed to private foreign debt than publicly known. Indeed, the Indonesian government itself had no real idea of how heavily exposed its private corporations and banks were to foreign debt. This was based on a lack of transparency and limited accountability in Indonesian banks and companies. These debts were now much worse once the rupiah dropped against the value of the dollar. These debts were often unhedged, i.e. they assumed the value of the rupiah would hold. By September 1997, these debts were in reality 34% dearer as of September 1997. Panic occurred, with Indonesian banks then began to sell rupiah, weakening if further. Others tried to move resources. This added the problem of capital flight to the current crisis. The debts owed by the Indonesia Government had not seemed a problem until the crisis emerged. The Indonesia Government owes $US50 billion to foreign creditors - a debt it could service until the crisis derailed segments of the economy. Several partial solutions were tried to help reduce this problem. One of these was to reduce import-based spending, e.g. reduce major white elephant projects such as the $690 million loan to fund the Indoesnian national car project. These conditions forced Indonesia to approach the IMF and World bank on 8 October 1997, in spite of fears that such intervention would interfere with the sovereignty of Indonesia, and open up a whole range of problems concealed within the Indonesian economy. The initial IMF plan was for $23 billion from IMF, World Bank and ADB, plus $11 billion from Singapore, Malaysia, Japan and Australia (under somewhat softer conditions). The total package as of April 1998 was targeted at $36.6 billion (IMF 1998). The aim of the comprehensive package was to restore confidence, restructure the entire financial sector, further deregulate the banks, trade reforms, increased accountability and transparency, reduce some tariffs, reduction of some monopolies in food, and some reduction of subsidies, e.g. on kerosene, while at the same time combined with very tight monitoring ensure that funds were not channelled of into a corrupt system (Stevenson 2000, p18). At first it was hoped that growth for 1998 could be held to 4-5%, with expected job losses. However, in reality, growth estimates for 1998 soon dropped to 0-1%, and soon revealed a net shrinking in the Indonesian economy. In fact, industrial output may have dropped as much as 20-30% as many firms are forced to close, even though in theory Indonesian manufactured exports should now be much more competitive than before. The stringent conditions imposed by the IMF package, based on cutting imports and government spending, opening up financial systems, and de-regulating the economy, produced considerable problems for the Suharto government, which at first hoped for an IMF Plus deal, whereby the social impact of reform could be moderated. There was intense disagreement within the Suharto cabinet over which projects should be cut, e.g. Habibie’s projects were at first protected (aircraft, shipyards). There were also problems in cutting subsidies, e.g. on kerosene, staple foods. Rioting among the poor in many cities throughout Indonesia was partly sparked by rapidly rising costs for rice, cooking oil and kerosene. The government managed to import rice and make it available in adequate quanties in remote areas, thereby holding the increase in rice costs to less than twice the early 1997 cost. However, the IMF plan, based on notions of economic rationalism and free markets, was not sensitive to the need to delay some of these reforms to avoid social chaos. The IMF agreed to a partial rescheduling of some economic reforms, with extra humanitarian aid being offered by Australia and Japan in 1998 to ensure social stability. However, it was too late to avoid serious rioting in urban areas, and intensified demands by student bodies. By April 1998, the Suharto government was ready to collapse. In reality, the IMF reform demands had helped hasten this process, at least by exacerbating 'economic and civil chaos' (Stevenson 2000, p19). Numerous problems contributed to this cascade of problems. Broader problems in the economic environment included: - * An earlier devaluation of the Chinese currency in 1995, giving that country some export advantages, and making it more competitive in its exports compared to some Southeast Asian nations, a process that has continued through 2002. * The view that many Asian currencies were overvalued, and that growth in the Asian tigers was unsustainable. This meant that there was incentive for speculators to ‘attack’ these currencies (Rosenberger 1997, p226), thus further damaging confidence. This problem is also exacerbated by the 'group-think' problem, whereby the managers of large funds, e.g. superannuation funds, are reluctant to risk independent thinking, but follow trends in investment flows. In other words, due to limited prediction-capability, especially in the currency markets, this provides positive feedback increasing trends at a very quick pace through electronic trading. In the Asia during the early 1990s the tide of investment had swept in on over-confidence, in 1997 it swept out due to under-confidence. This resulted in some currencies dropping much further (under-shooting) than general economic condition of the country would have indicated as likely. Ironically, just prior to the mid-1997 crisis, the IMF had pronounced that the basic economic fundamentals of Asia were sound. Credit rating agencies had indicated that there might be some problems, but had not really understood how greatly over-exposed private business and banks in Southeast Asia were. * There were also concerns that countries such as Malaysia, heavily involved in mega-projects such as the huge Petronas twin-tower complex in KL or its new airport, were over-investing in non-productive projects which also boosted import requirements. * NAFTA came on line heavily in the 1990s, and thereby diverting some trade to within the American area (trade diversion). * Some reduction of expected demand by Japan and EU for Southeast Asian exports. Low growth in Japan over the following years meant that Japan was unable to help boost Southeast Asian economy through trade (see further Rosenberger 1997).
* Emphasis on mega-projects and high-tech prestige projects, none of which ensured adequate returns on investment. These projects also tended to boost imports, affecting the current account deficit. Along with foreign debt, this resulted in outflows becoming stronger, especially in Malaysia (A current account deficit ‘is when exports and financial inflows, from both private and public sources, are exceeded by the value of imports and financial outflows from private and public sources’, Nolan 1995, pp81-82). In Indonesia, the development of megaprojects (including the national car and aircraft projects) has been in part based on the power of a new technocratic engineering class around Suharto, sometimes running import replacement projects, e.g. former Vice President Habibie. * Lending by regional banks without adequate guarantees of profitability of projects, or checking level of exposure of those taking out loans. This includes insufficiently secured loans from Northeast Asia (Hong Kong, South Korea, Japan) into Southeast Asia. * Lending by the regional private sector in US dollars, meaning that loans might have to be repaid in strong dollars against weaker local currencies. This doubled and even tripled the real cost of these unhedged loans. * Elite networks in which political influence resulted in massive loans for suspect projects, i.e. cronyism. This is sometimes termed old-boy capitalism (i.e., using informal networks, Rosenberger 197, p227). This may have aided growth in the short time, but has meant that eventually the private sector has been over-exposed to high cost loans on projects of limited viability. Whether national treasuries, IMF loans, and other ‘soft loans’ will bail these investors out remains to be seen. The Indonesian leadership seems to have had the tendency to go down this path, thereby making it difficult for them to inspire international confidence even as they go through reform to a somewhat more open democratic system (1999-2002). * General lack of transparency and regulation of business and banking procedures (for recommendations concerning the restructuring of banks, see Lindgren 1999). In particular, lack of disclosure on levels of real debt in private banks. For some investment groups, it has been suggested that dual-books were kept, one for government and regulators, the other real books showing massive over-borrowing on weak projects. * Lack of proper accounting and managerial practices in some new regional banks, e.g. scandals in one major Vietnamese bank where the manager alone knew the details of many inter-bank loans from a South Korean bank. In other words, the debtor bank itself didn't know what was being done by high officials. The result was an apparent default and inability to function until the matter could be re-negotiated. Some Thai and Indonesian Banks have also acted in irregular ways, with the IMF requiring their operations to be stopped or closely monitored. This has resulted in the closure of a number of banks in Indonesia, as well as serious investigations into 12 banks in South Korea. * Rising costs and only moderately rising productivity in some countries, e.g. Malaysia. In June 1997, Malaysia wages climbed by 11.4%, but productivity only by 1.4%. (Rosenberger 1997, p227). This has since changed, but only after serious pressures on the standard of living for Malaysians through the late 199os. * Strong competition from China, whose labour in many areas such as Shanghai was only one third that in Thailand, e.g. in integrated circuit factories. (Rosenberger 1997, p227) * Southeast Asia has relied on primary exports, and on strong manufacturing power backed up by low wages. However, some would argue that now it needs to leap again into higher technology, more knowledge intensive industries if it wishes to push its economic growth forward. (Rosenberger 197, p227). For example, simply manufacturing computer chips or CDs, which are designed elsewhere (Europe, US, Japan), actually now places countries like Malaysia and Thailand in an intensely competitive environment. Ironically, such a move forward would probably require further investment in research and in retaining highly-skilled staff. The result was that overseas investors began selling assets in baht or rupiah, and bought US dollars, or investments whose value was linked to the US dollar. Furthermore, even Thai and Indonesia companies sought to divest themselves of local investments and preferred to purchase or operate in dollars where possible. For a time, Indonesia seemed to be using at least three currencies in its activities (the rupiah, US and Australian dollars). In other cases, conglomerates moved resources out of troubled economies to safer havens, e.g. into Singapore. This, of course, simply weakened the local economies and their currencies further. In short, the crisis was a mixture of external and internal forces which led to following political crisis in the case of Indonesia. The long term impact, combined with Indonesia's slow recovery, also led to sustain criticism of the IMF and the way it had handled the emergency (Nasution 2000). 5. Problems of National and Institutional Resilience This crisis, of course, is part of a much broader range of issues concerning the way societies, corporations and individuals manage their resources, ensure their comprehensive security, and envisage their future. Deeper, fundamental issues include: - * Emphasis on short-term growth at any price may be dangerous (for one critique see Davies 2004). When this growth is heavily based on massive foreign investment and loans, this does not by itself guarantee adequate productivity to sustain such growth. Indeed, excessive addiction to foreign hot money and credit can be disastrous, as in Argentina and Thailand (see Mussa 2002). * Difficulties in managing and predicting currency values in volatile markets. Currency markets are not regulated at the global level, and do not seem adequately tied to the performance of base economies. Rather market forces, short-term trends and some loose perceptions of preferred fluctuations among major currencies provides at best some modest stability across currencies. On this basis, the perception of countries and risk and how this is filtered through global information networks is crucial. * The size of some the funds being moved dwarfs the economies of small states, and at times makes even the scale of foreign currency reserves held by major states seem relatively small, e.g. Indonesian foreign reserves were unable to deal with the problem in 1997, while Russia did not wish to use of its foreign reserves to bolster the ruble in June 1998, but rather sought a new US $10 billion line of credit. Likewise, both Mexico (in the mid-1990s) and Argentina through 2001-2002 found national foreign-currency reserves unable to bolster the currency and economy. The scale of the problem is such that even strong nations have difficulty permanently propping up currencies. * The International Monetary Fund, the main agency concerned with helping stabilise currencies and economies, has to date been able to help countries such as Mexico, South Korea, Thailand, and more controversially Indonesia and Argentina. However, the scale of these interventions has been very large, and it can be argued that even the resources of the IMF will be unable to meet the task if such crises continue. One fear is that such IMF plans are sometimes misplaced and badly executed (as in Indonesia), while critics fear that the IMF is really 'throwing good money after bad', i.e. supporting unworkable economic structures, an argument sometimes used in relation to Argentina (for reform in the IMF, see below). Through 2000, the IMF had planned to grant Argentina a total aid package of nearly 40 billion dollars, but this had to be restructured through 2001-2003, with some 15 billion in total needed to restructure the country's debt (Straits Times 2002). Through early 2003 Argentina went through another round of difficulties in making payments to the IMF, with debt of up to US$6.6 billion having to be restructured, and loans of 1 billion due in the short term. A further US$4.4 billion of debt will be rolled over with the World Bank and the Inter-American Development Bank (UPI 2003). By September 2003 Argentina and the government of Nestor Kirchner had negotiated interest-only debt servicing agreement with IMF. In general terms, it should be noted that many countries in the region, in spite of increasing GDP over the long-term, remain vulnerable to international financial flows and to the pressures of economic globalisation. Furthermore, the IMF program for Argentina had underestimated the serious impact of economic re-structuring, which led to a massive political and social 'dislocation' that further eroded confidence in the government, both nationally and internationally (Onis 2004, p387; see further Mussa 2002). Likewise, more attention needed to be given to the maintenance of education, skilled employment, political stability, the need for broad-based support for reform, and the build up of 'research and development capacity' needed for long-term growth (Onis 2004, pp388-389), alongside flows of foreign capital that might in the long term become unproductive debt. * The volume of currency trading, and the large profits earned from them, represent a serious source of ongoing instability in the global financial system. If so, it is possible that without careful management a second round of crises might occur at some date in the future. In the worst case, this would result in a global financial emergency. * Alternatively, it is possible that a group of strong, mutually supporting currencies will emerge (based around the U.S., the EU, and Japan), with all other currencies seeking to be related to these, but still vulnerable to degree of financial instability. This would lead to a two-tiered currency system, and intensify economic and political tensions between strong and weak economies. In some cases small countries have chosen to use a strong external currency, in a de facto sense in parts of Latin America where 50% of bank deposits are in U.S. dollars, an especially strong trend in Uruguay and Ecuador, and in the past in Argentina, with stronger controls since 2002 (Stein 2007). It has been suggested that new, strong regional currencies might need to be developed in future, perhaps in Asia (Stein 2007). We can see some of these factors working together in the Thai case. The Thai government in 1997, for example, tried to keep the baht tied against US dollar, in spite of a 40% rise in the value of the US dollar against the yen (Rosenberger 1997, pp229-231). In order to keep the Thai baht strong, domestic internal interest rates were raised. This negatively affected the property and banking areas, with many property developers unable to pay back the banks. Likewise, Thai manufacturing exports were now unnaturally high (along with the baht). Thai business groups then looked for overseas loans and funding (foreign borrowing doubled in 1995-1996), including lots of hot money based on short term loans. The result was an addiction to overseas money. In the words of Roderick Rosenberger: ‘They turned around and lent too much of this huge pool of excessive liquidity to politically well-connected businessmen for hare-brained schemes.” (Rosenberger 1997, p230). Much money was also sunk into an already overextended property market, creating a huge glut. When it emerged that ‘several Thai finance companies were over-exposed to the foreign-financed property glut’ (Rosenberger 1997, p230), then there was a speculative attack on the baht currency, based on poor financial management and an overvalued currency. Similar problems beset Argentina in its depending on foreign loans and investment: - To satisfy various political needs and pressures, the government (at all levels) has a persistent tendency to spend significantly more than can be raised in taxes. When the government can finance its excess spending with borrowing, it borrows domestically or internationally from wherever credit is available. When further borrowing is no longer feasible (either to finance current deficits or roll over of outstanding debts), recourse is found in inflationary money creation and/or explicit default and expropriation of creditors (Mussa 2002, p10). The result for Thailand was a slow down in exports and GDP growth, a sharp fall in the stock market, and a serious budget deficit. After spending billions of dollars to maintain the baht, the Thai’s on July 2 tried a managed float of the currency, but by September its value had dropped to 38 to the dollar (a drop in 32% since July 1997). At this stage the IMF had to be called in (offering a package worth US$ 17.2 billion). It can be seen, then, that even a tiger economy soon found itself at the mercy of huge financial flows which it tried to use, but could not really control. The fear for many small and medium countries was that the mismanagement of financial flows, combined with speculative attacks, could destroy otherwise growing economies. The moral outrage of Prime Minister Mahathir of Malaysia at such trends (reiterated through 1997-1999), though clearly pointing out the damage done to his country, certainly did not help solve the problem. Indeed, his short term effort to support his own stock market and partially regulate external investors caused a further decline in confidence. Small and medium nations alike have realised that globalisation also exposes them directly to this rapid and volatile changes in investor confidence which are difficult to manage and predict predict, and not always based on fully informed or rational decision-making. National resilience is the aim of many developing countries, and is an explicit part of Indonesian and ASEAN policy aims. This resilience was aimed at increasing national and regional development at the economic and security levels, in spite of economic, environmental or regional crises. Most developed nations, of course, assume that rational government policies, the boosting of exports and trade, cutting deficits, developing new technologies and demanding more productivity, will result in another golden age of growth. However, if such growth is largely based on the availability of large financial flows and investment, then this is based on a positive international and global environment. Two approaches to this problem can be outlined. One of these is the head-on approach, the other an indirect approach. The head-on approach might suggest that the problem lies with free-floating, uncontrolled currencies abused by an irrational market. If so, an effort might be made to return to some form of global economic governance which reduces these rapid and violent fluctuations in the relative values of currencies. One suggestion has been a micro-tax on currency transactions, which would therefore apply a subtle but real break on currency movements and reduce speculation benefiting from fluctuating exchange rates (for different versions of this 'Tobin Tax', see Soros 2002, pp70-72). Another path would be to try to return to some structured exchange rate system. Both these approaches, however, would be extremely difficult to apply to a truly internationalised banking and financial sector, and gaining the compliance of a majority of nations is extremely unlikely. Furthermore, the economic system of the world now seems to rely on large injections of funds, often from national and private savings. With many governments suffering from deficits, and unable to effectively raise or secure tax levels, they need effective banking systems to support them. These banks need to market government debt and raise capital internationally. Elite groups in many countries, including the entire financial and banking sectors of London, New York and Tokyo, benefit greatly from these currency flows. City Bank alone received revenues of $1 billion for the first three quarters of 1997 from its foreign exchange activities (Hurt 1997). A certain impetus and shared thinking now exists in many international economic institutions (see Haas & Litan 1998). These groups are closely connected with all major governments, and represent the new wisdom of economic growth. One such meeting of this groups is the annual meeting at Davos in Switzerland of bankers, businessmen, corporate leaders, financial managers, officials from governments and journalists at the World Economic Forum (WEF). This and other related meetings represent a serious powerhouse of financial managers that can be jokingly called 'Davos Inc.' (see Huntington 1996). But beneath this it is clear that such organisations represent a collective world view that indirectly manages much of the world financial system. The kind of thinking developed at these forums then feeds into treasuries and corporations around the world. As such, a return to direct external regulation seems very unlikely. The World Economic Forum in recent years has moved to try to provide a more humanised face for international capitalism, and has also been willing to engage developing countries and civil society groups in dialogue. As an informal forum rather than a true Inter-Governmental Organisation, however, it has been possible to question in the accountability of the WEF and whether it represents world opinion in any real sense. These issues can be summarised: - Every January, when the World Economic Forum holds its annual meeting in the Swiss mountain town first made famous in Thomas Mann's The Magic Mountain, editorialists take aim at one of their favorite targets. To hear some tell it, the 2,000-plus participants in Davos may share similar educational, intellectual, and professional backgrounds, interests, and values and wield enormous influence and power, but their belief that they represent some sort of universal civilization is sadly misplaced. Other critics see more than globalist self-delusion at work, portraying the yearly meeting of the forum as a corporate cabal where business fat cats and government bigwigs cut dark deals at the expense of the poor. For still others, Davos is more farce than film noir--or as the Washington Post recently put it, "ground zero for the important and self-important to bloviate about the issues of the day." All of these critiques contain at least a grain of truth. So, too, does the charge that an organization that talks about promoting transparency and redressing inequality is in fact opaque and aimed at the very rich. But while Davos has its faults and flaws, it cannot be dismissed. Just ask political scientist Samuel Huntington, author of one of the most scathing critiques of "Davos culture"--if you can catch him, that is, between his appearances on Davos panels. Since its origins as a gathering of European executives more than three decades ago, the meeting has become the ultimate global bellwether for leading ideas and trends, and the World Economic Forum itself has become recognized as a catalyst and sponsor of initiatives that live up to its lofty slogan, "committed to improving the state of the world." Moreover, as befits an organization inextricably linked with global integration, the circle of participants has steadily widened. From swamis to nanotechnologists, the corridors of the Congress Center swarmed this January with representatives from a bewildering array of political, religious, and cultural faiths, all united in a general quest for knowledge. (Foreign Policy 2004) Likewise the Bank of International Settlements (BIS) has tried to set up mechanisms whereby banks can operate and support each other internationally, using a set of criteria and norms about their operations based on the Basel Accord (1987, with the Basel II Framework coming into play from 2007-2008). This is a set of minimalist regulations whereby 'international financiers and central bankers set up rules governing international financial markets and institutions' (Roberts 1998, p120). In many ways the current world financial system is no longer based on the Bretton Woods system, but on a BIS system (first set up in 1930), with the BIS acting as a 'central bank' for most of the large central banks of the world and holding about 10-15% of global monetary reserves (Roberts 1998, pp124-125). The core of this system is that the risk of banks is monitored, and that overall all banks should have a capital to assets ratio of 8% (Roberts 1998, p125), ensuring capital liquidity in relation to demands. The aim is to ensure that 'systemic risk cannot become systemic crisis' (Roberts 1998, p126), e.g. risks to one bank do not threaten the entire global system. From 2006 under 'Basel II' new capital-adequacy guidelines 'will decrease reserve levels for internationally active, diversified institutions', but includes review of internal risk measurement procedures and greater disclosure (Sharma 2006). It has been claimed that the new system will improve risk management and provide more reliable 'customer credit-risk information' that will allow more profitable lending decisions', offsetting the initial cost of implementation (Sharma 2006). The BIS, however, has been criticised for being secretive, undemocratic, and really only meeting the needs of advanced industrialised nations (Roberts 1998, p127-128; for other controversies through 2001-2004 with the BIS seeking to buy out private shareholders and instead restrict its shares to central banks, see Spence 2004). This has begun to change, however, with the BIS webpage, journals and public statements that have sought to improve research and greater public and specialist knowledge of their operations an the international financial role of central banks. Likewise, the BIS annual report also provides an overview of the global economy, e.g. its 2006 assessment noted the trend that 'the English-speaking countries have become the global pole accounting for increases in the consumption of tradeables, while Asia, with China at its centre, has become the global pole for increased production' (in Fund Strategy 2006). Rather than meet the problem head-on by major structural reform of the global financial system, a more modest approach is to build up diversified economic and maintenance activities at the local, national, regional and global levels, (for one account of sub-national regional development programmes for Indonesia, see Hill 1998) thereby avoiding over-dependence on one overseas currency or on overseas loans. At the regional level, for example, greater cooperation can strengthen national economies. We can see such suggestions in the ASEAN context. One of the problems which has emerged within ASEAN is that in spite of the system of Preferential Trading Arrangements (PTA) and the ASEAN Free Trade Area (AFTA) there are still certain areas where countries within ASEAN compete, e.g. Singapore-Malaysian competition in IT and financial services, limited cooperation between Indonesia and Malaysia in rubber and palm oil exports (Mutalib 1997, p82). In order to enhance cooperation, there has been a call for a much closer coordination of financial and economic strategies within ASEAN: - The challenge for ASEAN, where feasible, is to creatively turn and redirect competition elsewhere instead of beween states within the grouping - such as the idea mooted by Rafidah Aziz, Malaysian Minister of Trade and Industry, of some kind of an ASEAN Incorporation - namely, a combined ASEAN team which, together with greater access to finance and technology, and other infrastructure support, can have stronger bargaining power vis-a-vis the big economic powers (either the huge multinational corporations or other regional groups). (Mutahlib 1997, p82) Malaysia had argued for much greater reliance on local currencies or barter systems within ASEAN, thereby reducing dependency on hard, strong currencies. At the regional level, too, it might be possible to envisage some sort of exchange rate mechanism being developed to ensure relative stability among currencies, and thereby making speculative attacks a much harder game. This would be highly helpful, but would need two difficult requirements. The first would be relative convergence of the economic performance of the involved countries (so that all are not judged as being equivalent to the weakest nation). Second, the nations involved with need to have secure economic agreements and strong trade flows with at least one major economy which can provide a strong reserve base, e.g. Japan if it can stabilise, or China in the future. Once again, such a program would need careful planning, a high degree of cooperation, and sustained political will. It is exactly in this context that ASEAN moved through late 2003 to set up an ASEAN Economic Community with accelerate free trade, freer investment and dispute resolution regimes (see Hew & Soesastro 2003). Here some forms of regionalism can also buffer the impact of financial global flows. These events have also triggered a degree of governance reform in many global institutions. Download 166.3 Kb. Share with your friends:
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