The International Monetary Fund has already received a lot of flak from private experts for giving the wrong advice to troubled Asian economies. Another analysis to that effect, therefore, is nothing new. What is new — and significant — is that the Japanese government, in an official report, has now embraced the view of those critics.
The annual report on international trade, released last week by the International Trade and Industry Ministry, says in effect that Asia’s financial and economic crisis, which started with a sharp devaluation of the Thai baht in July 1997, was aggravated by misguided remedies prescribed by the IMF.
The white paper says Asia’s currency crisis of 1997-98 was different in nature from the one that hit Latin American states in the 1980s. In the latter case, the underlying problem was chronic current-account imbalances stemming from large government budget deficits, weak export competitiveness and low savings rates. In other words, the Latin American crisis was triggered by deteriorated economic fundamentals.
By contrast, the Asian crisis had little to do with such basic economic conditions. True, Thailand and South Korea were plagued by chronic current-account deficits, but neither was as deeply in the red as Brazil and Mexico. Savings rates remained high, and governments were running budget surpluses. Export industries declined, but not as steeply as in Latin America.
The main cause of currency turmoil in Asia was the fact that deficits were financed largely by footloose short-term funds, such as hedge funds. This exposed dollar-pegged Asian currencies to international speculative attacks. Fragile domestic financial systems only widened the crisis. The IMF, however, focused on budget reduction as the chief condition for financial assistance, with its prescriptions calling for a set of austerity measures, such as high interest rates, banking-system overhaul and structural reform.
As one MITI official put it, the IMF “misread the realities of Asian economies, as it relied on the experiences in Latin America where government deficits had been the root of the crisis.” The Asian nations that received an IMF bailout cut public spending and raised interest rates, and the credit contraction that ensued further depressed economic activity. The growing interest-rate burden on businesses aggravated the woes reflected in corporate balance sheet and inflated bad debts.
The IMF drew criticism from some Asian leaders, notably Malaysian Prime Minister Mahathir Mohamad. Vowing to “protect the country from (international) speculators,” Mr. Mahathir put the ringgit, the Malaysian currency, back on the peg and imposed controls on capital transactions.
The MITI report also strikes a sympathetic note on these moves, distancing itself from the United States, which blamed Malaysia for bucking the trend toward capital liberalization. The U.S. is right in principle, but free movement of capital, if pushed too far, will hurt exchange-rate stability and unnecessarily restrain freedom of national monetary policy to the detriment of the world economy.
In this regard, a comment made by a Japanese economic policy adviser in Jakarta during the crisis is worth noting: “There was only one senior IMF official stationed in Jakarta. He knew little about real conditions of consumer life or corporate management because he would meet only top officials of the Indonesian government. IMF prescriptions are desk theories based on statistical figures.”
The comment reinforces the impression that the IMF, though staffed by brilliant economists, was not well attuned to Asia’s economic realities. It is indeed disturbing to think that unrealistic recommendations by “armchair economists” may have exacerbated the Asian troubles that threatened growth worldwide. Now, however, in a sign that it is trying to mend its ways, the IMF is beginning to take a more flexible position, say MITI officials, who note, for example, that the fund has tacitly approved Thailand’s shift to a policy of fiscal expansion.
In the past, Japan has almost always followed the IMF and its main backer, the U.S. This stance is likely to change. Indeed, there is a strong case to be made that Japan, as a leading Asian nation, should work on both the IMF and the U.S. to deal more realistically with Asia’s economic problems.
Working in tandem with the IMF, Japan offered a large amount of assistance to the crisis-hit nations. The crisis itself is coming to an end, as has been confirmed by a recent meeting of APEC finance ministers. But the task of economic reform is only beginning. Japan, too, needs to rethink its ways of assisting developing nations, a rethinking that should accompany IMF reform.
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