Lessons from East Asian Financial Cooperation

Lessons from East Asian Financial Cooperation
JP/6/MAKMUR

Part 2 of 2

Lessons from East Asian Financial Cooperation

Makmur Keliat
Jakarta

What lessons can we learn from the evolvement of such regional
financial cooperation? First, the idea of regional financial
cooperation seems to have been a belated response to crisis. The
idea only became fashionable after the regional financial crisis
struck in mid-1998. Before the financial crisis, the focus of
economic cooperation in the region was mainly directed at trade
and investment.

In so far as financial cooperation is concerned, the main
issue in the minds of policy makers is not the question of how to
control capital flow and stabilize exchange rates, but how to
attract as much foreign capital as possible by reducing
restrictions on capital movement. There is no vision that
financial liberalization has great potential to negatively effect
economic growth

Second, the idea of strengthening regional financial
cooperation can be considered a "middle-way" strategy. This can
be seen from its tendency not to take sides with two contending
explanations of why the financial crisis occurred in the region.

While the first explanation puts great emphasis on domestic
problems, the second explains the origins of the crisis from a
global perspective.

The proponents of the first explanation, known as
"globalists", argue that the crisis was a natural by-product of
poor macroeconomic policy such as over-borrowing, and also
because of close political connections between the political and
business communities, or cronyism.

By contrast, those who support the latter explanation, called
"domesticists", mainly explain the crisis as the result of an
absence of a financial regime at the international level through
which measures to control capital movement can be taken and
speculative actions and panics in international financial markets
avoided.

While policy prescriptions offered by the holders of the first
view tend to differ from one country to another, relying on a
case-by-case approach, the second view suggests that financial
crisis can only be avoided if there is a structural reform of the
global financial architecture. It seems the IMF bases its policy
prescriptions on the first approach, as reflected in its signing
of letters of intent it bilaterally drew up with Indonesia,
Thailand and South Korea.

However, it appears that financial cooperation in East Asia is
neither inspired by "globalists" or "domesticists".

Third, financial cooperation in East Asia has so far achieved
limited progress. In conceptual terms, the scope of financial
cooperation can be traced through three stages. The first stage
is the setting up of a financial surveillance process and crisis
rescue mechanisms, followed by establishing an exchange rate
regime and then constructing regional financial organizations.
The ASEAN Surveillance Process (ASP) and ASEAN Swap Arrangements
(ASA) can be categorized as falling in this first stage. The
second form of cooperation (establishing an exchange regime) and
the third form (constructing regional financial cooperation) seem
to have a long way to go.

Fourth, efforts to expand the scope of financial cooperation
to a large extent will be determined by political dynamics either
at the domestic or international levels. Regional financial
cooperation does not exist in a political vacuum. Let us take as
an example the idea of a single rate exchange regime. In East
Asia exchange rate policy is different from one country to the
next, ranging from a fixed exchange rate policy (such as in
Malaysia) to a floating exchange rate policy (such as in
Indonesia).

The main question then is what should be done in order to
encourage countries in the region to adopt a single exchange rate
policy. This problem is not easily resolved because the decision
to employ a particular exchange rate policy cannot be reached
merely by technical deliberation, as most economists may think,
but is also shaped by political considerations.

In this regards it is worth mentioning the case of Indonesia
under Soeharto in the wake of the financial crisis in 1998. The
idea to fix the exchange rate of the Indonesian rupiah against
the U.S. dollar could not be executed because of strong domestic
political opposition. This was certainly totally different from
the case of Malaysia when Mahathir was still in power.

Similarly, the idea to form a regional financial organization
cannot be realized because of political dynamics at the
international level. Whether we like it or not, the failure to
establish the Asian Monetary Fund (AMF) clearly indicates that
the U.S. will remain with us in the future.

Fifth, there is a need to design realistic proposals if East
Asian countries seriously want specific financial organizations
in the future. Whatever proposals we have in mind, exclusionary
strategies are out of question. Due to their political and
economic clout, the U.S. and international economic agencies,
such as the IMF, must be involved. The fact that Japan did not
insist on establishing the AMF in the face of opposition from the
U.S. and international economic agencies conveyed the clear
message that there has been no substantial change in the U.S.-
Japan relationship. Japan remains reluctant to sacrifice its
special relations with the U.S.

Lack of political trust among countries in the region is a
factual reality. There had been fear that Japan, through the AMF,
would behave like the U.S. through the IMF. With the exception of
Malaysia, the idea of the AMF as proposed by Japan received a
lukewarm response from the region. China, as the second largest
economy in the region, did not give very strong support to the
idea.

Since there is a notorious lack of political solidarity
between countries in the region, financial cooperation is like
the soft belly of the entire framework of regional cooperation in
East Asia. That is one of the reasons why we need to understand
the idea of the East Asian community not in geographical terms
but more in functional terms, to enable countries from outside
the region to join the community.

The writer is head of the Center for East Asian Cooperative
Studies at the Department of International Relations, School of
Social and Political Sciences, University of Indonesia.