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.