The IMF cometh to the region

The IMF cometh to the region

Manuel F. Montes looks at some of the implications of the IMF
rescue packages for three Asian countries.

SINGAPORE: The International Monetary Fund (IMF), long the
bane of import-dependent economies with profligate governments in
Latin America and Africa, has come to Asia to help rescue
Thailand, Indonesia and South Korea, whose record had helped to
secure Asia's reputation of export vigor and conservative
economic management. Under the approach typical of IMF
programs, these economies face at least a year of slow growth,
company failures, rising unemployment especially in the urban
areas, cuts in government programs, high interest rates,
investment malaise, and domestic political recriminations over
the impact of the programs and the loss of policy flexibility,
after the steep currency devaluations they have already
undertaken. Will the medicine work in Asia, where the nature of
the underlying problem is different?

In exchange for these troubles, the economies hope to get some
breathing space from the currency attacks that have afflicted
Asian economies since the Thai authorities attempted a gradual
devaluation of the baht which was quickly overtaken by the
panicky reactions of Thailand's creditors, resulting in Thailand
seeking IMF protection in mid-August 1997. Thailand obtained US$4
billion from the IMF, within a total rescue package of US$16
billion. Indonesia sought IMF protection on Oct. 8, 1997, after
the international value of the rupiah had fallen almost 40
percent. The total Indonesian rescue package was US$23 billion,
of which the IMF contributed US$10 billion. On Dec. 5, 1997,
Korea obtained a US$57 billion program of which the IMF
contributed US$21 billion.

These rescue packages are unprecedented in their size. In
1995, the total Mexican rescue package at US$48 billion was
itself unprecedented. In Asia, in less than half a year, these
three rescue packages now total almost US$100 billion. In all
these cases, the size of the packages is meant to reassure
external creditors that their leftover exposure to the countries
involved will be protected and that there is no need to cut their
credit lines not only to the countries directly involved, but to
other countries they might deem to be in a similar situation. It
is still not clear if the Korean package is large enough to
reassure foreign creditors, as the currency attacks on the won
continued.

The Asian IMF programs are also unprecedented in the sense
that the programs have more to do with reforming the countries'
financial systems than with restoring a sustainable balance in
the economies' external transactions. The IMF's comparative
advantage is with the latter and its principal approach in
restoring external balance has been in "domestic demand
management" which requires cuts in spending by the governments
involved. Domestic spending cuts reduce the country's demand for
imports and also cause a slowdown in economic activity. In the
case of Korea, the planned IMF program forecasts a halving of the
rate of economic growth in 1998.

For the Asian countries affected, a case could be made that
further cuts in government spending are uncalled for. Savings
rates have been high and government deficits have been low or
non-existent in these countries, and in most of Asia. The
resulting slowdown in the Asian economies, including those
carried out by governments not under an IMF program such as
Malaysia, will reduce exports into the region from Japan, the
U.S., and Europe and is the proximate cause of the reduction in
the IMF's own forecasted world growth rate for 1998 from 4.3
percent to 3.5 percent.

The reform programs for Korea, Indonesia and Thailand include
reforms to improve the transparency of the banking system and
stock markets and of the oversight capacity of public
authorities. These reforms actually take more time to realize,
but any efforts in this area improve the regulatory reputation of
domestic authorities in the eyes of the world and should be
stabilizing. An important feature of the Korean program is the
implementation of accounting standards that would force Korean
companies to provide a clearer view of their financial condition.
The proposed program reduces the power of Korean conglomerates
(chaebols) to borrow at favorable terms from their own related
banks.

Particularly in the case of Korea, the IMF programs also
involve further opening of the economy in trade and for external
investment. As part of its accession to membership to the
Organization for Economic Cooperation and Development (OECD), the
group of advanced industrial economies, Korea had previously
announced phased measures to liberalize investments into Korea.
The IMF program represents an acceleration of these plans. This
means that the features of these measures to open up the economy
have been previously studied and discussed in Korea, only their
implementation will be brought forward.

As long as short-term international investors are assured
about an economy's ability to service their external debt and the
currency meltdowns cease, the IMF medicine can be said to have
worked for the countries affected, but at a considerable cost.
The strategy of high domestic interest rates combined with
economic growth slowdowns will further weaken financial
institutions, reduce corporate earnings, and turn some sound
investment projects into problematic ones. Given the normal
practice of syndication and joint guarantee among banks, the
strategy of rapid writedowns and sell-offs in property and
financial assets will depress these prices equally rapidly and
endanger the health of banks whose portfolios were basically
sound before the crisis.

After its US$35 billion commitment to the three Asian
economies, the IMF would only have US$44 billion left to deal
with any further requests; in 1996, the IMF only committed US$8
billion. Not only does the IMF find its own resources severely
limited to face future requests, the pattern of contagion
suggests that the IMF cannot in the future deal with individual
country problems and must begin to consider the nature of global
financial markets in its operations. Because of the integration
of global currency markets, the days when the IMF could fly into
town and advise the devaluation of one country's currency without
effectively causing the devaluation of currencies of related
countries are probably long past. That an international crisis
could strike so deeply in a region of the world generally
considered to be economically healthy also shows the weaknesses
of international institutions, including the IMF, in dealing with
such crises in the new economic environment.

The Asian experience suggests two things. First, domestic
authorities' responsibilities in maintaining the soundness of
domestic financial systems becomes even more critical in a world
of integrated capital markets. Secondly, the search for ways to
improve the stability of currency parities and to improve
institutions, including the IMF, to deal with such types of
multi-country crises must become a key item on the international
agenda.

Dr. Manuel F Montes is a Senior Fellow at the Institute of
Southeast Asian Studies, Singapore.