An AMF to drive out IMF from Asia? Likely a goal too far!

The idea of establishing an Asian Monetary Fund or AMF as an alternative to the International Monetary Fund or IMF was first mooted by Japan in 1997 at the height of the Asian Financial Crisis of 1997-98. But, the proposal got killed at its birth even before it could get a chance of being seriously studied by the concerned parties due to the obvious opposition by the US and the IMF itself.

According to the Stanford University academic, Phillip Lipscy, who published an article titled ‘Japan’s Asian Monetary Fund Proposal’ in Stanford Journal of East Asian Affairs in 2000, a fair amount of arm- twisting has been exercised by the US authorities on their Japanese counterparts to have the proposal shelved before it could have been taken up at a forum consisting of battered Asian leaders. However, a number of adverse developments in the global financial and economic landscape since then have prompted many outside the Washington circle, the symbol of global economic and political power, to pull out such proposals from their resting places and review their merit seriously. Accordingly, AMF is not alone today as a regional monetary fund challenging IMF. It has now been joined by at least two other regional monetary fund proposals: European Monetary Fund or EMF and Latin American Monetary Fund or LAMF.

Historical Setting

IMF, together with its sister organisation the World Bank, was created by the international community after the end of the World War II by an agreement signed in Bretton Woods in USA in 1944. The principal actors were the victors of the war, USA, the UK and France, while the Soviet Union kept itself away from this particular exercise. The original mandate of IMF was to provide member countries with financial assistance to overcome persistent balance of payments problems and take preventive measures on a continuous basis to avoid the onset of such problems. This role played by IMF was expected to create the ground conditions conducive for smooth exchange among nations and thereby help world nations to attain economic prosperity unabated and without disruption. To do its job properly, IMF was required to keep the exchange rates pertaining to currencies under continuous surveillance and ensure stability in the financial systems by advising member countries whenever it felt that there were threats of instability to local as well as global financial systems.

    Since USA played the key role in the formation of both IMF and the World Bank, stood to provide funding whenever they were faced with funding issues and undertook to function as the world’s central banker nation by agreeing to allow the free convertibility of the US Dollar to gold, the US Administration had a decisive voice in the management of both these institutions. Hence, the professional staff of IMF could not exercise an effective discipline on their benevolent master, though they were successful in doing so, to a great extent, in the case of other members. This facilitated the US Administration to make a free use of its newly acquired economic and financial power callously and irresponsibly leading to a breakdown of the international reserve currency system in early 1970s. I have discussed the details of this unfortunate episode in a previous article titled ‘The Gold Rush: are we seeing the end of paper money?’ in this series (available at: http://www.ft.lk/2011/04/25/the-gold-rush-are-we-seeing-the-end-of-paper-money/).

IMF is subject to attack by many

During its 67 year existence as a global watchdog and fund provider, IMF has been subject to attack by many on many counts.

One particular attack was levelled against it on the substantial powers wielded on its affairs by the world’s leading economies which were previously known as the Group of Seven or G-7. The countries that made up G-7 were USA, the UK, France, Germany, Japan, Canada and Italy. The governance structure in IMF (and also in the World Bank) was such that these countries had the first and the last say about IMF’s affairs. This was understandable because if IMF fell into trouble because of the profligacy or irresponsibility of other nations, it was this group of countries which had to come to its rescue and ensure a smooth exchange system in the global economy. Hence, they were the masters of the global economy and like in any good college, had powers to discipline the errant students. Though Japan was a member of G-7, its rising prominence in the world economy and especially in Asia was not matched by an equivalent ‘say’ in IMF’s governance structure. Hence, Japan was a dissatisfied sideliner waiting for an opportunity to fight back for its rights.  

But, the criticism was that the masters themselves did not behave properly and became the source of many a financial crisis which the world has witnessed in the last six decades. But, financial crises, like forest fires, spread quickly from one country to another engulfing the whole world and leaving scarred skeletons behind.

Another criticism against IMF was on its knowledge base and its ability to predict impending crises and take appropriate curative measures. One scathing critic of IMF (and also of the World Bank) was the Nobel Laureate Joseph E. Stiglitz who charged that both these institutions have been infested with economic fundamentalists who acted as if being oblivious to emerging ground realities. There is an element of truth in this charge because, IMF, being a conservative institution when it comes to choosing appropriate  fiscal, monetary and exchange rate policies, has acted in the past upholding fervently ‘one size fits all’ type of a dogma.

The third criticism against IMF has been on its harsh conditionality imposed on borrowers, especially the borrowers from the developing world. This is an area which has been most misunderstood by its member countries. IMF is a lender and like any wise lender, it is interested in protecting itself from default by its borrowers. IMF assistance is provided to its members to enable them to come out of chronic and persistent balance of payments crises. To do so, they are required to follow a coherent and holistic macroeconomic policy package. These policy packages are painful to borrowers because they require them to cut budget deficits through austerity programmes, undertake economic reforms, adjust exchange rates to reflect the country’s market conditions and desist from resorting to foreign commercial borrowings at high interest rates. These are good macroeconomic policy measures which a country should pursue voluntarily. Singapore which was not a member of IMF till late 1990s did so on its own. But the member countries which are fearful of violent backlashes by people think that IMF conditionality is an unwarranted interference in their internal matters.

The fourth criticism against IMF has been levelled on the ground that it is not flexible and cannot provide assistance to a member country swiftly and expeditiously. IMF is a bureaucratic organisation with its own systems, practices and procedures. They have been introduced in order to ensure free discussion of its financial plans, make informed decisions after perusing all the necessary information and adopt a consensual approach toward lending. They may be good in a peace time, but not in a crisis situation that threatens to spread across nations, like forest fires.

Alternative: establish regional monetary funds

The growing dissatisfaction about the performance of IMF has led member countries acting as regional groups to come up with proposals to establish their own regional monetary funds.

AMF has been one such instance. Phillip Lipscy has argued in his previously quoted article that the original AMF proposal was presented by Japan out of its dissatisfaction about how both US Administration and IMF approached the East Asian Financial Crisis of 1997-98. According to Lipscy, there were several points of contention that prompted Japan to be a rebel in the family.

First, Japan was closely linked to East Asia and preferred a quick resolution of the crisis by an adequate infusion of liquidity to the affected countries. But both IMF and US Administration preferred a small programme to ensure the long term sustainability of the remedy implemented. A quick liquidity infusion did not worry much about the underlying ‘moral hazard’ problem – a situation which does not encourage the affected countries to set up adequate mechanisms to avoid the recurrence of crises and get out of dependence on the liquidity support being afforded to them. But the support programme proposed by IMF and the US Administration tried to keep the moral hazard issue at the minimum level if it cannot be eliminated altogether.

Second, there was an ideological difference too, according to Lipscy. Both IMF and US Administration preferred free market economy liberalisation that required the countries receiving assistance to undertake long term economic reforms like making the central banks independent, trimming budgets of excess expenditures, reforming loss making public enterprises and liberalising exchange rates and balance of payments. They were integral parts of the proposed assistance programme. But, Japan preferred introducing greater regulatory measures such as controlling capital accounts and stricter oversight of the financial systems.

Third, Japan was unhappy about the US domination of the IMF. This did not matter much in 1944 when IMF was established because the US was the victor and Japan was a battered loser. But, Japan emerging as a powerful economic power by 1990s, did wish to have its position recognised well in international forums. The remedy was the establishment of Asia’s own monetary fund of which Japan would be the uncontested leader.

Accordingly, Japan came up with a proposal for the establishment of an AMF which had to be aborted faster than it had been presented.

The rebirth of AMF proposal

Though arm-twisting and vehement on the spot opposition forced the shelving of the original AMF proposal, it could not be kept in suppressed form for long.

During the last four year period, the idea of establishing an AMF was taken up again by ASEAN + 3, that is, permanent ASEAN member countries plus China, Japan and South Korea.

Pradumna B. Rana, an academic at Singapore’s Nanyang Technological University has argued in an article titled ‘Asian Monetary Fund: Getting Nearer – Analysis’ that two important steps taken recently have paved the way for the eventual establishment of an AMF for the ASEAN region (available at: http://www.eurasiareview.com/asian-monetary-fund-getting-nearer-analysis-18052011/?utm_source=feedburner&utm_medium=email&utm_campaign=Feed%3A+eurasiareview%2FVsnE+%28Eurasia+Review%29).The first is the formation of the ASEAN Macroeconomic Reform Office or AMRO. The second is an initiative taken by ASEAN + 3 at a meeting at Chiang Mai in Thailand which is now known as Chiang Mai Initiative Multilateralisation or CMIM.

Obviously, AMRO being a research body belonging to ASEAN+3, could undertake the ground-breaking research on the formation of AMF and come up with a blueprint of its governance structure and procedures, including its market sustainability. CMIM, on the other hand, is a practical initiative and has elevated the previous bilateral foreign reserve support mechanism among ASEAN members to a multilateral one. In the previous one, members could approach each other individually for support in case of a grave need of foreign reserves and the success depended on the consent of the two parties. This was further upgraded in the new mechanism by establishing a crisis fund of substantial size so that the member countries could draw funds on a multilateral basis simultaneously in case of a shortage of foreign reserves.

ASEAN Crisis Fund

The crisis fund was set up in March 2010 with a total size of US $ 120 billion subscribed by ASEAN+3 members according to the size of their economies. So, Japan and China have contributed $ 38.4 billion each and South Korea, $ 19.2 billion. The rest of the ASEAN countries contributed the balance $ 24 billion with Singapore, Malaysia, Indonesia and Thailand contributing a bigger proportion of $ 4.77 billion each.

The beauty of the fund is its flexibility and swiftness of support. While the three large contributors could draw up to what they have contributed, the other ASEAN members could draw two and a half times of their contribution in case of a shortage of foreign reserves for undertaking smooth foreign transactions. This would, while ensuring availability of reserves, avoid the necessity for undertaking costly economic reforms that are needed to bring about a long term sustainability of the respective economies. This is in fact, in my view, the worst feature of the new arrangement.

Short term expedience in place of long term soundness

The ASEAN crisis fund will help member countries to overcome short term shortages of foreign reserves without going for IMF type bail outs. Hence, the fund is like the availability of a temporary overdraft limit to a business to tide over a temporary gap in its cash flow. It will certainly help the business to carry the day without a major problem, but if its problems are chronic and structurally deep rooted, it will not help the business to sustain itself in the long run. This has been the experience with many countries like the ones in the recent debt crises in Europe involving Greece, Portugal, Spain and Ireland. They had allowed the problems to compound without taking early preventive measures. The final outcome has been most painful, bitter and unpalatable. Knowing this indigestible reality, David Cameron’s minority government in the UK has taken a bold step of pruning its luxurious extravagance in the past which in my view is a choice of the reverse order, that is, ‘choosing long term soundness in place of short term political expedience’.

The countries in ASEAN cannot be expected to be as long sighted as the present UK government. Hence, the current move, despite its good intentions will corrupt the regional governments by permitting moral hazard issues to creep in. When situations go out of control and no quick solutions in sight, the adjustments needed may be massive requiring IMF type bail outs.

Hence, AMF, though it may bolster the rising Asian ego, is not an alternative to IMF. In my view, it is likely a goal too far in sight of ASEAN+3 nations.

(W.A. Wijewardena can be reached at [email protected])