1998/1999 Update: The Asian Crisis Goes Global
By Roman Terrill
In the months after the E-Book's debut in April of 1998, the Asian financial crisis (i) devastated Indonesia economically and led to the political demise of the Suharto regime, (ii) spread to Russia and crippled its fledgling market economy, and (iii) pressured the Brazilian government to abandon its pegged exchanged rate, and as a result destabilized the economies of Latin America. The unmistakably global reach of what started as a regional crisis brings us back to the fundamental question posed throughout the E-Book: Do policies promoting liberalized, open economies and financial systems always make sense in the short and perhaps even long term?
Those who would answer yes, namely the IMF and other major players in the global financial system, would undoubtedly point to the resilience of the United States' economy during the crisis of last year. The U.S. economy has been seemingly impervious to the turmoil around the globe, growing at rates that exceeded almost all analysts' expectations. Supporters of the IMF would argue that this strength is grounded in the U.S. commitment to a liberalized, open economy, its sound monetary policy, and its recent fiscal discipline - the very economic blueprint the IMF promotes around the world.
Proponents of the IMF would also argue that the countries hardest hit by the financial crisis are emerging with better economies and improved long-term prospects for growth. This viewpoint is strengthened by signs in Asia and Latin America of economic recovery and by the major liberalizing reforms adopted in several affected countries. These reforms, IMF supporters would argue, are evidence that domestic reform, not fundamental reorganization of the global financial system, is the best way of avoiding financial crises.
Those who would answer no to the question posed above - the several and varied critics of the IMF - would respond that many of the countries that followed the IMF's advice and attempted to join the global financial community have suffered terribly as a result. Several Asian and Latin American countries endured the IMF's painful economic reforms and liberalization with the expectation that their longer-term prospects would improve. Nevertheless, despite significant liberalizations, forces beyond their control devastated their economies, perhaps because they liberalized too much. To the extent there have been "improvements" in economic and regulatory systems, critics would suggest the changes benefit the most powerful actors in the global financial system. For the unemployed Korean steelworker, the Russian pensioner whose already meager stipend lost 80% of its value, and the Malaysian street vendor whose imported wares have become too expensive to buy, the crisis is an ongoing tragedy.
The IMF seems unwavering in its belief that global financial liberalization is an inherent benefit to the developing world. Its sister institution, the World Bank, seems less convinced however, and has openly criticized the IMF's policies. Keep the question we've posed above in mind, as we review the events of 1998-1999 relating to the crisis.
A. IMF-Dictated Fuel and Food Price Increases Ignited a Grass-Roots Firestorm in Indonesia That Ruined Indonesia's Economy and Helped Topple Suharto
During the night of May 15, 1998, riots broke out in the streets of Jakarta, plunging Indonesia into political chaos. Press reports put the death toll from the night of unrest at 170. Then President Suharto cut short a visit to Egypt to return to Jakarta, where immediately upon his arrival, he announced the cancellation of two decrees that had increased prices on fuel and electricity, and that were blamed for instigating the riots. Despite these repeals and other desperate efforts to control the rioting and nationwide protests, the movement to oust Suharto became irrepressible. On May 21, President Suharto announced his resignation after the week long uprising had left nearly 500 people dead in Jakarta alone. Vice President B.J. Habibie then assumed control.
The demise of the Suharto regime has numerous potential sources ranging from financial instability, to rampant corruption within the regime, to deep-seeded ethnic and religious tensions. While several of these factors predate the founding of the IMF itself, the role of the IMF in bringing down the Suharto regime cannot be discounted. The two decrees Suharto repealed were part of the IMF reform program, and the riots they spawned may have been quite predictable.
The IMF-sponsored program for Indonesia went through several revisions from January through May of 1998, as Suharto wavered on implementing different embodiments of the plan. When the IMF and Indonesia agreed on a third version of the loan package on May 4, the IMF held a press conference to report the success. The first question and answer, involving the First Deputy Managing Director of the IMF, Stanley Fischer, went as follows:
QUESTION: Indonesia today announced that they were going to raise their fuel prices, sparking concerns that this would lead to riots, hurt the poor. What sort of provisions, if any, are you taking to protect those people who might get hurt, given the taking away of the subsidies?
MR. FISCHER: Let me say this about the cuts in subsidies. The way that they are structured is designed to deal with their impact on different strata of society. The highest price increases here, 70 percent, are for gasoline, which is we believe most relevant to high-income people. The lowest increase is for kerosene, which is the cooking fuel of the poor and that has a 25 percent price increase. So that within the structure of these price increases, there is a very definite and important attempt to cushion the impact on the poorest people. I believe, Mr. Neiss, there's another detail on the types of fuel. Can you fill in that detail?
MR. NEISS: As Mr. Fischer said most of the increase and most of the budgetary revenue gain comes from gasoline. The next most important type of fuel is called solar oil, which is important for transportation costs. That has an increase of around 60 percent. It is mainly the reduction in the increases for kerosene that is meant to mitigate the social impact. Earlier, when food prices were raised, there was no increase in the price of rice. Food prices on other items, like wheat flour, were raised, but the rice price was kept stable. Again, this was an attempt to mitigate the impact on the poorest sections of the society.
Eleven days later the "attempt to mitigate the impact on the poorest sections of society," proved to be a profound and unmitigated failure. The poor, student groups and other groups in Indonesian society were rioting in the streets of Jakarta, just as the first questioner predicted they might when the subsidies were lifted. The Suharto regime may still have crumbled even without the decrees. Nevertheless, the IMF's ability to forecast public reaction to austerity measures should be questioned. The IMF's disastrous decision to close banks early in the crisis and its clearly misguided advice on fuel and food subsidies contributed in no small part to the collapse of the Suharto regime.
The most visible result of the global financial crisis on Indonesia was the demise of the Suharto government and the move towards more democratic governance (including efforts to resolve the problems of East Timor) and transparency. Still, the transition created an atmosphere of panic that fueled long-standing tensions between the majority Indonesian population and the ethnic Chinese minority. Widespread violence against the ethnic Chinese, including the destruction of businesses and homes, and even rape and murder, were reported throughout Indonesia. The ethnic Chinese had been the frequent targets of violence, owing in large part to their financial success and influence in Indonesia, viewed by other Indonesians as the result of the historical collusion among the Chinese with the Dutch colonial powers. Reports of ethnic violence continued well into the new Habibie regime.
Nevertheless, despite the IMF's dubious record in Suharto's Indonesia, the Habibie regime wasted little time in returning to the IMF for renewed assistance. By June 24, 1998, a revised IMF program for Indonesia had been adopted, indicating that the IMF remained a vital source of life-sustaining capital. Taken as a whole then, the experience of Indonesia might suggest a third response to the question posed at the beginning of this section - the IMF's policies may not always make sense, but what other choice do desperate countries have? To that question one might suggest the approach of Malaysia.
B. Malaysia Tried to Close Its Financial System's Doors to "Hot Money" by Imposing Capital Controls
In a Fortune Magazine article published in the midst of the global financial crisis, world-renowned economist Paul Krugman suggested that one solution to the crisis was the implementation of temporary capital controls. Krugman was by this time famous for his view that the entire Asian economic model was flawed, arguing that the tremendous economic growth in the region prior to the crisis was fueled by "excessive capital inputs." In layman's terms, Krugman was suggesting that Asian economies had accumulated so much savings and attracted so much foreign capital, that their economic growth was fueled more by the sheer volume of investment in their economies, rather than by the productivity of those individual investments. Capital controls, Krugman argued, would (i) help reinforce the idea that capital inflows were not the solution to Asia's woes, and (ii) provide a buffer against the instability short-term capital inflows can sometimes cause.
Almost immediately thereafter, Malaysian President Mohammed Mahathir, a vocal critic of the global financial system and its players (in particular, international speculator George Soros), announced a complex and fairly comprehensive system of capital controls. The system was designed to tax foreign capital exiting the country at increasingly higher rates depending on the brevity of its stay within the Malaysian financial system. Krugman, who was admittedly stunned that Mahathir would follow his advice, then submitted to Fortune Magazine an open letter to the Prime Minister, explaining in greater detail what he "really meant" by advocating capital controls. He urged Mahathir to view capital controls as a short-term, stopgap measure and not as a substitute for liberalizing reforms.
Despite Krugman's qualified blessing, the decision to impose capital controls was greeted with great consternation among market analysts and political leaders worldwide. A Washington Post article claims that U.S. Treasury Department officials privately voiced hope the controls would damage the Malaysian economy further, so as to dissuade other countries in the region and around the world from adopting Mahathir's approach, which was a direct challenge to the IMF approach. Mahathir refused to implement the austerity program of high interest rates and budget cuts, and instead opted for a stimulus package. Fearing that investors would flee Malaysia and its "unorthodox" economic plan, Mahathir essentially prohibited foreign money from leaving the country for one year. He fixed the value of the ringgit to the dollar and effectively barred trading in the currency. Mahathir was accused of making Malaysia an "international pariah," and observers predicted economic doom as a consequence.
Those predictions did not materialize. Malaysia was poised to enjoy higher growth in 1999 than both Indonesia and Thailand, each of which implemented IMF-sponsored plans. Michel Camdessus, Managing Director of the IMF, was convinced to say in a television interview, "I praise the way in which Malaysia has been able to adopt a soft system of controls." The reference to a "soft system" was in regards to changes made to the regime that improved investor confidence in Malaysia. The prohibition on the withdrawal on certain foreign capital was converted into a simple, albeit hefty, tax. Nevertheless, despite this easing of the capital controls, the Malaysian policy stood as an example of an alternative to the liberalization approach favored by the IMF.
C. Russia Became the Next Victim of Financial Contagion, Erasing Whatever Gains Had Been Achieved in the Post-Soviet Period
Throughout 1997 and early 1998, as the crisis swept through Asia, the Russian economy remained the darling of emerging market managers. Its stock market was booming, as global investors poured money into a financial system as new as it was loosely regulated. In the summer months of 1998, it became apparent, however, that the new regime of Prime Minister Sergei Kiriyenko was struggling to maintain a managed exchange rate of roughly 6 rubles to 1 dollar. The perceived similarities between the systemic weaknesses of Russia and Asia became especially stark to investors who had very recently paid dearly for staying "too long" in Asian investments.
In Asia, investors suffered mightily from investments in economies with unsustainable pegged exchange rates, curiously regulated financial systems and banks, and stock market bubbles on the verge of bursting. By mid-1998, the global investment community became convinced that the Russian economy suffered from these weaknesses. Fearing a repeat of their Asian losses in Russia, foreign investors began a steady withdrawal of their capital from the Russian economy, and, in a replay of the Asian crisis, the Russian Central Bank's foreign reserves began to dwindle as a result.
In July of 1998, the IMF announced a major package of loans to Russia from it and the World Bank, totaling over $22 billion. The loans were designed to reassure investors that Russia would have the necessary access to foreign currency to ensure the stability of the managed float of the ruble and the integrity of financial system as a whole. Indeed, it appeared to have the opposite effect. Despite the loan package and the pro-market administration of Prime Minister Kiriyenko, the international investment community lost faith in Russia and rushed for the exits.
In only seven days in August the Russian stock market lost 25% of its value. Short-term interest rates on government bonds were raised to 300%, but still few were persuaded to buy. On August 15, 1998, the Russian Central Bank was left with less than $2 billion in hard currency and suspended its support for the ruble, allowing it to float against the dollar. The effective devaluation of the ruble led to an even more massive flight of Western capital from Russia's stock and bond markets, and has left the Russian economy in ruins. The government froze payments on the bonds it issued to keep itself afloat, and has been negotiating a repayment program with bond holders ever since to avoid default.
The Russian government concluded a renewed loan package with the IMF, which insisted on its usual package of structural reforms as assurances that the money will be paid back. The Communist dominated Parliament was, however, very reluctant to make further cuts in the federal budget on the advice (demand) of the IMF - an institution it openly blamed for the misery of ordinary Russians at that time. In fact, the once fledgling middle-class in Russia evaporated, the majority of banks became technically insolvent, and the economy ground to a standstill. Foreign banks that purchased Russian government securities were offered only a fraction of their initial investment. Russia, once preparing to join the global financial community, was essentially borrowing money to make payments on borrowed money, to prevent its outright default on IMF and other sovereign loans.
It is important to remember that the origins of Russia's economic and financial crisis go back much further than the turmoil that began in Thailand in 1997, or the collapse of the Soviet Union in 1991. Russia has a one thousand-year history of authoritarian political and economic control, and prior to 1991, two generations of socialist economic organization. Converting a socialist economy into a modern capitalist economy was a Herculean task. This unique history would seem to preclude equating Russia's problems with the problems of other, clearly distinct countries. Surely the failure of capitalism in Russia would not be cause to assume that the same fate would or should befall a country like Brazil. Or would it?
D. The Global Financial Crisis Spread from Russia to Latin America; the Brazilian Domino Fell
The failure of the IMF package to salvage the Russian economy sent shock waves through the international capital markets, which then hit Latin America. The concept of contagion was on vivid display in perhaps its most logic-defying form. The precise similarities between the economies of Latin America and Russia at that time were difficult to identify. The profound differences were, on the other hand, hard to mistake. Brazil's economy was much bigger than Russia's; it was more likely to benefit from low-oil prices than to suffer as Russia had, and it enjoyed steady political leadership that was committed to avoiding inflation and market reforms. Nevertheless, two weeks after the implosion of the Russian economy, the crisis east of Poland caused massive stock market contractions in Latin America. The region responded with hikes in interest rates to encourage foreign investors to remain. The financial turbulence led the foreign investment community to view the Brazilian real-dollar fixed rate as the next pegged exchange rate likely to fall.
Determined to prevent the contagion from causing another full-blown crisis, policymakers began negotiations almost immediately on an IMF-sponsored loan package to Brazil. The deal did not occur automatically, though. The United States, which was to contribute almost $5 billion of its own money, was just two months ahead of an election. Moreover, the failure of the IMF package in Russia had made IMF plans a politically sensitive issue. However, the collapse and bailout of a highly respected hedge fund, Long-Term Capital Management, had increased fears in the investment community that more failures due to "emerging market exposure" were imminent. Pressure to respond to the global crisis before it spread to the United States grew. On November 13, 1998, a week after the U.S. election, the IMF announced a $41.5 billion dollar aid package for Brazil.
The principal aim of the loan package was to restore the immediate confidence of the investment community that the real-dollar peg was stable and could be maintained. The IMF package was conditioned on fiscal and monetary austerity measures to cure the perceived ills of the economy, namely, large budget deficits and the corresponding accumulated government debt. The investment community, and indeed Brazilians themselves, were not convinced, however, and instead seemed to greet IMF support for a pegged exchange rate as clear evidence that the peg was not sustainable. By January 16, 1999, with its foreign reserves dwindling in the face of speculative attacks, the Brazilian government abandoned the real-dollar peg. The resulting float led to a thirty-percent drop in the value of the real.
At this point, Brazilians faced an uncertain future. The turmoil that started in Thailand, swept through Asia and Russia, and then bounced across the planet to Brazil reintroduced the specter of inflation to a country that spent an entire decade stamping it out. Standards of living plummeted as the purchasing power of the real made imports largely unaffordable. On the other hand, agricultural and manufacturing exports to the United States increased as the dollar purchased more real than it had in years. Brazil's economy and stock market stabilized later in 1999, and the IMF predicted growth of 4% in the year 2000.
In a final irony that only the global financial system could produce, Brazilian unions and manufacturers finally got the government to "cooperate" with their calls for the end to the real-dollar peg, making their products more competitive on the world market. The regime of then-President Fernando Henrique Cardoso had resisted these calls, arguing that a stable exchange rate would attract more foreign capital and lead to greater prosperity. The fact is that the stable exchange rate did attract foreign capital. However, when the foreign capital abruptly fled the country and the economy, the resulting collapse of the real-dollar peg gave the manufacturers and unions the competitive real rate they had wanted all along.
E. Returning to the Origin of the Crisis One Year Later: Korea and Thailand as Evidence of Renaissance or Regression?
1. Korea's Early Recovery Was Seen as Threatening Either the Korean Economy or the IMF's Credibility.
The E-Book gives special attention to the IMF's plan for rescuing the Korean economy from the disastrous collapse of the won in 1997 in Part 3, Section IV. The sheer size and scope of the deal - nearly $60 billion dollars - made it the IMF's single largest country-plan to date. And if macroeconomic indicators are the measure of a plan's performance, the deal seemed to be an early success. From June of 1998 to January of 1999, the Korean stock market doubled in value. The won recovered 60% of its value against the dollar in the same period, and Korea posted a 12.3% increase in industrial production in the first quarter of 1999. Many said these numbers proved the IMF approach was working. But one of the primary lessons of the global financial crisis is that statistical macroeconomic success can often belie fundamental economic weakness. What lies beneath these impressive figures?
The emerging reality in Korea was that while the macroeconomic austerity measures - higher interest rates, reduced government spending, a steep decline in imports because of the devalued won - were introduced, the micro-level restructuring of the chaebols stalled. These large, family-run conglomerates continued to rule over massive economic empires, which remained dependent on their networks of banks and corporate partners to remain functionally solvent. Non-performing debt levels among these corporate groups and their financial partners remained high and could have required a massive financial bailout, which would dwarf, in relative terms, the U.S. Savings & Loan bailout. This dichotomy of success on one hand and failure on the other is fairly simple to understand - macroeconomic reforms were implemented administratively where little political resistance could be mustered, whereas the corporate restructuring had to occur legislatively, where political forces posed considerable opposition.
Korea performed well in 1998-1999 primarily because the cash infusion, made available by the IMF, delayed debt payments to foreign creditors and because the painful economic sacrifices included in the austerity plan restored some level of credibility to the Korean economy. But the IMF had much more at stake in Korea than "a return to normalcy." The IMF's 1997 plan called for a fundamental restructuring of the Korean chaebols, its labor markets, and its financial system.
Recall that these alleged structural problems of the Korean economy, and not the sometimes erratic and unpredictable behavior of global financial markets, were blamed by the IMF for the collapse of the Korean economy in 1997. If the chaebols had survived, the IMF would have had to organize a massive multi-billion dollar global bailout of a small group of corporate conglomerates that had been accused of serious financial mismanagement and in some cases outright corruption and fraud. If the chaebols survived and Korea continued to thrive, then the IMF would have had to explain how the unaltered "source" of the problem could somehow also have been an integral part of the solution.
2. In Thailand, Reforms Took Hold, Inspiring Prospects for Future Growth and Debates About the Wisdom of Austerity Measures.
Following the devaluation of the baht in July of 1997, the Thai economy became mired in a severe recession. At the depths of the crisis, investment and domestic demand simply collapsed, with GDP falling an enormous 8% in 1998. Overall, every economic indicator in Thailand was down in 1998, ranging from increased corporate bankruptcies, to stagnant construction, to increased unemployment. By the end of 1998, the World Bank estimated that nearly 1 million Thais were pushed below the poverty line as a consequence of the financial crisis.
There were, however, encouraging signs that the worst of the crisis was already behind Thailand, and that future prospects may have improved as a result of the crisis. Foreign affairs columnist Thomas Friedman traveled back to Thailand a year after visiting the country during the depths of the crisis. He reported in an editorial for the New York Times that at least some people in Thailand viewed the crisis as something of a painful blessing. The comments of Kavi Chongkittavron, an editor of a Thai newspaper, were particularly interesting:
"We do not see the IMF as the enemy, we see it as a baton forcing us to change our society in some very radical ways, which never could have been done within the traditional Thai framework, or at least could not have been done so quickly. If you look at the political changes over the past 18 months, what has happened in Thailand is a miracle. In the 1860's Thailand was forced open by the British, who wanted to colonize us, and that external pressure was used to modernize Thailand. Today the external forces of globalization are being used to push democratization."
Indeed Thailand did pass a new, more democratic Constitution in September of 1997, as well as a variety of economic reforms generally encouraging greater transparency and providing for a bankruptcy system. The bankruptcy system and the laws against insider dealing were designed to end the practice of the state sustaining insolvent companies indefinitely, usually for political motivations.
However, it is interesting to note that while the IMF and World Bank predicted growth for Thailand in the aftermath of the financial crisis, they did so for very different reasons. The IMF argued that Thailand would enjoy growth of about .5% in 1999, having ended the ultimately unsustainable baht–dollar peg, and having followed the IMF plan of fiscal and monetary constraint (lowered government spending and increased interest rates) and structural adjustment. The World Bank estimate for growth in Thailand was nearly identical, about .7%. But the World Bank claimed the growth would be the result of very different factors, namely, "a fiscal stimulus package, lower interest rates, and exchange rate stability. The effect of augmented deficit spending, increasingly supportive monetary policy, and overall macroeconomic stability are likely to trigger very modest positive growth this year."
F. In 1999, the IMF and the World Bank Publicly Split Over the Causes and Remedies of Future Financial Crises
In the aftermath of the global financial crises, the World Bank and the IMF, often referred to as sister institutions, publicly questioned each other's viewpoints on the wisdom of their "orthodox" responses to financial crises.
In 1999, the IMF conceded that certain criticisms of its program implementation were valid. For instance, the sharp and immediate spike in interest rates was perhaps excessive at times. Still, the Fund asserted the overall formula of conditioning financial support on monetary and fiscal austerity and structural reforms to improve transparency and market operation remained fundamentally sound.
The World Bank criticized the Fund's approach, and in particular its standard call for increased interest rates to combat inflation and attract investment. Why, the World Bank asked in its 1999 Annual Report, would investors have more confidence in an economy and be more willing to invest in it if the country increased interest rates so drastically that the macro-effect on the economy would be recessionary? The answer, it asserted, is that they would not invest in such a country. Other countries' experiences supported the Bank's position: in Asia, Russia, and Brazil, investors withdrew from those countries.
In 1999, The World Bank and the IMF also differed on the appropriate timing of increased financial liberalization in the developing world. The World Bank identified the IMF's pressure to increase global financial liberalization and the resulting flow of capital to a developing world unprepared to regulate it or react to its effects, as itself a principal cause of the crisis. In nearly every country where the crisis ran its course, dramatic increases in short-term foreign debt, made possible because of financial liberalization, were tagged as primary causes of the collapse of liquidity and the crisis of confidence that followed.
The IMF's response was that the unsustainable short-term debt levels were the result of systemic weaknesses, generally the lack of transparency that resulted in distorted debt levels. From the IMF's point of view, capital inflow was not the problem, so much as the lack of transparency and the distorted information it produced that attracted the capital to the country in the first place.
The 1999 debate between the IMF and the World Bank about the causes and remedies of these crises is meaningful, but their differences can be overstated. The World Bank encouraged development of a global system that promoted private-to-private orderly debt workouts. The World Bank also encouraged the development of bankruptcy systems in developing countries, which would lead to the efficient dissolution of insolvent corporations and a halt to the harmful practice of sustaining these entities on credits from banks or the state. The Bank argued that while liberalization of an economy should occur, it should follow and not precede the development of an appropriate legal and regulatory infrastructure. These are all important differences, but they do not represent a fundamental philosophical departure from the IMF model. In other words, while the World Bank might have disagreed with her sister institution, the family resemblance was still fairly evident.
G. In the Aftermath of the Crisis, Proposals for the "Reform of the Global Financial Architecture" Abounded, but the Trend Towards Fine-Tuning Rather than Launching Major Overhauls of Pre-Crisis Financial Systems Prevailed
As noted in the immediately preceding section of the E-Book, the crisis gave rise to many proposals to modify or significantly alter the international financial architecture.
1. Many Reform Proposals Were Made but not Implemented.
Several governments floated their own ideas for reform during 1998-1999. For instance, the French government proposed that the IMF transform its Interim Committee, which advised the Board of Governors on the functioning of the international monetary system, into a permanent council with decision-making authority. The British government suggested bringing together the IMF, the World Bank, the Basle Committee, and other groups into a Standing Committee for Global Financial Regulation, which would establish and implement standards for international financial regulations. A Canadian proposal would have individual countries enact an "Emergency Standstill Clause," which could be activated (with IMF approval) to stop the flight of short-term capital in crisis situations.
Various individuals also proposed architectural changes, ranging from exchange rate systems to the creation of new institutions. Fred Bergsten, for example, advocated the use of "target zones" to prevent excessive swings in exchange rates. George Soros called for an international financial credit and insurance agency to rate and then financially back loans to developing countries. Jeffrey Garten pushed for a global central bank. Henry Kaufman promoted the creation of an international institution run by investment professionals that would oversee financial markets and institutions. Several academics argued for the creation of an international bankruptcy court. Still others suggested replacing the IMF with other institutions that would carefully control multilateral lending to countries experiencing a crisis and provide the markets with more information about a country's financial condition. Barry Eichengreen took a middle-of-the-road approach, avoiding radical proposals to reconfigure the IMF and instead arguing for international financial standards, capital-inflow taxes for developing countries, and modification of loan agreements to encourage the private sector to share the burden of a crisis.
For the most part, these proposals and others of similar ilk (such as the Tobin Tax) were not been implemented. Instead, policymakers generally agreed upon the importance of enhancing transparency and accountability, strengthening national financial systems, and managing international financial crises, three themes addressed at length in a series of reports issued in October of 1998 by the G-22, summaries of which are posted in the Center's Hot Docs feature. This is not to say, however, that nothing was implemented since the E-Book's debut in 1998.
2. Various Relatively Modest Measures Were Implemented to Address Clearly Identified Problems Associated with Contagion.
In June of 1999, the finance ministers of the G-7 (United States, Germany, France, Italy, Japan, Great Britain, and Canada) issued a report entitled, "Strengthening the International Financial Architecture." As the title suggests, no radical restructuring of the international financial system was in the offing. Nevertheless, the report addressed initiatives that have been implemented in response to the Asian financial crisis and its contagion. The measures focus on strengthening and reforming the international financial institutions and arrangements; promoting enhanced transparency and disclosure; developing macroeconomic policies and financial systems in emerging markets; improving crisis prevention and management, and involving the private sector; and promoting social policies to protect the poor and most vulnerable. Because the document is posted in Hot Docs, we will only briefly describe some of the developments here.
As for strengthening and reforming the international financial institutions and arrangements, in February of 1999 the G-7 created a special "Financial Stability Forum" charged with enhancing international cooperation and coordination in the area of financial market supervision and surveillance. The Forum met for the first time in April of 1999, and agreed to focus initially on three issues: the implications of highly leveraged institutions, off-shore centers, and short-term capital flows. As the name suggests, the Forum was primarily a vehicle for discussion among key policymakers (which will be expanded beyond the G-7 countries) designed to pool information and promote the development of international standards.
The G-7 gave institutional reform some recognition by agreeing to support the initiative to form a permanent council called the "International Financial and Monetary Committee." In accordance with the Fund's charter, the Committee's mandate would facilitate cooperation among member countries, especially in the area of macroeconomic and monetary issues. Deputy-level meetings of the new Committee would be held twice a year. The President of the World Bank would play a privileged role in the new Committee; the Chairman of the Financial Stability Forum would be given observer status. The Committee was officially established on September 30, 1999 by a resolution of the Interim Committee. The main functions of this Committee since its adoption have been to advise on and report to the Board of Governors on the Interim Committee regarding its supervision and management of the IMF system. It continues to review developments in global liquidity and the transfer of resources to developing countries. It has 26 members who are Governors of the IMF (usually ministers of finance or central bank governors), and its membership reflects the composition of the IMF's Executive Board.
With respect to promoting transparency and disclosure, the IMF Executive Board approved in March of 1999 an expansion of the Special Data Dissemination Standard (SDDS) to provide for a more comprehensive and timely disclosure of data on countries' international reserve positions, a major issue in each country that experienced contagion. Moreover, the Executive approved the IMF' s Code of Good Practices on Fiscal Transparency, and a draft Code of Good Practices on Transparency in Monetary and Financial Policies was published for comment. The Code was subsequently adopted and revised in 2001. Codes of good practices relating to the private sector had also been produced, such as the Basel Committee on Banking Supervision's Core Principles for Effective Banking Supervision. These were adopted in 1997, and since then, a 2006 version setting out twenty-five Core Principles has been presented.
Long criticized for its own lack of transparency, the IMF took steps to lift its cloak of secrecy, if modestly. It approved greater use of Public Information Notices to provide information on IMF policy issues as well as procedures for the release of Letters of Intent, Memoranda of Economic and Financial Policies, and Policy Framework Papers relating to IMF-supported programs. It also approved publication of the Chairman's statement following Board approval or review of members' programs, and a pilot project for the voluntary public release of Article IV staff reports.
With respect to crisis management, in April of 1999 the IMF's Executive Board established the Contingent Credit Lines (CCL), a short-term precautionary line of credit available against balance of payments problems that might arise from international financial contagion. The purpose of approving such financing for a member country was to indicate to investors that the Fund was confident in the member's economic policies, and in the member's ability to adjust them should contagion hit. The CCL differed in an important way from its related facility, the Supplemental Reserve Facility (SRF), established in 1997. The latter was used by member countries already in the throes of a crisis, whereas the CCL was to be a preventive measure intended solely for "pre-crisis" countries that, despite strong economic policies, were vulnerable to contagion because of adverse circumstances in the international capital markets. The CCL was discontinued for lack of use.
Importantly, the report committed the G-7 to the principle that private creditors will have to suffer the economic consequences of misguided investments and poor risk assessment in order for the global financial system to operate effectively. Given the complexities involved in "bailing in" private creditors - e.g., observing contractual obligations to pay debt versus the moral hazards associated with bailing out investors - the most the G-7 could do was propose a general framework of principles, considerations, and tools to address this issue. The suggested tools included avoiding preferential treatment to private creditors in relation to government creditors, IMF lending to countries that had fallen into arrears on their external debts (a practice the IMF began in the late 1980s in response to the tactics of private commercial banks), and imposing capital or exchange controls as part of payments suspensions or standstills, in conjunction with IMF support for their policies and programmes, to provide time for an orderly debt restructuring.
3. The IMF Turned From Rescuing Countries Mired in the Global Financial Crisis Toward Coordinated Debt Relief.
The IMF also took relatively modest but nevertheless notable steps to address future financial crises. For example, fresh off the spring meeting of the IMF/World Bank, Michel Camdessus, the Managing Director of the IMF, discussed the new challenges facing the beleaguered financial institutions. While noting several challenges related to the crisis that continue to face the Fund and Bank, he also commented that the two institutions should not forget their pre-crisis goal - stewarding ever-more countries into the existing or modestly reformed global financial system. In his statement, he cited as a goal "to remove, where needed, the overhang of debt that impedes better integration and inhibits growth."
The reference to an "overhang of debt" was a telling statement, largely because of its timing. The IMF had long recognized through its experience with Sub-Saharan Africa that the extraordinary debt levels of certain countries are a serious impediment to development. Since 1996, the IMF worked to address the issue of the deeply indebted countries through the Heavily Indebted Poor Countries (HIPC) initiative. The program was designed to coordinate debt relief with the adoption and implementation of an IMF-sponsored reform plan. Countries such as Mozambique, Uganda, and Bolivia received several billions of dollars in debt relief as a result of this program. The HIPC initiative is discussed further in Part IV.
Nevertheless, these countries were uninvolved for the most part in the recent financial crisis, as their economies were too isolated from the global financial system to be influenced by its violent swings. What has elevated a fairly modest program of the IMF/World Bank to the level of inclusion among the principal challenges facing the IMF in the wake of a global financial crisis?
It was probably no accident that Camdessus' statements and the G-7's communique offering substantial economic and philosophical support for an expansion of the HIPC program, came at about the same time a global, grass-roots movement led by Jubilee 2000 and other organizations, was urging much broader debt forgiveness in the millennial year. While the level of debt relief envisioned and embraced by the G-7/IMF initiatives was not as large as some had called for, the movement of these organizations on this issue revealed that even the most entrenched supporters of the existing global financial system were susceptible to organized, grass-roots political pressure. These external pressures, as well as the end of the acute stage of the recent financial crisis, seemed to persuade the IMF to turn its attention and resources toward some of the more neglected problems of the global financial system.
In the end, the aim of the E-Book is to facilitate grass-roots political action in favor of or in opposition to the work of international financial institutions. The movement of the G-7 and the IMF on debt relief should embolden readers around the world that concerted action by non-governmental organizations, community groups, and ordinary individuals can bring about change, even in the rarified air of global finance. The E-Book will continue to inform, to educate, and to provide a forum for its visitors to organize around the issues created by an increasingly interrelated global financial system.
Jane Ro, a UICIFD staff member, contributed to the 2007 update.
[OUTLINE] [PART 3:VI] [BIBLIOGRAPHY]
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