http://news-info.wustl.edu/opeds/opeds98/DFelixJune98.html
June 1998
David Felix is Emeritus Professor of Economics at Washington University in St. Louis.
IS THE DEEPENING ASIAN CRISIS THE FAULT OF JAPAN OR THE IMF? by David Felix
Media pundits and their mentors from Wall Street and Washington who dump on Japan for not cutting back savings, increasing the fiscal deficit and bailing out its banks, are focusing on only Act III of the ongoing Asian drama, while conveniently ignoring the first two. Act I saw the rejection by the IMF and Washington of Japan's proposal, made early in the crisis, for a revolving $100 billion Asian Monetary Fund to stabilize the East Asian exchange rates against the speculative attacks then under way. In Act II the IMF took full control of the crisis management and transformed a confinable crisis into a catastrophe of global reach. Now in Act III, Washington and the IMF desperately pressure Japan to adopt ultra-Keynesian expansionary measures to contain the catastrophe. It remains to be seen whether Acts IV and beyond will describe a spread of the catastrophe to Eastern Europe and Latin America, or a Washington-IMF epiphany, reorienting the strategy from promoting to containing the freedom of the globalized financial markets to destroy economies.
Japan proposed the AMF in August, 1997. Japan, China, Taiwan, Hong Kong and Singapore were to contribute most of the $100 billion and the weaker East Asians the rest. All the designated countries quickly signed on. Since the East Asian currencies were not yet in free fall, it is likely that the AMF would have deterred the currency runs, allowing the countries time to reform their banking systems and moderate cost in output and employment, and to reallocate production toward exports and import substitutes. We'll never know for sure, however, since fierce opposition from the IMF and the U.S., charging that the AMF's term would be too lenient, forced Japan to withdraw the proposal.
Act II. The IMF, which had been urging the Asians to decontrol their financial markets while issuing glowing evaluations of their economic progress, abruptly shifted to explaining currency runs as the disciplining by global financial markets of the Asians for grossly mismanaging their economies. It offered credits totaling some $130 billion to the hardest hit of the countries, contingent on their carrying out an IMF program designed to regain the confidence of the financial markets and reverse the capital outflows.
This program required the government to guarantee the foreign debts of local banks and corporations, avoid capital or import controls, and instead stabilize the exchange rate by monetary-fiscal tightening. Protected from default, foreign creditor banks hung tough on rolling over their short-term Asian loans. This exacerbated the hard currency squeeze on local debtors, causing them to rush to buy foreign exchange to cover their increased dollar needs. The exchange rate went into a free fall despite the IMF credits. To halt the fall, central banks, as required, tightened domestic credit. Interest rates skyrocketed, setting off a wave of loan defaults, bankruptcies, plant closures and layoffs. Bad loans, collapsing asset prices and exploding hard currency liabilities rendered most of the banking system insolvent. Shrinking tax revenue and the rising cost of servicing the government debt thwarted efforts to reduce the fiscal deficit. Depreciating exchange rates and skyrocketing interest rates pushed up the price level, depressing real wages. But despite the falling wages and a depreciating exchange rate, a systemic credit crunch denied surviving firms the short-term credit they needed to expand production for export. Faced with disintegrating economies and rising social tensions, the IMF began to offer its credits on more lenient terms, which provided marginal relief, but failed to reassure the financial markets. Act II ended with the flight of financial capital spreading to Eastern Europe and Latin America, and market hotshots pleading in unison for a massive new injection of IMF and G-7 bailout funds.
The catastrophic IMF programs violated the theoretical premise underpinning the IMF-Washington faith in the value of financial market disciplining. This is the premise that financial markets are efficient in that they correctly assess expected returns and risks in pricing assets. If true, it would mean that the terms on which the foreign creditors had lent to the Asian private sector prior to the crisis already incorporated an adequate risk premium to cover default and other lending risks. In requiring Asian governments also to guarantee full payment of private foreign debts and to squeeze their economies in order to make good the guaranties , the IMF was converting the risk premia into riskless extra payoffs to foreign creditors at additional cost to the debtor economies.
The efficiency premise has, however, neither theoretical nor empirical support. Indeed, the Bretton Woods Articles of Agreement, still the IMF's charter, were designed on the alternative premise that the attainment of free trade, stable exchange rates, and full employment requires restricting the international mobility of financial capital. The designers of Bretton Woods arrived at that premise after observing the disastrous interwar experience with destabilizing financial flows. The IMF, which has been egregiously violating Article 6 of its charter authorizing the use of capital controls, and Washington which supports that violation, need to act on the Bretton Woods Premise to avoid plunging the world economy into a full repeat of interwar experience.
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And check out the info at:
http://www.faqs.org/faqs/japan/economy/
Posted by Charles Jannuzi