How Asia Should Respond to the Financial Crisis
Asia is being hit by a financial tsunami that is not of its doing but which will hurt it all the same. Unlike the Asian crisis of 1997, which was caused by poor macroeconomic policies and weak financial systems in the region, this time most Asian countries are being affected despite strong macroeconomic fundamentals and sound banks and corporations. Regional growth will decline in 2008 and 2009 by as much as 2 to 3 percentage points, hurting many businesses and millions of people whose lost jobs will send them back into poverty.
This is bad news because of the good news that preceded the crisis. In the past decade, Asia was able to lift some 300 million people out of extreme poverty. And it had brought its economic house in order. All this is now under threat from the current crisis. The turmoil has the potential to become a social disaster and increase political tensions.
Priorities for a Recovery
There are three immediate needs for Asia: first, to have an Asian monetary facility which builds on the bilateral swap arrangements of the Chiang Mai initiative (launched by Asian nations during the crisis a decade ago) and whose establishment will help stabilize markets and ease pressure on exchange rates. Second, Asia needs better coordination on financial and trade policies in Asia and more intra-Asia trade. Finally, Asian nations need to boost demand in 2009 and strengthen targeted programs to help the poorest and neediest.
While the trench will not be as deep as the crisis that the region suffered during 1997-99, neither will the recovery be as straightforward. What's needed is a new, domestic, demand-led recovery, instead of the old reliance on an export-led recovery. China's $580 billion stimulus package for infrastructure and social spending is a strong step in that direction. East Asian countries, which generally have low fiscal deficits, could follow the Chinese example of a fiscal stimulus package to boost domestic demand. On the other hand, South Asian countries, such as India and Sri Lanka, could encourage already strong domestic demand through low interest rates, as they have relatively high fiscal deficits. These stimulus packages will take time to kick in but if they succeed, the reduction in growth can be minimized.
There's already a silver lining in the global slowdown to help Asia: falling food and fuel prices. These price drops will reduce trade imbalances by helping contain inflation, which allows the countries to ease monetary policy. Inflation rates have started to decline sharply in recent weeks. Of course, commodity exporters like Malaysia, Indonesia, and Vietnam, which had benefited from high prices, will likely feel the price declines more, especially in rural areas.
More intra-Asia trade will generate demand and help the smaller Asian countries deal with lower export demand. For instance, Bangladesh, Cambodia, Nepal, Sri Lanka, Pakistan, and Vietnam are highly dependent on the U.S. and European markets, and trading more with Asia will give them a lifeline.
Expand the Chiang Mai Initiative
In recent months, many Asian countries' currencies and equity markets have come under pressure. The Chinese yuan and the Japanese yen have strengthened against the U.S. dollar—backed by huge reserves of $1.8 trillion and $1 trillion, respectively. The announcement in October of credit swap arrangements with the U.S. Federal Reserve helped stabilize the Singapore dollar and the Korean won, but other currencies remain vulnerable.
Asia needs an expanded monetary facility. The International Monetary Fund has announced a new, $100 billion credit facility to help emerging markets, but the political and social stigma of an IMF bailout makes most Asian countries reluctant to engage with the IMF. In the absence of such a multilateral body, bilateral swap arrangements are being hotly pursued but remain an ad-hoc mechanism. The Chiang Mai initiative, which has pooled $80 billion to help ASEAN plus three countries in crisis, needs to be expanded.
What's needed is better coordination on financial policies, such as deposit guarantees. Singapore's decision to provide a blanket guarantee on deposits led to Malaysia following and putting enormous pressure on other Asian countries, such as Indonesia, to do the same.
Beef Up Social Programs
Finally, there is an urgent need for stronger social programs that will ensure Asia's future. Help children stay in school, ensure that basic health-care and vaccination initiatives are maintained, and see that food is provided to the very needy to help them deal with the downturn. Targeted conditional cash programs—which provide cash to families to ensure that children—especially girls—remain in school and are vaccinated—have not been tried much in Asia but are a good way forward. Midday meal schemes help but are not enough in a crisis.
The New Year will be a crucial one for Asia's handling of this crisis. If Asian countries can work together, the region can not only deal with the financial tsunami, but lay the ground for a powerful future, one in which greater coordination prepares the path for the eagerly awaited Asian century.