October 2000


The East Asian financial crisis has disproved the exaggerated claims that globalisation and the complete opening up of markets can lift the lot of the poor and narrow inequality in income distribution, says a Malaysian economic expert.

By Chakravarthi Raghavan

Geneva: The excessively hyped and exaggerated view that globalisation and the opening-up of markets to the full can lift the lot of the poor and narrow the inequality in income distribution, has been proved wrong by the financial crisis in Asia and emerging markets, a leading Malaysian economic expert, Zainal Aznam Yusof, declared recently at the United Nations Conference on Trade and Development (UNCTAD)’s Trade and Development Board (TDB).

Zainal, who heads the Malaysian think-tank, the Institute of Strategic and International Studies (ISIS), was speaking as a panelist at an informal session of the TDB on ‘Crisis and Recovery in Emerging Markets: Lessons from Recent Experiences’.

Zainal is a key member of the high-level team of economic advisers headed by Daim Zainuddin (now Finance Minister) that advised the Malaysian Government of Prime Minister Mahathir Mohamad to change course, give up the ‘virtual-IMF’ policies to overcome the financial crisis that struck the region in 1997, and adopt non-orthodox measures (including capital controls) to overcome the crisis and grow.

In analysing the East Asian crisis and the recovery, Zainal said that overall economic recovery in the affected countries was on track, though stronger in some countries and weaker in others.  Singapore and  Hong Kong looked  like they were ahead;   Malaysia and South Korea were following strongly, while Indonesia was the weakest of the lot.                                                                                                                                     

Thailand, Indonesia and South Korea had come under the control of the International Monetary Fund, losing the freedom to adjust and adopt an independent approach, and having to follow the standard prescriptions of high interest rates, cutbacks in subsidies and forced closure of banks.

This had disastrous socio-economic effects - rise in unemployment, rising poverty and other social effects due to an inadequate social safety net - resulting in political instability.

The situation of the poor, especially women, worsened, and irreversible damage was wrought affecting the ability of children to escape poverty. There was a 50% increase in poverty in Indonesia, and doubling of urban poverty in South Korea. Beyond the region, poverty in Russia rose from 21.9% to 32.7% between 1996 and 1998, and poverty also rose in Latin America and the Caribbean.

Malaysia, after flirting with the ‘virtual-IMF’ policies, found them untenable and was convinced that the economy would be tipped over the cliff. It changed course, applying fiscal stimulus by a deficit budget.

Public expenditures for socio-economic projects and selected infrastructure projects were maintained, raising public investment. Poverty alleviation programmes were maintained, including for the hardcore poor - those with a mean monthly income which was half the poverty-line income. Banks and corporate debt were restructured. The ringgit was ‘de-internationalised’, and a repatriation levy was imposed. The currency was pegged at RM3.80 to the US dollar. There were also structural economic reforms of banks and corporations.

Zainal said that some general lessons could be drawn from these experiences.

It seemed clear that the ‘manna’ from globalisation had been excessively hyped and exaggerated. There was excessive focus on growth and liberalisation, with the thinking that globalisation and market forces were benign, the poor could be lifted up single-handedly by growth and market-opening, inequality in income distribution would be narrowed and that all that was required for this ‘manna from globalisation is to open up to the full’.

‘The crisis had shown otherwise, there was a downside to globalisation.’ Evidence did not support the expectations from globalisation. Not all countries had benefited,  and many had been marginalised.  It  was  necessary for  countries  to be more concerned over the inequality effects of crisis, the unequal sharing of burdens and the social repercussions it produced.

It was evident that the financial system was flawed, and the world was nowhere near anything that could deal adequately with huge capital flows. Volatilities were far more persistent, while the ‘herd behaviour’ and ‘irrationality’ of short-term investors were not well understood.

Excessive blame was being placed on a country in crisis, but little on financial markets. The view was that markets ‘can do no wrong’, and there was a ‘tinkering approach’ like that of plumbers patching up a leak.

‘This is not the way to go about dealing with the crises,’ Zainal said. ‘It was necessary to go to the roots of the problem, and the financial system has to be reformed to deal with the problems of capital flows.’

The private sector should be ‘bailed in’ and the pain of the crisis spread out. It was unfair to blame countries and their banks, and take the view that the private sector can do no wrong and can get off scot-free.

The private lenders were party to the financial system and part of the moral-hazard problem. They must share the blame. ‘They are part of this, allegedly, perfectly functioning international capital market.’

There has been no real visible progress in repairing the flaws in the financial architecture, with a great deal of talk and little real action.

The current ‘uni-casual’ approach to the crisis and a ‘one-size-fits-all’ solution was wrong. Thailand, South Korea and Indonesia largely followed the IMF orthodoxy, while Malaysia had adopted a heterodox approach, using Keynesian pump-priming and selective capital controls and pegging its currency to the dollar. Malaysia had recovered well or even better than other economies.

In its own way, Malaysia had cleaned up its financial and corporate sectors - through agencies for restructuring the bad debts of banks and recapitalising them, as well as for restructuring corporate debt.

Looking forward, it was necessary to build indigenous capacity in every aspect to cushion crisis: in macroeconomic management, banking regulation and supervision, raising efficiency and competitiveness and stronger corporate governance and transparency. Countries need to stand firm on programmes for the poor and in providing social safety nets for the vulnerable and poor.

Generalisations about East Asian and structural reforms would lead to confusion, Zainal warned. The international community should not be quick to condemn but must maintain a sense of balance. The East Asian crisis had unleashed forces for change, even as it has shaken the political foundations of some of these economies.

‘Getting back stability and working towards peace and the rule of law should be the prime priority. One had only to look at the pace of structural reforms in Europe, where labour market reforms were lagging behind other reforms.’

Zainal complained that there was too much bias towards raising the quality of national governance. ‘International corporate governance and governance of multilateral institutions too were necessary.’

The activities and identities of highly leveraged financial institutions, including hedge funds, must be made more transparent. More regulation was required.

There was also a need for more genuine democracy in multilateral institutions. The present system of international governance was flawed and inequitable. ‘The richer the country, the greater the power; and the poorer the country, the greater the sense of voicelessness and powerlessness.’

At the international level, the ideas of democracy were not allowed to prevail, while there was great demand and pressure to practise democracy at the national level.

‘Empowerment essentially is the enhancement of the capacity for poorer countries to influence the institutions that affect them through strengthening the participation of the poorer countries in the political processes and decision-making,’ Zainal stressed.

Equality of treatment, that is, the recognition that all countries should be seen as equals, was a fundamental tenet which must be recognised.

‘The flouting of this democratic tenet has become widespread and has been entrenched. Freedom of association should also be practised globally. If like-minded countries see mutual interest in forming associations and regional groupings, then others should not stand in the way of countries that are exercising their freedom to associate with countries of their choice,’ Zainal continued.

‘If the legitimacy of multilateral institutions is to be maintained, then there must be equal treatment of poor countries. If poor countries are to influence the allocation of resources and formulation of policies that will affect their interest and livelihood, then their voices will have to be heeded. International institutions must be pro-poor.

‘Good governance in multilateral institutions must be guided by the principles of participation, accountability and fairness. As for fairness, a distinction can be made between procedural and substantive fairness. When rules and standards are created and impartially enforced, we can say that there is procedural fairness. Procedural fairness can be easily flouted if, as so often happens, there is greater reliance on informal decision-making practices.

‘Substantive fairness is concerned with how far and equitable are the outcomes of the institutions and the distribution of power, influence and resources. Many of the multilateral institutions have not satisfied substantive fairness. There is no alternative, therefore, but to persist and find ways and means to rectify the inequities.’ - Third World Network Features

About the writer: Chakravarthi Raghavan is Chief Editor of SUNS (South-North Development Monitor), a daily bulletin, and Third World Network’s representative in Geneva.