Financial or capital liberalization is "foolhardy"

GENEVA: Unlike textbook theories, financial markets, and, more generally, asset markets, have inherent problems, and "it would be foolhardy" to push for further liberalization of financial markets or the capital account, Canadian academic and leading development economist, Prof. Gerald K. Helleiner, warned on 1 May.

Helleiner, Economics Professor at the University of Toronto (Canada) and Research Coordinator for the Technical Support Project of the G24 (Third World group at the Fund/Bank institutions), was speaking at the UNCTAD seminar on "The East Asian Financial Crisis: Causes, Consequences and Responses."

UNCTAD Secretary-General Rubens Ricupero chaired the day-long seminar, which was held in two sessions - appropriately, perhaps, on 1 May, a traditional Workers' Day holiday in most countries (except in Switzerland and the US) and in the UN institutions, save the ILO.

In a week of seminars in Geneva - by the Asian Development Bank (AsDB) on a range of issues, including the Asian crisis, and by the World Trade Organization on the trading system and its future - the UNCTAD seminar was one with a difference: the five panellists (and participants from the floor) had differing views and perceptions on the nature and origin of the crisis, the current approaches to resolving it, and, more generally, on the wide range of issues twirling around the crisis, including whether or not a Multilateral Agreement on Investment (MAI) and capital account convertibility would be good.

Besides Helleiner, the other panellists at the seminar organized by UNCTAD's Macroeconomic and Development Policies Branch were: Ariel Buiera Seira (former Deputy Governor of the Mexican Central Bank), Valpy FitzGerald (Director of Financial Studies, Queen Elizabeth House, Oxford University), Jan Kregel (Prof. of Economics at University of Bologna and Johns Hopkins University's Bologna Center), and Robert McCauley, Bank for International Settlements (BIS), Basle.

The AsDB's meeting, and the seminars with it, were set two years ago before the Asian crisis erupted. But the official meeting, and the carefully orchestrated seminars, went ahead, and thanks to the AsDB and the Swiss hosts, there was some lavish hospitality (with little regard for the hardship in the region) that would have attracted adverse media coverage and an outcry if the meeting had been held at the Bank's headquarters in Manila or anywhere in the region.

While there were some nuanced views at the AsDB seminars, in the corridors, the bankers and their "experts" were blaming the Asian governments, their "crony capitalism" and corporate "misgovernance". The same bankers though were busy at receptions using similar relationships to canvass ministers and officials of other Asian countries for "investment" and "bank lending" opportunities and the "transparency" they claimed to need. Government ministers and finance officials had a suitable mea culpa attitude, anxious to portray their countries as taking hard decisions and adjustment measures, and on the way to recovery, so that they can attract foreign funds back again.

Oft-cited factors

Was the Asian crisis due to "crony capitalism"?

"When things were going well, what is now being called 'crony capitalism', and blamed for the crisis, was called 'relationship banking' - banking business based on the relationship of the bank with the customer," Buiera Seira, the former Mexican Central Bank official, commented. "It is just a matter of names," he added.

What is called "crony capitalism" was a relationship between government and business that was known to be prevalent in all these countries for a long time, and everyone (including lenders) knew about it and it was not something suddenly discovered, said Prof. Kregel. "Any way, 'crony capitalism' is called 'pork barrel politics' in the USA, but no one has attributed the various financial and market crises there to this issue," added Kregel, himself an American national.

Was it a case of lack of transparency and information for the markets?

Not so, said Kregel, noting that the BIS, in its 1996 reports, had in fact drawn attention to the problems in the Asian countries and the bank loans and short-term flows going in as a result of lowering the risk premia and margins. But the markets ignored such information. The problem is not information, but how one interprets it, he said.

Helleiner noted the common thread in the drive of major OECD countries in all the fora and asked developing countries to take a coherent view, whichever the forum.

Common objective

Whether it be through the MAI at the OECD, investment talks at the World Trade Organization (WTO), the WTO's agreement on financial services or the capital account convertibility proposals at the International Monetary Fund - all these sought to achieve the same objective, Helleiner said.

The OECD-Development Assistance Committee (DAC) annual report of 1997, Helleiner pointed out, had clearly identified three major international initiatives (meeting the OECD's objectives of consolidating and extending the liberalization process to all countries): the IMF process for liberalization of international capital movements, the WTO/GATS financial services talks for liberalizing access for financial services (banking and insurance), and the OECD's MAI that is to be open to non-members too.

[The OECD-DAC report said that the Hong Kong Interim Committee Statement (September 1997) on Liberalization of Capital Movements under an amendment of the IMF articles, was of "historic significance" in that "it represents the final formal break with the original Bretton Woods concept of an international monetary order based on current account equilibrium and official financing both of adjustment (by the IMF) and development (by the World Bank)." The new IMF mission, the DAC said, was to promote multilateral non- discriminatory liberalization of capital movements to enable international financial markets to contribute safely and securely to world prosperity in an age of globalization.]

[The WTO's financial services negotiations (which, subsequent to the DAC report, concluded with an agreement in December 1997) were "highly complementary to the IMF agreement," the DAC report said.]

[The OECD's MAI, to which some of the developing countries consulted had indicated an intention to sign on, would provide an international code on FDI, and would facilitate the flow of savings of ageing OECD-country populations, through pension funds and similar financial instruments, to developing countries with increasing workforces and high investment demand, the DAC report said.]

The OECD countries, the Canadian academic said, had a coherent position on the objectives and in the negotiations, but no such coherence had emerged on the side of the developing countries. Only recently, he added, had the G24 become concerned over some of the questions under negotiation at the WTO, and undertaken some studies. "Let us hope this leads to some coherence and consistent positions" between developing country positions at the WTO, IMF and elsewhere, he added.

Earlier, Prof. FitzGerald, whose centre has produced a study for the Blair government in the UK, supporting the MAI and bringing developing countries into it, argued that the MAI would be in the interests of the developing countries and had sufficient safeguards to meet their concerns.

But this view was challenged by Mr. Martin Khor of the Third World Network. The definition of "investment" in the MAI was very wide and covered all kinds of things, including portfolio investments and bank lending, and any restrictions in the event of a balance-of-payments (BOP) crisis or capital flight could only be temporary.

Prising open the capital account

Helleiner said that there were inherent problems with financial markets, and asset markets more generally. It was well-recognized in economic literature that the financial markets do not behave as textbooks would have one believe.

The Asian crisis was caused by fundamental problems on the capital account and this was important to emphasize since the most significant international discussions now are about the opening up of the capital account. This is the case, whether in the talks about the new architecture for the IMF, the MAI, if any, at the OECD, investment discussions at the WTO or financial services liberalization at the WTO, Helleiner said.

He also questioned the wisdom of the "national treatment" principle in the WTO financial services accord, and said a sound case can be made out for discriminatory treatment, particularly in crisis situations, as between a domestic and a foreign institution, and for sustaining a domestic institution without necessarily having to do the same for the foreign one. The WTO agreement was somewhat ambiguous on this point, and much would depend on how the situation evolved, and whether discriminatory treatment would be permitted to a country under the financial services accord for BOP reasons.

Commending Helleiner's views on the OECD-IMF-WTO processes, Mr. Chakravarthi Raghavan of the South-North Development Monitor, noted that while the OECD-MAI had been stalled, the IMF and the WTO seemed to be acting together to expand the rights of foreign investors. Mr. Stanley Fischer, deputy managing director of the IMF, had been quoted as saying that capital account liberalization had now become more urgent because the MAI was getting nowhere. There were now efforts to put the MAI process into the WTO. On the financial services accord, it was now clear that the WTO and the IMF secretariats had acted in tandem to force the Asians to fall in line. But the accord was still to be ratified and Helleiner might do well to ask his G24 constituency to hold up ratification until the problems posed are resolved.

The IMF, Raghavan complained, was now trying to expand its remit inside the WTO, to claim special prerogatives in disputes among members arising out of their rights and obligations, prerogatives never envisaged under the old GATT, in Uruguay Round negotiations or at Marrakesh, but which were now being smuggled into the WTO, taking advantage of the fact that most Third World negotiators did not know what had happened before and lacked institutional memory. Despite the WTO membership's faith in the WTO dispute settlement system, the day might soon come when any dispute relating to a matter of interest to the IMF would be referred to the IMF and its staff, instead of to dispute panels, for a decision!

The IMF managing director had recently said that a generation of sacrifice was needed for the IMF model to succeed. But unless the WTO and the IMF change their stances, they would arouse severe social conflicts in countries and the institutions will not last a generation.

On some international actions (like a Tobin tax) to control and regulate short-term capital flows, Helleiner said he did not favour strengthening the IMF or the BIS to create a global central bank. And while OECD countries spoke of difficulties of data collection and coordination to deal with short-term flows, they had no problem in collecting data and dealing with problems of money laundering within the international banking system.

But there is a "turf war" going on between the IMF, the WTO and any emerging MAI about short-term capital flows, and this would need to be resolved before any international action could be foreseen.

"Meanwhile, those (developing) countries who have some restrictions on short-term capital flows and portfolio investment flows, should be encouraged to keep them. There is every reason to support those who want a revised agenda (at the IMF) that while capital account liberalization could be an objective, it should not under any circumstances be a condition for IMF loans."

[Meanwhile, according to a report in the New York Times, House Democratic leader Richard Gephardt, and five other senior Democrats, have threatened to withdraw support for the IMF funding bill in the US Congress, if the administration continues to support the IMF drive for capital account convertibility and openness to foreign investment as a condition for IMF loans.]

FitzGerald said that when the European Monetary Union comes into being, with one European Central Bank, the US Federal Reserve, which now acts on its own, would find the need to discuss things with the ECB and, that gradually, international cooperation might ensue.

Effects of FDI

All the panellists seemed to agree that the IMF model based on the experience of BOP crises, and along which lines adjustment policies had been proposed now in Asia, had no relevance to the Asian crisis, which was a crisis of capital markets. Instead of tight money and high interest rates, given that affected countries had not been running budget deficits or printing money to finance deficits, a relaxed monetary stance and low interest rates (the instruments used by the US and Sweden, for example) would have arrested the crisis and restored confidence quickly.

UNCTAD Secretary-General Ricupero referred to the recent UNCTAD/International Chamber of Commerce survey on long-term prospects for Asia, that saw TNCs expressing long-term confidence in Asia, with some capital flows now taking place, and asked for the panellists' views and explanations.

Prof. FitzGerald said that one explanation could be that FDI was more stable and TNCs had staying power.

But McCauley said that before making any judgement, a distinction had to be made between acquisition of existing facilities by FDI and "greenfield" investments.

Kregel noted the experience of Germany after unification, when a number of West German firms went east, invested and bought production enterprises only to close them down. A similar thing may be happening now in Asia, he said. Major TNCs who see 'excess capacity' in semi-conductors, automobiles and so on may feel it is cheaper to buy up one's opponent at current favourable exchange rates and close down production rather than invest more and compete.

Helleiner said there was a need for clarity on what was meant by FDI. It was not equity. Less than 30% of FDI was equity investment; the balance was lending of all kinds. When a local firm is under the control of the foreign investor, intra-firm lending was treated as FDI. Any FDI was a loan like any other, and whether there would be a BOP effect would depend on how the funds were used, whether on non-tradeables or on tradeables. The G24 finance ministers had become concerned over these discussions (at the OECD and the WTO) and had commissioned a number of studies. But the BOP issue was not the critical issue. What was critical was the costs to the economy.

Apart from the definitional problems of "investment", Helleiner said, the draft MAI went far beyond what was normally covered in bilateral investment treaties (BITs), none of which provided for pre-establishment national treatment.

"Not only developing countries, but countries like Canada are concerned over this, and the problems of investment subsidies and whether foreigners have to be subsidized like domestic investors," Helleiner said. The MAI did not also cover restrictive business practices. And these were apart from the questions of the environment and social standards that the NGOs had raised.

The Canadian academic challenged the view that signing on to an MAI would be critical as to whether a country would get foreign investment. "The determinants of foreign investment flows," Helleiner said, "are more fundamental than signature or not on an MAI. There is nothing to suggest that responses of foreign investors would be significantly different whether an MAI is concluded or not."

"If an MAI is concluded, those who do not sign have really nothing much to fear about investments coming to their country," Helleiner added. (TWN/SUNS4205) (Third World Economics No. 184/185, 1-31 May 1998) 

The above article was originally published in the South-North Development Monitor (SUNS).