TWN Info Service on Finance and Development (Oct08/07)
23 October 2008
Third World Network

Finance: Double standards in the West's crisis policies
Published in SUNS #6573 dated 22 October 2008

Geneva, 19 Oct (Martin Khor) -- The global crisis has entered the phase of recession in the real economy, at least in the economies of the United States and many European countries. Recent actions of Western countries to counter both the financial crisis and the strong recessionary trends have in many cases gone against their own predominant free-market non-interventionist ideology.

Even more interestingly, their recent policies contrast sharply with the advice that they and the International Monetary Fund that they control gave to Asian countries during their financial crisis a decade ago, revealing clear double standards.

In the past fortnight, Western leaders announced one remarkable policy after another, aimed at saving their financial institutions and system from ruin.

The measures have to some extent stemmed the hemorrhage in the financial sector in the US and some major Western European countries, giving some breathing space to their banks and other institutions.

In Iceland, however, the problems were so deep-seated that no measure could save the financial system from imploding. Some East European countries like Ukraine and Hungary are turning to the IMF for rescue funds.

Financial problems are also becoming acute in some developing countries. Pakistan's foreign reserves are at a precariously low level and it is seeking several billions of dollars in emergency loans. Even South Korea is now seen as a potential candidate for crisis.

More governments are now extending a blanket guarantee of savings deposits in commercial banks. It started with Ireland, then Germany and other European countries followed. Late last week, Malaysia and Singapore did the same, after Hong Kong took a lead in Asia.

Once one government gives the guarantee to avoid a possible run of the banks, other governments are hard pressed to do so, to avoid funds flowing out to the countries providing the guarantee. This is one sign of the fragile state of confidence in the banking system.

Though there is some respite in the finance sector, the global stock markets have not yet recovered their nerve, and sentiments are moreover weighed down by anxieties over the looming recession and fears for the health of industrial companies.

Last week saw a continuing see-saw between optimism and pessimism, with the swings taking in huge gains and equally large losses from day to day. Even the famed investor Warren Buffet admitted that he does not have the "faintest idea whether stocks will be higher or lower a month or a year from now."

The past fortnight has seen some astonishing Western government actions. The United States injected capital into its nine biggest banks in the start of a $250 billion equity-related recapitalization scheme. Switzerland, the haven of safe banking, had to launch a $60 billion rescue action for its biggest bank UBS (comprising an outward transfer of $55 billion of its toxic assets and $5 billion as capital injection).

But at least the situation on the financial front is calming down in the US and Western Europe, since the markets know that the governments now have the will to bail out the banks.

But this improvement in finance has now been offset by worries about the "real economy". The economic problems have now spread to the sectors providing goods and services. In the United States, unemployment is up, industrial production down. And last week, a consumer sentiment index in the US fell from 70 in September to 58 in October, spelling big trouble ahead as consumer spending is the main engine pulling the growth of the US economy and the world economy.

The past weeks have also remarkably revealed the practice of double standards by Western leaders and the IMF. The actions they now take are the opposite of what they prescribed for the Asian countries during their financial crisis a decade ago.

The affected Asian countries (South Korea, Thailand, and Indonesia) were instructed to raise their interest rates sharply, a move seen as needed to counter inflation (though the inflation rates were low in the Asian countries) and to attract investment funds.

Instead, this led to consumers and companies being unable to service their debts, thus raising the banks' non-performing loans. Recession soon followed, which in turn dampened investor confidence instead.

In contrast, the reduction of interest rates is seen in the West as a major tool (the other being fiscal stimulus) for countering recessionary trends. Each decision by the US Federal Reserve or the European central banks to cut the interest rates even by small fractions of a percentage point is greeted with near rapture by the stock markets.

Recently, Western central banks in concert lowered their interest rates by 0.5 to 1 per cent in a demonstration of seriousness in kick-starting their economies.

The Asian countries were also ordered by the IMF not to come to the assistance of their ailing local banks and companies, on the grounds that this would waste public funds and cause "moral hazard." In Indonesia, many local banks (including sound ones) collapsed because the Central Bank was told not to rescue some of the banks that were in trouble.

But last week, the European leaders announced government measures backed up by almost $3,000 billion (comprising capital injection, purchase of banks' toxic assets and loans, guarantees for savers' deposits, and guarantees for new unsecured bank loans). The US has also announced similar measures, and is prepared to spend over $1 trillion (the $750 billion in the bail-out plan and several hundreds of billions of dollars in the rescue of banks, two giant mortgage agencies and the giant insurance firm AIG).

No significant financial institution will be allowed to fail, said the Western leaders. Loans by banks to the inter-bank money market will be guaranteed. The Fed was even willing to extend unsecured loans to companies directly, because the trade in companies' commercial paper has been frozen.

The Western leaders have explained that what is paramount is to save their financial system from meltdown and their economies from collapse. Thus, there is almost no limit to the amount of funds that the governments will provide.

The Asian countries also wanted to save their economic system from collapse, but they were told not to extend funds to save their companies, and they also had to implement the very policies that converted a financial crisis into an economic recession.

The then IMF chief Michel Camdesus told Asian leaders not to give in to the temptation of going back from financial liberalization policies. Instead, the countries should press on with even more liberalization, he told an ASEAN finance ministers' meeting at the height of the crisis.

But recently, the present IMF head Dominique Strauss-Kahn warned of a global financial meltdown and urged the US and Europe to do even more to prop up their institutions and economies.

And European leaders led by Gordon Brown of the United Kingdom, Nicolas Sarkozy of France and Angela Merkel of Germany are advocating stronger financial regulation, after they moved to nationalise many of their banks -- both of which represent big retreats from the liberalization that Camdesus pressed Asian leaders to continue with.

Ten years ago, leaders of ASEAN countries, led by Malaysia, fingered speculation activities by hedge funds and other institutions for pulling down the local currencies and stock markets through manipulative methods such as short selling.

They asked the IMF to study the role of hedge funds and speculation in sparking the Asian crisis. Camdesus personally reported to the ASEAN leaders that speculation and hedge funds played no role in the crisis. The problem was the lack of good governance in the ASEAN countries, and speculation was a healthy activity, he concluded.

Now, the captains of the big banks which have suffered sudden sharp drops in the value of their shares, have blamed speculators and their short selling activities. The US, Britain and several other countries banned short selling of financial stocks.

When bank loans in Asia went sour, this was blamed on poor management, cronyism and corruption. But when the Western financial institutions spun bad quality housing loans into securities and spread the "toxic securities" across the globe, this was described with the euphemism "sub-prime", as if it were merely a technical error.

In the mid-1990s crisis, Malaysia suffered through a bout of speculation on its currency and large capital outflows. It did not have to seek an IMF loan, so it could implement its own policies, many of them (lowering of interest rates, expanding fiscal spending, capital injection into banks, purchase of non-performing loans by a special agency) similar to those now adopted by the Western countries.

At that time, Malaysia's policies (including capital controls and fixing of the local currency to the dollar) were considered heretical, and most market analysts as well as Western leaders and the IMF predicted an economic disaster. But the Malaysian economy recovered.

The then Malaysian premier Dr. Mahathir Mohamed went to the IMF annual meeting in 1997 and attacked financial speculators and the unregulated financial system for destroying the real economy, he was dismissed by the Western leaders and Masters of the Finance Universe (such as George Soros) as being totally ignorant about how modern international finance works.

Mahathir's call for the banning of speculation in currency trade and for the re-regulation of finance went unheeded.

In retrospect, if the Western leaders and the IMF had taken him more seriously and learnt the proper lessons from the Asian crisis, the Western countries might not have had to go through this present massive crisis, nor would the world be now dragged into a deep and long recession. +