Indonesia and the IMF
Malaysia and the IMF
Thailand and the IMF
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Sustaining Macroeconomic Performance in the ASEAN CountriesAddress by Michel Camdessus
Managing Director of the International Monetary Fund
at the Conference on
"Macroeconomic Issues Facing ASEAN Countries"
Jakarta, November 7, 1996
Minister Muhammad, Governor Djiwandono, ladies and gentlemen. It is a great honor to address this distinguished group of ministers, governors, and representatives of the academic and business communities from the most dynamic region in the world.
As Managing Director of the IMF, I frequently have the opportunity to discuss the challenges of economic management with your counterparts in other IMF member countries. I don't think I will be divulging any confidences if I tell you that these discussions often center on how their countries can attain the economic results that ASEAN countries are already achieving—that is, high and sustainable rates of growth and, equally important, the kind of "high-quality growth" that also fosters human development, promotes equity, safeguards the environment, and allows an enhancement of the cultural values of your countries.
And, of course, you already know my answers when asked about the secret of your success. I point to the policies that your countries have pursued. In particular, I emphasize the role that prudent fiscal policy has played in bringing about macroeconomic stability. Singapore, of course, has been running large fiscal surpluses for many years. But Thailand has also been in budgetary surplus for some time, and most countries in the region, including—strikingly—the Philippines and Vietnam, have been moving in this direction.
I also point to your high domestic saving rates, your success in attracting foreign saving, and your efforts to ensure that your countries' current account deficits are driven by export-oriented investment, rather than consumption; and are driven by the private sector, rather than government spending. And these deficits are financed to a large extent by long-term capital inflows. An additional factor has been that your governments have generally been quick to adjust their policy courses in response to economic shocks—notably by accelerating the implementation of the basic outward-oriented and market-friendly strategy—as Indonesia and Malaysia have done in diversifying their economies away from declining energy sectors.
And the last, but not the least, ingredient to the cocktail: your long-term emphasis on infrastructure investment and anti-poverty programs, which has unlocked a powerful virtuous circle of productivity, growth, and social spending, thereby helping to reduce poverty and ensure the political sustainability of the reform process.
I hope that all of you accept this very sketchy analysis of your recent success story. Anyway, I do not intend to repeat the story here today—if for no other reason than the fact that so many of you who made history this way could tell the story far better than I. Rather, I would like to turn to a new chapter of the story—namely, the new challenges facing ASEAN countries in today's global economy and how, in this new context, your countries can best preserve and build upon their economic success. Then, I would like to discuss what this success means for your countries' role in the global economy.
Challenges of globalization
Clearly, a major challenge facing your countries concerns the globalization of the international financial markets. Indeed, Asian countries are well-acquainted with the phenomenon, having attracted the largest share of private capital flows to developing countries of any region in the world. Certainly, these inflows have helped boost investment and growth, but they also bring new challenges and risks to countries' economic and financial stability. In this connection, I see two issues facing your countries that demand particular attention: first, the sustainability of large current account deficits; and second, the soundness of domestic financial systems. These are the two financial problems you can and must overcome. Let me say a few words about each.
First, on the issue of current account sustainability. Large net private capital inflows have tended to raise aggregate expenditures, increase inflationary pressures, and widen current account deficits in all major recipient countries. Yet, part of these inflows—especially those of a short-term nature—can be suddenly reversed, either because of changes in market sentiment about the recipient country, contagion effects, or changing financial market conditions in other countries. Countries in such situations must thus pay particular attention to the sustainability of their external position.
Second, the soundness of domestic financial systems. Globalization has clearly put new strains on domestic financial systems, especially banks. In particular, large capital inflows often lead to a rapid expansion of domestic credit, which can, in turn, set the stage for problems in the financial sector, especially if prudential supervision and capital adequacy requirements are inadequate. Globalization has also quickened the pace of financial innovation, and difficulties can arise when the pace of this innovation outstrips countries' regulatory and supervisory capacity to ensure that the new forms of risk are being managed prudently. Financial sector problems cannot be prevented by prudential policy alone; they also require appropriate monetary and fiscal policy action, as well as steps to increase the transparency of institutions' operations and financial condition. It is important to take appropriate action promptly before the situation deteriorates to the point that policymakers are reluctant to tighten policies for fear of intensifying banking sector problems. Otherwise, delays in policy action can lead to a loss of market confidence in domestic economic policy, which can, in turn, trigger capital outflows and put further pressure on weak banks.
Although ASEAN countries have been performing well, they have not been immune to the complications of large capital inflows. In some countries, strong domestic demand has raised external current account deficits and put pressure on private sector credit and domestic prices. These strains have also been felt, in varying degrees, in labor markets—especially for skilled labor—and in real estate markets. More recently, policymakers have also had to contend with some adverse developments—most notably, the recent slowdown in exports that has affected many countries in the region.
Financial systems have inevitably come under pressure, too. In many countries, increased capital inflows and domestic demand have stimulated excessive lending for consumption and real estate. At the same time, the risks in the region's financial markets have also increased due to, among other factors, the many new incentives and instruments for domestic enterprises to borrow in foreign currency.
Fortunately, policymakers in the region have been watching these risks closely and have already taken a number of steps to reduce macroeconomic imbalances and to reduce the risks of overheating. As a result, growth and inflation rates have begun to moderate in several countries where overheating has been a concern, including Thailand, Malaysia, and Indonesia. At the same time, inflation in the Philippines has fallen significantly below the double-digit threshold reached last year. However—in part because of the slowdown in exports—current account adjustment must remain on the agenda in all of the countries, as must the strengthening of domestic financial sectors.
Sustaining ASEAN's performance
Against this background, how best can these risks be reduced and the region's exemplary performance sustained? One does not need to look far for the ingredients of such a strategy—your own record of policy prudence and adaptability is an excellent starting point. To build on this, however, I would dare to suggest four additional elements of a strategy that would help safeguard external and financial stability over the medium term. They are: first, reducing countries' reliance on foreign saving; second, helping to ensure that private capital inflows take the form of long-term investment; third, strengthening domestic banking systems; and fourth, ensuring an appropriate role for the State.
First, a strategy of reducing external vulnerability implies reducing current account deficits and increasing domestic saving rates. There is a kind of paradox in making such a point in the context where there are so many ASEAN countries that already have private saving rates that are among the highest in the world. But many of you have told me that there is scope in most countries to do even better. While policies must remain geared to achieve this over the longer term, reducing reliance on foreign saving—at least in the near term—requires strengthening public saving. Such an approach would have many benefits. It would help address the challenge posed by capital inflows, reduce the burden on monetary policy, and tend to reduce interest rates, all of which would help safeguard macroeconomic stability.
I do not underestimate the magnitude of the task involved, nor the time it takes to design and implement fiscal reforms. I also realize that there are already pressures to increase spending in critical areas, such as education, health, and infrastructure. Yet I do believe there is room for most countries in this region to adopt an even more ambitious approach to fiscal consolidation. How can this be done? Certainly, the task will not be easy, and indeed, the appropriate mix of revenue and expenditure measures will vary from country to country. However, there is always scope to reduce costly investment incentives and unproductive outlays. Let me mention here military expenditure because this is a domain where, quite unexpectedly, your countries have been recently less successful than others. While worldwide military spending relative to GDP declined between 1991 and 1994, military spending in Asian developing countries (including South Asia) has remained about the same or has increased, despite rapid GDP growth in most of these countries. Also, in most countries, there is room to raise revenues through steps to improve tax administration and other measures. Beyond this, the impressive progress that countries in this region have made in strengthening the financial position of the central government could now be extended to increasing efficiency and reducing imbalances in other parts of the public sector, such as regional governments and public enterprises. It would also be useful to consolidate quasi-fiscal activities and extra-budgetary operations within the central government budget, so that policymakers can formulate fiscal policy on the basis of a more comprehensive—and more transparent—public sector position.
Second, since the greatest threat of instability is posed by more volatile short-term inflows, macroeconomic and structural policies should be geared to encouraging foreign direct investment and other long-term investment flows. Certainly, the most important policies in this regard are the same policies that encourage domestic investment—namely, a stable macroeconomic environment and continued structural reform, including further trade liberalization and, with it, the outward orientation of the economy. The adoption of prudential requirements vis-à-vis short-term inflows has also played a useful role. However, in our experience, direct quantitative controls on capital inflows rarely work for any sustained period; moreover, they run counter to the thrust of external liberalization that has been a hallmark of your success. Beyond this, I would add that fiscal consolidation can also play a role in discouraging speculative inflows by providing greater scope for short-term flexibility in exchange rate policy. Indonesia, for example, has moved in this direction.
The third element of the strategy should be to take every opportunity to strengthen banking systems. Considerable progress has already been made, with the overall thrust being, commendably, to increase capital adequacy requirements, improve transparency and information disclosure, and further develop risk management and robust payments systems. But important additional measures need to be taken. These range from the specific, such as actions concerning regulations for adequate loan loss provisioning and avoidance of undue loan concentration, to the general need to design comprehensive reform strategies to strengthen internal bank governance and foster market discipline, including firm exit rules for troubled institutions. In our globalized markets, following through with these reforms and dealing with any emerging problems without delay deserve the highest priority.
This brings me to the fourth element of the strategy to sustain your performance—namely, the role of the State. Although fiscal consolidation should be carried out in a way that reduces the size of the public sector, your governments—indeed, all governments—still have an essential role to play in maintaining an environment conducive to high-quality growth. Moreover, today's increased competition for private capital inflows—and the need for greater policy vigilance to ensure the sustainability of these inflows—call more than ever for domestic institutions that can formulate and implement effective economic and financial policies, make efficient use of domestic resources, and fulfill government functions in such a way that gives investors confidence to invest. This is indeed an endless task! There are always additional steps that governments must take if they are to approach in any way excellence in governance. Among such steps I would include: reducing the regulations and restrictions that foster rent-seeking activities; ensuring that fiscal and central bank accounts and budgetary procedures and controls are transparent; protecting property and contract rights; and guaranteeing the professionalism and independence of the judiciary. Nor should we forget the more traditional items on our agenda: challenges such as reducing trade barriers and deregulating the economy, while maintaining public consensus; strengthening the region's infrastructure, while safeguarding natural resources and the environment; fighting corruption; streamlining the civil service, while guaranteeing its professionalism; and developing a culture of transparency and openness—to name just a few.
Governments also have an important role to play in promoting human development. To sustain high rates of economic growth, your countries will need to maintain high rates of productivity growth and increase participation rates. Policies that give center stage to human resource development will not only help achieve this, but also enhance equity and, hence, the sustainability of the growth process. The region has already led the developing world in emphasizing the importance of investing in education and health, which has produced visible payoffs for sustained, high-quality growth. Maintaining the region's edge in skill intensity and, thereby, in the competitiveness of the manufacturing sector, now means putting increasing emphasis on the acquisition of higher skills, through secondary education and vocational training, especially female education and training. It has become a truism that more than ever, economic efficiency, together with social equity and progress, go hand in hand.
I have considerable confidence that ASEAN countries will take the steps necessary to meet the challenges of the globalized economy and, in so doing, consolidate and enhance the economic success they have achieved to date. And this prospect raises the question of what role your countries will play in the new environment; what kind of a new partnership, including with the IMF, there will be.
ASEAN's role in the global economy and the IMF
There can be no doubt that ASEAN's role in the global economy will become increasingly important. On current trends, by the end of this century, ASEAN will have more than doubled its share of world output and income since 1975 to reach almost 6 percent; this will give ASEAN an economic weight about halfway between those of Germany and Japan. Over the same period, ASEAN's share of world trade will have increased 3 1/2 times to about 8 percent, a share corresponding to Japan's today. Moreover, ASEAN's share of total foreign investment received by developing countries is estimated to average about 25 percent during the 1990s, compared with just a trickle in the early 1970s. And per capita GDP in purchasing power parity terms will have increased from less than US$1,000 to almost US$10,000 in just one generation. This is truly an enormous achievement. At the same time, the dynamism of the region's economy has been an important factor in sustaining the growth of the world economy. Thus, it is no exaggeration to say that economic developments in the region are now, and have been for some time, of global significance.
What does all of this imply about ASEAN's role in the IMF? Certainly, your role is changing—and, indeed, must change to reflect new economic realities. Although two ASEAN countries have programs with the Fund, and the Fund still provides technical assistance and training in the region, it has been some time since Indonesia, Malaysia, and Thailand have made use of Fund resources. In fact, rather than being users of Fund resources, these three, plus Singapore, currently participate in financing the Fund's operations through their participation in the operational budget.
Your countries are also supporting the Fund in other ways. Several ASEAN countries are participating in the New Arrangements to Borrow, which will double the credit lines available to the Fund for use in the event of a systemic crisis. At the same time, your countries have actively supported the establishment of a self-sustained, and permanent, ESAF, which will enable the Fund to continue supporting stabilization and reform in our poorer members, including Vietnam. ESAF will also provide the vehicle for the Fund's contribution—with the World Bank and other creditors—to reducing the debt burden of the most heavily indebted poor countries. I would like to mention, by the way, the important contribution that Indonesia has made through its leadership of the non-aligned movement in drawing attention to the debt issue. Most of your countries, who had played a decisive role a few years ago in allowing ESAF to be replenished, have already indicated that they will contribute to the permanent ESAF, and I am hopeful that others will join them.
In the coming months, the priority will be to reach agreement on a substantial increase in Fund quotas. With relatively strong demand for Fund resources, the Fund's liquidity ratio is currently on a relatively sharp downward trend, and by the end of 1997, it is projected to decline to below the traditionally critical threshold of 70 percent. This would be the Fund's lowest liquidity ratio since late 1983, just before the Eighth General Review of Quotas came into effect. This makes it a matter of urgency, particularly at a time of increased uncertainty in the global economy, to finalize the negotiation on a substantial quota increase with no further delay. Moreover, the current quota review provides an opportunity to reflect in members' quotas the changes in the world economy that have taken place since the last increase in quotas was agreed, and we will be working hard to see that these discussions come to a positive conclusion as soon as possible.
So far, I have talked about ASEAN's financial stake in the Fund, and I must say that I have been very gratified by your countries' growing role in this domain. But I believe your role go beyond the financial. As I mentioned earlier, many IMF members are looking to ASEAN members and other Southeast Asian countries as examples for their own stabilization and reform efforts. Your experience has important lessons not only for your immediate neighbors, but for others as well, such as China, South Asia, and Africa. I encourage you, therefore, to speak out more forcefully about the benefits of reform and conditions for success. In this way, you can make an important contribution to the international consensus in favor of prudent economic and financial policies. And just as other countries are benefiting from the economic success of ASEAN, so, too, will your countries—and indeed, the global economy as a whole—benefit from stronger economic policies and performance in the rest of the world. Moreover, by exercising their growing international influence, especially within the IMF, ASEAN countries can achieve the stronger voice in international monetary affairs that they rightfully seek and that the world needs to hear in this time of widespread anxiety about the future.
And just as I hope that ASEAN countries will continue to support the international system, so, too, do I want to assure you that the IMF will support your countries. Certainly, I welcome the growing regional cooperation in Asia, and the mutual support that countries in the region stand ready to give one another. Another remarkable example for others, indeed. Still, I want you to know that the Fund is fully committed to supporting Asia, whenever the need may arise in this still dangerous world where brutal, destabilizing forces can emerge overnight.
In conclusion, let me reiterate that the strong, high-quality growth achieved by ASEAN
countries is an inspiration to many other countries around the world. The world needs
you to continue opening new avenues toward balanced and sustainable development. The
IMF has been proud to accompany your initial success; it will be proud to initiate with
you this new partnership.
IMF EXTERNAL RELATIONS DEPARTMENT