Nicola Bullard, with Walden Bello and Kamal Malhotra
Taming the Tigers is a contribution to the debate over Asia economic crisis. In particular it explores the actions and motives of one of the key actors in the Asian crash the International Monetary Fund.
This report is a collaboration between Focus on the Global South, based in Bangkok, and the Catholic aid agency CAFOD, based in London. It reflects the experiences and concerns of church groups, trade unions and other grassroots organisations working on a daily basis with the poor of Asia.
Taming the Tigers begins by describing what actually happened in the three worst hit countries of Thailand, Indonesia and South Korea. It goes on to explore the human impact of the crisis. These chapters provide the material for a detailed analysis of the IMF role, and of the numerous failings in its performance to date. The report concludes with recommendations for reform of the Bretton Woods institutions, and the international financial system.
Criticising the solutions imposed by the IMF in no way implies an uncritical endorsement of Asian development models. The political and economic systems in these countries have brought improvements in health, education and living standards. But the cost has been high in terms of sharpening the divide between rich and poor, environmental exploitation and loss of community control over natural resources, and growth without economic democracy or the expansion of political participation.
Rather this report demonstrates that the IMF does not have a monopoly of social or economic wisdom (far from it). If the Fund neoliberal crusaders can be reined in, and alternatives explored, the crisis can offer Asia the chance to forge democratic and sustainable alternatives to the ruinous development path of recent years. If not, then ordinary Asians could come to look back on the 1970s and 1980s as a golden era. That would indeed by a tragic testament to the failings of the rescue packages of 1997.
The crisis that struck Thailand, Indonesia, South Korea and much of Southeast Asia in the second half of 1997 is far more than an Asian financial crisis.
It is above all a human crisis. Already millions of people have been thrown out of work, and poverty and hunger are on the increase, as decades of social progress have been thrown into reverse. Worse is to come in the rest of 1998, and perhaps beyond. In Indonesia, the long-term viability of the nation is at stake as the economy collapses and food riots and protests spread.
It is a crisis of globalisation, revealing the extent to which governments are unable to cope with the combination of rapid capital account liberalisation and escalating global capital flows. In particular, the high levels of now unserviceable private sector debt show that the capital market is incapable of efficiently allocating resources, that national governments have not developed the necessary levels of transparency, institutional strength and regulation to keep pace with the rapidly changing external environment, and that fast-track liberalisation is incompatible with sustainable and equitable development.
It is a crisis of international institutions, and in particular of the International Monetary Fund. The IMF performance in Asia to date has demonstrated serious weaknesses. The Fund has prescribed wrong and socially disastrous medicine for the region ills, grossly exceeded its mandate, as laid out in its Articles of Agreement, and has shown itself both arrogant and far too close to the interests of its principle shareholder, the USA. The result of the Fund failures has been to exacerbate the human and macroeconomic impact of the crisis.
Before further damage is done, governments should:
Reassert the IMF original role as lender of last resort during balance of payments crises
Oppose any changes to the Fund Articles of Agreement, such as extending its remit to include capital account liberalisation, pending a full review of the Fund role and performance
De-link all trade, investment, democratisation and good governance conditions from IMF funding
Explore new mechanisms for the effective and fair resolution of private sector debt crises and the regulation of international capital flows, especially of short-term speculative capital, to reduce their capacity for economic destabilisation
In order to prevent the Asian crisis from deepening still further, and to avoid similar debt crises occurring in the future, both in Asia and elsewhere, the European and Asian governments present at the Asia Europe Summit in London in April 1998 should use their voting strength at the IMF and in other fora, in favour of the above reforms.
Thailand's financial crisis was at least three years old before it dramatically received global attention with the de facto devaluation of the baht on 2 July 1997. It cannot be said, however, that the International Monetary Fund (IMF) was particularly worried. Indeed, as late as the latter half of 1996, while expressing some concern about the huge capital inflows, the Fund was still praising Thai authorities for their "consistent record of sound macroeconomic management policies."
The complacency of the Fund and its sister institution, the World Bank, when it came to Thailand - indeed, their failure to fully appreciate the danger signals - is traceable to several factors. One is that both the Fund and the World Bank had been instrumental in promoting Thailand, with its openness to capital flows and its high growth rate (the highest in the world in the period 1985-95, according to the Bank), as a model of development for the rest of the Third World. It was after all during the IMF-World Bank annual conference in Bangkok in September 1991 that Thailand was officially canonised as Asia's "Fifth Tiger".
But probably more important is that the massive capital inflows into Thailand in the form of portfolio investments and loans had not been incurred by government in order to finance deficit spending. Indeed, the high current account deficits of the early 1990s coincided with the government running budget surpluses.
As a group of perceptive Indian analysts from New Delhi Jawaharlal Nehru University School of Economic Studies and Planning, noted,
"[p]art of the reason for this silence was the perception that an external account deficit is acceptable so long as it does not reflect a deficit on the government's budget but 'merely' an excess of private investment over private domestic savings."
In this view, countries with significant budget deficits, such as India in 1991, were regarded as profligate even when their foreign debt was much lower than Thailand's.
The latter's debt, because it was incurred not by government but by the private sector, was simply reflecting "the appropriate environment for foreign private investment rather than public or private profligacy."
In other words, left to its own devices, the market would ensure that equilibrium would be achieved in the capital transactions between private international creditors and investors and private domestic banks and enterprises. So not to worry.
Thailand had, in fact, moved relatively far down the road to the full financial liberalisation that had been urged on it by the Fund and the World Bank throughout the late 1980s and early 1990s. Between 1990 and 1994, under the liberal technocrat government of Anand Panyarachun and its successor, the first government of Chuan Leek-Pai, a number of significant moves to deregulate and open up the financial system were undertaken, including:
the removal of ceilings on various kinds of savings and time deposits;
fewer constraints on the portfolio management of financial institutions and commercial banks such as replacing the reserve requirement ratio for commercial banks with the liquidity ratio;
looser rules on capital adequacy and expansion of the field of operations of commercial banks and financial institutions;
dismantling of all significant foreign exchange controls;
the establishment of the Bangkok International Banking Facility (BIBF).
The BIBF was perhaps the most significant step taken by the Thais in the direction of financial liberalisation. This was a system in which local and foreign banks were allowed to engage in both offshore and onshore lending activities. BIBF licensees were allowed to accept deposits in foreign currencies and to lend in foreign currencies, both to residents and non-residents, for both domestic and foreign investments. BIBF dollar loans soon became the conduit for most foreign capital flowing into Bangkok, coming to about $50 billion over a three year period.
Thailand's liberalisation was incomplete, but the IMF did not raise a word of protest against the two other key elements of Thailand's macroeconomic financial strategy. The maintenance of high interest rates - about 400-500 basis points above US rates - was probably seen as a necessary inducement for foreign capital to come into Thailand. Besides, in the context of rapid growth, it was the usual IMF formula to contain overheating and inflation.
As for the fixing of the exchange rate at a steady $1:baht 25 through Bank of Thailand intervention in the foreign exchange market, this was probably seen as a necessary condition for investors to know they could exchange their dollars for baht without fear of being blindsided by devaluations that would drastically reduce their value. Besides, the Fund did not have a reputation of being a partisan of floating exchange rates for developing countries, which could plague them with volatile external accounts that could be quite destabilising.
Thus, when the IMF was requested by the Thai authorities to come in to rescue the economy in mid-July 1997, it was to fix a crisis that had as one of its root causes a Fund prescription (the liberalisation of the capital account) that had led to a problem that the Fund had neither foreseen nor worried about (private sector overborrowing).
When Thailand approached the IMF for assistance after the collapse of the baht in early July, it was not unlike a player approaching the coach with a quizzical look that said: "What went wrong? I was just following your instructions."
By that time, however, the Fund was busily rewriting history, saying that it had warned the Thai authorities all along about a developing crisis -prompting economist Jeffrey Sachs to write wryly that
"the IMF arrived in Thailand in July with ostentatious declarations that all was wrong and that fundamental surgery was needed" when, in fact, "the ink was not even dry on the IMF's 1997 annual report, which gave Thailand and its neighbours high marks on economic management!"
It took almost a month for the IMF and the government to negotiate the agreement that was announced on 20 August. In return for access to $16.7 billion - later raised to $17.2 billion - in commitments gathered from bilateral and multilateral donors, the Thai authorities agreed to a stabilisation and structural adjustment program with two principal components.
First, a stabilisation program that would cut the current account deficit through the maintenance of high interest rates, and the achievement of a "small overall surplus in the public sector by 1998" through an increase in the rate of the value-added tax (VAT) to 10 per cent, expenditure cuts in a number of areas, ending subsidies on some utilities and petroleum products, and greater efficiency in state enterprises via privatisation.
Second was structural reform of the financial sector. "At the heart of the strategy," noted the Fund in its statement, "has been the up-front separation, suspension, and restructuring of unviable institutions, immediate steps to instil confidence in the rest of the financial system, strict conditionality on the extension of FIDF [Financial Institutions Development Fund] resources, and the phased implementation of broader structural reforms to restore a healthy financial sector."
Part of the financial reform would also "require all remaining financial institutions to strengthen their capital base expeditiously. This will include a policy of encouraging mergers, as well as foreign capital injection."
The main part of the structural reform package was the closing down of insolvent financial institutions. Even before the baht devaluation, the Chavalit government had suspended 16 finance companies, including Finance One, once the country's premier finance company. At the time of the announcement of the agreement, the government declared that another 42 would be suspended, bringing the total to 58 of the country's 92 finance companies.
This was a popular move, since the finance companies were widely known to be bankrupt and had absorbed some 17 billion baht in subsidies from the FIDF, which many of them had spent not to restructure their loan portfolios but to relend, thus expanding their exposure. The IMF wanted a quick government decision to shut down those firms that could not be salvaged.
The IMF's question when it came to the stabilisation part of the package was: would the government go through with the agreement to raise taxes, particularly on petroleum?
For others, on the other hand, doubts began to set in on the wisdom of a program that would exacerbate deflation. With growth already set to slow down owing to the high levels of corporate indebtedness and the depressive effects of skyrocketing baht prices for imports, what was the rationale for drastically cutting back on government expenditure? Government capital expenditures, especially for infrastructure, had been the main factor stimulating growth in 1996 as the private sector lost its dynamism. Eliminating this stimulus would simply kick the economy from slowdown into a severe recession.
These fears were related to a larger concern, which was that the IMF was treating the Thai financial crisis with a cure for public sector profligacy, whereas it stemmed from private sector excesses. What was needed was not public sector policies that would speed up the downward spiral of the private sector but a counter-cyclical mechanism to keep the economy afloat.
As Jeffrey Sachs, the main proponent of this view put it,
"[T]he region does not need wanton budget cutting, credit tightening and emergency bank closures. It needs stable or even slightly expansionary monetary and fiscal policies to counterbalance the decline in foreign loans."
Sachs went on to claim that the Fund's behaviour in fact worsened what was already a delicate situation in the fall of 1997:
[T]he IMF deepened the sense of panic not only because of its dire pronouncements but also because its proposed medicine--high interest rates, budget cuts, and immediate bank closures - convinced the markets that Asia indeed was about to enter a severe contraction...Instead of dousing the fire, the IMF in effect screamed fire in the theatre. The scene was repeated in Indonesia and Korea in December. By then panic had spread to virtually all of East Asia.
Another concern that emerged had to do with the actual use of the $17.2 billion rescue fund. The 20 August agreement stated that this sum would be devoted "solely to help finance the balance of payments deficit and rebuild the official reserves of the Bank of Thailand."
What this meant was that the funds could not be used to bail out local institutions. "Financing the balance of payments deficit" was, however, a broad canopy that covered servicing the huge foreign debt of the Thai private sector, which in mid-1997 came to $72 billion, of which over half was short-term debt. The IMF-assembled funds provided an assurance that the government would be able to address the immediate debt service commitments of the private sector, while the government and the IMF sought to persuade the creditors to roll over or restructure their loans.
The rescue agreement thus repeated the pattern of the IMF-US Mexican bailout in 1994 and the IMF structural agreements with indebted countries during the debt crisis of the 1980s, in which public money from Northern taxpayers was formally handed over to indebted governments only to be recycled as debt service payments to commercial bank creditors.
To many, there was something fundamentally wrong about a process that imposed full market penalties on Thailand while exempting international private actors - indeed, socialising their losses. As the Nation put it,
"The penalties imposed on foreign creditor banks which have lent to the Thai private sector must be precise and applied equally...Thailand and Thai companies may bear the brunt of the financial crisis but foreign banks must also share part of the cost because of some imprudent lending. It would be irresponsible to lay the blame entirely on Thailand."
The Chavalit Government hesitates
It took another two months before the government could come up with the details of the stabilisation program. On 14 October, the Thai authorities publicly underlined their commitment to the IMF to generate a budget surplus equivalent to one per cent of gross domestic product by decreeing a series of taxes, including increases on duties on luxury imports, surcharges on imports not used by the export sector, and, most controversially, a fuel tax of one baht per litre of gasoline. On the expenditure side, government spending was cut by baht 100 billion, bringing it down to baht 823 billion.
On the financial sector reforms, the authorities announced the creation of the Financial Restructuring Authority (FRA) to oversee the screening of the rehabilitation plans submitted by the 58 suspended companies, which would be the yardstick used to determine whether or not they would be allowed to reopen. Also to be established was an Asset Management Corporation (AMC), with seed money totalling one billion baht from the government, which would oversee the disposal of the assets of the finance companies ordered closed.
The government also promised to allow foreigners to own up to 100 per cent of financial institutions, tighten rules for classifying loans as non-performing, provide full government guarantees for depositors and creditors, and improve the bankruptcy laws to allow creditors to collect their collateral faster.
At this point, the IMF's main concern was to see promises translated promptly into action. But popular opposition forced the Chavalit government to rescind the petroleum tax just three days after its announcement. Having presided over the unravelling of the economy, the government simply did not have the legitimacy to make its decision stick. The cabinet also failed to approve the emergency measures that were necessary to put the financial restructuring plans in motion, and procrastinated on identifying the finance companies that would be closed.
When Finance Minister Thanong Bidaya resigned over the rescinding of the oil tax, the Chavalit government's credibility hit rock bottom. The rising tension and confusion was captured in the following account:
In late October and early November, rumours swept regional markets that the IMF might hold back the second phase of stand-by credits due in December. IMF officials reportedly were frustrated by the glacial pace of reforms and the indecisiveness by the government in acknowledging the seriousness of the problems. Foreign creditors began to slash their credit lines and call back outstanding loans to Thai institutions. As the baht slid toward 42 to the dollar, fears emerged that Thailand might declare a debt moratorium.
On the other side of the barricades, street demonstrations called for the resignation of the government, and many of the protests were beginning to acquire an anti-IMF flavour. Critics became more vocal in saying that the tight-money, tight-fiscal-policy austerity package was a misguided cure that would only worsen the disease. As two influential analysts put it,
"IMF officials...believed that once its prescription of an austere economic program was followed strictly, confidence would return and capital would flow back into Thailand to improve liquidity and stabilise the baht. But this wishful thinking has not happened, with the country still paralysed by capital continuously flowing out of the system." In the meantime, "without capital, Thai business in general is heading for a breakdown."
With its credibility with both the public and the IMF hitting rock bottom, the Chavalit government finally announced on 3 November - just a few hours before the arrival of an IMF team to review government compliance with the agreement - that it would step down and allow a new parliamentary coalition to take power.
In the interval between the Chavalit government's announcement that it was stepping down and the formation of the second Chuan government, IMF pressure was instrumental in forcing the National Assembly to pass four emergency decrees that were necessary to get the financial restructuring going.
When the new government was constituted, the Fund did not relax its timetable, demanding that it immediately decide which finance companies should be permanently shut down and which should be rehabilitated. Indeed, it pinned its decision on whether or not the next tranche of $800 million would be released on the government's announcement. Thai compliance, said Karin Lissakers, US delegate to the IMF, "would be an important political signal that we had overcome political resistance to action."
On 7 December 1997, the Chuan government announced that all but two of the 58 finance companies would be closed. The IMF money was released. But praise for the Thai authorities demonstration of political will was tempered by the government's admission that the financial crisis and the IMF stabilisation program would bring about a worse than expected contraction in 1998, with the government and Thai authorities lowering their estimate of economic growth from the 2.5 per cent projected for 1998 at the time of the August agreement to just 0.6 per cent.
By the time of the next IMF review, in mid-February 1998, the figure of 0.6 per cent growth had again been revised downward to acknowledge a full-blown recession, with a fall in economic output of 3.5 per cent for the year, and more than 6 per cent for the first two quarters.
This dismal projection, which held out the possibility of an even greater freefall, prompted the Fund to yield to the government's request that it be allowed to run a budget deficit of 1 to 2 per cent of GDP rather than be forced to produce a surplus of 1 per cent.
Explaining the Fund's concession, Herbert Neiss, the IMF's Asia-Pacific director, admitted that "the economy had slowed down to such an extent that a continued stringent austerity regime may prompt a new economic crisis."
However, the government was not able to shift the Fund from its insistence on maintaining high interest rates, which were running at 20 per cent and above.
The Fund's new understanding with the Chuan administration committed the latter to push a revision of the Alien Business Law to allow foreigners more liberal investment privileges in the non-financial sectors of the economy; to prepare legislation to tighten up the country's bankruptcy laws; and to speed up the total or partial privatisation of key state enterprises such as the Telephone Organisation of Thailand, Thai Airways, and the Communications Authority of Thailand.
Finally, the revised agreement committed the government to announce stricter rules on classifying loans as "non-performing" by the end of March 1998 and to force the banks to recapitalize on that basis.
Since it came into office in mid-November, the government had, in fact, been urging the banks to recapitalize along the lines demanded by the Fund ever since the value of their assets had been drastically savaged by the currency plunge. That meant allowing foreign partners to take a big, if not majority, stake in Thai corporations, a step which had been made possible by emergency legislation approved by the National Assembly in October.
For some institutions, the choice was between receiving an infusion of foreign money or being brought more directly under the control of the government. Indeed, the government nationalised four near bankrupt banks in order to restructure, sell, or dismantle them.
With the legal ground being secured, foreign banks began to work out deals with cash-strapped Thai banks. The Japanese Sanwa Bank announced that it would take a 10 per cent stake in one of the country's biggest banks, Siam Commercial Bank - a move that would bring total foreign shareholding in that bank to 35 per cent. Citibank declared that it would move to gain a 50.1 per cent ownership share in First Bangkok City Bank.
While this deal remained suspended as of February 1998, ABN-AMRO, a Dutch financial group, said that it had arrived at an agreement to acquire a majority stake in the Bank of Asia.
By February 1998, after over three months in office, the Chuan government had gained the reputation of being extremely compliant with the IMF, definitely much more so than the preceding Chavalit government and the Suharto government in Indonesia.
As IMF representative Neiss put it,
"Thailand has turned the corner, along with Korea...[Thailand has] won a battle or two but not the war yet...Indonesia is still in the intensive-care unit."
It would be accurate to say that, while there were differences on interest rate policy and government spending, the government and the IMF had achieved a meeting of minds. The key to recovery was winning back the confidence of foreign capital, and the key to winning that confidence was to adhere to the IMF austerity program.
Thais had, however, become disillusioned with a growth pattern based on foreign capital, for that had after all been what had led Thailand to its current troubles. Moreover, how foreign capital would be induced to come back to an economy in severe recession, where prospects for profits lay quite a few years down the line, was not satisfactorily answered.
In September 1997, the World Bank was still saying, Indonesia has achieved a remarkable economic development success over the past decade and is considered to be among the best performing East Asian economies. Astonishingly, this view was still on the Bank public website as late as March 1998.
The report continues:
Indonesia has made great strides in diversifying its economy and promoting a competitive private sector through sound macro-economic management, increased deregulation and deeper investment in infrastructure services. Today both foreign and domestic investment are booming… Indonesia investment rates have steadily increased and are now among the highest in the large developing countries. Much of the dynamism can be traced to the government reform programme which liberalised trade and finance and encouraged foreign investment and deregulation.
This is the same country that has, in the past six months, seen its stock market drop by 50 per cent, whose currency has plunged more than 70 per cent and whose dynamic economy is being subjected to an amazingly detailed and interventionist set of IMF conditions linked to a $43 billion bailout loan.
In July 1997, shortly after the Thai baht was unpegged from the US dollar, investors and currency speculators, who were either nervous or opportunistic, started to test the fundamentals in other Asian countries by selling off stocks, calling in debts and dumping currencies, thus triggering the contagion effect which caused currencies and economies throughout the region to collapse. Malaysia, Indonesia and the Philippines were most severely affected, as relentless attacks on their currencies forced each, in turn, to abandon the fixed exchange rate and let the market determine the currency value.
The weaknesses in the Indonesian economy that made it vulnerable to currency attacks were similar to Thailand: rising external liabilities, private sector debt problems and poor loan quality, lack of confidence in the government ability to resolve the problems, excessive amounts of foreign investment inflating an expanding asset bubble and an overvalued currency pegged to the strengthening US dollar.
Although most of the macro-economic indicators were deemed sound, the financial sector was deeply suspect and proved to be the weakest link in the chain.
Early in the crisis the Indonesian government attempted to calm the situation by defending the currency, using Central Bank reserves, and loosening its control on the exchange rate. However by 13 August, just as Thailand was signing a deal with the IMF, the rupiah hit a then historic low of 2,682 to the dollar, from a pre-July level of 2,400. On 14 August the government abolished the managed exchange rate and the rupiah slid immediately to 2,755.
Even though the Central Bank attempted to defend the currency by raising interest rates and the Government announced that projects worth 39 trillion rupiah would be postponed to meet the budget shortfall, the situation continued to deteriorate and by 6 October the rupiah was at a new low of 3,845 to the dollar.
Two days later, faced with declining reserves, collapsing financial institutions, and capital haemorrhaging from the country, the Government announced its intention to seek IMF assistance. By 31 October, Indonesia had agreed to a $43 billion loan agreement.
Of this, $23 billion was first line financing made up of $10 billion from the IMF, $4.5 billion from the World Bank, $3.5 billion from the Asian Development Bank and $5 billion from Indonesia own international reserves. Second line supplementary financing, totalling about $20 billion, included $6 billion from the US, $5 billion each from Japan and Singapore and $1 billion each from Australia and Malaysia.
The agreement represent about 490 per cent of Indonesia Special Drawing Rights, just below the 500 per cent threshold requiring special approval.
The objectives of the package were to
stabilise exchange market conditions, ensure an orderly adjustment of the external current account in response to lower capital inflows, and lay the groundwork for a resumption of sustained rapid growth.
The targets set for Indonesia included a current account deficit of 2 per cent of GDP, official reserves worth about 5 months of imports and a budget surplus of 1 per cent achieved by increasing revenue through excise taxes and removing tax exemptions.
The main policy measures to achieve these objectives were tight monetary policy (pushing up interest rates to mop up excess money, to reduce the debt component of financing in favour of equity and to attract foreign investment), closing unviable banks, liberalising foreign trade and investment, dismantling domestic monopolies and expanding the privatisation programme.
Specific reforms included reducing tariffs in sectors such as chemicals, fisheries and steel products, an explicit agreement to implement ahead of schedule the WTO ruling on the National Car (a case brought by the US) should the ruling go against Indonesia, and postponing or rescheduling major state investments. The Suharto government also agreed to reduce export taxes, open more sectors of the economy to foreign investment and privatise public enterprises under the management of a newly established privatisation board.
Rather than restoring confidence, however, the IMF directive to close down sixteen insolvent banks caused panic, precipitating a run on two thirds of the country banks, further weakening the financial sector and eroding faith in the economy. The Fund itself admitted as much in an internal memo which was reported in the New York Times in mid-January:
A confidential report by the International Monetary Fund on Indonesia economic crisis acknowledges that an important element of the IMF rescue strategy backfired, causing a bank panic that helped set off financial market declines in much of Asia…These closures, far from improving public confidence in the banking system, have instead set off a renewed flight to safety. Over two thirds of the country banks were affected, and more than $2 billion was withdrawn from the banking system.
For the next two months, the IMF bailout did little to staunch the flow of money out of the country or slow the plunging rupiah. Clearly the market needed more that the IMF intervention to convince it that all was well in the State of Suharto. Neither the IMF nor the investors had confidence in the determination of the Indonesian Government to stick to the loan conditions, and confusion resulting from contradictory messages coming from Jakarta exacerbated the situation.
At one moment, the 76 year old President was promising to axe a slew of major infrastructure projects, the next he earmarked a select fifteen for preferential treatment and continued support. The fact that several of these projects directly involved or benefited his immediate family highlighted the extent to which the Indonesian economy and its institutions are embedded in a nepotistic system of money-lending and deal-making limited to an inner circle of Suharto offspring and friends.
Estimates of the family fortune vary wildly, from $6 to $40 billion, making it one of the world largest family fortunes and
Suharto six children have used political influence to amass holdings that range from airlines, banking and petrochemicals to the Timor, Indonesia national car. Foreign companies hoping to do business in Indonesia often hire Suharto scions as consultants to grease the wheels.
The inside story of the 17 January issue of The Economist (with the cover banner Step down, Suharto) commented that:
Mr Suharto has proved better at promising reform that delivering it. He is, after all, being asked to dismantle an economic structure which has created enormous fortunes for his sons and daughters… As his relations squeal, he may backslide, setting off a new onslaught on the currency, new bouts of panic hoarding, new hyperinflationary pressures.
The crisis in Indonesia started to quicken in early December when rumours of Suharto ill health and his non-attendance at the ASEAN meeting in Kuala Lumpur triggered concerns about political and social stability. For anyone who has taken more than a passing interest in Indonesian affairs, the unsustainability of Suharto regime and the political vacuum he has created is no surprise. Yet it seems that as long as the ageing autocrat continued to deliver the economic goods, no one was too concerned.
However, as the economy started to collapse it became obvious that the rhetoric of national unity and growing prosperity was cloaking a darker reality of dissent, despair, anger and poverty, likely to be translated into violence and chaos.
The Economist put it succinctly, saying that what looked like political stability during a bull market looks like dangerous rigidity when times are tough.
President Suharto budget speech of 6 January had a devastating effect. He announced substantial increases in the subsidies for petrol and staples such as rice and fertiliser and an overall 32 per cent increase in government spending, but gave no hint of when and how subsidies and monopolies would be abolished.
In addition, the budget figures were based on extremely optimistic assumptions such as 4 per cent growth, 9 per cent inflation and an exchange rate of R4,000 to the dollar. (At the time of writing the growth estimate is -0.5 per cent, annualised consumer price inflation for February 1998 was 32 per cent, and the rupiah is still hovering around 10,000 to the dollar with no improvement in sight).
Faced with massive unemployment, a rapidly contracting economy and potential social unrest, Suharto budget could be seen as a logical response to the circumstances. However, both the IMF and the markets disagreed. The market responded by further selling off the currency and by moving more money offshore, sending the rupiah through the critical psychological 10,000 mark on 9 January.
By then the political and economic situation was spinning out of control with food prices soaring and reports of rioting and food hoarding. The government response was to announce jail sentences for hoarding and to put the army in charge of food distribution hardly the sort of measures to calm a jittery population and the even more nervous investors.
The IMF responded by flying in top-level officials to strong-arm Suharto into reneging on his budget promises and to reaffirm his commitment to the IMF deal. Suharto also received phone calls from US President Clinton, Japan Prime Minister Hashimoto, Australia John Howard and Helmut Kohl of Germany, all urging him to revise the budget and stick to the IMF conditions. Clinton dispatched two senior members of the administration, Secretary for Defence William Cohen and Deputy Secretary to the Treasury Lawrence Summers to deliver messages to President Suharto.
Using tremendous pressure, the IMF was able to extract a new commitment from Suharto on 15 January 1998, powerfully captured in the photograph of IMF Managing Director Michel Camdessus, arms crossed with the demeanour of an invigilator, imperiously standing over Suharto as he signed on the dotted line. But the markets were not calmed and stocks fell a further 4 per cent. From a steady 2,400 in July, the rupiah took five months to slide to 4,000 in early December, and thereafter just one month to crash to an astonishing 17,000 to the dollar by 22 January.
The details of the second IMF agreement were published in detail, no doubt to put further pressure on Indonesia and to convince the markets that their concerns were being addressed.
The agreement acknowledges that
The enormous depreciation of the rupiah did not seem to stem from macroeconomic imbalances, which remained quite modest. Instead, the large depreciation reflected a severe loss of confidence in the currency, the financial sector and the overall economy.
In contrast to the first agreement which set quite specific macro-economic targets, the second realistically asserts that:
Under current volatile conditions it is difficult to set precise macroeconomic targets. Nevertheless, the programme is designed to avoid a decline in output, while limiting inflation to about 20 per cent.
The specific macro economic objectives are:
- to achieve a current account surplus,
keep inflation to 20 per cent, set a balanced budget (a change from the earlier requirement of a budget surplus),
eliminate subsidies on electricity and fuel (except kerosene and diesel) commencing on 1 April,
increase excise on various goods, end all VAT exemptions,
impose a 5 per cent tax on gasoline, improve tax recovery,
include the investment and reforestation funds in central revenues from fiscal year 1998/99, and ensure that the reforestation fund is used explicitly for the specified purposes.
Specific steps to liberalise trade and investment included:
- reducing tariffs on all imported foodstuffs products to 5 per cent and cutting non-agricultural tariffs to 10 per cent by 2003,
a major overhaul of the banking system, including opening banks to foreign ownership by June 1998,
lifting restrictions on foreign banks by February 1998,
the establishment of the Indonesian Bank Restructuring Agency to dispose of the collateral backing problem loans and oversee the merger or liquidation of weak financial institutions.
But even here there is considerable scepticism… about the ability of the new agency to close down weak financial institutions with strong political connections, particularly those with ties to Mr Suharto extended family.
Suharto family values under attack
What the new deal lacks in macro-economic targets is made up for in micro-economic directives which strike at the very heart of Suharto economic power, addressing in minute detail the dismantling of cartels, monopolies and taxes which directly benefit Suharto, his family and friends.
Twelve megaprojects were cancelled, including several directly linked to Suharto sons and daughters and all special benefits for the National Car project (run by Suharto youngest son Tommy) and the aircraft project (run by Suharto golden boy and newly appointed vice-president B.J. Habibie) were stopped.
The Fund also demanded liberalisation of trade in agricultural products such as cashews, cloves, oranges and vanilla, removing restrictions on foreign investment in the palm oil industry by 1 February and on wholesale/ retail trade by March 1998 and closing the clove marketing board (run by Suharto son Tommy) by June 1998.
Even on this seemingly minor condition, there has been no positive government action. In late February a cabinet minister made comments suggesting that the clove marketing board may be continued, on a different basis. The clove business is extremely lucrative in Indonesia, since powdered cloves are an essential ingredient of the local cigarettes.
The Fund demanded the break-up of formal and informal cartels, monopolies and marketing arrangements (such as those in plywood, paper and cement) whereby producers are required to sell through a central marketing agent, pay commissions, or be allocated production quotas or market shares.
It also restricted the monopoly of the state logistics body, Bulog, to rice. Flour had been included in the first agreement but was subsequently dropped, reportedly threatening the ability of Suharto friend Liem Sioe Liong (the world biggest manufacturer of instant noodles) to control the price of wheat. Sugar imports will be deregulated and farmers will not be forced to plant sugar cane, allowing land currently used for sugar to be turned over to rice.
Social spending will be increased to provide nine years education and better basic medical services.
Following the new agreement with the IMF, the Indonesian Government announced on 27 January a temporary freeze on corporate debt servicing by Indonesian companies, along with plans for a new government agency to oversee bank reforms, including closing down non-viable banks and selling assets.
The financial sector in Indonesia is in dire straits. Capital flight, rumoured to have begun as early as March 1997 when violent rioting and looting against the minority ethnic Chinese, has caused many to send their money off-shore to safer havens in Singapore and Hong Kong.
The capital flight has been so dramatic that Indonesia very solvency is threatened, with foreign banks severing inter-bank ties to Indonesian banks and refusing to accept letters of credit, preventing importers from bringing in raw materials and other inputs from abroad. In addition, the collapsing rupiah means that the price of imported goods has more than doubled, supplies are dwindling, people are hoarding, hospitals are having to cut back and even basic medical supplies are now out of reach.
The IMF conditions gave momentum to the already rising food prices by ending subsidies on staples such as beans, sugar and flour. Prices are expected to rise again after 1 April when state subsidies on fuel and electricity are due to be lifted.
Meanwhile, the Indonesian economy is burdened with a huge foreign debt, estimated at the end of December 1997 at $140 billion (two thirds of GDP) of which $20 billion was short term, and $65 billion owed by private non-financial institutions. This translates into a debt service ratio of about one third of exports of goods and services.
In a desperate effort to attract foreign currency President Suharto announced in mid-February plans to establish a currency board. The basic principal of a currency board is that every unit of local currency in circulation is backed by foreign reserves at a fixed exchange rate (5,000 - 5,500 was mooted as the rate for the rupiah). This put him on a collision course with the IMF, which threatened to withdraw the $43 billion credit should Jakarta pursue the idea.
Suharto, in a grim effort to retain control over economic policy, held on to the last, even dismissing the Central Bank Governor who apparently did not support the idea of a currency board. The debate over the currency board is likely to continue. As recently as 11 March, Jakarta was buzzing with rumours that the Board would be set up within two days. The government is looking for a quick fix and it seems probable that the solution is the currency board, said an Indonesian analyst at Goldman Sachs in Singapore.
There are several explanations for Suharto interest in the currency board. Firstly, even if the board was in place for just one or two days, it would allow the Suharto circle to wipe off their foreign debts at R5,500 rather than R10,000.
Secondly, it gave Suharto some breathing space to reassert his control over economic policy after the humiliating acquiescence to the IMF earlier in the year. Whatever his motivation, talk of the currency board has had the effect of sucking foreign exchange into the country from investors eager to get in early just in case the rupiah is re-pegged at a lower rate.
Unlike Thailand and South Korea, Indonesia has been a reluctant, even belligerent, recipient of the IMF largesse. Clearly, Suharto has vested interests to protect, the very same interests which are being singled out by the IMF in their bid to restore confidence in the Indonesian economy.
In the invidious struggle for power between the Fund and the President, no holds are barred. In early March US President Clinton sent former vice-president Walter Mondale to have a heart-to-heart talk with Suharto, while Suharto continues to antagonise the West by pushing the currency board plan, brazenly assuming the mantle of President for a seventh consecutive term and even nominating the profligate spender B.J. Habibie as vice-president. In the midst of all this arrogance and intransigence, 200 million Indonesians are suffering.
The impact has been devastating. Estimates of the total number of people who had lost their jobs by the end of 1997 varied enormously, from 2.5 million to 6.6 million. The construction industry in particular has ground to a halt with at least 950,000 workers losing their jobs. Unemployment has jumped from 7.7 per cent to 10 per cent and is expected to climb further during 1998.
By late March, the currency devaluation and capital flight had left the financial sector in ruins, causing prices to rise and businesses to crash. Because the Government had dragged its feet on implementing the IMF reforms, it was impossible to assess what impact they would have on the present situation, or indeed on the long term economic and political future of Indonesia. In any case, political concerns had overtaken the economic crisis, and one could not be resolved without the other.
Teaching the tiger a lesson
On 30 September 1996, South Korea, blessed with one of the world most vibrant economies, said goodbye to the developing world and joined the elite rich man club of the Organisation for Economic Cooperation and Development (OECD).
The statistics behind South Korea promotion are impressive. Korea, which had a per capita GDP less than that of the Philippines in 1965, could by 1995 boast per capita income of $13,269, compared to the Philippines $2,475. This represented a 770 per cent increase in just thirty years. Annual economic growth over the same period averaged slightly over 7 per cent and pre-crash figures placed South Korea as the 11th largest economy in the world.
A 1996 United National Conference on Trade and Development (UNCTAD) report described South Korea as the outstanding example of an emerging donor with the potential for making a significant contribution to official development assistance. The report went on to note that since independence in 1945 South Korea had received aid grants totalling $4.8 billion and that (It) is a country that has successfully broken out of aid dependence.
Little more than a year later, South Korea is in virtual receivership, having agreed to a $57 billion rescue package assembled by the IMF an amount more than ten times the total official development assistance given to South Korea in the previous forty years. Ironically, membership of the OECD forced financial and other deregulation which were contributing factors to the financial meltdown, by increasing inflows of foreign finance and putting pressure on locally produced goods from less expensive and better quality imports.
Unlike the Southeast Asian economies, Korea, the classic "NIC" or newly industrialising country, had blazed a path to industrial strength that was based principally on mobilising domestic savings, carried out partly through equity-enhancing reforms such as land reform in the early 1950s. Although foreign capital had played an important part, local financial resources, extracted through a rigorous system of taxation plus profits derived from the sale of goods to a protected domestic market and to foreign markets opened up by an aggressive mercantilist strategy, constituted the main source of capital accumulation.
The institutional framework for high-speed industrialisation was a close working relationship between the private sector and the state, with the latter in a commanding role. By picking priority strategic sectors and industries, providing them with subsidised credit (sometimes at negative real interest rates) through a government-directed banking system, and protecting them from competition from foreign corporations in the domestic market, the state nurtured industrial conglomerates (chaebol) that it later pushed out into the international market. This strategy was immensely successful in the 1960s and 1970s, becoming the bedrock of South Korea miracle industrialisation and export growth.
In the early 1980s, the state-chaebol combine appeared to be unstoppable in international markets, as the deep pockets of commercial banks that were extremely responsive to government wishes provided the wherewithal for Hyundai, Samsung, LG and other conglomerates to carve out market shares in Europe, Asia, and North America. The good years lasted from 1985 to 1990, when profitability was roughly indicated by the surpluses that the country racked up in its international trade account.
Yet even by the early 1980s the inefficiencies and complacency of what had until then been an extremely successful state-led strategy were becoming evident, as the economy grew and the corruption in the state-bank-chaebol nexus multiplied and became evident. Despite this, no action was taken to reform the system by either politicians, economists or government bureaucrats -- or for that matter, any of their international backers.
In the early nineties, the tide turned against the Koreans. Three factors, in particular, appear to be central. The first was the failure to invest significantly in research and development. The second was the massive trade blitz unleashed on Korea by the United States. The third was membership of the OECD, which forced Korea to adopt a more liberal stance towards foreign capital and finance. These factors exposed the government inability to prevent market failure, the conscious prevention of which had underpinned much of the country success during the miracle decades.
Instead of pouring money into R&D to turn out high-value-added commodities and develop more sophisticated production technologies, Korea's conglomerates went for the quick and easy route to profits, buying up real estate or pouring money into stock market speculation. In the 1980s, over $16.5 billion in chaebol funds went into buying land for speculation and setting up luxury hotels and golf courses and by 1996, total bank exposure to real estate reached 25 per cent, higher than either Thailand or Indonesia.
Most of the machines in industrial plants continue to be imported from Japan, and Korean-assembled products from colour televisions to laptop computers are made up mainly of Japanese components. For all intents and purposes, Korea has not been able to graduate from its status as a labour-intensive assembly point for Japanese inputs using Japanese technology. Predictably, the result has been a massive trade deficit with Japan, which came to over $15 billion in 1996.
As Korea's balance of trade with Japan was worsening, so was its trade account with the United States. Fearing the emergence of another Japan with which it would constantly be in deficit, Washington subjected Seoul to a broad-front trade offensive that was much tougher than the one directed at Japan, probably owing to Korea's lack of retaliatory capacity. This included a Plaza Accord-style forced appreciation of the South Korean won.
Hemmed in on all fronts, Korea saw its 1987 trade surplus of $9.6 billion with the US turn into a deficit of $159 million in 1992. By 1996, the deficit with the US had grown to over $10 billion, and its overall trade deficit hit $21 billion.
In addition, competition from other East Asian countries with cheaper labour put pressure on Korea. All of these elements, combined with over-expansion and over-specialisation, meant that by 1996 the top 20 listed companies in Korea were earning a mere 3 per cent on assets, while the average cost of borrowing had risen to 8.2 per cent.
The average debt to equity ratio was a phenomenal 220 per cent (and up to 300-400 per cent in many cases) and the return on equity a minuscule 0.8 per cent. It is hardly surprising that many companies stopped paying their bills.
In a desperate attempt to regain profitability, management tried to ram through Parliament in December 1996 a series of laws that would have given it significantly expanded rights to fire labour and reduce the work force, along the lines of a US-style reform of sloughing off "excess labour" and making the remaining workforce more productive.
When this failed owing to fierce street opposition from workers, many chaebol had no choice but to fall back on their longstanding symbiotic relationship with the government and the banks, this time to draw on ever greater amounts of funds to keep money-losing operations alive.
The relaxation of controls which had accompanied South Korea compliance with the requirements of OECD membership and the pressures of globalisation led to massive short-term borrowing abroad by the banks and private sector to maintain their profitability by rolling over loans that could not be repaid.
Abandoning state controls also resulted in excessive investment in capacity in a few industries by a number of chaebol, a problem which was aggravated by the increasing autonomy and lack of transparency as the chaebol transformed themselves into transnational corporations.
The domestic banking system was not able to neutralise, or even optimise, the impact of foreign capital flows by directing the funds into productive and safe lending and eventually the excess liquidity spilled over into risky and speculative investments. According to Yilmaz Akyüz of UNCTAD, the problem is not necessarily the control and supervision of the banking system, but the absence of instruments to restrict capital inflows to control their impact on the macro economy. As he points out these instruments are usually discarded with the adoption of liberalisation designed to remove financial repression.
By October 1997, it was estimated that non-performing loans by Korean enterprises had escalated to over $50 billion. As this surfaced, foreign banks, which already had about $200 billion worth of investments and loans in Korea, became reluctant to release new funds to Seoul. By late November 1997 Korea, saddled with having to repay some $66 billion out of a total foreign debt of $120 billion within one year, joined Thailand and Indonesia in the queue for an IMF bail-out.
The IMF wasted no time in responding to Seoul call for assistance. A team of economists was promptly dispatched with instructions to negotiate the terms of a Mexico-style bailout to restore economic health and stability. An important precedent was being set: for the first time an advanced industrial country would be subjected to the tough IMF conditions usually reserved for developing countries.
According to Michel Chossudovsky of the University of Ottawa, the bailout conditions had been agreed by the US Treasury, the US Chamber of Commerce, Wall Street bankers and key European banks even before the team stepped on the plane. According to one knowledgeable Korean source, the US Chamber of Commerce actually wrote a significant part of the final agreement.
The IMF mission wrapped up the deal on 3 December 1997. In just one week they had cobbled together $57 billion in stand-by credits, comprising $21 billion from the IMF, $10 billion from the World Bank, $4 billion from the Asian Development Bank and a total of $20 billion from leading industrial countries, including $10 billion from Japan and $5 billion from the US.
For the first time, several European countries promised credit to an Asian country in trouble, signalling the global nature of the crisis (see Table 1). In return, the Korean government agreed to a long list of economic, institutional, labour and industrial reforms meant to revive the gasping economy.
But what a week it was: the stock market and currency continued to tumble and twice the Korean Finance Minister announced that the deal was struck, only to see it unravel. Newspapers reported that the IMF negotiators were nervous about dealing with an advanced economy with notoriously tough negotiators.
They were also blamed for the delays, apparently agreeing to terms that had not been approved by their boss Michel Camdessus who, in turn, was under strict instructions from the Fund most powerful member, the United States, to strike a tough deal with Seoul.
Meanwhile Korea foreign currency reserves were dwindling and the government was faced with the prospect of default unless a deal was reached quickly. Korea negotiating position weakened with each passing day.
The IMF nimbly invented a new kind of loan, the Supplemental Reserve Facility to enable it to bypass its normal ruling that financial packages are not allowed to exceed five times the recipient country IMF quota. Its $21 billion contribution to the South Korea rescue package exceeds the previous record loan of $17.8 billion to Mexico in early 1995, and is more than 20 times the quota available to South Korea.
The deal ensured that South Korea would avoid default on the estimated $66 billion of the total $120 billion foreign debt which was short term. Sighs of relief were no doubt heard in the board rooms of Japanese banks which had lent $23.4 billion to South Korea and were in no position to handle defaults given the precarious state of their own banking system. European lenders were also exposed in South Korea - Germany total lending to Malaysia, South Korea, Indonesia, Philippines, Taiwan and Thailand is greater than that of the US.
Like all IMF agreements the details are sketchy, but published information reveals an interesting mix of the traditional IMF formula of fiscal and monetary tightening, combined with some nods to the special interests of foreign bankers and business, such as labour market reform, further opening the financial sector to US banks and fund managers, opening product markets to Japanese goods and clearing the way for majority foreign ownership of Korean companies.
According to the publicly available IMF document the objective of the programme is to
narrow the external current account deficit to below 1 per cent of GDP in 1998 and 1999, contain inflation at or below 5 per cent, and hoping for an early return of confidence limit the deceleration in real growth to about 3 per cent in 1998 followed by a recovery toward the potential in 1999.
Table 1: Approximate contributions to IMF loans in US dollars (billions)
| Source | Indonesia | Thailand | South Korea |
| International Monetary Fund | 10 | 4 | 21 |
| Asia Development Bank | 3.5 | 1,2 | 4 |
| World Bank | 4,5 | 1,5 | 10 |
| Australia | 1 | 1 | 1 |
| Canada | 1,25 | ||
| France | 1,25 | ||
| Germany | 1,25 | ||
| Great Britain | 1,25 | ||
| Italy | |||
| Japan | 5 | 4 | 10 |
| Singapore | 5 | 1 | |
| United States | 6 | 5 | |
| South Korea | ,5 | ||
| Indonesia | 5 | ,5 | |
| Brunei | ,5 | ||
| Hong Kong | 1 | ||
| Malaysia | 1 | 1 | |
| China | 1 | ||
| TOTAL* | 41 | 17,2 | 57 |
*The figures on the total IMF loan and credit packages vary, and accurate figures for individual countries were not readily available.
The key elements of the arrangement were:
- tightening monetary policy to restore and sustain calm in the markets
- raising interest rates from 12.5 per cent to 21 per cent to reign in liquidity (interest rates rose to 32 per cent in December)
- controlling money supply to contain inflation at or below 5 per cent
- floating the exchange rate with minimal interventions
- maintaining a balanced or slight surplus budget (including the interest costs of financial sector restructuring)
- increasing the value added tax (VAT) and expanding corporate and income tax bases.
In addition to these fiscal and monetary policies, the agreement includes a long list of institutional reforms, including establishing an independent central bank (effectively severing the feed line between the government and the chaebol), closing troubled financial institutions, imposing Bank for International Settlements (BIS) debt/equity ratios, and accelerating the approval of foreign entry into the domestic financial sector, including allowing foreign banks to establish subsidiaries.
Other key structural reforms include trade liberalisation, capital account liberalisation, reviewing corporate governance and structure, and labour market reform.
Less than a month after the initial agreement, following three weeks of market and currency turmoil fuelled by concerns that the IMF programme would not solve the economic problems and that the government would be unable to meet its short term debt obligations of $16.3 billion (with only $10 billion in foreign reserves), Korea received an emergency injection of $10 billion to forestall default.
Although critics noted that the IMF was too slow in disbursing funds, this was partly because the US in particular was keen to extract additional concessions from South Korea in return for the first tranche of cash. After the objective was successfully achieved by the IMF and the US, the first instalment of cash was presented as a Christmas gift - provided the Government agreed to speed up economic reforms by:
- closing ailing merchant banks and reducing risky assets to make them more attractive for foreign takeover
- opening the bond market by the end of 1997
- liberalising interest rates
- opening domestic markets to cars and other key Japanese industrial goods by mid-1999
- allowing foreign banks and financial institutions to set up wholly-owned branches ahead of schedule.
Far from sharing seasonal goodwill, it seemed that the creditors were using their considerable muscle to squeeze concessions from the down-and-out Korean government even ones unrelated to the facts of the economic crisis.
Criticism of the IMF programme for South Korea has been harsh, prompt and from all directions. Even before the deal was done, an editorial in the Financial Times of 27 November said:
both the government and the IMF must exercise care. Korea faces a private sector financial crisis, not the sort of government-inspired payments problem to which the IMF is traditionally used. Its current account deficit is low and falling, and there is a history of balanced budgets. Stringent fiscal restraint would compound the impact of private sector adjustment. The government can afford to borrow to finance its banks rescue. Insisting on tax increases and spending cuts to meet the cost would smack of overkill.
Yet, that is precisely what the IMF prescribed: fiscal restraint, tax increases, spending cuts, monetary tightening and more financial liberalisation.
Harvard Institute for International Development director Jeffrey D. Sachs was scathing in his attack on the IMF, accusing the Fund of secrecy, noting that the IMF insisted that all presidential candidates immediately endorse an agreement they had no part in drafting and no time to understand.
Outlining the contradictions between the prescriptions and the desired outcome to, in the IMF own words, limit the deceleration in real GDP growth… followed by a recovery toward potential in 1999, Sachs wrote:
The won has depreciated by about 80 per cent in the past 12 months, from around 840 to the dollar to a (then) record low of 1,565 yesterday (10 December, 1997). This currency depreciation will force up the price of traded goods. Yet, despite that the IMF insists that Korea aim for essentially unchanged inflation rates… to achieve unchanged low inflation in the face of huge currency depreciation Korea will need a monetary squeeze. And this is indeed what the Fund has ordered. Short term interest rates jumped from 12.5 to 21 per cent on the signing of the agreement, and have since risen further.
These elements together make for a rapidly contracting economy through a surprisingly simple chain reaction: money is in short supply, credit is expensive, companies cant afford credit, companies collapse, people lose their jobs, consumer demand declines, and so on.
In addition, the troubled financial institutions in their rush to meet BIS debt/equity ratios closed their lending services, refused to roll-over existing loans and shored up their reserves in an attempt to push down the ratios.
The panic that ensued - as local enterprises (even profitable ones) found their credit drying up and overseas creditors faced the prospect of defaults and a rapid contraction of the economy did nothing to restore and sustain calm in the markets. In fact, the IMF efforts were equivalent to fanning the flames and in the days following the signing of the agreement, almost before the ink was dry, the won tumbled even further.
Jeffrey Sachs called the IMF response overkill which made no sense for an economy that was (rightly) judged to be pursuing sound macroeconomic policies just months earlier. He went on to suggest that the IMF could have tried a more behind-closed-doors approach, encouraging Japan, the US and Europe to provide credit to the Bank of Korea and roll-over short term debts.
On the other hand, it does seem that the Government in Korea was less than forthcoming in their information disclosure, hugely overstating foreign currency reserves when, in fact, they were close to the bottom of the barrel.
One of the clear objectives of the IMF package is to dismantle the chaebol the huge family-run conglomerates which have spearheaded Korea fabulous growth and increasing global presence through household names such as Daewoo, Hyundai and Samsung.
As a result of the expansionary policies described above, the chaebol are also responsible for the vast majority of Korea debt. While unpopular with both the public and workers, dismantling the chaebol per se is not necessarily the correct solution, especially when the side effects are likely to be massive lay-offs and declining productivity at least in the short term.
In South Korea, the labour market reforms have created the greatest anti-government backlash. Recalling the protracted battle of 1996 against government legislation to introduce a bill allowing for the sacking of workers (supposedly to increase efficiency) it is possible that this particular clause was introduced with the agreement of both government and the chaebol as a way of pushing through unpopular reforms that had been previously tossed out by the parliament and to make the acquisition of Korean firms more tempting for foreign investors.
The Korean Confederation of Trade Unions (KCTU) international secretary puts it simply: It is the workers, not the government officials or corporate leaders responsible for our economic crisis who will have to bear the brunt of any IMF measures.
Chaebol officials, for their part, are also angry at the IMF imperious approach, claiming to detect a conspiracy by the US and Japan to use the IMF to weaken their international competitiveness.
Kim Dae Jung - just days before he was elected Korea new president - accused the government of surrendering economic sovereignty in return for IMF rescue funds, saying that
Bowing to pressure, the government opened up the capital market, leaving banks and other healthy firms helpless to foreign takeovers.
At the time, Kim promised to re-negotiate the terms of the IMF deal if elected. Five days later it was revealed that the IMF had requested all candidates for the upcoming election to sign a written pledge of support for the IMF package. All agreed, except for Mr Kim who replied saying that he supported the agreement in principle but subject to further renegotiations.
Although Kim did not formally take office until 25 February 1998, he and his team have been the main negotiators with the IMF since his election. While he appears to have gone along with the IMF package, his initial caution reflected a strong popular reaction to the IMF deal, based on anger at the government and chaebol for reckless expansion which emptied the banks and created a dependency on foreign capital, the perception that economic sovereignty was being handed, on a platter, to the IMF and the US, and that workers would, at the end of the day, bear the brunt of the crisis.
Martin Wolf, writing in the Financial Times of 16 December 1997, commented:
The question is not only whether the IMF programme will enable the Korean authorities to ensure short-term foreign liabilities are met. It is also whether it should do so. It is important to remember that the western creditors chose to lend to the chaebol, which they have suddenly noticed are burdened by heavy debt. They chose to lend the money to banks which, they have apparently just realised, are heavily influenced by government.
Despite such criticisms, in late January 1998 $25 billion of South Korea short-term debt was restructured into medium-term debt after an agreement was reached with a group of commercial bank creditors in New York City, but not before the South Korean government extended a guarantee to cover $24 billion of that amount in the case of default by the private sector debtors.
Furthermore, despite this government guarantee, the interest rate terms on which the debt was restructured varied between 7-9 per cent while the LIBOR international lending rate was only 5.6 per cent, resulting in the very high average spread of approximately 2.5 per cent.
The fears that a rescue package which absolved foreign investors from the consequences of their poor investment decisions would merely encourage such behaviour (otherwise known as moral hazard) has been amply borne out in Korea. Saved from the brink of debtor default, and following a debt moratorium supported by the heavily exposed banks, investors are now pouring money back into the country more than $500 million in stocks and bonds entered in January alone and the stock market is the best performer in the world so far this year. Investors have a new spring in their step having achieved labour reforms, effectively dismantled the chaebol and gained the radical market and investment openings they have desired for so long.
Yet the recovery remains extremely fragile and further financial liberalisation runs the risk of turning the South Korean economy into one which exchanges its earlier reliance on domestic savings for a new found addiction to foreign capital, especially portfolio and other short-term capital flows. This is likely to create another crisis, similar to the Thai one, in the near future, a scenario that is already being discussed by some Korean and foreign commentators and economists.
The social impact of the economic crisis and of the measures adopted under IMF pressure is evident in all three countries covered by this case study, although much of the information is anecdotal and inferential at this early stage. Many commentators believe that the main impact of the crisis, in the shape of rising unemployment and poverty, will not be felt until late 1998 in South Korea and Thailand, while few observers are willing to predict when Indonesia will hit bottom. Most expect a minimum of several years of economic and social turmoil before any upturn occurs.
While it is extremely difficult to disaggregate the respective social impacts of the original crisis and the IMF-led response to it, it is generally agreed that IMF directives to raise interest rates, raise taxes and cut public expenditure deepened the economic contractions in both Thailand and Korea, although the Fund argues that this was necessary to control inflation and stabilise the currencies. In Indonesia, where the Suharto government has failed to implement many of the promises made to the IMF in two agreements in October 1997 and January 1998, the specific impact of IMF-approved measures is still to be seen.
In Thailand and Indonesia, where there is a very large informal and transient workforce, meaningful statistics will be difficult to collect. However it is likely that this group, in particular, will be badly hit because there is no effective social safety net, they are generally unskilled and often landless, with few resources or means to seek alternative employment.
The situation in Korea is different, given the much higher level of education and employment in the formal sector. Nonetheless, the immediate impact of the currency devaluation, economic recession and the longer term impacts of the structural reforms prescribed by the IMF are bound to be significant.
In the late 1960s, 57 per cent of the Thai population lived below the poverty line. Prior to the crisis, that figure was down to about 13 per cent. Despite tremendous economic growth in the intervening years, around 8 million Thais were still living on less than $2 a day: they did not benefit from the boom and will now be among the first to suffer from the bust.
Almost all sectors of the economy have been effected by the rapid slow down, the rising cost of imports, the high price of credit, failing businesses and cuts in government expenditure.
Conservatively, unemployment at the end of 1997 was 1.4 million and is expected to rise to 2 million in the first half of 1998, however others estimated that the actual end-of-1997 figure could be as high as 2.9 million out of a workforce of 29 million. At the top of the casualty list were the 15,000 employees of the 58 financial firms that had been shut down by the authorities at the urging of the Fund. Analysts say up to 200,000 finance employees could be jobless after the restructuring of the sector.
Thai Ministry of Labour officials reported at a recent seminar at Bangkok's Rangsit University that 62,000 workers had lost their jobs as a direct result of the economic crisis. However, this figure is bound to be low as it is based only upon companies' monthly reports to the Ministry of Social Welfare on the number of workers laid off, and does not include people working in the informal sector or unofficially.
The fallout from the bursting of the bubble economy appeared to be hitting the real economy faster than people anticipated. In the last half of 1997, work on most construction projects ground to a halt in Bangkok, leaving the city with ugly half-finished tower blocks and disgorging thousands of workers onto a contracting economy. An average of five migrants had returned to each of the country's 60,000 villages by December, according to non-governmental organisation (NGO) estimates.
The swarming back into the rural economy was corroborated by, among others, a social researcher in Pichit, a province three hours from Bangkok by bus, who found that considerable numbers of construction workers appeared to be joining the rural work force. "To my surprise, I was talking to field labourers that had been recently laid off from construction jobs in Bangkok. They were dispirited and they were hungry."
In a survey of unemployed people in the province of Nan in the far north of the country, the same researcher found that "about 80 per cent of those interviewed had returned since December [1997] because of the economic crisis."
These findings were in line with data gathered by others. For instance, in the village of Sap Poo Pan in the Northeast - the region that produces the greatest number of internal migrants - World Bank researchers found that out of a total village population of 260, 40 out of the 110 people working outside the village had already returned by late January 1998.
In September 1997 then Finance Minister Thanong Bidaya predicted that about one million Thais would lose their jobs in the coming recession. That was an underestimate, according to other sources, which said that 2.9 million out of the country's work force of 29 million were expected to be unemployed by the end of 1997.
Government figures showed that by February, 80,000 workers had been laid off since mid-1997, and this figure, said labour expert Dr Nikhom Chandravithun, must be added to the 2 million unemployed that year owing to causes other than the financial crisis.
The explosiveness of the economic contraction was underlined for both Thais and the world at large by what amounted to a mini-uprising by workers at the Thai Summit Auto Parts Factory on 21 January 1998. The protesters blocked the busy Bangna-trat Highway in protest against the company's announcement that it would not give them long-promised bonuses on which they had counted to make ends meet.
There followed several hours of pitched battles that pitted workers against police and angry motorists, ending with the wholesale arrest of 54 workers who were herded in prisoner-of-war fashion into police vans. To both the Thais and the international community, the television images of the event were more reminiscent of Korea than Thailand and came across as a harbinger of things to come.
The construction sector, which previously employed up to 1.5 million workers, has been dramatically hit, affecting not only the construction workers themselves, but also the other industries which feed off real estate and property.
In January 1998 the Thai Government announced its intention to repatriate the estimated 600,000 foreign workers, mostly Burmese, working in low paid fishing, agriculture and construction jobs to make way for Thai workers displaced from urban-industrial jobs. The government deadline is June 1998, after which the migrant workers permits will not be renewed.
Dramatically, in February (and in front of CNN cameras!) the Thai military forced 100 Burmese men, women and children to make the three hour walk from the provincial town of Karnchanaburi to the Myanmar/Burma border. Whether it will be possible for the Government to repatriate migrant workers, and whether indeed Thai workers would be prepared to do the same work for such pitiful pay, remains open to question. There is a decidedly blurred dividing line between those who leave Burma to escape the regime or those who are fleeing poverty. Some end up as refugees, others as migrant workers but all find life back in Myanmar/Burma unbearable.
There is no reliable estimate of the number of construction workers who have been thrown out of work. In addition to the migrant and illegal workers, many construction workers are seasonal, moving to the cities for work during the dry season.
During the boom years, more than 6 million rural workers migrated to Bangkok and many are now returning, creating several problems: not only does the family lose the income which was previously sent home but there is an extra person to support. On the other hand, some reports say that people are much happier to be back in their villages, and for those with land there is still a means to make a living.
In fact, Thai policy makers are now placing their faith in a resurgence of the rural economy to pull Thailand out of the economic doldrums, mop up hundreds of thousands of unemployed factory and construction workers, and to maintain social stability.
Although agriculture accounts for less that 20 per cent of the value of Thai exports, more than 50 per cent of the workforce is employed in the agriculture sector. But as Chulalongkorn University economist and labour expert Voravidh Charoenlert comments:
As in the past, the Thai countryside will absorb surplus labour arising due to industrial recession. But it will leave the villagers much poorer in the long run, as there will be more people sharing the same resources.
Although Thai agricultural exports should become more competitive due to the devaluation, by the end of March the improved balance of trade was almost entirely due to a drop in imports. A chronic liquidity crisis is slowing down the agricultural sector, which is still heavily dependent on imported inputs.
Nonetheless, exports of Thai rice are expected to be the highest for years due to the shortages in countries such as Indonesia, China and Malaysia, which have been affected by El Niño-related droughts. Unfortunately, the high world demand for rice is also pushing up the price in Thailand, increasing the cost of living for the poor, especially in urban areas where food costs are highest.
The IMF insistence on a budget surplus (later revised down to a 1 - 2 per cent deficit) has cut deep (See Table 2), slashing all areas of public sector spending, including health, education, agriculture, industry and labour and welfare key government activities especially in times of recession, social dislocation and rising unemployment.
In early 1998, the Foundation for Children Development surveyed 143 secondary-school-age scholarship recipients from five rural provinces, whose parents were seasonal factory or construction workers. Most were landless and therefore completely dependent on wages. On average, the workers sent home between 1,000 - 3,000 baht per month which covered household expenses, clothes, education, farm inputs and medical expenses.
The survey showed that of the 143 students, 10 had a family member who had been laid off, 11 had a family member with reduced income, and 19 were out of work because the firm they worked for went out of business.
The impact on the children was immediate. Bus fares had doubled from 3 to 6 baht and a bowl of noodles had increased from 5 to 7 baht taking minimum daily expenses from 8 to 13 baht - yet there was less money coming into the family. At the same time, as part of the IMF-imposed budget austerity measures, milk and school lunch subsidies had been cut by between 40 and 50 per cent.
The situation for those who have permanently settled in the urban slums of Bangkok is more desperate. These families have no land to return to, and their connection to rural life is tentative or broken. According to anecdotal reports there is an increase in drug use, and in drug sales, evidenced by falling prices as more people turn to selling amphetamines to make money. It is also likely that more women and girls are turning to the sex industry for work.
The overall impression, therefore, is of thousands of families who have lost their livelihood, or whose income has been dramatically reduced, along with an increase in the cost of living due to price hikes in food, fuel and basic services. Rice has doubled in price, from 25 to 50 baht per kilo, mainly due to the global shortage of rice which has pushed up export prices and which has a knock-on effect on domestic prices.
The majority of farming households in Thailand are net purchasers of rice, so even landed households will feel the impact of the price rise. In addition, the last rainy season in Thailand was very poor, leaving major irrigation dams only one third full, and lowering overall rice production.
The full impact of the economic crisis and the drought will really only start to be seen in September and October 1998, when families have exhausted their own supplies and have to start buying expensive rice to tide them over to the next harvest.
According to the UN Economic and Social Commission for Asia and the Pacific (ESCAP), the incidence of poverty increases by one per cent for every 10 per cent increase in the price of rice. Conservatively, according to these figures, the number of people living in absolute poverty should increase by at least 5 per cent solely due to the rice factor, without even considering rising unemployment, lower wages and fewer government services.
World Bank to ease the pain
Five months after the signing of the IMF agreement, the World Bank sent a team to Thailand to investigate the social impact if the crisis and to identify areas for World Bank involvement. The Bank plans to deal with the social implications of the crisis by establishing the Social Investment Fund, a $300 million programme to be disbursed partly through the government and the rest directly to communities through the Government Savings Bank.
The loans, which attract interest rates of between 7 and 8 per cent, will be used to support existing Government programmes which have been affected by budget cuts, such as infrastructure, health, environment and education or projects identified by communities or local municipalities. Communities will receive Investment Funds in the form of a grant, with the Government assuming the responsibility of repayments.
Table 2: Thailand National Budget, January -December 1998, millions of baht
| Programme | Projected budget | Actual budget | % cut |
| Central funds | 82,051.6 | 76,590.0 | -6.7 |
| PM office | 7,993.7 | 6,588.3 | -17.6 |
| Defence | 105,238.4 | 80,998.6 | -23.0 |
| Finance | 44,797.9 | 42,753.0 | -4.6 |
| Foreign Affairs | 4,131.9 | 3,503.2 | -15.2 |
| Agriculture | 80,864.7 | 62,580.5 | -22.6 |
| Transportation | 102,108.1 | 67,786.4 | -33.6 |
| Commerce | 4,364.6 | 3,746.8 | -14.2 |
| Interior | 178,540.3 | 132,710.2 | -25.7 |
| Labour & Welfare | 11,155.2 | 9,437.2 | -15.4 |
| Justice | 5,962.5 | 5,269.1 | -11.6 |
| Science & Technology | 16,595.7 | 10,945.6 | -34.0 |
| Education | 166,308.9 | 148,577.2 | -10.7 |
| Public Health | 70,145.5 | 59,920.9 | -14.6 |
| Industries | 5,461.7 | 4,057.3 | -25.7 |
| University Affairs | 39,337.4 | 32,900.9 | -16.4 |
| Others | 5,035.5 | 4,686.3 | -6.9 |
| Government Enterprises | 29,660.6 | 26,932.5 | -9.2 |
| Revolving Funds | 22,246.0 | 20,016.0 | -10.0 |
| Total | 982,000.0 | 800,000.0 | -18.5 |
Source: Thai Post, 26 November 1997.
The irony of the Social Investment Fund is that it will be used to soften the impact of the savage budget cuts forced by IMF conditions. On the other hand, local and provincial politics in Thailand is riddled with corruption and vested interests, so it is possible that making funds available directly to communities for projects they have identified could redress some of the development imbalances of the past.
Forum of the Poor, a mass organisation of farmers groups from the poorest regions in Thailand, has been sharply critical of the IMF-imposed austerity measures and the socialisation of private debt. But they also see the crisis as an opportunity to go back to the village and slow the seemingly irreversible pattern of urbanisation and industrialisation, bridging the gap between urban and rural populations and re-establishing the traditional values associated with village and agricultural life.
However, there is a concern that the promises made by the Chavalit Government last year, as a result of the Forum three-month sit-in outside the Government House, will not be followed through because of budget constraints.
In particular, the Government made a commitment to support an innovative national agriculture programme for poor and landless farming families by setting aside 25 million rai (10 million acres) of land for sustainable agriculture (as opposed to export agriculture), providing land, training and other inputs. It is estimated that this could support up to 8 million people, about the same number currently living below the poverty line on between $1 and $2 a day.
Although there is an urgent need to expand employment opportunities in the rural areas and to redress the damage of more than twenty years of breakneck industrialisation, it seems likely that budget constraints resulting from the austerity programme will make it impossible for the Government to address this problem.
Of the three countries included in this study, Indonesia has been worst hit to date, battered by economic and political crises which have become mutually reinforcing, producing a downward spiral of instability, rising poverty and unrest, and government inaction with no end in sight. The social impact of the crisis in Indonesia has been immediate and dramatic, bringing to light underlying social tensions which had previously been obscured by relative economic stability.
Unemployment and lay-off estimates for Indonesia vary wildly, and should be treated with caution. One news report suggested that 6.6 million have lost their jobs since the onset of the crisis, while the official government figure puts it at 2.5 million. An Indonesian labour rights organisation estimates 4 million layoffs between July 1997 and February 1998, and of a sample of 28,000 workers in 48 factories working with one organisation, 10 per cent had lost their jobs by the end of January.
These figures are for jobs lost, and do not include those already unemployed at the start of the crisis, or the roughly 2.5 million new entrants who enter the labour force every year.. In early 1998, the Indonesian Muslim Intellectuals Association (ICMI) put overall unemployment at 12 million.
Those still in work complain of a freeze on overtime, leaving them to survive on the Jakarta region minimum wage of R5,700 a day, which has not changed since April 1997. Many more have been sent home from idle factories on a minimum wage, or even less.
At current rates, the minimum wage is worth about 63 cents (40 pence) a day. In dollar terms, this makes Indonesia perhaps the cheapest labour force in the world, although any export boom is likely to be held back by the liquidity crisis in the banking sector and investor nervousness about the ongoing social and political instability.
Prices of basic commodities, such as rice, cooking oil and sugar have increased by 20-100 per cent and gasoline prices are due to rise by 25 per cent if the Government follows the IMF directive to lift fuel subsidies on 1 April 1998. Fuel price hikes will have an immediate knock-on effect on food prices, leading to generalised fear of deepening social unrest.
In dollar terms, per capita GDP has dropped from $1,000 to $230, while year on year inflation for February 1998 was estimated at 32 per cent, well above the IMF prescribed 20 per cent. Inflation for February alone was 12.7 per cent and the economy is expected to shrink by 2 to 3 per cent in 1998. The World Bank claims that prior to the crisis the proportion of the population living below the poverty line had fallen from 60 per cent in 1970 to 11 per cent in 1996, (although others say that the poverty line was lowered to make the statistics more favourable).
Since the onset of the crisis, this process has gone into reverse. Local experts are currently reassessing the poverty figures, and are predicting that as many as 30-40 per cent of the population could have fallen below the poverty line by the end of 1998. All this in the country previously held up by the World Bank and the IMF as a paragon of development success.
Fears of food shortages have proved self-fulfilling, triggering hoarding and speculation, disrupting food supplies and causing shortages. Inevitably it is the poor who are worst hit as they do not have the cash to buy in bulk when the prices are low, and pay a much higher price to meet their day to day needs.
Imported powdered milk has trebled in price since the onset of the crisis. Poor families are being forced to feed their infants sweetened tea rather than milk. The poultry business, an important source of protein, is collapsing as it is heavily dependent on imported feed and medicines which are now completely unaffordable.
Indonesia problems have been intensified by a 10 to 12 million metric tonne shortfall in rice due to the El Niño-related drought. Rice prices have doubled in Jakarta since July 1997.
Although food shortages could be supplemented by imports, the cost is prohibitive and in any case foreign exporters are refusing to accept letters of credit issued by Indonesian banks, leaving the wheels of trade to grind to a standstill.
Frustration and anger have been directed at the largely Christian Chinese minority. In many towns and villages, the Chinese are the merchants and shopkeepers and are therefore blamed for rising prices and shortages.
However reliable sources say the military has deliberately fuelled anti-Chinese sentiments to steer attention away from the Government own failings. In around 30 riots to date, five people have been killed and hundreds of shops, homes and churches destroyed, but the Chinese minority fears that much worse is to come.
The rocketing price of all imported goods has hit all sectors of the economy and services. Medical supplies and equipment have become prohibitively expensive. About half of the 120-plus health clinics in one part of Greater Jakarta are reported to have closed due to rising prices and fears that patients will sue them for not providing proper services. Seventy per cent of medical drugs are imported and a government source claims that there are only enough medical supplies for four months, while the price of generic drugs, locally produced and partly subsidised by the government, will rise dramatically owing to the increased price of imported chemicals. There is also a shortage of contraceptives
The poor will be hardest hit by this. Hospitals in the rural areas have gone back to the basics using cat-gut for suturing, and reusing all medical equipment. World Health Organisation officials have expressed fears that the crisis will lead to rising levels of diseases such as measles and tuberculosis.
Food production dropped by 4 per cent in 1997, and for the first time in many years Indonesia started to import rice. All Indonesia wheat is imported and 30 per cent of its sugar and soybeans both staples.
Paper prices have risen four to five-fold, leading some journals to cease operations altogether and others to increase prices, reduce staff and cut pages. There is also a dramatic loss in advertising revenue, leading to an overall reduction in public access to information, vital when the country is going through such deep turmoil.
In a short-term effort to increase export revenues, the government reduced the log tariff from 200 to 10 per cent, leading to increased exploitation of forest timber, rising exports of unprocessed logs and the end of the domestic plywood industry.
The World Bank has also weighed into the situation in Indonesia, with a package of up to $100 million to soften the blow of the crisis by creating 75 million man-days of low-wage jobs during the remainder of 1998. However, this is just a small part of the Bank overall plans to disburse $4.5 billion over the next three years for adjustment operations and existing and planned investment loans.
Critics were unimpressed, pointing to the Bank and the IMF past record of papering over deep flaws in the economy, and continually boosting Indonesia as a model of development.
''The World Bank tended always to please the government by saying nice things about the Indonesian economy. These judgements then prompted foreign fund managers and donors to pour in loans, most of which were short term,'' said Rizal Ramli, head of the think tank Econit.
Others who met Bank president James Wolfensohn accused it of ignoring problems of corruption, nepotism and a weak banking system when it heaped praises on Indonesia and continued to lend to the government. The Bank's endorsement discouraged reforms in dismantling monopolies and aided the country's borrowing binge, they said.
On 10 March 1998, the World Bank and Asian Development Bank underlined the strings attached to the programme when they announced their decision to delay $2.5 billion in aid until the Indonesian government met the IMF reform criteria. This followed hard on the heels of the IMF decision to delay disbursements of $3 billion for the same reasons.
Indonesia problems are just beginning. Predictions are almost uniformly pessimistic. One leader of the NU, the largest Muslim mass organisation said,
If the IMF and other governments care for the people, we have hope. If not, unemployment will rise and the people will go hungry and be easy to burn social unrest, riots and so on. And government must be honest - if corruption continues as it is now, we will see an explosion. We are worried.
It will take more than dismantling the monopolies to restore domestic confidence and stability.
The psychological impact of the crisis in Korea was one of shock, followed by an outburst of nationalistic anger. However, the impact was real enough in terms of absolute loss of purchasing power, thousands of small companies going to the wall and a radical transformation in relations between workers and employers.
One of the key IMF conditions was labour market reform which would allow companies to lay off workers. Clearly, this was an overhanging issue from the failed attempt in January 1996 to pass radical legislation which would have dramatically increased employers rights over workers. Such was the protest that the legislation was quickly withdrawn, only to reappear as part of the IMF reforms.
Unemployment will be the main fallout from the economic crisis, and there is no doubt that job loss and business closure was accelerated by IMF measures which caused a gut-wrenching contraction of the economy. It is estimated that the combined effects of the economic slowdown and industrial rationalisation could dramatically increase (double or triple) the present rate of unemployment, from about 3 per cent in 1997 to a minimum of 6-7 per cent in 1998 (signifying a minimum of 1 million new unemployed).
Many observers fear that the actual figure could exceed 2 million by the end of 1998 or about 9 per cent of the workforce. This will require a great deal of psychological and social re-adjustment in a country which has built itself on toil and become accustomed to full employment. Labour research institutes report that women are the first to be laid off, and women with children are likely to be dismissed first because, in the eyes of employers, they are needed at home.
According to the Korean Confederation of Trade Unions (KCTU), an estimated 200 companies per day have shut their doors since the beginning of the crisis, reaching a peak of 340 on 5 January 1998.
This translates into about 4,000 more employees finding themselves on the street every day. The union international secretary also points out that, while the big conglomerates or chaebol have enough fat to see them through the tough times, small to medium enterprises which rely on cash flows and which also employ the majority of workers, are the hardest hit.
On 6 February 1998 a tripartite agreement was reached between government, employers and unions to legalise layoffs through legislation by the National Assembly, paving the way for mass unemployment for the first time. Many workers in South Korea have come to recognise the IMF not as a source of economic relief but as the driving force behind using unemployment and job insecurity. In protests and demonstrations, the IMF is often referred to as I am Fired.
Under the 6 February agreement, companies will be allowed to lay-off workers only when they face emergency situations such as financial trouble, mergers or acquisitions, but it is widely agreed that this will be left to the subjective interpretation of employers, especially in these difficult times. Management is required to give 60 days notice before dismissing workers, however, and employers will be obliged to try to re-hire dismissed workers if business improves, although this is unlikely to be enforceable in practice.
In return for this major concession, trade unions were given the right to engage in political activity for the first time, as from early 1998. Teachers will also be allowed to unionise, again for the first time, from July 1999 and public officials allowed to form a consultative body from early 1999.
The employment stability fund, consisting of donations from government, businesses and workers, which is the only social safety net for fired workers, is to be increased to 5 trillion won ($3.2 billion), an increase from an earlier government proposal of 4.4 trillion won ($2.8 billion).
The effectiveness of the accord, which was signed by the most vocal opposition union coalition, the KCTU, was thrown into some doubt within days of its signature when the union leadership was ousted by angry members who refused to abide by the agreement. Some members of the National Assembly also cast doubt on its smooth passage through parliament by insisting that the concessions given to labour were too great and were unacceptable in their agreed form.
In early February, a special committee in charge of streamlining the government bureaucracy unveiled plans to reduce the 163,000 strong civil service by 10,000, although the final toll is expected to be higher. At the same time, the cabinet passed twelve new bills designed to speed industry restructuring and enable corporate layoffs.
Budget cuts are unprecedented in the last 25 years, although in Korea they were nowhere near as severe as Thailand slashing. The budget measures announced in early February included cuts in expenditure on social infrastructure of 13.1 per cent compared with the plans submitted in late 1997, marking a 4.2 per cent decline compared with the previous year.
This will put a number of high priority infrastructure projects on hold, including the Seoul-Pusan High Speed Railway, seven new regional expressways and the construction of new subway lines in the capital., in addition to delaying disbursements for the New Port Project.
Significant cuts to Korea infrastructure development could lead to a reduction in international competitiveness in the medium to long-term.
The revised budget total announced marked an increase of a mere 3.3 per cent from 1997, the lowest year-to-year rise since 1973. Even the increase in the defence budget, estimated at only 1.8 per cent (15 per cent less than requested) is the lowest in 15 years. Budgets for education and agro-fishery industries were expected to be cut by 5.6 per cent and 10.4 per cent respectively while plans to increase government salaries by 3.5 per cent were abandoned. Inflation in 1998 is expected to be between 10-20 per cent, well over the IMF targets and predictions.
The economic crisis is seen by some as an opportunity to reconsider and reform social relations and social values. The KCTU, a vehement critic of the IMF, the chaebol and government, believes:
If we can deal with the chaebol system, corruption and collusion of state powers and business, and state-directed financial practices, the current crisis could be a valuable opportunity for a genuine reform and maturation of Korean politics, society and economy.
Following its intervention in Thailand, Indonesia and South Korea, the IMF found itself under attack from all sides. Suddenly non-government organisations and the progressive left, whose criticism of the IMF dates back to the Fund stabilisation programmes of the early 1980s, found themselves in unlikely company.
The criticisms came from some surprising sources, including former IMF employee and director of the Harvard Institute for International Development Jeffrey Sachs, World Bank chief economist Joseph Stiglitz, solid, conservative journals such as The Economist and The Financial Times, Republicans and Democrats in the US Congress, and even bone-dry neo-liberals such as former US president Ronald Reagan chief economic adviser Martin Feldstein and Milton Friedman of the Chicago School.
The debates are wide ranging and call into question fundamentals such as the efficacy and appropriateness of the Fund economic advice, the way the Fund operates, and its relationship with its key shareholder, the US.
The Fund sometimes gives poor advice
The public sector austerity measures imposed by the IMF, such as budget cuts, pushing up interest rates and raising taxes, were inappropriate for the circumstances of a private sector debt crisis and in fact deepened and accelerated contraction of the economies they were meant to be helping. As Jeffrey Sachs said the currency crisis is not the result of Asian government profligacy. This is a crisis made mainly in the private, albeit under-regulated, financial markets.
Yet the IMF applied policy measures designed to rein in government overspending without addressing the real issue of private sector failure.
The Fund macro-economic requirements were meant to stabilise currencies and restore market confidence. In Thailand, South Korea and Indonesia, the currencies continued to devalue with gathering momentum even after the IMF intervention, indicating that their economic policies were neither addressing the real problems nor having the magic effect of restoring market and investor confidence.
Of the three countries studied, South Korea is the only one to show any signs of recovery measured by investment inflows (which are still predominantly short term and speculative rather than long term foreign direct investment) and this occurred only after the main creditor banks agreed to roll over private short term debts with the government acting as guarantor.
The IMF also stands accused of creating the problem of moral hazard, whereby both creditors and debtors who make unwise investment choices are saved from the consequences of their bad decisions, thus making it more likely that they will reoffend in the future.
The Fund has also come under fire for its continued enthusiasm for freeing up capital flows. The crisis in Asia is a crisis of the private sector which engaged in excessive borrowing of easy-to-obtain foreign finance, following liberalisation of capital account regimes from the 1980s onwards. Therefore the IMF policy response of demanding further liberalisation of the finance sector and financial flows is wrong and actually adds to financial vulnerability and renders these economies even more prone to future crisis.
Speaking in Helsinki on 7 January 1998, the World Bank chief economist Joseph Stiglitz went even further, saying that
financial markets do not do a good job of selecting the most productive recipients of funds or of monitoring the use of funds and must be controlled.
The pain of adjustment is not fairly distributed
There is a double standard at work in the treatment of domestic and foreign interests. Domestic firms are left to the mercy of the market (for example, the IMF insisted that numerous financial institutions in Indonesia and Thailand could not be bailed out).
Foreign investors, on the other hand, are given enhanced rights to ownership, the possibility to convert debt to equity in struggling Asian enterprises and the chance of picking up others at bargain basement prices, thanks to changes in foreign ownership rules included in the IMF packages.
IMF bailouts of the private sector have also been criticised for socialising the debt, leaving the government and the taxpaying public, both in Asia and in the IMF main contributor nations, to bear the burden of the private sector failure.
The Fund has gone beyond its remit, and should be overhauled
Critics argue that the IMF has exceeded its mandate as defined in its Articles of Agreement and has assumed the role of global economic policeman, forcing it into a convergence toward the reigning consensus (in this case, the so-called Washington consensus).
Martin Feldstein, Professor of Economics at Harvard University and President of the National Bureau of Economic Research, and former adviser to US President Ronald Reagan, is shar