by Charkravathi Ragavan*
The financial crisis in Asia has already cost the world economy one percent of world output or some $260 billion, equivalent to the annual income of sub-Saharan Africa, and "prospects for the years ahead are extremely uncertain, but the risks are on the downside," says UNCTAD Secretary-General Rubens Ricupero in the overview to the 1998 Trade and Development Report released at in Geneva on 16 September. "Further policy errors might well drive the world economy into a world recession," he adds.
Over the years, and again and again, UNCTAD has been warning of the dangers in the world economy, Ricupero said at his press conference. "In the 1980s we warned about the impossibility of solving the Latin American debt crisis without a write-down of the principal and interest arrears. This ultimately became a part of the Brady plan. At the beginning of the 1990s, we cautioned that the decade would be characterised by financial turmoil, and rightly predicted the Mexican crisis as well as the unsustainability of current account deficits in Thailand and Malaysia. After belittling these, the so-called mainstream world of financial institutions, economists and politicians finally agree with our analysis, forced by the tyranny of the reality of facts."
Ricupero welcomed and commended the speech of President Clinton in New York on 15 September and the G7 finance ministers statement out of London, saying that many of their points vindicated what UNCTAD had been saying for years - and which were criticised by the same industrial powers and institutions.
But, said Ricupero, the immediate need is for "vigorous and broadly based growth policies" from the US, EC and Japan and measures to enable business in Asia to get out of the crippling debt, including lowering interest rates, expanding fiscal policies and alleviating debt burdens.
Along with these, there is the need to address the global aspects of crisis by adopting the international financial architecture for the 21st century. It will require a long, patient and orderly process, with a balanced agenda that takes account of the interests of creditor and debtor countries. And part of that architecture must include a system of finance and exchange controls "which we have been advocating for quite some time and which has now become part of the mainstream. It will need measures to deal with short-term indebtedness and international measures like the US bankruptcy code chapter 11."
Focusing also on the lack of coherence and coordination between the money and finance system on the one hand and the trading system, with its detailed rules and a dispute settlement mechanism, Ricupero said the lack of balance and coherence and the failures of the money and finance system render it impossible for the trade system to operate adequately.
The solution to these lie in a more active role by the two largest surplus economies - EU and Japan -- which have not been contributing to global import demand growth but accumulating trade surpluses over the years.
Ricupero agreed with a questioner that in some cases the central banks of major industrial economies, particularly in Europe, with their emphasis on monetary policy and obsession with inflation, are responsible for the current situation. But this charge would not be true of the US Federal Reserve, which has been acting on different guidelines - targeting low inflation, stability of prices and economic growth and full employment. The US Federal Reserve has provided a good example to other central banks.
Asked about a "worst case scenario" -- given the crisis in the Japanese banking system with non-performing loans estimated at $600 billion to a trillion exceeding their total assets and Europe's preoccupation with the Euro -- UNCTAD economist, Richard Kozul-Wright said that no such Armageddon scenario had been attempted, but that over the years UNCTAD has been emphasising that the world economy needs to grow at a steady minimum annual three percent if a dent is to be made on unemployment and the inequalities in the economies.
While the Trade and Development Report and the overview highlight the serious risks of recession, if not worse, in the world economy, Mr Ricupero sought to soften this, perhaps to avoid a self-fulling prophesy, and spoke of the "sound fundamentals" in US and Europe -- though this was not true of Japan.
Andrew Cornford, an UNCTAD economic adviser, said the US interest rate policy (and lowering it) would be important for US growth and capital flows, and would also provide room for Japan to reflate without their currency going into a free fall. He said that with the help of people in Japan, UNCTAD was working out scenarios involving large scale financial aid by Japan to the region, and that the results would be made available soon to the press.
But the crisis in Asia cannot be explained away as a mere isolated event or due to crony capitalism, but one in a series of five or more major financial crises of this decade, Ricupero noted. Recalling its repeated warnings, since 1990, that the ascendancy of finance over industry coupled with globalization of finance was the underlying source of instability and uncertainty in the world economy, the report underlines the "systemic" nature of the repeated bouts of financial instability, at roughly two-year intervals, that has characterised the world economy in this decade.
There was the debt deflation in the US, followed by the 1992-93 EMS crisis in Europe, the Mexican crisis of 1994-95 and the most recent crisis in East Asian crisis of 1997-98.
In complaining, if not accusatory tones, the Trade and Development report says: "Each time, the prevailing approaches have been based on the notion of the infallibility of markets, and on an explanation of the crisis in terms of misguided domestic policies. Turning a blind eye to the systemic nature of financial instability is neither responsible nor acceptable."
The threat to the world economy, Ricupero said, is no longer inflation, but deflation, recession and unemployment and "we need vigorous and broad-based growth policies with reduction in interest rates in the US and elsewhere, and coordination among the three largest economies - the US, Europe and Japan to stimulate growth and import demand."
According to the chief author of the report, Yilmaz Akyuz, the deflationary impact of the crisis is much deeper than accepted by orthodoxy, and the impact on developing countries is much more serious than on industrial countries.
"For the first time in many years, developing countries will grow less than industrial countries, and growth in the South will be half of that in 1997." And since the report was written two months, the prospects in fact have worsened, says Akyuz. The effects of the Asian crisis are being transmitted via two channels, financial markets and trade.
Though international financial institutions claim there would be no major declines in capital flows, the Report is much more cautious. Akyuz points out that since the writing of the report, the tendency of capital to withdraw from emerging markets and the flight to quality is much more visible. There is also the effects of international trade as the channel of influence: not only are countries directly exporting to the Asian region affected, but also by the effect of the crisis in Asia on commodity earnings and prices, both oil and non-oil, which have plunged to very low levels.
While the initial effects on industrial countries have been favourable, as a result of sharp terms of trade gains and decline in commodity prices, these very factors have reduced export earnings in the South, and, along with appreciation in value of the US dollar, will reduce exports. "The US consumer cannot be expected to finance consumption for ever out of assets; also, the US fiscal surplus will act as a drag on the economy, with no stimulus from the trade side. This will slow down the US economy considerably in the second half of the year, and coupled with financial factors we may see a 'rough landing' in the US economy," warns Akyuz.
"And with two growth poles, that of the US and developing Asia removed, Japan in recession and Europe unable to attain a demand stimulated growth, the world economy is well into recession, and the prospects can worsen if there are further bouts of financial instability in the emerging markets."
Written two months ago, the TDR says: "perhaps the worst possible outcome of the crisis is further bouts of financial instability in emerging markets, a large correction of equity prices in the major industrial countries, together with a sharp slowdown in the United States economy, prolonged recession in East Asian Newly Industrialising Economies (NIEs) and Japan, and increased trade imbalances in the major industrial countries. Any such outcome would put increased pressure on banking systems in the developed world. The result might not only be a world economy in deep recession, but also a re-emergence of trade conflicts that could wreak havoc. If that is to be avoided, countries in surplus, namely Japan and the members of the European Union, must increase their contribution to world demand, and deflationary policies in East Asia must be
reversed."
Akyuz notes that some of the elements of this worse case scenario are already appearing -- further instability in emerging markets, most recently Russia, correction in equity prices, slowdown in the US economy and deepening recession in East Asia and Japan, and increase in trade imbalances among major industrial countries. And the risks of all these are now more probable than envisaged in the report.
Strong recovery of domestic demand is needed in Japan to provide an expanding market for other Asian economies, says the report, but departs from the current orthodox prescriptions (of the US, the other G-7 and the IMF) by suggesting that Japan could achieve more by providing considerable external finance to the Asian countries through long-term lending. Its impact would most likely be greater on growth in Japan itself, as well as in the NIEs than a domestic fiscal package of equal magnitude, since the money would be largely recycled to Japan through increased import demand.
Analysing the trade effects of the crisis, the report underlines the need for open markets to enable the Asian countries to have net exports to resume pre-crisis growth, but notes that this could cause serious strains on the international trading system. There are already increasing pressures for protective actions,
including through resort to discriminatory anti-dumping measures or recourse to safeguards and resort to "quota modulations".
The conditionality policy packages forced on these countries, with "demands" for unilateral trade concessions as a price for assistance, the TDR warns, will weaken the basic concept of the WTO system, namely "balance and mutual advantage" in trade concessions. "Resort to discriminatory trade remedies such as anti-dumping duties should be subject to increased surveillance. In addition consideration should be given to allowing affected countries to benefit from possible extension of provisions for differential and more favourable treatment in the WTO agreements, such as in the Agreement on subsidies and countervailing measures."
* by Charkravathi Ragavan is editor of the South-North Development Monitor (SUNS) a non-commercial service published every week day, and available on a cost-sharing and capacity-to-pay basis for public interest NGOs. details can be obtained by email to <twn@igc.org>