Re: Comparing Clinton regime
Source Henry C.K. Liu
Date 99/06/08/23:59

It is very hard to defend IMF policies. Even the World Bank is critical of the
The current feud between the World Bank and the IMF is not new. The two have
maintained institutional differences in approach and constituency even though
they were sister institution created by Bretton Woods. The World Bank's
clients are the Third World poor governments, while the IMF's clients are the
international banking sectors that benefited from the Bretton Woods fixed
exchange rate regime until it was abandoned in 1971. WB is development
oriented and IMF is central banking monetarist oriented. IMF has a
institutional fixation on market discipline through doctrinaire
conditionalities for its loans.
The specific conditions fluctuate from economy to economy.
Generally, IMF conditionality describes a set of conditions the IMF imposes on
a central bank of a distressed economy for IMF packages of financial
assistance. The most frequent conditions are;: devaluation of currency, a
plan toward balance fiscal budget and anti inflation monetary measures such as
high interest rates, tight credits and wholesale financial restructuring of
troubled banks and corporations.

It is by now clear from actual data, that IMF conditionalities had worsen the
Asian financial crises by demanding anti inflationary measures in a
deflationary environment.
Other specific conditions may call for full private debt repayments to
international banks, transparency reporting, etc. The conditions are tied to
stages of funding. Also these conditions inevitably create untenable political
and social reactions that make economic cure irrelevant.

To revive Asia, Washington has placed its hope on Japan to reform its banking
system and stimulate its economy.
It also looks to China to open its markets.
Both of these hopes are not likely to come to pass.
Here is why:
The Japanese economy is highly dependent on export and on imported materials to
fuel its value-added export sector. It has adopted off shore production and
globalized its production network by locating facilities in targeted markets to
skirt trade barriers. Tokyo aspires to be a world financial center, while
Japanese economic nationalism keeps Japan to remain the most regulated and
protectionist market in Asia. A large segment of Japan's financial sector is
indigenously owned and controlled, with financial and trading branches
worldwide. The Japanese bubble burst around 1990. Its mangers allowed short
term incentives of speculative financial manipulation to sap productive
investment from their manufacturing sectors. It historical success has laid the
root for its current difficulties.

In 1985, the G7 governments agreed in the Palza Accord to force the overvalued
US dollar to fall, raising the undervalued Japanese yen, thus slowing Japanese
export. As the US dollar fell in value, Hong Kong and several other Asian
economies that are pegged to the US dollar experienced long periods of low or
negative local interest rates. The Japanese Ministry of Finance responded to
the G7 attack on the yen by lowering Japanese interest rates to keep the
economy afloat and to slow the fall of the US dollar.
By 1988, despite an overheated economy, Japan yielded to heavy U.S. political
pressure to continue to keep Japanese interest rates low, in order to slow the
contraction of the U.S. economy and the drastic fall of the US dollar.

Low Japanese interest rates and an overvalued yen fueled financial
bubbles throughout Asia that translated into systemic currency risks for the
region, including Hong Kong which acted as an unregulated center for low-cost,
easy Japanese loans. Even Japanese borrowers came to Hong Kong and Singapore
for cheap yen loans.

To increase competitiveness and growth, both the Japanese and other Asian
governments emphasized capital intensive physical infrastructure investments at
the expense of social infrastructure, with distorted and inefficient
stimulative impacts on their economies. Starting in 1993, Japan spent in four
years US$480 billion (70 trillion yen at prevailing exchange rates) worth of
stimulative packages, with another US$115 billion package announced in April
For growth, both Japan and other Asian economies rely heavily on external
conditions that are beyond their control, depending heavily on the US consumer
market and placing high hopes on China as a future market, as well as the
emerging markets in Southeast
Asia. The IMF applauded this dead-end strategy and never saw the on-coming
train of
The Japanese economy is managed by entrenched bureaucracies that jealously
guard their prerogatives.
In recent years, Japan has experienced a declining sense of public
spirit and civic morals, brought about by waves of political, bureaucratic and
business scandals. Japan is saddled with a political landscape that is
hostile to the sitting administration, complicating economic policy

Japan has a serious bad debt burden (US$600 billion), carried over by
banks in a binge of reckless lending during the bubble economy of the 1980s.
The Nikkei 225 stock index rose six fold in a decade (from 6,550 in 1980 to
38,916 by the end of 1989). Deflated in the early 1990s, investor reckoning
dragged down the stock market by over 60% from its peak in 1989 and property
prices by 80%.
Japanese banks never made proper provisions for the consequences of bad debt,
keeping them on their balance sheets, hoping the economy would recover in time
to allow the debts to be repaid in full or a resurgence of asset inflation to
lessen the pressure. Typically, the managers of the Japanese economy engaged
in denial,
wishfully thinking that masking the symptoms would cure the fatal
cancer. As the GDP contracts, the bad debt problem looms greater. To date, the
government has spent 30 trillion yen (US$235 billion) to prevent the banking
system from collapse. As a painless solution, it opted for the "convoy
system", the practice of forcing healthy banks to rescue ailing banks by
merging. The festering economic malaise has gone on for over eight years
domestically and brought to a
head by the Asian financial crises that began in July, 1997, the
underlying conditions for which Japanese banks kelp created. The resultant
credit squeeze caused bankruptcies losses to reach 14 trillion yen (US$115
billion) in 1997.
Corporate failures in May, 1998 rose 37.5% from a year ago (to 1,791 filings,
highest in 14 years, since 1984). Industrial production in April dropped 6%
from the previous year, causing corporate profits to drop 25%. The precipitous
collapse of the yen in the second quarter of 1998, (falling 15%, or 50% from
its peak in 1995) rattled an Asia already in financial crisis, by threatening
to trigger a new
round of currency devaluation, including relatively insulated China. A
falling yen threatens the stability of the banking system as it erodes its
capital base.
Many Japanese banks book their outstanding loans in dollars, some up to one
third of their lending total. As the yen falls against the dollar, the yen
value of dollar loans increases, pushing the yen capital of most banks towards
falling below the 8% capital to loan ratio required by sound banking standards
set by the Bank of International Settlement. This causes Japanese banks to cut
new lending or to
roll over outstanding loans. As a major creditor nation, such actions
by Japanese banks create new stress in the world economy that has yet to play
itself out completely.

The accumulated deficit run up by the central and local governments of Japan
during the post bubble years exceeded the size of the GDP, and when pension
liabilities were added, the deficit doubled. Debt service now takes 22% of the
national budget, more than education, defense and pension combined. A
subsequent 75 trillion yen (US$600 billion) public spending program between
1992 and 1995 created some growth in the construction sector but failed to
boost the
economy generally. Along with fiscal measures, Japanese leaders made proposals
to streamline government, change archaic business practices, reform education,
reduce welfare expenditures, and deregulating financial services with a "big
While each of these changes is desirable for long term development,
together, it was too ambitious a program to be carried out all at once, given
Japan's political heritage and social convention.

Reform is seldom an engine of growth and never a timely cure for
Instead of concentrating on making the economy rolling, bureaucrats in
government ministries devote most of their energy thinking up ever more
ingenious ways of pandering to official directives while at the same time
ensuring that their own official turf is not reorganized out of existence, thus
stopping the economy in its tracks.
Japan's banking crises greatly reduced the impact of any macroeconomics policy
to stimulate demand. Regardless of demand in the economy, Japan is
structurally condemned to no growth for the foreseeable future. Even if Japan
does all that Washington wants it to: spurring demand with monetary and fiscal
policy, cleaning
up the banking system and vigorously pursuing systemic reform, its
estimated contribution to stability in the global economy is overstated. U.S.
export to Japan is a mere 1% of its GDP, to all Asia 2.4%. Rising European
economies are filling in the Asian gap in world demand. Asian crises are
keeping the Fed from raising U.S. interest rate which otherwise should be
rising. Japan needs looser
monetary policy while America needs tighter, either movement would
further weaken the yen. The Fed cannot postpone hiking US interest for long,
and must by more if it acts later.

The dissolution of the Soviet Union marked the transition of a bipolar
world into a multipolar world. In the bipolar political world, trade was
primarily a Western regime. The world was a sphere of contention between the
two super powers that did not trade and aid was the exclusive tool of
ideological competition and economic
development . In a multipolar world, trade has become global, replacing aid as
the recognized tool of economic development. American planners see world trade
and globalization as a vehicle to a new world order under U.S. tutelage in
which market capitalism and Western democratic principles rule. China sees
foreign trade as means to achieving world power status along mercantilist
paths. These two separate and different objects will inevitably clash. The
U.S. see bilateral trade as a privilege to be granted to countries which
subscribe to American values and in concert with American national interests.
China see bilateral trade with richer nations as a moral obligation of rich
nations to equalize historical economic injustice. Security threats faced by
China in a multipolar world have
not diminished. The main threat has shifted now to the form of ethnic
separatism, mainly orchestrated by U.S. interest in the name of freedom, human
rights and democracy. Increasingly, China recognizes economic development as a
key tool in combating ethnic separatism. Historically, a prosperous China
attracts fringe ethnic group to join the center for obvious benefits, and a
poor center
feeds centrifugal forces toward separatism.

China started to lower its interest rate in 1996, after 3 years of
rising rates, to combat inflation. By October of 1997, a total of 3.58 points
were cut on bank deposits rates and 4.45 points on loan rates in three cuts in
22 months. Still, the real interest rate- the nominal rate minus inflation,
continued to rise. While consumer price increase in 1997 was 5.5 points lower
than the previous year, it still went up 2.8%. The People's Bank of China
(PBOC) acknowledged that although the
nominal rate for one year deposits is 5.67%, the real rate is around 7
%, and the 8.64% one year lending rate is a heavy burden for corporate
Industrial output slowed to 8% year on year in the first two months of 1998.
Output of state owned enterprises growth rate slowed to only 3.6%. Thus
deflation became a priority concern for policy makers. On December 5, the PBOC
cut another .25% on
key rates.

Cutting interest rates is a classic policy option to kick start the
economy, but it threatens the exchange rate of the yuan. Since further cuts in
the yuan interest rate beyond the narrow difference between yuan and US dollar
rates will lead to massive shifts of yuan holding s into U.S. dollars. The same
danger exist if U.S. interest rate rises. Such a shift could trigger the
devaluation of the yuan despite official policy to avoid devaluation. This
leaves China with the
alternative option of increasing liquidity, thus leading to higher
inflation and higher rates down the road.
U.S. current account deficit is expected to top US$250 billion in 1999.
IMF warned that with the dollar currently 15-20% above its medium term trading
range, there is a real danger of a correction and possibly sharp fall in the
value of the US. Dollar and of government bonds and stock prices. Asset market
inflation in U.S. and the EU may not be sustainable.

Ever since the U.S. abandoned the Bretton Woods international monetary
agreement in August 1971, the global monetary system has been plagued with a
progressive leadership vacuum. Countries that have been hit with currency runs
began to believe that the promise of market capitalism has been a cruel joke to
rob them of their wealth and dignity. In the absence of a stable, equitable
international monetary order consistent with open global markets, the U.S.
continues to push for predatory globalization. The prevailing free-for-all
approach to currency relations engenders only monetary nationalism and
ultimately fosters a protectionist backlash in all countries. The defeat of
President Clinton's attempt to gain fast
track trade authority and the gaining momentum of trade protectionists in the
U.S. Congress are ominous signs for free traders. The current currency carnage
rages on with disastrous economic and political consequences.

Professor DeLong's prognosis that the senior IMF officials of the mid- and
late-1990s--Michel Camdessus, Stanley Fischer, Michael Mussa and company--is
going to be judged very positively by historians, is optimistic at best. The
problem of the IMF approach is not insufficient fund, albeit more more will
cover more errors; the problem is its institution mission and its bankers bias,
which is a penchant to lend money to those who need it least, and charge
highest rates on those who can least afford it. Trickling down economics
worked for the West because it used to have the rest of the world to trickle
down to. It won't work globally because we have not been able to find any
Martians to trickle down the poverty to. thus the Third World will be
permanently condemned to relative poverty, a condition that festers revolution.

Henry C.K. Liu

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