Asia will start its own currency pool so it can dump IMF

Asia Likely to Draw on $2.7 Trillion
in Reserves to Safeguard Currencies

By Shamim Adam
Bloomberg News Service
Thursday, May 3, 2007

http://www.bloomberg.com/apps/news?pid=20601080&sid=aIKwOaFW43dk&refer=asia

KYOTO, Japan -- Asian finance ministers will this week probably agree to pool part of the region's $2.7 trillion in foreign-exchange holdings to prevent a repeat of the crisis that depleted reserves ten years ago.

Japan's Koji Omi, China's Jin Renqing, South Korea's Kwon Okyu and Southeast Asian ministers are meeting at the sidelines of the Asian Development Bank's annual gathering in Kyoto to discuss a plan to combine some of their reserves to be tapped by member nations when needed. The current arrangement, called the Chiang Mai Initiative after the Thai city in which the accord was forged in 2000, allows only for bilateral currency swaps.

Broadening the initiative is more than just a safeguard against turmoil, analysts say. It's an instrument for the region's governments, stung by conditions attached to loan packages by the International Monetary Fund during the 1997-98 financial crisis, to reduce reliance on the agency in the future.

"These are attempts to achieve some form of independence, not to subject themselves again, should there ever be another crisis, to bailout packages and the rather draconian terms that come with it," said Joseph Tan, a Singapore-based economist at Standard Chartered Bank Plc.

The IMF arranged over $100 billion of loans to Thailand, Indonesia and South Korea during the crisis after their currencies collapsed. In return, governments were forced to cut spending, raise interest rates and sell state-owned companies.

Critics said the policies deepened the region's recession, as higher borrowing costs hurt businesses and crimped domestic consumption. The IMF, in a 1999 assessment of its handling of the crisis, said it "badly misgauged" the severity of the collapse and acknowledged its fiscal prescriptions for the three countries were too harsh.

Its debtors couldn't wait to free themselves from the dictates as all three settled arrears years ahead of schedule. The fund prescribed Thailand the "wrong medicine," former Prime Minister Thaksin Shinawatra said and asked citizens to fly the national flag on offices, homes, and factories when it made the last of its payments in 2003.

After clearing loans from the fund in October, Indonesia's central bank governor Burhanuddin Abdullah said the country was "no longer a sick member of the IMF." South Korea's last installment payment of $140 million in August 2001 was accompanied by comments from a government spokesman that it had "retaken economic sovereignty" and no longer needed prior consultations with the fund.

Finance ministers from China, South Korea, and Japan will gather for a meeting tomorrow, before getting together with their counterparts from the 10-member Association of Southeast Asian Nations a day later. Besides reserve pooling, other issues that may be discussed include the development of the region's bond markets.

The pool of reserves may ensure central banks have enough to shield their currencies against any speculative attacks. The unsuccessful defense of their plunging exchange rates a decade ago depleted the reserves of Indonesia, Thailand, and South Korea, and prompted them to turn to the IMF to shore up their finances.

"It's a contingency measure for a country running low on reserves to draw from that pool," said James McCormack, head of Asian sovereign ratings at Fitch Ratings in Hong Kong. "It's a commitment from within Asia in times of crisis."

In the years since the crisis, total Asian reserves have risen from $485 billion in 1997 to $3.37 trillion now. China's foreign-currency holdings grew by $1 million a minute in the first quarter to $1.2 trillion. South Korea's reserves are now the world's fifth-largest, burgeoning to $244 billion from $7 billion in November 1997.

The amount of reserves in the pool will be important, even though the likelihood of another collapse in the region's currencies is remote, analysts say. The total size of the swap agreements between the 13 countries is about $75 billion from an initial size of $200 million.

"We're not living in 1997 anymore and Asia's financial sector is in considerably better shape to face headwinds," said Jan Lambregts, head of Asia research at Rabobank in Hong Kong. "But when a crisis strikes, will the extent to which these arrangements exist weigh up to the market volumes we see? That's why the size of such a fund is a significant factor."

The eight-fold increase in the region's international reserves over the past decade has not gone unnoticed. Some Asian governments have been criticized for their undervalued currencies which led to the build-up. The accumulation of such assets is in excess of what the nations need for precautionary measures, according to a study by U.S. Treasury economists Russell Green and Tom Torgerson released in March.

"The governments have excessive reserves to a point where they may become a burden," said Craig Chan, Lehman Brothers Holdings Inc.'s Asian currency strategist in Hong Kong. "They see reserves as a cushion in an unlikely event of a similar exodus, which give them confidence they are prepared for it."

Last year, at the Asian Development Bank's annual meeting in the Indian city of Hyderabad, China, Japan and South Korea said they will start talks about creating a single monetary unit to reduce costs of doing business between the region's countries.

Calls to forge a common currency have died down since. ADB President Haruhiko Kuroda in January said he isn't confident exchange rates can be coordinated even after an Asean economic community, targeted for 2015, has been established.

Southeast Asian nations must boost their trade and financial linkages and establish regional crisis prevention systems before embarking on a common currency, according to a study commissioned by the group. Implementing such a unit at this stage is likely to fail, the report said.

Talks on the pooling of reserves or other initiatives on cooperation should be secondary on the agenda of finance ministers at this week's meeting, said V. Anantha-Nageswaran of Julius Baer & Co. Ltd. Foremost should be a discussion of China's currency policy which is inflating its reserves and spurring export growth, he said.

"The Chiang Mai Initiative is just a talking shop," said Anantha-Nageswaran, head of research at Julius Baer in Singapore. "The elephant in the room that everyone's tiptoeing around is the issue of China's exchange rate and how its export-led growth is coming more and more at the expense of other nations. It's going to come to a point where it's going to really hurt everybody."

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