How Can Asia Respond to Global Economic Crisis and Transformation (ADB, 2012)

7/27/2019 How Can Asia Respond to Global Economic Crisis and Transformation (ADB, 2012)

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How Can Asia Respondto Global Economic Crisis

and Transformation?


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How Can Asia Respondto Global Economic Crisisand Transformation?


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ii

2012 Asian Development Bank

All rights reserved. Published 2012.Printed in the Philippines.

ISBN 978-92-9092-646-7 (Print), 978-92-9092-647-4 (PDF)Publication Stock No. BKK124572

Cataloging-In-Publication Data

Asian Development Bank.How can Asia respond to global economic crisis and trans ormation?

Mandaluyong City, Philippines: Asian Development Bank, 2012.

1. Global economic crisis. 2. Asia. I. Asian Development Bank.

Te views expressed in this publication are those o the authors and do not necessarily re ect the viewsand policies o the Asian Development Bank (ADB) or its Board o Governors or the governmentsthey represent.

ADB does not guarantee the accuracy o the data included in this publication and accepts noresponsibility or any consequence o their use.

By making any designation o or re erence to a particular territory or geographic area, or by usingthe term country in this document, ADB does not intend to make any judgments as to the legal orother status o any territory or area.

ADB encourages printing or copying in ormation exclusively or personal and noncommercialuse with proper acknowledgment o ADB. Users are restricted rom reselling, redistributing,or creating derivative works or commercial purposes without the express, written consento ADB.

Note: In this publication, $ re ers to US dollars.

Asian Development Bank 6 ADB Avenue, Mandaluyong City 1550 Metro Manila, Philippines

el +63 2 632 4444Fax +63 2 636 2444www.adb.org

For orders, please contact:Department o External RelationsFax +63 2 636 [email protected]

Printed on recycled paper.


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iii

Contents

Foreword iv

Section 1: Introduction 1

Section 2: Impact o the Eurozone Debt Crisis on Asia 62.1 Te Financial Channel 72.2 Te Real Economy 132.3 Estimating Crisis Impact 14

Section 3: Policy Challenges 173.1 Sa eguarding Growth in a Crisis 173.2 Keeping Economic rans ormation on rack 20

Section 4: Conclusion 29

Appendix 30


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iv

Foreword

Asias rapid economic and social development over the past several decades hasbeen an inspiration or all.

Te region has signi cantly boosted its share o global output and orgedstrong links with the global economy. Its success in economic growth andpoverty reduction has been among its greatest achievements. Yet, sustaining itsgrowth momentum while con ronting new and existing challenges remains a

ormidable task.

Since the onset o the global nancial crisis in 2008, developing Asia has provenits resilience. Nonetheless, some o the undamental structural weaknesses indeveloped economies are unlikely to be resolved soon, and the region might beexposed to nancial contagion. Developing Asia there ore must adapt to whatcould be a prolonged slowdown in mature markets.

Currently, the ocus is on ways to contain risks emanating rom trade andnancial transmission channels. Tese include ensuring adequate availability o

trade nance, su cient oreign currency liquidity, managing large and volatilecapital ows, and protecting the regions nancial stability.

It is imperative to establish strong regional nancial sa ety nets to complementboth national and global nancial arrangements. I strongly believe regionalcollective actions can cement our past gains and bring uture shared prosperity.

In this regard, I am happy to see the progress and discussions to expand andstrengthen regional sa ety netslike the Chiang Mai Initiative Multilateralizationand its surveillance arm, the ASEAN+3 Macroeconomic and Research O cetoenhance crisis prevention and improve mitigation.

Even as Asia deals with these immediate challenges, it must not lose sight o itslong-term development goals. o sustain its growth momentum and consolidateits economic and social trans ormation, Asia needs to re-assess its owngrowth model.


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Foreword v

With weak demand in traditional markets in advanced economies, Asianeconomies must rebalance the sources o growth toward domestic and regionalmarkets. Tis shi has already begun to happen. Regional cooperation andintegration are vital to this process. In addition, Asia should increase its economiclinks with Latin America and A ricaa process which has already started. Teseregions represent markets or diversi cation as well as sources o sustained uturegrowth, given their endowments o natural resources. I regional cooperationand integration initiatives are to succeed, whether within or across regions, theiroverall goal must be to increase the wel are o people through shared prosperity.

Te re-emergence o Asia as the worlds growth engine has brought enormousresponsibilities as well as opportunities. How Asia responds to the globaleconomic trans ormation is critical. Asia must pursue growth that is inclusive andsustainable, and above all, growth that enhances the wel are o the people. Asiaalso must grapple with how to efectively balance environmental considerationsagainst its aspirations or growth.

Tis monograph aims to stimulate debate on these issues. It is my hope that themeeting will provide us with a wealth o eedback and strategic considerations toguide ADBs urther analytical and operational work in these key areas.

I would like to express my deep appreciation to Jefrey Sachs, Director o TeEarth Institute and and Pro essor, Columbia University; Bindu N. Lohani,Vice President, ADB; Iwan J. Azis, Head o the O ce o Regional EconomicIntegration, ADB; Masahiro Kawai, Dean, ADB Institute; and their respectiveteams who contributed to the preparation o this study.

.

Haruhiko KurodaPresidentAsian Development Bank


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1

The global crisis is a wake-up call for Asia.Is its current resilience to be taken forgranted? Is the region adequately pre-pared to deal with the opportunities andrisks of the ongoing global rebalancing?Is there adequate policy coordinationwithin and across countries, to ensurethat key policy actions constantly improvepeoples welfare? Is regional cooperationa pursuit only in times of stress? Authori-ties in the region have begun asking thesequestions, recognizing that there is noroom for complacency. This monographis designed to stir debate. Answering thequestions could lead to well-articulatedstructural reforms that help sustain theregions growth.

Section 1

Introduction

Asias ongoing economic trans ormation has captured the worlds imagination.Many marvel at the speed a diverse region packed with poverty has laid the

groundwork or uture prosperity. Tey acknowledge the massive hurdles crossedto get this ar, but are nonetheless awed by those still to be surmounted. Asiasrole in the world economy is growing, but so too are the challenges in keeping itstrans ormation on track.

Te genesis o Asias trans ormation is critical. History is undamental orthinking about the uture. Yet the goal o sustained economic growth equitably distributed remains central to the debateand still elusive.

With the recent economic crisis and renewed recession looming in Europeand the United States (US) economy growing but ragilehow can Asiaweather another global economic disruption? Is there su cient monetary and

scal space to respond efectively? How will nance, production, and trade beafected? Is Asias structural re orm adequatenot simply to withstand anothercrisis, but to augment the drivetoward continued strong, yetmore inclusive growth?

With the Peoples Republic o China (PRC)and Indiaindisputably core players in theregion, how can their disparateyet undamental growthchallenges be met? o rise in theglobal economic rmament, how will their trade and investmentstrategies meld with those o other

economies or sub-regions such asSoutheast Asia, South Asia, andCentral Asia and other agendas?Is regional cooperation a canard?Or is there room or real synergy?


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2 How Can Asia Respond to Global Economic Crisis and Transformation?

Many speak o a seismic shi in economic gravity to rapidly developing andhighly diverse Asia. For the region to lead global recovery and meet the multiplechallenges o orming a strategy to sustain robust yet inclusive growth, is a new development paradigm needed? What are its components and do we have theinstitutional architecture to make it work?

Tese are ambitious questions. Yet they are worth investigating.

Tis monograph aims to build a oundation or discussion on how to con rontand use current events to clear a better path toward sustainable, inclusive growthand development in Asiaalways cognizant o the regions growing responsibility to help build nancial and economic stability globally.

People tend to orget that Asias much vaunted economic emergence over the pastew decades is a re-emergence. Prior to the Industrial Revolution, Asia accountedor 60% o the world economy. Tat share declined to 15% by 1950, when Japan

began post-war reconstruction. Japan doubled its per capita income in a decade.

As countries throughout the regionmost newly independentbegan to setnational agendas amid an evolving technological revolution in the 1960s, theseeds o trans ormation were planted. Te so-called Asian miracle acceleratedin the 1970s. Natural resource exploitation returned, but more in partnershipthe precursor to a more even playing eld. Easing the regulatory environmentallowed oreign direct investment to ourish. rade soon ollowed.

Import substitution gave way to export promotion. Te private sector leapt to theore in building production networks and supply chainsas the 1980s turned

into the 1990s. iger economies became industrial and nancial entrepts.And then Asias economic giantsthe PRC and Indiaentered the ray, usingmarket re orms to varying degrees to introduce millions upon millions o low-cost workers to the global labor pool, using globalization to speed economicgrowtheven i increasingly unequal.

Te result so arAsias share o global gross domestic product (GDP) reached35% in 2010. Studies suggest it could reach as high as 52% by 2050.

Te consequences o this growth have been dramatic. Not only has the middle-

class grown to become a orce in the region, but hundreds o millions have beenli ed out o extreme poverty. Yet Asia remains home to a majority o the worldspoor. Polarization and inequalities are also on the rise. While there is signi canteconomic momentum, Asia needs to do more in bringing opportunities orinclusive and sustained growth to the majority o its people.


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Introduction 3

Te origin o the 2008/09 global nancial crisisthe worst since World War IIsets the stage.

A long period o rapid credit growth, ush liquidity supported by easy monetary policies, and the growth o asset market bubblesnotably in real estateled

nancial institutions to boost leverage that exposed both real and nancialsectors to sharp corrections in asset prices. As a result, the collapse o the USsubprime market, a small slice o the overall nancial pie, shook the edi ce o the entire nancial system and exposed long-gestating global structural aws.It laid bare the debated linkages between global imbalances and a potential

nancial meltdown.

Its roots were seeded by global structural changethe integration o Asia intothe global economy, the dissolution o the Soviet Union, and most recently,the emergence o A rica. Tis wholesale liberalization more than doubled theglobal labor orce. Jobs, mostly unskilled, relocated rom developed countriesto emerging economiesprimarily the PRC and Southeast Asia. o compensate

or lost competitiveness in low-end manu acturing and assembly, high-incomecountries ocused on boosting non-tradable sectors. Tis included mortgage and

nancial deregulation to stimulate job growth.

Low and stable in ation reduced macroeconomic volatility. A Great Moderationled to expansionary monetary policy globally in the 1990s and early 2000s. Loosecredit plus nancial deregulation encouraged risk taking. Large real estate bubblesin Europe and the US meant new construction jobs or displaced industrial workers.But it also stimulated nancial innovation (like mortgage securitization) to hiderisk, supported by perverse incentives or credit-rating and deal-maker greed.

ogether, the expanded global labor orce and shadow nancial system ledto severe global structural imbalancescurrent account imbalances, excessivedebt in advanced economies, over-reliance on assembled and low value-addedmanu actured exports in some emerging economies, and growing incomeinequality across the board.

In its early days, the crisis squeezed liquidity and risk premia skyrocketed.Financial insolvency o several institutions sur aced, but largely disguised thewider systemic risk. It was the collapse o Lehman Brothers in September 2008

that li ed the veil as con dence evaporated, investors retreated, and marketstumbled. Recession ensued.

When the global nancial system began stuttering in mid-2007, the impact onAsia was limited. Te region was neither highly exposed to the structured credit


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products that caused problems or the US and European nancial institutions,nor heavily dependent on global capital markets or unding, except or oneor two economies. Nonetheless, it was vulnerable to swings in global investorsentiment and increasingly cautious investor appetite.

Te Lehman Brothers bankruptcy was the tripwire. Asia elt the liquidity crunch,markets plummeted, trade ell dramatically, capital ows reversed outward,and growth slowed markedly or contracted in several economies. Massive scalstimulus and accommodative monetary policy, liquidity injections, governmentguarantees, and local currency nancing helped the region stave of the liquidity crisis and resuscitate growth.

Recovery came rst and rapidly to emerging economies, and volatility spiked, withgrowth in advanced economies anemic. By the rst hal o 2009, con dence hadreturned and port olio in ows started trickling in. oward the end o 2009 andearly 2010, policymakers were increasingly con dent o the recoverys tractionand turned their attention to exiting stimulus and normalizing monetary policy.Asias rapid recovery was helped as global nancial markets stabilized ollowingUS and eurozone government intervention to restore con dence.

But global economic growth has stalled since the crisis. And it has gradually exposed the unsustainable scal policies in Europe and its ragile bankingsystema second and likely more prolonged phase o the global crisis.

By 2010, important eurozonemembers were struggling. Greece,Portugal, Ireland, Italy, and Spainstruggled to convince investors they could repay sovereign debt. Tepossibility o contagion spreading

rom escalating European debtproblems has kept nancial marketsand global policymakers on edge. A slew o political statements, bailouts, andausterity packages have struggled to restore investor con dence or kick-start theeconomic growth needed to allow struggling economies a way out. o the end o this decade at least, global growthincluding Asiaswill likely be lower than thepast three decades. Short-term xes do not solve structural problems.

Te Great Recession and current eurozone crisis lay bare the need or Asia tocon ront major challenges to its ongoing economic trans ormation. How shouldAsia position itsel crisis or not? Tis monograph analyzes these challenges andlinks the efects o a potential new crisis to the next steps in Asias continuing

The global crisis showed that whileday-to-day fire fighting is needed inthe short-term, policy makers shouldalso take time to invest more capital

in developing medium and long-termpolicy options.


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Introduction 5

economic trans ormation. Teglobal economy needs to readjust.And Asiaincreasingly centralto global economic growthmust contribute by diversi yingits sources o growth, allocate itslarge nancial resources moreefectively and e ciently towardproductive and socially equitableinvestment, and bolster domesticand regional demand.

Te next section brie y examineshow a crisis would be transmittedthrough nancial and tradechannels. Te ongoing eurozonedebt crisis is taken as a point o departure. Any contraction inexternal demand, tighter liquidity,rise in risk premiums, or a stricterregulatory environment willimpact Asias real economies, itscompanies and banking systems.Te section also provides anestimate o the impact theeurozone debt crisis might have onAsias economic growth in 2012. Itends with a list o potential risksand vulnerabilities or the regions economies.

Te third section presents policy options on short-, medium-, and long-termstructural challenges central to the regions crisis mitigation and ongoingeconomic trans ormation, ranging rom rebalancing to trade policy to regional

nancial sa ety nets. A conclusion ollows.

Developing Asia has certainly addedresilience to the global economy to facefinancial shocks. Many countries havecomfortable current account surpluses,low external debt, and high foreignreserves. Most of the regions bankingsystems are sound with a high capitalbase and low nonperforming loan ratios.Many countries also have adequate fiscalspace should a reintroduction of fiscalstimulus be required.

The ongoing global uncertainties haveforced us to reevaluate the role andstructure of global finance. At thesame time, we have seen the center ofeconomic gravity shifting gradually toAsia, implying more responsibilities forour region. The challenges we face arehuge. Asias role in sustaining globalgrowth is criticaland this will be best

achieved by ensuring that Asias owngrowth remains strong and sustainable.For this, growth must be inclusive,balanced, and environmentally friendly.

Excerpts from remarks made by HaruhikoKuroda, President, Asian DevelopmentBank, at the consultative workshop inNew Delhi on 1 February 2012.


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6

Section 2

Impact of the Eurozone Debt Crisison Asia

Europes sovereign debt crisiscould have strong repercussionson developing Asia. Both theUnited Stated (US) and eurozoneare major markets or the regionsexports and sources o nancialcapital and port olio investments.Memories o the sharp slowdown

rom the 2008/09 Great Recession

remain resh. Te regions nancialsector and stock markets werebattered as oreign investors edto sa e havens elsewhere. Many Asian economies sufered largedeclines in trade and output. Still,the region recovered quickly dueto prompt and efective scal andmonetary stimulus, airly healthy

nancial systems, and stringentprudential regulations.

Tus ar, the eurozone sovereign debt crisis has had limited impact on developingAsias growth. While the regions economic expansion has moderated, it remainsrobust, roughly in line with recent historical trends. Financial systems havebeen little afected by global nancial market volatility and have continued tochannel unds to support economic activity. Te economic resilience is partly due to the ongoing process o rebalancing sources o growth rom external

to domestic demand. For now, no large or mid-sized economies will likely experience a hard landing.

However, i conditions were to worsen in Europe, the impact on the regioncould be more severe and the crisis could last longer. With advanced economies

Asia is enjoying bright momentum ofeconomic prospects, with countriesmaintaining rapid economic growth,and becoming the major engine ofworld economic growth. At the sametime, with the uncertainty of externalenvironment increasing, as well as risksand challenges, Asian countries, invarying degrees, are confronted with thechallenges of economic restructuringand promoting sustainable andequitable economic growth.

Excerpt from remarks made by Zheng Xiaosong, Director General, International Department, Ministry of Finance of the Peoples Republic of China at theconsultative workshop in Beijing on1 March 2012.


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Impact of the Eurozone Debt Crisis on Asia 7

sovereign credit ratings under scrutiny, the scope or rescuing troubled nancialinstitutions is limited. Tis may make it even harder to quickly resolve any new crisis.

Given Asias diversity, diferent sub-regions ace diferent priorities andchallenges. One common priority is how to sustain economic growth and boostpeoples wel are. In East and Southeast Asia, the ocus is likely to be on tradeand nancial integration. For South Asia, boosting productivity and movingto higher value production and services, while ensuring adequate employmentopportunities, will be key challenges. In Central and West Asia, priorites includeeconomic diversi cation and overcoming geographic constraints throughgreater and e cient connectivity. Paci c economies ace unique challenges o balanceing growth, while adapting to and mitigating climate change. Te nexttwo sections on provide analysis ofer suggestions that can be applied acrossall sub-regions. More in-depth dialoguealong with research and analysisis required to establish speci c sub-regional policy options to better deal withglobal trans ormation.

For the most part, the regions nancial systems show limited vulnerability and appear able to weather any impact rom the eurozone crisis (barring a low probability per ect storm collapsein which the euro tumbles sharply, yenborrowing rates rise, and growth alls sharply in the Peoples Republic o China(PRC), Japan, and other parts o Asia). Although Asias exposure to eurozone andUS banks is signi cant, external vulnerabilities or the region are lower than in2007. In general, current account balances are healthy, and thus less susceptibleto the impact o tightening liquidity, as they are less dependent on externalborrowings. Also, the regions external debt exposure has improved rom 2008.For the most part, oreign reserves are more than adequate and can com ortably cover imports and short-term external debt repayments. Te regions bankingsystems also remain sound with su cient capital adequacy ratios and or now at leastlow levels o nonper orming loans. During the global recession, theregions banking systems remained largely unafected, and this overall soundnesscontinues ( able 2: External Vulnerabilities) .

2.1 The Financial Channel

With the global nancial system closely intertwined, any nancial systemdistress in Europe will have transmission efects on Asia. Over the past decadeor so, the regions economies have liberalized their nancial systems. Whilethis has bene ted economies, it has also made the region more vulnerable toexternal shocks, given the efects o globalization and close integration with


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able 1: Risks and Vulnerabilities

Risks Description Vulnerable CountriesTrade openness Economies with large export

to GDP ratios could see severecontraction in exports shouldthe eurozone crisis suddenlydeepen, the US economicrecovery stalls, or a new globalcrisis develops.

Peoples Republic of China;Republic of Korea; Malaysia;Philippines; Singapore;Sri Lanka; Taipei,China;Thailand

Commodity

price volatility

Economies reliant on

commodity exports, in particularoil and gas, could be severelyaffected by a contraction indemand for resources.

Brunei Darussalam,

Kazakhstan,Kyrgyz Republic,Turkmenistan, Uzbekistan

Rising inflation Inflation from flow-on effectsof commodity price volatilityon agricultural and food prices,with others experiencing pricespikes from supply bottlenecksor weather-related disturbances.

Bangladesh,Brunei Darussalam, PeoplesRepublic of China,India, Republic of Korea,Kyrgyz Republic, Lao PDR,Pakistan, Singapore,Sri Lanka, Thailand,Uzbekistan, Viet Nam

Slowdownin overseasremittances orofficial aid

Economies with largeremittances as a percentageof GDP could see personalconsumption weakenshould demand for overseaslabor wane. Also, countriesdependent on official

development assistance couldsee donor contributionsdecrease.

Bangladesh, Cambodia,Kyrgyz Republic, Philippines,Tajikistan

Capital flowand exchangerate volatility

Economies with large newforeign direct investments orlarge shares of foreign holdingsin portfolio investments andbonds are prone to capitalflight due to heightened risk perception or flight to quality.

This could induce currencydepreciation, increase currentaccount deficits and foreigndebt values, as well as raiseimported inflation.

India, Indonesia,Kazakhstan,Republic of Korea,Kyrgyz Republic, Myanmar,Turkmenistan, Uzbekistan,Viet Nam

continued on next page


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Risks Description Vulnerable CountriesHigh householddebt

Economies with high householddebt could see consumerdemand weaken if credittightens worldwide.

Republic of Korea

Limited fiscalspace

Slippage in expenditures andrevenue weakness deterioratein net operating balances andincrease government debt.

India, Indonesia, Malaysia,Myanmar, Pakistan,Philippines

Excessive creditgrowth, assetprice bubbles,bankingvulnerabilities

High credit growth contributesto macroeconomic instabilityand fans asset propertybubbles. Bank asset qualitycould deteriorate as creditgrowth also appears in risingnonbank or informal credit, oroff-balance sheet financing.Macroeconomic tightening andfalling asset prices after a credit

boom adds stress on borrowersand lenders alike.

Peoples Republic ofChina; Hong Kong, China;Kazakhstan; Singapore;Viet Nam

Limited accessto finance

Several countries have limitedprivate sector credit, with fundsgoing mostly to state-ownedenterprises.

Lao PDR, Myanmar, andmost of South Asia

Naturaldisasters

Severe weather events,earthquakes, and other naturaldisasters induce shocks to

domestic production andregional supply chains.

Bangladesh, Cambodia,Lao PDR, Pakistan,Philippines, Thailand,

Sri Lanka, Viet Nam

able 1 continued

global nancial markets. Tis became clear during the 2008/09 crisis whenboth Singapore and Hong Kong, Chinathe regions nancial hubshad thelargest drop in output as measured against trend. In contrast, countries withsmaller amounts o international nancial assets saw ar less disruption tooutput growth.

Failure to resolve the eurozone crisis would likely result in accelerated capitalout ows similar to 2008, when, afer Lehman Brothers collapsed, capital exitedas a result o risk aversion and initial uncertainty over who held toxic sub-primeassets. Most capital out ows were in bank lending and port olio investments,


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while oreign direct investmentremained relatively stable. Tissuggests that, in the event o adeeper eurozone crisis, the channelo transmission to the region willlikely be via a sudden drop in bank lending and port olio investments.

ighter global credit conditionswould return should the eurozonecrisis intensi y, bringing a knock-on efect to the regions bankingsystem liquidity. Politically,eurozone banks will nd it easierto cut lending abroad rather thandomestically; thus bank lendingto the region would drop. Banksincorporated in the US and theUnited Kingdom with close tiesto eurozone banks would likely behurt as well ( able 3: Exposure to US and European Banks). It is not surprisingthat nancial centers such as Hong Kong, China and Singapore rely heavily onEuropean bank borrowings, while several other economies also have substantialEuropean bank exposure.

A deeper or prolonged crisis in Europe would likely result in higher globalrisk aversion, drawing port olio investors away rom the region. Stock marketsindexes in several o the regions economies could plummet once more,reducing investor con dence and hurt consumption through the wealth efect.It would also increase the cost o raising unds, thus depressing investment. Itmay also make raising capital in domestic nancial markets more challenging.Co-movements between the region's stock markets and major global

nancial markets are increasing. Since the start o the eurozone sovereign debtcrisis, Asian and eurozone stock markets have moved almost in lockstep. Apart

rom the stock market impact, bond markets will likely be afected. A crisiswould likely push bond yields up in the region as oreign investors ee to sa ehaven assets. Tis could make it more di cult and expensive or companies

to raise unds in bond markets, and rms could ace liquidity crises shouldnancingincluding trade nancingbecome more di cult. Countries withmore external bond holdings would likely be afected as und out ows wouldhave greater impact. Among the regions economies, Malaysia and Indonesiahave large oreign holdings in government bonds.

Thus far, Asias financial sectors haveshown resilience, even if severaleconomies have seen a foreign currencyliquidity crunch for short periods oftime. Current resilience, however, doesnot mean low downside risks. Banks inmajor financial centers in the region relyon US and European banks for funding.Any credit tightening in advancedeconomies will affect banks in theregion. Likewise, monetary easing in theUS and eurozone will have significantimpact for Asian finance. Corporatebond markets can be affected by capitalflight. These factors, coupled withregional stock market co-movementswith global markets, call for continuousmonitoring, vigilance, and timelypreemptive or remedial measures tomaintain financial stability.


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In sum, the transmission o an exacerbated eurozone crisis to emergingAsia through the nancial channel could be signi cant. Due to longer lags indata availability compared with trade ows or instance, a crisis impact may appear muted when in act it is simply delayed. Tere ore, providing liquidity support remains important, as does bolstering existing bilateral and otherswap arrangements.

2.2 The Real Economy

Ring- encing the real sector against the impact o nancial market contagionshould the crisis escalate is critical.

Te past our episodes o US or eurozone recessions show an increase in the impacto external shocks on Asia. As may be expected, the more export-oriented newly industrialized economies sufered more than the middle-income Association o Southeast Asian Nations (ASEAN) economies during these periods. Moreover,the PRC economys sensitivity to recession in advanced economies has grown inconsonance with its export growth.

A prolonged or deeper eurozone sovereign debt crisis will afect the regionthrough the trade channel as demand rom developed countries alls. Duringthe 2008/09 global nancial crisis, economic growth in the region collapsedas demand or Asian exports contracted due to weak global growth. Tis wasexacerbated by the collapse o trade nancing rom tight global liquidity. Asa consequence, economies with closer trade ties with the US and eurozonewere the most severely afected. Singapore; Hong Kong, China; Malaysia; andTailand recorded larger declines in gross domestic product (GDP) growth in2008 and 2009. In contrast, more domestic demand-oriented economiesthePRC, Indonesia, and Indiaremained resilient and had only minimal outputcontractions. Tis would likely repeat should the global economy slumpin 2012.

Nonetheless, the trade impact would probably be less today compared with2008/09, as Asias export markets have diversi ed. For instance, the regionsexports to the eurozone and US have declined rom 33.8% o total exports in1999 to 24.5% in 2010. Te contribution o domestic and regional demand

to export growth has also increased. Te share o intraregional exportsto total exports in emerging East Asia, or example, rose rom 36.9% to44.2% during the same period (Figure 1: Direction o Exports EmergingAsia) . Te region has also developed stronger trade ties with Latin Americaand A rica.


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Figure 1: Direction o ExportsEmerging Asia a

(% o total exports)

G2 = United States and eurozone.a Includes Brunei Darussalam; Cambodia; Peoples Republic of China; Hong Kong, China;

India; Indonesia; Republic of Korea; Lao Peoples Democratic Republic; Malaysia;Myanmar; Philippines; Singapore; Taipei,China; Thailand; and Viet Nam.

Source: ADB calculations using data from Direction of Trade Statistics , InternationalMonetary Fund.

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24.5

2.3 Estimating Crisis Impact

Te crisis impact on European and US economic per ormance will largely determine how it afects Asia. Should downside risks materialize, the eurozonecould all into a deep recession and drag the US economy to lower growth or evenrecession. A low-probability scenario would nd both the eurozone and the USin deep recession, with output reaching the economic troughs o 2009. Te threepossible scenarios or 2012 are

a recession con ned to the eurozone, with the economy contracting3.9% or 2012, with US economic growth slowing to 1.6% in 2012,

a deep recession in the eurozone that drags the US economy intotechnical recession, contracting 0.1% in 2012,

a renewed global crisis where output in both the eurozone and US allto 2009 troughs.


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Asias GDP growth will drop rom moderate to severe under the three scenarios,but even the outcomes o the low-probability scenario will still be better than the2008/09 impact.

Under the rst scenario, Asias economies will see a drop in 2012 outputgrowth o between 0.4 and 2.0 percentage points withSingapore; andHong Kong, China worst afected, ollowed by the PRC; the Republico Korea; aipei,China; India; and nally Japan (Figure 2: Impact o eurozone and US Crisis on 2012 GDP Growth) .

Figure 2: Impact o Eurozone and US Crisis on 2012 GDP Growth(deviation rom baseline orecast,a percentage points)

Indonesia

Malaysia

Philippines

Thailand

Hong Kong, China

Korea, Rep. of

SingaporeTaipei,China

China, Peoples Rep. of

India

Japan

Asia

4.00 3.50 3.00 2.50 2.00 1.50 0.50 01.00

New global crisis Severe recession Eurozone recession

GDP = gross domestic product, US = United States.Eurozone, according to the Oxford Economic Forecasting model, includes Austria;Belgium; Finland; France; Germany; Greece; Ireland; Italy; Luxembourg; Netherlands;Portugal; Slovakia; and Spain.a ADBs baseline assumptions forecast 2012 GDP growth in the eurozone and the US

will be 0.5% and 2.1%, respectively. Japan is forecast to grow 2.5%. For developingAsia, GDP should grow about 7.0%. These figures are based on ADB forecasts made inDecember 2011.

Note: A eurozone recession exists when eurozone 2012 GDP returns to its 2009 trough.New global crisis comprises a eurozone recession plus US 2012 GDP returning to its 2009

trough. Severe recession combines a eurozone recession and a technical recession in theUS for the first two quarters of 2012.Source: ADB calculations using the Oxford Economics Forecasting Model.


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Should the eurozone recession drag the US economy into technicalrecession, Asias output growth will drop between 0.5 and 2.5 percentagepoints, with the same order o severity among the regions economies.

I a new global crisis drives eurozone and US output down to 2009 levels,the regions growth will all between 0.6 and 3.7 percentage points, stillwell below the 2008/09 impact.

Tese projections likely underestimate the true efect o a new global crisis. Temoderate impact on East Asia can be explained in part by (i) increased intraregionaltrade as a share o total trade; (ii) understated nancial-channel transmission

due to modeling limitations; (iii) the lack o an appropriate variable to capturecon dence or expectations variablecon dence was an important economic dragduring 2008/09; and (iv) Japans resilience due to post-disaster reconstruction.Realized economic growth can also vary depending on the nature and intensity o policy responses.

Tus, the actual impact can be stronger than what is discussed above. In act,there is a worst case per ect storm scenario that goes well beyond the modelsimulations here. Tis would be an extremely low probability case in which a

real nancial crisis ignitessay, through a disorderly sovereign de ault in onecountryand spreads across the European Union (EU). Markets begin toquestion whether the euro can survive and risk premiums on euro-denominatedassets rise sharply. Tis could be a shock worse than the 2008 Lehmans collapse.Markets could question the solvency o global nancial institutions, leadingto a dramatic credit squeeze. What happens should Japanese rates rise? Andwhat i the per ect storm strikes the PRC hard, dropping its GDP growth below sustainable levels? While this scenario is highly unlikely, it cannot be ignored.


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17

Section 3

Policy Challenges

As explained in Section 2, evenin the extreme scenario where

eurozone and United States (US)gross domestic product (GDP)all to 2009 levels, the short-term

impact on Asia would likely bemuted compared with the 2008/09Great Recession. Asia should beable to weather another crisis i the regions policymakers respondquickly, properly, and rmly by

deploying nancial, monetary, andscal policies to boost liquidity,restore con dence, ensure nancialstability, and support growth.

o maintain long-term, sustainable,and increasingly inclusivegrowth, policymakers must avoidknee-jerk reactions that paper

over structural issues. Regardless o whether a global crisis occurs, emergingAsia, however diverse, must stick to its tradition o medium-term nationaldevelopment plans and perspectives. It has the opportunity to ocus on a structuraltrans ormation that can bolster macroeconomic and nancial stability whileboosting human capital, supporting needed capital investment, and addressingenvironmental risks. All this will require active governments, committed togood governance and pursuing regional or global cooperation in addressingcommon challenges.

3.1 Safeguarding Growth in a Crisis

Asias most immediate challenge would be to contain risks emanating rom nancial channels should the eurozone plummet into a ull-blown

Asia needs to keep a medium- andlong-term perspective and not be tooshort-term focused. Avoiding financialbubbles should be the the principal focusof short-term policy making, involving:prudential regulation; maintainingadequate financial reserves; adequatebank capital; avoidance of high levels ofshort-term indebtedness. Asia learnedthe hard way about financial bubblesin 1997, while the US and Europe havelearned the hard way in 20082010.The lessons should give us pause ontoo much short-term macroeconomicmanipulation, and force us to think long-term.

Excerpts from remarks made by Jeffrey Sachs in preparatory workshops inNew Delhi and Jakarta.


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nancial and economic crisis.Te most important o these arerelieving pressure on oreigncurrency liquidity, managinglarge and destabilizing capital

ows, and minimizing the risk o contagion. Asia must also prepare

or a possible slowdown indomestic demand.

Financial policy must buttressthe oundations o nancialstability and avoid deteriorationin market con dence. Te regionspolicymakers will need to ensureadequate and timely provisioning

or oreign and domestic liquidity.In emerging East Asia, substantial

oreign reserves could cushion theimpact o sudden capital out ows.East Asia also has the option

o tapping the Chiang Mai Initiative Multilateralization (CMIM), a reservepool or emergency liquidity, which may double in size this year. Nonetheless,bilateral swap lines may prove the rst line o liquidity insurance. Centralbanks have been active and several new lines have been arranged. In parallel,work is underway to design crisis prevention mechanisms. In this regard,to complement the International Monetary Funds (IMF) ex ante nancingmechanisms, the ASEAN+3 could explore the possibility o developing similarex ante liquidity support acilities. In act, ASEAN+3 nance ministers con rmedthe desirability o pursuing this option at their 2011 Ha Noi meeting. For theoption to be efective, several issues need to be examined: nancing mechanisms

or such a acility; conditions under which it would be triggered; stipulationsover the amount o unding available to member countries, and; the nature o IMF cooperation.

Monetary policy must remain exible to respond to extreme exchange rate volatility. Where excess volatility and overshooting undermine currency

markets and severely disrupt economic activity, there may be merit in oreignexchange market intervention and temporary capital controls. However,policy makers should be mind ul that these measures are likely to orce a moredisruptive adjustment down the road, and should there ore only been seen asshort-term remedies.

From the 1997 Asian currency/financialcrisis, the region learned that self-insurance is critical. Amongst themeasures taken, two prominent oneswere building up foreign reserves andstrengthening of the financial sector.Both worked, and that is why we didnot have much of the financial channelspillovers in 2008/09. Despite a range ofcriticisms, accumulating foreign reservesturned out to be a good strategy. Movingahead, continued accumulation maybe costly for some Asian countries. Analternative is the Chiang Mai InitiativeMultilateralization. The region shouldthink hard about using it effectively tosupplement self-insurance.

Excerpts from remarks made by Takatoshi Ito at the consultative workshop in

Jakarta on 6 February 2012.


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Policy Challenges 19

Investment in nancial instru-ments should not overshadow real investment . In the short term,myriad problems with real invest-mentmostly investment climate-relatedhas led to over-invest-ment o Asias savings into nan-cial assets. Te margin at whichtighter credit (or more lax credit)afects investment must be the levelo small- and medium-sized enter-prises, as dominant corporationshold su cient cash to avoid seri-ous impact rom tightening credit.Tis needs to be considered rom amonetary standpoint.

To restore the balance o investments, a nancial tax may be appropriate on a case by caseor country by country basis.Tis would improve allocativee ciency in a second best worldwhere incentives to invest in thereal sector cannot be targeteddirectly, and raise additionalrevenue or scal targeting.

Authorities need to be ready to use scal stimulus more efectively insupporting domestic demand. I spillovers rom the eurozone and US hit EastAsia once more, several economies should hold su cient scal and externalpositionsthough not as much as in 2008/09to reintroduce stimulus tosupport growth. At the same time, authorities should care ully design targeted

scal support to cushion the purchasing power o the most vulnerable romthe immediate efects o a potential global downturn. Several countries have

aced persistent ood in ation, afecting the poor in particular. Central banksmay want to pay greater attention to a consumer price index (CPI) subset

say, a CPI or the Poorto keep the impact o macro policies on the poorin the ore ront o policy makers minds. oo much divergence could actas an early warning system against potential social or political tension.Sa ety net mechanisms will need to be strengthened, with targeted supportwhere easible.

Effective inflation management is critical,and in a globalized world that requireseffective collaboration between centralbanks. In a world economy where thereare sufficient barriers across countries,the standard instrument of managinginterest rate works. But in a globalizedeconomy, where the patterns and chal-lenges faced in different parts of theworld happen to be very different, man-aging arbitrage possibilities becomesquite difficult, with industrialized coun-tries lowering interest rates as much aspossible to pump in liquidity and emerg-ing economies raising interest rates tofight inflation. Monetary policy has to becoordinated carefully, and there needs tobe greater collaboration between centralbanks across and also within regions,including Asia. We talk about coordina-tion on labor and trade matters, and weneed to think more about monetary andfiscal coordination.

Excerpts from remarks made by Kaushik Basu, Chief Economic Advisor to Government of India at theconsultative workshop in New Delhi on1 February 2012.


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3.2 Keeping Economic Transformation on Track

In the medium- to long-term, Asia must con ront the more di cult task o adjusting to a new normal in the global environment to continue its ongoingeconomic trans ormationa new normal where both the US and the eurozone

ace a prolonged era o structural weakness due to poor economic undamentals.Tis new normal comes with considerably increased responsibilities or theregion. More speci cally, Asia must con ront three major challenges:

(i) Asia must nally rise to the task o shi ing to a more balanced growthmodel. Te shi toward a domestic demand-oriented strategy isappropriate or some countrieslike the Peoples Republic o China(PRC)but not or others, like India. Te other important aspect o rebalancing is the changing trade pattern, where the share o Asias tradeintraregionally and with other emerging marketsin A rica and LatinAmericawill increase, while its share with traditional marketstheEuropean Union (EU) and the USwill likely decline. Indeed, althoughpolicymakers have come to accept the need or rebalancing whererequired, the risk o a meltdown in the US and eurozone adds urgency.

(ii) Te region must strengthen its resilience to external shocks emanatingrom nancial channels, by improving regional nancial arrangementsand strengthening crisis prevention and mitigation. Tese can be donewith an eye to ring- ence or build a rewall against nancial contagion.Tese initiatives can help the region cope with nancial volatility by reducing both economic disruption rom sudden swings in capital owsand the perceived need or excessive reserve accumulation. Tey willalso play a critical role in supporting the regions eforts at rebalancing.

(iii) Finally, Asia must ensure that its new growth trajectory is not only

sustainable, but inclusive. Many o the policies in pursuit o rebalancingare consistent with and supportive o the broader objectives o sustainable growth. However, rom a development standpoint, Asiasattempts at rebalancing need to impact social and environmental

outcomes in a signifcantly positive way in order or them tobe worth pursuing. Developinghuman capital to stay ahead o the industrial curve; harping on

increasingly inclusive nancialsystem development; usingexisting and new technologies(IC , or example) or improved

Asias great strength is that its emerg-ing economies have 5-year plans, anda 1020 year focus. Active governmentis essential in this regard, to ensure a

strong vision with strong public invest-ment strategies, and policy frameworks.Asia needs to maximize its advantages onthis front.


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service delivery in education and health, or example; and innovatingor environmentally sustainable development are all eatures that need

to coalesce at the top o public policy. Indeed, it presents Asia with theopportunity to think deeply and comprehensively reassess the entiredevelopment paradigmand how it should be implemented.

A broad range o scal measureswill be needed to rebalancedemand toward domesticconsumption and investment .Governments can increase socialexpenditures and enhance accessto credit to moderate householdsavings and boost consumption.Again, this will be important only in countries that are heavily relianton external sources or growth.In these economies, prioritizingpublic investments with avorablesecondary efects can crowd-inadditional private investment orsupport sectors that produce ordomestic or regional markets.Tese scal interventions will notonly help strengthen domesticdemand, but also support theregions goal o improving socialoutcomes. Increased scalspending on health, education,and ood security, or instance, should substantially lessen poverty and hungerand lead to improvements in the productive potential o the poor. Meanwhile,higher public spending on in rastructure should create additional space or greeninvestment, with leadership in environmental technology and production now shi ing to Asia.

Fiscal measures to boost domestic demand will have to be complemented by re orms to strengthen the nancial sector, improve nancial literacy, and oster

nancial in clusion. Tese re orms will be critical in creating an e cient nancialsystem that can efectively channel savings into productive uses, lower the cost

o borrowing, enhance economic growth by pooling risk, and boost e ciency and wel are by providing nancial services to the poor and those unbanked.Currently, most policymakers in the region can consider these re orms in the

In many countries, it is evident thatachieving economic growth is notsufficient to reduce poverty. The higheroverall economic growth has not always

resulted in poverty and hunger reduction.Developing Asias rapid growthcomes at the expense of the damagedenvironment. Further, the depletion ofnon-renewable energy resources hasintensified global competition for seekingnew energy resources. We need to becautious that the impact of a commodityand food crisis would potentially be moredisastrous than the one of financial crisis.For that reason, the policies to cope withchallenges posed by climate changeremains a key to economic resilience.

Excerpts from remarks made by Agus D.W. Martowardojo, Minister of Finance of the Republic of Indonesia atthe consultative workshop in Jakarta on6 February 2012.


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context o continued robust growth. Tis is why strong prudential regulationhas worked ne thus ar in many Asian economies. Regulation works well whennations grow quickly. But once it slows, then bad credit allocation becomes moreapparent and burdensome, accompanied by huge pressure to ease regulation.Tis seems to be the case or Europe, Japan, and the US. One implication is thattougher regulation should be entrenched institutionally, making it harder to relaxwhen growth slows.

Raising demand or investment will require policymakers to improve Asiasbusiness and investment climate . ogether with improvements in in rastructureand human capital, regulatory re orm will be needed to address demand-side

actors that limit the uptake o investments due to prevailing uncertainties.Among others, this will involve improving the quality o governance (and legaland institutional rameworks), minimizing unnecessary regulatory barriers,encouraging private incentives and market discipline, and creating a level playing

eld across all sectors.

Policies to oster domestic demand should be tailored to country conditions.Te reasons or weak domestic demand will be diferent or each country in theregion. In the PRC, or instance, high savings would be key, while in others, suchas the bigger ASEAN countries, poor investment has been a major constraint.For developing Asia as a whole, however, recent empirical analysis by ADB haspointed to savings as the main contributor to most o developing Asias largepersistent current account surpluses. More importantly, one must avoid thetendency or excess savings to be channeled more toward nancial assets thanreal investmenta trend which may have contributed to declining employmentelasticity and widening income disparity.

Te composition o investment in current account surplus countries shouldshif rom exports to human capital ormation, appropriate industrial policy,and urbanization . Tere has been a gradual rebalancing in sources o growth

rom external to domestic demand, with consumption and investment emergingas important drivers o growth. Tus ar, these changes appear to have amelioratedthe negative impact o the downturn in advanced economies in Asias real sector.However, there are indications that growth in consumption and investment hasbeen driven primarily by scal stimulus in response to the Great Recession, ratherthan any structural changes that would shi the composition o aggregate demand

in a more permanent way. For example, in the case o the PRC, its new 5-year plansuggests a shi away rom investment-led growth toward more consumption.

Global trade has played a pivotal role in Asias economic growth, and thisshould continue . Asia accounts or one-third o the worlds exports and almost


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one-third o the worlds imports.Growing intraregional trade isalso becoming a key acet o Asiasgrowth story. Intraregional tradehas grown substantially since the1997/98 Asian nancial crisis,

acilitated by relative stability o intraregional exchange rates.Moreover, the private sector hasbuilt an extensive intraregionalsupply chain network that hasunderpinned growth in regionaltrade making use o individualcountry resource endowments.

While the growth o intraregionaltrade is dramatic, globalizationcontinues to be important orAsia, especially or exports o

nal goods. For the regions activeindustrial networks, intraregionaltrade remains heavily dependenton demand or nal goods romthe US and eurozone. Since theGreat Recession, Asias exportmarkets have diversi ed withincreasing intraregional trade inEast Asia and the PRCs growingtrade links with A rica and LatinAmerica. However, whether this trend is cyclical (due to the current weaknessin the EU and the US) or structural (sustained export market diversi cation)remains to be examined.

Remaining bottlenecks constraining greater intraregional and South-Southtrade should be removed. Although average tarif levels in the South have allendramatically over the past two decades, tarifs aced by exporters rom theseregions are, on average, higher than in the North. Non-tarif barriers are a growing

problem, with gains rom tarif reductions outweighed by existing and newly emerging non-tarif barriers. At the same time, many developing Asian economiescontinue to ace major hurdles in trade acilitation, though signi cantly varyingacross countries. Special nancing mechanisms or targeted liquidity support may be required to revive trade. Tere may also be the temptation, as there was in

While intraregional trade and invest-ments can bolster Asias growth inthe years to come, the region also hastremendous potential to diversify itsexports to other regions, including toAfrica. Africa right now has 850 mil-lion people in the sub-Saharan regionand 1 billion people overallincludingNorth Africa; with a huge deficit of basicinfrastructure, but a huge potential inminerals, agriculture, and hydrocarbondevelopment; and with a significantpotential for increasing in productiv-ity. Africa can become a main source ofglobal growth in the future. It is still avery poor continent but it is a continentin need of huge investments. Asia willhave real potential to lead a lot of thatinfrastructure investment and trainingand education investment as well. This isone heart of a diversificationa south-south diversification. It may also be theheart of Asias futurebecause Asia willbe a low cost provider of the worldof a lot of basic infrastructure thatAfrica needs.

Excerpts from remarks made by Jeffrey Sachs in the consultative workshops inNew Delhi and Jakarta.


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2008/09, to introduce temporary protectionist measures to sa eguard employmentin sensitive industriesand this needs to be resisted.

In the broader context o rebalancing, urther research is needed on thecomposition o Asian trade. Speci cally, rom a policy point o view, it will beuse ul to know i the bulk o changing trade ows rom or within the region is dueto a realignment o production networks and product ragmentation. In parallel,

urther work is needed to understand i the continuing increase in the number o ree trade agreements (F As) can support rebalancing by encouraging growth in

intraregional trade. In particular, since F As may not be boosting trade emanatingthrough production networks or product ragmentation, 1 an important policy question will be how to improve the structure o F As with the goal o promotingtrade in general. At the same time, it may be use ul to examine more closely thelinks between the growth o production networks with a multilateral systemwhere most avored nation pre erences are ofered more widely. Tis would helpminimize trade diversion and the need to implement rules o origin, as well asincrease the bene ts that ow rom non-discriminatory trade.

In addition to rebalancing toward domestic demand in some countries and ashif in trade direction, Asia also needs to rebalance in two other ways. First,middle income Asian economies must diversi y their production base up the value-added chain. A well-designed structural trans ormation processguidedby public policyis essential. Second, as large economies like the PRC move intohigher value-added manu acturing and expand growth in services, other countrieswill ll in the production gap as intermediate products are urther outsourced.

Also, as economic integration deepens, Asia must establish a more e ectiveramework or policy dialogue and cooperation to mitigate political tensionsrom spillovers and to nd wider scope or collective action. Tere are at least our

key areas where increased regional cooperation will be necessary: in rastructuredevelopment, exchange rates, trade credit, and nancial sa ety nets

Narrowing the in rastructure gap could be key to maintaining rapidregional growth despite weak economies in Europe, Japan, and the US;and the threat o a global economic and trade slowdown. ADBI estimatesAsia needs to invest approximately $8 trillion in overall nationalin rastructure between 2010 and 2020$750 billion a year over the11-year period. It translates into a signi cant boost in regional

1 This is because most if not all product fragmentation trade already travels duty-free or atvery low tariffs across the regioneither because of the ITA agreement that covers trade inelectronics parts and components, various duty-drawback schemes, or the fact that mostmultinationals operate out of export processing zones, where they operate duty-free.


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domestic demand in aperiod when externaldemand becomes a lessimportant source o growth than over thepast decade. Improvinginterconnectivity raisesproductivityespecially in remote and low-income regionsandhelps in bolstering inclu-sive growth. As we know

rom past crises, short-term priorities generally get more atten tion insituations o immediatecrisis management, withcritical medium-termissues either postponedor resources re-targetedto the most vulnerable.While such trade-ofsare inevitable, they impose high opportunity costs on development.Te decline inin rastructure spendinga er the 1997/98 Asian

nancial crisis is a goodexample. It took severaleconomies a decade to return to pre-crisis spending levels. As a result,in rastructure quality has worsened in the region. It is imperative not toallow an economic or nancial crisis to become a development crisis.

o avoid this, policymakers could manage their scal space e ciently.Speci cally, better scal risk management rameworks can be developedwhere large-scale investment can be shared efectively between publicand private sectors.

Greater regional cooperation on setting exchange rate policiescould provide a transparent way to acilitate rebalancing andguarding against a currency war. A major risk to sustained regionaleconomic integration during global econo mic volatility could come

rom competitive devaluation or a contagious exogenous shockas

The main lesson from the Global FinancialCrisis is that we need to keep unfetteredfocus on short-term challenges withoutlosing perspective on medium- to long-term issues. As markets and economiesbecome more integrated, crises areinevitable. In parallel, structural reformsare even more critical. Speaking forKazakhstan, we have dealt with short-term challenges from the 2008 globalcrisis effectively, and we need to standready in the future. As the recovery of theEurozone and US economies is likely tobe weak, it is critical for Kazakhstanandthis regionto reflect on the structuralweaknesses that have intensified thecrisis in the West. We need to diversifyour economy as well as ownership ofassets. Oil revenues will be directedat building both physical and socialinfrastructure, particularly human capital.Regional cooperation and connectivityare vital to convert the challengesof being landlocked to an ocean ofopportunities.

Excerpts prepared by ADB staff fromremarks made by Kairat Kelimbetov,Deputy Prime Minister of the Republic of Kazakhstan at the consultative workshopin Astana on 12 April 2012.


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during the Asian nancial crisis.Moreover, since global rebalancingimplies a generalized exchangerate appreciation across mosto developing Asia, individualeconomies may be reluctant tobe the rst to let their currency appreciateas this means losingcompetitiveness, especially inweakening global conditions.Greater regional cooperationon exchange rate policies canhelp. Tis would take intoaccount exogenous shocks to any particular economy (disasters,sharp deterioration in the termso trade, in ation, among others)and thus would encompass exiblerate adjustments to avoid unduereliance on internal price and costadjustments in those economies.Also, by doing this Asia could play an important role in preventingcompetitive devaluations in theglobal context should, or example,a depreciating euro drive the USand others to attempt to ollow suit.Given the diversity in economicand nancial development inAsiaand the general desire toretain monetary (and scal) policy sovereigntythe adoption o acommon exchange rate is clearly not viable. Te region does notsatis y many o the conditionsrequired o an optimal currency area. In light o this, regional

economies could instead agree on a gradual, cohesive adjustment o their currencies toward equilibrium levels. Regional exchange ratecooperation can start rom in ormal and institution-light arrange ments.One possible approach would be in ormal re erence or monitoringzones or regional exchange rates to reduce intraregional exchange rate

No country or region is immune fromthe risk of a future crisis. New criseswill always be a reality, and each canbe different. An important lesson is theneed to have a robust financial safety netwhich can be provided, among others,through regional financial arrangements(RFA). The global nature of many crisesand the interconnectedness of thefinancial system call for coordinatedpolicy responses which may be donethrough RFA and, if and where necessary,together with the IMF. The provision of asafety net by RFA together with regionalsurveillance can be complementary todomestic and global financial reform.While global arrangements may bein a better position to mobilize largeamounts of resources (hence serving as abackdrop to regional pools), RFA has theadvantage of having stronger ownershipand in-depth understanding of regionalissues. The working of RFA in Asia isstill far from what most analysts expect,and their effectiveness remains limited.From crisis after crisisthe eurozonebeing the latestwe have learned aclear lesson that the required amount ofliquidity support is large, and activationmechanisms need to be rapid in orderto be effective. Complacency shouldbe avoided at all cost, since the currentresilience of the Asian financial sectormay ironically stand in the way of havinga stronger RFA.

Excerpt from Iwan J. Azis, March 2012,Regional Financial Safety Nets and Financial Stability, ADB, Manila.


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variability over time. Current arrangements in East Asia, such as theCMIM and Economic Review and Policy Dialogue, could support thiskind o in ormal approach. I East Asian countries, or a subset, concludethat monetary and exchange rate cooperation ought to be strengthened,then they should begin taking more ambitious, but care ully cra ed,steps in that direction.

Te ability o countries to counter trade credit volatility is strength-ened by a strong reserve position and backup credit lines. Establishingand substantially expanding bilateral currency swap lines makes sense.Te PRC already has a policy to expand country coverage and swap

lines to settle trade transactions in renminbi. Te PRCs intention to ex-tend credit lines and allow trade settlement through banks in ASEANcould provide an important reserve enhancement to oster trade andexchange rate stability.

Tere is a major chal lenge in strengthening regional nancial sa ety nets to improve crisis pre vention and mitigation . Financial sa ety netsgenerally come rom surveillance and nance mechanisms. Trough vigilant surveillance, a countrys vulnerability to crisis and the impacto policy adjustments on regional and global stability can be betterassessed. In addition, nancing can be extended to address liquidity problems particularly or crisis prevention or resolution. Tis way,

nancial sa ety nets help countries cope with nancial volatility by reducing both economic disruption rom sudden swings in capital owsand the perceived need or excessive reserve accumulation. Althoughregional nancial sa ety nets such as the CMIM exist, their use ulnessremains largely untested. I anything, more ambitious programs needto be explored. During the 2008/2009 global nancial crisis, the CMIMwas not used. Instead, the Republic o Korea conducted swaps with thePRC, Japan, and the US, while Indonesia did swaps with the PRC andJapan. Tere are two explanations or this. First, the reserve poolingarrangement was small and not multilaterlized until March 2009 (itwas a collection o bilateral swap arrangements be orehand)evenits current size is less than 3% o the $4.2 trillion ASEAN+3 reserves.Te second and more likely explanation is the stigma attached to IMFconditionality: prior to multilateralization, the CMIthen lacking adedicated surveillance secretariatrequired that nancing beyond 20%o the bilateral swap acility be available only to a country under an IMF-supported program. Now that the ASEAN+3 Macroeconomic ResearchO ce (AMRO) has been established, this link is being reviewed. WithAMRO in place, the 20% limit could be increased or perhaps removedaltogether; otherwise the role o AMRO will be diminished. o establish


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an efective regional nancial sa ety net or Asia, two things are needed:adequate size/scope and credibility. As ar as the CMIM is concerned,there is clearly a need to boost its current size by encouraging membercountries to shi more unds toward the CMIM and away rom sel -insurance ( oreign reserves). In this regard, discussions are ongoing ona possible doubling in size o the und to $240 billion, and a change inthe amount linked to an IMF program. Tere is also a need to considerwhether the CMIM should include other nancing mechanisms toimprove the timeliness o emergency nancing (as noted in Section 3.1).Most critical is the need to boost CMIMs credibility, which must rely more on its own assessments when making lending decisions, and aboutboth the amount and any conditionality. I the CMIM is to evolve into awider regional sa ety net, then membership may need to be opened upand expanded. Increased membership can add to und size, but againthe key challenge is establishing credibility to lead any rescue package.Greater human than nancial resources will be required or such anarrangement to work.


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29

Section 4

Conclusion

Tere is much odder or debate here.

Tis year could prove critical or the world economy. Te nancial tensionsin Europe could still degenerate into a disorderly sovereign de ault and ull-blown economic crisis. Contagion remains a real risk. While the United Statesrecovery keeps nudging orward, politics or a eurozone recession could reverseits momentum.

And that could all spread to Asia.Te immediate challenge or theregions policymakers is to prepare

options or responding to a suddeneconomic disruption, unnelinginto Asia through nancial andtrade transmission channels. Teregion should have the policy tools available.

But even more challenging isto deal with these immediate

issues with a strategic eye onavoiding a disruption in theregions continuing economictrans ormation. Te debate mustinclude some discussion on how toadjust the development paradigmto better accommodate globaleconomic change while ensuringsustained growth is possible

growth that is more inclusive andresponsible, ultimately boostingthe wel are o the majority o Asias population.

Given the complex range of issues, it isnot easy to summarize or be conclusive.The work on this monograph and theconsultative workshops indicate wheremuch more work is needed:

1. Are the transmission channels ofvarious policies fully understood? Cantrickle down be taken for granted?

2. How can domestic, regional andglobal policy coordination be fostered,and what is Asias role?

3. How should rebalancing be done toensure Asia sustains its contributionto global growth?

4. How should Asia approach the growthversus inequality versus sustainabilitydilemma?

5. With the center of economic gravityshifting to Asia, is there need for anew development paradigm? Whatare the areas where Asia can lead?


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30

Appendix

Te monograph was produced by an ADB team led by Iwan J. Azis (head,O ce o Regional Economic Integration [OREI]). Members include NoritakaAkamatsu (deputy head, OREI), Ramesh Subramaniam (senior director,OREI), Jayant Menon (lead economist, OREI), Sabyasachi Mitra (principal

economist, OREI), Tiam Hee Ng (economist, OREI), and Lei Lei Song(principal economist, OREI). Te study also benefted rom the guidanceo Masahiro Kawai (dean, ADB Institute) and Changyong Rhee (chie economist, ADB). James Villa uerte and the ARIC team provided valuableresearch assistance. Guy Sacerdoti provided very able editorial assistance.

Country consultations were organized with the assistance o Mitzirose Legal,Carol Ongchangco, Wilhelmina Paz, Jenni er antamco, and Charisse ubianosa(staf); and Layden Iaksetich and Teresa Robles (consultants). Te list below

acknowledges the contribution o the speakers and participants in the country consultations held in Delhi (1 February 2012), Jakarta (6 February 2012), Beijing(1 March 2012), and Astana (12 April 2012).

Preparatory Workshops for the2012 ADB Annual Meeting Governors Seminar

List of Participants

Delhi (1 February 2012)

1. Shankar Acharya Honorary Pro essor, Indian Council orResearch on International EconomicRelations

2. Puneet Agarwal Deputy Secretary (ADB II), Department o Economic Afairs, Ministry o Finance, India

3. Prema Chandra Athukorala Pro essor, Australian National University 4. Kaushik Basu Chie Economic Adviser, Government

o India


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32 Appendix

10. Anny Ratnawati Vice Minister I, Ministry o Finance,Indonesia

11. Jefrey Sachs Director, Earth Institute; Pro essor, ColumbiaUniversity (via videocon erence)

12. Mahendra Siregar Vice Minister II, Ministry o Finance,Indonesia

13. Wing Tye Woo Pro essor, University o Cali ornia, Davis

Beijing (1 March 2012)

1. Isher Judge Ahluwalia Chairperson, Indian Council or Research onInternational Economic Relations

2. Narongchai Akrasanee Former Minister o Commerce, Tailand;Chairman o the Board o Directors, SeraneeGroup

3. Peter Boone Associate, Centre or Economic Per ormance,London School o Economics and PoliticalScience

4. Ding Yi an Director, Institute o World Development,Development Research Center o the StateCouncil

5. Gao Haihong Senior Fellow, Institute o World Economicsand Politics, China Academy o SocialSciences

6. Liu Er ei Country Executive, Managing Director o Bank o America, Merrill Lynch

7. Liu Peng Deputy Director, International Department,China Banking Regulators Commission

8. Lu Feng Deputy Dean, National School o Development, Peking University

9. Jefrey Sachs Director, Earth Institute; Pro essor, ColumbiaUniversity (via videocon erence)

10. Shi Zihai Deputy Director General, Policy ResearchDepartment, National Development andRe orm Commission

11. ang Min Executive Vice Chairman o Board o Directors, China Social EntrepreneursFoundation


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Appendix 33

12. Wang Yida Deputy Director General, ComprehensiveDepartment, Ministry o Finance

13. Yang Weiqun Director, Asian Department, Ministry o Commerce

14. Zheng Xiaosong Director General, International Department,Ministry o Finance

Astana (12 April 2012)

1. Shigeyuki Abe Faculty o Policy Studies, Doshisha University

2. Peter Boone Associate, Centre or Economic Per ormance,London School o Economics and PoliticalScience

3. Ralph Christy Pro essor, Cornell University 4. Oraz Jandosov Director, RAKURS Center or Economic

Analysis5. Kairat Kelimbetov Deputy Prime Minister, Kazakhstan6. Sabit Khakimzhanov Head o Research, Halyk Finance

7. Meruert Makhmutova Director, Public Policy Research Center8. Kairat Mynbayev Pro essor, Kazakh-British Technical

University 9. Jefrey Sachs Director, Earth Institute; Pro essor, Columbia

University (via videocon erence)10. Bakytzhan Sagintayev Minister, Economic Development and Trade,

Kazakhstan11. Madi Umbetaliev Vice President, Economic Research Institute


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How Can Asia Respond to Global Economic Crisis and Transformation?

This monograph aims to stimulate debate on the measures available topolicymakers to dampen the effects of any abrupt economic shocks shouldrecovery in the United States fail to gain traction or if the sovereign debtproblems plaguing Europe were to escalate into a full-blown crisis. Inaddressing current issues, it is imperative to also focus on pursuing thelong-term goal of sustaining Asias growth momentum and consolidatingits economic and social transformation. How Asia responds to the currentcrisis and ongoing global structural transformation is critical, including howit pursues inclusive and sustainable growth in a manner that uplifts thewelfare of the majority of its people.

About the Asian Development Bank

ADBs vision is an Asia and Pacific region free of poverty. Its mission isto help its developing member countries reduce poverty and improvethe quality of life of their people. Despite the regions many successes, itremains home to two-thirds of the worlds poor: 1.8 billion people who liveon less than $2 a day, with 903 million struggling on less than $1.25 a day.ADB is committed to reducing poverty through inclusive economic growth,environmentally sustainable growth, and regional integration.

Based in Manila, ADB is owned by 67 members, including 48 from theregion. Its main instruments for helping its developing member countriesare policy dialogue, loans, equity investments, guarantees, grants, andtechnical assistance.

Asian Development Bank

6 ADB Avenue, Mandaluyong City1550 Metro Manila, Philippineswww.adb.org

Documents

How Can Asia Respond to Global Economic Crisis and Transformation (ADB, 2012)