The weekend's decision by 13 East Asian governments to create a common US$120 billion pool of foreign exchange reserves is more significant than it seems at first. On the surface, the agreement appears to buttress Asia's defences against a speculative assault on the region's currencies. But in truth, with the majority of Asian currencies now allowed to float with some degree of flexibility, the region's foreign exchange markets are in little danger of attack. As a result, the weekend's pact is important not because it deters speculators, but because in a famously prickly region where governments tolerate no neighbourly criticism, the agreement establishes the principle of multilateral oversight over national economic policy. The new deal, which should be confirmed in May at a regional finance ministers' meeting in Bali, has been a long time in gestation. It is ultimately descended from a 1977 agreement between the five core members of the Association of Southeast Asian Nations (Asean) to set up a network of bilateral swap arrangements which allowed a country facing liquidity difficulties to borrow from its neighbours' foreign reserves. During the 1997 currency crisis, Japan suggested taking regional financial co-operation to a whole new level by proposing an Asian Monetary Fund which would lend to regional countries facing balance of payments problems. That idea came to nothing, shot down by United States fears over moral hazard and Chinese scepticism towards a Japanese-led initiative. However, the urge to create a regional financial defence mechanism as an alternative to the US and European dominated International Monetary Fund survived, and in 2000 East Asian countries agreed the US$40 billion Chiang Mai Initiative which extended the original Asean network of bilateral swaps to include the three regional economic heavyweights, China, Japan and South Korea. But although the agreement's firepower was greatly increased, it remained a network of bilateral arrangements. To strengthen the accord's effectiveness, in 2004 members proposed pooling their resources into a single multilateral facility. But that suggestion raised problems. A multilateral facility would mean member governments would have to create a central secretariat to monitor participating countries' economies. What's more, they would have to agree common rules for determining when countries could draw on the fund and what conditions should be attached to loans. In short, they would be creating an Asian Monetary Fund with the sort of supranational authority over sovereign states' economic policies that made the IMF so unpopular in the first place. Negotiations all but stalled for five years. Now, however the economic crisis has given them new impetus. Although there is little danger of speculative currency attacks, and while few regional countries face the possibility of a full-blown balance of payments crisis, heavy capital outflows from Korea over recent months and the resulting steep fall in the value of the won (see the charts below) show that regional economies are not immune to short-term liquidity problems. When finalised, the expanded Chiang Mai Initiative should help prevent similar troubles elsewhere infecting the region. That will take time. There remains a lot of work to do in setting up a regional monitoring mechanism, agreeing the conditions attached to any loans from the new facility, and ensuring safeguards against moral hazard. But the real value of the weekend's agreement lies not so much in its ability to protect the Asia currencies from crisis, but in the precedent it will set by establishing multilateral oversight over regional economies. That oversight will be a long way from a European-style growth and stability pact with limits on debt and spending levels. But even so it should exert powerful moral suasion on regional governments, strongly encouraging them to follow prudent monetary and fiscal policies. In the long run, that will be a far better defence against financial turmoil than any swap agreement.