The Asian financial crisis teaches the need for bold reform, but is China listening?
William Pesek says regional economies that appear to have recovered from the crash are struggling with structural problems and stagnating incomes, as policymakers baulk at needed reforms. Beijing, now facing similar risks, should take note
My favourite Asian crisis story involves Robert Rubin, an elevator and a pile of cash.
It was September 1997, and I’d just exchanged US dollars in our Jakarta hotel lobby. I was taken aback, and vaguely embarrassed, by the huge stack of rupiah I received – all with colourful money wrappers. In the elevator, I ran into then US Treasury secretary Rubin and one of his top lieutenants, Timothy Geithner. I was among a handful of Washington journalists accompanying them around Asia. Rubin looked at my loot and deadpanned: “I see you found time for a drug deal.”
That was 2½ months after Bangkok’s July 2, 1997 devaluation set Asia’s reckoning in motion. The good news, 20 years on, is that the Thai, Indonesian and South Korean currencies recovered and reserves were restocked. Banking systems were strengthened and economies made more transparent. Capital accounts were loosened and market regulation tightened. Wages bounced back, too. The bad news: income gains have largely stalled in recent years. Is the real legacy of that regional crisis a regional middle-income trap?
That’s when per capita income tops out at, or below, the US$10,000 mark, as it has for Thailand (about US$6,000), Indonesia (US$4,000) and even economies that technically avoided the worst of the crisis – including Malaysia and, perhaps, the Philippines. And while South Korea is the top of the income class – and a proud escapee of the middle-income category – it’s since been ensnared in a higher-income net.
What went wrong? In the immediate years after 1997, technocrats in Thailand, Indonesia and Korea implemented the International Monetary Fund’s reform playbook to modernise financial systems. Strong US demand did the rest, enabling Bangkok, Jakarta and Seoul to export their way back to 5 per-cent-plus growth. But the return of rapid gross domestic product growth deadened the urgency to do the real heavy lifting; weaning economies off exports; building credible institutions; increasing productivity and innovation; diversifying trade links; eradicating corruption; devising better energy strategies; and separating the public and private sectors.
Blame the “Cult of GDP”, something to which Asian leaders have long been susceptible. When heady growth returns, policymakers declare victory, pop the champagne corks and shelve painful upgrades. In the two decades since 1997, Asia’s crisis victims revelled in buoyant equity markets, claimed economies had decoupled from the West and toasted the tidal wave of bankers abandoning New York and London and relocating to Hong Kong and Singapore. And besides, China’s boom would keep the good times going. The cost of leaders believing their own press was slower wage gains. Asia is learning the hard way that “boosterism” is no replacement for economic retooling.
Thailand has experienced two coups as a succession of leaders failed to spread the benefits of growth and get the state out of the financial system (it has been in the hands of a military junta since May 2014). Indonesian incomes are stagnating as reform fatigue and parochial squabbles – over everything from access to natural resources to openness to foreign trade and religion – distract Jakarta. Progress stalled in Malaysia as scandal-plagued Prime Minister Najib Razak clings to affirmative-action policies benefiting ethnic Malays at the expense of competitiveness. In the Philippines, too, Rodrigo Duterte is putting a bloody war against drug pushers and users ahead of raising Manila’s economic game.
Korea beat the middle-income trap, but it’s now ensnared in a higher-income funk. Seoul’s failure to reduce the role of the family-owned conglomerates towering over all corners of the economy and catalyse a start-up boom has average incomes stuck near US$27,000.
Similar criticism could be hurled at Hong Kong, as it commemorates the 20th anniversary of its return to China. While per capita income is 11 times Indonesia’s, Hong Kong hasn’t expanded its growth engines beyond finance and overpriced property. The cost: exploding inequality that’s delegitimising the city’s Beijing-picked leadership and feeding combustible social tensions.
Bold structural changes are always easier when crashing currencies leave leaders no choice. Unless Asian governments relocate some of that 1997 urgency, they will rely more on debt to fuel growth than entrepreneurship and higher productivity. Little good would come of that. That’s Thailand’s big challenge as Prime Minister Prayuth Chan-ocha tries to find his reformist mojo. It’s Joko Widodo’s problem in Jakarta as he struggles to take on vested interests working to regain power over the government. It’s also President Moon Jae-in’s task in Seoul as he deals with a fresh bubble in household debt and rampant corruption.
And what of China? Few questions matter more than whether mainland incomes can reach US$10,000, and beyond. Never before has global stability been so dependent on such an opaque, unbalanced and developing economy. China “definitely has the potential to further catch up with the high-income countries and avoid [getting trapped]”, write Asian Development Bank economists Linda Glawe and Helmut Wagner. “However, the future performance of China’s economy depends on further reforms.” Those changes include altering a debt structure not unlike that of Thailand and other Asian governments, circa 1997.
For most, Asia’s collapse was just as unexpected as Wall Street’s 11 years later. China’s growth engines, it’s worth noting, are tantalisingly familiar: explosions in debt, credit and unproductive investments; chronic overcapacity; quantity of growth trumping quality; a sprawling shadow-banking machine; surging non-performing-loan ratios; policymakers drawing down currency reserves; regulators prodding domestic companies to go public before their time; and complacency among markets about how fast things could go awry. Beijing is treating the symptoms of its excess, not the root causes, in ways that are feeding ever-bigger bubbles. What’s more, US President Donald Trump’s threatened trade war is an ever-present threat to Asia.
Beijing, in other words, must do better than the class of 1997 in learning from past mistakes and preparing for future prosperity. Economic reform, remember, has something in common with the elevator in which I bumped into Rubin 20 years ago: it has the power to lift populations to new heights or leave them on the ground floor. Asia must work harder to ensure incomes regain an upward trajectory.
William Pesek is a Tokyo-based journalist and the author of Japanization: What the World Can Learn from Japan’s Lost Decades. Twitter: @williampesek