An Asian com­mu­nity can wait

Financial Mirror (Cyprus) - - FRONT PAGE -

In the world of in­ter­na­tional fi­nance, con­flict­ing mon­e­tary and ex­change-rate poli­cies com­pete for ad­van­tage and coun­tries battle for in­flu­ence over the rules of the game. Af­ter all, just as in­vestors com­pete to max­imise their prof­its, coun­tries com­pete to en­sure that in­ter­na­tional rules and norms are agree­able to them. That is why agree­ing to an in­ter­na­tional eco­nomic regime – say, es­tab­lish­ing a fixed ex­change rate, or adopt­ing a com­mon cur­rency – is a deeply po­lit­i­cal de­ci­sion. And to­day’s Asia faces many such de­ci­sions.

Eco­nomic in­te­gra­tion is a hot topic in the re­gion. From the ne­go­ti­a­tion of the mega-re­gional Trans-Pa­cific Part­ner­ship to the estab­lish­ment of China-led in­vest­ment plat­forms – in­clud­ing the Silk Road Fund and, most re­cently, the Asian In­fra­struc­ture In­vest­ment Bank (AIIB) – Asia is be­com­ing more in­ter­con­nected than ever.

As a re­sult, some ob­servers may find the no­tion of in­creased mon­e­tary in­te­gra­tion – even the estab­lish­ment of a fixed ex­change-rate regime based on, say, the Chi­nese ren­minbi or the Ja­panese yen – highly ap­peal­ing. But I would ar­gue that the flex­i­ble ex­change rates that pre­vail to­day re­main Asia’s best bet for boost­ing pros­per­ity and pro­tect­ing it from shocks.

To un­der­stand the ad­van­tage of main­tain­ing a flex­i­ble ex­change rate, one needs look no fur­ther than the re­cent growth tra­jec­to­ries of the ad­vanced economies. Af­ter the 2008 eco­nomic cri­sis, the United States and the United King­dom were able to em­ploy un­con­ven­tional mon­e­tary poli­cies to es­cape re­ces­sion. Ja­pan adopted sim­i­lar poli­cies in late 2012 to es­cape two decades of stag­na­tion.

Mem­bers of the eu­ro­zone, how­ever, lacked such an op­tion. Euro­pean Cen­tral Bank Pres­i­dent Mario Draghi was even­tu­ally able to pur­sue poli­cies aimed at de­valu­ing the com­mon cur­rency, but not be­fore years of painful aus­ter­ity, deep re­ces­sion, so­cial strife, and po­lit­i­cal in­sta­bil­ity in many eu­ro­zone mem­ber coun­tries.

Against this back­ground, it seems anachro­nis­tic to con­sider the pos­si­bil­ity of es­tab­lish­ing any­thing like a uni­fied cur­rency in Asia, where in­sti­tu­tional dis­par­i­ties are far deeper, and the va­ri­ety of eco­nomic shocks far greater, than in Europe. To hope for a uni­fied cur­rency in Asia seems al­most like hop­ing for the re­gion’s own Greek cri­sis.

This has im­por­tant im­pli­ca­tions for new mul­ti­lat­eral in­sti­tu­tions like the AIIB. Other de­vel­op­ing coun­tries have joined be­cause they be­lieve that the ex­ist­ing in­ter­na­tional mon­e­tary or­der, un­der­pinned by the In­ter­na­tional Mon­e­tary Fund and the World Bank, is ex­ces­sively ori­ented to­ward the ad­vanced economies. Even the Asian Devel­op­ment Bank, in which Ja­pan en­joys con­sid­er­able in­flu­ence, is said not to heed de­vel­op­ing-coun­try voices ad­e­quately at times. More­over, Asian coun­tries recog­nise that their con­tin­ued devel­op­ment re­quires more ad­vanced and re­li­able in­fra­struc­ture, which can­not be built with­out new fi­nanc­ing plat­forms.

The AIIB seems to of­fer an ideal so­lu­tion. And, in­deed, it does not ap­peal only to de­vel­op­ing Asian coun­tries. France, Ger­many, Italy and the UK have joined more than 30 other coun­tries as found­ing mem­bers. The US and Ja­pan, how­ever, still have their doubts. Should they join?

To an­swer this ques­tion, US and Ja­panese pol­i­cy­mak­ers should rely on the “cal­cu­lus of par­tic­i­pa­tion,” which dic­tates that the first step in choos­ing whether to join an in­ter­na­tional ini­tia­tive or regime is to con­sider the last step in the process: the out­come. In short, a coun­try’s lead­ers should ask whether, ul­ti­mately, their coun­try would be bet­ter or worse off.

This “back­ward in­duc­tion” ap­proach may seem ob­vi­ous, but the AIIB’s mem­bers seem to have ig­nored it. In­deed, be­yond the fact that China will be in charge, al­most noth­ing is known about the bank or its fi­nanc­ing rules. Given this, it seems log­i­cal for coun­tries like Ja­pan to wait and see be­fore de­cid­ing whether to join the AIIB.

Of course, there is a counter-ar­gu­ment. Just as talks be­tween the US and Iran, while far from per­fect, have helped build mu­tual un­der­stand­ing and de­terred Iran’s quest for nu­clear weapons, closer in­te­gra­tion among Ja­pan and its Asian neigh­bours could help to align their ac­tions and in­ter­ests.

The mer­its of this “com­mu­nity” ap­proach – which re­flects a more Eastern per­spec­tive than the back­ward-in­duc­tion ap­proach – can­not be over­es­ti­mated, es­pe­cially in a highly fraught sit­u­a­tion like that with Iran, where the con­se­quences of stub­born si­lence could be cat­a­strophic. But the po­ten­tial cost to Ja­pan of de­lay­ing par­tic­i­pa­tion in the AIIB seems to be quite limited.

There is an­other strong rea­son why Ja­pan should wait: macroe­co­nomic sta­bil­ity. As it stands, the mis­al­lo­ca­tion of cap­i­tal and poor in­vest­ment de­ci­sions in China raise se­ri­ous risks, which in­creas­ingly seem to be on par with those in the US that trig­gered the 2008 fi­nan­cial cri­sis. If the AIIB be­gins with noth­ing more than vague cri­te­ria for mon­i­tor­ing in­ter­na­tional in­vest­ment and an im­plicit Chi­nese veto, th­ese do­mes­tic risks may spread to China’s neigh­bours, rais­ing the dan­ger of an­other large-scale in­ter­na­tional cri­sis.

Euro­pean coun­tries may join the AIIB to deepen their busi­ness and po­lit­i­cal ties with China, but their fi­nan­cial stakes in the out­come are limited. The same can­not be said for Ja­pan. Given this, Ja­pan should not join the AIIB un­til the cri­te­ria for mon­i­tor­ing its in­vest­ments are clear. For now, Ja­pan’s best bet is to make no bet at all.

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