IMF's traditional medicine may finish off Asian Tiger

As Southeast Asia's currencies and stock markets crumble to record lows day after day, questions are being about whether the International Monetary Fund has applied the right prescription for the region, or whether, as one international economist put it, "The IMF applied the correct strategy but it hasn't worked".

That it hasn't worked is an understatement. The economic crisis has steadily worsened throughout Asia since the IMF rode to the rescue in Thailand, Indonesia and South Korea. Stock markets and currencies, particularly in these three countries, have gone on the skids, and they have pulled down strong economies such as those of Singapore and Hong Kong.

This has been the blackest week of all, with stocks and currencies plummeting to record lows almost every day. Since July 1st last year the Indonesian rupiah has fallen 74 per cent against the US dollar, the Thai baht 53 per cent and the Korean won 51 per cent.

It is clear now that this crisis is not going to end anytime soon, and that it will have an impact on the international monetary system and on preparations for the move to a single European currency next year.

With the greenback a haven for Asia's fleeing foreign and domestic money, the dollar is getting stronger by the day, pulling sterling up with it and dictating the fate of currencies such as the pound as they seek to find the correct rate for entry into the euro.

Travelling in Asia in recent weeks it is all too evident how much people are hurting. Airlines are losing money, hotels are half-empty, shopping malls are deserted. Unemployment is rising and will get much worse, particularly in South Korea. Migrant workers are returning home from countries like Malaysia as big infrastructure projects are aban doned.

Everybody, from shopkeepers to teachers, is buying dollars and stashing them away.

The focus of the crisis changes as domestic mishaps provoke new selloffs. One day it is Hong Kong, the next Thailand, then South Korea, then Malaysia. Yesterday it was Indonesia, where the rupiah and the stock market collapsed.

The meltdown in Indonesia followed reports that the IMF was dissatisfied with this week's budget because it did not include tough reform measures.

This cast doubt over the next payment of IMF money in the $40 billion rescue package. The crisis is so severe that there are real fears of civil unrest.

Unless the situation in Indonesia is rectified, and massive corporate defaults avoided, there will be immense fallout for the Japanese and western banking systems. Many European banks have huge outlays which will become "non-performing" and they may have to cut back on lending at home.

In Thailand, where the government has done everything asked of it by the IMF, the currency has also spiralled downwards week after week. The IMF prescription for Thailand was to raise interest rates, stabilise the currency and restructure the economy in exchange for a $17 billion rescue package. But its assumptions were just wrong, said Thailand's Deputy Prime Minister, Mr Suphachai Phanitchaphak. Skyhigh interest rates have not brought buyers of the currency back. "If we continue to implement these measures, the economy will face a severe recession and it will take longer to recover," he said.

In South Korea, the world's 11thlargest economy, which bit the IMF bullet hard, the situation is so desperate that ordinary people are queueing up to give the government their gold rings.

Critics of the IMF say it has exacerbated the problem by throttling growth and pushing companies into bankruptcy in the name of restructuring, so that money flows out more quickly than ever in a vicious cycle. The alternative was not given a chance, said one economist. The IMF could have pumped money into the system, causing inflation but allowing companies to earn enough to pay their debts.

The IMF approach was more appropriate for Latin American-style problems, with their high public sector debt, over-valued exchange rates and inward-looking trade regimes, said SGC in its latest Quarterly Economic Review. Applying it to corporate Asia is causing deep recession and could bring about a collapse in these economies, which in the worstcase situation could lead to debt moratoriums and a "lost decade" similar to Latin America in the 1980s.

"The Fund turned a dangerous situation into a calamitous situation by very publicly and ostentatiously closing banks, raising interest rates, tightening credit and signalling to anyone who didn't see it before that these economies would go into freefall," Mr Jeffrey Sachs of Harvard University told the Washington Post.

Apocalypse theorists are getting a ready hearing. The IMF and commercial bank package for South Korea marks only a pause in the coming global collapse, suggested Mr David Roche, chief strategist for Independent Strategy in yesterday's South China Morning Post. It will make things worse in the long term by keeping alive bankrupt banks and conglomerates which should die because of their bad debts.

The IMF's defenders argue that many of the necessary harsh measures are in fact being implemented. In Korea there were 1,226 business bankruptcies during December, compared to 568 the previous month. They fault weak politicians in hock to crony capitalism. "We would like to see the senior leadership in Indonesia stand up and be counted on reforms," said an IMF official amid reports that the IMF had written a "strongly worded" letter to Jakarta.

There were few critics of the IMF action before the situation deteriorated and most economists remain convinced that its harsh prescription for reform and transparency is the only way to cure virus-ridden Asian economies.

"IMF-backed solutions present the best strategies to address the key problems and are designed to encourage `good housekeeping' and should provide a superior `enabling environment' for future investment and economic development," said Mr Bernard O'Sullivan of GHK Management Consultants in Hong Kong.

"Alternative strategies such as introducing more liquidity in the market without structural reform would only prove a poor short-term solution."

There was a parallel of sorts in Ireland, he said. Ireland enjoyed a boom in the 1960s through massive intakes of foreign capital. "Hooked on Keynesian policies of fiscal management and ignoring the impact of the first oil crisis in 1973, the Irish government continued to borrow extensively to fund expenditure in a period of rising unemployment and inflation.

"By 1980 foreign borrowing amounted to 21 per cent of Ireland's GNP. By 1987 there was no other choice but to introduce the Programme for National Recovery and a severe austerity budget. This laid the foundations for the subsequent economic performance that Ireland is now enjoying."

ONLY one currency, that of Hong Kong, has remained untouched in the Asian nightmare, because of its peg to the dollar. This make the territory prohibitively expensive. A pair of shoes in Hong Kong costs several times more than in Jakarta or Bangkok.

The dollar peg is now under threat as the prospect looms of higher interest rates, a property crash, bankruptcies and unemployment. If it goes, confidence in the whole region could take another dip. "It will probably part from the US dollar in the coming months," said Ms Maeve Gallagher, head of corporate communications at UBS in Hong Kong, with the Hong Kong dollar slipping from about 7 to 11 against the US dollar.

Perhaps only concerted global action by the Group of Seven (G7) nations and leading international financial institutions will restore confidence.

One measure suggested is a resurrection of the 1985 Plaza Accord, whereby the world's leading central banks banded together to stop the dollar from overheating. Another could be the introduction of Brady bonds, similar to those used to rescue South America, which would secure debts while economic reforms got under way. One way or another, this is more than Asia's problem and needs urgent global attention.