Political Realignment In Southeast Asia

Posted April 3, 2009 

Southeast Asia was at the epicenter of the last major Asian economic crisis in 1997-98, which originated in Thailand and spread quickly to its neighbors. In Indonesia it resulted in the collapse of the seemingly impregnable Suharto regime, followed by a rapid and largely successful transition to democracy. Indirectly, the crisis resulted in the rise to power of Thaksin Shinawatra, and with it an entirely new era in Thai politics. Malaysia too was shaken by these events following the infamous Anwar Ibrahim affair. The crisis also led to apparently permanently lower growth trajectories in three of the region’s larger economies—Indonesia, Malaysia and Thailand. A decade earlier, a similar set of events—a crisis overturning a deeply entrenched authoritarian regime—occurred in the Philippines.

What’s in store this time round? Will the global financial crisis permanently alter the region’s political economy and development dynamics? Does it signal the end of the so-called East Asian model, or at least a substantial modification of it? And what about the Association of Southeast Asian Nations, or Asean?

Three general points need to be emphasized at the outset. First, Southeast Asia’s diversity defies generalizations. The 10 countries differ greatly in their political constructs, economic structures, levels of development and institutions. What may hold for Singapore is unlikely to apply to Burma or Vietnam. Second, the origins of this crisis are completely different from those of 1997-98. The current crisis developed in the asset markets and financial sectors of the advanced economies, principally the United States and the United Kingdom, against a backdrop of huge global imbalances. The Asian financial crisis originated in Southeast Asia, and was explained by a range of local and international factors. Third, the literature on the analytical history of crises and their ramifications is divided. One influential school sees them as an opportunity, in the Olsonian sense of pushing aside tired old regimes that have gone past their use-by date, or to prod timid, sclerotic governments into bolder reforms. An alternative school highlights the fact that crises can disable governments and render them largely impotent, especially if deep economic contractions are accompanied by political turbulence and uncertainty.

We are only just beginning to piece together an accurate story of the impact of the global financial crisis thus far, owing to the absence of reliable, quick-release data for many countries, and to the uncertainty as to whether more financial time bombs will emerge in the U.S. and Europe. Also, some recently released data are difficult to interpret. For example, exports fell alarmingly in January 2009 (by about 35% on average in the region, year on year). But this probably—hopefully—reflects a run-down in inventories around the world, rather than portending a trend indicator for the whole of 2009.

The story is changing fast, and there are two conflicting forces at work in Southeast Asia. The negative factors are the region’s openness to trade, and hence its vulnerability to a sharp decline in global trade volumes, combined with the effect on the region’s generally underdeveloped financial markets of the “flight to safety” as capital flows to jurisdictions perceived to be better protected (a variant of Gordon Brown’s worrying “financial protectionism hypothesis”). The positive factor is that, as a result of the searing experience of 1997-98, governments and investors in Southeast Asia have generally been prudent over the past decade. Countries have run current-account surpluses; fiscal deficits have generally been modest and adequately funded; banks have been conservative; exchange rates are more flexible; and corporations have by and large shunned high-leverage practices. Hence the direct ripple effects of the U.S. subprime crisis, through financial contagion to the region, have been quite limited. A few banks have run into difficulty, such as Bank Century in Indonesia, and others are precarious. But six months into the crisis, there has not yet been a financial collapse on the scale of the U.S. or the U.K.

In the next few months, even though the crisis will inflict some economic distress and social hardship, its effects on the region are likely to be contained. It is not easy to envisage major “transformative” effects. The domestic political dynamics that are in train in several countries are likely to dominate the local landscapes. Indonesia has its parliamentary and presidential elections from April to September (or July if President Susilo Bambang Yudhoyono secures a majority in the first-round presidential elections). In Malaysia, the key issue is whether the transition from Abdullah Badawi to Najib Razak proceeds smoothly, and whether Mr. Anwar’s attractive but shaky coalition can overwhelm United Malays National Organization’s 51-year grip on power. Thailand is governed by a weak, unwieldy coalition with a slim parliamentary majority. It is also locked in a political stalemate between the “red” and “yellow” shirts and, if another general election were held, it is thought likely that it would again affirm majority support for a Thaksin proxy. In the Philippines, a general and presidential election is just over a year away, and the political discourse is now dominated by this event, together with the country’s seemingly unrivalled propensity to flagellate over political scandals large and small. The authoritarian states of Indochina are likely to be immune from political pressures arising out of the slowdown, even the nominally democratic Cambodian regime. Moreover, their economies are still heavily agrarian, and therefore less affected by global currents, and all three have delivered reasonably rapid economic development for more than a decade.

So much for the short term. Unless the crisis is short-lived—and that appears to be increasingly unlikely—what of the challenges for the region medium term and beyond? At least four effects are likely to be evident.

Greater Expectations

First, more will be expected of governments in hard times. There will need to be better governance, a greater focus on targeted social-support programs and a perception that development delivers broad-based progress. In particular, that means worrying about the disaffected groups and regions outside capital city elites. This issue manifests itself in various forms throughout the region. For example, in Thailand, Mr. Thaksin’s genius was to exploit the grievances of the country’s vote-rich northeast and north regions. In Malaysia, the poorer members of the Indian community feel left out, particularly those whose earnings have been depressed by the 20% or so of the workforce who are recent, mainly low-skill immigrants. There are also complaints from members of the “nonconnected” bumiputera community, who have benefited little from the 38-year affirmative action program. In the Philippines, it is those in the by-passed regions, especially in the apparently endless conflict zones of Mindanao. Rising dropout rates and low standards in the country’s public elementary school system are also a major concern. In Cambodia, one has to worry about the dispossessed in the country’s apparently growing “land grab” problem, in addition to rapidly increasing inequality, particularly between Phnom Penh and much of the countryside. In Indonesia, unemployment is a very serious problem, particularly among the country’s moderately educated urban youth. The country’s lagging regions, mainly in the east, are also a worry. In Laos and Vietnam, the ethnic minorities in remote regions appear to have missed out on much of the benefits of growth. In Singapore, the plight of the less educated elderly citizens is of concern.

The region’s development challenges are of course vastly more complex than this, but the above list is at least illustrative. In good times, with growth, these cracks can be papered over. For the technically minded, the Gini ratio (the most commonly used measure of inequality) may rise, as it has in much of the region, but growth has generally been sufficient to ensure that the percentage of the population in poverty still falls. When growth disappears, and there is a zero-sum (or even negative-sum) game, distributional politics becomes more important, and governments are more likely to be judged harshly for their shortcomings.

Are these crisis effects likely to lead to regime change, as in 1997-98? As noted, crises can have mixed effects. For regimes that have legitimacy and widespread support, are not seen as having caused the problem, and which manage or at least contain the effects, crises often support incumbents. In times of great uncertainty, voters tend to be risk-averse, working on the “better the devil one knows” principle. The evidence of these four variables for Southeast Asia is so far inconclusive. I have not come across a single serious opinion piece in Southeast Asia blaming the current economic contraction on current governments. Of course, there are mounting criticisms of how, and how quickly, governments are responding. At the very least, there need to be social-safety nets in place, however rudimentary, to cushion the increased social distress. Perhaps unexpectedly, Indonesia has been one of the most effective in this respect, with its public-works programs, cheap rice, cash transfers and stay-in-school measures.

Predicting regime change is an inherently hazardous exercise. The two in Southeast Asia that appear to be the most vulnerable currently are Malaysia and Thailand. Ironically, they are two of the region’s more prosperous countries with decades of development success since the 1950s. They are also very different political regimes—one in continuous power for the country’s 51 years of independence and the other a shaky, nonelected coalition. Politically, both handled the 1997-98 crisis quite effectively, albeit in very different ways. But there is widespread disaffection in both countries, and so if the effects of the crisis are not managed adroitly—for example, if corporate bailouts disproportionately favor cronies or social-safety net programs are mismanaged—their governments could crumble. In both cases, moreover, there are opposition figures or movements in the wings, ready to seize power if the opportunity presents itself.

Different Development Goals

Second, will the crisis lead to a major shift in Southeast Asia’s development strategies? There have been frequent assertions that the crisis marks the “end of the East Asian model,” that these economies need to be “rebalanced,” or that the export-oriented model will have to be jettisoned. The criticisms of the “Washington consensus”—whatever that now means—are mounting, and attitudes toward globalization are turning sharply negative.

Is there any substance to these arguments? The issues are large and complex, and much of the populist rhetoric is vacuous and misleading. First, one would not want to discard a “model” that since the 1950s has delivered the fastest recorded reductions in the incidence of poverty in human history. Second, the empirical evidence overwhelmingly shows that more open economies grow more quickly than inward-looking ones, except of course when the global economy itself is in crisis. Unless one wishes to adopt the extreme—though admittedly not completely implausible—view that the current crisis signals a long-term contraction in the global economy, more open economies will continue to outperform in the longer run. Moreover, as recovery resumes, they will also bounce back more quickly from crises than less open economies.

It is misleading to assert, as some now do, that proponents of liberal economic policies maintain that openness automatically ensures rising prosperity. Colonies were mostly open, and that didn’t help them much. More generally, openness is of course a two-edged sword. Globalization quickly transmits “goods” as well as “bads.” The latter includes not only avian flu and narcotics, but also financial contagion. Governments need to manage globalization strategically, reaping the advantages while taking preventative action against the bads. Educational opportunities need to be widespread—a traditional East Asian strength—to ensure that the population can participate in the opportunities created by globalization. Risk-sharing institutions, private and public, have to be in place to cope with market volatility. In addition, some international transactions, for example short-term capital flows, almost certainly require monitoring if not regulation.

The current crisis has also resulted in the muddled use of terminology, in particular concerning the use of the term “export-oriented strategies.” If this simply means “openness,” that is minimal trade barriers, then there is no case for a change in direction. But if it connotes mercantilism, in the sense of a deliberate strategy to favor exports over imports as a means of accumulating international reserves, such a policy serves nobody’s interests—neither the international public good of an open and trusted global trading regime with manageable trade imbalances, nor the population at home denied consumption opportunities. One caveat has to be attached to the latter argument as it affects Southeast Asia. In the wake of the 1997-98 crisis, countries rightly or wrongly saw reserve accumulation as a means of insulating themselves against another crisis precipitated by a sudden exodus of short-term capital.

Southeast Asian leaders feel justifiably irritated with the current global order. A decade ago, they were lectured to by “Washington” (both the U.S. administration and the international finance institutions headquartered there) on the need for reform and better governance, and the triumph of the Anglo-Saxon variant of economic liberalism. Now the current crisis is emanating from these very countries which, moreover, have added insult to injury by protecting their own financial sectors, with the resultant capital flows exacerbating financial fragility in emerging markets. The results have been costly for emerging markets in the region. Recently, for example, Indonesia raised $3 billion at a historically high yield of 11.2% for its 10-year bonds and 10.5% for its five-year bonds; this is equivalent to about 600 basis points above U.S. Treasurys. Earlier, the Philippines was also forced to pay well above the Treasury rate when it raised a loan of $1.5 billion.

Nevertheless, it is important not to throw the baby out with the bathwater. Trade and investment policies need to stay open, while thinking about new forms of financial regulation and prudential supervision at home alongside a new international regulatory order. Importantly, Southeast Asian countries have by and large not resorted to protectionism or beggar-thy-neighbor currency depreciations—although their leaders sent somewhat mixed signals on protectionist approaches at the annual Asean leaders’ summit in Hua Hin, Thailand in early March, and the “Made in America” sentiments of the Obama administration do resonate through much of the region. The lessons are therefore: stay open; manage globalization rather than hide from it; and encourage internationally coordinated efforts towards a fairer and better regulated global order.

Asean’s Role

Third, where does Asean fit into this? A global crisis requires a coordinated global response. None of the Southeast Asian economies is in the big league, although collectively Asean is an influential regional association, and Indonesia is a member of the G-20, which appears to be evolving as the key global decision-making group.

As Asean approaches its 42nd birthday, it can take pride in its achievements as the most durable and influential grouping in the developing world. But this crisis is posing a serious challenge to its credibility. One of the strengths of Asean has been its low-key, unthreatening approach to issues, and the harmony it has engendered in a historically turbulent region. But history has shown that Asean is not set up to handle major events such as the current crisis. It was largely impotent during the economic crisis of 1997-98, as it has been during other significant stresses, from the birth of East Timor and Indonesia’s forest fires to the Rohingya issue.

During the current crisis, Asean’s voice has by and large been notable for its silence. As in the last crisis, it was not in a position to provide intellectual or material leadership. Asean was a central player in the so-called Asian Monetary Fund and the Chiang Mai Initiative, both of which grew out of the events of 1997-98. But the former was still born and the latter has been essentially nonfunctional. Moreover, significant standby support arrangements have not involved intra-Asean cooperation. As an illustration, Indonesia has recently entered into an arrangement with the Asian Development Bank, Japan, the World Bank and Australia, even though Singapore and Malaysia have very large foreign-exchange reserves. Additional bilateral swaps are being negotiated around the region, indicating that the technical, governance and operational issues underpinning the cmi have still not been resolved.

But perhaps more important, the region’s leaders have not yet articulated a vision of the way forward. As a group they could have attempted to use their welcome moderation on trade policy strategically, as a weapon to project a broader global agenda involving a coordinate response to the crisis. Whatever the dominant international forum—G-2, G-7 or G-20—a united voice on behalf of 550 million people, including some of the developing world’s great success stories, would not go unnoticed.

It remains to be seen whether Asean as a regional institution will be permanently damaged by this inaction. A charitable view is that it was never set up for these complex crisis-resolution tasks. A more negative assessment is that it will fade into insignificance—at least in so far as economic cooperation is concerned.

China on the Rise

Finally, if, as seems likely, China is able to maintain moderately strong economic growth through the crisis, and to desist from major competitive exchange-rate depreciations (as it did in 1997-98, earning the region’s gratitude), the effect will be to change the regional, and possibly global, strategic architecture irrevocably. Unlike in 1997-98, when there were still lingering reservations in the region toward China, both politically and as a commercial rival, it is now seen as the principal hope for recovery, and the major economic locomotive. In the process, it is seen as an increasingly attractive development partner, over time supplanting Southeast Asia’s two traditionally dominant external powers, the U.S. and Japan, as the major trader, investor and aid donor. Intellectually, the prolonged Japanese recession from the early 1990s had a major effect on Southeast Asian thinking about the “Japanese model,” particularly the desirability of its industrial promotion and planning policies. The current crisis is leading to a similar re-evaluation of the “U.S. model,” especially as it relates to lightly regulated financial markets. In both cases, the rethink has broader commercial diplomacy and geostrategic implications. In the process, China’s “soft power” will be greatly enhanced. Unless of course it misplays its hand through, for example, overbearing strategic interventions abroad or a failure to keep up with the revolution of rising expectations at home.

Hal Hill is the H.W. Arndt professor of Southeast Asian Economies at the Australian National University in Canberra.