Intra-regional Exchange Rate Stability
andPrevention of Financial Crisis in East Asia

August 2006
Institute for International Monetary Affairs

Background and Objectives:
There is a growing risk of cross-border financial contagion in an environment of highcapital mobility. Financial instability in one country can quickly spread to neighboring
countries, causing severe economic disruptions. The risk of contagion becomes
particularly larger in a region where economic interdependence becomes stronger. The
contagious nature of financial instability suggests that there will be a strong case forregion-wide cooperation in financial and macroeconomic policies in East Asia with its
rising degree of economic integration.
The Chiang Mai Initiative (CMI) and the Asian Bond Markets Initiative(ABMI)/Asian Bond Fund (ABF) are promoted in order to enhance financial andmonetary integration and prevent financial crisis in the East Asian region. Furthermore,ideas of an Asian Currency Basket and Asian Currency Unit for intra-regional exchange
rate stability also have been proposed as mid- and long-term objective for the region.
Under those circumstances, The Working Group (WG) for financial cooperation
was established in January 2006. The WG examined the nature and causes of financial
instability in the context of the East Asian economy and seeks to identify areas where
regional cooperation is important to achieve financial stability across the region, based on
current movements in financial and trade integration in the region.
Then, the WG discussed and compiled opinions and views among the WG
members for enhancing “Intra-regional Exchange Rate Stability and Preventing Financial
Crisis in East Asia.” for which purpose members of the WG met in Tokyo on June 30,
2006. The discussions held during the meeting on the topics outlined in this paper, haveresulted in the seven policy recommendations which can be found at the end of thisreport.
The Working Group has noted the statement by the ASEAN+3 leaders at the 9th
annual meeting held in December 2005, who declared that they would prepare a second
Joint Statement on East Asia Cooperation on the tenth anniversary of ASEAN+3 process
in 2007. The WG has also noted the achievements of the Research Group which has beenworking under the ASEAN+3 Finance Ministers Meeting since 2003 to explore ways tofurther strengthen financial cooperation and promote financial stability in the region. The
WG will seek further measures based on these achievements as well.

1

Members of the WG are as follows:
Mr. Tadahiro Asami, Managing Director, Institute for International
Monetary Affairs (Leader)
Dr. Takatoshi Ito, Professor, The University of Tokyo (Co-Leader)
Dr. Eiji Ogawa, Professor, Hitotsubashi University
Dr. Tetsuji Murase, Professor, Kyoto University
Dr. Junko Shimizu, Researcher, Assistant Professor, Meikai University
Mr. Naoyoshi Kinukawa, Director, Economic Research Department, Institutefor International Monetary Affairs
Mr. Yozo Nishimura, Senior Economist, Economic Research Department,
Institute for International Monetary Affairs
Mr. Kenichiro Matsui, Lead Economist, Economic Research Department,
Institute for International Monetary Affairs

2

Table of Contents
Background and Objectives: ........................................................................................... 1
Chapter 1: The nature and causes of financial instability ............................................... 4
1-1. What are the causes of financial instability? ....................................................... 4
1-2. Why does financial instability tend to induce deep recession? ........................... 6
1-3. Why is financial instability contagious?.............................................................. 6
1-4. How does promoting trade impact regional financial integration? ..................... 7
Chapter 2: Policy implications for regional cooperation ................................................ 9
2-1. Why is strengthening the regulatory framework important for financial
stability?.............................................................................................................. 9
2-2. How can an appropriate supervisory framework be established in the
country?............................................................................................................. 10
2-3. How should capital account liberalization be executed?................................... 11
2-4. How important is a regional monitoring system of cross-border capital flows
for the prevention of contagion? ....................................................................... 12
Chapter 3: Macroeconomic and exchange rate policy coordination............................. 12
3-1. Should the governments in East Asia establish a region-wide coordination
mechanism?....................................................................................................... 12
3-2. Why is the macro economic surveillance important?........................................ 13
3-3. Why should we need a regional coordination policy of exchange rate regimes
in East Asia? ..................................................................................................... 14
3-4. What are the objectives for a common currency basket system in East Asia?.. 14
3-5. Regional monetary units and a common currency basket ................................. 16
3-6. Steps toward a common currency basket .......................................................... 16
3-7. The use of an AMU as a deviation indicator ..................................................... 18
3-8. The creation of a Core AMU............................................................................. 18
3-9. Recent progress of initiatives under the ASEAN+3 Framework ...................... 19
3-10. How can a roadmap be created for financial and monetary integration in theregion for the medium to long term? ................................................................ 20
Policy Recommendations.............................................................................................. 24
Appendix: Initiatives under the ASEAN+3 Framework............................................... 30

3

Chapter 1: The nature and causes of financial instability
1-1. What are the causes of financial instability?
We have learned quite a number of lessons from the Asian crisis of 1997-1998.
Considering the nature and causes of financial instability, the following consensus has
emerged from the large source of literature on the Asian currency crisis.
First, about the causes of financial instability, many researchers have pointed out that thecrisis occurred due to the combination of weakness in macro fundamentals and unstable
capital flows. Weak macro fundamentals include not only slow growth rate, highunemployment rate, and relatively high inflation rate, but also financial and institutional
vulnerability. Several Asian countries before the crisis had developed the so-called
double mismatch problem: on the one hand, a currency mismatch, and on the other handa maturity mismatch. Many Asian banks borrowed dollars from foreign lenders in shortterm loans and lent long-term loans in their own currency. When foreign lenders asked
Asian banks to repay (by not rolling over loans), these banks could not come up with thedollars in time. Weakness of balance sheet was one of the major causes of financial
instability.
Second, a lack of transparency in terms of government data and private sector balance
sheets made investors form overly optimistic expectations about the growth potential ofthese countries, thus lending to these banks and firms without assessing their risks
properly. The borrowers also borrowed without calculating their own ability to repay inthe future. Over-lending flooded the domestic financial markets with liquidity, resulting
in over heating and in some cases causing a bubble in the asset market. That was also oneof the major causes of financial instability. These aspects of financial markets were
exposed when the capital flows reversed their direction. Triggered by circumstances
which varied from country to country, investors suddenly became aware of thosevulnerabilities and decided to withdraw their funds and investments very quickly. This
resulted in very acute currency pressures.

4

Third, the exchange rate regimes contribute to enhance the vulnerability. Before thecurrency crisis, the Asian countries had adopted a de facto dollar peg. Although, thedeclared exchange rate regime was not necessarily a dollar peg. For example, Thailand
had declared their exchange rate regime as a basket system, but since the dollar weight intheir basket was in fact estimated to be more than 90 percent, it was de facto a dollar peg.
The dollar peg, on the one hand, encouraged capital flows into the country, which
resulted in the over-heating as mentioned above, and on the other hand it allowed theirexport competitiveness to be affected by the movement of the cross rate (the baht-yenrate). Therefore financial instabilities were caused by the combination of the exchange
rate policy and domestic policy.
Eichengreen and Hausmann (1999)1 referred to the phenomenon where many emerging
countries could not borrow abroad in their own currency and could not borrow in local
currency at long maturities, as the “Original Sin”. They show that countries with theOriginal Sin, mainly Latin American countries, exhibit greater output and capital flow
volatility, lower credit rating, and limited ability to manage an independent monetary
policy. These situations are similar to pre-crisis East Asian countries. However, we donot suppose that the Original Sin necessarily applies to East Asian countries. They could
not borrow from foreigners in local currencies, but they might not have made an effort todo so, since they were not aware of a problem on the currency denomination of foreign
borrowing.
Once selling pressure on the exchange market rose and currencies started to depreciate, it
had profound effects on the Asian emerging market economies. The effects were not only
financial but real. First the depreciation affected the balance sheet of financial institutions
and corporations. Since they borrowed in US dollar and lent in domestic currencies orinvested in plants and machineries for the long term, they could not come up withrepayments. Therefore the corporations started to stop payments to banks and banks had
to endure non-performing loans on their balance sheets. That resulted in the stalling of

1

Eichengreen,Barry, and Ricardo Hausmann, “Exchange Rates and Financial Fragility”, in New
Challenges for Monetary Policy, a symposium sponsored by the Federal Reserve Bank of Kansas
City,1999

5

further bank credits in other sectors. Also, due to the collapse in asset prices, as a reaction
to the overheating economies mentioned above, investors, entrepreneurs, and households
in those countries lost confidence in the future prospects of the economy. So spending in
consumptions and investments suddenly went down and a recession started.
1-2. Why does financial instability tend to induce deep recession?
The depreciation of the currency was supposed to help the exports to grow. However, thatprocess, as a natural remedy of depreciation, did not work in time.
First, the currency depreciation was so rapid that the corporations could not takeadvantage of price competitiveness. We know that it takes time for exporters to adjust
their pricing policy and to increase the volume of the exports in order to exploit thestronger competitiveness because it takes time to reach the destination of export market,
and to advertise and distribute goods. So currency depreciation by 50 percent in threemonths did not enable exporters to increase their exports in time to help the economy.
Second, exporters in some cases could not get the export-credit from banks because
banks had already developed non-performing loans and could not get credit lines withcorresponding banks in major financial centers. Thus, local banks in those countries losttheir credibility in international markets and therefore letters of credit issued by thosebanks were not acceptable. So a simple recession became a deep recession very quickly.
In some countries, the economic recession resulted in political instability and that
aggravated the economic chaos.
1-3. Why is financial instability contagious?
Also notable in the Asian currency crisis was the phenomenon of contagion. The Asiancurrency crisis started from Thailand which adopted a floating exchange rate system on
July 2, 1997.

6

At first, depreciation was most notable in Thailand and then it affected neighboring
countries, such as the Philippines, Malaysia, and Indonesia. Soon all the currencies in theregion started to depreciate. The Hong Kong Dollar underwent a large pressure on theexchange and stock markets at the end of October. The Korean won was relatively robust
against depreciation pressure until November 1997, but it eventually started to depreciatevery sharply. By December 1997, the Chinese Renminbi and the Hong Kong dollar were
the only currencies which could maintain the dollar peg.
There are several hypotheses on why the contagion was so widespread in Asia. The first
hypothesis is the investors’ sudden awareness of the risk in the region. The so-called
wake-up call hypothesis states that the crisis in one country in the region prompted
investors to reassess risks of other countries in the same region, thus discovering similar
financial weakness in neighboring countries.
The second hypothesis of contagion goes through trade links. Depreciation in Thailand
made Thai exports more competitive against neighboring countries. As a result, theneighboring countries, such as Singapore, Malaysia and Indonesia, let their currencies
depreciate so that they would not lose their competitiveness in export. This is the mild
version of competitive devaluation.
The third hypothesis is the so-called common creditor hypothesis. Many Japanese banks
and Western banks providing loans to several Asian countries started to withdraw funds
from these countries to make up for the losses in the troubled country when companies
and banks in that country became non-performing in the eyes of Japanese and Westernbanks. In this hypothesis, the contagion is not limited to the same region. In some cases,
the losses in Asia prompted banks and investment banks to withdraw funds from Brazil
and Russia. It is debatable which hypothesis is most relevant in Asia. It is most likely thatthese three hypotheses reinforced each other and contributed to deepening of the crisis in
Asian.
1-4. How does promoting trade impact regional financial integration?

7

In the trade-linked hypothesis of contagion, trade and financial relationships are closely
linked together. The more integrated the trading relationship is, the more sensitive
becomes the financial market. Therefore, cooperation in financial markets should proceedwith cooperation in trade relationships.
In the experiences of regional cooperation in other part of the world, we tend to see that
trade integration precedes the financial integration. At first, a free trade area (FTA) or acustoms union (CU) is developed. Then, goods and services and human capital start tomove freely across the border in the FTA/CU region. Such movements need a stability of
exchange rates in the free trade area or customs union.
In Asia, the existing free trade area among ten ASEAN countries is called AFTA, andprogress has been made towards creating a zero tariff area. East Asia has been vigorously
promoting economic integration in recent years. China started negotiating with ASEAN
countries on early harvest (early implementation of part of goods and services) for
agricultural goods.
In 2005, there were some major developments in FTA and Economic Partnership
Agreement (EPA) talks between Japan and Asian countries: In April, Japan and ASEAN
also launched formal negotiations on the ASEAN-Japan Comprehensive EPA. In July,
Japan and Indonesia launched their formal negotiations for Japan-Indonesia EPA. In
September, Japan and Thailand EPA confirmed that agreement in principle has beenreached on major elements of the Japan-Thailand EPA. In July 2006, Japan-Malaysia
EPA was entered into force.
However, trade and investment, particularly foreign direct investment, in these ten
countries are not yet freely flowing across the border for various reasons. The traderelationship between Japan and ASEAN countries, or China and ASEAN countries, are in
the process of being liberalized. FTAs in East Asia in recent years also include
investment liberalization, trade and investment facilitation, as well as economic andtechnical cooperation. These alliances will be expected to promote foreign direct
investment (FDI) and economic and technical co-operation in the future.

8

It may take at least several years to achieve a genuine free trade area in East Asia.
Financial cooperation including exchange rate cooperation cannot be completed withoutliberalizing trade and investment. If a tariff barrier is abolished due to bilateral free tradetalks between East Asian countries that might make both trade volumes and capital flows
relatively larger, resulting in greater volatility and risks in the financial markets.
Therefore, it is very important to encourage trade integration in parallel with financial
integration.

Chapter 2: Policy implications for regional cooperation
2-1. Why is strengthening the regulatory framework important for financial
stability?
In designing a robust financial market in the region, it is very important to think of aregulatory framework in the region. Of course, the regulatory framework has to start withthe domestic market. Each country has to strengthen their regulation and supervision offinancial institutions including banks, securities firms and insurance firms. To build
robust financial institutions is a crucial step to avoid another crisis in the region.
However, in parallel with making a regulatory framework in each country stronger, it isimportant to cooperate and harmonize regulatory frameworks in the region as a whole.
For example, when banks operate in another country, the supervision of the foreign
branch primarily rests on the host supervisor. So the authority of the home country has totrust the host country supervisor. The home country supervisor also has to make sure thatthe foreign branches of their banks are not treated unfairly by the host country supervisor.
Therefore, making regulations and supervision standards harmonized, if not standardized,
is a very important step for smooth financial transactions in the region.2

2

In the EU as a general rule, home supervisors are responsible for solvency risks, whilehost supervisors for liquidity risks of EU-based banks.
92-2. How can an appropriate supervisory framework be established in the country?
There are several different models for financial supervision in one country.

The first

model is an FSA (Financial Supervisory Authority) model like U.K., Japan and Korea.
The integrated, unified supervisory agency is established independent from the central
bank or the fiscal branch of the government. They collect experts on financial supervision,
design and implement regulations as well as examine financial institutions.
Another model is financial supervision by a central bank. This is the case in many
continental European countries, and Thailand and Indonesia in Asia. Financial
supervision by a central bank is efficient for developing countries where resources are
scarce. But it often invites a conflict of interest when central banks would like to protect
financial institutions from failing. The challenge, therefore, is how to make anarms-length supervision framework within the central bank. The trend at least among
advanced countries is to establish FSA so that a problem of the conflict of interest would
not arise in crucial times of financial distress.
When financial institutions are weak, it is not appropriate to liberalize external financialtransactions. Any distortion and weakness in the domestic market will be magnified
rather than rectified, if the capital, especially short-term capital, flows into the country.
Therefore, the timing for opening capital accounts would be dependent upon the strengthof domestic financial institutions and the fiscal and supervisory framework. In this regard,
it is very important that the financial authorities in the region exchange information andcooperate in developing, harmonizing, and standardizing financial supervision. The bettersupervised and the more harmonized, the better the region will be able to allocate capitalto the most productive areas and industries in the region. That would promote faster
growth and robust economies in the region.
Up until now the regional financial cooperation efforts have been guided by the
ASEAN+3 Finance Ministers’ Meeting. However, seeing how the central banks in theregion make important contributions towards maintaining a stable exchange rate regime,
financial supervision, and regional financial cooperation, their active participation in the10cooperation process is indispensable. It is thus important for the central bank governors toparticipate in the Finance Ministers’ Meeting as regular members.
2-3. How should capital account liberalization be executed?
There were some problems with the capital account liberalization in East Asian countries.
For example, in the case of pre-crisis Thailand, the magnitude of short-term capital
inflows via the Bangkok International Banking Facility (BIBF) was very large. As aresult, excess liquidity swelled in domestic markets, and it adversely affected themonetary policy management and foreign exchange market stability due to the“impossible trinity” (the impossibility of simultaneously realizing capital liberalization, afixed exchange rate, and monetary policy autonomy).
As another example, Korea adopted a totally opposite sequenced capital liberalization
program, which brought the Korean economy in deep crisis. The most serious sequencing
problem that the Korean government created in the pre-crisis period was that theyliberalized short-term financing through the banking sector too prematurely.
These lessons teach us that in designing capital account liberalization including currency
convertibility, it is very important to consider the proper sequencing. Liberalization
usually begins with the current account, i.e., trade and trade-related financial transactions.
Liberalization of financial and monetary transactions usually starts with the liberalizationof domestic transactions, later moving to cross-border transactions. The process thenmoves from the current account to the capital account, which usually starts with inward
foreign direct investment (FDI). From FDI, the liberalization process will move graduallyon to securities and long-term capital transactions, while finally arriving at theliberalization of short-term capital flows. Capital account liberalization could contributeto regional financial integration, however, so particular attention should be paid to theproper sequencing of liberalization which is dependent upon the stage of economic
development and financial infrastructure.

11

2-4. How important is a regional monitoring system of cross-border capital flows forthe prevention of contagion?
The financial investments by foreigners help domestic institutions to increase their funds
in order to lend to domestic companies as well as putting pressure on better governanceon domestic financial institutions. In order to promote foreign direct investment into a
country, it is better to remove restriction on foreign ownership and foreign investment
into manufacturing and service industries in general, even though increasing investment
may not be as essential in Asian countries as other regions, because domestic saving isalready relatively large in Asia. When liberalization proceeds not only in long-term
investments but also in short-term investments, it is important to develop a monitoring
system for short-term cross-border investments, because they may become a source of
unstable capital flows. When foreign funds are attracted to high-yielding bonds or
high-yielding bank deposits without careful assessment of risks, those investments may
reverse their direction very quickly.
So ideally, who is investing in what financial instruments is important information for
financial regulatory agencies. In particular, information on speculative positions (shortselling of the local currencies against buying of the foreign currencies) may be importantvariables to monitor. However, such information is sometimes very difficult to obtain. It
is very important for central banks and supervisory agencies to keep monitoring large
short-term capital flows across borders by asking not only domestic financial institutions
but also foreign authorities. Therefore, to reap the benefits from liberalized capital flows
without developing financial crisis, the authorities should make domestic financial
institutions strong and robust, and sequence financial liberalization appropriately, andthen keep monitoring capital flows after completing liberalization.

Chapter 3: Macroeconomic and exchange rate policy coordination
3-1. Should the governments in East Asia establish a region-wide coordination
mechanism?

12Even with strong financial institutions and harmonized regulatory framework including
monitoring short-term capital flows across borders, there may be the case that the private
sector capital flows still exceed the official resources for stability. It is very important insuch circumstance that the authorities in the region coordinate so that they can cooperate
and fight against unstable capital flows.
If a country experiences liquidity shortage of foreign currencies, not because of theirmacro fundamentals but because of a sudden reversal of foreign capital flows, it may bedesirable for authorities in the region to cooperate by lending each other foreign
currencies. The CMI, which is essentially a network of bilateral swaps for foreign hardcurrencies, is such a mechanism that helps those countries in a liquidity type crisis.
3-2. Why is the macro economic surveillance important?
In order to design and maintain such a mutual assistance framework, it is very importantto carry out macro economic and financial surveillance during tranquil times as well.
When countries in the region as well as the international financial institutions are
confident in the strength of macro economic fundamentals and of financial institutions,they should be able to lend, with massive liquidity, to a country under speculative
pressure. Since currency pressure develops very suddenly, the surveillance has to be
conducted on a regular basis, at least annually, if not quarterly.
Models of surveillance in fact are Article 4 consultations by the IMF, and economic
survey by the OECD, as well as structural consultations by the World Bank, the ADB andother international financial institutions. The governments in the region may be able tocooperate and have frank discussions based on those publicly available international
surveillance products. Since the authorities in the region have more information than the
aforementioned international financial institutions, sometime confidential, about tradeand financial transactions among neighboring countries in the region, they should be able
to be more informed about the vulnerabilities and risks of neighboring countries. They
should be more vocal and frank, at least in closed door meetings, and propose

13

constructive steps to avoid crises. Countries in the region have self interest in exercisingmutual surveillance, because if one country falls in crisis, it may affect other countries in
the region, sometimes very severely.
3-3. Why should we need a regional coordination policy of exchange rate regimes in
East Asia?
In order to carry out effective cooperation and mutual surveillance, it is very important toharmonize and disclose macro economic and financial data, and to have frequentconsultations with each other. One of the surveillance items is the exchange rate regime.
The Asian financial crisis taught us that the dollar-peg is not the most desirable exchange
rate regime in the region. Regarding the intra-regional trade linkages, the average ofintra-regional trade weights (in terms of the sum of imports plus exports) of ASEAN +3
countries increased from 48.7 percent in 2000 to 51.0 percent in 2004. Especially, theaverage of intra-regional import weights has steadily increased to 57.9 percent in 2004.
As the intra-regional trade ratio in East Asia is now close to that in the European Union,
the internal stability of exchange rates in the region is very important for growth andstability in the region as the experiences of the EU shows. Therefore, some mechanism tokeep bilateral exchange rates stable among the East Asian countries is desirable.
3-4. What are the objectives for a common currency basket system in East Asia?
In view of the increasing degree of real economic integration in the region, and especiallythe region-wide FTA that is expected to take shape in the coming decade, the objective ofa regional exchange rate arrangement should be the exchange rate stability of ASEAN+3
currencies.
There are basically three options (with some variations) in securing regional monetarystability; (a) a currency peg system to a single major currency like the US dollar or euro,(b) a peg system to individual baskets of G3 currencies or currencies in the region, and14

(c) a monetary system with a common basket of G3 currencies or currencies in the region
as a central instrument for exchange rate coordination.
(a) a currency peg system to a single major currency
In addition to the risk the Asian crisis taught us as a lesson, pegging to the US dollar or
euro has the major defect of ignoring the diversity of trading partners of economies in theregion. This would make such a system more unstable than otherwise due to diverging
impacts on economic competitiveness caused by fluctuations of the reference currency.
(b) a peg system to individual currency baskets
The Singapore dollar has been pegged to a currency basket, whose composition has notbeen disclosed. The shift of the Chinese renminbi and Malaysian ringgit from the dollar
peg to a managed floating system with reference to a currency basket may support
advocates of individual currency baskets. This system may be adopted during atransitional period as part of a learning process towards a common basket system. One
should keep in mind, however, that this system remains subject to the so-called “failureof coordination,” which endangers the regional monetary stability in the end.
(c) A common basket system, or a system with a common basket of G3 currencies orcurrencies in the region as a central instrument for exchange rate coordination
A regional monetary system using a common currency basket as a central instrument for
exchange rate coordination is the third option, which is worth further studies in detail.
There should be basically four sub-options (with their variations) in accordance withcombinations of (i) a basket of G3 currencies or a basket of regional Asian currencies,and (ii) a grid formula after the EMS model or a peg formula of a hub-and-spokes type.
The alternatives under (ii) need careful study, which is beyond the research scope of thispaper for the moment. The paper, therefore, focuses upon the issues related to (i) above.
Under a common basket system of G3 currencies, the Asian countries can use the valueof the basket against major currencies outside the region as a reference and coordinate
their policies so that their exchange rates do not deviate from the common reference point
too much. In this way, the countries can achieve internal stability, basically by joint

15floating against the outside currencies. There remain several questions concerning how to
implement such a common basket system including reserve management and intervention
policy.
Under a common basket system of regional Asian currencies, which consist of
convertible currencies including the yen, member counties are required to coordinate
macroeconomic policies closely each other, and to fulfill certain conditions, which
include sound macro-economic management such as inflation, fiscal balance andgovernment debt, capital account liberalization. The required degree of conditions may
differ according to the structure of the monetary system with a common basket (a grid
formula or a peg formula).
3-5. Regional monetary units and a common currency basket
In reference to regional monetary units, finance ministers of ASEAN+3 countries agreed
to pursue study on creating regional monetary units at the ASEAN+3 Finance Ministers’Meeting in May 2006 (Hyderabad, India). And also the Finance Ministers of China,
Japan and Korea (Trilateral Finance Minsters’ Meeting) noted the importance of sharing
a long-term vision for financial integration in the region and agreed on further study ofrelated issues, including the usefulness of regional currency units, through the ASEAN+3
Finance Ministers’ Process.
Our proposal of a common currency basket in this report is in line with the agreement on
exploring further study on regional monetary units under the ASEAN+3 Finance
Ministers’ Process.
3-6. Steps toward a common currency basket
Since the yen is the only fully convertible major currency in the region, the role of theyen is very important in assisting a country in distress at the time of crisis as well as
providing bilateral networks of liquidity, even during tranquil time. In the long run, theAsian region may follow the footsteps of the European Union and achieve a common

16currency in several decades. However, the countries should start with a modest step byimplementing a currency basket system with a band and see how it helps to achieve
growth and stability in the region.
As a first step, we propose that the ASEAN +3 countries will make use of a common
basket value composed of all their currencies as a surveillance index without changing
their exchange rate systems. Currency convertibility is not necessary for each currency.
There are many discussions with reference to the appropriate currency composition for acommon currency basket. It is especially a controversial point whether the Japanese yenshould be included in a common currency basket. From the standpoint of a common
currency basket as a surveillance index, it is desirable that the Japanese yen should be
included.
At the second stage, we propose to start using a Core AMU currency basket that would
be a weighted average of main currencies with convertibility in the region.

Weemphasize that convertibility is necessary to be a Core AMU composition currencies atthe second stage, since it ensures confidence in the basket.
Only after the institutional harmonization and development of effective financial
supervision in the region, more steps toward common currencies should be pursued. Still,convertibility will be indispensable to join in a common currency basket if we pursue astrong role for the common currency basket with regard to implementing commitments
such as bilateral stabilization method or coordinated intervention.
Currently, most East Asian currencies are traded under some restrictions or controls intheir currency transactions, while their liquidity in foreign exchange markets is not
sufficient except for some core group currencies. Accordingly, in order to compose acommon currency basket in East Asia, whichever way we choose, it is necessary to wait
for more countries to achieve further economic developments to start a common currency
basket with a core group of currencies.

173-7. The use of an AMU as a deviation indicator
As a new surveillance criterion, Ogawa and Shimizu (2005)3 propose the creation of an
Asian Monetary Unit (AMU) and AMU Deviation Indicators for East Asian currencies as
one of the research products of RIETI (Research Institute of Economy, Trade andIndustry). These should contribute to the coordination of exchange rate policies in East
Asia, thereby enhancing the monetary authorities’ surveillance capabilities. The AMU iscalculated as a weighted average of East Asian currencies according to the method used
to calculate the European Currency Unit (ECU), which unit was adopted by EU countries
under the European Monetary System (EMS) prior to the introduction of the euro.
Currency convertibility is not necessary for the component currencies. The AMU
Deviation Indicators for each East Asian currency are measured to show the degree of
deviation from the Benchmark Rate for each of the East Asian currencies in terms of the
AMU.
Nominal AMU Deviation Indicators are provided on a daily basis and Real AMU
Deviation Indicators, which are adjusted for differences in inflation, are provided on amonthly basis. The Real AMU Deviation Indicators are more appropriate for conducting
surveillance on the effects of changes in exchange rates on the real economy, while theNominal AMU Deviation Indicators are more useful for monitoring day-to-day
deviations from the AMU. The data of AMU and both AMU Deviation Indicators areavailable on the website of RIETI (http://www.rieti.go.jp/users/amu/en/index.html).
3-8. The creation of a Core AMU
A Core AMU can be created, when major currencies in the region realize theirconvertibility in the sense that residents as well as nonresidents have an access directly or
indirectly to the foreign exchange and money markets of the currency. There are twocategories of a Core AMU, an official one and a private one. An official Core AMU isused for the purpose of a unit of account (numeraire) among monetary authorities in a
3

Ogawa, Eiji, and Junko Shimizu, "A Deviation Measurement for Coordinated Exchange Rate
Policies in East Asia", RIETI Discussion Paper Series 05-E-017,2005

18

regional system for exchange rate coordination. A private Core AMU can be used as aninvestment and funding instruments, among others, by the private sector.
The composition or the share of component currencies of an official Core AMU should
be decided by taking into account such factors as GDP, trade volume and capital markets.
The composition can be politically a sensitive issue, and a clear principle needs to be
formulated among parties concerned.
As to the composition of a private Core AMU, it can be fixed freely by private agentsaccording to the objective of creation. Theoretically it may be so, however the European
experience of a private ECU and other composite currencies teaches us the importance ofthe confidence and marketability (including liquidity) of a private ECU (or Core AMU)
for its sustained development. The existence of an official ECU (or Core AMU) with thesame composition of currencies as a private ECU (or Core AMU) enhanced theconfidence of the latter substantially among market participants.
Thus, a study on regional currency units for East Asia should include a study on theEuropean experience as well.
3-9. Recent progress of initiatives under the ASEAN+3 Framework
The monetary authorities of East Asian countries have been strengthening regionalmonetary cooperation since the Asian currency crisis of 1997. Such monetary
cooperation after the crisis resulted in the CMI in May 2000, which was established by
the ASEAN + 3 (Japan, South Korea, and China) as a network of bilateral andmultilateral swap arrangements to deal with a currency crisis in member countries. Under
the CMI, the monetary authorities should conduct surveillance to prevent a currency
crisis in the future.
At the ASEAN+3 Finance Ministers Meeting in May 2006 (Hyderabad, India), financeministers agreed to successfully complete the strengthening of the regional liquidity
support network (also known as the Second Phase of the CMI Review), which was
initiated at the Jeju ASEAN+3 Finance Ministers’ Meeting in 2004. The following

19substantial progress of the CMI has been made: (1) collective decision-making procedure
for the swap activation was adopted, (2) to explore the ways for further strengthening
surveillance capacity in East Asia, the Group of Experts (GOE) and the Technical
Working Group on Economic and Financial Monitoring (ETWG) would be launched, (3)the total swap size has now reached US$75.0 billion, almost doubled from a year ago.
Finance ministers agreed to task the Deputies to set up a “new task force” to further study
various possible options towards an advanced framework of the regional liquidity support
arrangement (CMI multilateralization or Post-CMI).
Regarding the Network of Bilateral Swap Agreements (BSAs) under the CMI, the total
amount of BSA as of May 4, 2006 became US$75.0 billion. BSAs were concluded
among: China, Indonesia, Japan, the Republic of Korea, Malaysia, the Philippines,
Singapore, and Thailand.
Regarding the Asian Bond Market Initiative, at ASEAN+3 Finance Ministers’ Meeting inMay 2006 (Hyderabad, India), finance ministers noted that concrete progress had been
made in the area of (i) local currency-denominated bonds issued by various internationaland foreign institutions, and (ii) local currency-denominated bonds issued throughsecuritization. Ministers agreed that the study on the issuance of the asset-backed Asiancurrency-basket bonds and cross-border local currency bonds would contribute to thefurther development. Also, ministers recognized a noticeable progress made in
discussions on the market infrastructure including Asian Bond Standards. Technicalassistance should be continued to overcome weaknesses identified in the regularself-assessment and information sharing exercises.
3-10. An Illustration as to how a roadmap can be created for financial and monetary
integration in the region for the medium to long term
We hereby assume that a political consensus will be reached for founding a regional
currency system in ten years around 2015 under the framework of ASEAN +3. Then,from a medium to long-term perspective, we can divide the time span between 1999,20

when the First Joint Statement on East Asia Cooperation of ASEAN+3 Heads ofState/Government was signed in Manila, and 2015 into three stages according to theprogress towards a regional monetary arrangement. The first stage started in 1999 andwill finish in 2007, when the Second Joint Statement is due in December of the same year.
The first stage can be regarded as a period to consolidate regional monetary cooperationin itself. The second stage will cover the period from 2008 until 2011 or 2012, whichshould be a period to strengthen and complete regional monetary cooperation in terms of
preventing and managing a possible currency and financial crisis. The third stage, which
we consider to be a preparatory period to address consensus building on a regionalmonetary system, will be expected to conclude by around 2015, leading, if an agreement
is reached, further to a stage of implementation.
In view of intensified financial cooperation in coming years, a permanent secretariat,
which should be composed by high-level experts including the staff of monetary
authorities, central banks from member states, and some independent economists should
be set up, in order to discuss a broad range of essential topics as mentioned so far in thepaper. Experts at the permanent secretariat will keep close contact with related
governmental offices of member countries in preparing important proposals, and bring up
an agenda at the ASEAN+3 Finance Ministers’ Meeting. Experts at the secretariat will be
engaged in their designated assignments on the basis of personal trust, and countries in
the region will share information through the secretariat to their mutual benefit.
Institutionalization of this mutual surveillance would be a crucial step for developing
financial integration in East Asia.
Furthermore, while designing a roadmap for regional monetary and financial integration,
we should not loose sight of what is happening outside the region as well. One global
concern that is important to the East Asian regional integration effort is the so-called
global imbalance that involves the current account deficit of the United States and current
account surplus countries in East Asia as well as oil producing countries, which is theother end of the spectrum of the US current account deficit issue. It is generally viewedthat the US current account deficit may not be sustainable in the long run, and therefore

21

solutions need to be found for the medium and long-term, while avoiding a hard-landing
scenario.
As agreed at the spring International Monetary and Financial Committee (IMFC) meeting
this year, a multilateral dialogue on the global imbalances will be carried out in the near
future among the United States, the EU and representatives from the current accountsurplus countries such as China, Japan, and Saudi Arabia under a surveillance framework
to be established by the IMF. It is expected that these countries will eventually reach an
agreement on a set of macro economic policy measures to resolve the difficult global
imbalances and to mitigate the adverse impact that any possible adjustment may have on
the regional exchange rate regime as a whole. It is important to note that the issue is not a
short-term, but a medium to long-term issue.
The combination of the fixed exchange rate regime (or heavy managed floating regime)
coupled with current account surpluses in China, Malaysia, and other Asian economies
resulted in large accumulations of foreign exchange reserves. The concerned authorities
will pay careful attention to the management of the accumulated foreign exchange
reserves, since the issue involves not only adjustment to exchange rates, but also
modification to the exchange rate mechanism of the international monetary system. Achange in foreign exchange reserve policy is a very delicate and significant issue for theauthorities in East Asia, since it involves not only monetary issues, but also politicalissues. Therefore, a comprehensive approach rather than a piece meal approach is
required in carrying out policy formation on foreign exchange reserves.

22

Illustrative Roadmap for a regional monetary arrangement
Monetary & financial Exchange rate stability of Notecrisis management
regional currencies
CMI,
Solidifying
Permanent
Designing and planning
financial system
ACU and regional monetary
Secretariat:
ERPD& Designing&currentnewframework

framework

surveillance etc

arrangements

The 1st Joint
Statement of
ASEAN+3

1999
First stage:
Consolidationof monetary
cooperation
2007
Secondstage:
Strengthening& completing
cooperation
2011-12
Third stage:
Consensus
building for aregional
monetarysystemEstablishing apermanent
secretariat:
Enhancingsurveillance,
discussion byexperts onregional
monetary
arrangements

Theoretical AMU
as a divergence
10th anniversary
index, issue of
AMU denominated of ASEAN+3, &the 2nd Joint
bond
Statement

Discussion on,
preparation for aregional monetarysystemaround 2015
Agreement on aregional monetarysystem(Creation ofCore AMU)

23

Significant
Progress in
FTA・EPA
network

Policy Recommendations
NEAT Working Group meeting in Tokyo
The NEAT working group (the WG) met in Tokyo on June 30, 2006, and discussed“Intra-regional Exchange Rate Stability and Prevention of Financial Crisis in East Asia”.
At the 9th annual meeting held in December 2005, the ASEAN+3 leaders declaredthat they would prepare a second Joint Statement on East Asia Cooperation on the tenthanniversary of ASEAN+3 process in 2007, to consolidate existing cooperation and to set
forth the future direction for the cooperation and East Asia community building.
As a response to the ASEAN+3 declaration from the viewpoint of private sector
think-tanks, the WG confirmed that it is important to further strengthen regional financial
cooperation based upon achievements up to now, such as the Chiang Mai Initiative (CMI),
Asian Bond Markets Initiative (ABMI), Asian Bond Fund (ABF), and the surveillancemechanism to enhance financial and monetary integration. With regard to the future
direction of financial cooperation, the WG reached a broad consensus that the mostimportant long-term objective for financial cooperation is to establish a stable exchange
rate mechanism in East Asia. This objective is essential for East Asia where economic
interdependence through trade and investment has progressed and is expected to increase
further, with the eventual creation of a free trade area within ASEAN+3. A stableexchange rate mechanism is also indispensable to maintain sound and sustainableeconomic growth, while avoiding financial instability which may lead to financial crisisin the environment of high capital mobility in East Asia.
Through meaningful and fruitful discussions on the current situation of financial
integration and the nature and causes of financial instability as discussed in this paper, theWG has reached an agreement to present the following seven policy recommendations to
the NEAT annual conference to be held in Kuala Lumpur on August 22-23 this year.
Recommendations:
1. Study on a currency basket
One of the lessons learned from the Asian financial crisis of 1997-98 was that theexchange rate regime of a de facto dollar peg, which the Asian countries had adopted
before the crisis, combined with inappropriate macro economic policy, was one of the24causes of financial instability. As suggested in the ASEAN+3 Finance Ministers’ meetingin May this year, we are of the opinion that a major study on regional currency units
should be conducted jointly by the official as well as the private sector. Based uponstudies and proposals by academics, the study should focus on various regional currency
units, with a view to eventually establishing a common currency basket system in theregion, thus avoiding the problems arising from a dollar peg. It will be a long anddifficult but most challenging task to reach a consensus on a common currency basket in
East Asia, where the development stages of the economies are highly diversified. A joint
study between the public and private sectors on the subject will provide an opportunity to
explore the most suitable exchange rate mechanism for East Asia, while deepening theunderstanding of the general public on this complex subject.
There are several options available for a common currency basket, such as acurrency basket composed of G3 currencies (the US dollar, euro and yen), a basket of
regional currencies, a mixture of the two, or other variations. Among these options, acommon currency basket composed of regional currencies is considered most suitable toachieve intra-regional exchange rate stability in East Asia, where economic
inter-dependence has deepened. Such a basket system is also expected to keep tradecompetitiveness relatively stable, and to lessen the volatility of capital flows in the region,
thus promoting economic integration.
2. Capital account liberalization and currency convertibility
It is desirable that each currency composing the common currency basket will meetcertain conditions in order to ensure confidence in the basket. The conditions may include,
among others, sound macro-economic indicators, such as inflation, fiscal balance andgovernment debt, capital account liberalization, and currency convertibility. Eachgovernment in the region should, therefore, in addition to maintaining soundmacro-economic management, carefully study the pros and cons of gradually liberalizing
capital accounts, while also establishing currency convertibility. In view of theexperience of the Asian financial crisis, it is important to carefully evaluate the impactthat capital account liberalization and currency convertibility may have on the domestic
monetary and financial markets.

25

In designing capital account liberalization and currency convertibility, it is very
important to consider the proper sequencing. Liberalization usually begins with thecurrent account, i.e., trade and trade-related financial transactions. Liberalization offinancial and monetary transactions usually starts with the liberalization of domestictransactions, later moving to cross-border transactions. The process then moves from thecurrent account to the capital account, which usually starts with inward foreign direct
investment (FDI). From FDI, the liberalization process will move gradually on tosecurities and long-term capital transactions, while finally arriving at the liberalization ofshort-term capital flows. The capacity building of financial institutions and businesses in
the region will help to expedite the process. Capital account liberalization could
contribute to regional financial integration, however, so particular attention should be
paid to the proper sequencing of liberalization which is dependent upon the stage of
economic development.
3. Surveillance
The WG felt that, although remarkable progress has been made in regional financial
cooperation, development of a regional surveillance mechanism should be morevigorously enhanced. A proper surveillance mechanism through the strengthening of the
ERPD (Economic Review and Policy Management) process under the CMI should bepromoted. In order to establish a stable exchange rate mechanism in the region in the longrun, it is indispensable for the regional governments to exchange information on capital
flows in order to deepen coordination in macro-economic and exchange rate policies. In
order to expedite and streamline this regional surveillance mechanism, it is essential toestablish a permanent secretariat in the ASEAN+3. The permanent secretariat should becomposed of experts from monetary authorities, central banks, and independent
economists.
4. The European experience
European experiences in regional financial integration in the past several decades
provide useful lessons for East Asia. They include, among others, creation of a common
basket called the European Currency Unit (ECU), the importance of creating asurveillance system and maintaining currency convertibility. Therefore, a study on the26

regional currency units for East Asia should include a study of the European experiences
as practical lessons for East Asia
5. Roadmap towards a regional exchange rate regime
It is always useful for governments in the region to review the progress which has
been achieved, and to draw a roadmap for the medium and long-term so that member
governments will make concerted efforts towards regional financial cooperation. The
prospective permanent secretariat for the ASEAN+3 should draw a roadmap from time totime that will be used for its consultations with the member countries in order to design
the roadmap for the long-term process towards an eventual common currency basket
system in East Asia.
6. Central bank governors
Since the central banks in the region contribute important initiatives and functions
towards maintaining a stable exchange rate regime, financial supervision, and regional
financial cooperation, their active participation in the cooperation process is
indispensable. As regional financial cooperation has been guided by the ASEAN+3
Finance Ministers meeting, it is recommended that central bank governors should
participate in the meeting as regular members.
7. Global imbalances
It is generally viewed that the US current account deficit may not be sustainable in
the long run, therefore solutions need to be found for the medium and long-term, while
avoiding a hard-landing scenario. It is expected that a multilateral dialogue among theUnited States, the EU and representative countries from the current account surplus
countries, such as China, Japan, and Saudi Arabia, led by the IMF, will be held in thenear future. Such a framework of dialogue should be strengthened in order to find a way
to solve global imbalances, and to mitigate the adverse impact that any possible
adjustment may have on the regional exchange rate regime as a whole.

27

(Attachment)
List of Participants in NEAT Working Group Meeting in Tokyo on June 30, 2006
(Countries in Alphabetical Order)
BruneiMr. SUHAIMI Haji Ali
Lecturer, The University of Brunei Darussalam

ChinaProf. XU Mingqi
Deputy Director, the Institute of World Economy
The Shanghai Academy of Social Sciences

Korea

Prof. LEE Choong Lyol
Korea University

Laos

Dr. Akhom PRASEUTH
Head of Exchange Rate Policies, Bank of Lao PDR

Malaysia

Mr. HUZAIME Hamid
Deputy Secretary-General, NEAT Malaysia

MyanmarMr. Thiha SAW
Deputy Secretary
Myanmar Institute of Strategic and International Studies(Myanmar ISIS), Ministry of Foreign Affairs

Philippines

Dr. Melanie MILO
Senior Research Fellow and NEAT Country Coordinator
Philippine Institute for Development Studies

Singapore

Dr. TAN Kim Song
Practice Associate Professor of Economics
Singapore Management University

Vietnam

Ms. Nguyen Hai YEN
Lecturer at the Faculty of International Economics
Institute for International Relations

28

JapanMr. Tadahiro ASAMI (Leader)Managing Director, Institute for International Monetary Affairs
Dr. Takatoshi ITO (Co-Leader)
Professor, Graduate School of Economics, The Tokyo University
Dr. Eiji OGAWA
Professor, Graduate School of Commerce and Management
Hitotsubashi University
Dr. Tetsuji MURASE
Professor, The International Center, Kyoto University
Dr. Junko SHIMIZU
Assistant Professor, Meikai University
Mr. Hajime SHINOHARA
Advisor, Institute for International Monetary Affairs
Mr. Naoyoshi KINUKAWA
Director, Economic Research Department
Institute for International Monetary Affairs
Mr. Yozo NISHIMURA
Senior Economist, Economic Research Department
Institute for International Monetary Affairs
Mr. Kenichiro MATSUI
Lead Economist, Economic Research Department
Institute for International Monetary Affairs
Ms. Catharina E. KOOPS
Visiting researcher, Institute for International Monetary Affairs
Ms. Miyuki FUJII
Senior Officer, Researcher Assistant,
The Japan Forum on International Relations, Inc.

29

Appendix: Initiatives under the ASEAN+3 Framework

1. Chiang Mai Initiative (CMI)
2. Economic Review and Policy Dialogue (ERPD)
3. Asian Bond Markets Initiative (ABMI)
4. ASEAN+3 Research Group5. Monitoring of Short-Term Capital Flow

1. Chiang Mai Initiative (CMI)
Objective
The Chiang Mai Initiative aims to create a network of bilateral swap arrangements(BSAs) among ASEAN+3 countries to address short-term liquidity difficulties in theregion and to supplement the existing international financial arrangements.
Background
After the Asian financial crisis, East Asian countries shared the need to promote regional
financial cooperation. At the ASEAN+3 Summit in November 1999, ASEAN+3 leadersagreed to enhance “self-help and support mechanisms in East Asia” through theASEAN+3 framework. At the ASEAN+3 Finance Ministers’ Meeting in May 2000,
finance ministers agreed to promote the Chiang Mai Initiative to establish a regional
financial arrangement to supplement the existing international facilities.
November 1999:
The 3rd ASEAN+3 Summit (Manila, the Philippines)−Leaders agreed to enhanceself-help and support mechanisms in East Asia.

30

May 2000:
The 2nd ASEAN+3 Finance Ministers’ Meeting (Chiang Mai, Thailand)−Finance ministers agreed to promote the Chiang Mai Initiative.
May 2004:
The 4th ASEAN+3 Finance Ministers Meetings in May 2004 (Jeju, Korea)−Finance ministers agreed to explore the ways of enhancing its effectiveness of CMI.
May 2005:
The 8th ASEAN+3 Finance Ministers’ Meeting in May 2005 (Istanbul, Turkey)−Finance ministers agreed to take the following measures to enhance the effectivenessof the CMI: (1) integration and enhancement of ASEAN+3 economic surveillance into
the CMI framework, (2) clear - defining of the swap activation process and the adoptionof a collective decision-making mechanism, (3) significant increase in the size of swaps,and (4) improvement of the drawdown mechanism.
Network of BSAs under the CMI (as of May 4, 2006, figure in next page)
Total amount: US$75.0 billion (16 arrangements)
BSAs were concluded among: China, Indonesia, Japan, the Republic of Korea, Malaysia,
the Philippines, Singapore, and Thailand.
Recent Progress
At the ASEAN+3 Finance Ministers Meeting in May 2006 (Hyderabad, India),finance ministers agreed to successfully complete the strengthening of the regionalliquidity support network (also known as the Second Phase of the CMI Review ),which was initiated at the Jeju ASEAN+3 Finance Ministers’ Meeting 2004. Following
substantial progress of the CMI has been made: (1) collective decision-making procedure
for the swap activation was adopted, (2) To explore the ways for further strengthening
surveillance capacity in East Asia, the Group of Experts (GOE) and the Technical
Working Group on Economic and Financial Monitoring (ETWG) would be launched, (3)the total swap size has now reached US$75.0 billion, almost doubled from a year ago.

31

Finance ministers agreed to task the Deputies to set up a “new task force” to further study
various possible options towards an advanced framework of the regional liquidity support
arrangement (CMI multilateralization or Post-CMI).
2. Economic Review and Policy Dialogue (ERPD)
Objective
Effective economic review and policy dialogue would contribute to the prevention offinancial crises through the early detection of irregularities and the swift implementationof remedial policy actions. It will also lay a foundation for providing immediate
assistance, such as the CMI, in the event of a crisis.
ASEAN+3 countries have been conducting Economic Review and Policy Dialogue(ERPD) at the Ministers’ level annually and at the Deputies’ level twice a year to discuss
economic and financial developments in the region.
Recent Progress
At the ASEAN+3 Finance Ministers’ Meeting in May 2006 (Hyderabad, India), financeministers agreed to launch the Group of Experts (GOE) and the Technical Working
Group on Economic and Financial Monitoring (ETWG) to explore the ways for further
strengthening surveillance capacity in East Asia.
3. Asian Bond Markets Initiative (ABMI)
Objective
The Asian Bond Markets Initiative aims to develop efficient and liquid bond markets in
Asia, enabling better utilization of Asian savings for Asian investments. Activities of the
ABMI focus on the following two areas: (1) facilitating access to the market through awider variety of issuers and (2) enhancing market infrastructure to foster bond markets in
Asia.
Recent Progress•Issuance of Korean Collateralized Bond Obligations (CBO) (“Pan-Asia Bond”) with32

guarantee by the Japan Bank for International Cooperation (JBIC) and the Industrial
Bank of Korea (IBK).
•

Issuance of baht-denominated bonds by Japanese subsidiaries in Thailand, Malaysia
and Indonesia with a partial credit guarantee from the JBIC and Nippon Export andInvestment Insurance (NEXI).

•

Issuance of local currency-denominated bonds by the Japan Bank for International
Cooperation (JBIC), World Bank, Asian Development Bank (ADB) and theInternational Finance Corporation (IFC) in Malaysia, Thailand, China, and thePhilippines.

•

Information dissemination through the Asian Bonds Online Website (ABW) at theADB.

At ASEAN+3 Finance Ministers’ Meeting in May 2006 (Hyderabad, India), financeministers noted that concrete progress had been made in the area of (i) local
currency-denominated bonds issued by various international and foreign institutions, (ii)local currency-denominated bonds issued through securitization. Ministers agreed that the
study on the issuance of the asset-backed Asian currency-basket bonds and cross-border
local currency bonds would contribute to the further development. Also, ministers
recognized a noticeable progress made in discussions on the market infrastructure
including Asian Bond Standards. Technical assistance should be continued to overcome
weaknesses identified in the regular self-assessment and information sharing exercises.
4. ASEAN+3 Research Group
Objective
The ASEAN+3 Research Group was proposed by Japan at the Informal ASEAN+3
Finance and Central Bank Deputies’ Meeting in November 2002, and agreed among
ASEAN+3 in August 2003.The Research Group aims to explore the ways to further
strengthen financial cooperation and promote financial stability in the region by soliciting
academic input from researchers and research institutes in ASEAN+3 countries.
Research Themes33

In 2006/07:(1) Toward Greater Financial Stability in the Asia Region: Exploring Steps to Create
Regional Monetary Units(2) Financial Conglomeration in the East Asian Region: Recent Trends and Implications
for Regional Financial Market Development
5. Monitoring of Short-Term Capital Flow
At the ASEAN+3 Finance Ministers’ Meeting in May 2001 (Honolulu, USA), financeministers agreed to exchange data on capital flows bilaterally among ASEAN+3 on a
voluntary basis to facilitate effective policy dialogue. Japan has been exchanging datawith the Republic of Korea, the Philippines, Thailand, Indonesia, and Viet Nam.

34

35

The Joint Ministerial Statement of the 8th ASEAN+3 Finance Ministers’ Meeting
4 May 2005, Istanbul, Turkey
Introduction
１． We, the Finance Ministers of ASEAN, China, Japan and the Republic of Korea(ASEAN+3), convened our eighth meeting in Istanbul, Turkey under the chairmanship ofH.E. Chansy Phosikham, Minister of Finance of Lao PDR.
２． We exchanged views on recent economic and financial developments and policies, andreviewed the progress of regional financial cooperation, including the Chiang Mai
Initiative, the Asian Bond Markets Initiative, and the ASEAN+3 Research Group.
Recent Economic and Financial Developments in the Region
３． We were pleased to note the region’s strong economic growth last year. Despite thesoftening of external demand, it was expected that the region would post still solid, thoughsomewhat moderated, growth this year.
４． To sustain the economic growth of the region particularly against the potential risks ofpersistently high oil prices and global imbalances, we reiterated our commitment toimplement structural reforms as well as to take appropriate macroeconomic policy
measures including policies to promote domestic demand-driven growth.
Strengthening East Asia Financial Cooperation
５． On the Chiang Mai Initiative (CMI), we reaffirmed our resolution to strengthen our
self-help and support mechanism in East Asia by making the CMI a more effective anddisciplined framework. As a basic principle for the review, we agreed to firmly maintainthe CMI’s two core objectives, namely, (1) to address short-term liquidity difficulties in
the region and (2) to supplement the existing international financial arrangements.
６． Taking into account (i) the improvement in our economic and financial situations and (ii)the advancement in our various initiatives for regional financial cooperation, such as
regional surveillance and the Asian Bond Markets Initiative, as well as reflecting theexisting vulnerabilities in the global financial markets, we agreed upon the following
measures to enhance the effectiveness of the CMI as a self-help and support mechanism:(I)

Integration and enhancement of ASEAN+3 economic surveillance into the
CMI framework to enable early detection of irregularities and swift remedial
policy actions, with a view to developing effective regional surveillancecapabilities that complements the current undertaking by the International
Financial Institutions (IFIs);

36

(II)

(III)

(IV)

Clear-defining of the swap activation process and the adoption of a collective
decision-making mechanism of the current network of bilateral swap
arrangements (BSA) as a first step of multilateralization so that the relevant BSAs
would be activated collectively and promptly in case of emergency; andSignificant increase in the size of swaps. The size of the BSAs should be
increased by (i) increasing the amount of existing bilateral commitment, (ii)concluding new BSAs, for example, among ASEAN countries, and (iii)transforming one-way BSAs to two-way BSAs. Member countries favored anenhancement of up to 100% increase of the existing individual arrangements while
noting that the size could be flexibly decided by bilateral negotiations. In thiscontext, the ASEAN Swap Arrangement has been doubled from US$ 1 Billion to
US$ 2 billion.
Improving the drawdown mechanism. The size of swaps that could be
withdrawn without the IMF-supported program would be increased from thecurrent 10% to 20% in order to better cope with sudden market irregularities while
the current framework to complement the international financial arrangements andother disciplined conditions would be firmly maintained.

７． To further enhance the CMI’s effectiveness, we tasked the Deputies to study the various
possible routes towards multilateralizing the CMI.
８． On the Asian Bond Markets Initiative (ABMI), we were pleased with the concrete
progress made to date, in particular the positive measures implemented in line with theaspiration of this Initiative. The notable achievements since our last meeting aresummarized in the ABMI progress report (to be uploaded to the Asian Bonds Online
Website (ABW) ). The East Asian local currency bond markets have grown rapidly, andsome structural improvements have been observed such as stretching of the government
bond yield curves and diversification of instruments and issuer base.
１

９． To further contribute to the development of deeper and more liquid regional bond markets
that would assist in the efficient allocation of the large pool of savings in Asia to financeproductive investment in the region, we will continue and expedite our efforts inundertaking a wide variety of studies and implementing various effective measures underthe ABMI working groups.
10． Embracing the initial success, we will introduce a roadmap that proposes gathering andsharing information in an integrated manner on bond market development and on our
related efforts with the regular self-assessment conducted by member countries. The
possible issuance of Asian currency-basket bonds could be explored under the auspices of
the roadmap. We also agreed to embark the study of Asian Bond Standards to explore thedevelopment of international bond markets in Asia through tailoring necessary
infrastructure and setting the procedure entrusted by global issuers and investors. We
acknowledged the merits of embracing the voluntary “practical alternatives” forwithholding tax treatment on bond holdings in promoting liquidity and cross-border
trading in the region.
37

11． On the ASEAN+3 Research Group, we acknowledged the usefulness of the findings andrecommendations of the studies on economic surveillance, economic and financial
integration in the region, regional financial architecture, and private sector development,
which contributed to our better understanding of closer financial cooperation in the region.
We also endorsed three research areas for 2005-06 that will collectively look at capitalflow liberalization and institutional arrangements; capital market development including
fostering asset management industry; and policy coordination forward in the region.
Asia’s Representation in the IMF
12． We called for an urgent review of the quota of the Asian countries in the IMF to properlyreflect the current realities and their relative positions in the world economy. This would
strengthen the mutual understanding between Asia and the IFIs.
Others
13． We thanked the ADB for its continued support for ASEAN+3 initiatives and welcomed
the Bank’s new focus on regional economic integration. We also expressed ourappreciation to the governments of Lao PDR and Turkey for the excellent arrangements.
14． We agreed to meet in Hyderabad, India in 2006.

http://asianbondsonline.adb.org
To be disseminated through the websites of the ASEAN Secretariat, the ADB, and member
countries where available.
１

２

38

The Joint Ministerial Statement of the 9th ASEAN+3 Finance Ministers’ Meeting
4 May 2006, Hyderabad, India
Introduction
１． We, the Finance Ministers of the ASEAN, China, Japan, and Korea (ASEAN+3),
convened our ninth meeting in Hyderabad, India, under the chairmanship of Senior
Minister Keat Chhon, Minister of Economy and Finance of the Kingdom of Cambodia.
２． We exchanged views on regional economic and financial developments and policies. We
also reviewed the progress of regional financial cooperation processes, including the
Chiang Mai Initiative, the Asian Bond Markets Initiative, and the ASEAN+3 ResearchGroup, and explored ways to further enhance regional cooperation.
Recent Economic and Financial Developments in the Region
３． We were pleased to note that East Asia had maintained a strong growth momentum andthat the overall economic outlook remained bright in 2006, as assessed by our own peer
review mechanism, “Economic Review and Policy Dialogue (ERPD),” as well as
International Financial Institutions (IFIs). Nevertheless, we shared a view that there were anumber of potential downside risks such as persistently high oil prices, widening global
imbalances, upward global interest rates trend, and potentially adverse effect of avian flu
pandemics.
４． We acknowledged the deepening economic interdependence and increasing financial
market openness in the region. In order to achieve sustainable economic growth in East
Asia, we underscored the importance of implementing appropriate macroeconomic policy
mix and accelerating economic structural reforms. We also agreed to further strengthen thecooperation in policy development to cope with such potential risks. In particular, given
the recent spike of oil prices, we strongly urged for swift actions both on the demand andsupply side to stabilize the oil market and underscored the need for enhancing dialogue
between oil producing and consuming countries to improve market information andtransparency.
Strengthening East Asia Financial Cooperation
５． On the Chiang Mai Initiative (CMI), substantial progress has continued to be made. In
particular, the strengthening of the regional liquidity support network (also known as “theSecond Phase of the CMI Review”), which was initiated at the Jeju ASEAN+3 Finance
Ministers’ Meeting 2004, had been successfully completed, as explained below. Here, we
reaffirmed to firmly maintain the CMI’s two core objectives, namely, (1) to address
short-term liquidity difficulties in the region and (2) to supplement the existing
international financial arrangements.

39

(i)

Collective decision-making procedure for the swap activation was adopted. All
Swap Providing Countries can simultaneously and promptly provide liquidity
support to any parties involved in bilateral swap arrangements (BSA) at times of
emergency;(ii)

To explore the ways for further strengthening surveillance capacity in East
Asia, the Group of Experts (GOE) and the Technical Working Group on
Economic and Financial Monitoring (ETWG) would be launched. The GOE,
composed of several regional professional experts, would serve as an independent
economic assessment vehicle for this region. The ETWG would play an importantrole in developing and spreading the Early Warning System to facilitate early
detection of irregularities.

(iii)

The total swap size has now reached US$75.0 billion, almost doubled from ayear ago. Nine BSAs have been revised since last year to enhance the effectivenessof CMI reflecting the Istanbul Agreement.

６． Looking ahead, we tasked the Deputies to set up a “new task force” to further study
various possible options towards an advanced framework of the regional liquidity support
arrangement (CMI multilateralization or Post-CMI), based upon their exploration during
the past year. Moreover, we instructed the Deputies to enhance the regional surveillance
capacities.
７． On the Asian Bond Markets Initiative (ABMI), we noted that concrete progress had
been made as indicated by the fact the size of the local currency bond market in the region
has more than quadrupled since 1997. Following the issuance of Pan-Asia Bond in 2004,
the achievements included (i) local currency-denominated bonds issued by various
international and foreign institutions such as Baht-denominated bonds, Peso-denominatedbonds, Renminbi-denominated bonds (Panda Bond), and Ringgit-denominated bonds; and(ii) local currency-denominated bonds issued through securitization. We believed that the
study on the issuance of the asset-backed Asian currency-basket bonds and cross-border
local currency bonds would contribute to further development.
８． We recognized a noticeable progress made in discussions on the market infrastructure,including regional credit guarantee and investment mechanism, settlement system, credit
ratings, and the Asian Bond Standards. We agreed that the on-going discussions should befurther expedited to promote development of an international bond market in the region.
We concurred that technical assistance should be continued to overcome weaknesses
identified in the regular self-assessment and information sharing exercises.
９． On the ASEAN+3 Research Group, we acknowledged the usefulness of the input fromresearchers and research institutes in the region. The research reports for 2005-2006 will
be disseminated through the websites of the ASEAN Secretariat, the ADB, and member
countries where available. We endorsed two research topics for 2006-07: “Toward greater
40

financial stability in the Asian region: Exploring steps to create regional monetary units”(led by a Japanese research institute) and “Financial conglomeration in the East Asian
region: Recent trends and implications for regional financial market development” (led bya Korean research institute).
ASEAN+3 and the International Financial Institutions (IFIs)
10． In order to ensure the credibility and legitimacy of the Bretton Woods Institutions in the
rapidly changing global economy, we emphasized the importance of an ad hoc quota
increase for significantly under-represented countries in the IMF. We called upon its
Managing Director to work with the IMFC and Executive Board to come forward withconcrete proposals for agreement at the upcoming IMF and World Bank Annual Meetingsin Singapore. We agreed that we would play active roles in the IMF policy-making andsupport its activities.
11． We appreciated the IFIs such as the ADB and IMF for their continued efforts to support
ASEAN+3 initiatives related to the regional surveillance activities. We heard thepresentation by the ADB President, Mr. Haruhiko Kuroda, on the economic outlook forthe region. We also welcomed the ADB’s ongoing works on the regional bond market
development.
Others
12． We expressed our appreciation to governments of the Kingdom of Cambodia and theRepublic of Korea for the excellent arrangements as the co-chairs of the ASEAN+3
Finance Ministers’ Process. We also thanked government of the Republic of India for its
hospitality and kind cooperation.
13． We agreed to meet in Kyoto, Japan, in 2007. The Kingdom of Thailand and the People’s
Republic of China would co-chair the ASEAN+3 Finance Ministers’ Process in 2007.

41

Joint Message
The 6th Trilateral (China, Japan and Korea)
Finance Ministers’ Meeting
May 4th, 2006, Hyderabad, India
１． We, the Finance Ministers of China, Japan and Korea, held our 6th meeting in Hyderabad,
India, and exchanged views on the regional economic prospects, regional financial
cooperation, and ways to improve our representation in the International Financial
Institutions (IFIs).
２． Through meaningful and fruitful discussions, we have made considerable progress in thecooperation among the three countries as the following:
2-1.
We noted that the prospects of three countries’ economic growth for 2006 are
positive because of the strong demand in the region and continued robust growth of
the world economy although the continuous high oil price and an upward trend of
the interest rates in the world may pose a major risk to the regional economy.
2-2.
We agreed that the regional financial cooperation within the ASEAN+3 is goingtoward a favorable direction. We welcomed the completion of the CMI review,which started in the 2004 ASEAN+3 Finance Ministers’ Meeting in Jeju. We also
agreed to make continuous efforts to seek the possibility to further enhance theregional financial cooperation beyond the CMI, including exploring the ways ofachieving multilateralisation of the CMI (a new framework or post-CMI). We also
reaffirmed our strong commitment to promote other regional cooperation projects
such as the Asian Bond Markets Initiative (ABMI) etc. We noted the importance ofsharing a long-term vision for financial integration in the region; we agreed on
further study of related issues, including the usefulness of regional currency units,
through the ASEAN+3 Finance Ministers’ Process.
2-3.
Furthermore, we recognized the need to strengthen our roles in achieving global aswell as regional sustainable growth and financial market stability. We
acknowledged the importance of addressing the issue of significant
under-representation of the countries whose current economic strength and therelative position in the global economy are not properly reflected in the IFIs andensuring its legitimacy. We also emphasized the importance of an ad hoc quota
increase in IMF, and called upon its Managing Director to work with the IMFC and
Executive Board to come forward with concrete proposals for agreement at thenext IMF and World Bank Annual Meetings in Singapore. On our side, we will
strengthen our participation in the IMF activities.
３． Based on our strenuous efforts thus far and the success of this meeting, we agreed tocontinue our meeting for closer policy dialogue among the three countries.

42