Cambodia's Persistent Dollarization: Causes and Policy Options

Cambodia's economic and social achievements over the past ten years have been the most impressive in its history. Nevertheless, Cambodia today is still as dollarized, if not more so, than it was ten years ago. What is this so, and what, if anything, should the Government do? This paper attempts to answer both these questions, by examining the reasons behind the apparent paradox between a decade of economic and political improvements and continued dollarization, and drawing policy implications from it. We advise against pursuing enforced dedollarization, and advocate a policy option that focuses instead on accelerating accommodative reforms, especially in the financial sector and on legal and institutional reforms. We also identify a host of institutional barriers that need to be overcome to prepare the groundwork for a natural process of de-dollarization.Cambodia; dollarization; exchange rates; currency board; hysteresis

From Spaghetti Bowl to Jigsaw Puzzle? Addressing the Disarray in the World Trade System

The rise of mega-regionals such as the Regional Comprehensive Economic Partnership (RCEP) and the Trans-Pacific Partnership (TPP) suggests that the world trade system is fragmenting to the point it appears more like a jigsaw puzzle than a spaghetti bowl. There are both regional and global jigsaw puzzles to be solved—in that order—to clean up the world trade system. But is this even likely? The difficulties of free trade agreement (FTA) consolidation at the regional level are well known, while piecing together the blocs around the world to form a coherent whole is even more challenging. In this context, a way forward is to return to the most widely used modality of trade liberalization—unilateral actions—but this time involving the multilateralization of preferences rather than unreciprocated reductions in tariff rates. As more and more FTAs are negotiated, preference erosion sets in, reducing the resistance of FTA partners to multilateralization. Multilateralization of preferences may then present a practical way forward in addressing the disarray in the world trade system

Managing Success in Viet Nam: Macroeconomic Consequences of Large Capital Inflows with Limited Policy Tools

Viet Nam has experienced spectacular economic growth over the past decade, in part the result of massive foreign direct investment (FDI) inflows. Although much has been written on the impacts of FDI in developing countries, previous studies have generally ignored macroeconomic consequences in cost-benefit assessments. These macroeconomic aspects can be particularly important in transitional economies like Viet Nam, where some of the tools for macroeconomic stabilization may be blunt or unavailable. First, capital inflow growth needs to be accommodated by real exchange rate appreciation. In dollarized economies like Viet Nam, the nominal exchange rate cannot be relied upon to deliver it, so inflation usually results. In these economies, it is also difficult for the central bank to conduct open market operations to sterilize large capital inflows or mop up excess liquidity. Again, this could feed inflation. The combination of a young and inexperienced banking system and an investment-hungry state-owned enterprises (SOE) sector only exacerbates the situation, and increases the risk of imbalances that could result in crisis.capital inflow; macroeconomic adjustment; FDI; real exchange rate; Viet Nam

Managing Success in Viet Nam: Macroeconomic Consequences of Large Capital Inflows with Limited Policy Tools

Viet Nam has experienced spectacular economic growth over the past decade, in part the result of massive foreign direct investment (FDI) inflows. Although much has been written on the impacts of FDI in developing countries, previous studies have generally ignored macroeconomic consequences in cost-benefit assessments. These macroeconomic aspects can be particularly important in transitional economies like Viet Nam, where some of the tools for macroeconomic stabilization may be blunt or unavailable. First, capital inflow growth needs to be accommodated by real exchange rate appreciation. In dollarized economies like Viet Nam, the nominal exchange rate cannot be relied upon to deliver it, so inflation usually results. In these economies, it is also difficult for the central bank to conduct open market operations to sterilize large capital inflows or mop up excess liquidity. Again, this could feed inflation. The combination of a young and inexperienced banking system and an investment-hungry state-owned enterprises (SOE) sector only exacerbates the situation, and increases the risk of imbalances that could result in crisis

Building blocks or stumbling blocks? Regional cooperation arrangements in Southeast Asia

This paper examines the inter-relationships between subregionalism, regionalism, and multilateralism using the Greater Mekong Subregion (GMS) and the ASEAN Free Trade Area (AFTA) as case studies. In particular, we look at whether subregionalism or regionalism can assist a country in moving towards multilateralism. We find that the GMS program is assisting its members to integrate more closely with the ASEAN region and, through this, with the rest of the world. As a program based on market rather than institutional integration, the GMS is promoting regionalism without hampering multilateralism. With regard to AFTA, if members pursue open regionalism and offer their trade and other preferences to nonmembers on a nondiscriminatory basis, then this is consistent with the objectives of multilateralism. For the original ASEAN members, AFTA has actually hastened the speed at which they have moved towards their goal of free trade because of the ambitious liberalization program it has committed them to. The newer ASEAN members should follow suit if they are going to maximize the benefits from liberalization and minimize the costs associated with trade diversion and trade, production, and investment deflection

Bilateral trade agreements and the world trading system

The interest in forming BTAs has been growing at a phenomenal rate. In the Asia-Pacific region alone, the number of BTAs has more than tripled over the past 5 years, from 57 in 2002 to 176 in October 2006. There are more than 300 worldwide. In this paper, we try to explain the proliferation of BTAs by identifying the underlying motivations behind them. We identify a set of general and specific factors involved. The general factors related to disenchantment with progress of the WTO; snowballing and domino effects as a result of countries not wanting to be left behind; lower visibility and thus lower resistance from opposing forces; and pure politics driven directly by politicians or political parties. There are three broad categories of specific factors that we identify: economic; strategic and event driven. Each are further divided into sub-categories and in total we identify 11 specific factors to explain the proliferation of BTAs. Next we look at the impact of BTAs on multilateralism and the world trading system. In general, it is would appear that the sheer number of BTAs and their continued rapid growth is fragmenting the world trading system. The most obvious effect is the much discussed spaghetti-bowl effect. It is also distracting, and drawing scarce resources away from the multilateral effort. But the story is not that simple or straight-forward once we consider specific factors. The fallacy of division applies because the motivation in pursuing a BTA can determine if its impact on the world trading system is positive or negative. Most of the event driven BTAs appear to either support multilateralism or have a positive effect on the world trading system. All of the strategically motivated BTAs appear to have a negative effect. Of the economically motivated BTAs, sector expanding and market restoring BTAs have the potential of supporting the multilateral process, while market creating and sector excluding BTAs appear to threaten it. Finally, we look at what the future might hold. Are BTAs likely to continue proliferating? It seems that they will until the world trading system is so distorted that countries will be forced to seek a remedy. This response may take several forms. One is the consolidation of BTAs into region-wide PTAs, or blocks, where the various BTAs between members belonging to the same region become largely redundant. For instance, an Asia-wide FTA would supersede a host of regional BTAs and consolidate them into one region-wide agreement. Although this may reduce the number of intra-regional BTAs, it may serve to further fragment the world trading system by carving it up into distinct regional blocks. Furthermore, it may provide fresh impetus for a new wave of market restoring BTAs as traditional trade partners outside the region seek to retain trade access with members of the consolidated PTA. In fact, with more countries outside the region that inside, it is possible that the total number of BTAs could actually increase. Thus, consolidation through region-wide PTAs is not the remedy to the problems facing the world trading system. The second response may come in the form of the completion of the Doha round with minimum compromises. A bona fide conclusion to the Doha Round should dilute preferences that are currently scattered around the world, and take away much of the incentive to continue pursuing BTAs. If this happens, then the proliferation of BTAs would have contributed to their eventual demise, in terms of their impact on the world trading system. This is much more like a remedy to the problems facing the world trading system. But what is the Doha round fails, or is concluded in such a watered-down form that its impact is minimal? Although this may provide an additional incentive to pursue more BTAs and PTAs, there may eventually come a point where countries may voluntarily seek a remedy that lies in their own best interests. Not only is the cost of administering and implementing multiple country-specific BTAs high, it rises with the number of BTAs. Once a country has concluded BTAs with most of its major trading partners, it makes sense to: equalize preferences across these BTAs and offer them to non-BTA countries on an MFN basis. This would remove the administrative burden, and eliminate distortions to country and global trade patterns. As it is with reversing much of second-best policies, it is the actual realized cost of implementation rather than any potential unrealized benefits that usually drives the process. And there are significant potential unrealized benefits that will accrue to the country concerned as well as the world trading system if this process of multilateralizing preferences is pursued, whatever the reason

Preferential and Non-Preferential Approaches to Trade Liberalization in East Asia: What Differences Do Utilization Rates and Reciprocity Make?

Previous studies on the impacts of free trade agreements (FTAs) in East Asia have assumed full utilization of preferences. The evidence suggests that this assumption is seriously in error, with the estimated uptake particularly low in East Asia. In this paper, we assume a more realistic utilization rate in estimating impacts. We find that actual utilization rates significantly diminish the benefits from preferential liberalization, but in a non-linear way. Reciprocity is an important motivation for pursuing FTAs over unilateral actions, although the Doha Round could deliver the same outcome if only it could be concluded. We isolate the impact of reciprocity, but find that the additional benefits also depend on utilization rates. Furthermore, the potential for trade deflection combined with possible retaliatory actions could negatively affect members and non-members. In the absence of Doha, the multilateralization of preferences, even without reciprocity, is the practical route that is most likely to deliver the greatest benefits to members. Global liberalization, while difficult to attain, would maximize world welfare while posing no risk in its realization

Global Production Sharing, Trade Patterns, and Determinants of Trade Flows in East Asia

Global production sharing—the breakup of a production process into vertically separated stages that are carried out in different countries—has become one of the defining characteristics of world trade over the past few decades. Any analysis of trade patterns or its determinants that ignores this phenomenon, and the trade in parts and components that it generates, is likely to result in erroneous conclusions. This study examines the extent and pattern of these flows, focusing on East Asia, and probes its implications for the analysis of the determinants of trade flows. World trade in parts and components increased from about 18.9% to 22.3% of total exports between 1992/93 and 2005/06. Most of this growth emanates from East Asia, with its share in total world exports increasing from 27% to 39% over the same period. There was a notable decline in Japan’s share toward the end of this period, but this was more than offset by the rising importance of the People's Republic of China (PRC). In East Asia, most of this trade is in electronics. The econometric analysis reveals that parts and components are remarkably less sensitive to changes in relative prices; as a result, the sensitivity of aggregate trade flows to relative price changes diminishes as its share increases. This implies that exchange rate policy may be less effective in balance of payments adjustment, in countries where component trade is high and growing.Global production sharing; product fragmentation trade; determinants of trade flows; exchange rate policy

Financial safety nets in Asia: genesis, evolution, adequacy, and way forward

This working paper discusses the need to for Australia to further strengthen its economic ties with other South East Asian nations, making particular reference to future international trade. The impetus for strengthening regional financial safety nets among members of the Association of Southeast Asian Nations (ASEAN) came following the Asian Financial Crisis (AFC) of 1997/98. Although there was an existing insurance mechanism in the form of the ASEAN Swap Arrangement (ASA)—which had been used a couple of times in the early 1990s, although not really in a crisis context—the ASA proved miserably inadequate in the face of the huge amounts of financing required by countries affected by the AFC. Despite pledges of external support from other countries in the region, the AFC-affected countries were eventually forced to turn to the International Monetary Fund (IMF) for the massive bailouts required. With the resentment that derived from the bitter medicine prescribed, a decision was taken to pursue a regional safety net that could provide a real alternative. The initial step was taken with the creation of the Chiang Mai Initiative (CMI) in 2000, which expanded the bilateral swaps of the ASA, both in size and membership, to include three additional members: the People’s Republic of China (PRC), Japan, and the Republic of Korea. The CMI’s first major test came in September 2008 when, following the Lehman Brothers collapse, short-term capital quickly exited emerging economies. Members of the CMI that required liquidity support did not turn to it, but instead rushed to secure bilateral swaps with and support from the US, PRC, Japan, Australia, regional development banks, and multilaterals

Narrowing the Development Divide in ASEAN: The Role of Policy

The Association of Southeast Asian Nations (ASEAN) is highly diverse. It is also divided. The most striking example is the development divide that separates ASEAN’s newer members of Cambodia, the Lao People’s Democratic Republic, Myanmar, and Viet Nam—the CLMV countries—from the organization’s original members, or ASEAN-6. More rapid growth in Cambodia, Lao People’s Democratic Republic, and Viet Nam since the 1990s—driven by trade, investment, and other market reforms—has reduced income differences between this grouping and ASEAN-6. Yet, while the development divide has narrowed, huge gaps remain. The further narrowing of these gaps will require an increase in the pace and breadth of policy reforms, and start addressing labor mobility. Although rapid growth has resulted in convergence among ASEAN members, it has also increased polarization within individual countries. This can threaten social cohesion and the sustainability of future growth. There is a pressing need to invest more in education and health, and to institute land reform