I. Introduction In this paper, I will discuss the history of Japan’s policy position as it pertains to IMF conditionality.

Since Japan is an industrialized nation that generally does not approach the IMF for assistance, I employed the 1997 Asian Finance Crisis as a case study. With many vested interests in the stability of the region, Japan was prompted to clearly articulate its policies concerning IMF conditionality during the developments of the crisis. Furthermore, this discussion will naturally include Japan’s underlying interests in the East Asian economies and will conclude with Japan’s present-day policy objectives for the region. II. Background of the 1997 Asian Finance Crisis In July of 2007, the Asian Financial Crisis “began in Southeast Asia when foreign bankers, investors, currency speculators, and market analysts lost confidence in Thailand's ability to cope with a deteriorating economic situation, including a rising trade deficit and a growing international debt that had reached 50 percent of Gross Domestic Product.” (Cronin) During the 1990’s, foreign investors poured vast amounts of capital into the booming East Asian economies to reap the highly attractive rates of return. This heavy influx of foreign investment allowed East Asian governments, businesses, and banks to access credit for much lower rates than domestic sources. Such a high scale of leverage led to unsustainable borrowing, and when profit expectations were finally “undermined by developments such as competition from lower cost production in China,1 a glut of office space and hotel rooms, or a collapse of computer chip prices… bankruptcies soared.” (Cronin)

The high magnitude of business defaults created downward pressure on economic growth, even before the currency crises swept the region. The economic slowdown acted as a catalyst that undermined the confidence of investors both at home and abroad, and thereby created an environment of uncertainty. Foreign investors responded by selling their domestic currency holdings en masse, while buying the more stable US dollar. Meanwhile, the inflow of foreign direct investment (FDI) decreased as investors fled to safer assets, which caused a pronounced decline in asset prices from currency and stock evaluations to real estate. At last, since the South East Asian governments were in a difficult position to service their accumulating debt obligations, the result was ominous: a “dangerous buildup of debt and excessive property development and manufacturing capacity,” (Cronin) which further dragged down economic growth and led to a regional crisis that eventually spilled over into the broader international financial system. III. IMF Intervention As aforementioned, the IMF was established “to promote exchange stability and international monetary cooperation, facilitate the expansion and balanced growth of international trade, and during a serious crisis, to act as a lender of last resort.” In the last two decades, the IMF has predominantly assisted developing countries. Either the borrowing countries encountered a temporary imbalance in payments because: (a) they were fledgling economies with recurring macroeconomic problems, or in the more unique case of the Asian Finance Crisis, (b) they were burgeoning economies with commendable

track records that faced temporary setbacks. But the primary function of the IMF, regardless of a country’s past economic performance, is to address the balance of payments difficulties that a country cannot overcome by its own means. If every other option is exhausted, the country is forced to approach the IMF, which is perceived to be the only lender that can grant the necessary funding without the private sector’s prerequisite of having internationally-accepted collateral. During the Asian Finance Crisis, the countries of Indonesia, Thailand, Philippines, and eventually, South Korea received IMF aid to offset the collective shock that impacted the South East Asian region. The use of IMF funds was tied to the fulfillment of specific conditions that “consisted of macroeconomic variables and structural measures that were within the Fund’s core areas of responsibility.” (Guidelines on Conditionality pg. 2) These conditions included: “requirements that recipient governments end the kinds of collusive practices that have brought about the current crisis, and which have the effect of giving special advantages to favored domestic producers and monopolies, and open up their economies to foreign trade and investment. These are over and above more basic requirements to put their banking and financial systems in better order, achieve budget surpluses, and-somewhat contradictorily-reduce their trade deficits.” (Cronin) In the given case of the Asian Financial Crisis, the issue of conditionality became a major point of contention between Japan and the United States because the two economic powers held different understandings as to the nature of the crisis and conflicting interests

(Please see Appendix) in the region. It is evident in the preceding excerpt that the IMF (perhaps at the behest of the US) blamed crony capitalism for the crisis. This misguided claim is seen by many observers to be a direct attack against the Asian bureaucratic mode of economic management, which was the economic philosophy that underpinned the region’s miraculous acceleration of growth in the post-WII period. IV. Japan’s Position on IMF Conditionality As a result, Japan was “less sympathetic to the emphasis on restoring confidence and market-oriented reform advanced by the Treasury Department and the IMF.” (Haggard) In response, the Japanese were adamantly against the IMF’s proposed conditionality commitments, which included the liberalization of the financial sector and the imposition of fiscal spending restrictions. There were three distinct reasons why the Japanese held this view: A) The austere conditionality imposed on the East Asian countries would exacerbate, rather than alleviate, their economic and financial troubles. The Japanese cited the case of Indonesia, which was harmed greatly by the IMF-mandated structural adjustments and the case of Malaysia, which denied the advice of the IMF and fared better with their capital control policies.2 B) The liberalization of the financial markets would allow predatory investors, namely from the US, to

infiltrate the South East Asian economies and to purchase large stakes at discount prices. C) The IMF conditionality commitments would not only infringe upon their economic sovereignty, but also breach their political sovereignty and thus pose a threat to their way of life.3 For these three reasons, the Japanese proposed the establishment of the Asian Monetary Fund (AMF) to be capitalized at $100 billion. The AMF would be a “regional financial surveillance mechanism and an emergency loan facility designed to detect and preemptively suppress financial crises.” (Kirshner pg. 266) The strategic importance of the AMF organization would have been the exclusion of the US. Since the AMF would essentially provide the services of the IMF less the conditionality, the US would not have the clout to dominate the AMF’s policies. (Please see Appendix 2) As global financial markets are increasingly integrating, Japan has gradually opened its markets to greater capital liberalization and foreign investment while simultaneously seeking to shelter the wider region from globalized capital flows.” (Kirshner pg. 264). Due to the increased efforts of the US to manifest its power in the region and the covert exploitation of the capital flows by US investors, Japan has devised a strategy to essentially shelter its traditional sphere of influence. According to the Japanese perspective, the IMF response to the Asian Financial Crisis was both flawed and exploitative. For this reason, Japan hoped to spearhead the international response to the financial crisis. After the US prevented the AMF to materialize, the US-

Japanese negotiations continued until the US yielded and allowed Japan to establish the Miyazawa Initiative in East Asia as an international “Keynesian policy package” to revitalize East Asian economies and to offer financial support to Malaysia. V. Current Policy The policy of the IMF has essentially remained the same since the 1997 Asian Finance Crisis. The IMF still mandates debtor nations to implement internal adjustments to their economies that typically include “drastic cuts in government spending, a sharp rise in interest rates, reduction in government deficit, deregulation of prices, privatization of government industries, exchange-rate devaluation, end to government sponsored consumer subsidies, and the elimination of trade barriers” (Sidell). However, there may be a paradigm shift in progress as the dynamic economic relations are changing between the developed and developing countries. With the recent inception of the G20 Summit, the vitality of the emerging markets are becoming an increasingly important factor to the growth and stability of the industrialized nations. Thus, a new international structure may develop and the role of the IMF will naturally evolve. Will the IMF maintain its orthodox conditionality demands? This question must be considered more thoroughly, given the fact that a recipient country’s capacity to cope with the IMF’s austere structural adjustments is often the main reason why those countries cannot repay their IMF loans. If the IMF extends the temporary funding, but mandates a set of condition that further obstructs economic activity, how will the recipient country—which is often a developing country—make progress towards economic growth and development? In the IMF’s 2001 Annual

Report, this very question was addressed with a possible solution centered on streamlining, which is aimed to make conditionality “more efficient, effective, and focused.” (Collingwood) In accordance with the first reason (A) why the Japanese were against IMF conditionality, the IMF’s 2001 Annual Report states that conditionality should “henceforth be formulated on the presumption that structural conditionality will be limited to a core set of essential measures that are macro-relevant and in the Fund’s core area of responsibility, with a broader approach requiring justification.” With the Asian Finance Crisis in recent memory, the Directors of the IMF decided to effectively streamline their conditionality to better focus on its core areas of responsibility. The IMF did not mention the reason behind this change in policy, but their failure to revive the economies of South East Asia is at the root of this new shift away from broadbased conditionality. Furthermore, not only were the IMF policies unsuccessful in achieving their intended outcomes, they trampled upon the borrowing countries’ rights of political and economic sovereignty, which was essentially the third reason (3) why Japan was against conditionality. According to the IMF’s 2001 Report: “The IMF Directors… cited concerns that IMF-supported programs sometimes short-circuited national decision-making process…and considering that national ownership was essential to the successful and sustained implementation of a program of economic policies, Directors underscored the importance of avoiding ill-focused

or unduly intrusive conditionality that could detract from national ownership.” VI. Conclusion In conclusion, the history of Japan’s policies concerning IMF conditionality was encapsulated in case study of the Asian Finance Crisis. First, Japan was adamantly against the austere conditions imposed by the IMF because their effect was to worsen the economic conditions of the recipient country. Secondly, the conditionality that was beyond the scope of the IMF’s core responsibilities, particularly with regard to the liberalization of the financial markets, would allow foreign investors to infiltrate the South East Asian economies and to purchase large stakes in their firms for a reduced price. And lastly, Japan is against the IMF’s practice of forcing borrowing countries to bear their conditions and to internalize their policies because it is an infringement of state sovereignty. With regard to current policy, the 2001 Annual Report has addressed the first (1) and third (3) grievances expressed by Japan. The Directors of the IMF have acknowledged the fact that IMF conditionality is in need of reform and for this reason, they have taken measures to streamline conditionality and to allow recipient countries to have more ownership of the IMF programs. The IMF’s orthodox approach has been rigid and flawed in its most recent application, as seen in the Asian Finance Crisis, and consequently, the “liberalization remedy” may not be the most prudent prescription. Perhaps the measures taken to streamline conditionality and to allow recipient countries to have more ownership of the IMF programs can start a new dialogue on the nature of the IMF's relations with recipient

countries—particularly to ensure developing countries that their IMF relationship is based on good will and cooperation rather than domination.

According to Takashi Shiraishi of the Center for Southeast Asian Studies at Kyoto University, the policy position shared by the US—and “its proxy, the IMF”— vis-à-vis the coining of the phrase “South East Asia” in the latter half of the twentieth century as opposed to “China

and its vicinities.” (Shiraishi pg. 4) The US strategy involved the containment of China, the revival of Japan as “the workshop of Asia” and the development of Southeast Asia to establish a triangular trade system between the US, Japan and Southeast Asia. (Shiraishi pg. 4) This regional structure facilitated a network of strong economic ties among the South East Asian countries, and thereby promoted the rapid economic growth that garnered worldwide acclaim. Given this structure, the interests of Japan have been grounded on the primary policy objective of maintaining this economic cooperation. From the late 1980’s into the 1990’s, the acceleration of the region’s economies opened up new opportunities for Japan. At the behest of their respective governments, the South East Asian countries drastically improved their educational systems and successfully produced a highly-skilled, but low-cost labor force which attracted Japanese manufacturing firms to expand their operations in the region. Gradually, economic cooperation evolved from “trade promotion and resource procurement as it did in the 1960s and 1970s, to the encouragement of regional economic development with Japanese foreign direct investment (FDI), Japanese aid for industrial, infrastructural and human resources development, and Japanese imports from Asian NICs and ASEAN countries.” (Shiraishi pg. 6) Since Japan has an export-driven economy and accumulates a large trade surplus, the Japanese can “recycle” the excess funds through investment opportunities in the developing countries, which yield high rates of return for Japanese investors. As a result, Japan’s main interests in the region are centered on (a) the manufacturing process that has become integrated among the South East Asian economies, (b) the heavy flow of trade that exists between them, and finally, (c) the overall stability of the region’s financial markets. A) The South East Asian economies allow Japanese-owned producers to incur relatively lower costs of production.


The developing countries are also a source of consumer demand for capital-intensive Japanese exports (mainly finished products). In turn, the Japanese industries extract the region’s abundant resource endowments (raw materials). Japanese banks were “highly exposed to Asia with 40% of total foreign lending by Japanese banks going to the region.”(Haggard)


 JAPANESE INTERESTS: Depends on the South East Asian economies both as low-cost producers for their manufacturing process and as consumers of their finished products. Secondarily, Japan had a high proportion of its FDI embedded in the region.  US INTEREST: During the technology boom of the 1990’s, a greater proportion of the US population began to invest their savings in securities markets in the US and abroad. US national interests had “come to be defined primarily in financial terms and embedded in US-led and dominated financial globalization and liberalization.” (Shiraishi pg. 7) South East Asia was a great opportunity for US firms to purchase foreign firms and dominate their financial markets. Therefore, both countries had strong financial interests in the region, but the US was in a better position during its 1990’s period of economic expansion to make investments whereas Japan was mired in a recession.

In the wake of WWII, the Japanese bureaucracy was at the helm of the economy, and facilitated the early development of Japan’s domestic producers through the use of protectionist policies. In opposition to the American free-market model, the Japanese government and its respective agencies4 parlayed its highly educated

and disciplined labor force to eventually become a frontrunner of global economic activity. As the second largest economy in the world, Japan has illustrated its power and influence through its active participation in the Bretton Woods institutions, particularly via its leadership as a member of the International Monetary Fund (IMF).

Concluding Comments
Several statistical studies have suggested that Japanese influence in the IMF is constrained. There is evidence that “the U.S. has been willing to reward friends and punish enemies only since 1990. More specifically, there is strong evidence that the political interests of the United States drive much of the behavior of one of the most important multilateral organizations in the post-hegemonic global economy—the IMF.” (Thacker) In fact, the empirical data that indicates IMF loans tend to be: A) Larger to countries with close security ties to the United States (Thacker, 1999) B) C) And high bank exposure of US banks (Broz and Hawes, 2003). And high exposure of Japanese banks tends to be negatively correlated with the size of IMF loans (Oatley, 2002).

In conclusion, there is data that suggests the notion that IMF policy is institutionally biased against the interests of Japan.

Works Cited
Scholarly Journals
Lipscy, Phillip. "Japan's Quest for Leadership in the Bretton Woods Institutions: Conceptualizing International Institutions as Cooperative Standards." Mar 05, 2005. Retrieved: 21 Nov 2008. <http://www.allacademic.com/meta/p70450_index.html> Thacker , Strom C. "The High Politics of IMF Lending ." World Politics 52.1(1999): 38-75

Web Documents
Benjamin Powell, "Japan." The Concise Encyclopedia of Economics. 2008. Library of Economics and Liberty. Retrieved: 8 December 2008. <http://www.econlib.org/library/Enc/Japan.html> Collingwood , Vivien . "Indispensable or unworkable? The IMF’s new approach to conditionality." Bretton Woods Project. August 2001. Retrieved: 23 Nov 2008. <http://www.brettonwoodsproject.org/art-15891>.

Cronin, Richard P. “Asian Financial Crisis: An Analysis of U.S. Foreign Policy Interests and Options." CRS Report to Congress January 28, 1998 Retrieved: 18 Nov 2008. <http://www.fas.org/man/crs/crs-asia.htm>. Haggard , Stephan . "Ciao: Case Studies." The Asian Financial Crisis of 1997-99. August 2001. 21 Retrieved: 21 Nov 2008. <http://www.ciaonet.org/casestudy/has01/>. Khor, Martin . "IMF policies leading to foreign control of Asian countries ." 25 Sept 2002 Retrieved: 21 Nov 2008. <http://www.twnside.org.sg/title/contcn.htm>. Shiraishi, Takashi . The Asian Crisis Reconsidered. Center for Southeast Asian Studies, Kyoto University. Retrieved: 21 Nov 2008. <http://www.rieti.go.jp/jp/publications/dp/05e014.pdf>.

IMF Websites
Fischer, Stanley. "The Asian Crisis, the IMF, and the Japanese Economy." April 8, 1998 Retrieved: 21 Nov 2008 <http://www.imf.org/external/np/speeches/1998/040898.htm>. Geithner, Timothy. Gianviti, François. "Guidelines on Conditionality." 25 Sept 2002 Retrieved: 21 Nov 2008 <http://www.imf.org/External/np/pdr/cond/2002/eng/guid/092302.pdf> .

Khan, Mohsin. Mohsin, Sharma. "Reconciling Conditionality and Country Ownership." Finance and Development 39.2 Published in June 2002. Retrieved: 24 Nov 2008. <http://imf.org/external/pubs/ft/fandd/2002/06/khan.htm>. Sidell, Scott R. “Brief History of Fund Conditionality” Hoover Institution Public Policy Inquiry. 1988. Hoover Institution. Retrieved on: 21 Nov 2008 <http://www.imfsite.org/conditionality/brief.html>

Guidelines on Conditionality. 25 Sept, 2002. Retrieved: 23 Nov 2008. <http://www.imf.org/External/np/pdr/cond/2002/eng/guid/092302.htm >. “Annual Report of the Executive Board for the Financial Year ended April 30, 2001." International Monetary Fund. Retrieved 24 Nov 2008. <http://www.imf.org/external/pubs/ft/ar/2001/eng/index.htm>.

Online Books
Trebilcock, Michael J. Daniels, Ronald J. "Rule of Law Reform and Development Charting the Fragile Path of Progress." (2008) Retrieved: 21 Nov 2008. <http://books.google.com/books?id=NTWqCHZgZYC&printsec=frontcover>. Kirshner, Jonathan . Globalization and National Security. New York: Taylor and Francis Group, 2006.

During the 1990’s, the US dollar appreciated and thereby caused the Asian currencies, which were pegged to the US dollar, to also appreciate. This factor coupled with China’s rise as a low-cost producer also caused the South East Asian countries to devaluate their currencies. This was called the “race to the bottom” because each economy wanted to have an advantage in their exchange rate to continue their export-led growth.

Capital Control helped insulate the Malaysian economy from “hot money” which was the term used for the volatile flow of foreign investment that could drive the currencies up or down depending on the direction of the asset flow.

Most social welfare programs, especially for the poor, would be cut from the fiscal budget

Among the most powerful was the Ministry of International Trade (MITI) — In fact, the economist Joseph Stiglitz, has “attributed Japan’s growth to the policies of the MITI. All claim that MITI helped Japan achieve a high growth rate by selectively pursuing tariffs and other industrial policies to favor particular industries.” (The Concise Encyclopedia of Economics)

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