THE IMF IN SRI LANKA – PART IV The Development Strategy of The ‘Miracle’ Economies of East Asia
Posted on February 21st, 2017

by Chanaka R. de Silva Ex-World Bank

The Korean Development Example.

Korea is an outstanding phenomenon of the economic policy strategy of the so-called “Development State”. To summarize the foregoing part, Korea, now an OECD (the rich countries’ club) member and an aid funding source through its own KOICA agency (with a bi-lateral development program In Sri Lanka), which spearheaded the “Development State” strategy of government-led, subsidized, protected, exchange-controlled, first import substitution-then-export led economy, directed by a State selected conglomerate-centric (chaebol) industrial growth strategy, admittedly under authoritarian rulers, along with three other original ‘tiger’ economies (Taiwan, Hong Kong and Singapore), with several in East Asia (viz. Malaysia, Thailand and Indonesia) emulating and following their lead, sped ahead in their economic development, leaving IMF’s disciple countries way behind.

For example, Sri Lanka had a slightly higher per capita income than Korea after WWII ended in 1945, but today, following IMF-type, conventional, western development strategies has limited Sri Lanka to under $4,000 in per capita income, after seven decades of Independence, while Korea’s ‘Development State’ has generated nearly $28,000 in per capita income, or a seven-fold increase in nearly seventy years; both these countries having had destructive, intervening wars in some of those years. Urbanized South Korea, a rocky peninsula with almost no natural resources (even oil or gas), except its obsessively energetic and educated population, was almost flattened during the Korean war, when the country was divided by the Big Powers, but soon became an export power house with mostly U.S. and World Bank assistance and advice, and only an insignificant FDI role. Lights are completely out in satellite photos of North Korea, under a destructive, militarized, communist-type autocracy, with lights blazing brightly throughout the now democratic South, where corruption is frowned upon and heavily penalized, even at Presidential level, with several of them convicted and imprisoned, and the current President in impeachment proceedings for a like delinquency. Sri Lanka would do well to emulate that model, if it wants its economy to develop speedily.

The Nobel Laureate in Economics of 2001, Professor Joseph Stiglitz, has commented: “If there were fruits of the Washington Consensus (identical with IMF ideology) they are yet to be enjoyed, at least by the average citizens in many of the (developing) countries. Countries like Bolivia which were early IMF followers are still asking: ‘we have felt the pain, when do we get the gain ?’. If the reforms exposed these countries to more risk, they did not evidently provide them with the strengths for a rapid recovery; in Latin America, as a whole, there followed almost half a decade of declining per capita incomes”.

(The writer owes a debt to the above-named, since the foregoing commentary on the ‘miracle’ economies is substantially a summary of ideas and points extracted from his lengthy paper titled “The Post Washington Consensus”, presented at the Initiative for Policy Dialogue, Barcelona, Spain, September 2004). East Asian ‘Miracle’ Economies’ Strategy vs IMF-designed Slow Development.

Corroboration is important when presenting an unconventional case to a potentially sceptical audience, schooled in much publicized pro-IMF ideology and development practice for decades, as in Sri Lanka – an ideology readily embraced by its political class and top bureaucrats. Therefore, it is important to point out that the Nobel Laureate in Economics, whose views on the questionable economic theories underlying the Washington Consensus and IMF-sponsored neo-liberal strategies, which were articulated in the earlier part of this feature story, has a substantial following among development thinkers and academics. A summary of those views follows.

Evaluation by a Harvard Economics Professor.

Professor Dani Rodrik of Harvard University, who has acquired an intimate familiarity with the ‘tiger’ economies, has confirmed in his prolific writings, that none of the seven miracle economies, whose development strategies were analyzed, “with the possible exception (of the historically free port of ) Hong Kong, even came close to being a free-market economy…their strategies mirrored Japan’s…and required a government that was single-mindedly focused on economic growth…removing the obstacles to private investment : excessive taxation, red tape and bureaucratic corruption, inadequate infrastructure and high inflation (cumulatively, characterized as the ‘investment climate’)…equally important were interventionist (State) policies, government incentives to stimulate investment in modern manufactures…in priority sectors, and businesses stimulated with generous subsidies…in Korea, these largely took the form of subsidized loans, administered through the banking system…in Taiwan, tax incentives for investments in designated sectors…in both countries, bureaucrats often played the role of ‘midwife’ to new industries, they coordinated private firms’ investments, supplied the inputs, twisted arms when needed and provided sweeteners…neither country exposed its nascent industries to much import competition until well into the 1980s…they enjoyed protection from international competition…were goaded to export…by a combination of explicit export subsidies…(and) bureaucratic pressure to ensure that export targets were met;…they would be beneficiaries of State largesse, but only as long as they exported and did so in increasing amounts…at loss-making prices early on… which could be recouped by the subsidies and profits in the home market…another example of an ‘unorthodox’ development strategy was China’s shift from a predominantly rural, centrally planned economy to the industrial giant we know today”(Extracted from Dani Rodrik, “Getting Globalization Right : The East Asian Tigers’, 3May2012).

A Former Top IMF Official’s Assessment

Likewise, Dr Stanley Fischer, one-time First Deputy Managing Director of the IMF, who de facto managed that institution, has also written about “the development strategies followed by the eight East Asian tigers (he includes Japan)…they had much in common…exchange rates were pegged against the dollar, high savings rates, combined with fairly accurate price signals, helped fuel high levels of productive investments…complementing high physical investments was investment in people…educational standards were, and are, extremely high…literacy is over 85%…Japan and Korea (unlike China) discouraged FDI (foreign direct investment),…in less orthodox parts of the strategy…East Asian economies had successfully intervened in markets…intended to accelerate industrialization and growth of trade…through exchange rate policies to favour exporters, export incentives, selective tariff protection, ‘financial repression’ (slowing financial sector development), and consumer lending to provide cheap financing to industries for exports…and a high level of consultation between bureaucrats and business…and in most cases, a very slow opening of the capital account” – so, no Financial City hub between Dubai and Singapore, no open capital account or free markets as in the IMF/Sri Lanka model! – “bureaucrats were of very high caliber, responsive to the needs of business, yet isolated from corruption or undue pressure from special interests…governments were pragmatic rather than dogmatic…trying to steer the economy as a whole…the State intervened to improve on market decisions…East Asian economies maintained supra-normal growth rates for so long…human capital accumulation was essential to East Asian growth…better trained, more educated labour…more productive…As to East Asian industrial policy, I believe the World Bank’s view over a decade ago remains sensible : that some degree of government involvement can in principle be successful, and that it was successful in practice…to allow new industries to overcome coordination failures and exploit economies of scale…the country should NOT open the capital account to short-term capital flows…to say the exchange rate should become more flexible is NOT to say it should necessarily float freely …for most countries holding foreign reserves is costly. (Extracted from Dr Stanley A. Fischer, Development Strategy for East Asian Countries : A Korean Perspective – a Paper presented at the Annual Meeting of Asian Development Bank, Cheju, Korea, May !5,2014).

World Bank’s Research Results.

The above views expressed by IMF’s former top manager are very divergent to current IMF staff advice being dispensed, and complied with in every detail, by Sri Lanka today, and by other poor countries in financial crises, to their economies’ peril. What are the World Bank’s views (which Dr Fischer so readily endorsed), and were articulated in its ground-breaking 1993 research study referred to earlier in this story? The World Bank’s economists examined the public policies of eight ‘high-performing’ East Asian economies from 1965 to 1990, to discover the unconventional and unique role – deviating from IMF (and even previous World Bank) advice – a role played by their Governments in “the dramatic economic growth, improved human welfare and more equitable income distribution in Japan, Hong Kong, Indonesia, Korea, Malaysia, Singapore, Taiwan and Thailand”, and concluded that –

i. these ‘miracle’ economies primarily “adopted policies at variance with the notion of the level playing field of open market free enterprise” or a neutral incentive regime, an important pillar of western development ideology; (which, of course, is very beneficial to advanced industrial economies);

ii. activist public policies established a unique relationship between governments, the private sector and the market;

iii. these governments “were better able than most to strictly manage the allocation of physical and human resources to highly productive investments” – by selective interventions through multiple channels, targeting key industries, subsidizing credit for selected and declining industries, protecting domestic import substitutes, holding interest rates below market-clearing levels, establishing financial support through the government banking system, making public investments in applied R&D, specifying firm- and industry-specific export targets, and establishing government institutions to market the trade in manufactured exports; iv. tax, tariff and exchange rate policies were applied, which kept the relative price of investment goods below market norms, with the result that output increased and investment returns were higher; v. these governments shared widely, information between public and private sectors, “established and monitored appropriate economic performance criteria to evaluate specific, contest-based interventions”, using commercial criteria, within constraints set by government priorities; vi. their experience “reinforces the view that economic policies and policy advice must be country specific to be effective”. (In other words, not IMF’s standardized numbers-centric, one-size-fits-all, approach to development); – vii. these eight economies were unusually successful in sharing the fruits of growth – rapid growth and improved equity were the defining characteristics of the East Asian miracle; South Asia, the Middle Eastern countries and Latin America grew at less than half the speed of the miracle economies in 25 years (1965-90); East Asian strategies of selective promotion of industries generated high rates of productivity growth; and viii. improved the integrity of the banking system to make it more accessible to non-traditional savers; ix. Agriculture, while declining in relative importance, experienced rapid growth and productivity improvement, stimulated by light taxation of rural economy incomes; x. Human welfare improved dramatically, with average life expectancy increasing from 56 years in 1960 to 71 years in 1990; while the proportion of people living in absolute poverty (lacking clean water, adequate food and shelter) dropping – in Indonesia from 58% to 17%, and in Malaysia from 37% to 5% – during the same period; xi. specialized development banks were established to provide long-term finance for investment (e.g. a Government Technology Development Corporation in Korea, (KTDC), funded venture capital providing seed-money to entrepreneurs to promote innovation, (assisted substantially by several World Bank loans), this idea originating in Japan, but later replicated in Indonesia and Taiwan; xii. The miracle economies applied “financial repression” to aid the banking system or bolster ailing industries, (not shut them down following market signals); but xiii. they improved the institutional framework for capital market development much later, and this was not responsible for the economies “taking off” during the period covered by the research.

(The writer, a member of the former C.C.S. was later at World Bank Headquarters, responsible for program development , and loan negotiation with, Governments of several ‘miracle’ economies of East Asia Region, for some twenty years).

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