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02 Oct 2012
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When I joined the Lee Kuan Yew School in January, I put on a new course on Asia in the World Economy. It covers East and South Asia—their historical and contemporary evolution in the global economy, the main countries and sub-regions, and key policy issues. Given such a wide sweep, this is a mightily challenging course to teach, especially in eliciting comparisons and generalisations from such a diverse region. Here I offer readers of this magazine my main conclusions from the course.

The aftermath of the recent global economic crisis has reinforced a sense that the world is “shifting east”—to Asia. But habitually overlooked is the essential story of Asia today—its unprecedented expansion of economic freedom. Market liberalisation is its crucial enabler. Removing restrictions that repress economic activity has unleashed the animal spirits of ordinary people, and they are transforming Asia and the world in the process. But there is much unfinished business, for economic freedom remains substantially repressed across Asia. Expanding it should be the leitmotif for public policy.

Take three key planks of contemporary policy.

First, let’s focus on financial-market policies. In most of Asia, financial systems remain backward. Command-economy controls restrict opportunities for all but the politically well-connected and do a bad job in turning savings into productive investments. They restrict the transition from catch-up growth to more advanced, sustainable growth based on productivity gains. Enabling the transition to a more prosperous, sophisticated economy demands more financial freedom. That requires liberalisation— removal of interest-rate controls, opening to new entrants, including foreigners, broadening capital markets, and, ultimately, capital-account liberalisation—though this has to be balanced with prudential controls to reduce vulnerability to extreme external shocks.

Furthermore, “financial repression” is at the core of “unbalanced growth” in several Asian economies—notably in China. It promotes over-saving and over-investment, while repressing private consumption, real wages and employment growth. China’s financial system channels—and wastes—massive amounts of capital through state-owned banks to state-owned enterprises while more efficient, labour-intensive private-sector firms are starved of funds. Carefully managed financial liberalisation would liberate domestic privatesector growth, especially in services.

Second, trade and foreign-investment policies need revisiting. In Asia, trade and investment liberalisation has created dynamic, globally-integrated, world-class sectors, especially in manufacturing in East Asia. But there are still large pockets of protectionism, with huge variation across Asia. Tariff barriers are still a problem, but a plethora of non-tariff barriers obstructs trade and foreign investment much more. Most of these are embedded in complex domestic regulation. Domestic red tape—on property rights, contracts, licensing arrangements, paying taxes, opening and closing businesses, labour laws and customs procedures—continues to stifle the business climate much more than in the West. This is reflected in the World Bank’s Doing Business Index. OECD countries occupy eight of the top 10 places (Singapore and Hong Kong are in first and second place). Malaysia, Thailand and Japan are in the top 20. But China is 91st, India 132nd and Indonesia 129th.

Let us not forget that these regulations restrict economic freedom at the same time. The Fraser Institute’s Economic Freedom of the World Index has only two Asian societies—Hong Kong and Singapore—in the top ranks; the others are way behind. Generally, Asian economic institutions—public administration, enforcement of property rights, domestic regulatory authorities—are relatively weak and keep business and trade costs high, repressing entrepreneurship, innovation and consumption. They also result in badly integrated regional markets, beset by high intra-regional barriers to trade, investment and the movement of workers—a far cry from the EU and NAFTA.

Third, energy and environmental policies are out-dated. Energy consumption in developing Asia is expected to double over the next two decades. That translates into much more demand for fossil fuels—oil, natural gas and coal. China and India will import much more of all three, especially oil and natural gas, for which they will become even more reliant on the Middle East. But energy markets are throttled by government intervention and state-owned enterprises. Price controls, subsidies, export restrictions and inward-investment restrictions are the norm. Energy is hardly covered by World Trade Organisation rules. China and India are attempting to secure energy supplies through commandeconomy rather than market instruments— sending out highly subsidised national oil companies, striking long-term contracts with foreign governments, and pledging loans for oil. These measures make energy markets pricier and more volatile, and they exacerbate geopolitical tensions.

More energy freedom is required to make energy supplies more stable, secure and costeffective, and to preserve peaceful international relations. That means liberalisation— removing price controls and subsidies, encouraging private-sector and foreign investment, “unbundling” generation, transmission and distribution in the power sector, and freeing international trade.

Generally, Asian economic institutions— public administration, enforcement of property rights, domestic regulatory authorities— are relatively weak and keep business and trade costs high, repressing entrepreneurship, innovation and consumption. They also result in badly integrated regional markets, beset by high intra-regional barriers to trade, investment and the movement of workers—a far cry from the EU and NAFTA.


Recipe for reform

Now for some concluding observations.

First, Asia’s poorer economies—those in the low-income and least-developed brackets— should concentrate on “first-generation” reforms for catch-up growth. This involves a combination of macroeconomic stabilisation and market liberalisation. That will provide the right environment for mobilising savings and investment, labour and capital, for growth. Asia’s middle and high-income economies should focus on “second-generation” reforms— more complex structural reforms in the thickets of domestic regulation—to boost competition, innovation and productivity gains.

Both first and second-generation reforms entail the expansion of economic freedom. But structural reforms demand deeper institutional reforms in order to deliver productivityled growth.

Will Asian institutions adapt? Are liberal political reforms necessary for second-generation economic reforms? Will political sclerosis keep countries stuck in a middle-income trap—or worse? How does all this relate to Asia’s geopolitical environment? These are mighty Asian questions and challenges—not least for China.

Finally, my message is a classical-liberal one in the spirit of Adam Smith and David Hume. Limited government—a “strong but small” state that performs its core functions well but does not intervene left, right and centre— free markets at home and free trade abroad: that is the “system of economic liberalism”, as Joseph Schumpeter called it, to which Asians should aspire.


Razeen Sally is a Visiting Associate Professor at the LKY School. He is also Director of the European Centre for International Political Economy (ECIPE), a global-economy think tank in Brussels, which he co-founded in 2006. His email is

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