After the 1997-1998 Asian Financial Crisis, Asian countries decided to build a regional financial cooperation mechanism. In 2000, the ASEAN Plus Three (China, Japan and South Korea) launched the Chiang Mai Initiative (CMI) to provide liquidity relief during financial crises strikes in Asia and to act as a supplement to the International Monetary Fund.

In the initial stages, CMI was only a network of bilateral currency swap agreements between member states and with limited funds, it was no more than symbolic. During 2003 and 2004, a comprehensive review of the CMI was conducted and in 2008 a CMI fund was established.

The 2008 global financial crisis, which broke out in the US and spread across the globe, further nudged Asian countries towards financial cooperation. They set up the Chiang Mai Initiative Multilateralization (CMIM) in 2010, which greatly improved relief capacity, decision making and institution building in the region. It was further expanded in 2012 with the reserve fund increasing to $240 billion.

In 2011 AMRO, the ASEAN Plus Three Macroeconomic Research Office, was launched and has since become the most important platform for policy dialogue and economic surveillance in Asia, signifying a milestone in institutionalized financial cooperation in the region. AMRO officially became an international financial organization in 2016 to perform functions of monitoring and regulating regional economic operation and financial stability.

As important platforms for financial cooperation, both CMIM and AMRO have now become multilateral and institutional arrangements ensuring financial stability.

In retrospect, regional economic integration is the ultimate driving force of ASEAN Plus Three financial institutional cooperation. As the Asian Development Bank estimates in its Asian Economic Integration Report 2018, trade within the region accounts for as much as 57.8 percent of the total trade in Asia. Foreign direct investment from countries within the region is increasing fast, making up 50.2 percent of total FDI. Although regional financial integration lags behind trade and investment interaction, capital flows have been on the rise over the years and cross-border debt instrument holdings has reached 25.5 percent.

The progress of regional integration owes its success to the driving force of the regional industrial chain and various countries’ efforts in economic restructuring and opening up of the financial sector.

However, enhanced regional integration calls for greater policy coordination and crisis relief efforts of all countries involved. Because regional financial coordination helps tackle financial risks. Judging from the structure of capital flows over the years, direct investment in Asia remains relatively stable, while security capital flows often run into ups and downs. Unlike direct investment, security capital flows are procyclical, in particular short-term capital, are highly speculative, and thus pose huge threats to financial stability.

For example, when the Fed tightened its monetary policy and the dollar appreciated in the second half of 2017 and the first half of 2018, large-scale capital flight and currency depreciation took place in Argentina, Turkey and some other emerging markets. Despite the sound external conditions of Asian emerging markets, there was still capital flight from some of Asian countries and even major currency depreciation in Indonesia and the Philippines from January to August 2018.

From this perspective, to cope with the risks of capital flight, a sound international balance of payment and adequate international reserves are necessary while joint rescue efforts of related countries can also help defend against the risks of cross-border capital flight and financial crises.

The ASEAN Plus Three financial cooperation mechanism has prominent regional features, and the high saving ratios is one of them. In Singapore, for example, the household saving rate exceeds 50 percent, and in Indonesia and Thailand the rate is 30-40 percent. If effectively transformed into local investment, these savings could enormously boost regional economic growth.

A series of measures are paying off in optimizing the allocation of savings in the region. The ASEAN Plus Three Bond Market Forum (ABMF) and the Credit Guarantee and Investment (CGIF) have been put in place, while the Asian Bond Market Initiative (ABMI) is also making progress. In addition, Asian countries have been developing their capital markets as well as opening up the financial sector.

Since the Global financial crisis of 2008, the IMF, the World Bank and other international financial institutions have been pursuing reform. And such newly established institutions as the Asian Infrastructure Investment Bank (AIIB) and the BRICS New Development Bank (BRICS-NDB) have taken shape.

These changes call for Asia to move along the trend of times, enhancing cooperation with international institutions and mechanisms on the one hand and promoting reform within the current cooperation mechanisms on the other.

First, as a financial firewall for Asia and a major link in the Global Financial Safety Net (GFSN), CMIM should become a bridge connecting national policies with multilateral mechanisms. This means that in building the GFSN, CMIM is an important supplement to the IMF, and the two should conduct regular joint relief tests to ensure unified and coordinated action.

In addition, CMIM could conduct joint research with other regional financial cooperation mechanisms, such as the European Stability Mechanism (ESM) and the Latin American Reserve Fund (FLAR), promote cross-region coordination and build a multi-layered global financial safety net, on which the G20 has already reached consensus: it should contain national, regional and international mechanisms to address crises.

Second, as an important organ for regional economic monitoring, AMRO should enhance its capacity building to ensure the effectiveness of its work. Whether Asian countries can rely on CMIM for timely and effective rescue when crises strike, largely depends on the capacity of AMRO and the accuracy of its periodic review of member states' economic and financial health. Looking forward, AMRO needs to enhance cooperation with CMIM and further integrate its governance structure with CMIM for greater coordination and synergetic development in the region.

Third, CMIM should improve its work in credit facility, fund sources and conditionality. With credit facility, for example, CMIM should include not just standby facilities but also precautionary facilities to strengthen risk prevention. CMIM could learn from the experience of ESM that apart from funds committed by member governments, private financial institutions could be invited to boost its financial strength.

As for conditionality, 70 percent of the initial capital of CMIM is linked to the IMF's conditionality, which helps reduce moral hazards of rescuing countries and decrease member states' enthusiasm of using the CMIM fund. With the first round of review on CMIM completed and the revised CMIM clauses coming into effect soon, the way has been paved for establishing the conditionality that is suited to the realities of the region.

Last, the current CMIM reserve fund is totally in dollars. As the reserve currencies of Asian countries become more diversified, they should play a bigger part in the fund to make sure that local currencies are put into wider use. In the statement of the 22nd ASEAN Plus Three Finance Ministers' and Central Bank Governors' meeting in May 2019, the future of CMIM is clearly mapped out. The meeting endorsed the General Guidance on Local Currency Contribution to CMIM, which created the precondition for local currencies to be included in swap agreements.

These measures will not only increase the demand for local currencies in trade, investment and financial transactions in the Asian region, but also boost the development of regional financial markets and financial integration. Financial integration will, in turn, enhance the need for regional financial cooperation and bring it to higher levels.

Gao Haihong is director of the International Financial Center of the Institute of World Economics and Politics, Chinese Academy of Social Sciences.

The author contributed this article to China Watch exclusively. The views expressed do not necessarily reflect those of China Watch.

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