Khor on currency spec debate at Davos

[Robert Weissman <rob@essential.org>]

       CURRENCY SPECULATORS: BAD MEN IN A BIG, BAD WORLD?

At the World Economic Forum in Davos, Switzerland in late 
January, there were calls which highlighted the need for a global 
system to regulate currency speculation, and the protective 
measures taken by countries like Malaysia in the absence of such 
a reform. 

By Martin Khor
Third World Network Features

Currency speculators and capital controls were part of the talks 
at the Davos meeting of world corporate and political leaders in 
late January, amidst continuing uncertainties arising from the 
Brazil crisis and the increasing number of debt defaults in the 
world.

Although so much has been said about the global crisis, ranging 
from the corruption and poor governance in Asia to the wrong 
policies of the International Monetary Fund, the role of currency 
speculators has not been sufficiently highlighted.

It was no surprise that Malaysian Prime Minister Dr Mahathir 
Mohamad chose to focus again on currency trade and the greed of a 
few speculators when he gave a luncheon address at the World 
Economic Forum.

When he first broached the subject in September 1997 at the World 
Bank-IMF annual meeting in Hong Kong, he had been derided for not 
understanding the modern financial system and for trying to 
divert blame for the crisis away from domestic policies.

As the only world leader who from the start had focused on 
speculators, Dr Mahathir could have said (but didn't say) at the 
high-level international gathering in Davos, 'I told you so.'

This is because currency attacks and other forms of financial 
speculation via hedge funds and other institutions have since 
1997 continued in many countries and have now been recognised as 
a major (or even the major) source of 'contagion' and 
destabilisation.

Countries like Thailand, Malaysia, Taiwan, Hong Kong, South 
Africa and Brazil have known the damaging role of speculators 
since they have come under their attack in 1997 and 1998.

But it took the losses and rescue of the American hedge fund Long 
Term Capital Management (LTCM) in September 1998 to show up the 
great scale and potentially huge effects of such speculation.

The Western world could no longer ignore the power and 
destabilising effects of speculative institutions, some of which 
derived their massive clout through unbelievably high leverage.

With a capital base of some US$4-5 billion, LTCM was able to 
obtain loans of US$200 billion at one stage and used these to 
place positions in financial markets worth $1,300 billion.

Not all hedge funds have such leverage or market outreach. But 
considering that the capital of hedge funds as a whole comes to 
some US$300 billion, one can only imagine the tremendous funds 
they can leverage as loans, and the many trillions of dollars in 
bets or positions they have placed in the markets for currencies, 
bonds, stocks and other instruments.

Moreover hedge funds are only one category of institutions; other 
highly leveraged funds also speculate. Together this small number 
of institutions are able to exert great influence over prices of 
currencies and other financial assets.

In the wake of the LTCM debacle, the central bankers of 
industrial countries commissioned a study on the speculative 
institutions.

On 29 January the Basle Committee for Banking Supervision 
released the 'Report on Highly Leveraged Institutions', which 
warned about how hedge funds and other high-borrowing 
institutions could put the world economy at risk.

Committee chairman William McDonough said: 'Given the very 
turbulent markets that existed within 24 hours of the LTCM 
collapse, the danger to the world economy of these very large 
market positions being thrown on already turbulent markets would 
have resulted in danger to the economic growth of this and other 
countries.'

McDonough is also president of the Federal Reserve Bank of New 
York and had arranged the LTCM rescue in which banks poured in 
US$3.6 billion to recapitalise the sinking hedge fund.

Judging from the initial news, the Basle Committee report only 
called for sound risk management practices among banks and 
lenders to highly leveraged institutions. It did not recommend 
regulations for the hedge funds themselves.

Thus, any regulatory actions that may arise are unlikely to 
impact directly on hedge funds. If the banks that lend to these 
funds lower their credit, the hedge funds may however get less 
leverage and thus less market power.

But unless regulations are strict and keep up with new financial 
instruments and devices, it can be predicted that the speculative 
institutions will find new ways and means to make profits from 
speculation and manipulation.

It looks as if any new 'global financial architecture' that curbs 
currency instability and reins in the freedom of capital flows 
will take a long time in coming, if at all, since the Western 
countries consider it to the benefit of their financial 
institutions to keep the system of floating exchange rates and 
free capital mobility.

This is where the Malaysian experiment with selective capital 
controls and a fixed exchange rate comes in useful as an example 
of what developing countries can do to protect themselves against 
predatory speculators and against financial volatility.

At Davos, Dr Mahathir took the opportunity to explain the 
rationale of the Malaysian measures from the Malaysian point of 
view, which is important since there has been so much bias and 
negative slant in the comments from some international 
institutions and media.

He said the moves had stopped speculation in the ringgit and the 
Kuala Lumpur Stock Exchange (KLSE), and gave some evidence of 
improvement in the economy (growth  of  foreign  reserves,  rise 
in  stock  market  values, revival  of  sales),  which he 
attributed at least partly to the exchange rate and capital 
control measures.

The extent to which his audience was impressed would be difficult 
to gauge since the dominant Western establishment view is still 
against a developing country acting on its own to protect its own 
interests.

But the IMF and developed countries' continuing pressurising of 
developing countries to keep their national financial system open 
whilst the global system remains unreformed is going to be more 
and more discredited as more countries and companies face a 
situation of unrepayable debt.

In late January, Brazil's now free-floating currency continued to 
fall, even past the psychological level of 2.00 real to the 
dollar and with the devaluation being so fast, doubts are rising 
whether it can meet its debt obligations this year.

Russia has given notice it will not able to service its foreign 
debt in full in 1999. Companies in Thailand, Indonesia and China 
are defaulting on their foreign loans and seeking debt 
rescheduling or write-downs. Pakistan is also seeking to 
reschedule US$7.7 billion in foreign debt, according to a news 
report in late January.

Clearly the developing countries have need for a new world 
financial system where their currencies are much more stable, and 
where flows of capital can be checked and channelled in orderly 
fashion.

Until the developed countries also feel the need, such a system 
may not emerge. Until then the developing economies need to have 
their own safeguards. - Third World Network Features

                                 -ends-

About the writer: Martin Khor is Director of the Third World 
Network. 

When reproducing this feature, please credit Third World Network 
Features and give the byline. Please send us cuttings.

Reproduction rights are offered to subscribers of TWN 
Features. If you are not a subscriber and would like to reproduce 
this feature, you can get permission or subscription details from 
our India office via email twnfeatures@vsnl.com