May 25, 2005

Jusuf Anwar
Minister of Finance, Republic of Indonesia

Distinguished guests,
Ladies and gentlemen,

It is a great honour for me to speak before this very impressive and prestigious audience, and to have an opportunity to meet many friends from our neighbouring countries.

Asian economic integration is an issue of vital importance for the future of our region. If you allow me, I will focus my remarks today on the Association of Southeast Asian Nations ("ASEAN") plus 3, People's Republic of China, Japan and South Korea.

The global trend towards regional cooperation is a reality. European Union is the most advanced economic and monetary integration developed over the last 50 years. As we all know, its objective was to create an area of peace and prosperity following World War II. Beyond the early objective of creating an integrated common market, European countries decided to move further in the process of creating an integrated economic and political sphere. Common policies implied common institutions. A Council of Ministers, a Parliament, a Commission, the executive body, a Court of Justice and a Central Bank were formed. Through an institution- building approach, the European Union has now gone as far as creating a European Monetary System and a common currency, the Euro.

Countries on the American continent have also strengthened their economic co-operation, albeit to a lesser degree, with the creation of the Mercosur for Latin American and the North American Free Trade Agreement ("NAFTA") for Northern American countries.

I will not dwell on the merits of integration, because I know we are all convinced that regional cooperation fosters economic resilience and allows sustained high economic growth for member countries. Asian countries as well have been moving along the path of economic integration and I would say that in some vital areas such as manufacturing, energy production or financial services, the pace of our regional economic integration over the last ten years has been fast.

We are moving towards a community where people, goods and investment flows are circulating more freely and towards one powerful production base.

With a population of nearly 2 billion people, our region represents 30% of the world's population. With a combined GDP of approximately US$2 trillion, the world's top savings, an enormous pool of foreign exchange reserves in excess of US$1.5 trillion and a total current account surplus (generated by the 13 countries) exceeding US$ 200 billion per year, our region wields an undeniable economic power and a huge economic potential. With some 2300 companies listed across the region with total market capitalization exceeding US$ 600 billion, our equity markets are vibrant. With GDP growth averaging 7% since 2000, it is the most dynamic region in the world. You will certainly agree with me that the 13 states of ASEAN+3 offer a viable regional framework for economic integration even though our countries are quite diverse and different on many accounts. Intra-regional trade among the 13 countries has substantially increased from 36.5% in 1985 to about 50% in 2000 and then to 55% in 2003, especially as China becomes a major trading partner for all the East Asian economies.

A new division of labour has emerged with intricate intra- regional production networks, based on the exchange of parts, components and other intermediate products. A new horizontal network of trade and capital (with China at its core) has replaced the vertical chain of production. Production network expands horizontally across the region. The region has become a vast production area, with the chain of value divided among various countries, benefiting from each country's competitive advantage and economies of scale. This new regional division of labour and production networks imply out-sourcing in third countries, flexible supply and logistical chain management as well as multinational marketing. It means greater interdependency and complementarities between countries. In this regard, our ASEAN Informal Summit in Brunei in 2001 highlighted the need to enhance ASEAN's productivity and international competitiveness.

One could consider the creation of the ASEAN in 1967 as the first official step towards economic integration among South East Asian countries. The ASEAN free trade area ("AFTA") was created in 1993 and a precise timetable for tariff reduction was set as part of a program towards the lowering and elimination of trade barriers by 2010.

The evolution of our economic integration began with Free Trade Agreements ("FTAs"), and more specifically of bilateral FTAs, preferential trading agreements and Economic Partnership Agreements ("EPAs"). It was only at a later stage that multilateral FTAs proved necessary to avoid a web of competing trade arrangements. These were essentially trade-facilitation measures aimed at increasing connectivity. They were market and private- sector led.

The "unparalleled dynamism of our economies over the last 40 Years", to paraphrase ADB's President Kuroda, as well as the success story of the Asian tigers, did prove that trade integration which was underway in our region served our economies well. Our market- oriented economies, integrated with the outside world, sustained high rates of growth; their increased openness and integration were important contributors to East Asian economic growth.

The wake-up call for Asian countries to adjust the nature and to speed up the pace of their regional integration was the Asian crisis in 1997, which indeed hurt so dramatically some of our economies. We in Asia have learnt the hard way that our countries were not immune to contagion and that they were vulnerable to external shocks. We then felt strongly the need to get united to build mechanisms of defence through enhanced monetary and financial cooperation. We had experienced that a negative shock to one economy could easily be transmitted to other economies in the region.

In Indonesia, we are still working hard to bring back our economy to a high path of economic growth that we enjoyed continuously for many years before the crisis. In this regard we are proud that our economy has shown a strong rebound in the last several years and indeed, we have successfully maintained our economic recovery momentum. In 2004, our economy grew at 5.1%, the highest since the economic crisis. We remain vigilant to preserve our fiscal sustainability and will continue to pursue a prudent and disciplined fiscal policy. We continue to coordinate closely with our independent central bank, Bank Indonesia, on macroeconomic policies including inflation targeting. We are confident of achieving our projected growth of 5.5% in 2005. We are committed to maintain macroeconomic policies that will be resilient to any potential disruptive market and external shocks.

The Chiang Mai Initiative ("CMI") in 2000 paved the way for a closer policy dialogue and regional monetary cooperation in order to define the proper defence and prevention mechanisms against potential crisis. Discussions had been underway since the mid 90's for closer monetary and financial relations between countries in the region. However, these discussions were limited in scope, with a number of bilateral swap facilities providing US dollar liquidity secured against US Treasury securities. The conclusion of bilateral swaps agreements (between US$ and domestic currencies) was accelerated under the Chiang Mai Initiative. The CMI, operating as a financial stability fund, set the regional framework to prevent and resolve currency and financial crises in Asia and to provide short- term liquidity support.

The ASEAN+3 Finance Ministers have agreed at the beginning of this month in Istanbul on a major expansion, up to a doubling of the size and scope of the regional network of currency bilateral swaps under the CMI. They are currently standing at US$ 39.5 billion and so-far untapped. People's Republic of China has already announced its agreement to double the size of its bilateral swaps.

Furthermore, the Finance Ministers have designed a programme to strengthen the CMI to turn it into a more effective and disciplined framework to address short-term liquidity difficulties in the region and to supplement existing international financial arrangements.

They have also decided to enhance the regional economic surveillance process to enable early detection of irregularities, to provide immediate assistance in the event of a crisis and swift remedial policy actions. An agreement has also been reached to set clear criteria to activate the CMI swap mechanism, to identify when countries qualify for assistance from the CMI and improve the mechanism under which swaps are drawn down and in particular which conditionality should apply.

The Asian Bond Markets Initiative ("ABMI") was launched to develop regional and domestic bond markets in Asia with the view of reducing currency and maturity mismatches. Its mission is to develop the infrastructure for a regional market that would cater for cross-border issuance and trading of sovereign and other local currency bonds in Asia. A roadmap for future expansion and improvement of the Asian Bond market has been produced so that it becomes an integral part of the global bond market. Finally, the issuance of bonds denominated in a basket of Asian currencies will be studied.

The Asian Bond Fund 2 ("AFB2") was an initiative launched by the regions' central banks to encourage the development of the domestic fixed income markets. The US$ 2 billion fund is meant to be invested in local currency bonds across the region. Comprising two different instruments, the Pan-Asian Bond Index Fund (collateralised bond obligation) and a Fund of Bond Funds, it should play a catalytic role in promoting new products, improving market infrastructure, and minimizing regulatory hurdles so as to allow a more efficient financial intermediation. The launch of AFB2, following the launch of the US$1 billion AFB1 invested in US$ Asian sovereign credits, is a historic milestone in central banking cooperation in the region. It illustrates the consensus reached by our countries that it is of utmost importance for us to further develop and widen our domestic capital markets, and increasingly rely on domestic fixed income markets as an alternative to international sources of funds.

Beyond the definition of crisis prevention measures, the ASEAN+3 Finance Ministers hold regular policy dialogues on country level economic situations and policy issues. They seek to co-ordinate their respective economic policies to stabilise the region and create a regional economic structure resilient to economic changes and an environment conducive to trade and investment; and to adopt policies to promote growth. But we should not be complacent as our regional cooperation still has along way to go.

It is therefore, natural to assume that Asia will move towards a closer regional economic integration but I am not sure whether Asian economic integration will follow one of the existing economic integration models. I believe economic integration in Asia may be quite distinct from existing models, quite pragmatic and respectful of the sovereignty of each country. Let me outline a few steps that I think will be necessary for a closer economic integration:

An ambitious form of monetary cooperation would consist in "multilateralising" the CMI, which could then be invoked on a collective basis in the event of a financial crisis. A multilateral lending arrangement would enable the regional cooperation system to be more transparent and vigorous.

Future steps for a successful economic integration may include a closer monetary policy coordination so as to reach a kind of commonality in the currency regimes in the region, a consistent and harmonious monetary framework which would allow to jointly stabilise Asian exchange rates vis-a-vis the US$ and curb potential foreign exchange rate volatility. The stability of regional currencies is a prerequisite in this process and it will be necessary to build some form of regional currency and foreign exchange system with credible exchange agreements and monetary coordination. Some have been speaking of a monetary unification with a common basket pegging of regional currencies and they view the single currency as the ultimate goal. ~~A single market requires a single currency". In my view, a single currency is quite some time away and I may probably favour a more flexible and pragmatic arrangement.

Further work is needed on the capital market "soft" infrastructure, issues need to be addressed such as the lack of liquidity of secondary markets, the need for good price data, and regional benchmarks for local currency bonds, the need to harmonise domestic regulations, to name just a few.

Future developments in regional cooperation and integration may include further supervision and strengthening of our domestic banking and financial industry to reduce systemic risk. Well-regulated domestic financial institutions and markets are important in underpinning cross-border capital flows.

On the real sector side, a joint review and analysis of the industrial situation in the region may be called for to understand the current strategic trends. In particular answers should be given to the following questions: Where are the decision-making centres? Are they within the region or outside? Who are our competitors? We cannot leave it entirely to the private sector, as current production patterns will impact employment level, Balance of Payments performance and other macroeconomic factors. We should also explicitly recognise regional imbalances, and address them so as to avoid undue competition among ourselves, to counterbalance if need be, external decision-making centres.

The pace of future economic integration is still unknown and so is the exact sequencing of actions toward a closer regional cooperation, at the bilateral, sub regional and regional levels but we should not lag behind current industry trends. Several scenarios in terms of economic integration may unfold. Let me share with you two of them:

One is the pursuit of the FTA-weaving process across Asia, the economic trade approach which prevailed initially, whereby Asia becomes one large free trade area by continuing the weaving of a web of bilateral or multilateral FTAs. ASEAN+3 invites India in a FTA comprising the free flow of trade in goods, services, investments and human resources as a common and ultimate goal. Although the development of additional trade agreements together with the expansion of the free trade zone in Asia seems almost unavoidable, I sense based on what has been achieved so far and from the declarations and initiatives of political leaders in the region, that Asian countries will want a closer form of economic integration.

The other route is that of a more comprehensive industrial and financial partnership, building on existing industrial blocks supported by a stable financial, economic and monetary framework. This partnership could either be centred around countries like China, Japan and/or India, acting as the engines of growth for the region, organising the production pattern for countries in the region, or it could also be organised in a more balanced way, so as to retain decision making centres within ASEAN.

In conclusion, I strongly believe that economic integration of Asia is well underway and this process will ultimately bring about a "single production zone, single market" for the benefit of its member countries. This new economic community will transform the area into a powerful and balanced economic zone better equipped in its fight against poverty.

Thank you.

Titles of speakers, names of companies, etc., were correct as of the time when the forum was held.