unlicensed economic restructuring in a highly repressed economy perspectives on the order of policy reform

Economic restructuring in a highly repressed economy: Perspectives on the order of policy reform NGUYEN HUU DUNG Real Estate and Natural Resources Economics, National Economics University – nguyenhuudungforest@gmail.com DANG HOANG HA International School, Thai Nguyen University – danghoanghavn@gmail.com Abstract How to restructure the economy is an important question for many developing countries in order to minimise the reform cost and adverse effects to the economy This paper provides insight into the order of economic restructure in the perspectives of policy reform, particularly in timing and sequencing of liberalization It argues that, stabilizing macroeconomic such as fiscal consolidation and low inflation should be achieved first Next, remove distortions in domestic goods, capital, and financial sector Removing distortion means deregulate domestic interest rate, remove distortion in prices and free up wages in labour market Third, liberalise international trade, which removing quotas, tariffs and other direct administrative controls, and reducing tariffs across the board Finally, liberalize capital account involving the elimination of restrictions on inflows and outflows of foreign direct investment as well as portfolio investment and the use of long and short term financial instruments Keywords: policy reform; liberalization; interest rate; capital account Introduction Since the 1970s many countries have adopted economic reform and liberalised economies, particularly favouring free trade, privatization, fiscal consolidation, financial deregulation and liberalisation with the main objective to promote growth of their economies The initial achievements with massive capital inflows and increase in consumption of some economies in the late 1970s and early 1980s such as Chile and Britain have triggered for many other countries’ economic liberalization programs Most of Eastern Europe and East Asia countries in the later time began adopting transformation of their economies from central planed which are highly repressed and distorted by governments mandated control on output and prices into some form of economic liberalisation (Yung and Hugh, 2013) Liberalization has been considered as a miracle for attracting foreign investment and economic development However, after some initial success period, the pictures of liberalizing countries become various In the late of the 1980s and early 1990s some of countries such as Chile and Britain continue having remarkable achievements while others experienced recession or even finance crisis and economic instability fail such as Argentina, Brazil, Peru and especially former Soviet Union (Pradeep et.al., 1995) These problems again cause economists debate over the question how to approach economic liberalisation McKinnon in 1982 (and then in 1991) initially proposed a gradual approach economic liberalization He argued that the appropriate policies, and in particularly timing and sequencing of liberalization were the main issue There is, an optimal order of economic liberalization that a country should follow to minimise the reform cost and adverse effects to the economy Although that sequencing is still an area of debate, it has been generally received consensus during the recent time For better understanding the sequencing proposed by McKinnon (1982), this paper discusses how an economy can approach liberalization safely and in the right pace The focus of the paper will be on liberalisation of tightly-controlled capital account which is in highly repressed economy Some country experiences will be taken for discussion The paper is arranged as follows The first section of the paper is the introduction; second section discusses the optimum order of economic liberalisation; Section third discusses some critiques over the sequence Section fourth concludes Sequencing of economic restructuring of a repressed economy During the recent time, although there are few other critics such as Little, Scott, and Michael argue for different sequencing, the order proposed by McKinnon (1982) has been generally received consensus McKinnon (1982) suggest the optimal orders of economic liberalisation; that is, stabilize macroeconomic first, remove distortions in domestic goods, capital and labour markets second, liberalize international trade third, and open capital account at the last stage i Macroeconomic stabilization is necessary condition before embarking on economic liberalisation Macroeconomic stabilisation refers to fiscal control and price stability in which fiscal consolidation is suggested to be taken in the first place (McKinnon, 1982) It would be difficult for government to conduct monetary policies during the transition period with out fiscal consolidation and inflation under control because of the potential lost of macroeconomic control when monetary policies are dependent to government budget deficit Argentina can be seen as an example of this Argentina’s fiscal situation was not bad prior to the limitary government in 1977 However, the government was not effective in fixing fiscal situation by revamping tax system and make its budget continue to deficit through out late 1970s Because of large budget deficit, its monetization of budget deficit rampant in inflation makes inflation shot to over 500 per cent This leads to the fall in international competitiveness Exporters had to struggle in exporting with other prevailing countries causing a fail in liberalising trade Argentina eventually had to reintroduce direct administrative control Stable macroeconomic environment such as fiscal consolidation and low inflation have been proved that it must be achieved first in order to provide a prudential base for other reforms To reduce budget deficit, McKinnon (1982) suggested that direct government spending should share a very small proportion with GDP Lost from the central bank should also be reduced Since central bank in highly repressed economy usually has to subsidy for public sectors and households, the lost occurs This lost contributes considerably to the budget deficit By phase out or fold in off-budget government subsidy, the central bank can avoid potential lost from subsidy for domestic deposit or credit in public sectors and households and hence be able to avoid over-printing money which cause harmful inflation Inflation which is related to keep stable price is another important issue needed to be under control The tax system should be strengthening to help repressing inflation As the economy liberalisation is in progress, government usually have to privatize and give up its ownership of enterprises which are means of productions Leaving its own means of production makes much threat of inadequate revenue (Yung and Hugh, 2013) It is necessary to develop tax system for retrieving the revenue lost from giving up those enterprises (Cashin et al., 1998) Let s take Chile as a successful case when its government get the right liberalisation approach Besides eliminating subsidy, Chile government had introduced new tax system imposing value added tax at a uniform rate of 20 per cent (McKinnon, 1982) which provided stable revenues to the budget GDP of Chile as a result increased from negative13.5 per cent in 1973 to positive 3.7 per cent in 1976 and maintained surplus through out 1977-1980 (McKinnon, 1982) In general, if the tax system is not good enough to ensure the government revenue, there is possibility that the government will fall in heavy debts or printing money to finance budget deficit This causes inflation and distorts prices which could arise and defeat the purpose of reform since the trade reform will be taking under the wrong market signals However, the pace of privatisation should not too fast so that it will not put too high pressure on the fiscal system In fact, privatisation should be in parallel with the development of tax system to ensure enough collection of government revenue Some of industrial and natural assets can remain under the government ownership initially and then be broadened as the tax system becomes adequate ii Removing distortions in domestic goods, capital, and financial sector is the next step after stable macroeconomic environment such as fiscal consolidation and low inflation is achieved Removing distortion means deregulate domestic interest rate, remove distortion in prices and free up wages in labour market It is necessary to remove distortions in banking systems so that banks free from setting “standard” interest rate Relaxing of interest rates ceiling allows to have positive interest rates and thus increases financial depth as well as raises the level of savings and improves the quality of investment (Hallwood and MacDonald, 1994) Elimination of credit and interest rate controls follow by the macroeconomic stabilisation has potentially important effects on monetary and credit aggregates (Gertler and Kiyotaki, 2010) In addition, banking system should be free form reserves requirements and official guidance in setting standard interest rate after tight fiscal controls in place so that government does not have to rely on inflation tax to generate revenue (Mckinnon, 1982) However, the pace of deregulation of banking systems should be in relation to the achievement of macroeconomic stability Macroeconomic stability provides prudential base for price level stability If price level stability is not good enough, interest rates become unpredictable volatility This makes unrestricted domestic borrowing and lending by deposit taking banks Deposit taking banks have incentive to take short term deposit and lend in the long term hence duration mismatch occurs The ultimately can be the panics or collapse of the banking system Make sure the safety payment mechanism exist is essential Poor regulatory and supervisory structures contributed significantly to the failure of the whole process of liberalisation (Villanueva and Mirakhor, 1990) The presence of moral hazard problem in the financial system of most high repressed economies dues to explicit or implicit deposit guarantee schemes or many forms of government support Moral hazard makes banks behave as risk takers and set the interest rates at higher and riskier levels as they would be, and tend to lend aggressively thus provide wrong signals to the non-banking sector about the future returns Over borrowing and potential increase of non performing loans will occur If the economy was not opened up towards the international capital markets, then the domestic problems would be absorbed locally and not severe suffer the economy However, if the capital account has been already liberalised by that time, over borrowing would take place and result in serious problems (McKinnon and Pill, 1997) Adequate supervision and regulation is necessary Financial crisis in Mexico in 1994-1995 is the evidence for the importance of supervision and regulation Mexico started to deregulate its financial sector in the 1980s With its privatisation and deregulation, bank credit to private non financial sector grew rapidly from 10 per cent of GDP in 1988 to over 40 per cent of GDP in 1994 (Mishkin, 1996) The currency denominated liabilities of banks shot form 116, billion Peso in 1993 to over 213 billion in 1994 (Minskin, 1996) The lending boom in the absence of adequate supervision and regulation environment makes non-banking financial institutions expanded their loan activities and took excessive risks Since Mexico had high inflation, and debt structure was mostly short term duration with the same due of maturity and denominated in foreign currency, the banking system became fragile and vulnerable when interest rates in US in 1994 put upward pressure on interest rates in Mexico Under pegged exchange rate, Mexico‘s central bank have to increase interest rates to keep the value of Peso Interest rates increased leads to increase in asymmetric information and adverse selection problem in the financial markets This intervention exhausts Mexico’s international reserves and ultimately the government had to devalue Peso in 1994 Lending fell sharply at the same time with the increase in withdraw funds of investors makes Mexico fell in a deep recession in 1994 Mexico clearly did not have macroeconomic stability before opening financial sector hence fails to liberalise the economy Highly repressed economies in initial stage of development are much segmented domestic labour, goods and financial markets Regarding to labour market, the urban segmented labour market is relatively organised and industrial labour force coexist with a large primarily informal rural work force The financial markets are also segmented and made up of a number of sub-markets (Huu-Dung and Yeo-Chang 2012) Due to the lack of financial instruments available to other money markets and capital market and commercial banks still maintain a fairly high excess reserves ratio; the volume of trade in the financial markets is low This is closely associated with the less developed payment system of the central bank As the interest rates of excess reserves are high, commercial banks lack of motive to reduce them This has driven down the demand for interbank borrowing The development of financial markets therefore depends on the further reform of the reserve system and the efficiency of the central banks payment and financial market as a whole iii Liberalising international trade needs to remove quotas, tariffs and other direct administrative controls, and reduce tariffs across the board since a high repressed economy is usually under massive quantitative protected restrictions These protections are administrative controls through either indirectly or directly The administrative controls can be many sets of tariffs or subsidy These tariffs or subsidy, however, highly distort prices either directly or indirectly rather than “equivalent” tariffs This provides market the wrong signals, causing the economy away from the optimal equilibrium It is necessary to replace these quantitative quota and administrative controls by appropriate tariffs McKinnon (1982, 1991) suggested that liberalisation of international trade should be undertaken gradually and in parallel with decontrol prices in the domestic trade of goods and services The implicit structure tariffs should be carefully approach because it can causes collapse of domestic manufacturing Subsidy for producers, for example, is in order to keep effective domestic prices of primary input below some countries which are prevailing in the world Removing it can make the domestic producers lost the target markets and end up with bankruptcy Recently, when analysing the liberalisation process of the former socialist economies, McKinnon (1991) suggested that optimum order of liberalizing foreign trade for highly-protected economies may begin by converting their implicit quota restriction into explicit tariffs such as preannounce the adjustment or establish special international economic zone for international operation then expand rights to other places This had been successful archived some countries such as Chile’s liberalisation Chile has been a remarkable reform During years time, most of quantitative restrictions on foreign trade were eliminated and tariffs were reduced form an average rate of 94 per cent to a uniform rate of 10 per cent By the end of 1976 the Government successfully accomplished the unification of the exchange rate and eliminate all restrictions on payments for current transactions The reform was preannounce and carried out according to schedule, which contribute to the success (McKinnon, 1982) However, free international trade needs not means extending full foreign exchange convertibility to capital account transactions Let strong foreign currency to circulate in parallel with relatively week domestic currency may cause destabilise Moreover, as long as domestic banks still remain restricted, there is no point or even destructive to allow foreign banks to operate freely in domestic markets After current account liberalization, opening of capital account can be implemented Opening capital account at the earlier stages of the reform may result in large inflows of foreign capital due to substantial interest differentials Under both the fixed and floating exchange rates these inflows will result in a real appreciation of the domestic currency Since financial markets adjust faster that goods markets, this real appreciation may be destructive for the economy (Edwards 1984) iv Liberalisation of capital account involves the elimination of restrictions on inflows and outflows of foreign direct investment as well as portfolio investment and the use of long and short term financial instruments This allows domestic residents to borrow freely from or deposit in international markets Foreign exchange is freely convertible on capital account Liberalisation capital account will help economy gain lots of benefits Liberalisation capital account brings about freedom of choice for investors and borrowers in choosing and exchange assets The diversifications of assets offer to investors the risk diversification for avoiding unexpected lost The more integrated economy creates more channels for evasion Free flow of capital can improve welfare if the domestic financial markets are efficient, and foreign funds are used to support the development process Foreign capital can reduce the cost of capital and help make financial intermediation more efficient Most empirical studies found that capital account liberalisation have positive effects on domestic investment, and technology (Mehran and Seyed, 2017) In addition, resource allocation is also more efficient through increasing completion for financial resources It is no point to restrict capital transaction since it creates lost in effectiveness, incurs high administrative cost, distorts the economy, and raises corruption and rent seeking behaviour However, there are some criticisms of capital liberalisation When liberalise capital account, the ability to carry monetary policy autonomy and exchange rate stability will be reduce simultaneously (Gertler and Karadi, 2011) Macroeconomic management for excessive capital inflows may be more difficult as well Excessive capital inflows may go beyond absorptive capacity of the banking system create inappropriate lending decisions lends to financial fragility Over borrowing syndrome may also occur However, these disadvantages can be avoided if capital account liberalisation approached in sequencing It is widely accepted that capital account liberalisation should be the last step in the economic liberalisation procedure Because the success in the trade and financial reform leads to capital inflow, the domestic currency will has a real appreciation which leads to reduce competitiveness However, the successful liberalisation of trade requires a real depreciation in order to support exporters (Edwards, 1984) The appreciation generated by the opening of the capital account will tend to reduce the profitability in the tradable goods sector at a moment when this sector is going through a costly readjustment process Consequently, capital and current accounts should not be opened simultaneously, and that capital inflow should be tightly controlled during the trade reform and then will be opened last There have been some economists such as Little, Scitovshy, and Scott have opposite argument and think that capital account should be opened first or at the same time as the current account The main argument was to use foreign funds available due to opening of capital account to smooth the adjustment process and to provide assistance to industries that are negatively affected by the trade reform When the trade barriers are reduced, domestic relative prices will be changed and resources will be reallocated across the sectors Any process of economic liberalisation will require a costly adjustment period (Yung and Hugh, 2013) To enhance the success of trade reform, there authors argued that adjustment costs such as unemployment associated with the reduction of tariffs should be kept as low as possible To accomplish this, they recommended that liberalisation of trade should be implemented slowly and that assistance, which is usually in the form of foreign funds, to finance a smoother adjustment by the import-competing industries These arguments, however, are not persuasive In fact, trade liberalisation should not be undertaken based on short-term capital inflows or on credits from foreign countries or international agencies releasing from capital account liberalisation (McKinnon, 1982) Such capital inflows are simply not sustainable in the long run, and during the liberalisation process they will throw out incorrect market signals (McKinnon, 1982) which are harmful for the economic liberalisation process as a whole Moreover, the McKinnon’s arguments for liberalising capital account last are also strongly strengthen by the theoretical approach known as an over borrowing syndrome A country fall in “over borrowing syndrome” when it undertakes successful “real side” economic reforms and removes distortions in liberalising international trade, it tends to borrow too much from financial institutions to finance investment and then faces problem of repayment for the loans The main root of over borrowing syndrome is moral hazard spreading in the banking sector The sources of moral hazard in the financial system that generate the market failure which leads to over borrowing are likely to include the explicit or implicit insurance, government guarantee, and fixed exchange rate policy The moral hazard will induce the banks, which subject to both credit risk and currency risk, borrowing unhedged excessively to finance domestic investment During the economic downturn, when the bank borrowers fail to repay the loans, the banking sector can systematically goes to bankruptcy Then it leads to the lost of foreign investors confidence which eventually results in financial crisis In the over borrowing syndrome model, all financial flows are intermediated through domestic banks because banks have special characteristics First, banks have certain informational advantage on the lending side Second, bank liabilities are central to the domestic payment system, a vital component of a modern economy, which make them enjoy explicit or implicit government guarantee (McKinnon, 1998) A credit channel from bank lending to real activity, therefore, is important for the liberalising economy However, in assessing investment risks in the reforming economy, banks may suffer from moral hazard by ignoring the probability of the bad outcome to occur that leads them to behave too optimistically regarding the pay-off from new investment (McKinnon 1999) When economy is liberalised domestically (see Figure 1) the nonbaking sector starts to borrow from domestic capital markets Some firms invest into new technology some into old technology and put savings into banks Figure 1: Rational – Beliefs Equilibrium in the DLE Source: McKinnon and Pill (1997) Assuming that investment returns in Period are known with certainty than the market works efficiently The problem occurs when banks exploit moral hazard, which exists in domestic capital market due to the implicit and explicit government guarantee of bank deposits When prudential supervision is insufficient, banks start to lend aggressively and send a wrong signals to the non bank sector about futures on investment are represented by function α’ g(.) When investment turns out to yield less than anticipated, borrowers can not repay the loans and ultimately end up with bankruptcies Because the economy is not opened to the international markets yet, this problem can be solved with not too much cost Although firms and households see their future income to be high, the sharp increase in the domestic interest rate restrains consumption and investments Thus it does not lead the economy into serious over investment and over consumption (McKinnon, 1997) When the domestic economy open to the international market, all firms and households become net borrowers in Period Firms tend to borrow money form abroad too much and channel them to the domestic lenders Due to moral hazard problem, they expect national government or international organizations such as IMF or World Bank bail them out if crisis happens Unless tightly regulated, domestic banks will borrow excessively from both domestic and international capital market and lend the proceeds to speculative domestic investment and consumption (McKinnon, 1999) This leads to an excessive expansion of credit and ultimately leads to overinvestment and over consumption XM IRB CILE IRB Figure 2: Rational – Beliefs Equilibrium in the ILE Source: McKinnon and Pill (1997) Again the function α’ g(.) represents wrong anticipated pay-off on investment As a result, consumption and investment levels increase Over consumption and over investment occur as a result of banks lending aggressively and sending wrong optimistic signals to non-banking sectors Over consumption and over investment are represented by W and V respectively If prudential supervision is inefficient, risk – neutral banks will shorten the true probability distribution of futures by overly discounting the possibility of bad outcomes Thus, risk-neutral banks could run their loan programs over optimistically Unaware of the inadequacy of bank supervision, firms and households take this overly optimistic signal at face value and bid eagerly for funds to exploit the fake higher returns This corresponds to what Kurz (1994) called rational beliefs equilibrium Under deposit insurance loosely supervised banks prefer to gamble with government money When banking supervision is effective, regulator will ensure that banks not exploit the potential for moral hazard, and credit conditions will accurately reflect the privileged information about macroeconomic development enjoyed by the banking sector However, when regulators are unable to control the moral hazard problem, the signal being implicitly in credit conditions will be distorted in a direction that may head to over borrowing and increase financial and macroeconomic instability As banks signal higher payoffs for investments than the reforms warrant, increase consumption and investment make saving decline and the current account deficit Unless the economy experiences a lucky payoff in the future, this situation is unsustainable Firms will have wide spread loan default and cause domestic banking system to seize up and could require a bail out from foreign indebtedness (McKinnon, 1997) The cause of over borrowing syndrome can also be the unhedged currency risk Usually the interest rates in the international market are lower than interest rates in the countries that have a reform program The domestic banks will borrow abroad in foreign currency at the low interest rates and lend to domestic resident at higher interest rate in domestic currency Due to problem of moral hazard spreading in the banking sector, the domestic banks will borrow unhedged in foreign currency because they are implicitly or explicitly protected by deposit insurance and other government guarantees Moreover, usually in developing countries adopting the fixed or pegged exchange rate policy, banks will take unhedged foreign exchange positions when they borrow money in foreign currency because they are implicitly guaranteed by the fixed exchange rate policy that the exchange rate will not fluctuate much However, if there is a sudden economic downturn and domestic currency depreciated, the loan from abroad in foreign currency will increase abruptly in term of domestic currency In countries where the governments provide implicit and explicit deposit insurance and adopt the fixed exchange rate policy, banks are able to offer credit to private sector at artificially low interest rates and will have tendency to implicitly transfer most of the currency risk incurred on to the government by borrow unhedged If the domestic regulators allow banks and financial institutions to assume both credit and foreign exchange risks simultaneously, the regime is unlikely to survive In many emerging markets, failures by banks borrowers appear to trigger currency devaluation that imposes enormous capital losses on banks The consequence is bankruptcies that are likely to trigger the collapse of foreign investors’ confidence and eventually leads to currency crisis of many countries such as Mexico Mexico fell in crisis in 1994-1995 after starting to embark economic reforms in the mid 1980s Starting to move toward free trade, Mexico had undertaken an intensive structural reform focusing on privatization, deregulation of domestic industry, and fiscal consolidation (Martinez, 1998) Banking sector was privatized and reserve requirements had been reduced quickly and banks credit controls were lifted (GriffthJones, 1996) It had also undertaken financial reforms, renegotiated its external debts, and made great efforts to open up trade The reforms favouring free trade attracted large capital inflows particularly after 1988 The major capita inflows were foreign portfolio investment that more volatile feature than other forms of investment This implies the country’s vulnerability to capital flight during the economic downturn However, the foreign direct investment kept rising at a moderate rate while the portfolio investment rose considerable (Figure 1) These large capital inflows were also consistent with interest rate differential that the domestic rate was higher than the foreign rate These capital inflows were one of the main causes of external current account deficit (Martinez, 1998) These phenomenons reflect high risk of over borrowing occur Over borrowing and over consumption arise when banks exploit moral hazard implied by the government guarantee (McKinnon and Pill, 1997) As the capital account of Mexico open, commercial banks borrowed internationally at a low interest rate With out adequate and effective regulations, banks ten to over borrow and over lend Bank’s over lending sends wrong signal to non-baking sector and households hence they increased their consumption and investment with expectation of higher future payoffs As the result, saving declined and current account deficits Private saving in GDP of Mexico fell by half between 1984-1990 and 1991-1993 Import grew at nearly 50 per cent per year in seven years from beginning of reform to the crisis At the mean time, the rapid growth of domestic credit reflecting easier access to credit following the financial deregulation and privatization of commercial banks Specifically, in 1994, commercial bank credit grew by over 100 per cent in real terms, credit for housing increased by 1000 per cent and credit for consumption rise by over 45 per cent Both banks and non-banking sector expanded their loans by taking on excessive risks (Minskin, 1996) As the result, many loans are bad These significantly contribute to a worsen balance of payment in Mexico in 1994 In addition, the pegged exchange rate policy of Mexico has implicitly guaranteed that there will be no changes in the value of Peso This encourages banks tend to over borrowing unhedged leading to excessive exchange risk (Martinez, 1998) Before the crisis in 1994, there were very large share of banks’ total outstanding credit denominated in foreign currencies, mainly US dollar (OECD, 1995) The appreciation of real exchange rate, growing short term external debt, large current account deficit, Mexico finally have to float its exchange rate in 1994 Mexico had undertaken reform with out order In other worlds, it had taken capital account liberalisation simultaneously with privatisation of banks with out sufficient attention on improving supervision and regulation (Griffth, 1996) Moral hazard led to over borrowing and over lending which eventually caused currency crisis and financial crisis in Mexico in 1994 In recent years, the financial crisis in East Asian economies again confirmed the necessary of the order of economic liberalisation Even though these East Asian economies have sustained macroeconomic stability through fiscal discipline and moderated rates of inflation, which contributed to their rapid economic growth for many years, the weaknesses of their financial systems were revealed by the events of 1997 (Copper, 1999) All countries such as Thailand, Malaysia and Indonesia had a large external debt and mainly short term maturity (Mehran and Seyed, 2017) Most of these debts were denominated in US dollar and Yen They also have pegged exchange rate regime and consistently continue this policy until international reserves were almost exhausted just before the crisis happened Poor banking regulation and supervision also contribute greatly to the collapse of financial system of East Asian economies in 1997 (Mehran and Seyed, 2017) 3 Conclusion How to restructure the economy is an important question for many developing countries This paper argues that the first step is that macroeconomic environments such as fiscal consolidation and low inflation should be achieved to provide a prudential base for other reforms With out macroeconomic stabilisation, problems such as inflation and budget deficit could be arise and defeat the purpose of reform The next step is removing distortions in domestic goods, labour, and capital markets, which are very high in the highly repressed economies, in order to improve capability of collecting non-inflation tax to generate revenue for the government International trade liberalisation helps to remove quota, tariffs and other administrative controls and reduce tariffs across the board The final step is liberalising capital account References Bhagwati, J., 1978, ‘Anatomy and consequences of exchange control regimes’, Foreign Trade Regimes and Economic Development, vol 11, National Bureau of Economic Research, Cambridge, MA Cooper, R., 1999, ‘The Asian crises: causes and consequences ’, in A Harwood, R Litan and M Pomerleano (eds.) Financial Markets and Development: The Crisis in Emerging Markets, Washington D.C.: Brookings Institution Press Cashin P., Olekalns N., Sahay R., 1998 Tax smoothing in a financially repressed economy: evidence from India International Monetary Fund Edwards S., 1984, ‘The order of liberalization of the external sector in developing countries’, Essays in International Finance, No 156, Princeton Fry, M., 1997, ‘Financial sector development in small economies’, in A Harwood and B Smith (eds.) Sequencing? Financial Strategies for Developing Countries, Washington D.C.: Brookings Institution Press Gertler, M and P Karadi (2011) A model of unconventional monetary policy Journal of monetary Economics 58 (1), 17–34 Gertler, M and N Kiyotaki (2010) Financial intermediation and credit policy in business cycle analysis Handbook of monetary economics (11), 547–599 Hallwood, C and Macdonald, R 1994, International Money and Finance, 2nd edition, Oxford: Blackwell Harwood A., 1997, ‘Financial reform in developing countries’, in A Harwood and B Smith, (eds), Sequencing? Financial Strategies for Developing Countries, Washington D.C., Brookings Institution Press Johnston R Barry, 1997, ‘The speed of financial sector reform: risks and strategies’, in A Harwood and B Smith, (eds), Sequencing? Financial Strategies for Developing Countries, Washington D.C., Brookings Institution Press Krueger, A., 1978, ‘Liberalization attempts and consequences’, Foreign Trade Regimes and Economic Development, vol 10, National Bureau of Economic Research, Cambrige, MA Lal, D., 1987, ‘The political economy of economic liberalization’,World Bank Economic Review, vol 1, No 2, pp 273-99 Leung, S., 1991, ‘Financial liberalisation in Australia and new Zealand’ in Ostry, S (eds.), Authority and Academic Scribblers: The Role Of Research in East Asian Policy Reform, International Centre for Economic Growth, San Francisco Leung, S., 1993, ‘Exchange rate regimes and outward looking growth’, published in Garnaut, Grilli and Riedel (eds.), Sustaining Export Oriented Development in East Asia, Cambridge University Press, 1995 McKinnon R., 1982, ‘The order of economic liberalisation: lessons from Chile and Argentina’, Proceedings, Carnegie-Rochester Conference Series on Public Policy 17: 159-86 McKinnon R., 1991, The order of economic liberalisation: Financial Control in the Transition to a Market Economy, John Hopkins, Baltimore McKinnon R., and Pill, H 1997, ‘Credible economic liberalisation and overborrowing’, American Economic Review, vol 87, Issue 2, Papers and Proceedings of the Hundred and Forth Annual Meeting of the American Economic Association (May, 1997), 189-93 Mehran E., Seyed A M., 2017 Capital misallocation effect of financial repression in less-developed countries Avalaible at: http://dx.doi.org/10.2139/ssrn.2937949 [Assessed on: 24.04.2017] Mishkin, F., 1996, ‘Understanding Financial Crisis: A Developing Country Perspective’, Annual World Bank Conference on Development Economics, World Bank, Washington D.C OECD, 1995, OECD Economic Surveys 1994-1995: Mexico, Paris Villanueva, D and Mirakhor, A, 1990, ‘Strategies for financial reforms: interest rate policies, stabilization, and bank supervision in developing countries’, IMF Staff Paper, 37(3): 509-36 Yung C.P., Hugh P., 2013 How finance is shaping the economies of China, Japan, and Korea Columbia University Press  ... 1994 In recent years, the financial crisis in East Asian economies again confirmed the necessary of the order of economic liberalisation Even though these East Asian economies have sustained macroeconomic... repayment for the loans The main root of over borrowing syndrome is moral hazard spreading in the banking sector The sources of moral hazard in the financial system that generate the market failure... question how to approach economic liberalisation McKinnon in 1982 (and then in 1991) initially proposed a gradual approach economic liberalization He argued that the appropriate policies, and in particularly