Fair Winds with the Possibility of Storms

Deputy Prime Minister, Keat Chhon Sits in for a System Test During a Mock Trading Session at the Cambodia Securities Exchange.  Image: Reuters/Samrang Pring
Deputy Prime Minister, Keat Chhon Sits in for a System Test During a Mock Trading Session at the Cambodia Securities Exchange. Image: Reuters/Samrang Pring

Deputy Prime Minister, Keat Chhon Sits in for a System Test During a Mock Trading Session at the Cambodia Securities Exchange. Image: Reuters/Samrang Pring

The IMF forecast for Cambodia makes good reading for the country’s policy makers, though it is not without its caveats. BY JESSICA SANDER

This year might see the start of a fresh new economic community for ASEAN, but for Cambodia there remains a familiar set of problems, warns the International Monetary Fund (IMF) in its recent report.

“Domestically we see a rise in financial sector vulnerabilities from rapid credit growth, fiscal pressures from rising public sector wage increases, and the erosion of competitiveness in the garment sector within Cambodia,” says Yong Sarah Zhou, the IMF’s Cambodia resident representative.

Stephen Higgins, managing partner of Mekong Strategic Partners advisory firm, agrees on the former point. “Credit growth is too high and I think any sensible person would agree with that,” he says.

Though the IMF’s Article IV staff report released last November has a fairly sunny disposition, these domestic concerns along with other external factors – such as the strength of the dollar to which the country is tied, a slowdown in exports to the EU, and weaker-than-expected growth in FDI from China – could hinder the government’s goal of reaching upper-middle income status, as defined by the World Bank, by 2030.

It also has little wiggle room.

“Cambodia has limited policy tools to support growth to o set these risks due to high dollarisation and the lack of monetary control and fiscal space in the medium term,” says Zhou.

The IMF report highlights sustained year-on-year credit growth of 30 percent, along with increasing bank funding from abroad and the swift expansion of both real estate and construction sectors, as key domestic factors that pose significant macro financial risks for the kingdom.

It advocates a balanced strategy of preserving financial stability and encouraging growth. While welcoming the recent expansion in the coverage of reserve requirements to include banks’ foreign borrowing, it sees a need for additional measures, such as raising the reserve requirements of micro-finance institutions (MFIs) to match those of banks, and introducing policies, such as more stringent guidelines on deposits, to help moderate the pace of credit growth. Closer monitoring of developments in the real estate and construction sectors is also advocated.

The recommendation to bring MFIs in line with banks – through adopting more prudent regulations on large deposit-taking and enhancing the National Bank of Cambodia (NBC)’s powers for intervention, corrective measures and enforcement – divides opinion.

“This measure is unfair because MFIs offer more limited financial services compared to commercial banks, and it is too costly,” says Hout Leng Tong, president of HKL MFI.

The report states that credit stock and flows from MFIs are now respectively 20 and 25 percent of banks reserves. On average, deposit-taking MFIs exhibit Loan to Deposit (LTD) ratios of more than 200 percent, and are predominantly funded through foreign borrowing.

In response, Zhou recommends that the NBC includes MFIs under the new measures on reserve requirements banks are required to follow, which were enforced in March 2015.

“Whatever they borrow abroad, they should impose 12.2 percent on the MFIs so they are treated as banks,” she says.

Although Tong agrees that an overreliance on overseas funding is unadvisable and that the NBC should cap borrowing ratios, he believes raising capital requirements to the rates of banks will make MFIs less competitive leading to extra costs being passed down to their customers.

Higgins disagrees. “ The IMF’s recommendations are spot on,” he says. “If you consider the eight big MFIs, they are large financial institutions and bigger than most of the banks here. In many ways they now look like and act like banks, and have more customers than banks. They absolutely should be regulated in the same way as banks.”

In addition Zhou advocates building policy buffers that would boost economic resilience.

These include encouraging banks to be more reliant on internal sources of funding to mitigate risks, and implementing stabilising funding requirements, such as on LTD ratios, to ensure banks hold stable liabilities to fund their assets. is would also serve as a brake on excessive credit growth.

Zhou believes that liquidity buffers will assist when there is a “modest shock to financial stability,” but that a more comprehensive approach is needed to cope with financial crises. “Co-operation between the relevant parties – Ministry of Economy and Finance, NBC and the Securities Exchange – needs to be improved to strengthen the crisis management framework,” she says.

She also sees the need to speed up necessary structural reforms in order to diversify the economy, especially if risks, such as a protracted growth slowdown, materialise.

The government’s recent Industrial Development Policy (2015-2025) is a response to this, providing restructuring frameworks across all ministries to foster competitiveness, diversification and inclusive growth. e principle strategy is the vertical integration of existing garment and food processing sub-sectors, and the expansion of light manufacturing with a focus on how to capture larger portions of the value chain, as well as addressing the low skill and education levels of the workforce, high energy costs and lack of infrastructure.

However, critics of the IMF are well-versed with the institution’s doctrine of essential structural reform packages.

The institution came under fire for implementing tough reforms across the region during the Asian Financial Crisis. Worldwide, it’s often accused by large international human rights groups, such as Global Exchange, of working against rather than supporting the sustainability of developing nations by placing the burden of conditionality on the poor through overly stringent structural reforms.

More recently, academics at Princeton University and the Levin Institute based in the State University of New York, have accused the IMF of digging a deeper hole for Greece in its handling of the European nation’s financial crisis. Its tough medicine of pension cuts, wage freezes and tax increases drove the Greek economy even further into collapse, they argue.

“A more realistic solution should have involved some adjustment, some financing and some debt relief, leading to a balanced approach,” said Olivier Blanchard, IMF’s former chief economist, in his paper on Greece and its path forward last year.

Some of the fund’s opponents believe it should have written o the debts to force the banks to bear the losses rather than implement growth-snapping budgetary cuts, placing undue suffering on the Greek people.

Domenico Lombardi, a former executive board member of the IMF and World Bank commented back in July 2015 that the IMF bent its emergency lending rules to partner with European governments to allow further lending disregarding economic logic. In response, the IMF later admitted during a global economic forum that it failed at the time to realise the damage caused by its bailout programmes.

In defence of her employer, Zhou states that many of the policies implemented during the Asian Financial Crisis have proved beneficial over the long term.

“The experience during the recent Global Financial Crisis is testament to the underlying strength of Asian economies,” she says. “ They all came out very resilient [from the Asian Financial Crisis]. So there was benefit from the very di cult reforms that were taken over the past 15 years. Many of the reforms recommended by the IMF helped shield them from the recent crisis.”

However, Zhou adds that the IMF also learned lessons from its handling of past crises. It now pays closer attention to debt sustainability, in its annual consultations.

“We introduced the Financial Sector Assessment Programme (FSAP), in conjunction with the World Bank. is aims to help member countries strengthen their financial systems by making it easier to detect vulnerabilities at an early stage. Cambodia had its first FSAP in 2010 she says.

Zhou claims the IMF has also become more attuned to the social impact of its programmes. “By deepening and widening social safety nets and devoting budgetary sources to increasing necessary subsidies, you help shield the vulnerable,” she says.

Higgins echoes this sentiment.

“In my time here, the IMF representatives have kept a close eye on social outcomes in Cambodia,” he says. “Its approach is very logical and pragmatic, not ideological. It’s focused on making sure that the Cambodian economy is as strong and resilient as possible and that’s why I think it has been able to engage with the government in a very powerful way.”

As we enter a new dawn, time will tell whether Cambodia will implement the structural reforms required to maximise the great opportunity afforded by its membership of the nascent trading bloc, or indeed whether IMF policies prove more successful – or at any rate less open to criticism – than they have in the past.


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