EAI MPDI Working Paper No. 3

Author

Yong Wook Lee is an Associate Professor in the Department of Political Science and International Relations at Korea University, Seoul, Korea. He is an author, editor, and translator of six books, including “The Japanese Challenge to the American Neoliberal World Order: Identity, Meaning, and Foreign Policy” (Stanford University Press, 2008), and “China’s Rise and Regional Integration in East Asia: Hegemony or Community?” (Routledge, 2014). Lee’s works also appeared in various academic journals, such as International Studies Quarterly, Review of International Political Economy, and Review of International Studies. He is currently finishing up a book on East Asian financial regionalism. Lee received Ph.D. in international relations at the University of Southern California in 2003.

I. Introduction

Foreign policy consists of two elements, policy goals and strategies. Policy goals entail a state’s defining of what to defend and achieve in its relations with other countries. Strategies are tools to help materialize foreign policy goals. Defining national interests (or setting policy goals) works on three levels. First, it can be a product of broader, macro-historical, political, economic, and security environments, in which a state finds itself. Second, national interests get also formed by strategic contexts, which emerge from a state’s construction of its foreign relations. Last but not least, domestic politics can also be critical to foreign policy decisions on certain occasions. In terms of policy tools (strategies), these include physical coercion, negotiation, cooperation, and persuasion. These mechanisms proceed in the form of unilateralism, bilateralism, and multilateralism. For countries that are not considered to be great powers, the scope of their policy selections as well as policy tools can be rather limited, as they tend to be a rule-taker rather than a rule-setter.

In international politics, financial and monetary relations are the nucleus and backbone of the international economic order(s). As such, they are an arena of competition and cooperation that involves power, interests, and ideas among great powers. From the late 19th century to early 20th century, both capital liberalization and the gold standard were inseparable from the hegemony of Great Britain. Similarly, the establishment and demise of the Bretton Woods System and the surge of neoliberalism as the organizing principle for financial and monetary order all materialized within the framework of competition and cooperation among great powers, such as the United States and the G-7 (Cohen 1966; Kindleberger 1971; Krasner 1982; Ruggie 1983; Keohane 1984; Cox 1996; Strange 1998; Ikenberry 2001). These examples suggest that the dialectics of change and continuity constitutes the history of international financial and monetary order over the last 150 years. Change and continuity have occurred through interactions between market and state across global, regional, and national boundaries. These interactions institutionalize the practices of states’ behavior, acting on and against an existing order.

A core function of institutionalization is the process of rule-making and rule-transformation. The politics of global standards is a case-in-point. At the same time, a rule accompanies a ruler and the ruled (Onuf 1989). The trinity of the Bretton Woods system—the International Monetary Fund (IMF), the World Bank, and the World Trade Organization (WTO)— demonstrates the relationship between the ruler and the ruled through rules. Rule-setters set the terms on which future interactions among members take place. They are the authors of the rules of the game. By contrast, rule-takers’ main policy goal is to adapt themselves to the changing international financial and monetary order(s). Put differently, weak powers’ policy preference reflects constrained choices with little or a relatively narrow range of policy autonomy.

The start of the 21st century shows that the world has changed and so has Korea. The world economic order is at a crucial crossroad of transformation. Korea, previously a rule-taker as a catching-up state at best, is taking an important step toward being potentially a rule-setter. The fact that Korea today is a member of the G-20, the consultative body for the world economic order created in 2009, is one example of such transition. In the history of the world economy, the next ten years can be noted as a period of epochal change, ushering in the great transformation of the world economic order.

The 2008 global crisis leads to calls for changes to be made in the international financial and monetary order at both a global and regional level. First, the hegemony of the dollar is eroding (Helleiner 2009; Eichengreen 2010). The Euro, which was created on the basis of the neoliberal economic paradigm, is also facing massive challenges (McNamara 1998; Gillingham 2005). China has attempted to reduce its dollar dependency by promoting the internationalization of its currency, the Yuan (Lee 2011). Furthermore, Latin America, Africa, and the Middle East have either already embarked on or are in the process of entering into regional monetary alliance. East Asia is no exception. The Association of South East Asian Nations (ASEAN) and Korea, China, and Japan (the ASEAN Plus Three: the APT) often in collaboration with the Asian Development Bank (ADB) have been seriously working on the possibility of creating a regional currency. Although the nature of the discussion on this project is long-term, it signifies the level of dissatisfaction the APT holds with the current dollar hegemony. As Eichengreen (2010) predicts, perhaps the demise of the dollar system is coming. The world economy is shifting toward a system of multi- or “leaderless (Cohen 2010)” currencies.

If monetary order is about a problem of exchange rates that ensures the stable operation of currency supply and demand, necessary for the vitality of trade and investment, financial order, on the other hand, is concerned with institutionalizing rules for the formation and development of financial markets around the world. The making of financial order is often associated with the degree of capital liberalization required for promoting trade and investment. But the downside of financial market liberalization is frequent financial crises in the world economy. As such, another pillar of financial order is to institutionalize financial safety nets to prevent and manage financial crisis. Neoliberal financial liberalization that has been brought about by globalization in the 1980s was dealt a big blow from the 2008 global financial crisis. Its repercussion still remain today, its effects are still being felt in Europe and elsewhere. Active discussions on establishing a regional financial crisis prevention mechanism like the European Stability Mechanism (ESM) are going on in Latin America, Africa, and the Middle East. These regions are actively seeking to reduce their vulnerability to and dependency on the movements of the western financial markets.

East Asia is also following the same trend. The APT has been actively pursuing the establishment of a regional financial safety net and regional financial market development since the Asian financial crisis of 1997-1998. As detailed below, the Chiang Mai Initiative (subsequently the Chiang Mai Initiative Multilaterlaization: CMIM) represents East Asia’s effort to institutionalize cooperation for a regional financial safety net. The APT has given serious consideration to the idea of further developing the CMIM toward an Asian Monetary Fund (AMF), Asia’s version of the IMF. In this context, in May 2011, The APT launched the ASEAN plus Three Macroeconomic Research Office (AMRO) in Singapore. This is a sister institution of the CMIM, whose institutional purpose is to monitor and offer advice on member states’ macroeconomic policy and performances as a regional surveillance unit. In May 2013, the APT unanimously agreed to give the AMRO international institution status. The AMRO became the first financial institution in the region with international institution status. In regards to regional financial market development, the APT introduced the Asian Bond Market Initiative (ABMI) in 2002. In order to facilitate regional bond market development, the APT has made three institutionalized cooperation schemes. The first was the creation of a Credit Guarantee Investment Facility (CGIF) in May 2011. The second is the establishment of a Regional Settlement Intermediary (RSI), which is currently under way; the third being the launch of the Asian Bond Market Forum (ABMF) in 2010. The ABMF aims to standardize local (or national) rules and norms of bonds’ transaction across the region.

With that said, there are three layers to the changing international financial and monetary order(s) that lay out a structural context for Korea’s financial and monetary diplomacy. The first layer relates to the depth, degree, and direction of the change in the existing neoliberal institutional framework, such as the IMF reform. The second is the extent of emergence and solidification of the increasing number of regional financial and monetary systems (Katzenstein 2005; Powers and Goertz 2011). The third layer connects to the relational characteristics of financial and monetary order developing at a global and regional level. Will they develop in a mutual complementary way? If not, will they develop exclusively and be institutionalized in a competitive form not only globally and regionally but also inter-regionally?

How can Korea, which is not a great power in any meaningful sense, effectively carry out the role of a rule-setter, encompassing the world and East Asia in this major transformational period? More concretely, how can Korea secure such policy goals as exchange rates stability, financial market developments, and financial stability without at the same time losing its policy autonomy? Would there be any way for Korea to project its policy preferences onto the emerging global and East Asian regional finance and monetary order? In light of both the 1997 and 2008 financial crises that shook the Korean economy and threatened to turn it completely upside down, the importance of financial diplomacy cannot be over stated to Korean policy makers.

This paper argues that multilateralism, particularly multilateralism linking regional and global dynamics, should be the cornerstone of Korean financial and monetary diplomacy. Being a middle power that is far more limited in projecting its policy preference on the international arena than a great power is, Korea should not only employ multilateralism as a policy tool. Korea should also pursue it as a goal in itself, if Korea is to be a rule-setter in the changing international and regional economic order(s). To be specific, Korea’s multilateralism should be a mixed strategy of regional and global linkage. By this it means that the best way to maximize Korea’s policy influence is to take a two-step approach (not mutually exclusive), attempting to exercise global clout that derives from solidifying regional multilateralism. This is a bottom-up strategy that flows from regional to global processes. In developing and designing regional financial and monetary arrangements in East Asia, Korea should build trust and mutual experience in policy cooperation and coordination with China and Japan. Korea should actively take the role of an honest broker in these regional rule-making processes. In so doing, Korea can consolidate patterns of cooperation among regional powers. These patterns of cooperation would then translate into the regional source of Korea’s global influence. In short, Korea can do much more in shaping the global financial and monetary order(s) than what its middle power position may allow it to do by choosing to embrace East Asia. As this paper will further elaborate on, a strategy of regional and global linkage opens up more possibilities for Korea to implement and reflect its policy preferences in comparison to other strategies. Of course, there may be a limit as to how far a middle power can go in initiating a multilateral approach and designing an institutional framework. Nonetheless, it can effectively take advantage of the multilateral framework already established, as the extant literature on multilateralism suggests.

This paper consists of the following. First, it discusses why multilateralism is useful for Korea, a middle power in light of the existing literature. This section provides a theoretical framework for the main argument. Next, it sketches out the developments of East Asian financial and monetary cooperation, which is represented by the CMIM, and global G-20. Along with it, this section examines and evaluates Korea’s multilateral diplomacy in these processes. On the basis of the discussion above, this paper concludes by revisiting the importance of multilateral strategies on the regional and global linkage of Korea.

II. Multilateralism and Middle Power Diplomacy

1. Why Multilateralism?

Multilateralism is a method with which a state performs its diplomatic practice together with unilateralism and bilateralism. For a non-great power, unilateralism is not something it can practically pursue or prefer, so long as unilateralism accompanies a considerable level of coercive power. As such, a non-great power ends up with two options, bilateralism or multilateralism. However, for the following reasons, multilateralism, not bilateralism, tends to work better for such actors. This paper examines the advantages of multilateralism first theoretically, and second, practically—in mind of Korea’s middle power diplomacy.

Multilateralism itself brings about many benefits to non-great powers like Korea. First and foremost, consensus-based multilateralism as opposed to other forms of political processes enables the voice of non-hegemonic states to be heard in a decision making process. Of course it is not always the case that final policy decisions distributes symmetrical benefits to all participating states. Furthermore, multilateralism may also be window-dressing for hegemonic politics, just as realists argue (Krasner 1985; Mearsheimer 1995; Grieco 1999)...(Continued)