Convergence and Its Implications for a Common Currency in ASEAN Kraiwinee Bunyaratavej, Eugene D. Hahn
ASEAN Economic Bulletin, Volume 20, Number 1, April 2003, pp. 49-59 (Article) Published by Institute of Southeast Asian Studies

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ASEAN Economic Bulletin Vol. 20, No. 1 (2003), pp. 49-59

Convergence and Its Implications for a Common Currency in ASEAN
Kraiwinee Bunyaratavej and Eugene D. Hahn

The successful introduction of the euro brings renewed interest to the topic of whether similar approaches might be successfully implemented in other regions. One region that may be a promising candidate for this process is Southeast Asia, comprising the ASEAN member countries. These nations have long seen the value of co-operation in order to promote peace, stability, and economic growth. Nonetheless, important differences between the euro area and the ASEAN zone suggest that a wholesale importation of the European approach may be inopportune at the moment. The issues are examined by using economic convergence

modelling perspectives. In general, the findings clearly suggest that further work remains before ASEAN will be able to fully benefit from having a single currency area.

I.

Introduction

this is an achievable, or even a desirable, goal.

The recent successful introduction of a common

printed currency in the euro zone brings renewed interest to the topic of whether similar approaches might be successfully implemented in other regions. One region that may be a promising candidate for this process is Southeast Asia, comprising the ASEAN member countries. Like

the European Union (EU), the integration of the ASEAN nations was initiated for political reasons.
Many of these issues were resolved after the middle of the 1970s, and thus economic issues became more important. Over time, the ASEAN nations have slowly increased their overall level of

integration. The formation of a common currency area would be the ultimate level of economic

integration, yet it is an open question as to whether
ASEAN Economic Bulletin 49

II. Steps Towards a Single Currency ASEAN was established in August 1967, with five original member countries: Indonesia, Malaysia, the Philippines, Singapore, and Thailand. Currently there are ten member countries, the additional ones being: Brunei, Vietnam, Laos, Myanmar, and Cambodia. The ASEAN nations have long seen the value of co-operation in order to promote peace, stability, and perhaps most importantly, economic growth. In practical terms, ASEAN has not reached any significant level of regional integration, even though it is only ten years younger than the European Economic Community (EEC). ASEAN's most prominent development is the ASEAN Free Trade Area
Vol. 20, No. 1, April 2003

(AFTA), introduced in 1992, to lower the tariff

and non-tariff barriers among member countries. By contrast, in 1992 the EU had completed the single market programme, with the main objective of having a single market for capital, labour, services, and goods. During that same period, the EU was on its way to completing the third stage of the Economic and Monetary Union (EMU) to introduce a single currency. Thus, the trajectory of integration in the ASEAN region has been somewhat different from that of the EU. Perhaps this is due to the fact that the ASEAN nations do

system that will help to make them more resilient against future currency attacks and help stabilize their exchange rates. Therefore, one possible alternative is to form a single currency area, as in the case of the EMU. Third, in order to ensure that

the region will benefit from the forces of globalization opening up their markets, initiatives that eliminate exchange rate risks would provide a better trade and investment climate.

not have political incentives to drive the economic integration, as has been the case for the EU. As

Given a total population of about 510 million, combined gross domestic product (GDP) of US$737 billion, and trade volume of US$720 billion, the adoption of only one currency within ASEAN, instead of ten different currencies, would

Eichengreen and Bayoumi (1996) have pointed out, East Asian countries in general lack the political links to drive for full monetary union. Despite the ASEAN nations being still loosely integrated, the notion of adopting a single currency, or pegging currencies to an "anchor

help to increase trading volume in the region as well as its bargaining power. Empirical data indicates that the exchange rates of all ASEAN nations' currencies against the dollar tend to move together rather closely. The correlation coefficients among these currencies during the period 1995— 2002 are greater than 0.7, as shown in Table 1,

currency" like the Japanese yen, has been discussed in recent years for the following reasons. First, the success of AFTA has helped to enforce the idea of having closer economic integration. According to the ASEAN Secretariat

except for Myanmar 's kyat. Myanmar has a dual exchange rate system, an official exchange rate and a rate which is determined in the parallel market. The official rate used in this calculation

(2002), only three years after the launching of AFTA trade volumes in the region had increased dramatically: exports among the ASEAN nations increased from US$43.68 billion in 1993, to

did not change even when the parallel market rate

dropped dramatically during the Asian crisis.
A further examination of this correlation matrix

provides interesting insights into how ASEAN countries' currencies are related to one another. In

almost US$81 billion in 1996, or around 28.3 per cent a year. The share of intra-regional trade as a proportion of ASEAN's total trade also increased,

from 20 per cent to almost 25 per cent during the same period. However, during the Asian crisis,

Figure 1, we used a technique called multidimensional scaling to plot the currencies on to a two-dimensional surface or "map" by using the pairwise currency correlations in Table 1 as a

intra-regional trading volumes dropped from
US$85.35 billion in 1997 to US$69.31 billion in 1998. This amounted to an erasure of three years of growth, as the 1998 volumes were 1995. Nonetheless, exports quickly bounced back to US$95.28 billion in 2000. The increase in

proximity criterion or measure. Here, the higher the correlation, the smaller the "distance" between

approximately equivalent to the export volumes of exports can be attributed to trade with countries outside the region, because the share of intraregional trade to total world trade remained at 23 per cent in 2000. Second, in light of the Asian crisis, the countries

the currencies. The map clearly indicates a cluster of countries whose currencies are quite highly correlated. This in turn seems to suggest that there is latent potential for currency integration in the Southeast Asian region, of which full advantage has yet to be taken. We can also see that Singapore and Brunei have "central" currencies in the

context of the ASEAN region.1 Here, Singapore and Brunei's central position reflects the fact that the average of each of these two countries' exchange rate correlations — excluding the
50

in the region have a need for an exchange rate
ASEAN Economic Bulletin

Vol. 20, No. 1, April 2003

TABLE 1

Pearson Correlation Coefficients of Ten ASEAN Currencies, 1995-2002

Currency
BND IDR KHR LAK MMK MYR PHP SGD THB VND
Note:

BND
1.000 0.920 0.955 0.837 0.216 0.935 0.958 0.992* 0.937 0.941

IDR

KHR

LAK

MMK

MYR

PHP

SGD

THB

VND

1.000 0.903 0.696 0.239 0.923 0.889 0.919 0.896 0.832

1.000 0.810 0.158 0.968 0.912 0.956 0.919 0.917

1.000 0.046 0.722 0.867 0.845 0.726 0.905

1.000 0.136 0.295 0.220 0.285 0.238

1.000 0.876 0.936 0.938 0.842

1.000 0.9641.000 0.9310.943 0.9550.947

1.000 0.843

1.000

* Singapore and Brunei have a currency union, and as such the correlation should be 1 . However, the correlation is marginally less because of aggregation in the data collection process. Source: FX History, the Currency Site (2002). Correlation coefficients were calculated based on daily exchange rates versus the U.S. dollar.

FIGURE 1

Proximity-based Map of ASEAN Exchange Rates,
1995-2002
H---------------1---------------1---------------1---------------I-

them. An interesting converse of this finding is that there does not seem to be a one-to-one

correspondence between currency proximity and

geographical proximity. For example, the
Vietnamese dong is more highly correlated with the Singapore dollar than it is with the neighbouring Lao kip or Cambodian riel. Another

0.8 *MMK 0.6

noteworthy result is that the Myanmar kyat is clearly distant from the other currencies. Similarly, the Lao kip is also somewhat out of the main cluster of currencies. From Table 1, we can see

.2 0-4
C
O

B a 0.2

0.0 1 0.2 1

SGD*BND VND** * MYR

PHP JP* IDR
IvrlK

*LAK
-0.2

0.00.20.4 Dimension 2

0.6

0.8

that the correlation between the Myanmar kyat and the Lao kip is especially low. As a result, the Lao kip is especially far from the Myanmar kyat on the map. In summary, having only one to two isolated currency movements indicates that the ASEAN region could be an attractive one for forming a single currency area. III. Differences among the Countries in
Terms of Income

perfect correlation on the diagonal — are the

highest in the region (.858 and .855 respectively).

Thus, these two countries' currencies are central in the sense that the other countries' currencies tend

to be, on average, most highly correlated with
ASEAN Economic Bulletin 51

Bayoumi and Mauro (1999) have said that it may be easier to integrate countries that have a similar level of economic development. However,
Vol. 20, No. 1, April 2003

ASEAN nations are very different economically. Lim (2000) has pointed out that ASEAN countries are dotted with Internet-savvy professionals, competent managers, surgeons, and engineers, and

Singapore are in the high-income group. These marked differences make it more difficult to have

yet at the same time, a large number of cultivators and subsistence farmers exist in every country in Southeast Asia. This occupational diversity is not found in Europe. Not only do occupational levels vary widely, GDP per capita also has a wide range across the ASEAN region, as shown in Table 2. In 2000, Singapore (the highest income country in the region) had a GDP per capita that was 167 times greater than that of Myanmar (the lowest income country). By comparison, the same ratio of extremes was a mere 2.4 in the EU region in 1994, when the Maastricht Treaty convergence criteria took place.
Table 2 also shows the classification of

economies by income group. According to the World Bank's classification of economies by income (Global Development Finance 2002): Cambodia, Indonesia, Laos, Myanmar, and Vietnam fall into the low-income category; the Philippines, Thailand, and Malaysia are classified in the middle-income group; and only Brunei and

a smooth process in forming a currency union. The disparities in income could lead to instability in both politics and economics. In the past, authors have conducted studies on the feasibility of a single currency for ASEAN by examining different criteria. Bayoumi and Eichengreen (1994), Goto and Hamada (1994), and Ngiam and Yuen (2001), for example, looked at the symmetric and asymmetric shocks. The study by Ngiam and Yuen (2001) also looked in depth at the issue in terms of labour mobility, exchange rate policy, and political will in East Asia. Yuen (2001) used a structural vector autoregression analysis to look at the symmetric shocks. However, not many studies have used economic convergence modelling techniques to examine the prospects of having a common currency area in ASEAN. This paper examines the convergence process of real GDP per capita among ASEAN nations, using such convergence modelling techniques. The results can be used to examine the region's suitability for forming a single currency area.

TABLE 2

Size of GDP and Classification of Economies by Income Group
Country Myanmar
Cambodia Laos Vietnam Indonesia

GDP per capita (200Of
155 289 315 396 723 990

Income group
Low income Low income Low income Low income Low income Middle income Middle income Middle income

Philippines
Thailand

Malaysia
Brunei

Singapore
Notes:

1,986 4,016 14,094 25,864

High income High income

a ASEAN statistics, .
Global Development Finance 2002, World Bank. Economies are divided among income groups according to 2000 GNI per capita, calculated using the World Bank

Atlas method. The groups are low-income, US$755 or less; middle-income, US$756-US$9,265; and high-income, US$9,266 or more.
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Vol.20, No. 1, April 2003

IV. Economie Convergence among ASEAN
Nations

length / containing the yI('s for all / economies under consideration. Then, s, is the standard deviation of the elements of ylt. Now let T be some positive number. Then, from the inequality above, the definition of s convergence indicates

o" Convergence
In order to see whether the economies of the

ASEAN member countries have been converging, the convergence models suggested by Barro and Sala-i-Martin (1991) will be applied to data on the
ASEAN nations. Barro and Sala-i-Martin

that the standard deviation of y¡ should be decreasing over time.

Due to incomplete data for Brunei, Cambodia,
Laos, Myanmar, and Vietnam, these countries were excluded from the current analysis. Figure 2 shows

described three kinds of measures of convergence. The first is o~ convergence, which examines the standard deviation of GDP per capita. Simply stated, the less dispersion there is in GDP per capita, the greater the degree of convergence. In particular, the definition of s convergence requires that Jt+T < CS,

the standard deviation of real GDP per capita income among five ASEAN nations, from f 960 to 2000. The upward line indicates evidence of economic divergence occurring at an overall level. Since ASEAN nations are very varied in terms

of GDP per capita, it is more useful to examine the a convergence of each of the three income groups identified earlier. Figure 3 displays the results of

if s convergence exists. Here, let yit be the 'i,t

logarithm of the /th economy's GDP per capita at time t. Moreover, let yIt be the column vector of

this analysis by income group. Both low-income and middle-income countries show signs of divergence, although at the end of the period both

FIGURE 2

Sigma Convergence among Five ASEAN Nations, 1960-2000

Q O

a, a,

O

Q

1

1960

1965

1970

1975

1980 Year

1985

1990

1995

2000

Source: World Development Indicators 2001 , World Bank.
ASEAN Economic Bulletin 53

Vol. 20, No. 1, April 2003

FIGURE 3

Sigma Convergence of Three Groups of Countries Separated by Income, 1987-

Source: World Development Indicators 2001, World Bank.

income groups show signs of convergence due to the impact of the Asian crisis. The Asian crisis put countries that had previously high growth rates — such as Thailand, Malaysia, and Indonesia — into economic recession. As a result, these countries

Absolute ß Convergence Barro and Sala-i-Martin's concept of ß convergence measures growth rates in order to quantitatively detect the processes of countries'

converged towards relatively low-income countries. By contrast, the trend for high-income countries exhibits much fluctuation. The oil crisis

economies coming into alignment. The ß convergence approach was introduced by Boumol

(1986), and referred to as ß convergence or absolute convergence by Barro and Sala-i-Martin

affected Brunei in the late 1980s, resulting in a decline in its real GDP per capita from US$21,146 in 1985 to US$18,899 in 1991. Therefore, it converged towards Singapore, which had a lower

(1991). The notion of ß convergence can be captured in the following expression

level of real GDP per capita at the time. In 1991, Singapore had a real GDP per capita of US$18,418 increasing from US$13,163 in 1985.
Both countries had almost the same level of real

TiAt+T= a- ß\og(yit) + eit. Let 7i,t,t+T = ln(yi,t+T/yi,t)/T be economy Ts annualized growth rate of GDP between t and t + T. The coefficient shows a negative sign because countries with low initial levels of per capita income should grow faster than higher income countries if convergence exists. Over time, factors will migrate across regions to achieve equilibrium when

GDP per capita in 1991. After 1992, Singapore continued to grow, while Brunei remained in

recession until the middle of the 1990s. By 1998, the real GDP per capita of Singapore had increased to US$24,854 while it was US$17,650 in Brunei.

convergence is occurring. Therefore, if ß > 0, then absolute ß convergence exists.
54

ASEAN Economic Bulletin

Vol.20, No. 1, April 2003

To examine absolute ß convergence from a more historical perspective, GDP data from Barro

kind of convergence, called conditional ß convergence. The absolute ß convergence has a weak assumption that the only difference across countries lies in their initial levels of capital. However, countries differ on many more dimensions than the initial level of capital. For

(1991)2 was used. Data on five ASEAN countries — Indonesia, Malaysia, the Philippines, Singapore, and Thailand — were available for the period from 1960 to 1985. In our study, the basic
Barro and Sala-i-Martin model was extended to

have a random effects formulation. Specifically, the formulation was:

example, differences in the initial level of technology or saving rates can lead to different

steady states. Therefore, under conditional ß convergence, countries do not need to converge into the same steady state, as they must under the

totyij+TbijW = a - j8ln(yiif) 4-6,-1- eit,

bt ~ Normal(0, of).
Here, we see that random intercept terms, bt, have been added to the basic model. One intercept was estimated for each time period: 1960, 1965, 1970, 1975, and 1980. However, these intercepts were not estimated independently of one another, as are

absolute ß convergence criterion. The conditional ß convergence growth rate of an economy will be positively related to the distance that separates it from its own steady state. That means the growth of a poor country which is in steady state will be zero, while that of a rich country which has a capital stock below its steady-state level will be larger. Hence, inequalities persist over time. Nevertheless, underlying fundamentals — and thus steady states — can change over time, and gradually converge. The result is absolute ß convergence in

typical fixed effect intercepts. Rather, they were drawn from a common normal distribution, with

mean zero and variance s£. As such, the random effects formulation addresses the longitudinal

dependence present in the data. The resulting value of ß from the random effects regression was
-0.0217 (p = .0262). This indicates that, far from converging, the economies of these five ASEAN

the long run. To measure conditional ß convergence, Barro and Sala-i-Martin proposed controlling for differences through appropriately identified and measured variables.

nations diverged from one another, at an average rate of 2.17 per cent a year over the period. In order to see whether the picture has changed in more recent years, absolute ß convergence analysis was conducted, using 1987-99 data from the World Bank. Data from eight ASEAN nations were used, with just Brunei and Myanmar excluded due to missing data. The random effects

Barro (1991) regressed the annual average

growth rates of per capita real GDP and initial real GDP levels for ninety-eight countries from 1960 to 1985 by holding school-enrolment rates constant. The estimated coefficient was negative

formulation was used, and the overall period was divided into four three-year subperiods. The estimated value of ß was -0.00315, which indicates an annual divergence rate of 0.3 per cent per year. However, the coefficient was not statistically significant. Hence, the more recent convergence picture for the ASEAN nations looks unclear.

and highly significant: -0.0075, s.e. = 0.0012. He concluded that poor countries tend to catch up with rich countries if the poor countries have high human capital per person. In Barro and Sala-iMartin (1991), adding regional dummies and

additional explanatory variables yielded greater stability in the results. Mankiw, Romer and Weil
(1992) also found a better fit for the regression

after adding rates of investment, population growth, and human capital. Islam (1995) used a panel data approach and compared the findings with those of Mankiw, Romer, and Weil (1992). In

Conditional ß Convergence In addition to s and absolute ß convergence, Barro and Sala-i-Martin (1991) also introduced another
ASEAN Economic Bulletin 55

general, Islam's outcome is similar in spirit to that found by Mankiw, Romer, and Weil (1992) and other researchers: the inclusion of control

variables leads to higher rates of convergence.
Vol. 20, No. 1, April 2003

For the conditional ß convergence analyses of the ASEAN nations, a similar approach was used.
Educational covariates were considered to be

important control variables in Barro (1991) and Sala-i-Martin (1996). Hence, the conditional /3 convergence models were estimated here using gross levels of primary school and secondary school education. Our specific formulation was:

foiyij+r/yutW = a - ßln(yit) + 6^primedit
+ e2secedit + b, + eit, bt ~ Normal(0, s?)
Again, our random effects extension of the

required for a nation to achieve a particular economic benchmark. One point of departure for this discussion is to determine how many years it will take the poorer ASEAN countries to catch up with ASEAN's average GDP per capita. We may expect that countries that require a long period of time to attain the current average level of GDP per capita to have slimmer prospects of converging towards the economic levels possessed by their ASEAN counterparts. Here, the methodology of Fischer, Sahay, and Végh (1998) is applied. They estimated the projected GDP per capita growth rate by using the Levine and Renelt growth equation (Levine and Renelt 1992):

model addresses the longitudinal dependence present in the data. Data on GDP were taken from Barro (1991) as before, whereas the data on educational levels were drawn from the World

Per capita growth = —0.83 — 0.35T1960
- 0.38/W + 3MSEC

+ 17.5INV,

Development Indicators database (World Bank 2001). The results are shown in Table 3. As was

where T1960 is the real per capita income divided by 1,000, POP is the growth rate of population, SEC is the secondary school enrolment rate, and
INV is the share of investment in GDP. After

found in previous analyses, the economies of the five major ASEAN nations did not display any signs of convergence. Rather, the estimate of ß,
— 0.0386, indicates that the annual level of

projecting the growth rate, the number of years to attain the regional average is calculated by assuming that average GDP per capita income

divergence was approximately 3.9 per cent, when differences in educational covariates were accounted for. Here we see that the value of the

coefficient has almost doubled from its original value of —0.02171 when the control variables were

grows at 1 per cent per year. This approximation of growth is from the average growth of GDP per capita among ASEAN nations, excluding Myanmar, in the last fifteen years. The 1998 data from the World Development Indicators (World Bank 2001) data set were used for this analysis. We considered only those countries that have a GDP per capita lower than

added. Hence, we see that historical evidence for divergence exists in the context of both absolute

and conditional ß convergence definitions.
V. Time to Attain Economic Benchmarks

the 1998 average of US$5,941: Cambodia,
Indonesia, Laos, Malaysia, the Philippines,
Thailand, and Vietnam. The results of both

Another way to examine the issue of economic convergence is to determine the length of time

TABLE 3

Conditional ß Convergence Among Five ASEAN Nations, 1960-80
Variables Beta Estimate 0.0386 0.0001533 -0.0007494

p-value
0.0128
n.s. n.s.

Primary Education Enrolment Secondary Education Enrolment

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56

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projected GDP per capita and the number of years to catch up to the ASEAN average are shown in
Table 4. It would take these countries, on average, eighty-one years to converge with the ASEAN average GDP per capita. By comparison, Fischer, Sahay, and Végh (1998) calculated that the EU

both types of ß convergence analysis consistently point to the existence of economic divergence. We also find that many decades will be required for the low-income countries to catch up with the

average income per capita in the ASEAN region. At a broader level, more opportunities for macroeconomic co-ordination should be taken

enlargement countries would require, on average, only thirty-one years to attain the EU regional average. When Cambodia is excluded, however, the ASEAN nations more closely resemble the EU enlargement candidates. The average time to attain the mean ASEAN GDP per capita level is then a more manageable fifty-six years.

advantage of prior to taking such a step as a currency union.

Nonetheless, the ASEAN nations lag the EU enlargement candidate nations on this benchmark by a considerable margin.
VI. Conclusion

However, given the promising evidence from the ASEAN currency map, a sub-group of ASEAN countries could begin taking steps towards a currency union, as a start. As in the case of the current monetary union between Brunei and Singapore, a sub-group could be arranged among countries with a similar income level.

Alternatively, it could begin with a core group of countries that already have a supporting framework, in terms of more extensive

After considering all the factors involved, it appears that the ASEAN region as a whole may

transnational policy linkages. For example, the
ASEAN-6 countries (that is, Brunei, Indonesia,

not be an ideal candidate for forming a currency union, as GDP per capita displays a high degree of heterogeneity. Even when one examines countries separately by income levels (low, medium, and high), they still exhibit little evidence of convergence. In fact, s convergence analysis and

Malaysia, the Philippines, Thailand, and Singapore) may be a particularly suitable candidate. The ASEAN-6 countries have already

agreed to reduce tariffs in accordance with the
Common Effective Preferential Tariff (CEPT)

Agreement. Creating a currency union in this sub-

TABLE 4

Projected GDP Per Capita and the Number of Years to Converge
Countries Real GDP

Per Capita,
1998

Population Growth (%)

Secondary
School Enrolment

Share of
Investment in GDP

Projected GDP per Capita (ASEAN averag
2.32 3.16 4.24 5.13 3.85 3.49 5.77 3.99

Number of
Years to

Converge
235 85 84 8 60 34 62 81

Cambodia Indonesia Laos

278.99 974.63 421.27

Malaysia Philippines
Thailand Vietnam

4,379.94 1,123.79 2,628.5
330.17

Average

1,448.18

2.32 1.64 2.57 2.37 2.03 0.71 1.4 1.86

0.2 0.43 0.27 0.93 0.5 0.55 0.49 0.48

0.15 0.17 0.25 0.26 0.2 0.2 0.2 0.2

Source: Data in the first four columns taken from World Development Indicators, World Bank.
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Vol. 20, No. 1, April 2003

group would further facilitate free trade among them. This sub-group, rather than a Southeast Asian region-wide approach, is broadly consistent with Ngiam and Yuen (2001).

In summary, further study will certainly be required in order to choose which collection of

provide a valuable blueprint for the process of forming a currency union in ASEAN. The creation of a system similar to the European Monetary System could be an important achievement. Such an "ASEAN Monetary System" may help to foster convergence among countries by reducing the fluctuations of national currencies vis-à-vis each other.

countries is best positioned to take the next step towards currency union. Nonetheless, the lessons

learned from the euro experience will likely
NOTES

The authors would like to thank the two anonymous referees for their valuable comments and suggestions on previous drafts of this article. An earlier version of this article was presented at the Twelfth Annual International Conference of the International Trade and Finance Association, Bangkok, Thailand, 28 May to 2 lune 2002. 1.Cartographically, a central location is one which is on average closer, or less distant, from all of the more peripheral locations. Phrased differently, if one were to average the distances from a certain peripheral point to all the remaining points, and performed the likewise computation for the central point, the average distance would be smaller for the central point. 2.Retrieved from .
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Kraiwinee Bunyaratavej is a Ph.D. candidate in the Department of International Business at the George Washington University in Washington, D.C, USA.

Eugene D. Hahn is an Assistant Professor in the Department of Information and Decision Sciences at Salisbury
University, Salisbury, Maryland, USA.

ASEAN Economic Bulletin59Vol.20, No. 1, April 2003