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Asian Economic Crisis

Presented by Group 3


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East Asian Miracle

Until 1997 the countries of East Asia were havingvery high growth rates.

What are the ingredients for the success of theEast Asian Miracle?x High saving and investment ratesx Strong emphasis on educationx

Stable macroeconomic environmentx Free from high inflation or major economic slumpsx High share of trade in GDP


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Overview

The central banks of the countries involved tried

to achieve two objectives-peg the exchange rateand promote domestic expansion-with a singleinstrument: control of the domestic moneysupply(more precisely, the banks own

liabilities.)


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Introduction

Thailand

Malaysia

Indonesia

South Korea

Other Countries


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Thailand

Economy mainly depended on cultivation and export of

agricultural products.

Export policies of mid-1970s led Thailand towards an export

oriented approach.

Between 1970 and 1984, the Thai currency, baht, was pegged

to the US dollar.

Convinced that the exchange rate would remain constant, the

Thai banks took advantage of the difference in the US and

Thai interest rates.


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In 1995, along with the dollars, the baht alsoappreciated which led to reduction in the Thaiexports.

In 1997, the baht was heavily speculated the Bank ofThailand tried to defend it using its reserves.

In 1998, the IMF offered a 17.2 billion dollar bailout

package to Thailand to stabilize the economicconditions.


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Malaysia

Economic diversification along with deregulation and

liberalization of the financial sector had transformed

Malaysia into a middle-income emerging market

during the 1980s.

In 1973, Malaysia adopted the floating exchange rate

regime against the US dollar.

The value of ringgit started decreasing rapidly after

the floating of the Thai baht in July 1997.


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The decreasing ringgit shook the confidence of theforeign investors and they started withdrawing

capital from the Malaysian market.

Banks faced liquidity problems and their non-performing loans were high.

By 1998, the growth levels remained slow and the

stock market had reached its lowest level.


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Indonesia

Indonesia was traditionally known for its availability of natural

resources such as copper, gold, oil and natural gas, and for the

production of agricultural goods like rice, sugar and rubber.

In 1970s, the Indonesian government initiated five-year plans,

which aimed to attract foreign investment and increase

foreign trade.

During this time, the Indonesian rupiah was pegged to the USdollars.


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They had a weak and poorly managed financial sector.

Continuous pressure on the Indonesian currency, coupled

with the floatation of the Thai baht finally gave way to

currency turmoil. Foreign investors started exiting from

currency and stock market.

To receive financial aid from the IMF, Indonesia had to

implement reforms such as privatization, liberalization of the

financial sector, closure of insolvent banks and reduction ofgovernment spending.


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South Korea

The South Korean economy, which was historically based on

agriculture, started moving towards rapid industrialization

since the 1960s.

Investment in the manufacturing sector grew during the1980s and the 1990s.

Increasing liberalization and internationalization made Korea

one of the worlds leading ship builders and the producers ofelectronics, semi-conductors and automobiles.


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Other Countries

The Philippine economy faced a similar crisis, as did Malaysia

and Indonesia.

Immediately after the Thai baht was devalued, the investors

in the Philippine peso market started withdrawing theirinvestment.

The Philippines Central Bank raised the interest rates to

defend the depreciation of the peso, but investors continuedtheir withdrawals.

In 1997, peso was allowed to float. Philippines received a US$

4 billion assistance package from the IMF.


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Singapore and Hong Kong were the Asiancountries that were less affected by thedevaluation of the Thai baht. These countrieshad huge amount of foreign reserves to keep

their economy stable.


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Economic Crisis in Asia

What accounted for the Strong GrowthPerformance in the Past?

First, macroeconomic stabilization policies. Secondly, strong savings and investment

performance.

Thirdly, openness of the economies.

Fourthly, human capital formation.

Free from high inflation or major economicslumps


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A CHRONOLOGY OF THE CRISIS

1997

January : The Korean industrial conglomerate

(chaebol), Hanbo Steel collapsesunder $6 billion in debts

May : The Thai baht comes under speculativeattack from foreign currency traders.

June-July : Thai insurance and finance companiesbegin to collapse.

- calls IMF for technical assistance.


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October : Indonesia calls in the IMF. IMFoffers the Indonesian government a$23 billion support package.

November: South Korean stock market pricescollapse triggering debt and

confidence crises. December :The IMF puts together a multi-billion

dollar rescue package for Korea.

As the financial crisis continues to

intensify, Japan tries to stimulate itsdomestic economy


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1998

January :

The Indonesian currency continues on adownward path

February :Stock markets in the region reboundduring February, but remain characterized

by extreme volatility.

March :The Indonesian economy is on the brinkof hyper-inflation. Unemploymentescalates.

April :Japans Nikkei stock market indexplunges at the start of the new financial

year. G7 leaders fail to give support theYen which continues its steady decline invalue.


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May : Massive student protest and riots

erupt in Indonesia for Suharto toresign.

The yen continues to fall againstthe dollar

June :The crisis begins to affect Australiamore directly.

The Japanese economy officiallymoved into recession following second

successive quarter of negative growth.


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What went wrong?

Weakness of macro economic fundamentals

The reversal of capital flows was the immediatereason for the eruption of the crisis first in

Thailand followed by Indonesia and Korea.

The pegging of the exchange rates to the US

dollar and the resulting decline incompetitiveness after the strengthening of thedollar was another for the turnaround.


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Structural factors Financial institutions had been allowed to

borrow from abroad because of inadequateprudential controls on their foreign exchangeexposure.

The sizeable capital inflows had given rise to

investment in equity and property and the risksassociated with price bubbles. In the case of Korea, foreign borrowing-

channeled through the banks-had financedexcessive investment of the conglomerates.

The authorities had in some instances come tothe rescue of insolvent financial institutions andprevented them from being liquidated.


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Other structural problems

Trade restrictions: such as the maintenance of

trade monopolies, quantitative restrictions ontrade, and other trade barriers.

capital controls: including restrictions onforeigners access to the equity and corporate

bond markets etc. close links among the government, banks, and

the corporations.


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Implications on other economies

Generated Contrasting expectations of how

regional institutions should respond. Impact on East Asian Regionalism

Rise of G-20

Trilateral Cooperation and ASEANS Leadership


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Credit crunch in East Asia

Reasons of credit crunch -Major reversal of international capital movement in

1997. -Unprecedented exchange rate devaluation. -Tight monetary conditions.Individual country experiences Indonesia

Korea Malaysia Philippines Thailand


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How could we have prevented this?

Avoid large current account deficits financed

through short term private capital inflows Aggressively regulate and supervise financialsystems to ensure that Banks and Corporationsmanage risk prudently

Put in place incentives for sound corporatefinance so as to avoid high leverage trade ratiosand excessive reliance on foreign borrowing


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Mobilize timely external liquidity of sufficientmagnitude and in the context of sound policies

to restore market confidence There is no one size fits all prescription for

monetary and fiscal policy stance in response tocrisis.

Move swiftly to establish domestic andinternational resolution mechanisms for assetsand liabilities of non-viable banks andcorporations.

Improve mechanisms for crisis prevention,management, and resolution at the regional levelin a way consistent with improvements in theglobal framework.


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Lessons learnt from the crisis

The need for democratization of Asian values

The need for a new IMF

The need for regulation of InternationalInvestment


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Unholy Trinity

Capital A/c Convertibility

Fixed Exchange Rate

Monetary Exuberance


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Reforming the Worlds

Financial ArchitectureThe PolicyTrilemma for Open Economies

Floating exchange rate

Exchange

rate stability

Freedom of

capital movement

Monetary

policy autonomy


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Conclusion

Thailands recovery after the devaluation of the bahtrelied on the external demand from the US andother foreign markets. The depreciated value of baht

helped the Thai exports.

In Malaysia, there was a strong growth in exports,mostly consisting of electronics and electrical

products. In recent years, the Malaysian economydepended on Japan and the US, as both thesecountries were Malaysias major export destinations.


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The growth in Indonesia was mainly driven by the

expansion of private government consumption.Government spending was high in the country,

which had resulted in budget deficit. Otherproblems that led to a slow growth in its economy

were low foreign investment, lesser exports anddeclining foreign reserves.

With the assistance of IMF, South Korea tried toreplace its centrally planned economy to a market

oriented economy.

By 2001, Korea was able to completely repay theloan taken from the IMF.


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