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Asian Financial Crisis Overview

As what Kevin Rudd(2009) said, From time to time in human history there occur events of a truly seismic significance, events that mark a turning point between one epoch and the next It is already part of our life to experience such extreme success and even great tragic. We cannot control every single event nor we can stop it from happening. In relation, this concerns more of the economic growth of each country. It is not only a crisis facing by the largest private institutions. It is more than the credit markets, debt markets, property and equity markets. This is a crisis, which concerns every country and every region.

The Asian Financial Crisis happened suddenly and its impact was very profound. This is also called as Asian Contagion in which series of devaluation spread through many Asia markets which began in the summer of 1997. It all started in Thailand when Baht collapsed then the succeeding other emerging economy such as Indonesia, Malaysia and Philippines. By the fall of 1997, the contagion extended even to South Korea, China and Hong Kong.

In the early 1990s, there were bountiful global liquidity conditions in which most countries in Asia started to emerge. It was the time when they experienced a credit boom that is, the growth of bank and non-bank credit economy which in effect made a rapid growth in the economy. More and more loan companies developed but as time passed, investors started to question its effectiveness. Businessmen opted not to invest in Asian countries. And so, these loan companies started offering lower interest rates to have more clients. In effect, they gave loans, which do not guarantee or ensure of paying back in return. It then reached its failure as when maturities declined and loans weakened. The world overlooked other Asian countries and focused only with the Thailand situation without knowing that these countries as well practiced the same mistake. Like other financial crises in the past years, the Asian crisis can be traced to a set of interrelated problems. According to the Institute for International Economics, it can be analyzed into three factors: Financial-sector Weakness, External Factor and Contagion.

Three Origins of the Asian Financial Crisis

The Financial-Sector weakness led the Asian countries into deep trouble. The credit boom was over. The overextension and concentration of credit made it to be open to a change in credit conditions. When this change took place, prices of property fell and the shares rise. These were only

seen in Thailand and later on took place in neighboring countries. Bank owners did not pay attention to the importance of credit of the borrowers. The practices and policies were too lenient. There was even an excessive government involvement or ownership in banks. There were strong expectations from the government to give financial assistance in times of difficulties. Bank supervisors lacked power to counter political pressures in this situation. Later on, exports dropped and by effort to defend its exchange rates with higher interest, real property prices declined.

Customers seek to lessen their borrowing costs, banks agreed to accept currency risk foreign borrowings to be treated as short maturities. In effect, Thailand defended its Baht through its foreign reserves. The extension of numerous short-term debts became questionable. Meanwhile, currency mismatching was the hitch of Indonesia. If Rupiah is apprehensive, the companies started to limit the short-term obligations to sustain its decline. But when Rupiah fell, the firms burden the debt to keep the further decline of the currency. Due to weaknesses in banking and financial supervision, these mismatches happened.

Thailand, Indonesia, Malaysia and Philippines were viewed as the most attractive borrowers among the emerging economies. They have been even recorded as having rapid economic growth rates, high saving and investment rates. Because of this, lenders gain confidence that when financial institutions encounter hitches; the public sector would have resources to provide them financial assistance.

The next factor is the external-sector problems in which some Asian countries have large current account deficits. These deficits were considered to be good with respect to saving investment in the public sector and the use of foreign borrowing to increase investment, thus, having the capability to meet the obligations. Taking into look more the details, these countries overlooked the quality of investment. Secondly, its real effective exchange rate declined leading to uncompetitive economy. Next is the slightly decline of exports such as having flat export in Thailand from 23 percent increase and increasing less then 4 percent in South Korea. This also resulted to shrink the world economic growth and inventory surplus, thus, having a doubt whether export machines of Asia can still dominate the market. The competition between China and ASEAN 4 (Thailand, Malaysia, Indonesia and Philippines) is the fourth concern in which China gained competitive advantage against the four countries. To explain it more, the similarity of the exports of China and the ASEAN 4 created a disadvantage because China offered lower labor costs. But China is not considered to be a factor to influence this financial crisis. The overproduction and great export

competition is a threat to sustain the deficits of Asian countries. The automobiles, steels, lumber, and frozen chickens are some of the industries, which said to have an overproduction. Summing it up of, slump quality of investment, appreciation of real exchange rate, slowdown of exports, aggressiveness of China, overproduction of some industries, severe export competition, and latent pressures these external developments greatly contributed to Asian financial crisis.

The third factor is the contagion of financial disturbances. Looking back, Asian crisis originated from small country, which is Thailand, then spread to varieties of economies. After the study made by IIE (International Institute of Economics), it seems that investment shares with Thailand can explain the issue. Thailand incident was considered as a wake up call for international investors to reevaluate the creditworthiness of Asian lenders. They found out that some of these economies had weaknesses same with Thailand such as weak financial sectors, and appreciation of exchange rates. As the countries were examined, the crisis spread. Another channel is the devaluation. It is a chain reaction of devaluation in which country experienced uncompetitive. Their currencies made it more susceptible to unpredictable strikes. The equilibrium exchange rate before the country devalues is not expected to remain the same equilibrium. China encountered remarkable appreciation of its effective exchange rate which is why there is a great export competition as what is discussed earlier.

Consequences and Impacts of Asian Contagion

After discussing the origin of Asian crisis. Now is the time to take a look at is social consequences. According to Khandker (2002), the economic crisis resulted to four effects: failing labor demand, sharp price shifts, a public spending squeeze and erosion of the social safety net. Due to the drought experienced by Philippines and Indonesia, it created a decline in real wage, displacement of industrial labor and a shift from wage to non-wage employment. The crisis heightened poverty over a long period of time without affecting greatly the income distribution. Knowing these consequences, the government intervened through having job creations, employment services, income transfers, and skills training. But these programs were not properly outlined and implemented making it ineffective to serve the poor.

The main point in financial crisis is that financial liberation without proper wise regulation and control is not beneficial to economic growth and even if this were properly regulated, it would still depend on the available information. As what happened after the crisis, many researchers or

even politicians are interested to distributional impact of the situation but it lacks appropriate information that could suffice and support the data.

During 2000, World Bank Institute (WBI) in cooperation with World Banks East Asia Region (EASPR), conducted a two-week training workshop that would strengthen the use of analytical data in examining the impact of the financial crisis on poverty and others (Khandker, 2002). There were series of discussions as to what are the views on the given data in support of making better policies. Those who are uneducated, young workers, and the urban sector suffered greatly from the crisis. But they did not consider is as a universal consequence. For instance, in Philippines, the agricultural sector suffered most in the country while in Thailand, those in urban or industrial workers were more affected. After such observations, they concluded that the governments were not that prepared to handle economic crisis. Therefore, it requires more and good safety programs to reduce the negative impacts of the crisis in the future.

Philippine situation during Asian Crisis

On the other hand, looking into the Philippine condition during 1970, the country was also in crisis because of the growing trade deficit and increasing outflow of capital. Philippines was also plagued with an overvalued currency. This resulted in a decline in export competitiveness, which in turn led to a large trade balance. This was also similar to what is discussed earlier in Thailand. There was an economic liberalization program which IMF prescribed to follow in exchange of stabilization loan. This program is known as Decontrol in which quantitative restrictions on imports an foreign currency were lifted, thus, making Philippine peso devalued to almost 100% (Lichauco 1998). From Php 2.00: $1, peso declined to Php 3.90: $1.

The financial crisis, which engulfed the whole Asian region, certainly affected the Philippines macroeconomy. The moderate level of economic growth which the country had experienced in the mid-1990s was halted. The slowdown affected industrial production, the state of government finances and the financial system.

Marcos continued to comply with the economic liberalization. In 1970, he decided to float the currency. This was intended to relieve the crisis as additional loans given by IMF. It was then resulted to second devaluation of Philippine peso. It further sunk to Php 7.50: $1 and continued to sink further and more. This is how Marcos administration faced the crisis. The government

continued to float in respond to the ongoing crisis. In effect, it created trauma to our country. Filipinos started to protest against devaluation. In one issue of Far Easter Economic Review (1970), stating the issue regarding the floating of peso, when a country is in the throes of a political crisis as the Philippines today, a floating exchange rate makes no sense. Instead of making economic stability, the floating rate would encourage more the wealthy to get surplus assets before the currency falls.

Philippines submitted to IMF supervision in 1962 and its foreign debt was only $150 million and after the crisis, it piled up to $50 billion. Our country has nothing to show for it except an economy without a suitable hand tool industry to speak of (Lichauco 1998). The floating rate is designed to make free trade as the basis of the new economic control that can replace fixed exchange rates. The tigers (Thailand, Malaysia, Indonesia and Philippines) do not need the medication of IMF. IMF could not heal the wounds of the tigers. IMF is only an agent which proposes ideological movement in approach to financial assistance, and this is where the problem all started.

Required Steps in Facing Crisis

Because it was neglect of financial-sector reform that got these countries into trouble, such reform has to be the center- piece of the recovery package.

Each of these countries, with the assistance of the IMF and the WorldBank, needs to evaluate to what extent its financial sector was subject to excess capacity prior to the crisis. The larger was this excess capacity, the stronger the case for encouraging the exit of firms as part of restructuring the financial sector. Banks and finance companies that are clearly insolvent should be closed down, while those that are undercapitalized should be recapitalized to meet international capital standards.

Foreign-ownership limits should be liberalized so that foreign financial-service companies can help to finance this recapitalization and contribute to better risk diversification and a strengthening of overall credit and risk management systems. Stronger domestic firms should also be encouraged to take over weaker ones, so long as such mergers do not conflict with the need to eliminate overcapacity in the system.

The emphasis here should be on making loan classification and provisioning practices stricter, adopting international accounting standards, privatizing state-owned banks and curtailing policy-directed lending, putting tighter controls on connecting lending, and instituting better monitoring and control of banks' foreign-exchange exposure.

For the foreseeable future, the crisis countries should not attempt a return to fixed exchange rates. Instead, they should stick with a managed float. Defense of a fixed exchange rate requires active use of interest-rate policy to squeeze short sellers during speculative attacks. But high interest ratesother than for a short periodwill not be credible in countries where weak financial sectors are in the process of being restructured and where growth rates are well below precrisis levels; in these conditions, the costs of ''holding on'' (to the peg) become too large relative to the (credibility) costs of reneging. Markets realize this. This is likely to be the situation for two or three years.

This change in exchange rate regimes toward much greater flexibility will, however, bring with it certain threats that were not so pressing prior to the crisis. By now, there is wide-ranging evidence that volatility of real exchange rates is typically higher under floating than under fixed exchange rate regimes.

Also, weak domestic demand and high shares of exports in GDP will put a lot of pressure on crisis countries to export their way out of recession. Given the size of devaluations in Asian-crisis countries, one should expect import penetration to rise sharply in some of the industrial countries contributing to the rescue packages.

Asian countries along with the G-7 will need to consult and cooperate more closely on exchange rate policies than they have in the past. As recovery from the crisis takes hold and as domestic demand and exchange rates in the crisis countries strengthen, this threat will become less acutebut it will be important in the interim. This is an area where regional cooperation groups (APEC, Executive Meeting for East Asia Pacific [EMEAP], etc.), along with the IMF, can be helpful in defusing incipient tensions and providing a dialogue on exchange rates and sup- porting policies.

On the trade policy side, the major industrial countries likewise need to resist actions that would frustrate or handicap the adjustment underway in the Asian-crisis countries. In particular, as

suggested by Bergsten (1998), the major industrial countries should not adopt any new trade restrictions in the wake of the Asian crisis

REFERENCES Khandker, S. (Ed.). (2002). Impact of the East Asian Financial Crisis. Makati, Philippines: World Bank Insititute and Philippine Institute for Development Studies. Allen, A. E. (1999). Financial Crisis and Recession in the Global Economy (2nd ed.). Massachusetts, USA: Edward Elgar Publishing, Inc.

Lichauco, A. (1998). The Financial Crisis in Asia. Quezon City, Philippines: The Independent Review.

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