The Asian Financial Crisis - Research Paper Example

The Asian Financial Crisis Introduction The Asian financial crisis of the late 1990s which is also known as “Asian Contagion” is one of remarkable disasters to hit major growing economies across the world. Noble and Ravenhill (1) argues that this crisis resulted in one of the biggest financial bailouts that have been recorded in history. In reality, the Asian financial crisis became the severest form to affect developing countries after the huge 1982 debt crisis. In this way, this crisis was least expected and most financial observers did not think the Asian economy would collapse. The crisis shed light on possible weaknesses within the international capital market in the event of immediate reversals of a growing market. In addition, the crisis brought doubts on the International Monetary Fund’s (IMF) approach in its efforts to dealing with financial imbalances within the private financial markets. It is also clear that the financial crisis can be attributed to panic of local and foreign investors and its role in enhancing the situation (Noble and Ravenhill 2). The Asian economies were at the height of success due to their fast growth and immense gains on the living standards their populations enjoyed. They were basically experiencing sensible fiscal polies and even high rates in private saving which was enticing to the world. There was no prediction that these countries would ultimately fall suddenly into a deep financial crisis in the post war era. Many questions were raised by economists on the causes of the crisis and whether or not they became victims of their own accomplishment. The abundance success may be one of the reasons that also led to their down fall but it also shows that structural and policy misrepresentations among the countries in this region played a role in the crisis. The 1997 financial crisis is therefore, a combination of many factors including market over response, which led to a drop in exchange rates, property prices, and economic stability (Noble and Ravenhill 2). Causes of the Asian Financial Crisis The financial crisis in East Asian countries began immediately after the huge high savings and vigorous growth they enjoyed. Since the 1980s, this fast growth was followed by high increment in asset values, increasing property and stock prices, and even in some instances a growth in temporary borrowing from oversees. In the mid-1990s, a tremendous emergence of external shocks specifically the devaluation of major currencies largely impacted export returns. This meant a decline in economic growth as property prices increased in most Asian economies. The devaluation of the currencies begun in Thailand after the decline of the Thai Bhat and this made investors to lose confidence in the Asian markets. The events in Thailand forced many investors to reassess their lending and evaluate the robustness of the region’s currency. This led to a huge wave of currency depreciations while stock, asset and market fell starting with Southeast Asian and then followed closely by the entire region. The year that followed the devaluation of the currency, most of the affected currencies fell as low as 35% to 83% against the United States dollar. There were even records of serious fallout as big as 40% to 60% decline against the U.S. dollar and the Asian financial crisis became a reality (Noble and Ravenhill 2). In Southeast Asia, there was record of capital inflows in the major East Asian upcoming economies that grew from 150 billion U.S dollars in the 1980s to 320 billion U.S dollars in the early 1990s. Private companies were doing excessive borrowing form the foreign capital economies mostly for short-term needs instead of looking for long-term earnings for productive security. The main capital inflows were meant for bank loans and even direct immediate foreign investments (Matsumoto 4). The huge capital flows resulted in increase in prices especially for non-tradable goods while the abundant foreign investment caused the currency to appreciate but decreased international competitiveness decreasing export growth. In addition, capital inflows led to huge local bank lending which increased investment rates as well as imports and declined the current account. This situation was aggravated by external shocks as the Japanese yen was devaluing as opposed to the U.S. dollar in 1995. This was therefore, transferred to other economies within the region like Thailand leading to major financial instability. Additionally, the deteriorating semiconductor prices also hampered growth of local products and hindered increase of exports. Property bubble was also evidence in as a cause of financial crisis which is a situation where investors buy property at a price higher than its essential value in the hope of a successive capital advantage. The bubble grew as more money was pumped into the economy from foreign investors while the short-term loans became expensive since it was designed for fast returns. The bubble led to the decline of capital inflows from 93 billion dollars to 12.1 billion dollars in Indonesia, Korea, Malaysia, Philippines, and even in Thailand. This also means that bank lending locally dropped and therefore, an instant growth in cross boarder bank loans was witnessed. In reality, the withdrawal of foreign capital caused great problems including depreciating of exchange rates after a period of pegged (to the U.S dollar) currency like in Thailand. The Asian economy faced serious foreign cash flow withdraws in huge numbers and this detabalised the economy. The local interest rates drastically increased and this caused a problem in domestic credit situation (Matsumoto 4). The United States currency was doing well after the recovery from the recession in the beginning of 1990s and this made it an attractive foreign destination for the Southeast Asian countries. Most of the Southeast Asian had pegged their currencies on the U.S dollar and as it value increased, their exports drastically kept growing highly expensive and therefore, less attractive to global economies. The current account condition finally became worse in 1996 as the growth of the exports deteriorated. Another cause of the crisis is poor policies that mislead incentives among the lenders and the borrowers. The countries in the Southeast Asian countries assumed that the government would bail them out in case the need arises. The huge amount of credit that resulted however, led to a largely leveraged economic situation which increased the prices of properties to unmanageable state. In this way, these property prices eventually began to fall slowly which made individuals and corporates to default on their debt obligations (Sharma 22). Panic among lenders is another reason for the crisis since it resulted in huge withdrawal of credit from most affected countries and this meant a financial crunch. The panic began from Thailand as many investors realized that the baht had collapsed and many were afraid that the Southeast Asian economy may not be as stable as it appeared. It is evident that as the investors began withdrawing their money, the exchange market became concentrated with currencies from the affected countries and this depreciated it value. Exchange rates grew drastically and many governments in Southeast Asia focused on increasing local interest rates to deal with the collapsing currencies. The idea was to intervene on the exchange market by buying out extra local currency but this technique could not be sustained for a long time (Sharma 53). Some economists cite that International Monetary Funds (IMF) played a role in enhancing the severity of the financial crisis. Outside intervention by IMF through a number of bailouts among the seriously affected regions like South Korea was evident. The high interest rates that IMF imposed are cited as a contributing factor since the devaluation of the currency kept increasing. In this way, it became clear that the bailout funds may have benefited some Southeast Asian countries but others felt it dug another financial crunch. Effects of the Asian Financial Crisis The Asian financial crisis was marked by positive and negative implications that the region has endured for years since the 1997 financial decline. In the realm of increasing globalization, the Asian financial crisis resulted in poor economic growth in the region and even in the global market. Research by (Ramesh 80) indicates that after enjoying a great economic growth, the Indonesian market economy dropped by 13% by the early 1990s, with Thailand facing a decline of 10.5% and South Korea together with Malaysia had a low of 7%. This poor decline of the economies meant that the living standards of people in these countries declined greatly. It is evidence, that the immediate impacts of the economy were loss of market for their exports because of the deprecating currencies (Vroman and Brusentsev 133). The other major impact faced by the Asian countries as the economic instability continued was the potential decline in the value of their currencies. The fall in these currencies meant a decline in all other levels of economy including high interest rates, lack of banks to borrow money, and decrease in market growth. Most of the financial sectors and organisations did not have streamlined methods of allocating capital in these markets. This reduced the profitability of most businesses and market capital causing a decline in most major social systems. This included unemployment, bankruptcy, poverty, and drastic change of policies among others (Vroman and Brusentsev 133). The rapidly deteriorating economic growth resulted in a large magnitude to an increase in unemployment levels within the region. These Asian countries had minimal or negligible unemployment during the years they were on top but after the financial crisis in 1997, the level tripled especially in South Korea as well as Thailand. There are people who were completely pushed from the labour market while terminated employees had to result to the informal sector or took up part-time jobs. In reality, it is cited that underemployment increased from a third in 1996 and shot up to one half in 1998 while in Thailand it grew from 1.7% in 1998 to a drastic high of 3.6% in 1999. The unemployment situation was made worse by the soaring consumer prices particularly in food commodities (Ramesh 80) Indonesia faced the most unstable food prices increasing to 81% in 1998 while the next year it grew by 25%. The other countries like Malaysia and Thailand recorded were an upsurge of 9% and 10% respectively in the year 1998 while people were suffering in these populations because of low incomes (Ramesh 81) It is also clear that unemployment and high food prices expanded the level of poverty in these countries. For instance, in Indonesia the national poverty line showed that the levels had nearly doubled from 11.3 % to 20.3% while South Korea recorded a high of 19.2% from only 9.6%. Malaysia and Thailand had less increase in poverty levels with rates of 8.2% to 10.4% and 11.4% to 12.9% respectively recorded in these countries. However, despite the low poverty levels in Malaysia and Thailand, the countries still faced significant hardships that marked the countries for years (Atinc and Michael 5). Additionally, the low economic activity in 1998 led to a decrease in government revenues and expenses in large numbers. In 1998, in a time when Gross Domestic Product (GDP) had fallen, public returns declined in most Southeast Asian countries apart from South Korea while the public expenses share of GDP grew in all countries apart from Thailand. It is also clear that decrease in income called for higher demand of social security and this put pressure on the government to deliver. This in fact increased public expense on social policy sectors while it enhanced GDP over the crisis years in these countries (Vroman and Brusentsev 133). There are positive effects of the Asian Crisis that developed as a learning tool to avoid future occurrences. (Bustelo 147) argues that the Asian countries have resulted in creation of efficient policies that support enhanced economic growth and improving regulations of lending or borrowing. The governments in these countries opt for more transparent and informative policies to banks, businesses, lenders and borrowers including others in systems in the economy. This crisis has also resulted in the “East Asian” continuous understanding of development and possible problems they may encounter. There is widespread economic and political collaboration to address policies that foster economic growth. For example, it is evident that the Association of South East Asian Nations (ASEAN) has adopted mutual investigation techniques and ignored the traditional perspective of non-interference. The goal of regional trade and collaboration ensures under dependence on overseas funds and market and focus is on development of local systems (Ramesh) Lessons Learnt from Asian Financial Crisis There are various lessons that are derived from the Asian financial crisis that can be adopted by many other countries of regions. It is imperative for transparency and accountability in how governments as well as corporate affairs are run. This is especially significant in how the Asian countries failed to understand the problem associated with huge capital inflows for short-term private gain. Organisations must be put in place by the government and other stakeholders to advice corporates or individuals the best lending techniques that have long-term benefits. It is also important to have stronger banking processes that secure the interest of individuals and corporates. These banking systems ought to be separate from government interference in distribution of credit so as to ensure transparency (Carney 66). An important lesson learnt from this crisis is the importance of reinforcing international and local financial systems. There is need to work in collaboration with agencies like IMF and World Bank to understand best mechanisms and methods of banking sector. In this way, countries can easily adopt mechanisms that have excelled in other nations to adopt best practices that are proven to work. In this respect, there is need to learn economic accounting, auditing, asset valuation, disclosure, bankruptcy and corporate leadership. These mechanisms should be implemented and collaborated with internal agencies to allow transparency and efficient methods for governments to benefit the nation (Carney 76). It is also necessary to understand fund surveillance instead of allowing capital inflows that are not regulated. The IMF is an important agency to offer economies the guidelines that allow money transfer and with better value within the systems. It is a lesson learnt that IMF needs to know deeply about the arrangement of a country’s external debt, reserve degree, the level of leverage their corporate sector is managed, and the intensity and state of nonperforming loans. In addition, IMF needs to strengthen its investigation on the financial sector and even capital accounts matters, offer more support to policy interdependence, and elimination of risks pollution, while monitoring market outlooks and viewpoints (Carney 76). The essence of improving efficient strategies that involve the private sector methods of dealing with debt is an important lesson. For instance, the private sector in the Asian countries leading to the crisis did not have strongly founded basis and mechanisms of dealing with debt. They hoped that the government would bail out any financial difficult which was a misguided decision. There is need to have clear and enlighten methods of involving private creditors early on to ensure equal access to resources and sharing of burdens. In reality, the private sector play a huge role in the economy and therefore, its needs ought to be addressed specifically to ensure they do not drag the country down. The failure of the government and other agencies from dealing with basic matters of the private sector resulted in huge capital inflows and uncoordinated methods of paying debts (Carney 76). It would also be important to have liberalized capital flows in a sensible manner to allow maximum conducting of trade but minimize the possibility of risks of free capitals. This can be achieved by creating a fulfilling environment for the private sector through elimination of monopolies and creating more unique transparent systems. The Asian countries had embarked on monopoly systems that allowed borrowing of capital from specific location but without constructive systems (Carney 76). Conclusion The Asian financial crisis became one of the major melt points of declining economies in the world which led in pinpointing serious weaknesses in international capital markets. The Asian economies were flourishing in the 1980s but towards mid-1990s, the crisis began because of huge capital inflows within the economy. The excessive borrowing trends of the private companies led to decline of current accounts accompanied by devaluation of the currencies. Panic among the lenders after the decline of Thailand bhat contributed to high exchange rates that ultimately caused increased interest rates. The effects of this crisis include high unemployment levels, poverty, and immediate need to reform policies. In addition, the countries learnt important lessons that include creating transparency banking programs in corporation with international agencies to avoid such flawed method of borrowing. Works Cited Atinc, Manuelyan, and Michael Walton. Social consequences of the East Asian financial crisis. World Bank Group, 1998. Bustelo, Pablo. "The impact of the Financial Crises on East Asian regionalism." Regionalism in East Asia: Paradigm Shifting (2003): 141-152. Carney, Richard, ed. Lessons from the Asian financial crisis. Routledge, 2008. Matsumoto, Yasuyuki. Financial Fragility and Instability in Indonesia. London, UK: Routledge, 2007. Print. Noble, Gregory and Ravenhill, John. The Asian Financial Crisis and the Architecture of Global Finance. Cambridge: Cambridge University Press, 2000. Print. Ramesh, M. "Economic Crisis and its Social Impacts Lessons from the 1997 Asian Economic Crisis." Global Social Policy 9.1 suppl (2009): 79-99. Sharma, Shalendra. The Asian Financial Crisis: New International Financial Architecture: Crisis, Reform and Recovery. Oxford Road, Manchester: Manchester University Press, 2003. Print. Vroman, Wayne and Brusentsev, Vera. Unemployment Compensation Throughout the World: A Comparative Analysis. Kalamazoo, Michigan: W.E. Upjohn Institute, 2005. Print. Read More