How Asia Is Responding to American Financial Crisis - Research Paper Example

Research statement:- How Asia is responding to American financial crisis? Significance of research:- Now the world is closely linked, so any change in the economy of leading countries will lead to problems for others. The crisis in one country has taken the charge over the economy of the entire world. A fail of the US sub-prime mortgage market and the problem of the housing loan schemes have affected the other developed economies around the world. This severe crisis leads to the collapsed of world’s largest financial institute. Wealthiest nations in the world came forward to help large banks and financial institutions. Asian countries worried because of crisis wave that is taking over globally. Many Asian countries stock markets have suffered and currency value is deteriorating day by day. Many west countries have invested in Asia and many Asian product and services are global. So any crisis in western countries means amplified probability of a slowdown in Asia and the possibility of job losses. Asia has not had a sub prime mortgage crisis, but the interrelated world means there are always unforeseen effects. So in this research, unforeseen effects of crisis will be studied. Research Objectives In research, aim is to find 1. How different business sectors in Asia are influenced by financial crisis. 2. How the sub-prime-generated crisis is affecting Asia 3. how stability in dollar can help Asia Hypotheses statements: 1. if American economy gets out of the crisis, then Asian market can sustain 2. If the value of Dollar sustain, then the other economies will survive. Theoretical framework:- All the independent variables that can potentially affect dependent variable are listed in diagram below. American variables are formulated through literature review and sound judgment. Here Global financial crisis is taken as independent variable, that it is the main reason behind the Asian financial crisis, which is depending on the American economy. If the American economy survives this shock, the countries in Asia depending on the American consumers will survive. However, the dollar stability is the variable that can change the relationship between both variables. If the dollar value got stability, then the countries with foreign reserves can bear the impact of the recession. Alternatively, they have to face the recession. Independent variable:- American financial crisis Dependent variable:- Asian financial crisis Moderating variable:- Dollar stability Research Design:- The research design of the research contains the following components: Category Descriptor Purpose of study Descriptive study Type of investigation Correlation Research interference Minimal Study Setting Field Study Time horizon Cross-sectional Data Collection MethoD The data collection method is Secondary data collection method. Where all the information has been collected through Internet and published material Journals, magazines and different newspapers. Literature review:- The most important thing is here how it all started. Mr. Alan Greenspan, the chairman of US Federal Reserve introduced the loan under reasonable criteria. This reasonable “American Dream” meant that all household can afford their own house. “Basically what happens is that if someone requires a house worth $100,000 and is willing to pay $20,000 as down payment; he would be provided the required home. The rest, which is $80,000, would be financed by the BANK, in the form of a LOAN. Furthermore, you leased the particular place for 30 Years, so that means at 5% you would only be paying $1500 a month. This was pretty much affordable for everyone. This system supported a gradual increase in home ownership and Loans were provided to people in different class.” (Khizer Hayat Farooq,2008) So demand for housing scheme increased all because of lower interest rates. To cover the loans that were given to people, the banks create new product named as ‘mortgage-backed securities'. The securities were presented to the wealthy institutions, so that they could multiply the risk in finance. The banks start competition among them, it was so tough that loaned the money to borrowers who couldn’t even afford it. The Feds raised the interest rate and asked the borrowers to repay the loan. Many of the Americans don’t have any savings, so the banks started to confiscate the properties of the defaulting owners, and discarding it in the open market. This result in major decrease in the price of the houses. These circumstances led to more rigorous crises and more people started to default. Many Financial Institutions which have shares in it failed such as the Lehman Brothers, Merrill Lynch, AIG, Bear Sterns etc. US investment bank Lehman Brothers bankruptcy leads to global stock market decline. As a result Government jumped in and took over Fannie May and Freddie Mac, who are the biggest funders of mortgages and AIG, the world’s largest insurance company (Becky, 2008) “The idea behind the economic bailout is to buy these risky mortgage backed securities from financial institutions, giving these banks the opportunity to lend more money to individuals and businesses, hopefully spurring on the economy”. (Patrick, 2008) Lehman brother’s bankruptcy filing and suspicions about AIG's flexibility in meeting further collateral requirements have speed up and intensify the economic impact on Asia. “A few Taiwan, Philippine, and Chinese banks appear to have more direct exposure to Lehman Brothers entities," said Standard & Poor's credit analyst Ritesh Maheshwari. "However, Asian banks' strengthened balance sheets, as a result of healthy profits over the vibrant economic environment during the past half a decade, can withstand the impact of likely losses from direct exposure, without rating downgrades." (Banknetindia, 2008) "We continue to believe that the risk to Asian banks is more from the impending economic slowdown and market turmoil than from direct exposure to the distressed U.S. financial institutions," Mr. Maheshwari said. He noted that Asian banks' exposure to structured finance products were similarly not material enough to do substantial damage. (Banknetindia, 2008) Analysis:- America as a most developed country, discover the global financial crisis. This financial crisis is all started from banks, because the banks are the base of the whole American structure. All banks were based on free market, but now freedom of market will be limited as the government is buying them. “The era of American global leadership, reaching back to the Second World War, is over… The American free-market creed has self-destructed while countries that retained overall control of markets have been indicated.” (Paul Reynolds, 2008) Rising economies escaped mostly unharmed by sub-prime issue that had hit the USA and European economies. Collateral debts that have influenced Asian banks slightly that is like a huge trouble for western financial institutions. However, there was decline in the Asian equity markets and stock markets. (Daniel Citrin, 2008) Global growth is anticipated to decline from 4.7% to 3.7% during the 2007 to 2009 period. Over the same period, growth among emerging economies is expected to decline from 7.9% to 6.6%. Asian inflation rates are anticipated to increase from 3% to 5% by 2009. Following are the four countries that have a reserve of American currency (US Dollars), are located in Asia which are numerated as under: S.No Country US dollar Reserves 1. China 1518.20 Bn 2. Japan 948.40 Bn 3. Russia 464.00 Bn 4. Taiwan 270.00 Bn Whereas India is also holding US Dollars Reserves amounting to two trillion sixty six billion and six million. These stake holders are directly influenced by American financial crisis. If the American dollar loses its weight in the international financial markets, then the currency assets of these countries will directly lose their values. Especially Chinese exchequer is teeming with American dollar day by day, so any slowness in the American economy growth will affect the Chinese economy. Since 1997-98 Asian financial crisis China has been main economy that is on the path of economic growth. It’s speculated that China, and, to a lesser extent, India, will not be affected by the US crisis and could even pull the world economy out of recession. China:- According to the facts and figures of July 2008, China is the second biggest buyer of the American bonds in the world who bought these bands in the world who bought these bands for US $ 922 billion. These bonds were issued to control the budget deficit in the august 2008 which was hitting to the level of US $ 90 trillion; Japan bought these securities for US $593.40 billion. Turkey and India were also the purchasers of these Bonds/securities. The big oil exporting groups from Asia also purchased these American securities for US $ 173.90 billions. So keeping view of the above noted figures it can easily be observed that Asia is being adversely hit by American financial crunch. Asian stock markets are losing their values day after day. Money markets are suffering. The Asian economies are losing their balance, so financial turmoil can be observed everywhere especially in economies where proper planning does not exit. Premier Wen Jiabao said that China was “deeply worried” about the state of the US and global economies, and the continuing weakness of the US dollar. “Global economic developments cannot but have an impact on China,” he warned. “2008 might be the most difficult year for China’s economy, because there are uncertainties both inside and outside the country.” Wen said it was “particularly noteworthy” that China’s currency had been appreciating more rapidly in recent months. “What concerns me now is the continuous depreciation of the US dollar and when the dollar will hit bottom,” he commented. Any slowdown of exports to the US would impact on China’s economic growth, leading to rising unemployment and social instability. Wen explained that China needed to create 10 million jobs a year for the next five years. (Wearden, Teather, Treanor, 30,pp3) Share values in three large Asian economies—China, Japan and India—have fall by about 30 percent, 20 percent and 30 percent respectively this year. These falls outpace the decline in US shares, with the S&P 500 Index falling 13 percent since January 1. (guardian.co.uk) Like other countries, China is being hit by high prices for oil, food and other commodities. Inflation in China is officially at 8.7 percent, an 11-year high and almost double Beijing’s official target of 4.4 percent. In China, increasing commodity prices are creating discontent and unrest. The price of rice, hit a 34-year high on March 19 at $US708 a ton, up almost 50 percent since January. (guardian.co.uk) Chinese share prices fell 3.36 percent with the global fallout from the fall down of Lehman Brothers prevail over a domestic interest rate cut. “Beijing is increasingly worried about the impact of the global financial storm and looming international recession on the Chinese economy. While joining other major economies to try to stabilize American and world capitalism, the Chinese regime is also concerned at the economic, social and political stresses being generated by a sharp slowdown at home.” (Chan, 2008) USA stability will lead to the stability of other countries. “Several analysts have commented on the dilemma facing Beijing: whether to pour more money into buying up US debt to support the American financial system or use the country's huge currency reserves to boost the slowing domestic economy. While the regime is facing pressures at home to maintain growth, any withdrawal of Chinese funds or even a slowing down of cash injections into the US could encourage others to follow suit, with devastating consequences for the American and global economic system.” (Chan, 2008) “An editorial in Hong Kong's Ta Kung Pao newspaper on October 8 warned Beijing not to fall into the trap of bailing out the US economy. Its reasons included: firstly, the US was seeking to strategically contain China and was selling arms to Taiwan; secondly, the US measures would weaken the dollar, causing further huge losses to China's existing dollar assets; and thirdly, without coordination with other Asian countries, China could end up paying the bill, while others dumped dollars. Beijing should reduce its dollar holdings, the newspaper argued”. (Chan, 2008) It is said that the Asia can help the US to come out of the financial crisis, by the help of using their vast US dollar reserves. If USA fall in the hyperinflation than the global depression will consume the global economy. To avoid this depression the all countries like China, Japan, Kuwait, Saudi Arabia and the United Arab Emirates to negotiate a deal with Washington to change their huge dollar assets for equity assets like shares. Alex Patelis, an economist at Merrill Lynch, has put together a handy list of what the US is planning to spend: (Moore, 2008) 1. Treasury buying mortgage-related assets: $700bn  2. Potential supplementary stimulus package favoured by Democrats: $100bn  3. Insuring money market funds: $50bn  4. Treasury fortifying the Fed's balance sheet: $100bn  5. Expansion of temporary swap lines with central banks: $180bn  6. Loan to AIG: $85bn  7. Fed purchase of agency discount notes & ABCP: amount not specified  8. Fed loans through the Primary Dealer Credit Facility: $20bn through sep 17  9. Fed's discount window: $33bn balance  10. Treasury purchase of GSE MBS this month: $10bn  11. Potential cost of Fannie/Freddie bailout: $200-$300bn If US slip into recession than, Chinese goods will be expensive for the American consumers. Then china have to bear the unforeseen problems in exports of its goods.  The Financial Times explained on October 1 that China and Asia had become intimately intertwined with the American economy and thus its financial crisis. Cheap goods from China and their deflationary pressure over the past decade underwrote the cheap credit policy of the US Federal Reserve, which, in turn, encouraged the formation of highly speculative financial derivatives. The Asian banks' huge reserves of $4.3 trillion also provided US financial markets with endless liquidity, helping to suppress interest rates, inflating the housing market and debt-driven consumption. In turn, the US provided a huge consumer market for the explosive growth of industry in China. (www.w3.org) “China's export sector is struggling, according to the Australian Financial Review on September 28. C.K. Yeung, vice-president of the Toys Manufacturers Association of Hong Kong, which mainly operates in Guangdong's Pearl River Delta, said this was the toughest year since investment in China began in the early 1980s. He estimated that 10 percent of the 4,000 large toy factories in the region had shut down. Andrew Yeh, the head of the Dongguan Taiwanese Business Association, told the newspaper that in the first half of the year, 1,500 Taiwanese firms closed in Dongguan, a major manufacturing city in Guangdong.”(www.w3.org) China, which is major dependent on inflows of foreign investment and exports to the capitalist economies, may well turn out to be among the hardest hit by the current turmoil. (www.w3.org) India:- India markets are going down after the global financial crisis. With a real GDP growth at 9 percent during 2007-08, the Indian economy continued to perform well. (IANS) In India, the Reserve Bank of India has been pumping in liquidity into the system and local banks have been borrowing at least Rs 70,000 crore on an average over the past three weeks under its liquidity adjustment facility (LAF). Even so, liquidity has been drying up. ( Naik, 2008) India’s GDP growth estimate for the current fiscal (2008-09) has been reduce from 8 per cent to 7.4 per cent and, for the next financial year (2009-10), from 8.5 per cent to 7 per cent. (Naik, 2008) In line with the falling capital markets across the world, which have already wiped out investor wealth of over $10 trillion this year so far, the Indian stock market has observed an exceptional fall over the past few weeks. Not unexpectedly, FIIs have been pulling out from the stock market in a big way, corporate borrowings from the global markets are becoming more and more complicated, raising money for new reserves through public issues is on hold, and liquidity in the economy is fast drying up. . (Naik, 2008) Bank of India (RBI) Governor D. Subbarao says:” India’s balance of payments remained comfortable with the current account deficit at 1.5 percent of GDP in 2007-08, he said. “Large net capital flows, which were significantly higher than the current account deficit, led to an accretion of foreign exchange reserves, placing continued pressure on monetary management.” (IANS, 2008) The Bombay Stock Exchange Index, or Sensex, fell 6% to a two-year low. For the first time in five years, the central bank cut the cash reserve ratio, the amount of funds that banks have to keep with the Reserve Bank of India, by 50 basis points, to 8.5%,. The Securities & Exchange Commission of India eased some restrictions on foreign portfolio investors, such as registering in India before buying shares and limits on offshore derivatives—it had imposed in 2007. (Lakshman, 2008) Indian market has also influenced by global financial crisis, its interest rates are increasing, less credit available, and banks continue to hold back in loans as inflation drift at 12%. “Growth has slowed from the heady 9% of a year ago to 7.9% for the three months ended in June, and its forecast to grow only at 7.5% for the fiscal year ending next March. Meanwhile, an already weak currency ended Oct. 8 at 48 rupees to the dollar, its lowest level in 5½ years. The rupee has taken a 21% dive since January. The central bank's rate cut, which the bank statement calls "ad hoc and temporary," is likely to infuse $4 billion in domestic liquidity and shore up the rupee by selling dollars.” (Lakshman, 2008) Japan Japan's economy declined by 0.6 percent in the second quarter of 2008. It is said that Japan is already in recession, an estimate that was reinforced by the biggest fall in five years in corporate capital spending for the last quarter of 2007. “Shares in Japanese manufacturing corporations dropped sharply. Toyota and Honda, for example, lost 5.1 percent and 4.1 percent respectively, while electronics companies Sony and Canon dropped 5.7 percent and 4.3 percent. Exporters are deeply concerned about the rising value of the yen against the US dollar. Last week, the currency slid past the 100 yen to the dollar, for the first time in 12 years and slumped to Y96 on Tuesday before recovering yesterday. Some commentators predict that the exchange rate could hit 80 yen in the next year. Sony has admitted that it loses $62 million in operating profits for every 1 yen rise against the dollar.” (Wearden, Teather, Treanor, 30,pp4) The share market reaction on Monday also pointed to deeper concerns about the Japanese banking system. The Topix Banks Index dropped 4 percent to 226.88, the lowest in four years. Among the victims was the Tokyo-based Shinsei Bank, which fell by 11 percent, Mitsubishi UFJ, the country’s largest bank, which dropped 4.6 percent and the Sumitomo Mitsui Financial Group, the second-largest bank by market value, which dropped by 3.4 percent. (Wearden, Teather, Treanor, 30,pp4) Japan’s Nikkei 225 index dropped 3.7 percent on Monday, its third successive day of losses. The Hong Kong market fell 5.2 percent, Shanghai 3.6 percent, Mumbai 6.03 percent, Manila 3.9 percent and Jakarta 3 percent. Australian stocks dropped 2.3 percent and share values in South Korea, Taiwan and Singapore dropped a little under 2 percent. (Wearden, Teather, Treanor, 30,pp4) Japanese share prices tumbled 5.06 percent by the end of morning trade Tuesday, with banking shares plummeting. Other Asian markets, several of which had been closed Monday for a public holiday, also came under pressure. In Singapore shares traded 2.31 percent lower in early trade on Tuesday with the blue-chip Straits Times Index down 57.54 points at 2,429.01. (Wearden, Teather, Treanor, 30,pp4) So overall American financial crisis is also influencing Japanese market and banking system. Russia:- This consumer credit crisis may hit Russia as well. “In Moscow in 2000, average property prices were US $700 per square meter; now the average is more than seven times that: US $5,000. That happened in the US and now the whole house of cards has fallen”. (Economy watch, 2008) “The head of Russian bank Sberbank German Gref predicted on Thursday that the majority of Russian banks would start feeling the effects of the current global financial crisis in the second quarter of 2008 and would respond by "somewhat" raising interest” rates. (Gref, 2008) “That the global crisis will hit Russia "is obvious already, the question is by how much the pace of lending and money supply will decrease," the Sberbank chief said. In 2007, the Russian banking sector's credit portfolio increased 52%, but in 2008 it would not grow by more than 40%, he said”. (Gref, 2008) "Today the situation in the world financial system is very tense, and the Russian Banks Association has asked the prime minister to hold a conference on how the situation in world finances may affect the situation in Russia, So far there are no indications that the global crisis has affected Russia, because there exists a stability reserve that enables Russian banks to function confidently and build up assets " (Gref, 2008) The impact of crisis on the Russian economy is insignificant. The global financial crisis will not have any significant impact on the development of Russia’s mortgage market. Russian Prime Minister Vladimir Putin said the government was not going to change Russia’s strategic development plans because of the global financial crisis. “Russia is part of the global economy, and the crisis has a significant impact on Russia’s stock exchanges,” he said, noting that this factor “should be and will be taken into account in Russia’s development plans,” but the government would not cancel or postpone such plans. ( top.rbc.ru) The government announced that it could buy up to US $19.5 billion in shares to help revive the domestic economy (Kolyako, 2008). So overall Russian economy survive the crisis, But in near future if the prices of oil started to decrease it can affect the Russian economy. Conclusion:- The world economic and financial crisis is in its early stage. The major shock was for US economy, where many major financial institutions fail. This crisis affects the new industrial countries, where production comes to close down as a result of crisis. As a part of world economy, all countries will be affected by this crisis. The global economic deterioration will have extremely negative consequences. This research shows that the countries that have strong infrastructure are not very much affected by this financial crisis. But on the other hand, it will soon strike them, because many countries export their goods to America. As a result of crisis, the consumer power of American will decrease, which will affect the countries like china that have major export policy towards America. The countries which have major dollar reserves can hit by the recession. Because as the dollar value decreases the reserves value will be decreased as a result. So the stability of USA and US dollar means the stability of emerging countries in Asia. Money market in different Asian countries are affected by the recession, many stock market shares value decreases. The effects of this crisis on Asian banking sectors may not be so much more due to less loaning against mortgages especially bogus mortgages. The Asians banking sector is more careful as compared to Americans. So the insurance sector is also equally safe. However Asian stock markets, where speculated elements are dominating, are suffering badly and they are losing weight and value day by day. These markets have abundantly affected the money markets of Asian countries. However, with better planning such type of recession may be controlled in near future. Recommendations:- It appears to be strange for us, to give any recommendation to USA, which is the biggest economy of the world, the best brains. However it can be recomendated that: 1. instead of giving bail out to the financial institutions it must be given to the individuals with new purchase of mortgage property agreements as subject to redemption as and when the loan is repaid by the individuals within specific periods. If the individuals fail to buy back their mortgage property the government should hold such properties until these will get better prices in the market. 2. The Asian countries should learn lesson from this crisis, and they must avoid from the speculated type of business activities. They must emphasize on the production of industrial items and agricultural production. 3. The rise from this global crisis came from banking & insurance sectors, so the loaning must be against tangible securities and not against bogus ones. 4. In such scenario, china can play a pivotal role to sustain and survive the Asian markets. Because it has plenty of foreign exchange reserves, skilled labor, very strong industrial base. China should support Asia through different bail out plans. It should open doors for the Asian economies, so that these economies can rid of America. 5. All Asian countries should unanimously agree not to support American war on terror, which has made the world unsafe & unsecured. This faceless and baseless war is the one of the biggest factor that has badly affected the American economy in addition to the reasons above. America is spending 1 billion US $ daily on this war. 6. USA must be stopped to poke her nose in the global affairs so that other countries can make policy according to their own social political and religious values. References:- Khizer Hayat Farooq: American-financial-crisis-what-happened www.newsbazaar.blogspot.com, 2008 Becky: Financial Crisis 101: What happened? Why is everyone freaking out? September 23rd, 2008 Patrick: The 2008 Financial Crisis - Causes and Effects, Sep 29, 2008 www.banknetindia.com/banking Paul Reynolds, US superpower status is shaken, BBC, October 1, www.w3c.org/TR/1999/REC-html401-19991224/loose.dtd"> Daniel Citrin: “The Impact on Indonesia of the Current Financial Crisis in the US” April 30, 2008 Graeme Wearden, David Teather, and Jill Treanor: www.guardian.co.uk Malcolm Moore: Asian economies hit by US financial crisis and slowdown 20 March 2008 Michael Laitman: The Financial Crisis - an Analysis www.laitman.com/2008/10/the-financial-crisis-an-analysis/ IANS: economic-financial-crisis-2008-causes www.cashmoneylife.com/2008/09/29/economic-financial-crisis-2008-causes/ S. D. Naik: http://sify.com/finance/fullstory.php?id=14777689 Nandini Lakshman: Business Week, 2008 http://www.businessweek.com/globalbiz/content/ Russia economy effects of the US financial crisis: www.economywatch.com/world_economy/russia/Russia_economy_effects_of_the_US_financial_crisis_in_russia.html Gref: -Effects of Global Financial Crisis To Hit Russian Banks Later In 2008 - http://www.cdi.org/russia/johnson/2008-28-35.cfm Nina Kolyako: Russia and the crisis of the Global Economy, 2008 Read More