The Difference between the Global Financial Crisis and the Asian Financial Crisis - Case Study Example

How has the impact of the Global Financial Crisis (2008-2011) on East Asia differed from the Asian Financial Crisis of 1997.87? "If you look at the stock of first-generation immigrants divided by the total population of the world, it is barely 2.9%”. Projections about the world economy went from bright to bleak within the space of a year’s time because of the bursting of the real estate and loan bubble along with the sub prime crisis that changed the dynamics of the global economy completely (Morrison, Ricks and Roth, 2001). There are those that state that globalization indeed is inevitable as long corporates play a role in the election of the ones that make policy decisions (Morrison, Ricks and Roth, 2001). The process and levels of integration that have been achieved over the century are more or less irreversible now  given that fact that technology is advancing, movement across borders is becoming easier by the day and there is in fact no real effort to oppose it (Ghemavat, 2007). All that is visible are efforts to deal with the negative repercussions of the globalization trail even in the wake of the worst recession since 1930s (Morrison, Ricks and Roth, 2001)..   With the coming of the era of globalisation there was observed that there was a collapse of the local barriers and boundaries that had earlier been established by the state to ensure that the local markets have an advantage over the other markets and were able to function freely without any pressures from the international forum (Friedman, 2007). Due to this collapse the government was no longer required to regulate the markets and thus, the role that it played was reduced considerably (Ghemavat, 2007). Perhaps the most important factor that led to the fall in the role of the state is the fact that there emerged a number of international organizations such as the OPEC, EU and others that helped maintain international laws to regulate the functioning of the various organizations at the international level, due to which the local national governments are no longer required to engage in the economic sphere (Friedman, 2007). This has led to a significant change in the role that the state play, and thus, it can easily be stated the role that is played by the state has decreased significantly with the coming of the globalised form of capitalism as it is in the world today (Friedman, 2007). Recession in economic terms is, in essence, a slowdown in the economic movement in a country over a sustained period of time, or a business cycle contraction. During recessions, many macroeconomic indicators vary in a similar way. Production as measured by Gross Domestic Product (GDP), employment, investment spending, capacity utilization, household incomes and business profits all fall during recessions. The rapid growth of several East Asian economies since the mid-1980s enhanced by their financial opening and exchange rate pegs led to large inflows of private capital in the mid 1990s (Noble and Ravenhill, 2000). Fuelled by such capital inflows, private credit booms created pre-crisis vulnerabilities in the region; a greater availability of international private funds was considered a good thing for development, potentially welfare-enhancing for recipient countries (Noble and Ravenhill, 2000). Yet greater financial integration made these economies more vulnerable to sudden changes in investor sentiment and the external economic environment. The experience of several East Asian economies in the early 1990s suggests that difficulty in managing large capital inflows was a critical policy issue for macroeconomic management at that time as these economies were running near or at full capacity (IMF, 1995). Indeed heavy capital inflows became disruptive for countries such as Thailand, as they induced a real appreciation of the currency, heightened inflationary pressures through increase money supply and widened current account deficits to an unsustainable level (Noble and Ravenhill, 2000). The five crisis countries had become increasingly dependent on portfolio investment and other short term capital to finance ever increasing investment demand prior to the crisis, domestic financial systems proved too weak as conduits for heavy capital inflows which resulted in over borrowing and declining credit quality, thereby increasing fragility (Milelli, 2003; Reisen, 1999). The World Bank (1998) summarized the major causes of the 1997-98 crises. It pointed out three common forces that interacted to leave these countries vulnerable to external shocks. First, there was ready availability of private capital, especially short term capital; second macroeconomic and exchange rate policies that permitted capital inflows to fuel credit boom and third newly liberalized but insufficiently regulated financial systems. While the Thai stock market had already declined substantially firing the first half of 1997, a trigger to the crisis came when the government yielded to the repeated attacks against the baht and abandoned the peg on July 2. The Thai financial and currency crisis developed into a region wide one as a contagion spread to Indonesia, Malaysia, the Philippine, Korea and other economies by causing a sudden, huge outflow of capital and a simultaneous fall in asset prices. In addition to the associated detrimental effects the 1997-98 crisis dealt a heavy blow to the economies of the region in the fiscal cost of bailing out and reconstructing the financial sector and the output forgone owing to the historically worst ever recession that ensued. Moreover, some concern arose that the social impacts of the crisis might have a larger economic effect over the longer term. Close business government relations that had proven an asset during the period of high growth generated moral hazards, distorted the liberalization process, increased vulnerability to chocks, and complicated the adjustment process once the crisis hit. Reducing the risks of crisis in the future requires not only discrete policy and regulatory changes, but political and institutional changes that check particularistic business influence and increase transparency in business government relations. Also important from the angel of the financial crisis was the fact that countries ended up entering the zone of vulnerability. Early warning indicators need to be supplemented with a greater understanding and appreciation of the political sources of market uncertainty. Contrary to defenders of Asian values, non democratic governments had no apparent advantages over democratic ones in adjusting to the crisis and a number of disadvantages. These included arbitrary actions on the part of chief executives, political instability and profound uncertainties about the succession process. Democracies such as south Korea that moved swiftly to build legislative and interest group support were capable of instituting wide ranging institutional and policy reforms that contributed to rapid recovery. In the four most seriously affected countries-South Korea, Thailand, Indonesia and Malaysia-backlash against the market was partly offset by market oriented populists. The crisis generated pressures for financial and corporate restructuring but the process faced substantial political resistance and the reform movement appears to have slowed. However, longer-run institutional legal and policy changes put in place in the wake of the crisis are gradually transforming financial systems, corporate governance and business government relations in more important ways. The 2008-09 crises on the other hand has been accounted for based on corporate greed, lack of transparency and accountability along with the issues of global integration which has meant that the bad state of one economy is reflective in and has an impact on the entire world. On a purely theoretical plane it is correct to assume that there can be many acceptable ways of "accounting"- an act of explaining business realities to multiple stakeholders of socio-economies (Biondi and Suzuki, 2007). The global financial crisis that started in the US with the sub prime crisis a year and half back has translated to a full blow recession and a global economic crisis which has resulted in the collapse of the one of the best known financial institutions of the world (Lehman Brothers) and an emergency bailout for many other giants like CitiGroup and General Motors. While the recession ebbed, recovery is still a long way off. When at its peak, the global financial crisis engulfed Wall Street and caused stock collapses the world over. One of the better known prospective casualties of the crisis along with certain institutions would probably be the fair value measurement method of accounting. The system of fair value stands in direct contrast and was perceived to be the logical development of the method of historic cost that is defined as the amount of money or equivalent sacrificed to obtain an item. The fair value in essence is an exit value measurement One of the key challenges of the system of fair value is the issue of objectivity. The subjective nature of the process ensures that it is independent from management and determined by market forced. This is the case only when and IF there is indeed an active market (Drever, Stanton and McGowan, 2007). The problem basically is that fair value is a reflection of the market prices and hence cannot be reflective of the real value of the product-the market prices is representative of the expectations of the buyers and the sellers in the market. The problem therefore would be with respect to the fact that if accounting is to challenge the price bubble, it must not be influenced by bubble prices. The method of accounting that had once brought wealth to the Wall Street regulars is now causing them to balk at its mere mention. The issue at stake here is that the new found allegations that question the ability of the fair value method to be able to objectively show the value of the assets; there is also the problem of the belief that it was this method of accounting that made many look “ugly" during the crisis affecting company reputations and in turn having a none-to-positive impact on financial performances, or investors’ confidence. Before the financial crisis and the global recession actually took affect, the first level was the method of valuation where assets were concerned. With the outset of the crisis however the situation changed given the fact that the crisis automatically made it difficult to arrive at exact asset valuation. The real market became inactive, thereby bringing into effect the marking that in case of an inactive market the third level would come into the picture. Given the fact that much of the valuations methods asked for the third level are subjective there is a turned to continue with valuations in keeping with the first level which has again led a tangible departure in the value of assets and derivatives from the real value to their accounted value, thereby showing a loss of liquidity and assets and hence a loss of overall profits-deepening the tend of the crisis. The problem has been that most assets that have valued based on the FAV methods have been undervalued, leading to a dilution of investor confidence. The primary cause of the recent economic downturn can be traced back to an entire range of factors. It was in essence, a combination of a numerous issues. These factors are inclusive of the extreme debts that were taken on by people, an over inflation in property values and prices, immense greed at the corporate level coupled with ignorance ( or lending firms deceit ) to accept loans that they could not afford and the ignorance and unwillingness to act on part of the Bush administration. Dependence on foreign merchandise and energy are also responsible for the crisis to a certain extent. One needs to necessarily refer to the points that have been made by New York Times columnist and Nobel rice Winner Paul Krugman.  He states in no uncertain terms that for an understanding of the cause of this recession one needs to look at Asia. After the 1997-98 Asian Financial Crisis, counties in that part of the world started protecting themselves against future currency corruption by creating huge reserves of foreign revenue and assets and by exporting the added capital to the West. This export of assets was in terms of real estate primarily, thereby driving up the prices of real estate in the West by leaps and bounds. There was in other words, a big savings surplus and most of this surplus flowed to the United States. A large part of it actually, in per cent of GDP terms, actually flowed to Europe, but the depth and freedom of US financial markets led to, among other things, quicker money flow to mortgage financing and households' accessing that wealth. Added to this was bankers' irresponsibility who created ways to enrich themselves while concurrently bankrupting companies and transferring loan risk to someone else and the result was, first, a housing bubble, and then, of course, the bursting of that bubble of pseudo-wealth. Financial Engineering Here, one could also look at the role of financial engineering. The process of financial engineering itself is the result of the process that was once initiated through mathematics in the process of sculpture by economists along the likes of Robert Merton and Myron Scholes, showing the usage of share prices for valuation of derivatives (The Economist, 2009). This is the phenomena, that let loose that formation of a original hybrid securities that promised high returns to investors. In a situation characterized by the lack of comprehensible regulation of such securities that are speculative in nature it would be automatically easy for those that are unscrupulous and engaged in trades of banking with help, most of which is easily available aimed at the creation of protected investment grade ratings, cover, and market these instruments to people and investors which are institutional. Corporate Greed The thing with credit default swaps was that the transactions in themselves would tend to be highly lucrative, despite the fact that they were risky. Incidentally, when a transaction would go south, the bank would still have to put value to the commitment it made. This would mean that the loss would need to be made up for, through the use of the process of drawing down of the bank’s equity-in no way equitable for covering demands such as these. The transpired result therefore would be the inevitable bankruptcy as in the case of Lehman Brothers that were allowed to go under or bailout such as the kind offered to CitiBank and the Bank of America by the US Government. In the case of credit swap, the primary problem therefore was the absence of a regulatory mechanism supporting scrutiny of these transactions- in essence shady and backhanded. In conclusion, therefore one could state that while the 1997 East Asian crisis was the result of the mismanagement of economies and a direct outcome of regional integration, the global financial crisis was a result of corporate greed and an absence of accountability at the highest echelons of banks and multinational companies. References: Nobel, G. W., and Ravenhill, N., (2000). The Asian financial crisis and the architecture of global finance. Cambridge University Press. pp6-7 Morrison, Alan, David Ricks and Kendall Roth (1991). “Globalization versus regionalization: which way for the multinational?”, Organizational Dynamics, 19(3), pp. 17-29. Friedman, T. Et al. (2007): Letters in Response to Ghemawat”, Foreign Policy, May-June, 160, pp. 4-6. Ghemawat, P. (2007) “Why the world isn’t flat”, Foreign Policy, March-April, 159, pp. 54-60 Biondi, Y & Suzuki, T. (2007), 'Socio-economic impacts of international accounting standards: an introduction', Socio-Economic Review: Special Issue. The Socio Economics of Accounting. 5(4). pp. 585-602 Drever, M. Stanton, P. & McGowan, S. (2007). Contemporary Issues in Accounting.  John Wiley & Sons Australia Drever, M. Stanton, P. & McGowan, S. 2007, ‘Contemporary Issues in Accounting’, John Wiley & Sons Australia. Pp99-105 Krugman, Paul (2009). The Return of Depression Economics and the Crisis of 2008. W.W. Norton Company Limited Crawford, P., and Young, T., (2008). ‘Sub-Prime Mortgages and the Big Bang’. Journal of Business & Economics Research. 6(10). Pp67-72 Crawford, Peggy J. and Terry Young, (2006). “The Real Estate Market: House of Cards?” The Graziadio Business Report. January Economist, The., (2009). “Briefing Globalization and Trade: The Nuts and Bolts Come Apart,” The Economist, March 28, pp. 79-81 Economist, The., (2009). “Greed--and Fear: A Special Report on the Future of Finance,” The Economist, January 24, pp.1-22. Read More