Asia in the World Economy - Impact of the 2008 Global Financial Crisis on Malaysia - Case Study Example

Asia in the World Economy: The Impact of the 2008 Global Financial Crisis on Malaysia Name Course Name and Code Instructor’s Name Date Abstract The 1997 Asian financial crisis had devastating economic, political and social impacts on Malaysia. The crisis originated in Thailand and was mainly restricted to Asian countries. The impact of this crisis was drastic and did not give the countries time to prepare and mitigate its impacts. On the other hand the 2008 crisis originated in USA and greatest impact was felt in developed countries such as USA, Europe and Japan. Though the impact of 2008 affected Malaysia, it was not as devastating as that experienced in 1997. In addition the impact was also slow and the government had enough time to put into place monetary and investment plaices to reduce its adverse effects. Overview The 1997 Asian financial crisis had traumatic impact on Malaysia (Khoon and Mah-Hui, 2010). The crisis resulted in economic and political turmoil in Malaysia. The stock market, currency and the property market nearly collapsed (Zin and Shahadan, 2009). The deputy president Anwar Ibrahim from Malaysian dominant party UMNO was forced out of government due to the crisis when he disagreed with the then president Mahathir Mohamad over Mahathir’s rejection of loans from IMF (Abidin and Rasiah, 2009). Malaysia is export dependent economy and given its openness it was not spared from the recent global financial crisis. The 2008 financial crisis impacted negatively on Malaysian exports and industrial output (Khoon and Mah-Hui, 2010). It also resulted in a decline in investments. The 2008 financial crisis also adversely affected consumer sentiment in Malaysia. Consequently, Malaysian GDP growth in the last quarter of 2008 was very low at 0.1% in comparison to the average of 5.9% in the first three quarters of 2008. The 2008 global financial crisis resulted in One spiralling inflation in Malaysia (Haddad and Shepherd, 2011). The inflation rate experienced 2008 in Malaysia was the highest than ever before. Commodity prices in Malaysia also slumped during this period. For instance, crude palm oil prices in 2008 fell from a high of Ringgit 4300 to a low of Ringgit 1760. This was greater than 60% drop. As a consequence the budget of the year 2008/2009 which had been prepared based on previous commodity prices was impacted upon negatively (Abidin and Rasiah, 2009). The production and income were also hard hit by the crisis because there was a drastic fall in exports in oil, manufacturing and agricultural products (Zin and Shahadan, 2009). Malaysia recorded 15% drop in exports by the end of 2008 was 15%. Malaysia’s economic output in the last quarter of the year 2008 dropped by 3.6%. Malaysia’s gross exports fell by 18% as at the end of 2008. Malaysia also recorded 11% fall in the GDP between the third and fourth quarters of 2008 because of the crisis (Haddad and Shepherd, 2011). All sectors of Malaysian economy were hit by deceleration of growth between the third and fourth quarters of 2008 (Khoon and Mah-Hui, 2010). For instance, manufacturing sector fell by 12% while agricultural fell from RM 10.8 to 9.9 billion as the construction sector fell from RM 4 to 3.9 billion. Prior to 2008 financial crisis, Malaysia had been experiencing high surplus in the overall balance of payments (BOP) (Zin and Shahadan, 2009). Even though Malaysia had a positive surplus BOP of RM 26.2 billion in the second quarter of 2008, this fell in the third and fourth quarter and became a deficit of RM 31.5 billion and RM 62.5 billion respectively (Abidin and Rasiah, 2009). Malaysia also suffered from a big drop in funds flowing into Malaysia. The capital flows and portfolio investments recorded the highest net outflow of RM 84.4 billion in 2008 in comparison to RM18.4 billion recorded in 2007. The Kuala Lumpur Composite Index fell from 1393 points as at January 2008 to 876 by the end of 2008 due repatriation by foreign participants (Zin and Shahadan, 2009). Foreign direct investment into Malaysia dropped by 98% from RM15.9 billion in the second to 0.3billion in third quarter of 2008. The decline in demand for exports and portfolio capital outflows for Malaysia led to depreciation of the ringgit by almost 6% by the beginning of 2009 (Haddad and Shepherd, 2011). The impact of 2008 global on Malaysian banking system was moderate because Malaysian domestic banks had negligible exposure to US subprime loan products in addition to having built significant buffers during the decade after the Asian financial crisis. Similarities between the 2008 global financial crisis and 1997 Asian crisis The Asian countries and the US had domestic problems before the 1997 crisis and 2008 crisis respectively that necessitated the crises (Khoon and Mah-Hui, 2010). The two crises are also common in the sense that there were weaknesses in the system of financial regulation and oversight prior to the onset of the two crises. Differences between the 2008 global financial crisis and 1997 Asian crisis There are some differences in 2008 global financial crisis and the 1997 Asian financial crisis in terms of the causes, economic and financial conditions at the beginning of the crisis and different policy responses (Haddad and Shepherd, 2011). The late 1990s Asian financial crisis had its origins in Asia. It had enormous negative impact on Asian economies (Abidin and Rasiah, 2009). In the case of Malaysia, its economy contracted drastically and its GDP fell from 7.3% in 1997 to -7.4% in 1998 (World Bank, 2010). This impact was exacerbated by tight fiscal and monetary policies that were enacted in Asian countries including Malaysia (Zin and Shahadan, 2009). Although the impact of the Asian crisis affected many economies in the world, the damage was largely seen in Asian countries including Malaysia (Khoon and Mah-Hui, 2010). Other regions such as USA and Europe had steady economic growth during Asian financial crisis. The financial markets in the developed world were much mature and had strict regulation when the 2008 global financial crisis began as opposed to that which existed in Asian countries prior to 1997 Asian crisis (Abidin and Rasiah, 2009). The mature financial markets in the developed countries were much resilient to shocks due to their depth and sophistication and their supervisory and insurance system and were thought to be able to function safely with less oversight and more leverage as opposed to what existed in Asian countries prior to 1997 crisis (Khoon and Mah-Hui, 2010). Thus the reduced oversight and high leverage reduced transparency that facilitated 2008 financial crisis. Unlike Asian financial systems, developed world financial systems had proved to be capable of rebounding from external one-time shocks before the investment bank Lehman Brothers (Zin and Shahadan, 2009). Reasons for the 2008 global financial crisis There are three main shocks, which led to global financial crisis. First was the burst of the housing bubble. This caused reallocation of capital and loss of household wealth and reduced consumption. Second was the sharp rise in the equity risk premium (Abidin and Rasiah, 2009). This caused a rise in the capital cost, fall in private investment and collapse of demand for durable goods (Zin and Shahadan, 2009). The last shock was the reappraisal of risk by households. This led to discounting of future labour income and increased savings while decreasing household consumption. The global financial crisis is also attributed to structural causes (Khoon and Mah-Hui, 2010). This included deeply flawed institutions and practices that are often referred to as new financial architecture. This architecture had a globally integrated system of giant banks and shadow banking system of hedge funds, bank created special investment vehicles and investment banks. It is argued that these institutions had poor regulatory systems in place. Reasons for the 1997 Asian crisis The weaknesses of the financial institutions were one of the key causes of the crisis. The insolvency laws, which were rarely used, were inadequate to address the crisis. There were no bankruptcy laws in countries like Thailand (Abidin and Rasiah, 2009). Corporate accounts also lacked transparency and there was very little protection offered to minority shareholders. Thus very few investors were convinced to take stake in the local companies (Peters, 2010). Therefore, most of foreign and domestic investors shied away from local companies. The rapid liberalization of capital accounts could have been one of the reasons why this crisis occurred (Zin and Shahadan, 2009). The liberalization was far too fast in relation to the strength of control systems in place at that time, that is, the institutions and financial systems were too weak to accommodate these fast track liberalization (Khoon and Mah-Hui, 2010). Thus, because the systems were weak the controls of cash in flows were out of reach. This culminated in high inflows of short-term debts to finance projects, which were mostly long term. The use of short-term debts to finance long-term debts is another key reason of why the crisis happened. This created imbalance and the payment of the debts was difficult resulting in the withdrawal of funding by foreign investors who lost confidence in the concerned economies. This caused massive outflow of funds (Abidin and Rasiah, 2009). This was mainly caused the lack of controls to plug this outflow. Therefore little was left in terms of foreign currency reserves. As a result, the countries concerned could not stabilize their currencies’ value. Thus most of the currencies depreciated in value. The depreciation of currencies resulted in the decline in stock markets and the prices of the assets fell drastically too (Khoon and Mah-Hui, 2010). This then resulted in the financial crisis that rocked the Asian countries. Some of the currencies, which were affected, were Chinese currency, appreciation of the dollar against Japanese yen (Zin and Shahadan, 2009). Another cause of the crisis is attributed to the reduction of the prices of the semi-conductors. This was one of the main foreign exchange earners in most of the Asian countries and its devaluation resulted in major losses and reduced foreign currency (Zin and Shahadan, 2009). Thus little was being transmitted to the foreign reserves. The pegging of most Asian countries’ currency in United States of America’s dollar was also a key cause of the crisis (Haddad and Shepherd, 2011). At the beginning of the 1990s the dollar was weak and encouraged more borrowing by the Asian countries (Ibrahim, 2009). This was because the interest rates charged on the dollar were very low. As the American economy blossomed the interest rates increased and most of these countries found themselves in large short-term debts that they could not pay (Khoon and Mah-Hui, 2010). This drove most investors away from the Asian countries and most migrated toward the United States of America, which was offering higher interest rates. This resulted in the collapse of many financial institutions and others became bankrupt (Abidin and Rasiah, 2009). Conclusion The 2008 global financial crisis and 1997 Asian crisis had negative impact on Malaysia. These ranged from economic, political and social impacts. The two crises had some similarities and differences and various reasons have been pointed out to be the main causes of the two crises. Some of the reasons include weaknesses in the system of financial regulation and oversight prior to the onset of the two crises. References Abidin, D., and Rasiah, R. 2009. The global financial crisis and the Malaysian economy: Impact and Responses. University of Malaya: A Joint ISIS and UM Report Commissioned by the UNDP. Zin, R., and Shahadan, F. 2009. Impact of global economic crisis on the Malaysian auto-parts industry. Background Paper for Conference on the "The Impact of the Global Economic Slowdown on Poverty and Sustainable Development in Asia and the Pacific", 28-30 Sept 2009, Hanoi. Haddad, M., and Shepherd, B. 2011. Managing Openness: Trade and Outward-Oriented Growth After the Crisis. New York: World Bank Publications. Ibrahim, M. 2009. Impact of the global crisis on Malaysia’s financial system. BIS Papers No. 54 Khoon, G., and Mah-Hui, M. 2010. The impact of global financial crisis: The case of Malaysia. Third World Network: TWN Global Economy Series. Peters, M. 2010. What the 2008/2009 World Economic Crisis Means for Global Agricultural Trade. New York: DIANE Publishing. World Bank. 2010. Global Economic Prospects 2010: Crisis, Finance, and Growth. Washington, DC: World Bank Publications Read More