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The Asian debt crisis of the 90\'s: A presentation
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THE ASIAN DEBT CRISISNitesh Kumar
Sameer Verma
Ashutosh Bharadwaj
THE STORY OF A BOOM AND A BUST AND THE CASCADE EFFECTCONTENTS:
The anatomy of a disaster The boom years and the end of the beginning The beginning of the end The bust: And it all came falling down Contagion and aftermath Lessons and reflections
ASIAN TIGERS :THE ECONOMIC MIRACLE
PROLOGUE: TIMES ARE GOOD IN THAILAND!
Emerged as a major Industrial centre for Japan in the 1980s.
Most investment is based on personal or institutional savings, less of debt and more of security.
The Thai Baht is pegged to the dollar in order to make investors confident and encourage trust.
BUT WHY INVEST IN SOUTH EAST ASIA?
Low interest rates in the developed world: FII’s looking towards ‘emerging markets’
After the Latin American debt crisis, Investors looking for alternate, safer destinations
The end of the cold war makes foreign investments seem to be more secure
AND SO THEY CAME IN DROVES!
Capital inflow 1997:$256 Billion
Capital inflow 1990:
$42 Billion
Availability of credit
Real estate boom
Economic
growth
THE FUNDAMENTS OF PEGGING A CURRENCY:
THE FLOATING CURRENCY REGIME
Demand Supply
In a floating currency regime the value of a currency is decided by
the laws of demand and supply and is dynamic.
THE FUNDAMENTS OF PEGGING A CURRENCY:
THE FIXED OR PEGGED CURRENCY REGIME
The government through a central bank maintains the value of the currency with reference to
another (Commonly the dollar)25 baht = 1 US $
THE FUNDAMENTS OF PEGGING A CURRENCY:THE FIXED OR PEGGED CURRENCY REGIME
• FII’s convert their dollars to Baht so that they can invest in Thailand
Inflow of foreign funds
THE END OF THE BEGINNING! 1996 A BUBBLE EMERGES
Investments and rise in affluence increased imports and hence the trade deficit
Rise in wages make Thai goods less competitive and exports affected
Dubious ‘Finance companies’ encourage real estate and stock bubbles
THE BEGINNING OF THE END! 1996 - 1997
Devaluation of the Yen makes south east Asia less
attractive
Speculators start going bust and financial
companies go under, investor confidence slides
The housing and stock market bubbles burst,
investors start pulling out
INTERLUDE: CRONY CAPITALISMTHE TOPI GAME AND THE PONZI SCHEME!
THE THAI GOVERNMENT: IN BETWEEN A ROCK AND A HARD PLACE!
Option one: Increase interest rates to attract and retain investment• Will negatively affect the economy and
hit businesses that are already suffering
Option two: Let the currency slide• Dollar debts of Thai companies would
magnify, government reputation tarnished
TO FLOAT OR NOT TO FLOAT, THAT IS THE QUESTION!
Indecision by the Thai government to devalue currency encourages speculation against the baht• Businessmen and hedge funds sell
Baht to buy dollars, buy US Bonds• Further pressure on the Baht and
central bank, foreign exchange reserves plunge
THE ‘LONG’ AND ‘SHORT’ OF SPECULATION AND THE HEDGE FUND
Long: Stocks or real estate purchased at market price and sold when the rate rises to make a profit
Short: You borrow stocks for some time, sell them and invest the proceeds. If the stocks lose value you gain as you purchase them at a lower price
INTERLUDE: HOW GEORGE SOROS CONQUERED BRITAIN! In 1990 as part of the European Monetary
Exchange Rate Mechanism (ERM) Britain forced to keep its currency pegged at a high rate. Due to a recession it was inevitable that the pound would float sooner or later
The Quantum fund with a credit line of $15 Billion establishes itself long in dollars and short in Pounds
A high profile media attack further hits the pound, Britain spends $50 billion to peg the Pound and has to give up and make the currency float
Soros gains $ 1 Billion!
INTERLUDE: THE HONG KONG PUNTER PARTY! (HEAD I WIN, TAIL YOU LOSE)
Short in stocks and buy dollars, if interest rates
are raised stocks fall and
they gain
Long is dollars so if currency is devalued they gain as well
In 1998 Hong Kong is hit by the financial crisis, the government would either raise interest rates or make the currency float. Hedge funds take advantage of this
THE BUST: AND IT ALL CAME FALLING DOWN
2nd July 1997 Thailand lets the baht go
The value plunges
50% (expected fall 15%)
Interest rates raised
sharply to avoid a
meltdown
THE VICIOUS CIRCLE OF A FINANCIAL CRISISFinancial problems
for companies, banks, households
Plunging currency, rising interest
rates, slumping economy
Loss of Confidence
CONTAGION AND THE RIPPLE EFFECT
Indonesian Rupiah plunges by 30 %Faces the worst financial crisis inworld history
Currency crisis in Malaysia
Crisis even spreads to South Korea
REASONS FOR THE RIPPLE EFFECT
Direct trade links between
countries
Southeast Asian
investment funds lumped as ‘Emerging Market Funds’
The ‘Asian miracle’
perception collapses in the
mind of investors
POSTMORTEM: SO WHY DID IT HAPPEN?
External factors •Devaluation of the Japanese and Chinese currency makes exports less competitive •Cheap Chinese labor
Cronyism and corruption •So called ‘financial companies’ affiliated to politicians, large scale scams and embezzlement
Panic! •Badly run economies more susceptible to panic•Flimsy economies crash like a pack of cards
THE IMF BAILOUT PACKAGE Stepped in for US $ 40 billion package Conditional relief – Demanded for Reformed
Economic policies, Removing insolvent institutions
INTROSPECTION AND REFLECTIONS
Crisis rose due to ‘Fast Track Capitalism’
REFERENCES
Paul Krugman: The
Return of Depression Economics
Niall Ferguson: The
Ascent of Money
The economist
online edition
THANK YOU