1997 Asian Eco Crisis

8/8/2019 1997 Asian Eco Crisis

1/21


2/21

2

Why talk about a crisis thats over now?

Anything we should learn from this?


3/21

3

Summer of 1997 Bangkok, Thailand, East Asia


4/21

4

FromFrom 19851985 toto 19961996,, growthgrowth raterate averagingaveraging almostalmost 99%%annuallyannually -- increasedincreased pressurepressure onon Thailand'sThailand's currency,currency,thethe bahtbaht

From 1985 until July 1997, Baht was pegged at 25 US$


5/21

5

Mid-May 97: Thai Baht was hit by massive speculativeattack

Spark: End-June 97, Thai Prime Minister declaredthat he would not devaluate the Baht

Thai Government failed to defend the Baht againstInternational speculators

Financial Crisis hits.


6/21


7/21

7

Primary Casualty:Thailand, Indonesia, South

Korea

Fairly hurt:

Hong Kong, Malaysia, Laos

and Philippines

Most Asian countries

currencies fall significantlyrelative to the US$

Fear of Financial

Contagion,Globally


8/21

8

Drastic devaluation of the rupiah:from 2,000 to 18,000 for 1 US$

Sharp price increase

Wake of widespread rioting:500 deaths in Jakarta alone

Governor, Bank Indonesia wassacked

President Suharto was forced to step downin May 1998 after 30 years in power


9/21

9

Drastic devaluation of the won: from 1,000 to1,700 for 1 US$

Credit rating of the country (Moodys): A1 to B2

National Debt-to-GDP ratio more than doubled

Major setback in Automobile industry


10/21

10

Growth dropped to virtually zero in 1998

Peso fell significantly, from 26/US$ to even

55/US$

President Joseph Estrada was forced to

resign


11/21

11

40% of Japans export go to Asia, so it wasaffected even if the economy was strong

Japanese Yen fall to 147 as mass selling began

GDP real growth rate slowed from 5% to 1.6%

Some companies went Bankrupt

Being worlds largest currency holder, Japan couldbounce back quickly


12/21

12

Markets did not collapse, but were severely hit

NYSE briefly suspended trading, for the first time

Dow Jones Industrial Average suffered as 3rdbiggest point losses ever

Relationship with JapanJapan changed forever: US stopped supporting the highly artificial Trade

environment and Exchange Rate


13/21

13

Lets hear to what Paul Krugman was trying to say since1994

"Asian economic miracle..

Result of capital investment(high interest rate to attract

foreign investment)

Growth in productivity,without much improvement inTotal Factor productivityTotal Factor productivityneeded for long-term prosperity


14/21

14

Bubble TheoryBubble Theory

bubble fueled by "hot money

More and more was required as the size of the bubblegrew

short-term capital flow was expensive and often highlyconditioned for quick profit

Development money went in a largely uncontrolledmanner to people closest to the political power


15/21

15

Real Estate Speculation

Excessive real estate speculation

Chinese effect

Competition from China due to its export-orientedreforms in 90s

Western importers found cheaper manufacturers inChina whose currency was depreciated relative to theUS$


16/21

16

Policy that distorts the incentives within the lenderPolicy that distorts the incentives within the lender--borrowerborrowerrelationshiprelationship

Artificially high Interest rate to attract investors

Large quantities of available credit

Highly-Leveraged economic climate

Asset prices pushed up to unsustainable level, and eventually collapse

Default on Debt obligation

Panic among Lenders

Large withdrawal of credit

Credit crunch and further bankruptcies

Depreciative pressure on credit rates

Potential Collapse of the market Government enters..


17/21

17

Poli t t i tort t i ti it i t l r Poli t t i tort t i ti it i t l r-- orrowerorrowerrel tionshirel tionshi ( ontinued)( ontinued)

overnment is for ed to r ise omesti interest r te toexceedingl highEconomy ecomesmore fr gile

Government uysexcessdomesticcurrency t fixedexchange rateHemorrhaging foreign reservesofcentral anks

Tideof fleeingcapital doesnot stopAuthorityceases todefend fixedexchange rateCurrency floatsanddepreciatesForeigncurrency-denominated liabilitiesgrewsubstantially (indomestic

currency terms)orebankruptcies

Furtherdeepeningof thecrisis


18/21

18

Lets assume that foreign investors buy Thai Bond when they invest

Exceedingly high interest rate attracts more such investment

So Bond Demand > Bond Supply and Money demand < Money Supply

Equilibrium is disturbedwhen Interest rate is pushedto artificially high, higherthan the optimum rate r*

With higher rate r, M/p(Money/price) decreases

Asset price falls

Govt increases Interest rate


19/21

19

Mistakes:

Goals of raising interest rates, ideally:

economic growth

to combat unemployment and inflation to cool an otherwise overheated economy

ContractionaryContractionary PolicyPolicy

Incorrect Monetary Policy, artificially raising the Rate ofInterest to exceedingly high

Fiscal Policy related problem:

incorrect distribution of wealth


20/21

20

Lets see what happened to our Thai friends

IMF unveiled a $17 billion rescue package, and another

bailout package of $3.9 billion subject to conditionality for reorganizing and restructuring,

establishing strong regulatory frameworks

Tax revenue balanced thebudget in 2004,4 years ahead of schedule

Baht reached 33/US$ by 2007


21/21

21

References:

Miles, Scott, Understanding the Wealth of Nations

Krugman, Paul: The Myth of Asia's Miracle: A Cautionary Fable

Palma, Gabriel: The Three Routes to Financial Crises

Hughes , Helen: Crony Capitalism & East Asian Currency Financial Crises

Bello, Walden: IMF's Role in the Asian Financial Crisis

Yellen, Janet: The Asian Financial Crisis Ten Years Later

Wikipedia.com

newschool.edu

Documents

1997 Asian Eco Crisis