Multinational Business
Week 10 tutorialAsian Financial Crisis
HistoryBefore 1997, Asia was attractive
By developing countries
High interest rates
“Asian economic miracle”F
our Asian Tigers
IntroductionJuly 1997
Countries most affected by the Asian Financial Crisis.
IntroductionMost affected:
IndonesiaSouth KoreaThailandHong KongMalaysiaLaosPhilippines
IntroductionLeast affected
People’s Republic of China IndiaTaiwanSingaporeVietnam
IntroductionThailand
Thai bahtReal estateBurden of foreign debt
Southeast Asia and Japan Slumping currenciesDevalued stock marketSteep rise in private debt.
IMF Role$40 billion program to stabilize the
currencies of South Korea, Thailand, and Indonesia.
Bailouts (rescue packages) for the most affected economies to enable affected nations to avoid default.
Structural adjustment package
IMF conditionscut back on government spending to
reduce deficits,
allow insolvent banks and financial institutions to fail and aggressively raise interest rates.
The reasoning was that these steps would restore confidence in the nations’ fiscal solvency, penalize insolvent companies, and protect currency values.
The Currency exchange rate per USDJune 1997 compare to July 1998
Thai baht: 24.5 to 41
Indonesian rupiah: 2,380 to 14,150
Philippine peso: 26.3 to 42
Malaysian ringgit: 2.5 to 4.1
South Korean won: 850 to 1,290
Thailand
ThailandFrom 85-96 Thailand GDP grew 9% per year
Highest economic growth rate
Inflation was also low (3.4%-5.7%)
Baht value was 25 to the US Dollar
Investors were guaranteed US Dollar from their investment
ThailandMay 14-15, 1997 the Baht faced very bad
speculative attacks
In June, Prime Minister refused to devalue the baht
Thai government failed to defend the Baht, starting the crisis
Baht lost more then half it’s value
Thai stock market dropped 75%
ThailandAugust 11, 1997, IMF unveiled $17 billion rescue
package
August 20, 1997 IMF approved another $3.9 billion bailout package
Rumors that former Prime Minister profited from the devaluation
Finally recovered by 2001, paid off IMF debt in 2003
Thailand financial crisisInstability of currencies
Investor relies heavily on speculation
1.5 million US$ transaction everyday
Speculators are betting a money on how currency will move
Consequences As dollar appreciated, so did the currency
pegged to USD
As a result, export became expensive
Sales began to fall
Deficit began to grow
Speculative attack on Thailand
Early 1997, investors and hedge funds had a sharp eye for instability on Thailand
They were saying that Thailand had to devalue its money because it is borrowing too much money
They started betting on it
This would definitely had an effect as huge amount of money was on bet
Lots of banks from all over the world followed the speculation
Speculative attack on Thailand
As betting escalated, Thai Baht came under attack
Thai government was forced to buy more and more Baht by the dollar it kept in reserve to stabilize its currency
But the investor wanted to cash out their investment following the speculation
Each transaction was pulling money out of Thailand and bringing money back to US
People want to cash their deposit as well all at once
Reaches the point of exhaustion and as a result crisis
Speculative attack on Thailand
Government of Thailand lost its battle against speculator and ran out of cash
Within week currencies tumbled, and government fell down
This effect had severe effect on Malaysia, Indonesia and South Korea as well
There was generalised financial crisis
Role of IMFThailand asked help from IMF
Injected capital
In return government had to cut budgets, increase interest rates paid to foreign investors
They asked for restructuring of the entire economy
Consequence was of social costUnemploymentMiddle class now poorHuge protest
Indonesia
IndonesiaIndonesia was doing good in June 1997
Low inflation$900+ Million trade surplus$20 + Billion foreign exchange reservesGood banking sector
However, many corporations were borrowing in U.S. Dollars
In July 1997
IndonesiaOn August 14, 1997 the managed floating
exchange regime was replaced by a free-floating system, causing the rupiah to drop more
IMF created a rescue package of $23 Billion, but didn’t help
In Sept they hit a all time low, Moody’s rated Indonesia’s long-term debt to “junk bond” status
More effects were felt in Nov when the summer’s hits were felt in the corporate books
IndonesiaIn Feb, the President got rid of the governor of
the Bank of Indonesia, but this wasn’t enough and he was eventually forced to resign
EffectsRupiah was 200 to 1 USD, afterward hit 18,000 to
1 USDLost 13.5% of GDP
South Korea
South KoreaLarge corporations were funding big expansions,
however failed due to excess debt
Moody’s lowered their credit rating from A1 to B2
Seoul stock exchange dropped 4% on Nov 7, 7% on Nov 8, and 7.2% on Nov 24
In 1998 Hyundai took over Kia Motors and Daewoo was sold to American GM
Currency dropped from 800 per dollar to 1,700
National debt-GDP ratio went from 13%-30%
South KoreaSeptember: S.Korea’s foreign debt= $105 billion
($70 billion under 1 year maturity); its reserves =$25 billion.
This figures shows that South Korea is technically bankrupt
Therefore it has to accept the IMF’s $60 billion so called ‘rescue’ packae
South KoreaThe IMF conditions
Cuts in government spendingUnemployment to double from 4% to 8%12 Govt. owned banks to close immediatelyRestrictions on foreign ownership of Korean banks
to be endedForeigners to be allowed full access to Korean
govt. bond market
South Korea The IMF conditions (contd..)
Foreigners to be allowed to own up to 100% shares in top Chaebol firms (previous limit was 25%)
Foreign firms to be allowed entry into the domestic insurance and pension fund industry
Govt.-Chaebol links to be made transparent: privileges, subsidies etc. to be ended.
South KoreaThe terms were humiliating;
South Korea attempted to improve the terms by asking for only $30b as opposed to $60b loan.
The IMF refused, insisting that i) South Korea needed the entire $60b and, ii) not one dollar would be given unless all the
conditions were agreed to.
South KoreaWas the crisis used as a one-off opportunity to
prize open South Korea?
Answer: Definitely.
Hong Kong
Hong KongAfter UK gave control of Hong Kong to China the
Hong Kong dollar was under speculative pressure
Authorities spent more then US $1 Billion to defend local currency
Had more then US $80 billion in foreign reserves
Stock markets became volatile
In Oct the Hang Seng Index dropped 23%
In Aug 98, interest rates jumped from 8%-23% overnight, and even 500% once
Hong KongThe Hong Kong Monetary Authority (HKMA)
setup a system to establish rates, however speculators were taking advantage of this by short selling shares.
HKMA wound up buying HK$120 billion worth of shares in various companies to combat this
Started selling those share in 2001, profiting HK$30 billion
Malaysia
MalaysiaIn July 1997, the Malaysian ringgit jumped
overnight from 8% to over 40%
Ratings had fallen from investment grade to junk
Lost 50% of value, from 2.50 to 3.80 to the dollar
Output of real economy declinedConstruction dropped 23%Manufacturing 9%Agriculture 5.9%GDP 6.2%
MalaysiaIMF aid was refused
Various task forces were formed to fix economy
By 2005 had a surplus of US$14.04 billion
Singapore
SingaporeSingapore dipped into a short recession
Government kept very active management to ensure security
Government programs were put forward
Made no attempt to help capital markets, instead allowed a 60% drop, however within a year fully recovered and continued to grow
Less Affected CountriesChina, The US, and Japan were very strong
economies and were able to survive
China held most of it’s foreign investments were in factories rather then securities
U.S. didn’t collapse, but on Oct 27,1997 the Dow Jones fell 554 points (7.2%)
Japan was affected because the economy is so prominent (yen fell to 147), but it was world’s largest holder of currency reserves so it bounced back quickly
Asian financial contagionBecause of this crash in Asia, investment flowed
elsewhere in Moscow (1998)
Investor thought that Russia would not fail
Even if it fails, they thought that rich countries will bail them out
Russia defaulted on its debt and currency plummeted
Now investor realised that massive risk everywhere
USAThis did affect USA as well
One of the private investment fund LTCM (Long Term Capital Management) was in the brink of bankruptcy
LTCM directly controlled $100 billion of global assets and indirectly trillion dollar assets
September 1998, LTCM losses were out of control
Government could do impose its solution because it was private fund
USAFailure of single fund threatened the entire
global economy
Fate of global economy now on the hand of bankers
Bankers agreed to put up their own money to protect LTCM
As a result Wall Street avoided the disaster
ConclusionMany businesses collapsed and millions of
people fell below the poverty line
Indonesia, South Korea, and Thailand were most affected
Heavy U.S. investment shifted from Thailand to Europe
Many countries pushed for corporate governing to avoid problems later
Investors were reluctant to lend to developing countries
Assignment for workshopExplain why bank-based rather than capital
market-based finance has traditionally played the more dominant role in the Asian economic paradigm and why, in the current era of globalization, this continued dominance might be a problem.
ReferencesKaufman, GG., Krueger, TH., Hunter, WC. (1999)
The Asian Financial Crisis: Origins, Implications and Solutions. Springer.
Weisbrot, Mark (August 2007). Ten Years After: The Lasting Impact of the Asian Financial Crisis
Tecson, Marcelo L. (2009), "IMF Must Renounce Its Weapon of Mass Destruction: High Interest Rates"