FINANCIAL CRISIS IN ASIAN

Basic problems or issues:

• A shortage of foreign exchange that has caused the value of currencies and equities in Asian Country to fall dramatically.
• Inadequately developed financial sectors and mechanisms for allocating capital in the troubled Asian economies,
• Effects of the crisis on both the United States and the world
• The role, operations, and replenishment of funds of the International Monetary Fund.
• The first round was a precipitous drop in the value of the Thai baht, Malaysian ringgit, Philippine peso, and Indonesian rupiah. As these currencies stabilized
• The second round began with downward pressures hitting the Taiwan dollar, South Korean won, Brazilian real, Singaporean dollar, and Hong Kong dollar

Chronology of the Asian Financial Crisis:

Early May (1997)	Japan hints that it might raise interest rates to defend the yen. The threat never materializes, but it shifts the perceptions of global investors who begin to sell Southeast Asian currencies and sets off a tumble both in currencies and local stock markets.
July 2	After using $33 billion in foreign exchange, Thailand announces a managed float of the baht. The Philippines intervenes to defend its peso.
July 18	IMF approves an extension of credit to the Philippines of $1.1 billion.
July 24	Asian currencies fall dramatically. Malaysian Prime Minister Mahathir attacks "rogue speculators" and later points to financier George Soros.
Aug 13- Aug 14	The Indonesian rupiah comes under severe pressure. Indonesia abolishes its system of managing its exchange rate through the use of a band.
Aug. 20	IMF announces $17.2 billion support package for Thailand with $3.9 billion from the IMF
Aug. 28	Asian stock markets plunge. Manila is down 9.3%, Jakarta 4.5%.
Sep. 4	The peso, Malaysian ringgit, and rupiah continue to fall
Sep. 20	Mahathir tells delegates to the IMF/World Bank annual conference in Hong Kong that currency trading is immoral and should be stopped
Sep. 21	George Soros says, "Dr Mahathir is a menace to his own country."
Oct. 8	Rupiah hits a low; Indonesia says it will seek IMF assistance.
Oct. 14	Thailand announces a package to strengthen its financial sector
Oct. 20-23	The Hong Kong dollar comes under speculative attack; Hong Kong aggressively defends its currency. The Hong Kong stock market drops, while Wall Street and other stock markets also take severe hits
Oct. 28+	The value of the Korean won drops as investors sell Korean stocks
Nov. 5	The IMF announces a stabilization package of about $40 billion for Indonesia. The United States pledges a standby credit of $3 billion
Nov. 3-24	Japanese brokerage firm (Sanyo Securities), largest securities firm (Yamaichi Securities), and 10* largest bank (Hokkaido Takushoku) collapse
Nov. 21	South Korea announces that it will seek IMF support
Nov 25	At the APEC Summit, leaders of the 18 Asia Pacific economies endorse a framework to cope with financial crises
Dec 5	Malaysia imposes tough reforms to reduce its balance of payments deficit
Dec 3	Korea and IMF agree on $57 billion support package
Dec 18	Koreans elect opposition leader Kim, Dae-jung as new President.
Dec 25	IMF and others provide $10 billion in loans to South Korea
Jan 6	Indonesia unveils new budget that does not appear to meet IMF austerity conditions. Value of rupiah drops
Jan 8	IMF and S. Korea agree to a 90-day rollover of short-term debt
Jan 12	Peregrine Investments Holdings of Hong Kong collapses. Japan discloses that its banks carry about $580 billion in bad or questionable loans
Jan 15	IMF and Indonesia sign an agreement strengthening economic reforms
Jan 29	South Korea and 13 international banks agree to convert $24 billion in short-term debt, due in March 1998, into government-backed loans
Jan 31	South Korea orders 10 of 14 ailing merchant banks to close
Feb 2	The sense of crisis in Asia ebbs. Stock markets continue recovery

The Asian financial crisis was initiated by 2 rounds of currency depreciation:

Governments have countered the weakness in their currencies by selling foreign exchange reserves and raising interest rates, which, in turn, have slowed economic growth and have made interest-bearing securities more attractive than equities. The currency crises also has revealed severe problems in the banking and financial sectors of the troubled Asian economies.

This financial crisis is of interest to the U.S. government for several reasons:

• First, attempts to resolve the problems are led by the IMF with cooperation from the World Bank and Asian Development Bank and pledges of standby credit from the Exchange Stabilization Fund of the United States.
• Second, financial markets are interlinked. What happens in Asian financial markets also affects U.S. markets.
• Third, Americans are major investors in the region, both in the form of subsidiaries of U.S. companies and investments in financial instruments.
• Fourth, the currency turmoil affects U.S. imports and exports as well as capital flows and the value of the U.S. dollar; the U.S. deficit on trade is now rising as these countries import less and export more.
• Fifth, the crisis is causing economic turmoil that is exposing weaknesses in many financial institutions in Asia; some have gone bankrupt. The economic problems of the troubled Asian economies are adversely affecting the United States, Japan, and others.
• Sixth, the crisis may impede the progress of trade and investment liberalization under the World Trade Organization and the Asia Pacific Economic Cooperation (APEC) forum.

The major objectives of the large to promote stability, balanced expansion of trade, and growth, but because of the Asian financial crisis, it has deepened its activities in four directions:

• Strengthening IMF surveillance over member countries' policies,
• Helping to strengthen the operation of financial markets (technical assistance),
• Providing policy advice and financial assistance quickly when crises emerge, and
• Helping to ensure that no member country is marginalized (being left behind in the expansion of world trade and being unable to attract significant amounts of private investment). At the September 1997 annual meeting of the IMF in Hong Kong, the Board of Governors approved moving ahead to develop an amendment of the IMF Articles of Agreement to make the liberalization of international capital flows one of the purposes of the Fund. For the United States, this change would presumably require Congressional approval.

The Asian financial crisis also has raised several questions pertaining to IMF operations:

• The first is whether such crises have increased in scale and whether IMF resources are sufficient to cope with them.
• The second is whether the Fund's willingness to lend in a crisis contributes to moral.
• The third is whether the contagion of financial crises can be stopped effectively.
• The fourth is conditionality-whether the changes in economic policy and performance targets that the IMF requires of the recipient countries are appropriate and effective.
• The fifth is transparency-whether the IMF releases sufficient information to the public, including investors, on its program design and provisions imposed as a condition for borrowing allow for accurate assessment and accountability.
• The sixth is prevention-whether the IMF has sufficient leverage over non-borrowing member countries to prevent financial crises from occurring.

The causes and structural factors contributing to the financial crises include:

• Private-sector debt problems and poor loan quality
• Rising external liabilities for borrowing countries
• The close alignment between the local currency and the U. S. dollar
• Weakening economic performance and balance-of-payments difficulties
• Currency speculation
• Technological changes in financial markets.
• A lack of confidence in the ability of the governments in question to resolve their problems successfully.

Bank Borrowing and Lending
The financial difficulties in Asia stemmed primarily from the questionable borrowing and lending practices of banks and finance companies in the troubled Asian economies. Companies in Asia tend to rely more on bank borrowing to raise capital than on issuing bonds or stock. Governments also have preferred developing financial systems with banks as key players. This is the Japanese model for channeling savings and other funds into production rather than consumption. With bank lending, the government is able to exert much more control over who has access to loans when funds are scarce. As part of their industrial policy, governments have directed funds toward favored industries at low rates of interest while consumers have had to pay higher rates (or could not obtain loans) for purchasing products that the government has considered to be undesirable (such as foreign cars). A weakness of this system is that the business culture in Asia relies heavily on personal relationships. The businesses which are well-connected (both with banks and with the government bureaucracy) tend to have the best access to financing. This leads to excess lending to the companies that are well-connected and who may have bought influence with government officials.

Example

Korean banks and large businesses borrow in international markets at sovereign (national) rates and re-lend the funds to domestic businesses. The government bureaucrats often can direct the lending to favored and well-connected companies. The bureaucrats also write laws regulating businesses, receive approval from the parliament, write the implementing regulations, and then enforce those regulations. They have had great authority in the Korean economic system. The politicians receive legal (and sometimes illegal) contributions from businesses. They approve legislation and use their influence with the bureaucrats to direct scarce capital toward favored companies.

International borrowing involves two other types of risk:

• The first is in the maturity distribution of accounts. As for maturity distribution, many banks and businesses in the troubled Asian economies appear to have borrowed short-term for longer-term projects. Many economists blame such loans for the Asian crisis.
• The second is whether the debt is private or sovereign. Some of this debt is to finance trade and is self-extinguishing as the trade transactions are completed. Mostly, however, these short-term loans have fallen due before projects are operational or before they are generating enough profits to enable repayments to be made, particularly if they go into real estate development.
• As long as an economy is growing and not facing particular financial difficulties, rolling over these loans (obtaining new loans as existing ones mature) may not be particularly difficult. Competition among banks is intense. In the Asian case, as U. S. banks began to restrict lending in certain Asian countries in 1996 and 1997, European banks took up much of the slack. When a financial crisis hits, however, loans suddenly become more difficult to procure, and lenders may decline to refinance debts. Private-sector financing virtually evaporates for a time.
• A structural change in the nature of the borrowing by these Asian countries is that the type of borrowing has shifted away from the government and banks borrowing from international financial institutions (such as the World Bank) or receiving development assistance funds through foreign aid programs to borrowing by private corporations.
• A problem with private sector borrowing in developing market economies is that while individual borrowers may have viable projects, when all borrowing is aggregated and demands for foreign exchange and repayment are tallied, the country can face difficulties. It is a type of fallacy of composition. Even if each individual loan is financially viable, the total of all loans may not be so because the nation may be short of the foreign exchange necessary to meet the repayment schedules.