East Asian Financial Crisis

SOUTHEAST ASIAN COUNTRIES

Studying the East Asian Financial Crisis of 1997 is important to analyze the countries involved in it.

During the 80's and 90's investors around the world chose to invest in these countries due to their low inflation, open economies, fast growth, macroeconomic stability, high saving rates and strong fiscal position. Before crisis started the real growth rates for some of these countries, that at the same time were the most affected once, were:

Thailand: 5.5%, Indonesian: 8.2%, South Korea: 7.1%.

This economic development was due in part to high export levels, and those countries' currencies, were pegged to the American dollar, which generated stability in prices and promoted a confident thinking within investors because they were not worried about the fluctuations that negatively affect their investments.

Another fact that made these countries attractive to investment was the Market Friendly Policies, as well as the impressive performance the region's stock markets. As investors, American and European banks were also attracted to the region and engaged in lending money to Asian's banks and companies. The foreign investment was also directed to real assets, construction projects and the high interest rates.

But these countries were victims of their own success.

The problem began when the United States started to recover from its crisis of the 90's, therefore, the American dollar appreciated against the Chinese Yuan, so the Asian exports were affected due to the fixed exchange rates, doing the manufacture goods more expensive in these countries than in China, decreasing the GDP in the counties.

Also the United States became more attractive to the foreign investors, mainly to speculation on assets caused by big amounts of credit what generated leverage and over valuated the assets causing defaults in debt payments. Which at the same time, created panic within lenders what made them to retire off their money from the countries in crisis, what created credit crunch and bankruptcy.

After investors left, the market was flooded with currencies from countries in crisis, depreciating exchange rates. The governments increased the interest rates to avoid out flow of capitals and started to buy the excess in the national currency at the fixed exchange rate. All of these purchases were with their international reserves. After trying to stop the crisis with these policies, the governments took in to account that was almost impossible to prevent a collapse, so they accepted a fluctuation in their exchange rates, but it caused more bankruptcies and enlarged the crisis.

Another cause was the wrong management in the financial sector, it means lack of transparency, corporate governance and inefficient assignation in foreign founds. Also the market loss has a lot of influence in the crisis and contributed to enlarger the problem and bankruptcies.

The underlying causes of the Asian crisis have been clearly identified. First, substantial foreign funds became available at relatively low interest rates, as investors in search of new opportunities shifted massive amounts of capital into Asia. As in all boom cycles, stock and real estate prices in Asia shot up initially, so the region attracted even more funds. However, domestic allocation of these borrowed foreign resources was inefficient because of weak banking systems, poor corporate governance, and a lack of transparency in the financial sector. These countries' limited absorptive capacity also contributed to the inefficient allocation of foreign funds. Second, the countries' exchange rate regimes—exchange rates were effectively fixed—gave borrowers a false sense of security, encouraging them to take on dollar-denominated debt. Third, in the countries affected by the crisis, exports were weak in the mid-1990s for a number of reasons, including the appreciation of the U.S. dollar against the yen, China's devaluation of the yuan in 1994, and the loss of some markets following the establishment of the North American Free Trade Agreement (NAFTA).

http://www.imf.org/external/pubs/ft/fandd/1999/06/aghevli.htm

http://en.wikipedia.org/wiki/1997_Asian_Financial_Crisis

http://www.imf.org/external/pubs/ft/fandd/spa/1999/06/pdf/aghevli.pdf

[1] http://upload.wikimedia.org/wikipedia/commons/6/69/Asian_Financial_Crisis.png

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