EAST ASIAN CRISIS Kartik Kataria Twitter.com/kartik_k

East Asian Countries South Korea Indonesia Philippines Thailand Hong Kong Singapore Malaysia Taiwan

South Korea

Indonesia

Philippines

Thailand

Hong Kong

Singapore

Malaysia

Taiwan

EAST ASIAN MIRACLE

Was there a miracle? Per capita incomes in East Asia vs. Rest of World Human Development Indicators Post World War II growth of 6%

Per capita incomes in East Asia vs. Rest of World

Human Development Indicators

Post World War II growth of 6%

Initial Conditions Human Capital, Infrastructure and natural resources East Asia vs. Sub Saharan Africa

Human Capital, Infrastructure and natural resources

East Asia vs. Sub Saharan Africa

The Dragons’ Model Drift from Anglo-Saxon Capitalism Golden Age of Capitalism Basic capitalist framework with major implementation differences

Drift from Anglo-Saxon Capitalism

Golden Age of Capitalism

Basic capitalist framework with major implementation differences

Philosophy Export driven model Focus on highly industrialized nations Discouraging consumption Education as a means of improving productivity

Export driven model

Focus on highly industrialized nations

Discouraging consumption

Education as a means of improving productivity

Favoring Factors Cheap labor Educational reforms Policies of agriculture subsidies and tariffs

Cheap labor

Educational reforms

Policies of agriculture subsidies and tariffs

Growth of Output per Person

Driving Forces Labor Capital Technology Policy & Institutions

Labor

Capital

Technology

Policy & Institutions

Policy and Institutions Low Govt. Consumption as compared to Sub-Saharan Africa and South Asian countries Openness to World Economy Low average inflation rate

Low Govt. Consumption as compared to Sub-Saharan Africa and South Asian countries

Openness to World Economy

Low average inflation rate

Investment Policy Stability Capital Inflow and Outflow control Luxury consumption control Strategic Investment

Stability

Capital Inflow and Outflow control

Luxury consumption control

Strategic Investment

Trade Policy Infant industry plus export promotion Automobile and infrastructure industries Infant industries exported more while being protected in order to be able to reinvest earnings into newer technology

Infant industry plus export promotion

Automobile and infrastructure industries

Infant industries exported more while being protected in order to be able to reinvest earnings into newer technology

Industrial Policy Selective policies Infant industries- discipline, scale, economy and exports Competition – Oligopoly or Monopoly

Selective policies

Infant industries- discipline, scale, economy and exports

Competition – Oligopoly or Monopoly

Common Characteristics Focus on exports Trade surplus with industrialized countries Sustained rate of double digit growth Undervalued currencies High savings rate

Focus on exports

Trade surplus with industrialized countries

Sustained rate of double digit growth

Undervalued currencies

High savings rate

Science & Education Indicators

Was there a crisis? Over $100 billion was pulled out of the region in both 1997 and 1998, about 5 percent of the region’s GDP each year Unemployment nos. rose in Indonesia by 800,000, in Thailand by 1.5 million and in Korea by around 1.35 million Real wages dropped 12.5% in Korea and by 6% in Thailand

Over $100 billion was pulled out of the region in both 1997 and 1998, about 5 percent of the region’s GDP each year

Unemployment nos. rose in Indonesia by 800,000, in Thailand by 1.5 million and in Korea by around 1.35 million

Real wages dropped 12.5% in Korea and by 6% in Thailand

Why did the cookie crumble? Faulty macro-economic policies Demise of industrial policy: Govt. used to intervene and control inflow End to policy of govt. co-ordinated investment allowed duplicative investments in key industries leading to excessive foreign borrowing between 1993 and 1997 These countries did not need the money coming in! Excessive risk in govt. favoured industries Crony capitalism Deposit insurance : Too big to fail myth

Faulty macro-economic policies

Demise of industrial policy: Govt. used to intervene and control inflow

End to policy of govt. co-ordinated investment allowed duplicative investments in key industries leading to excessive foreign borrowing between 1993 and 1997

These countries did not need the money coming in!

Excessive risk in govt. favoured industries

Crony capitalism

Deposit insurance :

Too big to fail myth

Why did the Cookie crumble? Poor lending and borrowing policies Oversupply of international finance Cheap credit Speculative ventures without effective demand fuelled by inadequacies of domestic financial markets and corruption in allocation of finance Key problems confronting East Asian economies: Stagnation of industries-formerly engines of growth Declining exports Reduced rate of growth Increasing current account and public finance sector deficits Financial instability

Poor lending and borrowing policies

Oversupply of international finance

Cheap credit

Speculative ventures without effective demand fuelled by inadequacies of domestic financial markets and corruption in allocation of finance

Key problems confronting East Asian economies:

Stagnation of industries-formerly engines of growth

Declining exports

Reduced rate of growth

Increasing current account and public finance sector deficits

Financial instability

Categorization of Crisis Macroeconomic Policy Induced – Balance of Payment crisis Financial Panic – Sudden withdraw from Solvent Borrower by short term creditors Bubble Collapse – Overvaluation of financial asset Disorderly Workout – Impediments to efficient provision of Working Capital

Macroeconomic Policy Induced – Balance of Payment crisis

Financial Panic – Sudden withdraw from Solvent Borrower by short term creditors

Bubble Collapse – Overvaluation of financial asset

Disorderly Workout – Impediments to efficient provision of Working Capital

Why didn’t the Alarm bells ring initially The countries maintained good budgetary positions

The countries maintained good budgetary positions

Healthy Forex Reserves - Thailand reached $38.6 billions in 1996 = 7 months of exports Interest rates were unusually low in Rest of the World Goldman Sachs prediction on export growth Why didn’t the Alarm bells ring initially

Healthy Forex Reserves - Thailand reached $38.6 billions in 1996 = 7 months of exports

Interest rates were unusually low in Rest of the World

Goldman Sachs prediction on export growth

How did it Begin and Spread Jan 97- Hanbo Steel collapsed under $6 billion debts Sammi steel and Kia Motors have a similar fate Put Merchant Banks under Great Financial stress Thai Govt removes support from Finance One Accelerates withdrawal of foreign funds Prompts Thai baht depreciation on July 2 ,1997

Jan 97- Hanbo Steel collapsed under $6 billion debts

Sammi steel and Kia Motors have a similar fate

Put Merchant Banks under Great Financial stress

Thai Govt removes support from Finance One

Accelerates withdrawal of foreign funds

Prompts Thai baht depreciation on July 2 ,1997

Corporate Failure at Korea Bank Failure at Thailand Political Uncertainty at Korea ,Thailand, Philippines Policy Mismanagement at Thailand & Korea – To defend their pegged exchange rates exhaust their Forex reserves Contagion Effect hit Malaysia , Philippines , Indonesia International intervention – IMF & Moody The Chain of events

Corporate Failure at Korea

Bank Failure at Thailand

Political Uncertainty at Korea ,Thailand, Philippines

Policy Mismanagement at Thailand & Korea – To defend their pegged exchange rates exhaust their Forex reserves

Contagion Effect hit Malaysia , Philippines , Indonesia

International intervention – IMF & Moody

Events from Microeconomic point of view Exchange Rates depreciates Foreign lenders concerned with the repayment of loans, withdraw funds Domestic interest rates soar up Lack of bankruptcy laws and rising Non Performing Loans added to the stress of the banks Banks become illiquid and decapitalized The Fall of Korean Stock Exchange

Exchange Rates depreciates

Foreign lenders concerned with the repayment of loans, withdraw funds

Domestic interest rates soar up

Lack of bankruptcy laws and rising Non Performing Loans added to the stress of the banks

Banks become illiquid and decapitalized

The Fall of Korean Stock Exchange

IMF Intervenes with the Goal of.. Prevent outright default on foreign obligation Limit the currency depreciation Limit inflation Rebuild foreign exchange reserves Reform the Banking Sector

Prevent outright default on foreign obligation

Limit the currency depreciation

Limit inflation

Rebuild foreign exchange reserves

Reform the Banking Sector

Ends up with.. Bank Closure 58 out of 91 Banks of Thailand 14 out of 30 Merchant Banks of Korea 16 Commercial Banks of Indonesia Remaining Banks given an unreasonable time frame to Recapitalize Monetary Policy – led to harsh economic conditions Central Banks are instructed not to provide domestic credits Insistence of further rise in already high interest rates

Bank Closure

58 out of 91 Banks of Thailand

14 out of 30 Merchant Banks of Korea

16 Commercial Banks of Indonesia

Remaining Banks given an unreasonable time frame to Recapitalize

Monetary Policy – led to harsh economic conditions

Central Banks are instructed not to provide domestic credits

Insistence of further rise in already high interest rates

The Indian Story

Why India won’t go the East Asian Crisis way Full capital convertibility is not allowed Lock in period for Foreign Investment in real estate Floating exchange rate with some influence by the RBI during periods of crisis Strong fundamental growth with services sector being the prime reason External Debt to GDP has been declining for the past few years

Full capital convertibility is not allowed

Lock in period for Foreign Investment in real estate

Floating exchange rate with some influence by the RBI during periods of crisis

Strong fundamental growth with services sector being the prime reason

External Debt to GDP has been declining for the past few years

Capital Account Convertibility in India Introduced current account convertibility in 1994 Just months before the crisis, India were planning to go for full capital account convertibility It was based on the proposition that it would help improve global allocation of financial resources In the aftermath of the Asian and other developing country crises, however, there has been some rethink and recognition that financial deregulation can’t run ahead of prudence (Stiglitz, 2002)

Introduced current account convertibility in 1994

Just months before the crisis, India were planning to go for full capital account convertibility

It was based on the proposition that it would help improve global allocation of financial resources

In the aftermath of the Asian and other developing country crises, however, there has been some rethink and recognition that financial deregulation can’t run ahead of prudence (Stiglitz, 2002)

Capital Account Convertibility Instead of complete lifting of controls, the way forward was to adopt differential treatment based on levels of development and the adoption of a more orderly and sequenced approach to liberalization in accordance with the levels of developments in financial markets and supervisory system of member countries India introduced full capital account convertibility first for NRIs in early 2002 but there are still doubts being raised over it

Instead of complete lifting of controls, the way forward was to adopt differential treatment based on levels of development and the adoption of a more orderly and sequenced approach to liberalization in accordance with the levels of developments in financial markets and supervisory system of member countries

India introduced full capital account convertibility first for NRIs in early 2002 but there are still doubts being raised over it

India’s External Debt to GDP has been declining

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