Global financial crises
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This document compares the economies of East Asia and India during the 1997 Asian Financial Crisis. It summarizes that East Asia experienced a severe crisis due to high levels of financial liberalization and pegged exchange rates, which led to currency depreciation and banking sector troubles. India was relatively unaffected as it had moderate liberalization, floating exchange rates, and less dependence on short-term capital flows. The document concludes India's policies were better suited to avoid the crisis impacts seen in East Asia.
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Global financial crises
- 1. A Comparative Study of East Asia and India Presented by- Ayisha Kowsar A MBA
- 2. Disaster Strikes East Asia Decades of impressive growth The intensity and the duration of the crisis were inconceivable The effects of the crisis spread through the Global economy THE INDIAN ECONOMY ESCAPED THE CRISIS VIRTUALLY UNHARMED Crisis Financial Markets Currency markets
- 3. Agenda INTRODUCTION TO THE CRISIS Macroeconomic fundamentals Theories FINANCIAL AND TRADE LIBERALIZATION Banking Sector Capital flows Debt / equity markets Real Trade Linkages EXCHANGE RATE REGIMES Foreign reserves Banking sector Financial sector Trade CONCLUDING REMARKS
- 4. โ Bankruptcy rates skyrocket โ Stock markets crash โ Growth rates tumble โ Currency speculation forces Thai Baht depreciation Introduction to the Crisis THIS IS A TRIGGER FOR THE CRISIS 1997: East Asia falls into crisis
- 5. - Following this, Malaysia, Indonesia and Philippines allow depreciation -China, Hong Kong, Korea, Singapore and Taiwan Introduction to the Crises TIGERS PAPER TIGERS CREDIT CRUNCH
- 6. East Asia India GDP Growth Exceptional Moderate Inflation Low Low Saving Rate High High Current Account Deficit Over 5 % of GDP Under 5 % of GDP Exchange Regime Pegged Floating Trade Very Important Less Important Macroeconomic Fundamentals
- 7. โข Dramatic increase in credit โข Socially Risky behavior encouraged โข Moral hazard by monetary authorities Bad Policy Theory Intense Liberalization + Inappropriate Policies = Crisis
- 8. Financial Panic Theory Downturn in Real Economic Variables (GDP) Systemic Risk Expectations of Instability Coordination Failure Inherent Instability of Financial Markets + Loss of Investor Confidence = Crisis
- 9. Moral Hazard Two Types: โA situation which creates incentives to engage in risky behavior. Decreased personal liability acts as an incentiveโ Corporate Level International Level
- 10. Contagion โThe transmission of shocks to other countries or the cross-country correlation, beyond any fundamental link among the countries and beyond common shocks.โ This definition is usually referred to as excess co- movement, commonly explained by herd behavior.
- 11. Liberalization Policy โข Banking sector โข Privatization โข Capital Flows โข Debt/Equity Markets โข Capital Account Convertibility (CAC) โข Introduction of financial institutions
- 12. Liberalization Policy Liberalization Policy An influx of capital More efficient and competitive markets butโฆ Proper regulation is needed
- 13. Banking Sector East Asia High level of privatization Regulation was not enforced & Little diversity in investment India Low levels of privatization Increased supervision & Diversity in investments Morally hazardous behavior Less moral hazard Implicit Guarantee
- 14. Capital Flows East Asia Full Capital Account Convertibility India Partial Capital Account Convertibility Turnaround of short term capital flows Less dependence on short term capital Increasing portfolio investment No change in portfolio investment
- 15. Debt/ Equity Markets Financial assets as collateral for loans Corporate bankruptcy in East Asia Ineffective rating and regulation agencies Overvalued stock markets
- 16. Real Trade Linkages Trade makes up large % of GDP Trade makes up small % of GDP East Asia India Investors group Asian economies India was not connected with East Asia Competitive exports to similar countries. Similar trading partners Different exports than East Asia Small amount of trade with East Asia
- 17. Exchange Rate Regimes Pegged Exchange Rate Regimes Advantages โข Associated with stability and low inflation โข Forces authorities to adhere to disciplined monetary and fiscal policies Disadvantages โข Misalignments may occur when foreign and domestic countries face different economic conditions โข Maintaining pegs in the face of increased speculation can be costly MOST EAST ASIAN COUNTRIES ADOPTED PEGGED RATES
- 18. Exchange Rate Regimes Floating Exchange Rate Regimes Advantages โข Currency moves with the relative performance of the economy โข Serves as an adjustment mechanism, insulating a currency from speculative attacks. Disadvantages โข Fluctuations may reflect non-fundamental noise INDIAADOPTED A FLOATING EXCHANGE RATE IN 1994
- 19. Foreign Reserves East Asia India 1990-96: foreign reserves grew Short term debt rising Capital Outflows in โ97 ๏ reserves decrease Pegs unsustainable ๏ depreciation Indiaโs reserves also grew India discouraged short term debt Capital Inflows in โ97 ๏ reserves increase Floating rate ๏ No dramatic depreciation
- 20. Banking Sector East Asia India Depreciation ๏ foreign denominated debts unsustainable 1997: High levels of non-performing assets Decreased credit by banks No depreciation ๏ Foreign debts sustainable 1997: Lower levels of non-performing assets No decrease in credit by banks
- 21. Financial Sector East Asia India Switch to floating exchange rate ๏ rapid depreciation, ๏ uncertainty Further capital outflow ensued Indiaโs exchange rate provided a greater predictability 1997 experienced an increase in capital inflows of 24%
- 22. Trade East Asia India Crisis depreciations did not ๏ competitiveness: 1. High levels of intra- regional trade 2. Increased cost of raw material imports Trade played less influential role in Indian economy No dramatic swing in rates to alter competitiveness Trade played an influential role in East Asian economies
- 23. Conclusion The financial crisis reflects three important considerations โข Liberalization โข Exchange rate regimes โข Combination of the above two
- 24. Liberalization โข Partial capital account convertibility โข Less dependence on short term flows โข Diversified allocation of capital Conclusion
- 25. Conclusion Exchange Rate Regimes East Asia Pegged currency increased risk of speculative attack India Float allowed currency to reflect economic fundamentals
- 26. Combined Effect FULL CAPITAL ACCOUNT CONVERTIBILITY + PEGGED EXCHANGE RATE = SPECULATIVE ATTACK Conclusion
- 27. Conclusion The East Asian and the Indian economies are fundamentally different and are at different stages of growth and liberalization. Summing up:
- 28. Recommendations Considerations relevant for economic and financial policy: โข Controls on capital account convertibility or a commitment to flexible exchange rates โข Less dependence on short term capital inflows โข Enforce regulation policies in financial and banking sectors โข Increased transparency in all transactions
- 29. Trade as a % of GDP (1997) 0 50 100 150 200 India IndonesiaKorea,R ep. M alaysia Thailand
- 30. East Asia Trading Partners (1997) 0% 10% 20% 30% 40% 50% United States East Asia (Including Japan) India
- 31. Portfolio Investment as a % of GNP -0.50% 0.00% 0.50% 1.00% 1.50% 2.00% 2.50% 3.00% 3.50% 4.00% 4.50% 1990 1991 1992 1993 1994 1995 1996 India EA Average
- 32. 1994 1995 1996 1997 1998 Korea 7.00% 5.00% -3.00% -62.00% 13.00% Malaysia 90.00% 44.00% 67.00% 37.00% -49.00% Thailand 53.00% -38.00% -27.00% 19.00% -21.00% % Change inCredit from Deposit MoneyBanks Credit Contraction
- 34. R2 = 0.998 0 5000 10000 15000 20000 25000 30000 1990 1991 1992 1993 1994 1995 1996 1997 Year $mill.SDRS Korea Malaysia Thailand AVG Indonesia Poly. (AVG) International Reserves ($mill. SDRS)
- 35. Indiaโs International Reserves (USD$billions)
- 36. % of Non-Performing Bank Assets in 1997
- 37. 1994 1995 1996 1997 India 42.11% -30.97% 35.47% 24.40% Indonesia 631.57% 48.78% 40.29% -32.81% Korea, Rep. 102.25% -37.02% 89.00% -37.94% Malaysia -24.89% 19.44% 26.75% -27.28% Thailand -41.21% 126.29% 35.23% -74.61% Philippines 18.39% 11.41% 15.76% -16.53% % Change in Private Capital Flows Capital Outflows
- 38. Foreign Res. ST Debt Foreign Res. ST Debt Foreign Res. ST Debt Indonesia 14.7 27.6 19.3 34.2 20.3 34.7 Korea 32.7 54.3 34.1 67.5 34.1 70.2 Thailand 37.0 43.6 38.7 45.7 34.1 67.5 Average 28.1 41.8 30.7 49.1 29.5 57.5 1 to 1.49 Ratio 1 to 1.60 Ratio 1 to 1.75 Ratio End 1995 End 1996 Mid 1997 Foreign Reserves & Short Term Debt Values in billions of US$
- 39. 1990 1991 1992 1993 1994 1995 1996 1997 Inflation 8.97 13.87 11.79 6.36 10.21 10.22 8.98 7.36 Gross National Savings 21.99 22.20 22.43 20.70 28.90 25.37 23.92 22.57 Overall Budget Surplus 8.12 5.81 5.65 7.47 5.89 5.35 5.19 4.86 Selected Macroeconomic Variables (India)