1997 Asian Financial Crisis (Part 2)

      The Asian financial conflict of 1997 caught all and sundry unaware and had severe and pervasive impacts on the international economy. The turmoil spread unexpectedly to Europe, but the international community still viewed the crisis as a distance fire that required local resolution measures. It was the South Korean crisis on the November of 1997 that prompted the international community to take an international cooperation strategy to end the crisis. Even with the noteworthy socio-economic disorders in Indonesia, the international community was not fully convinced that the crisis required international assistance.[1] The European Commission argued that there was no need for global intervention by the EU since the crisis would only have a minimal impact on the growth of the European economies. However, as the crisis unfolded, there increased ways in which the crisis was affecting Europe and the European business dealings with the East Asian region, prompting international action. In fact, it was four of the G-7 members that offered help to South Korea to raise it from the economic crisis ahead of the US and Japan. This signaled the start of the international cooperation led by the IMF, which aimed at ridding the Asian Pacific region of the crisis.[2]

      Thailand, Indonesia and later South Korea turned to IMF and other financial institutions for financial assistance to cushion them from the crisis. In response, the IMF assigned primary responsibility to the East Asian capitalism and especially the financial markets. Among the steps taken by the IMF was overhauling the financial systems of the hardest hit economies, South Korea, Indonesia, and Thailand. The diagnostic measures were pegged on the idea that the East Asian economies had exposed themselves to this financial chaos. Among them included the weak corporate governance, corruption, and insider dealings, which led to inefficiencies investments that destabilized the banking systems of respective countries. The IMF adopted strategies that aimed at restoring the confidence of the banking system, all tailored to tackle the particular challenges of each country.[3]

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Protests against the plunge in the value of the rupiah in Indonesia (Source: http://www.bbc.com)

      The IMF supported various financial programs, which were meant to counter the crisis directly, among them financing the various countries that had been devastated by the crisis. The IMF remitted an impressive thirty-six billion dollars for Indonesia, fifty-eight billion dollars for South Korea and seventeen billion dollars for Thailand. By the end of the crisis, the IMF had utilized more than a hundred and twenty US Dollars in a bid to indemnify the worst countries back to their financial position prior to the crisis.[4] In addition to these financial programs, the IMF took concerted actions at different stages of the after the start of the financial programs to curb the capital outflows. However, these financial aids could not match the extensive private capital flows of respective countries and the money was not readily available to counter the market pressures. These financial programs were issued in cooperation with the US, the EU, and the East Asian countries, as a first resort to the worst hit economies. These funds were pegged on the idea that following appropriate policies, the fund would help the borrowing country to turn back to financial independence though at a reduced pace. This would in turn attract the private investors to reassess risks involved in investing in these countries, and invest upon realizing that investing was less risky and more profitable. Thus, the financial programs were designed to eliminate the primary cause of the crisis that had made the investors reverse their investments and invest in other presumably more profitable economies.[5]

      The IMF prompted the affected countries to adopt stringent monetary policies that would resist the massive depreciation of respective currencies. The damaging consequences of the monetary policies were not directed to the domestic inflation but also to the balance sheets of the domestic non-financial enterprises and financial corporations with huge exposure to the foreign currency. The monetary policies were meant to resolve the fundamental policy weakness, thereby restoring confidence in the financial market. These strategies proved apt in lowering the rates of interests leading to increased investments, since the crisis the centre of the crisis was the shrinkage of investment and consumption. Each country affected by the crisis was supposed to evaluate the extent at which its financial sector was subjected to excess capacities before the crisis. The practice was to be carried in collaboration with the IMF and make appropriate changes that would restore the economy to similar conditions prior to the crisis.[6] Following the reevaluation, Indonesia and Korea were compelled to firmly hold their fiscal policies, whereas, Thai tightened its fiscal policy to reverse the increased deficits in the year preceding the crisis. Further, these countries were compelled make necessary changes to their monetary policies to prevent the future collapse of their economies, thereby preventing a future financial crisis. The IMF encouraged countries to increase the interest rates to discourage the speculation of currencies, which had led to arbitrage profits that heralded the crisis. Further, the exchange rate would curb the increasing depreciation of the currency, stabilize the exchange rate and ultimately contain the huge inflation that gripped East Asian Economies.[7]

      Countries whose financial crisis arose from public sector deficit were forced to design policies that would streamline only the public sector. Among the proposed strategies included retrenching the public sector expenditure through such means as abandoning some mega projects. Additionally, these economies were compelled to consolidate their fiscal policies and increase their interest rates. These countries were compelled to take appropriate structural measures, among them weeding out the weakest banks as well as restructuring the salvageable banks to make them more resilient to withstand future financial crises. The affected countries were compelled to revamp their corporate structure and improve the prudential controls of all sectors in addition to removing the residue price control.[8]

      South Korea, Indonesia, and Thailand were compelled to undertake various structural reforms to alleviate the social consequences heralded by the crisis. Other structural reforms were intended to address the significant weaknesses in the corporate and financial sectors that had led to the 1997 Financial Crisis.[9] These macroeconomic projections were predicated on the perception that confidence in the program would be restored trough presenting a convincing policy framework with adequate financial packages, assuming that the growth would be slow but remain positive. As such, the IMF did not foresee the likelihood of a recession owing to the implemented policies. As a result, Thailand GDP dropped by six percent in 1998, South Korea by seven percent and Indonesia by fourteen percent.[10]

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Korean people protesting the IMF intervention in 1997 (Source: The Wall Street Journal)

      Despite the implementation of the established control measures, the crisis progressed unabated in both South Korea and Thailand, with the financial and corporate sectors cascading into insolvency challenges with every fall of their currencies. This prompted these two economies to negotiate with the private creditors among them the commercial banks to offer short-term credit extending for a period of three months, ending on the March of 1998. The credit was further converted into a medium-term bond and proved apt in taming the crisis. In Indonesia, the currency was tamed differently, owing to the backing of the economy on local currency as well as on the US and EU currency. The Suharto regime floated all the currencies consequently solving the financial crisis.[11]

      The countries worst hit by the crisis such as South Korea and Thailand appreciated the bailout packages but resented the apparent influence of the USD on their economies. The on its part, China denounced these US intervention measures arguing that the US was using the crisis to advance its economic and political ideologies in the East Asian region. Other than accepting the IMF-led recommendations, China eased the export credits by encouraging the commercial banks to make loans to the export-oriented companies to increase the levels of export. The increased levels of exports helped in normalizing trade deficits. Additionally, the country made reforms in the financial sector, leading to the development of the bond market. Other strategies included the corporate hedging strategies such as the forward swaps and other derivative instruments.[12]

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      In conclusion, the Asian financial conflict was the financial crisis that gripped Asian economies from 1997, affecting countries such as South Korea, Thailand, Malaysia, and Philippines among others. The crisis was signaled by the collapse of the Thailand baht, owing to the increased current accounts deficits and the increased burden of the foreign debt, as financial institutions and individuals borrowed more foreign revenues than the foreign reserve would support. Most of these loans were short-term, hence would easily transfer to lucrative economies at the slightest hint of economic slumping. In Southeast Asia and Japan, the crisis was heralded by the increased number of commercial and merchant banks, which competed in borrowing foreign currencies, leading to a steep rise in the private debt. Additionally there was the slumping of the currencies of respective currencies and the devaluation of the stock market. The crisis had increased devastating impacts not only on the Asian economies but also in the EU and the US, compelling international cooperation in resolving the predicament. The resolution strategies were led by the IMF in collaboration with the US and the EU and aimed at combating the causative agents that had led to the crisis. As such, the resolution strategies were custom made according to the needs of each country. The IMF-led resolution measures started in the form o financial aid to countries such as Thailand, South Korea, and later Indonesia. Among the requirements for the financial assistance included overhauling the financial systems of the worst hit economies and taking appropriate measures to increase the resiliency of the salvageable banks. Additionally, the worst hit economies were compelled to take appropriate monetary and fiscal policies to avoid the re-occurrence of the financial crisis, among them increasing the rates of interests. The increased interest rates would reduce financial speculation that had contributed to arbitrage profits over the currency leading to the crisis. The increased interest rates would be apt in curbing the increased depreciation of currencies in the region, stabilize the rate of exchange and contain the increased rate of inflation. Some countries such as Korea and Thailand combined the IMF-led policies with internal policies such as compelling the commercial banks to extend short-term loans in form medium term bond to attract foreign investors. China compelled the commercial banks to extend credits the export-oriented industries thereby stabilizing trade deficits. A combination of these strategies proved apt in the ending the Asian crisis in the last quarter of 1997.

[1] Haggard, Stephan. The Political Economy of the Asian Financial Crisis. Washington, DC: Inst. for Internat. Economics, 2000. p.56.

[2] Bridges, Brian. “Europe and the Asian Financial Crisis, Coping with Contagion”. Asian Survey. Vol. 39(3). May-June, 1999. pp. 456-467. p.458.

[3] Khatkhate, Deena. “East Asian Financial crisis and the IMF: Chasing Shadows”. Economic and political Weekly. Vol. 33(17). April 25-May 1, 1998. pp. 963-969. p.966.

[4] Haggard, Stephan. The Political Economy of the Asian Financial Crisis. p.77.

[5] Khatkhate, Deena. “East Asian Financial crisis and the IMF”. p.966.

[6] Ibid.

[7] Mera, Kōichi,and Bertrand Renaud. Asia’s Financial Crisis and the Role of Real Estate. Armonk, NY, Sharpe, 2000.and Bertrand Renaud. Asia’s Financial Crisis and the Role of Real Estate. p.59.

[8] Muchhala, Bhumika. “Ten Years After: Revisiting the Asian Financial Crisis”. Web<http://www.cepr.net/documents/publications/tenyearsafter_2007_11.pdf>. p.16. May 29, 2015.

[9] Mera & Bertrand. Asia’s Financial Crisis and the Role of Real Estate. p.66.

[10] Miller, Marcus, David Vines, Axel Weber, and Pierre-Richard Agénor. The Asian Financial Crisis: Causes, Contagion and Consequences. Cambridge, UK: Cambridge University Press, 2006. p. 77.

[11] Muchhala, Bhumika. “Ten Years After: Revisiting the Asian Financial Crisis”. p.29.

[12] Mera & Bertrand. Asia’s Financial Crisis and the Role of Real Estate. p.66.

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