East Asian Crisis of 1997

• Prior to mid-1997, the economies of Thailand, Indonesia,Malaysia, the Philippines, Hong Kong, Singapore and South Korea were experiencing rapid growth and foreign investment.

• These economies were attractive to foreign investors dueto their high interest rate returns.

• Credit readily available which led to increasing asset prices

• As a result the economies were experiencing growth in output, but growth and demand were exceeding production - the result - the economies were overheating as well as the expectations offoreign investors

Background

• Rapid GPD growth attracted foreign investors

• Government spending increased; gov’t had to increase borrowing

• Government was funding growth with increased foreign investment short-term debt to make to make it appear it appear more attractive

• Output was not keeping up with demand

Causes

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Causes (cont’d)

• Exchange rates were “pegged” to the U.S. Dollar

• As the value of the U.S. Dollar increased so to did thevalue of the exports, thus decreasing demand for theirexports

•East Asian governments were artificially propping uptheir exchange rates by spending their foreign currencyreserves to purchase excess domestic currency

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Causes (cont’d)

• Since the governments were unable to continue propping up the currency, they decided to allow thecurrency to “float” on the market

• This caused the currencies to devaluate as investorswere selling the home currency for U.S. dollars

• Bank deregulation in the region in the early 1990’s lead to governments and institutions

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Results

• Massive account deficits

• Permanent currency devaluations

• Collapse of economic sectors • Large numbers of bankruptcies leading to increased unemployment (small businesses had difficulty obtaining financing to continue operations)

• Social unrest (political instability, protests, etc.)

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Results (cont’d)

• International Monetary Fund (IMF) stepped in with bailouts and new regulations

• IMF viewed as not handling this crisis well, mishandling of situation caused decreased investment in developing nations globally

• IMF lost much influence in emerging economies

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Lessons Learned

• The make-up of debt in East Asian countries was primarily short term debt as opposed long term debt

• The foreign capital flow (FDI) in these countries was in predominately portfolio management rather than projects

•There was a strong mismatch between the savings and investments

•The % of foreign reserves as compared to total debt was low