1997 Asian Financial Crisis

Topics: Economics, Currency, Monetary policy Pages: 14 (4297 words) Published: August 4, 2010
Asian Financial Crisis

Angelica M. Montefalcon

I. Introduction

For about twenty years, East-Asian countries were held up as economic idols. They were hailed as the ideal models for strong economic growth of developing countries because of their high savings and investment rates, autocratic political systems, export-oriented business, restricted domestic markets, government capital allocation, and controlled financial systems.

They were even stories about “The East Asian Miracle" because of the extraordinary growth rates they achieved and the speed with which they have transformed themselves from poor countries into industrial powerhouses. Western leaders were impressed by their ability to continue to achieve growth rates several times higher than the advanced nations, and their increasing ability to challenge or even surpass American and European technology.

But, western leaders were eventually threatened by the growth of Asia. The gap between the Western and Eastern economic performance eventually became a political issue. The new president of the United States, John F. Kennedy was alarmed that the rapid growing Eastern economies were like those of the Soviet Union and its satellite nations.

Those two decades of uninterrupted progress were put to stop when the economies of East and Southeast Asia experienced a crisis. This crisis was called the 1997 Asian Financial Crisis and was the fourth international financial crisis in the world. The 1997 Asian financial crisis explains the reasons behind the collapse of the East-Asian regional economies.

II. Crisis

The 1997 Asian Financial Crisis started in Thailand on July 2, 1997, when the Thai Baht collapsed because of the Thai government’s decision to float it, cutting its peg to the US dollars. After that, they called the International Monetary Fund (IMF) for technical assistance. The sharp depreciation of the baht against the US dollar began that same day.

Earlier the crisis, May 1997, the Thai Baht was already hit by massive speculative attacks from the westerners. The Bank of Thailand with the intervention of Singapore was able to defend their currency for a while by spending billions of dollars of their foreign reserves but sooner or later still failed.

This immediately triggered a panic among investors and other regional currencies. This caused a chain reaction in other countries particularly those that were interlinked through trade and foreign investments. The first devaluation of the Thai Baht was soon followed by that of the Philippine Peso, the Malaysian Ringgit, the Indonesian Rupiah and, to a lesser extent, the Singaporean Dollar. The devaluation in the currencies in Asia caused debt to be even more difficult to repay and countries started to default.

An alternative reason behind the crisis is the weaknesses in Asian financial systems. These weaknesses were caused largely by the lack of reasons for effective risk management created by implicit or explicit government guarantees against failure (Moreno, Pasadilla, and Remolona 1998).

Moral hazard is a disposition on the part of individuals or organizations to engage in riskier behavior, than they otherwise would, because of a tacit assumption that someone else will bear part or all of the costs and consequences if the incurred risk turns out badly. Moral hazard was implicit throughout the region for domestic and foreign investors. They thought that the Thai government will always be able to save them from their mistakes. They over calculated the strength of their government and their economy and became so secluded to their own success without even thinking about the future effects of their actions.

Crony capitalism is another source of the crisis experienced in Asia. Economic transactions between financial institutions and clients in Asian countries were based on so-called “special relationships”. These special relationships were “directed” and...
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