20 years after the Asian Financial Crisis

An old friend and mentor was telling me about how impressed he is of the financial analysts in the Philippines of today. They know the analytical tools, they have the information and they have the passion to analyze companies, industries and economies. They also had the curiosity to ask my friend about the Asian Financial Crisis and it is a good trait to realize the value of vicariously learning from history and the experience of others. After all, people between 25 to 30 years old now were only 5 to 10 years old then.

The Asian Financial Crisis marked the end of an ebullient economic time for the East and South East Asian economies. In 1992, the Philippines had just graduated from a long period of foreign debt restructuring marked by the conversion of its sovereign debt into “Brady bonds” and was just able to access the “voluntary credit market”. I remember the ceremonial turnover of the check representing the proceeds of the first Philippine sovereign debt issuance in the international financial markets since the debt moratorium of 1983. It has held in Malacañang Palace in the presence of the newly sworn in President Fidel V. Ramos. It was indeed a time of great aspirations for Southeast Asia with investors looking for returns in the Tiger economies of South Korea, Taiwan, Hong Kong, Singapore and Malaysia with the expectations that Thailand. Indonesia, the Philippines would follow. Many projects were booming in the region especially real estate.

June 30, 1997 was the day of the handover of the British Government of the Hong Kong territories to the administration of the Chinese government. It was a day of great significance for Asia. The handover had the agreement that the economic system and the fundamental governance system of Hong Kong would be maintained for the next fifty years. There was widespread expectation that China, now recognized as a world economic power, would pour great economic resources into Hong Kong to show the world that the administrative region could do much better under its watch. The late Lee Kuan Yew, former Prime Minister of Singapore talked about the coming Pacific Century and how early in that century, the GDP of China will exceed the GDP of the United States.

On July 2, 1997, the Thai Baht was devalued by 20 percent. The so-called “managed float” of its currency could no longer be sustained by its foreign currency reserves. Panic ensued and investors simply bailed out of the Thai baht to go into US dollars. Naturally the prices of domestic assets tanked and domestic liquidity tightened leading to bank loans defaulting while their collateral values shrunk. Projects stopped, construction stopped and the real economy of Thailand suffered greatly.

There were fund managers and analysts 20 years ago who were as sharp and motivated as the analysts now. The Name Soros comes to mind. Analysts like him, scour the world financial markets looking for opportunities. In Thailand and the South east and East Asian markets they saw the opportunity as an overvalued currency. So they sold short the Thai baht against the most liquid of currencies, the US dollar. Then there is contagion. Currencies around the region in similar situations would be affected and also get hit. The Philippine peso, the Indonesian Rupiah and the Malaysian ringgit came under intense speculative attack. In North and East Asia, the Korean Won, the Hong Kong and Taiwanese dollars came under attack.

pThe hardest hit currencies were the Indonesian rupiah, the Thai baht, and the Korean Won. The governments of these economies had to seek bailouts from the International Monetary Fund (IMF). These bailouts came with preconditions for the application of IMF policy tools and the restructuring of these countries’ economies. The Suharto government of Indonesia did not survive the crisis.

From June 30 to December 31 1997, the Indonesian rupiah depreciated by over 100 percent. The Thai baht depreciated by 83 percent and the Korean won depreciated by 63 percent. Please note that this is over a six month period and when annualized, the annualized rate of depreciation is doubled. Now the conventional policy reaction to such a situation is to tighten domestic liquidity and raise interest rates with a rationale that high interest costs are not quite as damaging and destabilizing to the economy as the impact of the annualized rate of currency depreciation. However, imagine the impact on the foreign currency liability of a company in Korea. Its liability has doubled in six months and it must now pay very high interest rates on its domestic currency debt. This situation prevailed around the region and banks got heavily hit around the region. Indonesian, Korean, Malaysian, Thai and Japanese banks were the worst hit. The big Japanese banks that we see now used to be four, five or six banks before. The biggest bailout money ever was 57 billion dollars given by the IMF to South Korea.This was complimented by a World Bank loan of 10 billion dollars.

If this writer were to summarize what happened, it would best be described as a massive mismatch of foreign currency liabilities versus domestic currency based assets or cashflows and a massive mismatch between short term liabilities and long term investments. Mismatches occur all the time just like in any trades and are undertaken as calculated risks to turn reasonable profits. However, mismatches can grow fast with the players not fully aware of the risks involved and when the event risk materializes, the process of exiting can cause great harm. This happened in 1997. Southeast Asian countries greatly affected by the Asian countries have long since become investment grade and pound for pound hold the biggest currency reserves in the world.

There are many more anecdotes to tell and lessons to learn from the Asian Financial Crisis. If one “googles” it, there is a great amount of literature available. However, there may be some wisdom that can be vicariously learned from the rambling of some grizzled veterans of the Asian financial crisis of 1997.

**** The opinions expressed here are the views of the writer and do not necessarily reflect the views and opinions of FINEX. You may email Mr. Araneta at vaaraneta@ yahoo.com