We are back in the 90's. The countries of Southeast Asia along with South Korea
seem to be taking on the world. They are the next candidates to join the
list of great economic success stories. Banks, investment funds, pension funds,
insurance companies... all want to invest in this part of the world.
South Korea and Southeast Asia have become some of the great jewels in the financial world.
However, on 2 July 1997 everything fell apart. On that day, one of the greatest financial
cataclysms in human history suddenly began to unfold.
In just a few months the whole world was going to see how these
once booming and prosperous economies were about to sink into the abyss.
And the fact is that, within just a year of the crisis breaking out, the damage had
exceeded all reasonable expectations. The depreciation of local currencies surpassed 35% in all cases.
In the case of the Indonesian Rupiah it was a staggering 83%.
And we're not just talking about currencies, the same thing happened with the stock markets. The
markets in Indonesia, South Korea and Thailand recorded falls of over 50%.
And take note, in case you didn’t catch what that meant. Let me illustrate that in another
way. This means that a dollar-denominated investment in the stock markets of these
countries would have recorded a loss of between 60 and 93% in just one year.
For example, $1,000 invested in the South Korean stock market in
June 1997 would have diminished to a $290 position in just 12 months.
But we’re not just talking about the world of finance. The economies of
these countries suffered considerable damage. Suddenly rising unemployment,
bank failures and business closures became daily news events.
In one year, the economy of South Korea registered a fall of 5.8%; that of Thailand 10%
and that of Indonesia a little more than 13%. It was the great Asian financial crisis of 1997.
But what happened that caused such trending economies of the day
to suddenly collapse like a house of cards? What were the causes of this savage crisis?
These are the questions we will try to answer in this new video that we have prepared in
collaboration with Value School. Listen up.
If, before July 1997, any analyst had predicted the economic cataclysm that was going to occur
during the following months, it is possible that he or she would have lost their job.
No one, absolutely no one would have taken such a prediction seriously.
Just one month before the outbreak of the crisis,
the average forecast for economic growth in the region was around 7%.
This was in line with the performance of these economies in previous years.
At the beginning of 1997 everything seemed to be in order. South Korea and the Southeast Asian
countries had their public accounts in order, they had maintained very high levels of economic
growth for years, inflation was under control and their savings and investment rates were very high.
Nothing indicated what was to come. On the contrary, the prospects were good,
very good. So, as you can imagine,
investment banks, funds, hedge funds, commercial banks... All the players in
the financial world wanted a piece of this kind of economic miracle.
In this way, the inflows of capital, that is, funds, money,
that were registered every year were enormous, which in turn fuelled the feeling of prosperity.
The stock markets were rising, the price of real estate assets just kept growing,
there was money for all kinds of projects. And best of all, with healthy public accounts
and an insatiable appetite for investing, everything pointed to the prospect of
continued prosperity for the foreseeable future. Of course it was clear that no one could expect
such a crisis in countries where even the governments themselves had fiscal surpluses.
However, we now know that the model had cracks. And that,
that's what we are on a mission to investigate. What were these cracks? What happened to
make everything fall apart overnight? Well, the time has come to get to work and
examine all those weak links. Listen up.
Okay, we've already described it. In the 1990s, South Korea and Southeast
Asia were enjoying a financial golden era. However, little by little, some imbalances
had developed which were not considered important but that oversight would end up costing a lot.
You see, in the early 1990s the United States went through a mild economic
crisis that ended with the 1991 recession. This caused the US Federal Reserve
to lower interest rates to well below the rates that existed in
South Korea and Southeast Asian countries. And this, together with the high rates of
economic growth that these countries had been registering, is what caused international capital
to begin flooding into this region of the world. Capital that was added to the very high savings
reserves that these economies already had. In other words,
we are talking about a series of events that suddenly provided money for everything.
And there, there is the point when the problems began.
On the one hand, the price of assets shot up while on the other hand, investments
in all kinds of projects multiplied. The export industry - which, by the way,
was favored by the governments themselves - created a huge overcapacity and many of
the real estate and public works projects were barely used when they were finished.
In other words: a lot of capital was being invested in projects whose profitability was more
than questionable. And so the bubble was created. And of course, when the United States began to
recover and Alan Greespan's Federal Reserve began to raise interest rates, the attractiveness of
these markets began to decline. But that, that wasn't the only
problem they had to worry about. The rise in interest rates in the
United States led to an appreciation of the dollar and therefore of the currencies of
those countries which were pegged to the US currency by a fixed exchange rate.
That in itself was one of the great attractions those countries had for foreign investors.
However, this appreciation of the currencies with respect to other major currencies such
as the Yen or the German Mark, caused these Asian countries to lose competitiveness.
To make matters worse, in 1994 China had carried out a devaluation of the Yuan of more than 30%.
As a result, export growth began to slow down for South East Asia and South Korea in 1996.
This had two consequences: on the one hand, it increased the overcapacity of the export sector,
further reducing the profitability and even the viability of the investments made.
On the other hand, given the massive influx of capital, of cash, that continued to arrive,
the loss of export momentum meant that the current account balance, that is, the difference between
income and payments to the rest of the world, would register considerably large deficit levels.
The fact was that the accumulation of current account deficits was being
financed by foreign debt. So, to give you an idea,
in 1996 the foreign debt of these countries exceeded 165% of their Gross Domestic Product.
Faced with such a scenario, only one turning point was needed, a minor interruption
to turn the whole system upside down. And that's just what happened on 2 July 1997.
1993. In that year, taking advantage of the enormous influx of capital that was flooding
Southeast Asia, the Thai government decided to create an entire international financial
center in Bangkok with the intention of competing with Singapore and Hong Kong.
To achieve this, the Thai government did what is usually done in such cases: it
eased regulations on the capital market, introduced tax incentives and promoted
the creation of a whole financial industry. And the truth is that things began to go in the
right direction. Soon Bangkok was specializing in foreign exchange lending operations.
That is, borrowing capital nominated in major international currencies, such as the dollar,
and channeling it into all types of investment projects in local currency.
In this way Bangkok became one of the great gateways to the economies of Southeast Asia.
What happened is that its experience as a financial center was very limited
and the regulations... well, let's just say they were pretty ineffective.
But... do you remember what else was happening? The enormous influx of capital into this
part of the world meant that large amounts of resources were invested
in projects that would never be profitable. Resources that, don't forget, came from loans
that there was little hope of paying back. And that is precisely what led to a growing
deterioration in the credit portfolios of Thai financial institutions. Or in other words:
a whole lot more default... Take a look. According to estimates made
after the crisis by the International Monetary Fund, loans in an erratic situation, that is,
that began to have problems being repaid or paying interest, reached levels of between 15 and 24%!
However, despite the fact that these were figures that could make any
analyst's hair stand on end, none of this appeared in the banks' annual accounts.
Lax financial rules and lack of experience and supervision meant that loans in
irregular situations were refinanced without being classified as dubious.
And not only that. Interest that had never actually been received
was also usually accounted for, and many companies in trouble were lent
even more money to pay off interest they already owed on previous loans. Crazy!
The fact is that with these techniques, profits were plumped up,
allowing financial institutions to distribute dividends, give out huge bonuses and pay taxes.
But all financed with more and more debt. It was a crazy race to collapse that
continued until it was simply too late, because the Thai financial institutions
finally ran out of money and began to have trouble meeting their international creditors.
Remember that they had specialized in raising capital from the rest of the world.
Friends, the situation became so critical that between the months of March and June 1997,
the Central Bank of Thailand secretly had to provide liquidity to the country's
financial institutions at bargain interest rates using its international reserves.
The problem was that these reserves began to be consumed very quickly and as the situation
of the banks continued to worsen, on 2 July the Thai government was forced to announce
the end of the fixed parity of its currency, the Baht would no longer be pegged to the US dollar.
They no longer had anything to back up a currency that began to suffer
enormous stress in the face of the capital flight that was beginning to take place.
As you can imagine, the end of the association with the dollar resulted in a huge collapse
of the Baht, which, far from improving the situation of the banks, only aggravated it.
Why? Well, because the banks had taken out loans in dollars.
That is, its liabilities were denominated in dollars and its
assets in local currency. They owed dollars and had nothing to pay them back with.
In July 1997, the IMF estimated that the hole amounted to at least 9% of Thailand's GDP.
An overwhelming majority of the financial entities were bankrupt and according to the
IMF's own technicians, only the biggest banks would manage to stay afloat.
Suddenly, international depositors and investors saw the writing on the wall, not only in Thailand,
but also in all the countries of the region that shared the same economic characteristics.
Foreign lines of credit dried up and capital flight dragged
down the entire financial systems of these countries. The contagion effect was total.
If, in 1996 Indonesia, South Korea, Malaysia, the Philippines and Thailand had received
$66 billion from abroad in net terms, in 1997 they received just $36 billion. The
variation amounted to $112 billion, 12% of the combined GDP of these nations at that time.
The crisis was first felt in Thailand, but in less than two months it turned
into a full-blown Asian crisis. In just one month the South Korean Won sank from 1,000
to 2,000 won on the dollar - in just one month! Just a few weeks after the outbreak of the crisis
in Thailand, the forecasts for economic growth in these countries changed abruptly. Take a look.
In short, this is the story of the 1997 Asian crisis, one of the biggest financial crises in
history. A crisis that forced the Asian countries involved to carry out enormous restructuring and
to receive bailouts of $120 billion. Despite this, only South Korea managed
to recover in a reasonably short amount of time. We are talking about a crisis
that had a lot of consequences throughout the financial world, consequences which we will
surely talk about here on VisualPolitik in collaboration with Value School.
So I really hope you enjoyed this video, please hit like if you did, and don't forget to subscribe
for brand new videos. Don't forget to check out our friends at the Reconsider Media Podcast - they
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