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The Crisis and Policy Response

National Economic Recovery Plan
Chapter 1

Contents





Causes of the Turmoil in the Region

In today's world, large sums of money move across borders and provide more countries with access to international finance. The daily currency turnover in the foreign exchange market in 1995 is about US$1.2 trillion, compared with an average of US$190 billion a decade ago. Unlike the capital flows of previous decades, which were government-to-government or from multilateral agencies to government, the early 1990s saw the dramatic increase in the flows of private capital from the industrial countries to the emerging countries.

This was partly contributed by pension funds from the United States and Europe in search for higher returns overseas. The amount of private capital flowing into emerging markets was US$50 billion in 1990; the figure was US$336 billion in 1996. With greater international capital flows, financial markets become more volatile as money moves across borders with a mere keystroke of a computer. The sudden withdrawal of hot money from a country or region can have devastating effects on jobs, business, and people.

There is currently no complete hypothesis to explain what precipitated the crisis although there are a couple of characteristics of the regional economies and certain government policies that increased the countriesí vulnerability to the crisis and magnified the aftershocks.

  • Economic Performance

The unusually successful economic performance in the region attracted large inflows of foreign portfolio funds into the Asia Pacific region, which became a root cause for the currency crisis. During the early to mid-1990s, China recorded growth rates between 9-14 per cent per annum, while Indonesia, Malaysia, and Thailand experienced high annual growth rates that ranged between 7-12 per cent. Rapid growth rates were also recorded in Singapore, South Korea, and Taiwan.

Their economic performance was probably unprecedented at any time by any group of economies of comparable size. In most cases, the economic indicators of these countries suggested impressive macroeconomic performance. Generally, the countries had moderate inflation, an absence of significant fiscal imbalances, and high savings.

  • Saving-Investment Gap

While there were sizeable current account deficits for some countries, especially for Malaysia and Thailand, these were the outcome of the shortfalls of private savings to match private investment, not public sector dissaving. Foreign capital inflows made up for the shortfall in national savings to meet the very high national investment.

  • Private Inflows of Fund

While the net private inflows for China and Vietnam were foreign direct investment (FDI) dominated, short-term inflows were substantial for Indonesia, South Korea, Malaysia, and the Philippines. Thailand had a high level of short-term inflows of around 7-10 per cent of GDP in each of the years 1994-96, while its FDI was about 1 per cent of GDP (Table 1). During 1995-96, Malaysiaís short-term capital was 4-4.5 per cent of GDP, while its FDI was at 5 per cent of GDP.

  • Changes in External Environment

There were also some changes in the external environment of the countries concerned that led to the build-up to the recent crises. The decline in asset yields in the industrial economies prompted fund managers to invest into the Asian emerging assets, which gave higher returns. The ASEAN countries suffered losses in competitiveness when the U.S. dollar, against which their currencies were closely linked, appreciated against the yen beginning in mid-1995. The rapid economic growth of the Southeast Asian economies was accompanied by rapid credit growth to the private sector and asset price inflation, including in real estate markets and in equity markets, raising the concern that their exchange rates were not sustainable.

  • Weakness in the Financial Sector

Weaknesses in the financial sector compounded the problem. The financial institutions in Thailand, Indonesia, and South Korea were weakened by large-scale exposure to the property sector, high non-performing loans, and short-term loans that were unhedged against currency movements. Inadequate disclosure of information and data deficiencies increased uncertainty and adversely affected confidence. There was also the lack of transparency in policy implementation. In contrast, the Malaysian financial sector was much stronger than those of the neighbouring countries, but there was the problem of rapid credit expansion to the private sector, especially during 1995-97.

Table 1: Selected Asian Economies : Capital Flows1 (In percent of GDP)

 

1983-882

1989-952

1991

1992

1993

1994

1995

1996

1997

China
Net private capital flows3

1.2

2.5

1.7

-0.9

4.5

5.6

5.2

4.7

3.7

Net direct investment

0.4

2.9

0.9

1.7

5.3

5.9

4.8

4.6

4.3

Net portfolio investment

0.2

0.2

0.1

-

0.7

0.7

0.1

0.3

0.2

Other net investment

0.5

-0.6

0.7

-2.6

-1.5

-0.9

0.2

-0.3

-0.8

Net official flows

0.3

0.5

0.3

0.8

0.9

0.4

0.3

0.2

-0.1

Change in reserves4

-0.4

-2.2

-3.7

0.5

-0.4

-5.6

-3.2

-4.0

-4.5

Indonesia
Net private capital flows3

1.5

4.2

4.6

2.5

3.1

3.9

6.2

6.3

1.6

Net direct investment

0.4

1.3

1.2

1.2

1.2

1.4

2.3

2.8

2.0

Net portfolio investment

0.1

0.4

-

-

1.1

0.6

0.7

0.8

-0.4

Other net investment

1.0

2.6

3.5

1.4

0.7

1.9

3.1

2.7

0.1

Net official flows

2.4

0.8

1.1

1.1

0.9

0.1

-0.2

-0.7

1.0

Change in reserves4

-

-1.4

-2.4

-3.0

-1.3

0.4

-0.7

-2.3

1.8

Korea
Net private capital flows3

-1.1

2.1

2.2

2.4

1.6

3.1

3.9

4.9

2.8

Net direct investment

0.2

-0.1

-0.1

-0.2

-0.2

-0.3

-0.4

-0.4

-0.2

Net portfolio investment

0.3

1.4

1.1

1.9

3.2

1.8

1.9

2.3

-0.3

Other net investment

-1.6

0.8

1.3

0.7

-1.5

1.7

2.5

3.0

3.4

Net official flows

-

-0.3

0.1

-0.2

-0.6

-0.1

-0.1

-0.1

-0.1

Change in reserves4

-0.9

-0.8

0.4

-1.1

-0.9

-1.4

-1.5

0.3

-1.1

Malaysia
Net private capital flows3

3.1

8.8

11.2

15.1

17.4

1.5

8.8

9.6

4.7

Net direct investment

2.3

6.5

8.3

8.9

7.8

5.7

4.8

5.1

5.3

Net portfolio investment

0

0

0

0

0

0

0

0

0

Other net investment

0.8

2.3

2.9

6.2

9.7

-4.2

4.1

4.5

-0.6

Net official flows

0.3

-

0.4

-0.1

-0.6

0.2

-0.1

-0.1

-0.1

Change in reserves4

-1.8

-4.7

-2.6

-11.3

-17.7

4.3

2.0

-2.5

3.6

Philippines
Net private capital flows3

-2.0

2.7

1.6

2.0

2.6

5.0

4.6

9.8

0.5

Net direct investment

0.7

1.6

1.2

1.3

1.6

2.0

1.8

1.6

1.4

Net portfolio investment

-

0.2

0.3

0.1

-0.1

0.4

0.3

-0.2

-5.3

Other net investment

-2.7

0.9

0.2

0.6

1.1

2.5

2.4

8.5

4.5

Net official flows

2.4

2.0

3.3

1.9

2.3

0.8

1.4

0.2

0.8

Change in reserves4

0.5

-1.1

-2.3

-1.5

-1.1

-1.9

-0.9

-4.8

2.1

Singapore
Net private capital flows3

5.0

3.8

1.7

-2.7

9.4

2.5

1.3

-10.1

-5.5

Net direct investment

8.7

6.0

8.8

2.1

5.5

4.8

4.9

4.3

5.3

Net portfolio investment

-0.5

0.1

-2.1

3.3

0.5

1.1

0.9

-16.2

-14.4

Other net investment

-3.2

-2.4

-5.1

-8.0

3.4

-3.4

-4.6

1.8

3.6

Net official flows

-

-

-

-

-

-

-

-

-

Change in reserves4

-6.1

-10.3

-9.6

-12.3

-12.9

-6.7

-7.2

-11.1

-14.6

Taiwan Province of China
Net private capital flows3

0.2

-4.0

-1.2

-3.2

-2.1

-0.6

-3.6

-3.2

-3.8

Net direct investment

-0.2

-1.2

-0.3

-0.5

-0.7

-0.5

-0.4

-0.7

-0.6

Net portfolio investment

-0.3

-

-

0.2

0.5

0.4

0.2

-0.4

-0.6

Other net investment

0.7

-2.8

-0.9

-3.0

-1.9

-0.5

-3.3

-2.1

-2.6

Net official flows

-0.3

-

-

-

-

-

-

-

-

Change in reserves4

-13.5

-0.6

-5.4

-0.6

-0.7

-1.9

1.5

-0.4

0.7

Thailand
Net private capital flows3

3.1

10.2

10.7

8.7

8.4

8.6

12.7

9.3

-10.9

Net direct investment

0.8

1.5

1.5

1.4

1.1

0.7

0.7

0.9

1.3

Net portfolio investment

0.7

1.3

-

0.5

3.2

0.9

1.9

0.6

0.4

Other net investment

1.5

7.4

9.2

6.8

4.1

0.7

10.0

7.7

-12.6

Net official flows

0.7

-

1.1

0.1

0.2

0.1

0.7

0.7

4.9

Change in reserves4

-1.4

-4.1

-4.3

-2.8

-3.2

-3.0

-4.4

-1.2

9.7

  1. Net capital flows, comprise net direct investment, net portfolio investment, and other long-and short-term net investment flows, including official and private borrowing.
  2. Annual averages.

  3. Because of data limitations, other net investment may include some official flows.

  4. A minus sign indicates an increase.

  5. Source : International Monetary Fund


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