Economics Update (July-September 1998)

The Asian Financial Crisis: Causes and Lessons

E xcessive confidence surrounding the so-called "Asian miracle," nontraditional macroeconomic weaknesses and the Asian countries' dollar peg while the dollar appreciated versus the yen were at the root of the recent Asian crisis, according to Jack Boorman, the director of policy development and review at the International Monetary Fund (IMF).

Boorman, whose assignments at the IMF have included serving as resident representative in Indonesia and division chief for the Asian and European departments, where he was responsible for Japan and Germany, spoke recently to a gathering of business and community leaders at the Federal Reserve Bank of Atlanta.

Other Factors Contribute to Crisis

Boorman also noted several other factors that contributed to the Asian crisis, including the Asian countries' unsophisticated financial market analysis, credit assessment and rating agency performance. He said a "herd mentality" was at work, and analysts were not paying attention to signals that warned of a crisis. In addition, said Boorman, corruption and bad governance were widespread throughout Asia, and government delays in raising interest rates allowed reserves to become virtually exhausted.

The crisis undermined the banking sector so that when asset values fell, collateral fell as well, Boorman noted. This drop in assets and collateral, combined with funding maturities that were mismatched and debtors who were unhedged, created a volatile mix.

IMF Response

The response from the IMF was quick and extensive. The stabilization packages were the largest ever, totaling $120 billion, and were assembled at an accelerated pace — Korea's $57 billion package was put together in six days.

With these packages, the IMF entered areas other than traditional macroeconomic stabilization policies. In particular, the IMF was involved in implementing or advocating reforms in the financial sector. These reforms included improving supervision and regulation of financial institutions, establishing organizations similar to the Resolution Trust Corporation in the United States to close insolvent institutions and transition viable assets to other institutions, establishing bankruptcy procedures and improving the soundness of financial institutions.

Throughout the stabilization process, the IMF used new ways of funding, encouraging countries to return to private markets as quickly as possible, Boorman said. The IMF also secured a second line of financial defense from Australia and other countries.

Lessons From the Crisis

Boorman concluded by discussing the lessons that he believes can be learned from the Asian crisis. First, increased transparency, involving more and better data, is critical in emerging market economies. In addition, international surveillance should be strengthened, and Boorman believes the IMF is in a good position for this assignment. Finally, the international policy-making community needs to find ways to "bail in" the private sector so that they share in the costs of bailouts.

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