The 1997 Asian Crisis

What was the Asian Crisis?

The 1997 Asian crisis was a period of financial crisis that gripped much of East Asia and raised fears of a worldwide economic meltdown. The crisis shattered the myth of the Asian miracle growth story which until then had been regarded as infallible. As investors abandoned the region Asian stock markets crashed, currencies plunged, companies went bankrupt and financial systems went into cardiac arrest as non-performing loans soared. In late 1997 and 1998, Indonesia, Korea, Malaysia, the Philippines and Thailand - sometimes referred to as Asia 5 - were the worst hit countries, experiencing net capital outflows of 80bn US dollars.

How was Asia performing pre-crisis?

Asia was the darling of the investor and economist community prior to the crisis. The region had grown rapidly when most of Asia adopted an export led development strategy in the 1980s. Terms like ‘the Asian Miracle growth’ and ‘Asian tigers’ were coined.

Most Asian countries had adopted fixed exchange rate regimes or currency pegs or instituted a currency board. In other words, there was no foreign exchange risk of investing in Asian financial assets. Asian policymakers made it easy by relaxing regulations to encourage portfolio inflows. Asian investment rates soared as did Asian asset prices. As more and more money found its way into speculative projects, a malinvestment bubble formed. All the while corporate balance sheets were becoming increasingly overleveraged. With a strong political desire for rapid economic growth, governments often gave implicit guarantees to private sector projects. This was magnified by the close relationships between large firms, banks and the government.

What Triggered the Crisis?

Starting in early 1994, the US started to increase interest rates. Higher interest rates in the US made Asia less attractive as a place to move hot money flows. It also importantly pushed up debt servicing costs for Asian companies that had borrowed in US dollars. The appreciation of the U.S. dollar and the associated losses of competitiveness in countries with dollar-pegged currencies contributed to export slowdowns. As export earnings weakened, this eroded the ability of Asian companies to service debt. Current account positions deteriorated and investor nervousness grew. It threw the spotlight on Asian corporates which were overleveraged in foreign currency debt and countries that looked vulnerable.

Which Countries suffered the most from the Crisis?

The crisis started in Thailand.  At the time, Thailand had acquired a burden of foreign debt that made the country effectively bankrupt even before the collapse of its currency. Thailand lacked the foreign reserves to support the USD–Baht currency peg, and the Thai government was eventually forced to float the Baht allowing the value to be set by the currency market. This caused a chain reaction of events culminating in a region-wide crisis. As the crisis spread, most of Southeast Asia and Japan saw slumping currencies, devalued stock markets and other asset prices, and a precipitous rise in private debt.

The Korean banking sector was burdened with non-performing loans as its large corporations were funding aggressive expansions. During that time, there was a haste to build great conglomerates to compete on the world stage. Many businesses ultimately failed to ensure returns and profitability. The chaebols, South Korean conglomerates, simply absorbed more and more capital investment. Eventually, excess debt led to major failures and takeovers.

Indonesia, South Korea and Thailand were the countries most affected by the crisis. Hong Kong, Laos, Malaysia and the Philippines were also hurt by the slump. Brunei, China, Singapore, Taiwan, and Vietnam were less affected, although all suffered from a loss of demand and confidence throughout the region.

What were the effects of the Crisis?

Thailand's booming economy came to a halt amid massive layoffs in finance, real estate, and construction that resulted in huge numbers of workers returning to their villages in the countryside and 600,000 foreign workers being sent back to their home countries. The baht devalued swiftly and lost more than half of its value. The Thai stock market dropped 75%. This was a story repeated across the crisis hit countries. Korea went to recession and so did Malaysia, Indonesia and a number of other Asian countries. The worst hit countries were forced to go to the IMF to seek bailout packages which came with tough structural reform and macroeconomic adjustment requirements.

The economic crisis also led to a political upheaval, most notably culminating in the resignations of President Suharto in Indonesia and Thailand’s Prime Minister. Asian households saw their wealth wiped out and household incomes collapse.

The Asian crisis was a watershed moment for Asian corporates. As bankruptcies soared, Asia’s dominant conglomerates were forced to restructure and consolidate. After the Asian crisis, international investors were reluctant to lend to developing countries. This led to economic slowdowns in developing countries in many parts of the world.