The Asian Financial Crisis: Causes, Cures, and Systemic Implications

Financial-Sector Weaknesses

Each of the ASEAN-4 economies experienceda credit boom in the 1990s, that is, the growth of bank and nonbank credit to the private sector exceeded by a wide margin the already rapid growth of real GDP (see part A of table 4). The credit boom was stoked in part by large net private capital inflows and directed in good measure to real estate and equities .2 As illustrated in part Boftable 4, exposure to the property sector accounted for roughly 25 to 40 percent of total bank loans in Thailand, Indonesia, Malaysia, and Singapore and more than that in Hong Kong.3 Data on exposure of banks to the equity market are harder to come by, but the rising ratio of stock market credit to GDP in Malaysia and the large-scale holdings of equities by South Korean banks have contributed to the strains in these economies.4 This overextension and concentration of credit left the ASEAN-4 econo- miesvulnerabletoa shift in credit and cyclical conditions. When that shift came, induced initially by the need to control overheating and later on by an export slowdown and by an effort to defend exchange rates with high interest rates against strong market pressures, it brought with it, interalia, falling property prices and arising share of nonperforming bank loans.5Reflectingthe significant amount of office space coming on stream, most private analysts conclude that the fall in real property prices in Asian emerging economies has still not fully run its course.6 Because the credit boom began and ended earlier in Thailand and Indonesia than in Malaysia and the Philippines, the effects were first visible in the former two countries. While there is considerable variation across the different studies, private-sector estimates of peak and actual nonperforming bank loans point to extreme banking difficulties (that is, shares of nonperforming to total bank loans in the 15 to 35 percent range) in Thailand, South Korea, and Indonesia, and some analysts see Malaysia'sbankingindustry as also in bad shape (see table 5).7 The same studies suggest that banks in the Philippines have not been as devastated as in the worst-hit group but nevertheless are much more fragile than the strong banking systems of Hong KongandSingapore.8 In Thailandand Indonesia, vulnerability was also heightened because banks and/ortheircorporate customers—in seeking to minimize their borrowing costs—agreed to shoulder rollover and currency risk; that is, too much of their foreign borrowing was undertaken at short maturities and/or denominated in foreign currency .9 At the time, this was not thought to be such a risky strategy because the Thai baht and the Indonesian rupiah had been stable with respect to the US dollar for many years and because the combination of weak economic activity, a huge stock of bad loans in the banking system, and a public antipathy to bailing out banks seemed to point to the continuation of low interest rates in Japan. Nevertheless, these liquidity and currency mismatches eventually took their toll—in motivating speculative attacks, in magnifying the consequences of subsequentexchange rate changes, and in limiting the authorities'room for maneuver in crisis management.download