several lessons from the asian crisis

• The main effect of a financial bubble is the artificial increasing of the demand of the private agents. It leads the households to consume more by increasing their financial wealth, and the enterprises to invest by decreasing their financing costs.
  In Asia after the financial bubble, the local demand was decreasing when the production power of the enterprises continued to rise, because the system wasn’t accommodated to prepare the enterprises about this sudden reversal.
  
  Lessons from the Asian crisis
  
  We can draw several lessons from the Asian crisis:
  
  -Cautious management of capital inflows is a critical lesson of the Asian crisis. Theoretically large foreign debts can make an economy vulnerable, especially when the currency is convertible and therefore can be a subject of speculation. In Indonesia, the Republic of Korea and Thailand, and, to a smaller extent, in Malaysia, the report was that there was a rapid growth of their external debt (private and public). The debts made the companies and the countries vulnerable to changes in interest rates and to currency depreciation when they were denominated in US dollars. In the case of high level of debt (for companies and countries), once the currencies are attacked and devalued, and the interest rates were increased, the burden of debt can cause both corporate and banking failures. The opening of the capital account of a country must be done only if the local financial system is strongly built and the fundamental economic conditions are good. It wasn’t the case in these economies. In summary, the opening of capital account must be balanced and progressive.
  
  -The Asian crisis has shown also that high current export earnings alone are not sufficient to ensure the debts services, particularly short-term ones. According a BIS paper, the ultimate objective of capital inflows is to ensure that the borrowing economy improves its economic fundamentals, while the debt level remains sustainable. Debt sustainability is conventionally determined in regards of the behaviour of the current-account deficit and fiscal deficit. When an economy has an open-capital account, the management of its external debt must take into account some items like the level of domestic debt, the size of the overhung debt to analyse the sustainability. Sustainability also requires careful debt management. Governments must be able to demonstrate that they can service their debts, and that their policies are designed to enable them to continue to meet their debt obligations. It is important to remember that debt can be in the form of contingent liabilities of the government when the exchange rate is, de facto, fixed.
  
  -The proliferation of this currency crisis has intensified the debate about the appropriate exchange rate policy and its management. Before the crisis, East Asia principally pursued a fixed or crawling peg exchange rate to promote exports along with tight monetary policy to prevent inflation. This policy was oriented to promote export and economic growth, foreign exchange reserve accumulation, and technological innovation and other gains. At the end, this promoting policy based on exchange rate stability through fixed pegged rates and tight monetary policy created distortions. As the Governments manoeuvred to curb the expansion in domestic and foreign assets stopping partly capital inflows, to maintain money supply within manageable levels, interest rate pressures were generated. The central bank launched massive sterilization efforts to control the growth in monetary base, but absorbing the cost of these operations became unsustainable. Parallel to attracting the large volume of capital inflows, high interest rates and fixed exchange rates, in absence of regulations, led private sector to borrow from offshore US dollars on a short-term basis at relatively low international rates to finance domestic investments. The foreign borrowings encouraged accumulation of un-hedged foreign currency liabilities. Even in the cases where forward exchange rate contracts were used by investors to hedge their exposure or foreign exchange risk, the instruments were ineffective because of the sharp depreciation of the currencies. After the crisis, with the exception of Malaysia, all East Asian economies switched to floating-exchange rates. An alternative solution to preventing misalignment between exchange rate and monetary policy is for a country to adopt a currency board (as in Hong Kong, China) or enter a monetary union. Under such arrangements, governments forego independent monetary policy and de facto adopt the monetary policy of the country to which the currency is pegged. The present crisis has reconfirmed the inherent incompatibility of fixed exchange rate and the tight monetary policy and its inherent dangers and costs to the economy.
  
  -The Asian crisis has outlined also that short-term capital movements contribute to increase the financial markets’ volatility which can lead to macroeconomic instability. The belief that having a financially open system has crumbled under the weight of the extremely high costs paid by the Asian economies reached by the crisis. In 1998, Professor Bhagwati argues against free capital movements, for him, there may be occasions when short-term capital movements must be controlled, without being in contradiction with financial globalization. And IMF allows, under a special set of circumstances, capital controls. Now the capital opening theory is rebuilt around the long-term capital inflows like foreign direct investments.
  
  -One of the main elements which characterize the Asian crisis was the serious weaknesses of the banking and financial systems of the Asian emerging countries. A careful scrutiny of the Asian crisis, as well as others that have occurred over the last two decades, reveals a manifested lack of financial discipline in several Asian economies. Risky financial practices were prevalent in Indonesia, the Republic of Korea and Thailand. As opposed to them, Hong Kong (China), Malaysia and Taiwan Province of China manifested relatively more progressive regulatory and supervisory practices and prudent financial conduct. Consequently, the latter group was less severely reached by the crisis. It is really important for diminishing both the probability and the cost of a financial crisis, not only to improve banking and financial infrastructure, but also to reinforce regulatory and supervision environment.
  
  -The contagion effects of the crisis showed that economies are more vulnerable when their neighbours are suffering of a speculative attack. This vulnerability become more important when there are a lot of similitudes in their economic characteristics. This assertion happened in the Asian crisis: the countries are in the same area, they are both emerging countries with the highest growth rates in the world etc.
  
  -The resistance of the crisis to the classical measures taken by the IMF showed that it was an atypical crisis. Under the supervision of the IMF, the authorities engaged a program of restructuring with four main components designed to restore market confidence: a tightening of fiscal policy, higher interest rates, the closure of banks and financial institutions insolvent, and the strengthening of prudential regulation of banks. The first two measures are part of the arsenal used in the classical way by the IMF for stabilizing changes in a country experiencing a crisis in balance of payments. The aim was to restore confidence by reducing the need for external financing, and to improve the profitability of investors. The other two measures were designed to deal with banking crises. These measures, which have proved their efficacy during the debt crisis in 1980 and during the Mexican crisis in 1994-95, have not had the expected effect, since they were followed by a movement of financial panic. Further to this we can say that for remaining efficient, measures used to resolve crisis must be accommodated to the context.
  
  -A lesson we can draw from the crisis of 1997 focuses on the inefficiencies of government interventions. Indeed, the decline in productivity which is the origin of the crisis, the choice of micro-economic policies of Asian States bears the responsibility. From this point of view, the IMF is therefore right. Emerging economies in Asia are characterized not only by a large opening to the outside world but also an important role of the State. In Korea, Taiwan and Singapore, since the economic reforms of 1960 years, the state has imposed some very clear priorities to the enterprises not hesitating to intervene to influence the specialization of the country, either directly or through State enterprises, nationalised banks and government contracts, indirectly through investment grants, tax incentives, trade restrictions, financing and guarantees in the event of default. If in Thailand, Indonesia, Malaysia and the Philippines government intervention is less systematic, and less coherent, it was nevertheless very important in the economic development of these countries. This intervention has historically relied on the ability of the States concerned to reach a social consensus, either in the context of authoritarian regimes, is a tripartite cooperation with the social partners. Over time, the Asian banks have gradually become the preferred instrument of government intervention in industrial matters. They benefited to the implicit warranty of the state in exchange of their commitment to allocate credits to the enterprises in regards of the government priorities, regardless of their comparative advantages. In Korea, where they had been nationalized, they granted credits to major industrial groups at negative real interest rates, or substantially below the market’s rates. Too strategic to be put into bankruptcy, they were not encouraged to select their credits with rigour and taking excessive risks.
  
  In conclusion we can say that the Asian crisis was the beginning of the call into question of the role of the Bretton Woods institutions and of a more implication of the G7. Emerging countries need to cooperate with the developed countries to benefit of their expertise.
  
  We can say also that relevant monetary and fiscal policies are obviously essential. Indeed, appropriate fiscal policies can make a substantial positive contribution to economic growth and poverty reduction. Sound policies can allocate efficiently scarce resources, introduce appropriate liberalization and create the right incentive signals by reducing tax distortions. Sound fiscal policies should also be anti-cyclical.