From Third World to First The Singapore Story pdfdrive com

21. East Asia in Crisis 1997–99
The sudden devastation to the economies of Asean in 1997 has set back its
standing and its capability to play an international role. Indonesia’s President
Suharto, who had built up his country and gained stature and recognition, was
deposed. Prime Minister Mahathir of Malaysia was diminished by the Western
media headlining his denunciations against currency speculators and Jews like
George Soros. Thailand’s Prime Minister Chuan Leekpai needed time to
establish his international standing. What happened?
In March 1997 Richard Hu, our finance minister, told the cabinet that the
Thais had asked us to defend their baht which was under attack. We were
unanimous that we should not. Nevertheless the Thais asked him to do it for
them with their funds. They did not want the market to know that only the Thai
central bank was buying bahts. The Monetary Authority of Singapore did so, but
warned that it would not be successful. When the attackers were repelled, the
Thais thought we were proved wrong. We warned them that the attackers would
return. They did, in May. By 2 July, after spending over US$23 billion of
Thailand’s reserves, the Thai central banker gave up. He floated the baht,
whereupon it dropped by 15 per cent. Thai debtors scrambled to buy dollars,
driving the baht further down. We did not realise then that the meltdown in East
Asia had been triggered off.
Thailand, Indonesia, Malaysia and the Philippines had their currencies
closely linked to the US dollar. Interest rates on the US dollar were much lower
than their domestic interest rates. It worked well when the US dollar was
weakening and their exports became cheaper and increased. When the US dollar
began to strengthen from mid-1995, Thai exports became dearer and declined.
Thailand’s companies had borrowed in US dollars, assuming that their exchange
rates would remain more or less the same when the time came to repay. If they
had floating exchange rates, they would have weighed the risk of a possible
depreciation of the baht against the benefit of a lower interest rate. And foreign
lenders would not have been so confident about the borrowers’ ability to repay if

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faced with sudden changes in exchange rates.
Several Singapore-based American bankers had discussed with me in 1996
their advice to Thai and other Asean central bankers on the hazards of trying to
control both their exchange and interest rates when they no longer had
restrictions on capital flows. They had recommended more flexible exchange
rates. The central bankers did not heed this warning and their current account
deficits increased.
Since 1995, the Thais had been having large current account deficits,
importing more than they were exporting. If this continued, they would not have
enough foreign currency to meet their foreign debt repayments. So foreign
exchange dealers began selling baht, anticipating the difficulties the Thai central
bank would face defending the baht at its then high rate of exchange to the US
dollar. Once the short-sellers started to win, reputable fund managers joined
them in selling down the currencies of Malaysia, Indonesia and the Philippines
as well as Thailand. All these currencies sank in value when their central banks
abandoned their pegs to the US dollar.
The Singapore dollar, however, was not tied to the US dollar but was
managed against a basket of currencies of our major trading partners. It had
steadily appreciated against the US dollar until the mid-1990s. Singapore dollar
interest rates were much lower than US dollar rates. Because it was unattractive
for Singapore companies to borrow US dollars, Singapore companies had little
US dollar debt.
Thai Prime Minister Chavalit Yongchaiyudh, an old friend of mine from the
time he was a general of the Thai army, asked Prime Minister Goh Chok Tong
for a loan of US$1 billion. Goh discussed this in cabinet and decided that we
would agree if Thailand first sought the assistance of the International Monetary
Fund. It did.
As the crisis spread, in July Malaysian Prime Minister Mahathir denounced
George Soros as the speculator responsible. Then Bank Negara Malaysia
announced changes limiting the amount of Malaysian ringgit that could be
swapped into foreign currencies. To check the fall in share prices, the Kuala
Lumpur Stock Exchange changed its rules by requiring sellers to produce the
physical share scrips within a day of any sale. They also imposed trading curbs
on 100 key blue-chip stocks included in the stock exchange index computation.
Fund managers dumped Malaysian and Asean currencies and stocks.
In September 1997, at an IMF/World Bank meeting of international bankers
in Hong Kong, Mahathir said, “Currency trading is unnecessary, unproductive

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and totally immoral. It should be stopped. It should be made illegal.” Another
sell-out of all Asean currencies and stocks followed.
Thailand and Indonesia accepted IMF rescue packages with conditions. But
the Thais, after reaching agreement with the IMF in August 1997, did not
implement the terms they had agreed upon: to tighten money supply, raise
interest rates and clean up their banking system, including closing down 58
insolvent finance companies. Chavalit’s multi-party coalition government did
not have the strength to undertake such painful reforms. Political leaders of all
Thai parties both in government and opposition had close ties with bankers and
businessmen whose support they needed for fund-raising. In November Chavalit
lost a vote of confidence and resigned. In Bangkok in January 1998, he
explained to me that many Thai bankers had urged him to defend the baht, that
as he was a soldier, not an expert on finance matters, he had taken their advice.
His banker friends might not have told him that they had borrowed over $40
billion in US dollars and did not want to pay more bahts for the dollars they had
borrowed.
In retrospect, what had they done wrong? By the early 1990s the economies
of Thailand, Indonesia and Korea were already operating at full capacity. Many
of the new investments were channelled into projects of doubtful value. While
the euphoria lasted, everyone overlooked the institutional and structural
weaknesses in these economies.
These countries would have been better off if their capital accounts had been
liberalised more gradually. They would have had the time to build a system to
monitor, check and control the flow of non-FDI (foreign direct investment)
capital to ensure that it went into productive investments. As it was, large
amounts of capital were invested in stocks and properties, office blocks and
condominiums. These stocks and properties were in turn used as collateral for
borrowing, further inflating the asset bubble. Lenders were aware of this laxness
but accepted it as the way business was done in emerging markets. Some even
saw the presence of politically connected business partners as implicit
government guarantees for the loans and so went along with the game.
The G7 finance ministers had pressed them to liberalise their financial
markets and free capital movements. But they did not explain to the central
bankers and finance ministers of the developing countries the dangers inherent in
today’s globalised financial markets, when massive amounts can flow in or out
at the touch of a computer button. Liberalisation should have been more
carefully calibrated according to the level of competence and sophistication of

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their financial systems. These countries should have installed circuit breakers –
controls to cope with any sudden inflow or outflow of funds.
Although the economic conditions of each country were different, the
collapse of foreign confidence affected the whole region. What began as a
classic market mania with funds flowing exuberantly into East Asia became a
classic market panic when investors stampeded to get their money out.
In January 1997 Hanbo, a South Korean 
chaebol
(Korean conglomerate),
went bankrupt in a major corruption scandal involving President Kim Young
Sam’s son. Many other banks and chaebols were believed to be in similar straits
and the value of the South Korean won dropped. The Korean central bank
defended its currency until it ran out of reserves in November and sought IMF
help. In the next few weeks the whole of East Asia, including Hong Kong,
Singapore and Taiwan, was swept up in a financial typhoon.
Hong Kong’s currency had been pegged to the US dollar since 1983.
Because of the crisis, it had to raise its interest rates well above that of the US
dollar, as a risk premium to induce people to hold HK dollars. High interest rates
had hurt stock and property markets. Hong Kong lost its competitiveness
because the cheaper currencies of its neighbours hurt its tourist and travel
industries, leaving hotels empty. Hong Kong was right to defend the peg during
this crisis to maintain confidence in the territory so soon after its return to
Chinese sovereignty, but the problem became acute when the crisis was
prolonged.
What distinguishes East Asia’s economic crisis from Latin America’s
underscores a basic difference in culture and social values. Unlike Latin
Americans, East Asian governments had not overspent. Not all had indulged in
extravagant prestige projects, or siphoned borrowed money out of their countries
to park in the stock markets of New York or London. These governments had
balanced budgets, low inflation and many decades of steady high growth. It was
their private sector corporations that had over-borrowed short-term in the last
few years to make imprudent long-term investments in properties and excess
industrial plants.
Western critics have attributed this collapse to what they term “Asian
values”: cronyism, 
guanxi
, corruption, backdoor or under-the-counter business
practice. There is no question that these contributed to the crisis and aggravated
the damage incurred. But were they the primary causes? The answer must be

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“no” because these flaws had been present, almost endemic, since the beginning
of the “Asian miracle” in the 1960s, more than 30 years ago. Only in the last few
years did several of the emerging countries indulge in the excessive borrowing in
foreign currencies that caused their troubles. Even excessive borrowings might
not have led to such a meltdown but for their woefully inadequate systems with
weak banks, inadequate supervision and wrong exchange rate policies. Bad
cultural habits aggravated the damage; wrongdoings were difficult to detect and
expose where systems were not transparent.
Corruption, nepotism and cronyism in Asia were condemned by the Western
critics as proof of the fundamental weakness of “Asian values”. There are many
different value systems in Asia – Hindu, Muslim, Buddhist, Confucianist. I am
able to discuss only Confucian values. Corruption and nepotism are a
debasement of Confucian values. A Confucian gentleman’s duty to family and
friends presumes that he helps them from his personal and not official resources.
Too often officials use public office to do favours to family and friends,
undermining the integrity of government. Where there are transparent systems to
detect and check abuses of power and privilege, as in Singapore and Hong Kong
(both former British colonies), such abuses are rare. Singapore weathered the
crisis better because no corruption or cronyism distorts the allocation of
resources, and public officers are referees, not market participants. But in the
troubled countries, too many politicians and public officials have exercised
power and responsibility not as a trust for public good, but as an opportunity for
private gain. Making the problems worse, many political leaders and their
officials refused to accept the market’s verdict. For a long time they blamed
speculators and conspirators for the destruction in values. Their denial made
many investors pull out.
None of the leaders realised the implications of the globalised financial
market of instant communications between the main financial centres of the
world – New York, London and Tokyo – and their representatives in the capitals
of East Asia. The inflow of funds from the industrial countries brings not only
the benefits of high growth but also the risk of a sudden outflow of these funds.
Every capital – Bangkok, Jakarta, Kuala Lumpur, Seoul – has hundreds of
resident international bankers supported by local staff with roots in the
community. Any wrong step of a government is instantly analysed and reported
to their clients worldwide. But Suharto acted as if it was still the 1960s, when
financial markets were more insulated and reaction time much slower.
Was the Asian miracle in fact a mirage? For several decades before

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companies in the region borrowed from international banks, these countries had
high growth rates, low inflation and prudent budgets. Backward agricultural
communities had maintained stability, accumulated savings and attracted
investments from the developed countries. Their peoples are hardworking and
frugal, with high savings of 30–40 per cent. They invested in infrastructure.
They concentrated on education and training. They have enterprising
businessmen, and pragmatic and pro-business governments. Their economic
fundamentals have been consistently good. By 1999, after two years of crisis,
recovery appeared to be on the way. High savings kept interest rates low and
made for an early rebound. Foreign fund managers became optimistic and
returned to the stock markets, boosting exchange rates. This may make some
countries slow down their banking and corporate restructuring, which would be
costly in a future downturn.
All Southeast Asian leaders were shell-shocked by the sudden devastation of
their currencies, stock markets and property values. It will take some time to put
their countries in order. This will happen, and the need to get together to increase
the weight of Southeast Asian countries when negotiating with big powers like
China, Japan and the United States will bring them closer together in Asean. US
and European leaders will continue to be sympathetic and to sound helpful but
their previous respect for the proven competence of the region’s leaders will take
some time to return.
Asean leaders will learn from this setback to build stronger financial and
banking systems, with sound regulations and rigorous supervision. Investors will
return because the factors for high growth will remain for another 10 to 20 years.
Cronyism and corruption will be difficult to erase completely, but with adequate
laws and supervision, excesses can be checked. Another meltdown is unlikely as
long as the pain and misery of this crisis are not forgotten. Within a decade, the
original five Asean countries will resume their growth, and from a leaner base
new leaders will emerge who will gain stature and respect.
There is a deeper lesson to be drawn from this crisis. In a globalised
economy, where Americans and Europeans set the rules through the WTO and
other multilateral organisations, it is wasteful to use capital without regard to
market forces, as the Japanese and Koreans have done. To finance the Japanese
zaibatsus and the Korean chaebols in their expansion to capture market share
abroad, their governments extracted the maximum of savings from their people.
The savings were directed by the government through their banks for specific
conglomerates to capture market share in designated products. This has often

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resulted in uncompetitive industries. When they were catching up with the
advanced countries, it was possible to spot which industries to invest in. Now
that they have caught up with the West, it is not easy to pick the winners. Like
everyone else, they will have to allocate resources in response to market signals.
It is a mistake to think that the Japanese and Koreans have lost their innate
strengths. Judging from their past records, they will restructure and learn to
operate on the basis of profitability and rates of return on equity.

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