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The Asian Financial Crisis in Perspective

by J. Orlin Grabbe

(Appeared in Laissez Faire City Times.)

Tokyo had a Wild West feeling to it in the Spring of 1989. Something was definitely in the air. There were those ubiquitous signs in which a young Japanese woman, her head ringed by stars, proclaimed in mysterious English: "I Feel Coke!"

Only a Japanese could possibly know what was meant. But the symbolism at the bar in the Imperial Hotel was more apparent. A Japanese businessman sat beside me and ordered a shot of American whiskey: Kentucky bourbon. When the bartender poured the shot, the businessman told him to leave the bottle. Imported whiskey was very expensive and clearly the drink of choice in Tokyo. The ability to afford the entire bottle was a macho sign of financial success. There were even "whiskey bars", which served nothing but whiskeys (both bourbon and scotch) from around the world. In early evening Japanese men in suits and ties would come staggering out of the doors, barely able to stand. Drinking was a social release from the regimented corporate environment in Japan, and there was no social stigma attached to public drunkenness.

I was waiting to meet Galen Burghardt, who was then working for Discount Corporation of New York Futures, and who wanted to go eat sushi underneath the train tracks. It struck me as a nice change of pace here in what was widely billed as the most expensive city in the world. The Old Imperial Bar where I waited was a tribute to Frank Lloyd Wright. The original hotel was built in 1890, next to the Imperial Palace, as both a refuge and display case for westerners. In 1923 the hotel added a new building, designed by the architect Frank Lloyd Wright. Wright combined yellow brick, greenish volcanic tuff carved with Mayan and art-deco patterns, carpets woven in Beijing with American Indian designs, stone castings of birds and beetles, and copper drains that sprayed water in strange patterns. The new building had its grand opening on the exact day of the great Tokyo earthquake that leveled wide swaths of Tokyo and Yokohama. Wright's building survived the 1923 quake with minimal damage, however, but was eventually condemned and torn down in 1968. Some of the pieces of the original were incorporated into the building that replaced it.

I was in Tokyo to discuss banking software. Tokyo was the place to be for any area of finance in 1989. That year the Nikkei 225 reached 39,0000. At its peak, the Tokyo stock market was valued at more than Yen 500 trillion ($3.6 trillion), or about 30 percent higher than the listed value of all U.S. companies. There was a gold rush atmosphere about the place. And lots of gold, also, but not for investment. Sure, there had been the Hirohito gold commemorative coins a few years before, that had caused a temporary flurry in the gold market. But now Japanese were more interested in consumption. Any drink with gold flakes in it was popular--drinks like Goldwasser. Some Japanese also sprinkled gold flakes on their cereal. Eating gold was another macho sign of financial success.

Prestige could be bought, and frequently was. Being near the Emporer was prestigous. The land around the Imperial Palace (a few square miles) was said to be worth more than all of California (163,707 square miles). There were some problems, naturally, with that calculation. Some flake had taken the marginal cost of a square foot of land in a recent Tokyo real estate purchase, and used it for the average value of every square foot in the region. But the calculation made the point of how expensive property had become in Tokyo. The boom was supposedly a consequence of the accumulated savings of those born from the late 1930s to the late 1940s, of men who had scrimped and scrounged all their lives and who now, in their 40s and 50s, had decided it wouldn't hurt to spend a bit of what they had. Every day the stock and real estate markets added more to each individual's wealth than the insignificant drain brought about by whiskey and gold flakes.

It was all driven by savings, people said. And by technological innovation, and by the "partnership" between Japanese industry and government. The real money supply (the money supply adjusted for inflation), was booming along at a 10 percent growth rate, but that had nothing to do with it. Land and stock prices would always rise. So confident were investors that stock price would always go up, that Japanese companies were issuing equity-linked convertible bonds with scarcely a visible interest rate. Who needed interest coupons, when the value of the stocks the bond was exchangeable for was going to the moon? Stock brokers made secret verbal promises to large customers, "guaranteeing" that prices would not decline.

Everyone was in on the stock game, even manufacturing corporations. Equity and equity-related sources of funds for manufacturing companies rose from 25 percent in the first part of the 1980s to 70 percent by 1989. And what did manufacturing companies do with the money? Forty percent of the funds raised were invested in other financial assets. That is, instead of producing goods, the companies issued stock and then used a good chunk of the funds to purchase other financial assets. Who needed banks, when money was available for free in the stock market? And why bother making widgets, when there were so many attractive financial assets to buy with the new funds? There was a seemingly free lunch and it was called Stock Market Boom.

Banks, meanwhile, turned to the real estate market. As banks' watched their lending base to manufacturing fall (from 50 to 16 percent over the course of the 80s), the banks turned around and lent to households, property companies, and service firms. And what did these latter entities do with the money? They plowed it back into land and stocks, because the prices of these, everyone knew, would continue to go up. And go up they did--just as long as the money kept flowing in. Japanese banks expanded around the world, financing properties everywhere. They underwrote municipals bonds. They bought shares in the U.S. government, financing a good piece of the U.S. deficit. The yen was king. Long live the yen. And if stocks went down? Well, that wouldn't happen. The government wouldn't allow it.

Flash forward to Hong Kong in May 1997.

Red Chips

"Red chips" are stocks issued by Chinese companies in the Hong Kong stock market. Everyone wants red chips. There is red chip mania, especially for a company called Beijing Enterprises. Chinese companies like this one are considered a sure bet. These companies have political connections to the Communist Party hierarchy in Beijing. The Beijing bureacrats will look after the company's welfare and will protect its share price, investors are saying. It would look bad if stock prices fell after the Chinese take-over of Hong Kong, the same investors whisper. Buying shares in Chinese companies is not only a good investment, it's good insurance. Everyone knows that.

There is nothing quite like Capitalists exercising their faith in Communism. For Beijing Enterprises is only three months old. It is the investment arm of the Beijing municipal government. And it owns, well, some McDonald's restaurants in Beijing. But never mind all that: the not-yet-issued shares have been oversubscribed by a factor of 1200. In fact, the issue seems to have attracted investment capital of about HK 200 billion, or about twice the Hong Kong money supply. People have withdrawn so much cash as a consequence of the issue, that Hong Kong banks have asked Beijing Enterprises not to cash the checks it has received--at least not until the banks can deal with their shortage of vault cash. That presumably will happen when 1199 of each 1200 would-be investors, who are not lucky enough to be awarded shares, redeposit the money in their Hong Kong bank accounts, and disappointedly await the arrival of the next new red chip.

Yes, the free lunch had come to Hong Kong in 1997. And, as in Tokyo in 1989, it was called Stock Market Boom. And nowhere was the boom bigger than in the stock of mainland Chinese government companies. Some investors explained to the newspapers that it didn't matter if they didn't know what the assets of Beijing Enterprises were. They were just planning to resell their shares for a quick profit, anyway. And how could they be sure of a profit? Well, remember: Stock prices always go up. And the shares of Beijing Enterprises performed as required: the price quadrupled in just the first day of dealing.

The naive faith in the China connection reminds one a little of the Stockholm Syndrome, the name given to the phenomena of kidnap victims adopting the point of view of their kidnappers. Kidnappers, after all, control every facet of their victims' lives. The primal survival mechanisms of the kidnap victim kick in and respond to that basic environmental reality. Soon a kidnap victim starts to believe his kidnapper's cause is just. And the investors of Hong Kong likewise started to believe that Chinese Communists will save Hong Kong Capitalism--at least where the stock market was concerned. In any event, Stock Market Mania trampled disbelief underfoot in its onward surge in search of the sure thing.

Soon thereafter, in June 1997, trading in red chips drove Hong Kong's Hang Seng index above 15,000. About 50 red chips made up 11 percent of stock market value, but had accounted for about 25 percent of trading for the year. China, for its part, was alarmed at all the confidence demonstrated. It decided to impose listing restrictions, requiring all share issues to be reported to the China Securities Regulatory Commission. This was intended to impose quotas on stock issues by Chinese companies in foreign markets. Only companies that kept their assets at home in China for at least three years would be permitted stock issues.

Then the rumor spread that mainland Chinese investors were buying into Hang Seng bank. So the shares of Hang Seng subsequently soared, as Hong Kong investors rushed to imitate the wiley mainlanders--you know, those people so well-versed in Capitalism. Only a few months later, in October, as the Hong Kong market crashed below 10,000, there would be references to the Asian "disease", a supposedly mysterious financial flu that was spreading from Hong Kong to Wall Street. Clearly, there was a Hong Kong disease, but it was not any different from the Japanese disease of 1989. Or the Wall Street disease of 1997. The disease was Stock Market Mania and wildly inflated stock values. The inevitable result of the mania was a collapse of prices as the money flowing into the market could no longer be sustained. The money flows had followed the vision, the belief in ever-rising prices. But once the money ran out, the self- sustaining nature of the vision collapsed along with demand for stocks.

I have a 1913 bond certificate that I keep around for perspective. The bond was issued by the Government of the Chinese Republic: the 5 percent gold loan of 1913 for the Lung-Tsing-U-Hai Railway. The financing was remarkably international for the day. The bond certificate is printed in both French and English. The loan is denominated in British pound sterling. And the bonds were issued in Brussels.

I purchased the bond certificate complete with some associated coupons, payable every six months on January 1 and July 1, from January 1943 to January 1961. No one had ever tried to collect these coupons, because there was no point to the attempt. The loan had been rescheduled to 1/2 percent in 1936, with interest payments rising gradually to 4 percent in 1941 and thereafter. But then the war intervened, and payments ceased altogether. And there was a revolution in China. And somewhere, some small investor who had expectations of an easy life of clipping coupons until the Year 1961 was forced to abandon his vision and return to the drawing boards.

Foreigners who put their faith in China are apt to be disappointed.


Back in Tokyo in 1989, life underneath the train tracks seemed an alternative reality--a Japanese underground operating beneath the techno-veneer. People seared meat over open fires. Tarpaulin-covered entry ways revealed stairways leading to underground rooms beating out rock music. Artisans hawked their wares, much like on Berkeley's Telegraph Avenue. Galen and I crowded into the counter of a small diner and pointed to the sushi dishes we wanted. I had to insist on extra wasabi. Young Japanese raised their beers in salutes. There was the same upbeat atmosphere here as everywhere else. Tokyo was a happening place, and everyone knew it.

The Nikkei 225, floating at 39,000 in 1989, fell 64 percent by mid-1992. Property prices had dropped by a similar amount. Neither the whiskey nor the gold flakes nor the infectious hubris was able to keep prices pumped up. Some blamed the fall on monetary restriction, but monetary policy had mysteriously tracked the mania rather precisely, making it difficult to tell which was cause and which was effect--except by prior conviction. The rate of growth of the real money supply had fallen to minus 2 percent by 1992, a year in which industrial output fell by 8 percent, the worst since the oil-shocks of the mid-1970s. And the drop in land and stock values had already put the banking system into jeopardy. Corporate stock held by Japanese banks is counted as part of bank capital: 55 percent of unrealized stock capital gains can be applied to the 8 percent Basle banking capital ratio. Thus bank capital fluctuates with the stock market. This was one of the reasons the Ministry of Finance in early 1993 used money from the postal savings system to purchase stock in an attempt to bolster stock prices. The absurd notion appeared to be: "If we just spend more funds on the purchase of stock in the secondary market, the banks will be better capitalized." Accounting prestidigitation.

By 1994 Japanese companies had begun the process of redeeming Yen 14 trillion ($140 billion) worth of convertible bonds. They discovered that in a stock market environment where prices went down as well as up, they had to pay real interest. Few bondholders were converting their bonds into equity, because the cash principal of a bond was more valuable than the stock it was tradable for. So companies had to pay back real money instead of printing it in the form of new equity. The seeming free lunch was over. But the pain was only beginning. Up until then, the engine of a huge trade surplus ($118 billion in 1992) had kept Japan out of deep recession. But this trade surplus was threatened by a rising yen, which hit Yen 100/$ in June 1994. The U.S., which the previous year had enacted the biggest tax increase in U.S. history, meanwhile urged Japan to cut its own income taxes, and to not go through with a contemplated 3 percent increase in consumption taxes. (The U.S. excels in prescribing cures for other countries.) Deflation in Japan was well underway: wholesale prices had been falling for two years. Banks eagerly looked for the resumption of the boom that would again buoy stock and land prices, and bail them out of their problem loans. They waited, and fudged their accounting records, but the boom never appeared.

By 1997 the Japanese banking problem had been growing for years. Only a fool would believe it could be fixed overnight. At the beginning of the year, 9 out of 10 of the world's largest banks--in terms of loans outstanding--were Japanese. That's a funny measure: loans outstanding. It's easy to make loans. Collecting on them is another matter. And Japanese banks had a notoriously poor return on assets. But they were the mainstay of project financing in Hong Kong and Thailand (just as Korean banks were critical to Indonesia). A Japanese banking crisis is Thailand's problem and Hong Kong's problem, and Indonesia's problem also, not just Japan's. Japanese banks, for example, provided 30 percent of the first syndicated loan for Hong Kong's new airport. They also supplied capital to Japanese manufacturers setting up shop in Thailand. At the end of 1996, Japanese banks had $37 billion on loan to Thailand and $22 billion to Indonesia.

In all, Japanese banks were sitting on $250 billion of problem real estate loans. And capital ratios had also worsened as stock market values fell in line with property values. How much capital ratios had fallen was difficult to say. For one bank, Yasuda Trust, the unrealized stock gain contribution to bank capital apparently went to zero when the Nikkei hit 18,200. Fuji bank's hit zero at 16,100. Other banks--like Sumitomo, Sakura, and Tokai--topped up their capital by simply issuing new shares in the already weak stock market.

Wouldn't it be a nice time to deregulate the banking system? Prime Minister Hashimoto asked. Everything else had failed. Why not attempt some market discipline? Work began on Japan's "Big Bang", or some PR to that effect, anyway. Japan's deregulation of the financial sector was to be completed by 2001, along with deregulation of telecommunications and the electrical industry. The banks had loved being regulated, of course. It had kept the interest rates they had to pay on deposits low. And it had kept out foreign competition: since each new banking service had to be approved by the Ministry of Finance, foreign banks could not enter the market with new financial products (such as securitized mortgages) that had been developed and tested elsewhere.

The banking sector was not the only problem area. In April 1997, Nissan Mutual Insurance Company--Japan's 16th largest life insurer--collapsed, highlighting the problems that existed in the insurance sector also. The insurance industry controls about one- eighth of Japan's savings, including pension money. The problems for Nissan's collapse were much the same as those for the banks: poorly managed exposure to the property and stock markets. It was the first Japanese insurance company since World War II to go under. Nissan had caught the stock market fever also. It sold bonds offering what were relatively high rates of interest for Japan. These bonds were collateralized with real estate and equities, whose price was expected to appreciate by more than the interest rates paid on the bonds. But then land and stock prices collapsed, and Nissan Life was stuck with depleting its capital in order to meet its interest payments. When it went under, Nissan's liabilities exceeded its assets by 200 billion yen. Some estimate that the entire Japanese life insurance industry was insolvent by 1997.

Then in November, the financial institutions began falling like dominos: Sanyo Securities, Hokkaido Takushoku Bank, Tokuyo City Bank, and Yamaichi, one of the "Big Four" security firms. Yamaichi, the former chairman Tsugio Yukihira admitted, had been bankupt for several years. Yamaichi had promised some investors a guaranteed return on corporate stock, and had eaten the stock losses, hiding away the losses in offshore corporations in the Cayman Islands. The hidden loses appeared to be about $2 billion (Yen 264 billion). Concealment had been going on since 1991. "If my company had disclosed problem assets," Yukihira explained, "it would not have been able to survive." But hiding the problem assets had not kept the money going out the door from exceeding the amount coming in. Once all the firm's capital was depleted and no more could be borrowed, there was nothing to do but shut the doors anyway.

The "Japan premium"--the country premium above the U.S. Treasury yield that Japan pays to borrow dollars--increased to as much as four percentage points for still going institutions like Nippon Credit Bank. The debt of other banks, such as Yesuda Trust's, was downgraded to junk status by the U.S. rating agency Standard & Poors. Two-thirds of all Japanese corporations had reported losses in the latest fiscal year. That was believed to be a simple reaction to Japan's effective 50 percent corporate tax rate--much higher than all its neighbors and competitors. But maybe not. Maybe the losses were real.

The closing of Yamaichi was the most recent episode of a continuing melo-tragedy that had begun earlier in the summer in Thailand.

One Night in Bangkok

The value of the Thai baht was the first to do. Thailand called in the IMF at the end of July 1997. At the beginning of the month, the Bank of Thailand floated the baht, and it fell 25 percent or so against the dollar over the course of the month. When the IMF was approached, the governor of the Bank of Thailand promptly resigned, following by the "permanent" secretary at the finance ministry. A few months later, the Prime Minister, General Chavalit Yongchaiyudh, would also resign.

Some blamed it all on Soros Fund Management, which was believed to have sold large amounts of baht forward. But if George Soros didn't exist, he would have had to have been invented. The currency was sure to depreciate one way or another. The process was an old story. The Thai baht was pegged to a basket of currencies, the principal one of which was the U.S. dollar. So local companies and financial institutions, operating under the assumption the central bank would absorb all foreign exchange risk (the free lunch), borrowed in foreign markets at low intererest rates, and plowed the money back into local real estate. There was a building boom, a speculative property bubble. Between 1991 and 1996 Thailand's foreign debt rose from $18 billion to $62 billion. Credit extended to the private sector rose from 88 percent of Gross Domestic Product to 135 percent.

When the baht fell against the dollar, the value of foreign debt increased (that of Siam Cement, for example). The central bank also raised interest rates to make baht deposits more attractive, and this further squeezed property developers and those who financed them. Other Thai companies also found themselves unable to meet their debt payments, and the banks who lent to them were hurting. In October, spreads on sovereign Thai bonds were 500 basis points (5 percentage points) over U.S. Treasuries--a level at which coporate junk bonds could be expected to trade. In November, Advance Agro, a Thai pulp and paper company which had most of its costs in baht and most of its revenues in dollars, issued 10-year U.S. dollar bonds at an amazing 911 basis points over U.S. Treasuries, and paid its investment banker (Morgan Stanley Dean Witter) a fee of 4 percent for the privilege. (The main buyers of the Advance Agro bonds were U.S. junk bond specialists.)

The same month, the Japanese firm Toyota, which had 30 percent of the local car market, announced it was suspending production in Thailand. Since the crisis in Thailand began in July, 58 finance companies had been closed. Many Thai companies were plundering their own assets, trying to spirit them away before the banks took control.

Indonesia: No Dollars in Stock

Now we come to the land of the land of Clinton-benefactor Mochtar Riady. Indonesia is the world's fourth most populous country. In Indonesia they blame the financial crisis on the Koreans. The banks of South Korea wouldn't roll over their short term loans to borrowers in Indonesia. And that lead to the crisis, to a scramble for dollars, the local bankers say. As usual, the story starts in mid-paragraph. "It all began when he hit me," you say. But before that, you hit him. And before that, he ran over your dog. And before that . . .

The run on the rupiah started in August 1997. The central bank floated the currency and it fell to an all-time low of Rp. 2950 against the U.S. dollar--a drop of about 20 percent from the beginning of the year. At that time, the money-changers ran out of U.S. dollars and gold, and George Soros was not even there to drive them out of the temple. "We don't have dollars in stock now," said a spokesperson for the Jakarta money-changing company Sinar Iriawan. "Dollar Rockets" read the headline in a Kontan newspaper. It was hard to tell if the reference was to price altitude or to the explosive disappearance of U.S. bucks.

The rupiah's fall--it continued to drop to Rp. 4000 to the dollar--was not surprising. The currency had long been treated as the private spending script of President Suharto and his relatives. A good chunk of the banking industry was all in the family, so to speak. In November the IMF was called in for a $23 billion dollar "stabilization program" (which includes the contributions by the World Bank and Asian Development Bank, and $5 billion from a mysterious contingency fund). The IMF demanded the closure of 16 banks. It didn't, after all, want to be seen as pouring the money directly into Suharto's pockets. But a hue and cry nevertheless emerged from Suharto's relatives. One son, Bambang Trihatmodjo, who was a principal shareholder in Bank Andromeda, filed a lawsuit against the finance minister, claiming a plot to discredit the family. Suharto's daughter, Tutut, also joined the battle even though her bank was not on the list of 16, as did Suharto's brother-in-law, Probosutejo, owner of the now-closed Bank Jakarta. Two of the banks that were shut down were owned by the brother of industrialist Eddy Tansil. Eddy Tansil had escaped from jail in 1995 and become a fugitive after being convicted for defauding a state bank (Bank Bapindo) of $430 million.

Indonesian banks had also discovered what the Japanese call zaitech, or interest arbitrage. The free lunch in this case involved borrowing U.S. dollars at 7 percent interest and purchasing rupiah instruments which paid 19 percent. They could earn 12 percent interest without investing any capital! The profitability of the game hinged, of course, on the assumption the rupiah would not depreciate against the U.S. dollar by more than 12 percent in the interim, and that the issuers of the local currency instruments would not default. But for those who don't believe in free lunches, it was inevitable that the rupiah's value would adjust to eliminate the positive profit that could be earned on zero capital investment, or that there would be local defaults, or both. And that's exactly what happened. Both.

Beijinxed in Hong Kong

On Black Thursday, October 23, 1997, Hong Kong's Hang Seng index fell over 1200 points, plunging below 10,000. That was the largest point drop in its short 14-year history. The stock market was down 35 percent for the month. On October 6 it still stood above 15,000. But somehow commentators failed to note the connection between the deflating stock market and previously inflated stocks like Beijing Enterprises-- which had been oversubscribed in an amount equal to twice the Hong Kong money supply. Stocks that can quadruple in a day can also plunge to a quarter their previous valuation. Red chips were down 50 percent for the month. A new red chip, China Telecom, making its public debut on Black Thursday, failed to meet its issue price.

When China's President Jiang Zemin arrived in Washington, D.C. in late October 1997, he discreetly avoided the subject of China's most recent foray into markets. Yes, like the pundits had said, the crash had put some egg on China's face. But, unlike what the pundits had believed, China had said nothing and done nothing to preserve the inflated value of red chips.

And suddenly foreigners were discovering all sort of problems with Hong Kong. The hotels were too expensive. Japanese travelers, in particular, claimed they were being gouged. Tourism from Japan was down 50 percent. Airline passengers on Cathay Pacific were down 60 percent. Property was too expensive. Land prices were as bad as Tokyo's. One real estate mogul, Li Ka-shing, was said to have lost a billion US dollars the week of the crash. Hong Kong was uncompetitive because the Hong Kong dollar was overvalued. The Hong Kong/U.S. dollar exchange peg (7.78 Hong Kong dollars to one U.S. dollar) was in doubt, which in turn put the external value of foreign investments in Hong Kong in jeopardy. Better to switch into U.S. dollars, people thought. High interest rates were needed to defend the Hong Kong currency. Low interest rates were needed to keep up property values. What's a central government to do? Singapore, anyone?

Hong Kong's chief executive (yes, Hong Kong has a chief executive), Shanghai businessman Tung Chee-Hwa--Hong Kong's answer to Franklin Delano Roosevelt-- whipped out his solution: a boost in health, education, and welfare spending. And a massive social program of home construction, so every Hong Kong citizen could acquire his own home. (He didn't say anything about a chicken in every pot.) The fundamentals are fine, he said. Meanwhile, the public, not so sure of all this, made runs on various firms to redeem vouchers. There was a run on the International Bank of East Asia by customers with savings account vouchers. There was a run on the Saint Honore cake shop by holders of cake vouchers. And those with gift vouchers from the Whimsey Entertainment games arcade center mobbed that establishment.

Hong Kong had long been ruled by a British-Chinese oligarchy. It was never a democracy. Recently, it has gone from British rule to Chinese rule with scarcely a free breathing space in between. Hong Kong was founded by British traders as the principal base for exporting opium into China. When China resisted the trade, Britain twice went to war with China, forcing it to accept opium imports. The current nostalgia over Hong Kong's British legacy arises mainly from some of Britain's leading families whose fortunes were built on the drug trade. It was only in 1991 that Britain allowed Hong Kong citizens to vote in direct elections. Now a purely Chinese oligarchy has taken control.

Nevertheless, Hong Kong became an economic powerhouse because the government stayed out of the economy. One could get rich by hard work: taxes were only 15.5 percent. And there was no public social security with its vaste distortions of government-directed capital investments. Instead, families saved for their retirement. How long will it take for the Beijing bureaucrats to turn Hong Kong into a replica of the rest of China? How long before the Shanghai stock market overtakes Hong Kong's? Maybe not for a while. Hong Kong is China's nexus to the expatriate Chinese community. Chinese expatriates dominate trade and finance everywhere in East Asia with the exceptions of Korea and Japan. Chinese expatriates hold the keys to foreign investment in China. Maybe China won't suck Hong Kong dry right away. Maybe.

Seoul Survivor

South Korea was once the mightiest of the Asian tigers. South Korea grew more than 8 percent a year for three decades. South Korea didn't need international bailouts like those Latin American basket cases south of the U.S. border. South Korea certainly didn't need the IMF, everyone was saying. It just needed, well, some help in stemming the fall of the won, without having to blow its own $30 billion (or was it only $20 billion?) in foreign currency reserves in the process. The central bank needed the dollars for Korean companies: there were about $70 billion in foreign loans coming due by the end of the year. Maybe the U.S. and Japan could help out. South Korea, after all, bought all those American and Japanese goods. It was the world's 11th largest economy.

That was what was being said on Wednesday, November 19, 1997. But why was the won falling? If things were so wonderful, why were the finances of the chaebol, the conglomerates, in such bad shape? Did it have something to do with the continued overvaluation of the local currency? Were foreign exchange reserve low because the central bank had been selling dollars too cheaply? The government announced it would now widen the trading band of the won, then at 1035 per U.S. dollar, to 10 percent either way from 2.25 percent up or down. But, meanwhile, the opposition candidate Kim Dae Jung said he would bring in the hated IMF. So, only two days later, on Friday, November 21, 1997, the South Korea government of Kim Young-sam quickly decided it too wanted IMF money in a big way: $20 billion worth. That number was chosen as the arithmetic mean of the $17 billion provided to Thailand and the $23 billion provided to Indonesia. Twenty billion here. Twenty billion there. Pretty soon we're talking real money. But Korean newspapers called the IMF assistance a "national shame" and "a loss of economic sovereignty".

Over in Indonesia some of the bankers, still fuming from the failure of South Korea's banks to roll over short-term lines of credit, clapped their hands in glee over Korea's difficulty. In Washington, the IMF's managing director, Michel Camdessus, also rubbed his hands in satisfaction, since handing out money was the source of his social prestige and political power. (If he had looked a little closer to home, the Frenchman Camdessus would have noted that $20 billion was about what the Credit Lyonnais bailout would cost.) But faces were more sober in certain parts of Japan and Taiwan, especially among exporters who competed with Korean goods. If Korean goods were now cheaper in U.S. dollar terms, these exporters wanted like to see their own goods cheaper also. They began talking about a desireable depreciation of the Japanese yen and the Taiwanese dollar.

Twenty billion dollars would be plenty, said the new finance minister Lim Chang-yuel. That was on Friday, Nov. 21. But by Wednesday, Nov. 26, South Korea had decided it really needed about $50 billion. That would make it the biggest IMF bailout in history, bigger than Mexico's. South Korea was looking increasingly like one more basket case. President Kim, Korea's answer to Roger Babson, told the nation the problems were caused by the selfishness of corporate managers and workers. The managers borrowed too much to satisfy their edifice complex. The workers kept insisting on higher wages.

Underlying all the hoopla was the unstated reality. Korea was no more a free- market economy than the rest of Asia. Companies could not sack workers. Foreign banks could not own domestic banks. And privileged companies were saved by government intervention just like in the U.S. Sure, Korea had committed itself to deregulation in 1995 in order to secure OECD membership. But governments have a habit of maintaining tight control of financial markets, in order to siphon off resources, when times are good. When the controlled environment begins to fall apart, the government then agrees to "deregulation" and washes its hands of the whole affair--in hope that the ensuing adjustment will be blamed on the market mechanism, and not on the government. And why not? The con worked in the U.S. It worked in Japan. And it will work in Korea. One thing is certain: Korea's banks have problems. Non-performing loans are in the neighborhood of 20 percent.

The Korean stock market had initially rallied on the dubious assumption that IMF money represented a gift. Then some observers, not quite as brain-dead as the rest, realized that the loans were expected to be repaid. Korea already has one of the most highly indebted corporate sectors in the world. The fall in the stock market resumed. On Monday, Nov. 24, the stock market dropped 7.2 percent. Korea interest rates rose to 16 percent, which was four times the inflation rate. Samsung, the biggest of the chaebol, said it could no longer obtain funding to finish an automotive plant, nor would it be able to finance the second phase of its semiconductor plant in Austin, Texas. Coca- Cola, meanwhile, feeling Korea's pain, seized the chance to buy up cheap bottling plants there.


It may be, as they say, that Asia is the 21st Century. Certainly you can see it coming. Guests at the Imperial Hotel in Tokyo can now receive their own private e- mail address, as well as Internet and newsgroup access, for the duration of their stay. I'm sure Frank Lloyd Wright would have approved. It's a little piece of the future available to antediluvian nomads of the 20th Century.

But getting the rest of the country--far removed from the Imperial Palace--up to speed will not come easily. It may not come at all. It takes years to recover from an asset bubble. And what can be said of Tokyo is equally true of Hong Kong, Bangkok, Jakarta, Seoul, and Beijing. The financial crisis isn't over. The economic crisis isn't over. On Nov. 3, James Wolfensohn, President of the World Bank, said "the worst is over". He's wrong. The worst has only just begun.

And this is the way Asia will enter the 21st Century. Not with a bang, but a whimper.

November 29, 1997
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