Hostname: page-component-cd9895bd7-jn8rn Total loading time: 0 Render date: 2024-12-22T12:08:21.628Z Has data issue: false hasContentIssue false
  • English
  • Français

Financial crisis in East Asia: bank runs, asset bubbles and antidotes

Published online by Cambridge University Press:  26 March 2020

Marcus Miller  and
Pongsak Luangaram
Marcus Miller*
Affiliation:
Department of Economics, CSGR and CEPR, University of Warwick, Coventry, CV4 7AL
Pongsak Luangaram*
Affiliation:
Department of Economics, University of Bristol, Bristol, BS8 1TN
*
Tel: 44 1203 523 049. Fax: 44 1203 523 032. E-mail: marcus.miller@warwick.ac.uk.
Tel: 44 117 928 9006. Fax: 44 117 928 8577. E-mail: ecpl@bristol.ac.uk.
Get access Rights & Permissions [Opens in a new window]

Abstract

No one can deny the outstanding success of the East Asian economies in the last two decades of rapid economic growth backed by surging capital inflows. Key questions posed by the current crisis are: what went wrong, and why? how to fix it? and, how to prevent a recurrence? To answer them, the article begins with a brief overview of recent developments in the miracle economies of East Asia, focusing mainly on Korea, Indonesia and Thailand. We focus too on some of the shadows that came to darken the glittering success story—on declining competitiveness and growing financial vulnerability; and on regulatory failures in banking. Then we take a leaf from Charles Kindleberger's book (1996) on Panics, Manias and Crashes and discuss—with historical precedents—various types of financial crisis: speculative attacks on pegged exchange rates, asset bubbles, stock market crashes and bank runs. Based on the distinction between illiquidity, due to a shortage of cash, and insolvency arising from a failure of economic prospects, we go on to outline three main views of the current crisis.

First that it was simply due to reversal of capital flows, to a failure of collective action on the part of creditors which could and should have been solved by supplying extra liquidity—or by forcing creditors to roll over their loans. Second the view that the miracle had grown into a bubble that had finally had to burst: so the problem was essentially one of insolvency. Finally the view that we prefer, that the panic was not wholly groundless (and rescue efforts were bound to be difficult) mainly because weak regulation combined with implicit deposit guarantees had left local bankers free to gamble with the money that global capital markets had poured into their parlours. Panic set in when foreign depositors realised that there were not enough dollar reserves left for the guarantee to be credible. This account (championed most notably by Paul Krugman of MIT) involves both illiquidity and insolvency and helps to explain why the IMF was unwilling simply to throw money at the problem.

Why did the crisis spread like wildfire around the region? Was it because a bank run due to shaky fundamentals in one country was imitated elsewhere, as investors joined the herd heading for the exit? This and other accounts of contagion are discussed before turning to ideas for crisis prevention and management, and a brief account of future prospects for the region. The article concludes by outlining immediate steps to resolve the current financial crisis and by proposing international monetary reforms to prevent a recurrence.

Type
Articles
Information
National Institute Economic Review , Volume 165 , July 1998 , pp. 66 - 82
Copyright
Copyright © 1998 National Institute of Economic and Social Research

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

The Review is pleased to give hospitality to CLARE Group articles, but is not necessarily in agreement with the views expressed; responsibility for these rests with the authors. Members of the CLARE Group are M.J. Artis, T. Besley, A.J.C. Britton, W.A. Brown, W.J. Carlin, J.S. Flemming, C.A.E. Goodhart, J.A. Kay, R.C.O. Matthews, D.K. Miles, M.H. Miller, P.M. Oppenheimer, M.V. Posner, W.B. Reddaway, J.R. Sargent, M.Fg. Scott, Z.A. Silberston, S. Wadwhani and M. Weale.

This article has benefited substantially from suggestions made by the Clare Group and discussions with Luisa Corrado and Lei Zhang of Warwick University. Financial support from the ESRC, under project No. L120251024 ‘A bankruptcy code for sovereign borrowers’ is gratefully acknowledged. This article draws on joint work with Hali Edison of the Federal Reserve Board and with T.J. Bond of the IMF but the views expressed here are solely the responsibility of the current authors, and should not be interpreted as reflecting those of the Board of Governors of the Federal Reserve System, nor of the IMF and its Executive Board.

References

Allen, F. and Gale, D. (1997), ‘Bubbles and crises’, paper presented at CEPR/ESRC/GEI Conference on The Origins and Management of Financial Crises, Cambridge, England, July.Google Scholar
Bagehot, W. (1915), Lombard Street: A Description of the Money Market, London: Smith, Elder & Co.Google Scholar
Banerjee, A. (1992), ‘A simple model of herd behavior’, Quarterly Journal of Economtcs, vol. 107, pp.797–817.CrossRefGoogle Scholar
Bernanke, B. (1983), ‘Nonmonetary effects of the financial crisis in the propagation of the Great Depression’, American Economic Review, vol. 73, June, pp. 257–76.Google Scholar
Bhattacharya, A., Claessens, S., Ghosh, S., Hernandez, L. and Alba, P. (1998), ‘Volatility and contagion in a financially-integrated world: lessons from East Asia's recent experience’, paper presented at the CEPR/World Bank Conference on Financial Crises: Contagion and Market Volatility, London, May.Google Scholar
BIS (1998), Annual Report, Basle, Bank for International Settlements, June.Google Scholar
Bond, T.J. and Miller, M. (1998), ‘Financial bailouts and financial crises’, mimeo, International Monetary Fund, January.Google Scholar
Blanchard, O. (1979), ‘Speculative bubbles, crashes and rational expectations’, Economic letters, p.387–9.Google Scholar
Calvo, G.A. and Goldstein, M. (1996),‘Crisis prevention and crisis management after Mexico: what role for the official sector?’, Center for International Economics Working Paper, no.24, University of Maryland.Google Scholar
Campbell, D.E. (1995), Incentives: Motivation and the Economics of Information, Cambridge: Cambridge University Press.Google Scholar
Corsetti, G., Pesenti, P. and Roubini, N. (1998), ‘What caused the Asian currency and financial crisis?’, paper presented at the CEPR/World Bank Conference on Financial Crises: Contagion and Market Volatility, London, May.Google Scholar
Devenow, A. and Welch, I. (1996), ‘Rational herding in financial economics’, European Economic Review, no.40, pp. 603–15.CrossRefGoogle Scholar
Dewatripont, M. and Tirole, J. (1994), The Prudential Regulation of Banks, Cambridge, Mass : MIT Press.Google Scholar
Diamond, D.W. and Dybvig, PH (1983), ‘Bank runs, deposit insurance, and liquidity’, Journal of Political Economy, vol. 91, pp. 401–19.CrossRefGoogle Scholar
Dooley, M.P. (1998), ‘A model of crises in emerging markets’, NBER Working Paper, no.6300.Google Scholar
Drees, B. and Pazarbasioglu, C. (1998), ‘The Nordic banking crises: pitfalls in financial liberalization’, IMF Occasional Paper, no.161, International Monetary Fund, April.CrossRefGoogle Scholar
Edison, H., Luangaram, P. and Miller, M. (1998), ‘Asset bubbles, domino effects, and ‘lifeboats’: elements of East Asian crisis’, International Finance Discussion Papers, no.606, Board of Governors of the Federal Reserve System.Google Scholar
Friedman, M. and Schwartz, A. (1963), A Monetary History of the United States 1867-1960, Princeton: Princeton University Press.Google Scholar
Garber, P. (1990), ‘Famous first bubbles’, Journal of Economic Perspectives, vol. 4, pp. 35–54.CrossRefGoogle Scholar
Genotte, G. and Leland, H. (1990), ‘Market liquidity, hedging and crashes’, American Economic Review, vol. 80, pp. 999–1021.Google Scholar
Gerlach, S. and Smets, F. (1994), ‘Contagious speculative attacks’, CEPR Discussion Paper, no.1055.Google Scholar
Goldstein, M. (1997), ‘The case for an international banking standard’, paper presented at CEPR/ESRC/GEI Conference on The Origins and Management of Financial Crises, Cambridge, England, July.Google Scholar
Grossman, S. (1987), ‘An analysis of the implications for stock and futures price volatility of program trading and dynamic hedging strategies’, NBER Working Paper, no. 2357.Google Scholar
IIF (1998), ‘Capital flow to emerging market economies’, Institute of International Finance, (29 January 1998).Google Scholar
IMF (1997), World Economic Outlook: Interim Assessment, Washington, DC, International Monetary Fund, December.Google Scholar
Kindleberger, C. (1996), Manias, Panics, and Crashes: A History of Financial Crises, Third Edition, New York: John Wiley and Sons.Google Scholar
Kiyotaki, N. and Moore, J. (1997), ‘Credit cycles’, Journal of Political Economy, vol. 105, April, pp. 211–248.CrossRefGoogle Scholar
Krugman, P. (1979), ‘A model of balance-of-payment crises’, Journal of Money, Credit, and Banking, vol. 11, pp. 311–25.CrossRefGoogle Scholar
Krugman, P. (1987), ‘Trigger strategies and price dynamics in equity and foreign exchange markets’, NBER Working paper, no. 2459.Google Scholar
Krugman, P. (1990), The Age of Diminished Expectations, Cambridge, Mass: MIT Press.Google Scholar
Krugman, P. (1994), ‘The myth of Asia's miracle’, Foreign Affairs, 73(6), November/December, pp. 62–78.CrossRefGoogle Scholar
Krugman, P. (1998), ‘What happened to Asia’, mimeo, MIT, January.Google Scholar
Krugman, P. and Miller, M. (1993), ‘Why have a target zone?’, Carnegie-Rochester Conference Series on Public Policy, no.38, pp. 279-314.CrossRefGoogle Scholar
Lee, I.H. (1997), ‘Market crashes and information avalanches’, paper presented at CEPR/ESRC/GEI Conference on The Origins and Management of Financial Crises, Cambridge, England, July.Google Scholar
Lindgren, C., Garcia, G. and Saal, M. (1996), Bank Soundness and Macroeconomic Policy, International Monetary Fund, Washington.Google Scholar
Luangaram, P. (1997), ‘Credit constraints, collateral, and crisis: Thailand experiences and theoretical modelling’, MSc Dissertation, University of Warwick, September.Google Scholar
Mazumdar, S. (1997), ‘Regulatory monitoring, closure costs, and bank moral hazard behavior’, mimeo, Research Department, IMF, August.Google Scholar
Masson, P. (1997), ‘Monsoonal effects, spillovers and contagion’, paper presented at CEPR/ESRC/GEI Conference on The Origins and Management of Financial Crises, Cambridge, England, July.Google Scholar
Miller, M. and Zhang, L. (1998), ‘Sovereign liquidity crises: the strategic case for a payments standstill’, CEPR Discussion Paper no. 1820, February.CrossRefGoogle Scholar
Montgomery, J. (1997), ‘The Indonesian financial system: its contribution to economic performance, and key policy issues’, IMF Working Paper, WP/97/45, International Monetary Fund, April.Google Scholar
Obstfeld, M. (1994), ‘Logic of currency crises’, Cahiers Economiques et Monetaires, 43, pp. 189–213.Google Scholar
Obstfeld, M. (1996), ‘Models of currency crisis with self-fulfilling features’, European Economic Review, vol. 40, pp. 1037–48CrossRefGoogle Scholar
Obstfeld, M. and Rogoff, K. (1997), Foundations of International Macroeconomics, Cambridge, Mass: MIT PressGoogle Scholar
Radelet, S. and Sachs, J. (1998a), ‘The onset of the East Asian financial crisis’, mimeo, Harvard Institute for International Development, March.CrossRefGoogle Scholar
Radelet, S. and Sachs, J. (1998b), ‘The East Asian financial crisis: diagnosis, remedies, prospects’, Brookings Papers on Economic Activity, forthcoming.CrossRefGoogle Scholar
Rey, J.-J. (1996), The Resolution of Sovereign Liquidity Crises, Group of Ten Washington, DC: IMF.Google Scholar
Sachs, J. (1995), ‘Do we need an international lender of last resort ?’, mimeo, Frank Graham lecture, Princeton University.Google Scholar
Salant, S. and Henderson, D. (1978), ‘Market anticipation of government policy and the price of gold’, Journal of Political Economy, vol. 86, pp. 627–48.CrossRefGoogle Scholar
Soros, G. (1995), Soros on Soros: staying ahead of the curve, New York: John Wiley & Son.Google Scholar
Young, A. (1994), ‘Lessons from the East-Asian NICS-a contrarian view’, European Economic Review, vol. 38, pp. 964–73.CrossRefGoogle Scholar
Young, A. (1995), ‘The tyrancy of numbers: confronting the statistical realities of the East Asian growth experience’, Quarterly Journal of Economics, vol. 110, pp. 641–80.CrossRefGoogle Scholar