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What Happened to the Asian Miracle? What Happened to the Asian Miracle?

The Asian Tigers n Throughout the 1990 s, Asian economies were reporting stellar rates The Asian Tigers n Throughout the 1990 s, Asian economies were reporting stellar rates of economic growth n n Per Capita income has increased by a factor of ten over the past 30 years. Asian countries attracted over half of all capital inflows to developing countries

The Asian Tigers: GDP Growth Country Korea Indonesia Malaysia Philippines Singapore Thailand 1992 5. The Asian Tigers: GDP Growth Country Korea Indonesia Malaysia Philippines Singapore Thailand 1992 5. 06 6. 46 7. 80. 34 6. 29 8. 08 1993 5. 75 6. 50 8. 35 2. 12 10. 44 8. 38 1994 8. 58 15. 93 9. 24 4. 38 10. 05 8. 94 1995 8. 94 8. 22 9. 46 4. 77 8. 75 8. 84 1996 7. 10 7. 98 8. 58 5. 76 7. 32 5. 52

The Asian Tigers Throughout the 1990 s, Asian economies were reporting stellar rates of The Asian Tigers Throughout the 1990 s, Asian economies were reporting stellar rates of economic growth n Suddenly, however, in the summer of 1997, Thailand devalued the Baht followed by devaluations of the Philippine Peso, the Malaysian Ringgit, then the Indonesian Rupiah n

The Asian Tigers The Asian Tigers

The Asian Tigers Throughout the 1990 s, Asian economies were reporting stellar rates of The Asian Tigers Throughout the 1990 s, Asian economies were reporting stellar rates of economic growth n Suddenly, however, in the summer of 1999, Thailand devalued the Baht; followed by devaluations of the Philippine peso, the Malaysian Ringgit, then the Indonesian Rupiah n Following the devaluation, the region suffered a major contraction and persistently lower rates of economic growth. n

The Asian Tigers: Post Crisis GDP Growth Country Korea Indonesia Malaysia Philippines Singapore Thailand The Asian Tigers: Post Crisis GDP Growth Country Korea Indonesia Malaysia Philippines Singapore Thailand 1998 -7 -13 -7 -1 -1 -11 1999 11 1 6 3 6 4 2000 9 5 8 4 9 5 2001 3 3 0 3 -2 2 2002 6 4 4 5 2 5

Why did Asia Collapse n Malaysian Prime Minister Mahathir Mohamad has been the wild Why did Asia Collapse n Malaysian Prime Minister Mahathir Mohamad has been the wild man of the Asian crisis, blaming all his problems on manipulations by Jewish speculators n Was the Asian Crisis due to irrational speculation or were there real structural problems in Asia?

The Good News n On the surface, the Asian economies looked very strong High The Good News n On the surface, the Asian economies looked very strong High rates of economic growth n High labor productivity growth n High rates if investment financed by high domestic savings n Low government deficits n

Investment Rates (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 Investment Rates (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 35 29 37 23 37 39 25 1994 36 31 40 24 32 40 23 1995 37 31 43 22 33 41 23 1996 38 30 41 24 35 41 21 1997 34 31 42 24 37 34 22

Savings Rates (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 Savings Rates (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 34 28 27 17 46 34 28 1994 34 29 33 20 50 33 26 1995 35 27 34 17 51 33 25 1996 33 27 37 19 51 33 25 1997 33 27 39 18 51 32 25

Labor Productivity Growth Country Thailand 1993 1994 1995 1996 1997 20 19 12 12 Labor Productivity Growth Country Thailand 1993 1994 1995 1996 1997 20 19 12 12 -5

Government Deficits/Surplus (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993. Government Deficits/Surplus (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993. 64. 23 -1. 46 15. 67 2. 13 -3. 88 1994. 32 1. 03 2. 44 1. 04 11. 93 1. 89 -1. 73 1995. 30 2. 44. 89. 57 13. 07 2. 94 -1. 09 1996. 40 1. 26. 76. 28 14. 01. 97 -1. 34 1997. 46 0 2. 52. 06 9. 52 -. 32 -1. 68

More Good News n Asian Stock and Real Estate Markets were booming More Good News n Asian Stock and Real Estate Markets were booming

Stock Market Indices Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1990 696 417 Stock Market Indices Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1990 696 417 505 651 1154 612 4350 1991 610 247 566 1151 1490 711 4600 1992 678 274 643 1256 1524 893 3377 1993 866 588 1275 3196 2425 1682 6070 1994 1027 469 971 2785 2239 1360 7111

However, underneath the good news…… n Was Asian growth due to “inspiration” or “perspiration”? However, underneath the good news…… n Was Asian growth due to “inspiration” or “perspiration”?

However, underneath the good news…… n Was Asian growth due to “inspiration” or “perspiration”? However, underneath the good news…… n Was Asian growth due to “inspiration” or “perspiration”? n All the Asian countries had very high rated f labor productivity growth, where labor productivity is defined as LP = Y/L (real output per labor hour) n This measure of productivity omits an important input

Sources of Economic Growth n Recall, that we assumed three basic inputs to production Sources of Economic Growth n Recall, that we assumed three basic inputs to production

Sources of Economic Growth n Recall, that we assumed three basic inputs to production Sources of Economic Growth n Recall, that we assumed three basic inputs to production Capital (K) n Labor (L) n Technology (A) n

Sources of Economic Growth n Recall, that we assumed three basic inputs to production Sources of Economic Growth n Recall, that we assumed three basic inputs to production Capital (K) n Labor (L) n Technology (A) n n Growth accounting attempts to separate the growth effects of each input

Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = 70%

Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = 70% Step 2: Estimate capital, labor, and output growth %Y = 5 %K = 3 %L = 1

Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = 70% Step 2: Estimate capital, labor, and output growth %Y = 5 %K = 3 %L = 1 Productivity growth will be the residual output growth after correcting for inputs

Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = 70% Step 2: Estimate capital, labor, and output growth %Y = 5% %K = 3% %L = 1% Productivity growth will be the residual output growth after correcting for inputs %A = %Y – (. 3)*(%K) – (. 7)*(%L)

Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = Growth Accounting Step 1: Estimate capital/labor share of income K = 30% L = 70% Step 2: Estimate capital, labor, and output growth %Y = 5 %K = 3 %L = 1 Productivity growth will be the residual output growth after correcting for inputs %A = %Y – (. 3)*(%K) – (. 7)*(%L) %A = 5 – (. 3)*(3) + (. 7)*(1) = 3. 4%

Sources of US Growth 1929 - 1948 - 1973 -1982 -1997 Output 2. 54 Sources of US Growth 1929 - 1948 - 1973 -1982 -1997 Output 2. 54 3. 70 1. 55 3. 45 Capital . 11 . 77 . 69 . 98 Labor 1. 42 1. 40 1. 13 1. 71 Total Input 1. 53 2. 17 1. 82 2. 69 Productivity 1. 01 1. 53 -. 27 . 76

Productivity Growth in Thailand n Labor productivity growth in Thailand averaged around 15% in Productivity Growth in Thailand n Labor productivity growth in Thailand averaged around 15% in the 90’s, but how much of this was technological? %Y = 8 n %L = 3 n %K = 40 n

Productivity Growth in Thailand n Labor productivity growth in Thailand averaged around 15% in Productivity Growth in Thailand n Labor productivity growth in Thailand averaged around 15% in the 90’s, but how much of this was technological? %Y = 8 n %L = 3 n %K = 40 %A = 8 – (. 7)(3) – (. 3)(40) = -6 n

The Bad News n The growth in Thailand was attracting lots of foreign investment The Bad News n The growth in Thailand was attracting lots of foreign investment and was fueling an investment boom. n This boom was largely debt financed n However, without technological improvement, this growth is not sustainable.

Bank Lending (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 Bank Lending (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 54 48 74 26 84 80 137 1994 54 51 74 29 84 91 146 1995 56 53 84 37 90 97 149 1996 57 55 93 48 95 101 146 1997 61 69 106 56 100 116 146

Finances of Korean Chaebol (in 100 Million Won) Chaebol Jinro Sammi Halla New Core Finances of Korean Chaebol (in 100 Million Won) Chaebol Jinro Sammi Halla New Core Bongil Hanhwa Debt/Equity Sales Ratio 39 8598. 7 14. 8 25. 9 3245 53 63. 2 2067. 6 52. 9 25. 9 1224 18. 3 920. 5 8. 7 97. 2 778. 2 96. 9

Asian Financing n While these countries did have high domestic savings rates, much of Asian Financing n While these countries did have high domestic savings rates, much of the financing came from overseas

Current Account Balance (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan Current Account Balance (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993. 30 -1. 33 -4. 66 -5. 55 7. 57 -5. 08 3. 16 1994 -1. 02 -1. 58 -6. 24 -4. 60 16. 12 -5. 60 2. 70 1995 -1. 86 -3. 18 -8. 43 -2. 67 16. 81 -8. 06 2. 10 1996 -4. 75 -3. 37 -4. 89 -4. 77 15. 65 -8. 10 4. 05 1997 -1. 85 -2. 24 -4. 85 -5. 23 15. 37 -1. 90 2. 72

Foreign Debt (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 Foreign Debt (% of GDP) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1993 25 20 26 66 9 34 10 1994 25 18 21 62 10 33 10 1995 51 21 21 53 9 33 10 1996 50 24 27 49 12 50 10

Asian Financing n While these countries did have high domestic savings rates, much of Asian Financing n While these countries did have high domestic savings rates, much of the financing came from overseas n Further, a large fraction of this debt (20 -70%) was short term.

Asian Financing: Moral Hazard n. A further complication was that the Asian governments implicitly Asian Financing: Moral Hazard n. A further complication was that the Asian governments implicitly backed all private sector loans. This exacerbates the natural moral hazard problem already present in financial markets

The Beginning of the End n By the mid nineties, the profitability of Asian The Beginning of the End n By the mid nineties, the profitability of Asian companies began to fall

Return on Assets by Korean Chaebol Hanbo Sammi Jinro Kia Dainong 1992 1996 3% Return on Assets by Korean Chaebol Hanbo Sammi Jinro Kia Dainong 1992 1996 3% 2. 9% 2. 7% 18. 9% 6. 8% 1996 1. 7% 3. 2% 1. 9% 8. 7% 5. 5%

The Beginning of the End n By the mid nineties, the profitability of Asian The Beginning of the End n By the mid nineties, the profitability of Asian companies began to fall n As profits fell, loan defaults increased

Non-Performing Loans (% of Total Loans) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan Non-Performing Loans (% of Total Loans) Country Korea Indonesia Malaysia Philippines Singapore Thailand Taiwan 1996 8 13 10 14 4 13 3

To Make Matters Worse n Most countries were pegged to the dollar. As domestic To Make Matters Worse n Most countries were pegged to the dollar. As domestic inflation rates rose, they experienced a real appreciation against the US.

To Make Matters Worse n Most countries were pegged to the dollar. As domestic To Make Matters Worse n Most countries were pegged to the dollar. As domestic inflation rates rose, they experienced a real appreciation against the US. n As the dollar appreciated against the Yen, so did the Baht, Ringgit, etc.

To Make Matters Worse n Most countries were pegged to the dollar. As domestic To Make Matters Worse n Most countries were pegged to the dollar. As domestic inflation rates rose, they experienced a real appreciation against the US. n As the dollar appreciated against the Yen, so did the Baht, Ringgit, etc. n Japan slid into a recession in the early nineties.

Liquidity Problems n With exports falling, there was insufficient cash to refinance short term Liquidity Problems n With exports falling, there was insufficient cash to refinance short term borrowing n Further, many of these loans were dollar denominated, which put additional strain on dollar reserves (to maintain the peg)

Why not float? Why not float?

Why not float? n With many loans denominated in dollars, a currency depreciation raises Why not float? n With many loans denominated in dollars, a currency depreciation raises the value of the loan in domestic currency. n Domestic interest rates would have to be raised to attract capital (interest rates would need to compensate for the currency depreciation)

Is maintaining the peg better? Is maintaining the peg better?

Is maintaining the peg better? n Not really……. by maintaining the peg to the Is maintaining the peg better? n Not really……. by maintaining the peg to the dollar, the central bank must continue to buy up domestic currency which contracts the domestic money supply.

Enter the IMF n As the Asian debts piled up, the IMF (International Monetary Enter the IMF n As the Asian debts piled up, the IMF (International Monetary Fund) intervened. The offered emergency loans, but with strings attached.

Enter the IMF n As the Asian debts piled up, the IMF (International Monetary Enter the IMF n As the Asian debts piled up, the IMF (International Monetary Fund) intervened. The offered emergency loans, but with strings attached.

Enter the IMF n While the IMF did not insist that the countries maintain Enter the IMF n While the IMF did not insist that the countries maintain their pegs at all cost, they required three policies to “restore confidence” Raise interest rates n Balance Government Budgets n Conduct Fundamental Reform n

Did the IMF make things better, or worse? n Those countries that were able Did the IMF make things better, or worse? n Those countries that were able to meet the requirements slipped further into recessions n Those countries that couldn’t meet the requirements suffered further “investor confidence”

Malaysia opts out Malaysia, rather than accepting the IMF terms, chose to follow a Malaysia opts out Malaysia, rather than accepting the IMF terms, chose to follow a different strategy n Malaysia imposed capital controls which restricted capital flows out of the country. n This allowed Malaysia the freedom to follow more expansionary policies without worrying about losing foreign capital. n This strategy seemed to work in that Malaysia recovered faster than other countries. n

What’s the moral of the story In bad times, policies required to maintain external What’s the moral of the story In bad times, policies required to maintain external balance (currency value) turn out to be policies that would never have been considered in countries with a peg. n Typically, the better solution is: n n n Devalue, but devalue “enough” Drop the peg and concentrate on economic recovery.