Handout 1

Globalization
in Development Finance
and Financial Crises
(For MABE Lecture)
Prof. Shigeru T. OTSUBO
GSID, Nagoya University
August 2003
1
Globalization
in Development Finance
and Financial Crises
Debt Crisis of 1980s (in Latin America)
Mexico’s Peso Crisis in 1994
Thailand’s Financial Crisis in 1997
Asian Financial Crisis (Contagion)
1997-1998-
“Tequila Effects to Tom Yam Effects”
2

Latin America
Debt Crisis of 1980s
to Mexican Peso Crisis of 1994
3
LA Policy Achievements
after the Debt Crisis
Fiscal consolidation
Trade reform
Privatization
4

Percent
8
Fiscal deficits fell
6
4
2
0
1980s
1990s
5
Percent
60
Tariffs cut
50
40
30
20
10
0
Pre-reform
Post-reform
6

Revenues from privatization,
1988-93
Latin America
E. Europe
East Asia
South Asia
Africa
0 10 20 30 40 50 60
7
(Billions of US dollars)
LA Fault Lines Exposed
Low savings
Inadequate competitiveness
Inappropriate resource use
Over-reliance on portfolio flows
8

Percent
35
30
Savings rates, 1991-93
25
20
Industrial countries
15
10
5
0
Latin America
East Asia
Africa
9
Percent
10
Share of world exports
8
6
4
2
0
1970 1986 1993 1970 1986 1993
Latin America East Asia
10

Percent of GDP
LA Current Account Deficit
3
2
1
0
1985-90 1991 1992 1993 1994 1995 1996 11
Consumption and Investment:
Change between 1985-87 and 1991-93
(% of GNP)
Consumption
Investment
15
10
5
0
-5
-10
Argentina
Brazil
Chile
Mexico
China
Indonesia
Korea
Malaysia
Thailand
Note: The years 1985–87 represent pre-inflow and 1991-93 post-inflow periods in this comparison.
For Korea, the average for the second period includes only 1991–1992.
Source: World Bank staff estimates.
12

Composition of private capital flows
Billions
$80
60
Bonds /
loans
(1988-93)
40
20
0
FDI
Portfolio
China
Mexico
13
Mexico’s Peso Crisis
In 1994, real GDP was growing at 3.5 percent, buoyed in part by NAFTA. Low inflation
(7%) with Exchange Rate Rationalization in 1992 with an adoption of a Crawling Peg.
(President Carlos Salinas de Gortari)
Privatization of Banks since 1991- (after nationalization in 1982). Banks were
overvalued in auctions due to a lack of information among investors. Banks lent
aggressively.
System-wide deposit insurance by FOBAPROA created Moral Hazard.
$-peg widened trade deficit. Mexico’s CA deficit widened to 7.6% of GDP (almost 8% in
1992-93), (fiscal deficit was) largely financed by S-T $-denominated Tesobonos issues.
Foreign reserves were actually increasing up to 1994.
The Chiapas uprising in January 1994 plus the assassination in March of the PRI
presidential candidate led to capital flight (mainly domestic investors).
Delayed release (non-release for 10 months) of data on the CB’s Foreign Exchange
Reserves. Investors realized that FER was not enough to honor Tesobonos obligations.
Full-fledged capital flight (incl. intn’l investors).
Newly-installed President Zedillo’s government announced a “one-time only” 15 percent
devaluation on December 20, but failed to stop the attack, floated peso on December 22
(60% depreciation in total by December 1995).
US came to rescue quickly with an expanded swap line in the Exchange Stabilization
Fund (totalled US$20 billion). IMF rescue with a $17.7 billion Standby Letter of Credit.
Mexico, in turn, pledged revenues from Pemex as collateral.
14

Mexico: Into an Crisis, Again
Liberalizing
Institution building
15
East Asia
Asian Financial Crisis of 1990s
Is the East Asian Growth (Model)
Invincible?
16

Asian Financial Crisis
-Thailand – Malaysia, Indonesia, Philippines
– HKSAR – Taiwan, Korea – Brazil, Argentina …. Contagion!!
Bangkok International Banking Facility (BIBF) opened in 1993 was not an Offshore
Financial Market.
The Asian Carry Trade. (Handout)
Capital Flow Reversals during the Mexican and Asian Crises. (Handout)
Real Estate and Stock Prices, a financial bubble. Started to decline in the second half of
1996. (Handout)
In addition, China’s Exchange Rate Rationalization in January 1994 (33%
devaluation). Poorer performance of Thai exports from the second half of 1996.
(Handout)
Doubt on the sustainability of the $-peg. Capital Flight. Hedge funds’ forward sales of
Thai Baht. (Handout)
Reserve Impact of BOT’s Forward Foreign Exchange Market Intervention. (Handout)
BOT’s announcement of a managed float on July 2, followed by the CB of Philippines
(July 11), Bank Negara Malaysia (July 14), and the CB of Indonesia (August 14).
(Handout)
New Taiwan Dollar’s depreciation (October 20) triggered turmoil in HKSAR (October
20-23). Downgrading of Korean and Thai sovereign ratings. DJIA down. Equity
markets in Brazil, Argentina, Mexico down. (Handout continued)
Comparison of BOP and External Debt among ASEAN4 and Mexico. (Next Slide) 17
18

EA Current Account Balance
Source: World Bank, World Development Indicators, 2000.
19
EA Fiscal Balance
Source: World Bank, World Development Indicators, 2000.
20

Asian Financial Crisis
Changes in Exchange Rates
(vs. US$, Benchmark: end June 1997)
Source: IMF, International Financial Statistics CD-ROM (March 2001).
21
Asian Financial Crisis
Changes in Output
(GDP Volume Index, 1995=100)
Source: IMF, International Financial Statistics CD-ROM (March 2001).
22

East Asia, too, is vulnerable to
violent forces of globalization…..
East Asian Growth Model
has been robust to trade integration.
has been robust to investment integration through
FDIs.
is not yet robust to financial integration through
portfolio equity and other S-T flows.
21 st Century-type Currency Crisis
* Banking Sector’s Balance Sheet with
- $-denominated S-T liabilities
- Weak (non-performing) domestic L-T credits
* Doubts on repayment capacity of that
$-denominated liabilities creates Capital Flight
23
East Asian Financial Crisis was…..
Not a Current Account Crisis.
But a Capital Account Crisis.
That requires different kind of medicine
(rescue package), different from the
standard IMF package.
And that requires deeper and more
sophisticated institutional reform.
24

Asian Financial Crisis
-A Fight Back ! -
Key Financial Sector Policy Responses to the Asian
Financial Crisis
- Thailand, Indonesia, Korea (Handout)
Malaysia’s Capital Controls (Handout)
IMF Rescue Package and Structural Adjustments in
Korea (Handout)
- Quick recovery due to expansionary policies that Korea
took.
- At the end, 5 out of 9 surviving major banks fell into
foreign ownership.
Problems are still embedded.
25