So far, the International Monetary Fund has arranged support packages for Thaila

nd, Indonesia, and South Korea, and extended and augmented a credit to the Phili
ppines to support its exchange rate and other economic policies. The three suppo
rt packages are summarized in Table 1. The total amounts of the packages are app
roximate because the IMF lends funds denominated in special drawing rights (SDRs
), and because pledged amounts may change as circumstances change. The support p
ackage for Thailand was $17.2 billion, for Indonesia about $40 billion, and for
South Korea $57 billion. The United States pledged $3 billion for Indonesia and
$5 billion for South Korea from its Exchange Stabilization Fund (ESF) as a stand
by credit that may be tapped in an emergency. The U. S. Treasury lends money fro
m the ESF at appropriate interest rates and with what it considers to be proper
safeguards to limit the risk to American taxpayers.
The support packages are initiated by a request from the country experiencing fi
nancial difficulty. This request then requires an assessment by IMF officials of
the conditions in the requesting nation. If a support package is approved, the
IMF usually begins with an initial loan of hard currency to the borrowing nation
. Subsequent amounts are made available (usually quarterly) only if certain perf
ormance targets are met and program reviews are completed. If the financial situ
ation continues to deteriorate, commitments for funds that have been pledged by
the World Bank, Asian Development Bank and certain nations may be tapped. The fu
nds borrowed by the recipient country usually go into the central bank' s foreig
n exchange reserves. These reserves are used to supply foreign exchange to buyer
s, both domestic and international.

Table 1. IMF Financial Support Packages

(Amounts in U.S.$Billion)
Thailand Indonesia Sou
th Korea
Date Approved
(1997)August 20 November 5
December 4
Total Pledged $17.2 $40
$57
IMF $3.9 $10.1
$21.0
U. S. None $ 3.0
$5.0
World Bank $1.5 $ 4.5
$10.0
Asian Development $1.2 $ 3.5
$ 4.0
Bank Japan $4.0 $ 5.0
$10.0
Others $6.6 $26.0
$ 7.0
Change in Exchange Rate -38% -81%
-50%
(7/1197- 1/22/98)
Change in Stock Market -26% -40%
-30%
(7/1/97-1/19/98)
Source: International Monetary Fund, Dialogue Database, Wall Street Journal, Fin
ancial Times.
In addition to support packages by the IMF, other international organizations ha
ve been addressing the Asian financial crisis. On November 3-5, 1997, the Group
of Fifteen developing nations met in Malaysia and developed a plan to avert rene
wed currency turbulence. In preparation for the Asia Pacific Economic Cooperatio
n (APEC) summit meeting, senior finance officials of APEC met in Manila on Novem
ber 18-19 and developed a framework for dealing with financial crises in the reg
ion. This Manila Framework was endorsed by the eighteen leaders of the economies
of APEC at the forum's annual summit in Vancouver, BC, on November 25, 1997. Th
e Manila Framework recognized that the role of the IMF would remain central and
included enhanced regional surveillance, intensified economic and technical coop
eration to improve domestic financial systems regulatory capacities, adoption of
new IMF mechanisms on appropriate terms in support of strong adjustment program
s, and a cooperative financing arrangement to supplement, when necessary IMF res
ources. 1
On December 1, 1997, the finance ministers of the Association of Southeast Asian
Nations (ASEAN-Indonesia, the Philippines, Singapore, Thailand, Malaysia, Myanm
ar, Brunei, Laos, and Vietnam) agreed to make additional funding available for a
ny future bailouts for troubled economies in the region. It would be provided on
ly if a country accepted an IMF support package and if ASEAN members consider IM
F funds to be inadequate.2 On December 15, 1997, ASEAN heads of state endorsed t
he Manila Framework, efforts of the IMF, decided to develop a regional surveilla
nce mechanism that would emphasize preventive efforts to avoid financial crises,
and reaffirmed their commitment to maintain an open trade and investment enviro
nment in ASEAN.3
The IMF and Stabilization Packages
The International Monetary Fund has been the key player in coordinating support
packages for the troubled Asian economies. The IMF says that it has learned from
the Mexican Peso crisis in 1995 and had instituted emergency procedures that en
abled it to respond to each the crises in each Asian country in record time.
The major objectives of the IMF are to promote stability, balanced expansion of
trade, and growth, but because of the Asian financial crisis, it has deepened it
s activities in four directions.4 They are:

strengthening IMF surveillance over member countries' policies,

helping to strengthen the operation of financial markets (technical assistance),
providing policy advice and financial assistance quickly when crises emerge, and
helping to ensure that no member country is marginalized (being left behind in t
he expansion of world trade and being unable to attract significant amounts of p
rivate investment). At the September 1997 annual meeting of the IMF in Hong Kong
, the Board of Governors approved moving ahead to develop an amendment of the IM
F Articles of Agreement to make the liberalization of international capital flow
s one of the purposes of the Fund. For the United States, this change would pres
umably require Congressional approval.
The Asian financial crisis also has raised several questions pertaining to IMF o
perations. The first is whether such crises have increased in scale and whether
IMF resources are sufficient to cope with them. (IMF funding is discussed in the
final section of this report on issues for Congress.) The second is whether the
Fund's willingness to lend in a crisis contributes to moral hazard (a tendency
for a potential recipient country to behave recklessly knowing that the IMF will
likely bail them out in an emergency). The third is whether the contagion of fi
nancial crises can be stopped effectively. The fourth is conditionality-whether
the changes in economic policy and performance targets that the IMF requires of
the recipient countries are appropriate and effective. The fifth is transparency
-whether the IMF releases sufficient information to the public, including invest
ors, on its program design and provisions imposed as a condition for borrowing a
llow for accurate assessment and accountability. The sixth is prevention-whether
the IMF has sufficient leverage over non-borrowing member countries to prevent
financial crises from occurring.5
With respect to the scale of financial crises, it is clear that recent liberaliz
ation of capital markets and advances in telecommunications have increased the s
cale of financial crises. The size of the support packages for South Korea and I
ndonesia have been unprecedented. The question is whether the IMF has sufficient
resources to handle more financial crises, particularly if they occur simultane
ously.
With respect to moral hazard, the opinion of the IMF is that governments in trou
ble usually are too slow in approaching the Fund for help because of the conditi
ons the IMF places on such support. According to the IMF, the real moral hazard
is not with governments engaging in unsound lending but that, because IMF suppor
t is available, the private sector may be too willing to lend. Private sector fi
nancial institutions know that a country in trouble will go to the Fund rather t
han default on international loans. 6 Others, moreover, assert that the IMF is p
erpetuating the moral hazard that lies at the heart of the problem for troubled
economies like South Korea-the absence of bankruptcy. Some corporations in certa
in countries have not been allowed to fail because of political or other reasons
. In the words of one commentator, "Capitalism without bankruptcy is like Christ
ianity without hell. There is no systematic means of controlling sinful excesses
."7
With respect to contagion, the track record of the IMF in stopping the spread of
the financial crisis within Asia has not been reassuring. Outside of Asia, howe
ver, the crisis has yet to spread, although currencies in Brazil and other count
ries also have depreciated somewhat.
With respect to IMF conditionality, this continues to be hotly debated with each
IMF support package. Some claim the monetary and fiscal policies required by th
e IMF are too stringent and slow economic growth too much. The World Bank, in pa
rticular, reportedly fears that the slowdown in economic growth in the troubled
Asian economies will only worsen their economic problems.8
With respect to transparency, critics of the IMF claim that the institution does
not release sufficient data to the public and investors who have financial inte
rests in the success or failure of the IMF support packages and who need more in
formation to devise effective strategies to cope with the crises.9 The IMF, howe
ver, does release more information now that it did previously. Also, the IMF may
leave it to the borrowing country to release detailed information.
With respect to prevention, the IMF has little leverage over member countries wh
o are not borrowers. Countries also have to assess the possibility of a future c
risis in light of immediate political exigencies-particularly elections. For exa
mple, prior to the financial crisis in Thailand, even though the IMF might have
warned the country that it was headed for trouble, it was difficult for the Thai
leaders to muster the political support to restructure the 58 financial institu
tions that eventually became insolvent. The IMF Support Package for Thailand
The support package for Thailand announced by the IMF on August 20, 1997, (event
ually worth $17.2 billion) included:
an IMF stand-by credit of up to SDR 2.9 billion 10 (about US$3 .9 billion) over
the ensuing 34 months to support the government's economic program [Of the total
, SDR 1.2 billion (about US$1.6 billion) was available immediately and a further
 SDR 600 million (about US$810 million) was to be made available after November
30, 1997, provided that end-September performance targets had been met and the f
irst review of the program has been completed. Subsequent disbursements, on a qu
arterly basis, would be made available subject to the attainment of performance
targets and program reviews.],
loans of up to $1.5 billion from the World Bank, and
loans of up to $1.2 billion from the Asian Development Bank. The package also in
cluded the following pledges
credit of $4 billion from Japan' s Export-Import Bank, and
credits of $1 billion each from Australia, Hong Kong, Malaysia, Singapore, and C
hina, and
credits of $0.5 billion from Indonesia, Brunei, and Korea (Korea's was later ret
racted). According to the IMF, the proceeds from the credits extended by the IMF
and the bilateral lenders are to be used solely to help finance the balance of
payments gap in Thailand and to rebuild the official reserves of the Bank of Tha
iland. ll
The IMF also placed certain conditions on Thailand. These reportedly included th
at the country commit itself to maintaining foreign exchange reserves at $23 bil
lion in 1997 and $25 billion in 1998, slash its current account deficit to about
5% of GDP in 1997 and to 3% of GDP in 1998, and show a budget surplus equal to
1% of its GDP in FY1998. The IMF Support Package for Indonesia
For Indonesia, the IMF announced a support package on November 5, 1997, that tot
aled $40 billion. The package included first-line financing amounting to about $
23 billion to include: 12
IMF standby credit of SDR 7.338 billion (about $10.14 billion) with SDR 2.2 bill
ion (about $3.04 billion) available immediately and further disbursements after
March 15, 1998, provided that certain targets have been met;
technical assistance and loans from the World Bank of $4.5 billion,
technical assistance and loans from the Asian Development Bank of $3.5 billion,
and
$5.0 billion from Indonesia's contingency reserves. In addition, a number of oth
er countries or monetary authorities have committed to provide a second line of
supplemental financing "in the event that unanticipated adverse external circums
tances create the need for additional resources to supplement Indonesia's reserv
es and the resources made available by the IMF." These include:
Japan-$5.0 billion,
Singapore-$5.0 billion,
United States-$3.0 billion
$1.0 billion each from Australia, Malaysia, China, and Hong Kong. . Previously,
Singapore also had promised an additional $5 billion to Indonesia in foreign exc
hange, if needed, to purchase rupiah. 13 Funds from the United States are in the
form of a back-up line of credit from the Exchange Stabilization Fund 14 at app
ropriate interest rates. The U.S. Treasury characterized this as contingent fina
ncial support to be used as a temporary "second line of defense" in the event th
at unanticipated external pressures were to give rise to a need to supplement In
donesia' s own reserves and the resources made available by the IMF. Since the f
und is under the control of the Secretary of the Treasury, use of its funds does
not require congressional approval. Treasury, however, has indicated that if fu
nds are disbursed, they would carry proper safeguards to limit the risk to Ameri
can taxpayers.15
As part of the support package, Indonesia was required to restructure certain ba
nks, dismantle a quasi-governmental monopoly on all commodities (except rice), c
ut fuel subsidies, increase electricity rates, increase the transparency of publ
ic policy and budget-making processes, and speed up privatization and reform of
state enterprises. It was not required, however, to change its national car poli
cy or aircraft development program. The IMF Support Package for South Korea
The IMF support package for South Korea was announced in Seoul on December 3, 19
97 and was formally approved by the IMF on the following day. It eventually cons
isted of $57 billion as follows: 16 * IMF - three-year standby credit of SDR 15.
5 billion (about $21 billion),
World Bank-$10 billion,
Asian Development Bank-$4 billion.
United States-$5 billion from its Exchange Stabilization Fund,l7
Japan-$10 billion,
$ 1 billion each from the United Kingdom, Germany, France, Australia, Canada, an
d Italy,
additional support from Belgium, the Netherlands, ana Switzerland. The funds are
contingent upon South Korea' s remaining in compliance with the IMF arrangement
.
In return for accepting the IMF emergency loans, Korea agreed to several conditi
ons and reforms in order to strengthen its economy. On the macroeconomic side, t
he conditions included:
reducing its current-account deficit to no more than 1% of GDP for 1998 and 1999
(about $5 billion),
capping its yearly inflation rate at 5% in 1998 and 1999,
building international reserves to more than two months of imports by the end of
1998, and
recognizing that economic growth (in terms of GDP) for 1998 would likely fall fr
om 6% to around 3%. In terms of financial restructuring, the IMF required a comp
rehensive restructuring and strengthening of Korea' s financial system in order
to make it more sound, transparent, and efficient. The strategy comprised three
broad elements: a clear and firm exit policy, strong market and supervisory disc
ipline, and increased competition. The measures included:
requiring that all banks that fail to meet the Basle Committee capital standards
be restructured and recapitalized to include mergers and acquisitions by foreig
n institutions and losses by shareholders,
replacing the government guarantee of bank deposits by the end of the year 2000
with a regular deposit insurance system,
upgrading accounting and disclosure standards to include audits of financial sta
tements of large financial institutions and semi-annual disclosure of nonperform
ing loans, capital adequacy, and ownership structures and affiliations,
requesting passage of legislation to make the Bank of Korea independent with pri
ce stability as its overriding mandate and setting up an agency to consolidate f
inancial sector supervision, and
allowing foreign banking and securities companies to establish affiliated compan
ies in Korea by the middle of 1998. In terms of structural policies, the IMF pac
kage required the Korean government to take several measures. These included:
setting a timetable in line with World Trade Organization commitments to elimina
te trade-related subsidies, restrictive import licensing, and Korea's import div
ersification program (aimed at Japan),
increasing to 50% (from 26%) the ceiling for foreign investment in listed Korean
firms and further increasing it to 55% by the end of 1998,
by the end of February 1998, taking steps to liberalize other capital account tr
ansactions, including restrictions on access by foreigners' to domestic money ma
rket instruments and corporate bond markets, and
easing labor dismissal restrictions under mergers and acquisitions and corporate
restructuring. 18 Frank-Sanders Amendment
The support packages of the IMF appear to be subject to the requirements of the
Frank-Sanders amendment (U.S.C. 22 § 262p-4p). Among its provisions, the Frank- Sa
nders amendment requires the U. S. Treasury to direct the U. S. Executive Direct
ors of the International Financial Institutions (such as the IMF and World Bank)
to use the voice and vote of the United States to urge the respective instituti
on to adopt policies to encourage borrowing countries to guarantee international
ly recognized worker rights and to include such rights as an integral part of th
e institution's policy dialogue with each borrowing country. In testimony before
the House Banking Committee in November 1997, the U.S. Treasury indicated that
it had "spoken out within the World Bank and IMF, in advancing the purposes of t
he Frank-Sanders Amendment, to promote measures that would help improve the cond
itions of workers in Indonesia, Thailand, and across the developing world.''l9 O
thers believe, however, that the IMF's Indonesian support package was not in acc
ord with the Frank-Sanders Amendment.20 Bailout?
IMF assistance to the above three countries has been criticized for "bailing out
" commercial banks and private investors at the expense of other less-favored gr
oups and U. S. taxpayers. The IMF insists, however, that its assistance has been
provided to support programs that are designed to deal with economy wide, struc
tural imbalances and not to protect commercial banks and private investors from
financial losses.21 A more stable exchange rate may contribute to a recovery on
stock markets or better business conditions, but there is no IMF "bailout" of sp
ecific investors.
As for bailouts of manufacturing or other nonfinancial corporations, the IMF cla
ims that there are no provisions in the IMF-supported programs for public-sector
guarantees, subsidies, or support for them. Shareholders and creditors bear los
ses, although individual governments may devise separate policies for dealing wi
th such cases. Any company in need of foreign exchange, however, usually is bett
er off when foreign exchange markets are stabilized.
As for financial corporations, the IMF recognizes that governments often guarant
ee accounts of certain categories of depositors (deposit insurance). Liquidity s
upport also can be provided to undercapitalized, but solvent, financial institut
ions. According to the IMF, however, such support normally requires that institu
tions be capable of actually being recapitalized and restructured to restore the
m to health.22
Imprudent lenders or investors in the recipient countries have not escaped real
losses. In Korea, for example, the operations of 14 of 30 merchant banks have be
en suspended. The remaining merchant banks also are to be closed unless they sub
mit rehabilitation plans. Two commercial banks in Korea also will be required to
be recapitalized and restructured. In Indonesia, 16 insolvent banks have been c
losed, and weak but viable banks have been required to submit rehabilitation pla
ns. In Thailand, 56 of 91 finance companies are to be liquidated. As for investo
rs in equity markets, they also have incurred losses. In January 1998, U. S. Fed
eral Reserve Chairman Alan Greenspan indicated that because of the financial cri
sis, foreign investors in Asian equities (excluding those in Japan) had lost an
estimated $700 billion-including $30 billion by Americans.23
Another aspect of moral hazard is whether the IMF support packages rescue credit
ors in New York Tokyo, and Europe from their poor lending decisions. There is li
ttle doubt that banks which have loans outstanding in Asia have much to gain by
a return to stability in Asian financial markets. To the extent that the IMF sup
port packages have contributed to that stability and to the extent that the infu
sion of dollars by the IMF has enabled borrowers or others in need of foreign ex
change to purchase more of it, U.S. banks and other creditors have gained. Banks
, however, still face large potential and real losses from their operations in A
sia.
For example, in 1997, the Asian turmoil reduced Citicorp's pretax earnings by ab
out $250 million.24 The Bank of America reported that as of December 31, 1997, i
t had assets of $24.0 billion in Asia (up from $20.4 billion in December 1996),
but net income from Asia had dropped from $224 million in 1996 to -$218 million
in 1997.25 During the fourth quarter of 1997, J.P. Morgan designated as nonperfo
rming approximately $587 million of its total $5.4 billion in loans, swaps, and
debt investment securities in Indonesia, Thailand, and South Korea. The bank rep
orted charge-offs of $24 million during the quarter-mostly related to Asia, and
considered about 60% of its total allowance for credit losses of $1 .081 billion
to be related to exposures in the three troubled Asian countries.26
Effects on the U.S. Economy The Asian Financial Crisis affects the U.S. economy
both in a macroeconomic and microeconomic sense. On the macroeconomic level, it
likely will affect the U. S. growth rate, interest rates, balance of trade, and
related variables. On a microeconomic level, it can affect specific industries,
each in a different way that depends on their relationship to the troubled Asian
economies.
The mechanism by which the U.S. macroeconomy is affected is through trade and ca
pital flows. The depreciation in the values of the South Korean won, Indonesian
rupiah, Singaporean dollar, Thai baht, Philippine peso, Japanese yen, Taiwan dol
lar, and other Asian currencies (except for the Hong Kong dollar and Chinese RMB
) combined with a slowing of growth and financial difficulties of banks and manu
facturing corporations in these countries is expected to increase the U. S. trad
e deficit. In the Asian countries, the immediate effect of the change in the val
ue of their currencies and outflows of capital is to reduce their trade deficits
, and, in some cases, to generate a trade surplus. This is already occurring in
South Korea. Much of this increased trade surplus for Asia is likely to come at
the expense of the United States.
The second macroeconomic mechanism by which the Asian financial crisis affects t
he U.S. economy is through capital flows. As the contagion began and Asian banks
and corporations began to face severe financial difficulties, a concern arose i
n the United States that Asian holders of American financial assets, particularl
y U.S. Treasury securities, might be forced to pull them out of the U. S. econom
y in order to generate much needed cash. It seems, however, that a "flight to qu
ality" occurred instead. Both American and foreign investors withdrew liquid cap
ital (by selling securities and not rolling over loans) from the troubled Asian
countries and moved them into the United States. This has eased the upward press
ure on U. S. interest rates and is likely to have a positive effect on U. S. eco
nomic growth. Economic Growth
Forecasters project that U.S. economic growth will slow by 1.3 percentage points
(or 34%) from 3.8% in 1997 to about 2.5% in 1998.2' (See Figure 3.) This U.S. s
lowdown is being caused primarily by two factors: the Asian financial crisis and
tightness in U.S. labor markets. Most forecasters estimate that the Asian finan
cial crisis will reduce U.S. growth in 1998 by 0.5 to 1.0 percentage point.
A comparison of forecasts for U.S. economic growth made in January 1998 with tho
se made before the onset of the Asian financial crisis in July 1997, however, re
veals one unexpected result. The forecasts for economic growth made in January 1
998, in most cases, were higher than those published in July 1997 before the cri
sis. The main reason for this seems to be that in mid-1997 forecasters were wary
of the Federal Reserve Board's concern over the run-up in the U.S. stock market
, tightening labor markets, and the likelihood that the Federal Reserve would ra
ise U.S. interest rates. These concerns were eased by the correction in the U.S.
stock market in October 1997 and by the financial turmoil in Asia. The rising U
.S. trade deficit with Asia, therefore, is expected to be offset by the easing o
f upward pressures on U.S. interest rates. Trade Deficit
Forecasters expect the 1998 U.S. trade deficit to increase significantly because
of the drop in the value of currencies in Asia, net capital inflows, and the sl
owdown in growth in those economies. (See Figure 4) The capital inflows into the
United States and outflows from the troubled Asian economies imply that the res
pective current accounts 28 must move in the opposite direction. For the United
States, a rise in the surplus in the capital account implies an offsetting rise
in the deficit in the U.S. current account - most of which is trade in goods and
services.
As shown in Figure 4, the consensus of 50 forecasters compiled by Blue Chip Econ
omic Indicators is for real net exports of goods and services to decline by abou
t $43 billion from an estimated -$146.3 billion in 1997 to -$189.2 billion in 19
98. Prior to the Asian financial crisis, the consensus forecast compiled by Blue
Chip Economic Indicators was for the balance of real U. S. exports and imports
of goods and services to improve and for the deficit to become smaller in 1998.
From July 1997 to January 1998, the consensus forecast for this balance worsened
by $63 billion.
Standard & Poor's Data Resources, Inc. expects the U.S. merchandise trade defici
t (customs value) to increase by $33.5 billion from $182.7 billion in 1997 to $2
16.2 in 1998 and further to $248.1 billion in 1999. It expects the U.S. deficit
on current account likewise to rise by $27.3 billion from $163.8 billion in 1997
to $191.1 billion in 1998 and further to $211.8 billion in 1999. 29
As shown in Figure 5, the United States already runs a deficit in its merchandis
e trade with the Asian countries that have experienced currency problems - excep
t for South Korea. In most cases, the deficits are estimated to remain high or i
ncrease in 1997. Microeconomic Effects
On a microeconomic level, the Asian Financial Crisis affects those industries mo
st closely linked to the economies in question. The following provides a rough o
utline of the major U.S. sectors affected.
U.S. creditors and investors in Asia-U.S. banks, pension funds, and investors st
and to lose on their pre-crisis exposures, but "bottom fishers" may gain as Asia
n equity markets recover and currencies strengthen.
U.S. exporters to Asia-U. S. makers of major export items, such as heavy equipme
nt, aircraft, manufacturing machinery, and agricultural commodities are seeing d
emand for their products decline. U. S. producers of commodities used in the man
ufacture of products in Asia also are experiencing soft prices (e.g. chemicals,
cotton, copper, and rubber).
U.S. businesses that compete with imports from Asia - U. S. manufacturers of aut
omobiles, apparel, consumer electronics, steel, and other products that compete
with imports from Asia are likely to see increased competition and downward pres
sures on prices. Exporters from Korea, however, report that they are experiencin
g difficulty obtaining foreign exchange to finance imports needed in their produ
ction processes. This, in turn, constrains their exports. U. S. labor engaged in
manufacturing competing products tend to be hurt by Asian exchange depreciation
.
U.S. businesses related to interest rates-mortgage bankers, refinancing companie
s, builders, and other businesses that benefit from lower rates of interest are
seeing greater activity.
U.S. businesses the sell imports from Asia-distributors and retailers of product
s from the troubled Asian economies are likely to have increased activity. These
include discount retailers and Korean automobile dealers.
U.S. multinational corporations seeking market access in Asia-U.S. companies, pa
rticularly in the financial sector, that have encountered barriers to entry or r
estrictions on their activities in Indonesia, Thailand, and South Korea are like
ly to benefit from the market opening required by the IMF support packages. They
also may be able to buy existing firms that need restructuring and recapitaliza
tion at relatively low prices.
U.S. multinational corporations with manufacturing subsidiaries in Asia -Most U.
S. companies with direct investments in the region will probably weather the sto
rm, although some investments (such as the new General Motors plant in Thailand)
have been thrown into question. Since about 60% of the output from U.S. manufac
turing subsidiaries in Asia is sold in the region, local sales are likely to sta
gnate until economic growth resumes. Some excess capacity may emerge. For a manu
facturing subsidiary in a country with a depreciated local currency, its cost of
imported components will tend to rise, but the price of the finished export to
the U.S. and other hard currency markets will tend to fall.
U.S. industries that use components from Asia-U.S. manufacturers that use parts
and other inputs from Asian countries whose currencies have depreciated are like
ly to experience lower costs of production. An overall indicator of the effect o
f the Asian financial crisis on U.S. businesses is the outlook for corporate pro
fits. The increased competition from imports combined with rising wage costs in
the United States is expected to reduce the growth in U.S. corporate profits in
1998 to about 4.7% or roughly half the increase in 1997.30
Causes of the Financial Crisis
The causes of financial problems in these countries are many and differ somewhat
from economy to economy. In general, the Asian Tiger economies had been growing
at rates of 5 to 10% per year for the past decade. They were opening their econ
omies to foreign direct investments, foreign goods and services, capital flows,
and were relying heavily on dollar markets, particularly the United States, to a
bsorb their exports. In order to attract foreign investments and facilitate capi
tal flows, their currency exchange rates were kept in fairly close alignment wit
h the U.S. dollar or a basket of currencies dominated by the dollar.
The financial services sector in most of these newly industrialized economies ha
d been developing rapidly and without sufficient regulation, oversight, and gove
rnment controls. As capital markets were liberalized, banks in these countries c
ould borrow abroad at relatively low rates of interest and re-lend the funds dom
estically. Over the past decade, foreign borrowing by these countries had shifte
d from a preponderance of government to private sector borrowing. Whereas in the
1970s, the governments might have borrowed for infrastructure development from
the World Bank or a consortium of international banks, in the 1990s, a local ban
k might borrow directly from a large New York money center bank. The financial c
risis in Asia began in currency markets, but this exchange rate instability was
caused primarily by problems in the banking sectors of the countries in question
.
The causes and structural factors contributing to the financial crises include:
private-sector debt problems and poor loan quality,
rising external liabilities for borrowing countries,
the close alignment between the local currency and the U. S. dollar,
weakening economic performance and balance-of-payments difficulties,
currency speculation,
technological changes in financial markets, and
a lack of confidence in the ability of the governments in question to resolve th
eir problems successfully.
Bank Borrowing and Lending
The financial difficulties in Asia stemmed primarily from the questionable borro
wing and lending practices of banks and finance companies in the troubled Asian
economies. Companies in Asia tend to rely more on bank borrowing to raise capita
l than on issuing bonds or stock. Governments also have preferred developing fin
ancial systems with banks as key players. This is the Japanese model for channel
ing savings and other funds into production rather than consumption. With bank l
ending, the government is able to exert much more control over who has access to
loans when funds are scarce. As part of their industrial policy, governments ha
ve directed funds toward favored industries at low rates of interest while consu
mers have had to pay higher rates (or could not obtain loans) for purchasing pro
ducts that the government has considered to be undesirable (such as foreign cars
). A weakness of this system is that the business culture in Asia relies heavily
on personal relationships. The businesses which are well-connected (both with b
anks and with the government bureaucracy) tend to have the best access to financ
ing. This leads to excess lending to the companies that are well-connected and w
ho may have bought influence with government officials.
For example, Figure 6 outlines the lending system in South Korea. Korean banks a
nd large businesses borrow in international markets at sovereign (national) rate
s and re-lend the funds to domestic businesses. The government bureaucrats often
can direct the lending to favored and well-connected companies. The bureaucrats
also write laws regulating businesses, receive approval from the parliament, wr
ite the implementing regulations, and then enforce those regulations. They have
had great authority in the Korean economic system. The politicians receive legal
(and sometimes illegal) contributions from businesses. They approve legislation
and use their influence with the bureaucrats to direct scarce capital toward fa
vored companies. 31
International borrowing involves two other types of risk. The first is in the ma
turity distribution of accounts. The other is whether the debt is private or sov
ereign. As for maturity distribution, many banks and businesses in the troubled
Asian economies appear to have borrowed short-term for longer-term projects. Man
y economists blame such loans for the Asian crisis.32 Some of this debt is to fi
nance trade and is self-extinguishing as the trade transactions are completed. M
ostly, however, these short-term loans have fallen due before projects are opera
tional or before they are generating enough profits to enable repayments to be m
ade, particularly if they go into real estate development.
As long as an economy is growing and not facing particular financial difficultie
s, rolling over these loans (obtaining new loans as existing ones mature) may no
t be particularly difficult. Competition among banks is intense. In the Asian ca
se, as U. S. banks began to restrict lending in certain Asian countries in 1996
and 1997, European banks took up much of the slack. When a financial crisis hits
, however, loans suddenly become more difficult to procure, and lenders may decl
ine to refinance debts. Private-sector financing virtually evaporates for a time
.33
Figure 7 shows the total amount borrowed by selected Asian countries and the dis
tribution of the maturities on those accounts. For the six Asian countries shown
, all have relied heavily on debt with a maturity of one year or less. At the en
d of 1996, the proportion of loans with maturity of one year or less was 62% for
Indonesia, 68% for South Korea, 50% for the Philippines, 65% for Thailand, and
84% for Taiwan.
A structural change in the nature of the borrowing by these Asian countries is t
hat the type of borrowing has shifted away from the government and banks borrowi
ng from international financial institutions (such as the World Bank) or receivi
ng development assistance funds through foreign aid programs to borrowing by pri
vate corporations.
Figure 8 shows the distribution of borrowing from banks according to the type of
borrower. Until capital markets were liberalized in the newly industrializing c
ountries of Asia, most of the outside funds flowing into these economies was bor
rowed by the governments (public sector). Now major banks and the non-bank priva
te sector account for most of the borrowing.
A problem with private sector borrowing in developing market economies is that w
hile individual borrowers may have viable projects, when all borrowing is aggreg
ated and demands for foreign exchange and repayment are tallied, the country can
face difficulties. It is a type of fallacy of composition. Even if each individ
ual loan is financially viable, the total of all loans may not be so because the
nation may be short of the foreign exchange necessary to meet the repayment sch
edules.
Although Japan is not considered to be one of the Asian economies experiencing a
currency crisis, it has been experiencing many of the same problems that are co
nfronting its Asian neighbors. Japan's banking sector, for example, carries an e
stimated $600 billion in questionable and nonperforming loans despite aggressive
writeoffs in recent years.34 When world attention began to be focused on Japan'
s problem of nonperforming bank loans, its government first announced in 1994 th
at the total amount of such loans was about $136 billion. A year later, it admit
ted that the total was more like $400 billion or about 9% of gross national prod
uct. Private analysts, however, put the figure at roughly double that amount.35
Since 1992, the top 20 Japanese banks have written off approximately 35 trillion
yen (about $290 billion) in bad loans.36 Still, the combination of the weak Jap
anese stock market, weak real estate values, and sluggish economy continues to t
hreaten Japan' s banks as well as securities companies.
Although the currency crisis has not affected mainland China's renminbi to a lar
ge extent, China still has the potential of experiencing a major financial crisi
s. The problem began in 1981 when the government changed the banking system from
one in which banks financed investments and provided funds to enterprises as pa
rt of the government's central plan to one based more on banking principles. Ban
ks were to provide funds only as loans rather than as investments and were to ch
arge interest and require repayments. Suddenly, the flow of funds from the banks
to state-owned enterprises became liabilities that had to be repaid.
China's four state-owned specialty banks do 75% of the nation's deposit and loan
business. Data on the condition of these banks is sketchy, but in late 1994, th
e four banks reported over 570 billion yuan (about $68 billion) in bad loans or
about 20% of all the loans they had issued. Overdue loans were 11.3%, idle loans
7.7% and uncollectible loans 1.3%. These accounted for 90% of the officially re
cognized bad loans in the banking system.37 These figures, however, are likely t
o be understated because the state-owned banks have been lending to state-owned
enterprises, and only about 30% of those enterprises are profitable, 20% have be
en losing money for years and are beyond salvaging, and the remaining 50% are so
mewhere in between.38
The state-owned banks, therefore, have accumulated a huge portfolio of bad debts
that have little prospect of being repaid. As was pointed out at a conference i
n Beijing in January 1997, China's national economy is being threatened by a lat
ent monetary credit crisis. Furthermore, even though loans now are supposed to b
e allocated according to sound banking principles, in practice a large amount of
monetary assets is still being allocated ineffciently through administrative an
d planned economic channels. State-owned banks have been required to provide loa
ns to support enterprises which are running at low profit rates or at a loss. Th
ese are "loans for preservation of stability and unity" and "loans for clearing
up defaults." The resultant depletion of assets of state-owned banks has become
an important factor threatening their own survival.39
Bank Exposure
How exposed are the banks of the major industrial countries to borrowers in thes
e Asian economies? Table 2 shows the international claims (loans) of all reporti
ng banks in the United States, United Kingdom, Germany, Japan, and the world wit
h respect to selected Asian countries involved in the financial crisis. Bank len
ding data pose a particular problem because of offshore banking centers, such as
Aruba, the Bahamas, Hong Kong, and Singapore. Often the banks in these centers
simply provide a conduit for funds that ultimately are used outside the center.
Table 2, therefore, shows two sets of totals: one for countries and one for offs
hore banking centers. (The two sets of data are not completely compatible.)
At the end of 1996, the U.S. banks reported $29.1 billion in loans outstanding t
o Indonesia, South Korea, Malaysia, the Philippines, Taiwan, and Thailand. There
was an additional $14.4 billion loaned to Hong Kong and Singapore for a total o
f $57.9 billion. This amounted to 34.9% of all U.S. international lending (inclu
ding offshore banking centers). The greatest U.S. exposure was in Hong Kong and
South Korea. As for other major lending countries the United Kingdom reported 50
.8% of its loans to these eight Asian economies and Germany 33.6%. Table 2. Inte
rnational Claims (Loans) by Banks in Selected Developed Nations on Borrowers in
Troubled Asian Economies December 31, 1996 ($Millions)

Claims on by- U.S. U K. Germany Japan World

Indonesia 5,279 3,834 5,508 22,035 55,523
South Korea 9,355 5,643 9,977 24,324 99,953
Malaysia 2,337 1,417 3,857 8,210 22,231
Philippines 3,902 1,173 1,820 1,558 13,289
Taiwan 3,182 2,773 2,628 2,683 22,363
Thailand 5,049 3,128 6,914 37,525 70,181
Total Above Asia 29,104 17,968 30,704 96,335 283,540

Asian Offshore Banking Centers

Hong Kong 8,665 26,216 26,811 87,462 207,164

Singapore 5,727 22,523 40,767 58,809 189,310

Total Asian Offshore 4,392 48,739 67,578 146,271 396,474

Total Asia + Asian 57,888 66,707 98,282 242,606 680,014

Offshore Centers
Total World 130,053 68,325 173,101 169,699 993,134

Total Offshore 35,617 63,024 119,170 219,690 663,897

Banking Centers
Total World + 165,670 131,349 292,271 389,389 1,657,031

Offshore Centers
Asia as % of World 34.9 50.8 33.6 62.3 41.0

(Including Offshore Banking Centers)

Note: Data are for lending which is outside of the home market (does not include
domestic lending). Data from offshore banking centers are not completely compat
ible with BIS reporting country data. Source: Bank for International Settlements
. The Maturity, Sectoral and Nationality Distribution of International Bank Lend
ing. Second Half 1996. Basle, Switzerland, July 1997. P. 19-20.
Japan's bank exposure was particularly high. It reported 62.3% of its internatio
nal lending to these Asian countries. In the offshore centers, Japan reported $8
7.5 billion in Hong Kong and $58.8 billion in Singapore. For Thailand, Japan rep
orted $37.5 billion in claims, and more than $20 billion each in Indonesia and S
outh Korea.
The U. S. Federal Financial Institutions Examination Council provides more recen
t data that those available through the Bank for International Settlements (BIS)
used above. BIS data also have been adjusted somewhat to eliminate double count
ing and to be consistent across reporting nations. The Council data indicate tha
t U.S. bank claims in these Asian economies declined after December 1996 from $4
5.2 billion for these eight Asian economies to $41.9 billion as of June 30, 1997
. This amounted to 0.2% of total U.S. banking assets of $2,552.5 billion and 1.5
% of total banking capital of $272.8 billion.40 It appears that U.S. banks had b
ecome aware of the increasingly risky loan environment in Asia and in 1997 had b
een reducing exposure accordingly.
U.S. banks do not seem to be excessively exposed to the Asian economies sufferin
g from currency weaknesses. This is a vastly different picture than was presente
d at the onset of the Latin American debt crisis in August 1982. In December 198
2, U.S. banks were owed $24.4 billion by Mexico alone. This amounted to 34.6% of
their total capital and about 2.0% of their total assets. 41
In addition to dollar-denominated claims, the U. S . Federal Financial Instituti
ons Council also reported that U. S. banks have claims for loans in local curren
cies that do not appear in BIS statistics. As of June 30, 1997, these loans amou
nted to $1,403 million in Hong Kong, $74 million in Indonesia, $1,150 million in
Malaysia, $1,567 million in Philippines, $1,288 million in Singapore, $1,363 mi
llion in Taiwan, and $2,023 million in Thailand.
Pegged Exchange Rates
The structural factor that initially enabled the crisis to occur was that the ex
change rates of most of these currencies had been aligned with the dollar or a b
asket of currencies dominated by the dollar. These pegged exchange values had no
t been allowed to adjust sufficiently in response to changing economic condition
s. Governments allowed their exchange rates to fluctuate only within narrow band
s.
The advantage of this system to the countries involved was that it kept the coun
tries' exchange rates relatively constant with respect to the dollar and allowed
their traders to import from and export to dollar areas, particularly the Unite
d States, with little exchange rate risk. It also provided a stable financial en
vironment that encouraged foreign sources of capital for loans or investments. T
he Thai monetary authorities, for example, had pursued a "stable baht" policy th
at had kept the official rate for their currency at about 25 baht per dollar sin
ce 1987. This linking of official exchange rates to the dollar, however, had one
major drawback. As the value of the dollar changed, so did the value of these c
urrencies relative to others, such as the Japanese yen and German mark, that wer
e not tied to the U.S. dollar. As the dollar depreciated after 1985, the arrange
ment worked reasonably well, even though macroeconomic conditions in these count
ries differed widely from those in the United States (particularly, rates of inf
lation and growth). Problems began to arise in 1996 and 1997, however, as the do
llar appreciated and the official values of these currencies deviated from their
underlying market values. While the dollar was pulling up the value of these cu
rrencies, some of the countries in question encountered increasing difficulty in
balancing their international accounts. Their exports grew more costly to non-d
ollar buyers, and their imports from non-dollar areas cheaper. The weak yen, in
particular, was reducing the competitiveness of their products relative to those
from Japan. The consequent rising deficits in their trade and current accounts
placed downward pressure on their exchange rates which required more and more go
vernment intervention to maintain.
When downward pressures on a currency occur in foreign exchange markets, if the
exchange rate is allowed to adjust freely, an initial depreciation tends to less
en pressures for more depreciation. The rewards for speculating in the market (b
y betting on a future depreciation) diminish. With an exchange rate tied to the
dollar, however, government attempts to maintain the rate often raise the expect
ations of traders that the currency is headed for a fall. This places even more
downward pressure on the currency as traders rush to sell it in anticipation tha
t they will be able to buy it later at a lower price. If the governments involve
d do not have sufficient foreign exchange reserves to stave off the speculators
and others in the market, they eventually have to concede failure and allow the
currency to depreciate. When that process begins, the fall in the currency may b
e quite dramatic and may overshoot the equilibrium rate.
Currency depreciation, in turn, places an additional burden on local borrowers w
hose debts are denominated in dollars. They now are faced with debt service cost
s that have risen in proportion to the currency depreciation. These debtors resp
ond to the weakening currency by attempting to hedge external liabilities which
intensifies exchange rate and interest rate pressures.42 In the South Korean cas
e, for example, the drop in the value of the won from 886 to 1,701 won per dolla
r between July 2 and December 31, 1997, nearly doubled the repayment bill when c
alculated in won for Korea's foreign debts. The depreciated local currency, howe
ver, makes exports from the country cheaper and more competitive in foreign mark
ets.
Nominal exchange rates also may change in response to differing rates of inflati
on among countries. A high inflation rate will cause a nation's currency to depr
eciate, but the real exchange rate (adjusted for inflation) may remain the same.
In some of the Asian countries with currency problems, inflation rates have bee
n higher than those in the United States. Still a depreciation of 20 or 30% far
exceeds inflation rates in 1997 of about 3% in Malaysia and Taiwan, 5% in South
Korea, and 7% in Indonesia, the Philippines, and Thailand.
As the Asian financial crisis has progressed, the affected governments (except f
or Hong Kong) have eased the rigidity of their exchange rate systems. Exchange r
ates now are allowed to move in wider bands, in a crawling band, or are floating
. This flexibility reduces the potential for large and sudden changes in these e
xchange values, as the rates respond continuously and in smaller increments to m
arket forces.
Government exchange rate policy suffers from a common policy dilemma. If a count
ry targets its monetary and fiscal policy toward maintaining a specific exchange
rate, it must sacrifice performance in its domestic economy. A government defen
ding its exchange rate, for example, usually has to raise interest rates in orde
r to attract capital into its economy. This tends to dampen its growth rate. Gov
ernment policymakers do not have policy tools that enable them to target both an
exchange rate and economic growth rate.
With respect to pegged exchange rates, however, there is an alternative school o
f thought that currency values should be pegged to gold or some other standard o
f value and kept stable.43 Those who view exchange rates in these terms may see
the cause of the currency crises in the Asian countries as excessive expansion o
f domestic money supplies by central banks combined with burdensome government r
egulations, protection of domestic industries, and other government interference
in the marketplace.44 Once governments stopped maintaining their exchange rates
, investors lost confidence, and the crises began. Economic Growth
Most of the countries in Asia that now are encountering currency problems had lo
gged remarkably high economic growth rates over the past decade. These high rate
s of growth brought higher standards of living but also brought problems. To one
degree or another, most of these countries have been facing difficulties with t
heir balance of payments, over-expansion of production capacity, rising real est
ate values, overvalued equities, and excessive bank lending. As of first quarter
1997 before the crisis began, the growth rates for these Asian countries had re
mained quite high, and the outlook was generally favorable. Any dramatic slowdow
n in growth had not yet appeared in their short-term outlook.
As shown in Figure 9, economic growth rates over the past decade for four countr
ies involved in the first round of currency problems. The forecast for 1997 is a
s of the first quarter, before the currency crisis began. As can be seen, growth
was slowing but still remained at remarkably high rates and was expected to con
tinue in 1997. Thailand's economic growth rate had fallen from 13% in 1988 to 6.
5% in 1996. In 1997, however, it was expected to recover from its downward slide
.
The effect of a slowdown in growth on a nation's exchange rate is not immediatel
y obvious. It affects both trade and capital accounts in opposite ways. On one h
and, lower growth usually causes a nation's trade balance to improve, since impo
rts decline relative to exports (unless demand in export markets is falling fast
er). This could strengthen a nation's currency. In the Asian case, however, grow
th was continuing at a level high enough that trade and current accounts tended
to remain in deficit. Even in Thailand, the slowdown had not improved its balanc
e of trade.
On the capital account side, a slowing growth rate generally causes problems for
a nation's debtors who have borrowed to finance production facilities or have i
nvested in real estate or equities and are faced with repayment schedules. Lower
growth means lower demand, possible lower profits, and a leveling off or fall i
n real estate and stock values. As the slowdown intensifies, interest rates usua
lly fall. This can cause international lenders to look elsewhere for investment
for financing opportunities and may cause a weakening of a nation's currency. Re
cessions also cause loans to turn sour and may further drive away foreign lender
s. As the Asian financial crisis has developed, forecasters have lowered their o
utlook for growth in these countries. The securities firm, J.P. Morgan, for exam
ple, lowered its forecast for economic growth for ASEAN (Indonesia, Malaysia, Si
ngapore, Thailand, Philippines, Brunei, and Vietnam) for 1998 from 5.9% in June
1997 (before the crisis began) to 2.2% in November 1997.45 Forecasters expect ec
onomic growth in South Korea to drop from 5.9% in 1997 to around -1.5% in 1998.4
6 Current Account Imbalances
The high growth rates among the Asian countries had begun to create problems for
them in balancing their current and trade accounts. The current account is a na
tion's balance of trade in imports and exports plus net income from foreign inve
stments, and unilateral transfers. It consists of the payments for goods and ser
vices, interest and dividends, and remittances by foreign workers to their home
countries. Figure 10 shows current account balances for four of the Asian nation
s that have had to depreciate their currencies. (Comparable data for Malaysia we
re not available from the IMF.) In the case of Thailand, its deficit in its curr
ent account had been widening from 1992. In 1996, the deficit had grown to $14.7
billion for the year. As a percent of gross domestic product, this deficit had
reached 8%. The IMF considers that when current account deficits reach 5 to 8% o
f GDP, they merit close monitoring. 47 This deficit was the primary reason for t
he downward pressure on the baht. By the time Thai authorities tightened economi
c policies, investors-both foreign and domestic-were pulling funds out of the co
untry, and the currency crisis had already developed.
South Korea's current account deficit also worsened considerably in 1996. For th
e year, it was $23.1 billion. The current account deficit for the Philippines, o
n the other hand, had shrunk somewhat. Capital Flows
The primary reason that the deteriorating current account balance for these nati
ons had not placed severe downward pressures on their exchange rates earlier was
that foreign capital was flowing in from other countries. Foreign investors, bu
sinesses establishing manufacturing subsidiaries, international banks lending to
local borrowers, and others were providing a steady stream of foreign exchange
and a positive balance on financial account. This tended to offset the current a
ccount deficits.
As shown in Figure 11, in 1996, South Korea ran a surplus in its financial accou
nt of $24.0 billion that completely offset its deficit of $23.1 billion in its c
urrent account. Much of the surplus in Korea's financial account came from portf
olio investments. In 1996, while Koreans invested $2.4 billion in foreign equity
and debt securities, foreigners invested $16.8 billion in Korea securities. Por
tfolio investments can be volatile. Funds can flow out as fast as they flow in.
In October 1997, for example, as trouble developed in the Hong Kong and other st
ock markets, investors began to flee Korean equity markets. Over the weekend of
October 25 following the fall in the Hong Kong stock market, foreign investors s
old 20.1 billion won ($22 million) worth of Korean stocks. This started a rush o
ut of Korean securities that sent the composite index of stock values on the Seo
ul exchange to a ten year low of 450.6 on November 24, 1997, down 30% for the ye
ar.
The experience of the Asian newly industrializing countries reflects a major str
uctural change in international capital markets that has occurred over the past
decade. This has been the liberalization of capital flows into and out of most e
merging market economies. Borrowers and investors are able to bypass governments
and local financial institutions and seek funds from a variety of world sources
. Private capital in the form of bank lending, direct investments, and portfolio
investments has flowed into these economies. Whereas a decade ago, most capital
inflows into emerging markets were from official sources, now private investmen
t flows far exceed official development assistance or other government-based fin
ance.
According to the U.S. Treasury, on a worldwide basis, capital flows into emergin
g market economies rose from $25 billion in 1986 to $250 billion in 1996. Betwee
n 1990 and 1996, the share of cross-border portfolio flows accounted for by thes
e emerging markets rose from 2% to 30 /O, while their share of global foreign di
rect investment jumped from 15% to 40% 48
For South Korea, for example, aggregate foreign investment inflows (both portfol
io and direct investment) from January 1962 to April 1997 totaled $21.6 billion.
Of this amount, $5.6 billion came from Japan, $6.7 billion from the United Stat
es, $5.3 billion from the European Union, $3.6 billion from other sources.49
According to Alan Greenspan, Chairman of the U.S. Federal Reserve, "In retrospec
t, it is clear that more investment monies flowed into these economies than coul
d be profitably employed at modest risk."50 One impetus behind these flows was t
he run up in the U.S. stock market and the desire of investors to diversify thei
r holdings. Much of the direct investment went toward building production capaci
ty -some of which may be unused as these economies slow. Weak Governmental Insti
tutions
The rapidity with which the Asian economies have grown and liberalized their fin
ancial markets has meant that the development of the financial systems in some e
conomies has not kept pace with development of the financial markets. To varying
degrees, there have been lax lending standards, weak supervisory regimes, inade
quate capitalization, excessive inter-connected lending, and a more general lack
of a credit culture.51 Safety nets such as deposit insurance has been lacking i
n some countries. Problems have developed, and governments often have hid the tr
ue extent of those troubles.
One concern has been lack of skilled manpower. Analysts point out that as privat
e banks and other financial institutions have developed in these Asian tiger eco
nomies, they frequently have gone to government bureaucracies and hired away off
icials with the skills and experience necessary to run their companies. Foreign
banks, in particular, have been faced with the dual problem of not having the sk
illed personnel necessary for their operations and needing someone on staff who
is familiar with the bureaucracy and has the connections necessary to work with
government officials. An important source of such personnel has been the governm
ent finance ministries and other agencies. This exodus of skilled officials in s
ome of the countries exacerbated the problem of regulating the rapidly developin
g financial sectors. Speculation
The role of currency speculation in the 1997 Asian currency crisis has been shar
ply debated. Malaysian Prime Minister Mahathir has blamed large foreign investme
nt funds, particularly hedge fund manager George Soros, for attacks in the marke
tplace on the Malaysian ringgit and other currencies in order to generate profit
s for themselves without regard to the livelihood of the Malaysian or other loca
l people. At a meeting of the International Monetary Fund in Hong Kong on Septem
ber 20, 1997, Mahathir said that currency trading (other than to finance trade)
was immoral and should be stopped. He castigated the traders as being responsibl
e for the drop in the ringgit and the resultant loss in (dollar-denominated) per
capita income in Malaysia.52
Given recent trends toward liberalizing flows of goods and capital among nations
and progress in telecommunications and electronic trading, opportunities for sp
eculation in currencies have proliferated. Even though foreign exchange markets
originally developed primarily to serve importers and exporters, the vast majori
ty (more than 95%) of current transactions in these markets is for capital trans
actions. These transactions are done by companies, investors, fund managers, spe
culators, and others who are moving in and out of foreign currencies for reasons
not directly related to international trade. These capital transactions are det
ermined by underlying monetary policies, expectations, investment opportunities,
and government regulations.
The mammoth size of world exchange markets make them virtually impossible for go
vernments to control, or for most, to influence significantly. When governments
do intervene, they have discovered that they can only "lean against the wind" (t
hey can slow down movements in exchange markets but rarely can change their dire
ction). Central banks, such as the Bank of Thailand and Bank of Korea, have draw
n their foreign exchange reserves down to perilous levels by trying to maintain
their exchange rates.
Still speculators say that they only exploit gaps between actual and potential e
xchange rates. These gaps arise because of changes in market expectations as wel
l as the underlying fundamentals of an economy. The U.S. Treasury maintains that
short-term speculative flows were not the major source of the pressures on gove
rnments that caused the Asian financial crisis.53 Financial Market Technology
Changes in the technology of financial markets have occurred both in the types o
f financial instruments available and in the integration of financial markets wo
rld wide. Combined with the spread of electronic fund transfers, telecommunicati
ons, and the Internet, funds now are able to flow from one country to another qu
ickly and in large quantities. This has increased the speed and extent to which
disturbances in one market can affect another. As one economist put it in the fa
ll of 1997, six months ago, no one would have expected real estate loan defaults
in Thailand to raise interest rates in Estonia.54 Few also would have expected
a drop in the Hong Kong market to trigger a run on stocks on Wall Street.
The U.S. Federal Reserve stated that the contagion effect of weakness in one eco
nomy spreading to others has been troublesome to them. If one economy has a prob
lem, investors search for other economies that might have similar vulnerabilitie
s. The resultant pressures on exchange rates or drops in stock values may or may
not be warranted by economic fundamentals. Even Hong Kong with its ample stocks
of foreign reserves, balanced external accounts, and relatively robust financia
l system was not immune from such pressures.55
Issues for Congress The U.S. Congress is likely to consider the Asian financial
crisis within three broad legislative contexts. The first is in the financing an
d scope of the activities of the IMF and other international financial instituti
ons. The second is in the impact of the crisis on the U.S. economy and American
financial institutions, and the third is in efforts to liberalize trade and inve
stment in the world.
The primary legislative issues revolve around the International Monetary Fund. T
he most important of these is a request for an increase in the U. S . capital co
ntribution to the IMF, that is, in its so-called "quota."56 Quotas provide the I
MF with the financial resources from which it extends loans to economically trou
bled countries. In addition to determining the size of the IMF's capital and mem
ber's contributions, quotas also determine a member country's voting power, its
access to IMF loans, and its share in any allocation of Special Drawing Rights (
SDRs). Quotas, therefore, are fundamental to the IMF's operation.57
On September 21, 1997, the Interim Committee of the IMF announced an agreement t
o increase overall IMF quotas by 45%. This was finalized in late December 1997 a
nd adopted on February 6, 1998. Total IMF quotas would increase from about SDR 1
46 billion (about $197 billion, as of April 9, 1998) to SDR 212 billion ($287 bi
llion).
The U.S. quota would increase by 40%, from SDR 26.5 billion ($35.8 billion) to S
DR 37.1 billion ($50.2 billion), an increase of about $14.4 billion. At the same
time, the U.S. share of total IMF quotas would drop from 18.1% to 17.5%. The Un
ited States would retain its veto on important IMF decisions, including any deci
sion to increase quotas, allocate SDRs, or amend the IMF's Articles of Agreement
. The United States would also continue to be the IMF's largest shareholder, a p
osition that gives it considerable voice in the decisions and operations of the
IMF.
Historically, requests for the approval of an increase in the U.S. quota have al
ways been the occasion for vigorous Congressional examination of the programs an
d policies of the IMF and oversight of the U. S. role there. The current financi
al crisis in Asia, with its spillover-effects on the U. S. economy and financial
markets, is likely to heighten the rigor of congressional oversight, particular
ly with regard to the IMF's conditionality, its emergency financing mechanisms,
and its surveillance and data dissemination procedures.
In addition to the request for approval of U. S. participation in the quota incr
ease, Congress will be asked to reconsider and approve the "New Arrangements to
Borrow" (NAB).58 The NAB are an arrangement of medium-term credit lines that the
IMF may borrow against to supplement its resources in the event of an internati
onal financial crisis. They were proposed in the wake of the 1994 Mexican peso c
risis. Commitments to the NAB from 25 participant amount to SDR 34 billion, curr
ently about $46 billion. The U.S. share in the NAB totals SDR 6,712 ($9.0 billio
n), including SDR 4,250 million ($5.7 billion) that was authorized and appropria
ted prior to 1983 for U.S. participation in the "General Arrangements to Borrow"
(GAB).59 Because of this earlier funding, only the incremental amount of SDR 2,
462 million (currently $3.3 billion) need be approved for the United States to f
ulfill its NAB commitment. This issue was considered during the first session of
the 105th Congress. In the midst of a controversy over abortion funding, howeve
r, provisions related to the NAB were stripped from the foreign operations appro
priation for 1998 (P.L. 105-118).
Under the Bretton Woods Agreements Act (P.L. 79-171, 22 USC 286), both the incre
ase in the U.S. quota in the IMF and U.S. participation in the NAB must be autho
rized by the U.S. Congress. In addition, current U.S. budgetary treatment requir
es that both be appropriated.60
The current financial crisis, ultimately, is also likely to connect with a numbe
r of other proposed issues related to the IMF. These include a proposed allocati
on of SDRs6' and a proposed amendment to the IMF's Articles of Agreement. The fo
rmer would help to ease reserve constraints experienced by many IMF members. The
latter, whose language has not yet been agreed, would provide the IMF with a ma
ndate to foster capital account liberalization. The rising U.S. trade deficit co
mbined with heightened competition from imports from countries with depreciated
currencies may intensify political pressures to protect U. S. industries from fo
reign competition. Initiatives to liberalize imports or provide fast-track negot
iating authority to the President may face higher hurdles. U. S .lending institu
tions that are highly exposed to the Asian financial problems also could develop
problems of their own.
The Asian financial crisis also could put a damper on negotiations to liberalize
trade and investment in Asian markets. Some of the countries affected have been
reluctant to proceed with more trade and investment liberalization until they a
re able to regroup and recover from their current problems. FOOTNOTES:
1 Asia Pacific Economic Cooperation. APEC 97 Leaders Declaration. November 25, 1
997. 2 Associate Press. Asian Officials Establish Supplementary Bailout Fund. AP
Newswire. December 2, 1997. 3 ASEAN. Joint Statement of the Heads of State/Gove
rnment of the Member States of ASEAN on the Financial Situation. December 15, 19
97. Available on the Internet at . 4 Boorman, Jack. The Changing Emphasis of the
Fund, Implications for Stabilization and Growth Policies. Paper presented at th
e IMF Seminar, Asia and the IMF. September 19, 1997. Hong Kong.
5 These questions are discussed in more detail in CRS Report 98-56, The Internat
ional Monetary Fund 's (IMF) Proposed Quota Increase: Issues for Congress, by Pa
tricia A. Wertman.
6 Boorman, Jack. The Changing Emphasis of the Fund, Implications for Stabilizati
on and Growth Policies. Paper presented at the IMF Seminar, Asia and the IMF. Se
ptember 19, 1997. Hong Kong.
7 South China Morning Post, January 8, 1998. P. 3.
8 Davis, Bob and David Wessel. World Bank IMF at Odds over Asian Austerity. Wall
Street Journal, January 8, 1998. P. A5, A6.
9 See, for example, Sachs, Jeffrey. Power Unto Itself. Financial Times, December
 11, 1997. P. 11.
10 The "Special Drawing Right" or SDR is an international reserve asset created
by the IMF and used to denominate its accounts. In mid-1997 one SDR was worth $1
.36.
1l International Monetary Fund. IMF Approves Stand-by Credit for Thailand. Press
Release No. 97/37, August 20, 1997.
12 International Monetary Fund. IMF Approves Stand-by Credit for Indonesia. Pres
s Release No. 97/50, November 5, 1997.
13 Sen, Siow Li. Singapore-Indonesia Deal to Support Rupiah Confirmed. Singapore
Business Times (Internet edition), November 27, 1997.
14 As of December 1997, the United States had assets equivalent to about $30 bil
lion, excluding SDRs and accounts receivable, in its Exchange Stabilization Fund
(ESF). This was about 22% less than ESF assets of $38.2 billion as of December
31, 1994, at the onset of the Mexican Peso crisis. Mexico drew a total of $12.0
billion in short- and medium-term swaps from the ESF. Mexico also drew $1.5 bill
ion in short-term swaps under lines of credit with the U.S. Federal Reserve. If
activated, the standby credit line for Indonesia of $3.0 billion would equal abo
ut 10.1% of ESF assets at the end of March 1997. For background on the Exchange
Stabilization Fund, see: CRS Report 95-262, The Exchange Stabilization Fund, by
Arlene Wilson.
15 Summers, Lawrence, Testimony on the Asian Financial Crisis, November 13, 1997
. 16 International Monetary Fund. IMF Approves SDR 15.5 Billion Stand-By Credit
for Korea. Press Release No. 97/55, December 4, 1997. Reuters. Korean IMF Bailou
t. Reuters Newswire. December 3, 1997. Yoo, Cheong-mo. Korea, IMF Agree on Terms
, Including Foreign M&A of Korean Firms, Ownership Limit Rise. Korea Herald, Dec
ember 4, 1997. On Internet at . Note: A special drawing right (SDR) had a value
of about 1.4 dollars.
17 Korea Bailout Conditioned On Structural Reforms. DowJones Newswire. December
3, 1997.
18 IMF, IMF Approves SDR 15.5 Billion Stand-By Credit for South Korea. 19 Summer
s, Lawrence, Testimony on the Asian Financial Crisis, November 13, 1997. 20 Stat
ements by Representatives Barney Frank and Bernard Sanders at the House Banking
Committee hearing on the Asian Financial Crisis, November 13, 1997 and January 3
0, 1998, and January 30, 1998.
21 International Monetary Fund. IMF Bail Outs: Truth and Fiction. January 1998.
Available on the Internet at: .
23 U.S. Federal Reserve Board. Testimony of Chairman Alan Greenspan before the C
ommittee on Banking and Financial Services, U.S. House of Representatives, Janua
ry 30, 1998. Available on the Internet at .
24 Citicorp. Fourth Quarter Report. January 20, 1998. P. 1. 25 Bank of America.
BanlcAmerica Fourth Quarter 1997 Earnings. January 21, 1998. P. 15. 24 Citicorp.
Fourth Quarter Report. January 20, 1998. P. 1. 25 BankofAmerica. BanlcAmerica F
ourth Quarter 1997 Earnings. January 21, 1998. P. 15.
26 J.P. Morgan. Fourth Quarter and 1997 Full Year Results. January 1998. P. 4. A
vailable on Internet at .
27 Blue Chip Economic Indicators. January 10, 1998.
28 Trade in goods and services plus income from foreign investments and unilater
al transfers.
29 Standard & Poor's DRl. Review of the U.S. Economy, January 1998. P. i.
30 Blue Chip Economic Indicators, January 10, 1998.
31 For further information on South Korea, see: CRS Report 98-13 E, South Korea'
s Economy and 1997 Financial Crisis, by Dick K. Nanto.
32 Uchitelle, Louis. Economists Blame Short-term Loans for Asian Crisis. New Yor
k Times on the Web. January 8, 1998. At
33 Fischer, Stanley. How to Avoid International Financial Crises and the Role of
the International Monetary Fund. Speech given in Washington, DC, October 14, 19
97.
34 See: CRS Report 96-837, Japan 's Banking "Crisis ": Bad Loans, Bankruptcy, an
d Illegal Activity, by Dick K. Nanto. Unrecoverable Loans Held by Banks Reaches
Y79 Trillion. Nihon Keizai Shimbun, December 6, 1997 (morning edition). P. 1.
35 CRS Report 95-1034 E, Japan 's Banking Crisis: Causes and Probable Effects, b
y Dick K. Nanto.
36 Bad Loan Write-offs by Major Banks Total 35 Trillion Yen. Kyodo Newswire arti
cle. September 21, 1997.
37 He, Dexu. Key Financial Reform Goals. Jinrong Shibao. November 2, 1993. 38 Su
n, Shuangrui. Subordinate Specialized Bank Commercialization to Enterprise Refor
m (In Chinese). Beijing Caimao Jingji, March 11, 1996. P. 7-13. 39 Xiong, Tang.
Pool Collective Wisdom and Efforts to Explore New Ideas on Bank and Enterprise R
eform-A Roundup of the Conference on the Strategy for Coordination of the Reform
s of State-owned Enterprise and Bank Systems (in Chinese). Beijing Jinrong Shiba
o, January 5, 1997. p.3.
40 U.S. Federal Financial Institutions Examination Council. Country Exposure Len
ding Survey. June 1997. 41 U.S. Federal Financial Institutions Examination Counc
il. Country Exposure Lending Survey. December 1982.
42 Camdessus, Michel. Lessons from Southeast Asia. Press briefing in Singapore,
November 13, 1997.
43 See, for example, Kemmerer, Donald L. Why a Gold Standard and Why Still a Con
troversy. Committee for Monetary Research and Education. 1979. Available on the
Internet at .
44 Johnson, Bryan T. and John Sweeney. Down the Drain: Why the IMF Bailout in As
ia Is Wasteful and Won't Work. The Heritage Foundation Roe Backgrounder No. 1150
, December 5, 1997.
45 JP Morgan. Global Data Watch. November 7, 1997. P. 1. 46 Standard and Poor's
Data Resources, Inc. and (Korean) Economic Research Institute. On Internet at
47 Sugisaki, Shigemitsu. The Global Financial System: Status Report. Address at
the 11th Conference of the International Federation of Business Economists, Vanc
ouver, Canada. November 18, 1997.
48 Summers, Lawrence. Testimony on the Asian Financial Crisis before the House C
ommittee on Banking and Financial Services. November 13, 1997.
49 The Economist Intelligence Unit. Country Report, South Korea, North Korea. Th
ird Quarter 1997. P. 32.
50 Greenspan, Alan. Testimony on the Asian Financial Crisis before the House Com
mittee on Banking and Financial Services. November 13, 1997.
51 Summers, Larry, Testimony on Asian Financial Crisis.
52 Mahathir, Mohamad. Asian Economies: Challenges and Opportunities. Speech give
n at the World Bank Group - International Monetary Fund Annual Meetings. Septemb
er 20,1997. Hong Kong.
53 Summers, Lawrence, Testimony on the Asian Financial Crisis. 54 Hale, David. S
eminar on the Asian financial crisis sponsored by the Economic Strategy Institut
e. November 5, 1997.
55 Greenspan, Alan, Testimony on Asian Financial Crisis, November 13, 1997. 56 A
dditional information on the proposed quota increase may be found in, U.S . Libr
ary of Congress. Congressional Research Service. The International Monetary Fund
's (IMF) Proposed Quota Increase: Issues for Congress, CRS Report 98-56 E, by P
atricia A.Wertman.
57 This section was prepared primarily by Patricia A. Wertman, Specialist in Int
ernational Trade and Finance, Economics Division.
58 For more details on the NAB, see U. S . Library of Congress. Congressional Re
search Service. The International Monetary Fund 's "New Arrangements to Borrow "
(NAB), CRS Issue Brief 97038, by Patricia A. Wertman. Updated regularly.
59 Additional information on the GAB may be found in, U.S. Library of Congress.
Congressional Research Service. The IMF's General Arrangements to Borrow (GAB):
A Background Paper, CRS Report 97-467, by Patricia A. Wertman.
60 More details on U.S. budgetary treatment of the IMF may be found in, U. S . L
ibrary of Congress. Congressional Research Service. U.S. Budgetary Treatment of
the International Monetary Fund. CRS Report 96-279 E, by Patricia A. Wertman.
61 On September 21, 1997, the Interim Committee of the Board of Governors of the
IMF announced agreement on a one-time, targeted special allocation of SDR 21.4
billion(currently about $29.0 billion). This proposal would require congressiona
l authorization, but no appropriation.
For more information on the allocation of SDRs, see U.S. Library of Congress. Co
ngressional Research Service. The IMF's Proposed Special Drawing Rights' (SDRs)
Allocation: A Background Paper, CRS Report 97-738 E, by Patricia A. Wertrnan.

APPENDIX

Table A1. Exchange Rates for Selected Asian Economies, 1997-98

Date Indonesian Malaysian Philippine Thai Hong Kong Japanese South Korean Sing
aporean Taiwan
Rupiah Ringgit Peso Baht Dollar Yen Won Do
llar Dollar
Jan 3 2,362.9 2.52 26.25 25.7 7.74 116.32 841.3
1.40 27.48
Jan 31 2,371.2 2.49 26.33 25.9 7.75 121.20 863.1 1
.41 27.42
Feb 28 2,391.4 2.48 26.31 25.8 7.74 120.82 862.1 1
.42 27.49
Mar 27 2,396.2 2.48 26.34 26.0 7.75 123.62 892.0
1.45 27.51
Apr 25 2,429.9 2.51 26.35 26.1 7.74 126.04 890.7
1.44 27.61
May 30 2,430.4 2.51 26.35 24.9 7.75 116.43 889.7
1.43 27.85
Jun 27 2,430.9 2.52 26.35 24.0 7.75 114.72 885.9
1.43 27.80
Jul 4 2,432.3 2.52 26.40 28.4 7.74 113.85 887.2
1.44 27.85
Jul 11 2,439.3 2.50 27.00 29.6 7.75 113.92 888.2
1.44 27.89
Jul 18 2,515.0 2.64 27.99 30.2 7.75 115.39 893.0
1.47 27.91
Jul 25 2,603.6 2.64 28.50 31.9 7.74 116.77 890.1
1.47 27.93
Aug l 2,620.9 2.64 28.90 32.1 7.74 118.40 887.6 1
.48 28.71
Aug 8 2,604.3 2.69 28.30 30.9 7.74 114.91 892.7
1.48 28.55
Aug 15 2,850.1 2.78 29.60 31.8 7.74 117.72 893.0
1.52 28.60
Aug 22 2,678.0 2.77 29.60 33.5 7.74 117.01 898.1
1.49 28.65
Aug 29 2,943.6 2.92 30.10 34.0 7.75 120.74 899.9
1.51 28.62
Sep 5 2,916.5 2.94 31.79 34.8 7.75 120.93 904.0
1.52 28.56
Sep 12 2,925.9 2.97 32.00 35.3 7.74 121.05 907.0
1.51 28.SS
Sep 19 2,960.7 3.03 33.19 35.7 7.74 122.04 912.1
1.52 28.56
Sep 26 3,085.7 3.14 33.31 34.7 7.74 120.74 912.7
1.52 28.56
Oct 3 3,716.8 3.37 34.60 35.4 7.74 121.91 911.9
1.54 28.58
Oct 10 3,392.8 3.11 32.89 35.7 7.74 119.93 912.8
1.54 28.43
Oct 17 3,561.8 3.24 33.50 37.1 7.74 120.20 913.0
1.55 28.99
Oct 24 3,534.7 3.39 35.00 38.7 7.73 121.96 927.1
l.55 30.20
Oct 31 3,579.4 3.34 35.00 40.0 7.73 120.34 960.0
1.57 30.71
Nov 7 3,283.9 3.30 34.60 38.3 7.73 124.18 974.7
1.57 30.75
Nov 14 3,432.4 3.31 33.60 38.3 7.73 126.91 982.3
1.58 31.05
Nov 21 3,541.7 3.42 34.00 38.7 7.73 125.82 1,051.0
1.58 32.00
Nov 28 3,645.9 3.501 34.65 40.6 7.73 127.62 1,169.0
1.594 32.10
Dec 5 4,012.0 3.750 34.90 41.4 7.74 130.16 1,228.0
1.616 31.66
Dec 12 4,972.4 3.805 37.71 45.0 7.75 130.46 1,704.8
1.654 32.25
Dec 19 4,987.5 3.819 39.00 44.7 7.75 129.00 1,576.5 1
.670 32.20
Dec 24 5,611.6 3.820 39.70 45.2 7.75 129.88 1,822.7 1
.666 32.45
1998
Jan 2 5,985.0 3.954 40.80 48.0 7.75 132.44 1,695.S 1
.694 32.60
Jan 9 8,643.9 4.596 43.90 53.2 7.75 131.59 1,811.5 1
.772 33.89
Jan 16 8,502.9 4.180 41.21 51.7 7.74 129.16 1,608.7 1
.732 33.51
Jan 23 14,555 4.550 43.61 53.7 7.75 126.00 1,764.6 1
.766 33.85
Jan 30 10,398 4.159 42.49 52.7 7.74 126.97 1,514.6 1
.711 33.74
Feb 5 9,599 3.934 40.34 48.5 7.74 123.63 1,597.4 1
.658 32.61

Source: PACIFIC Exchange Rate Service. On Intemet at http://pacific.commerce.ubc

.ca
END