Speedy Loans in Time of Financial Crisis: Precrisis and Postcrisis Movements of Capital

financial crisisBeginning in mid-1997, five East Asian countries lapsed into severe financial crisis: Indonesia, Malaysia, the Philippines, South Korea and Thailand. The crises centered both on the value of these countries’ currencies and on the solvency of their banking systems (Barth etaL, 1998; Garcia, 1998; Schwartz, 1998).

Figure One tracks the relative value in U.S. dollars of each country’s currency from April 1, 1997 to April 30, 1999. In all five crisis countries, the period of sharp decline ended by February, 1998. The period of free fall was longest and deepest in Indonesia, which was the only country to experience a political crisis as well. In all countries, currency values have strengthened since early 1998. As with the fall, the recovery has been rockiest in Indonesia, where political uncertainties remain strong. As Mei (1999) documents, political instability makes financial stability hard to maintain. We may come to a conclusion the banking service was destroyed as it is. it was rather hard to carry out the economical operations besides citizens suffer. but if they have such a service in the Internet it may help them to take speedy loans now to solve their problems.

Malaysia stabilized its currency by imposing controls on capital movements. The other four countries negotiated a series of assistance agreements with international lending institutions and particular foreign countries. The sources and size of outside assistance are summarized in Table 1. For a country undergoing crisis, the availability of outside aid is largely conditioned on its promise to maintain convertibility, to reform domestic financial regulation, and to strengthen its insolvent banks.

Many observers attribute the precrisis strength and sharp mid-1997 decline observed in East Asian currency values to fluctuations in external short-term capital movements, particularly to capital flows presumed to have been initiated by foreign banks (e.g., Rodrik and Velasco, 1999; Mayer, 1998). Table 2 shows that U.S., Canadian, European, and Japanese banks increased their holdings of crisis-country debt by $74 billion between yearend 1995 and midyear 1997 and went on to reduce their aggregate position by $112 billion from this peak. The overall amount of this outflow corresponds almost dollar-for-dollar with the amount of international assistance reported for crisis countries in Table 1. Given the conditions that accompanied the outside aid, the similarity of these two magnitudes supports the cynical hypothesis that international crisis assistance has more to do with helping foreign banks than helping the citizens of crisis countries.

Figure Two shows that Japanese banks (who have themselves been in continual crisis since the early 1990s) amassed the biggest positions and have so far beaten the strongest retreat. The continued insolvency of major Japanese banks suggests that banking policies and conditions inbanking policies Japan may have contributed to the crisis by creating incentives for Japanese bankers to book extraordinarily high-risk loans at home and abroad (Kane, 1993). Figure Two shows that, even at yearend 1998, the exposure of Japanese banks in Indonesia, South Korea, and Thailand remained high. Speedy loans characterizes the high level of banking itself. more and more prefer to take loans in such a way not to waste money on waiting while the bank arrives at a decision to confirm you a loan.

The expansion of foreign lending by Japanese banks in crisis countries was bound to squeeze the profit margins of local banks. Local profit margins and economic net-worth were further and steadily undermined by longstanding political pressure for banks to make subsidized loans to selected economic sectors. To restore industry profit margins to a sustainable level, insolvent institutions had to be closed or absorbed into stronger enterprises. Table 3 summarizes the extent of insolvency-resolution activity in the four largest crisis countries during the first nine months of the crisis. By the time exchange rates stabilized, more than half of Thai banks and about a third of Korean and Indonesian banks had been resolved. In contrast, Malaysia failed to move its program for industry restructuring beyond the planning stage.

The character of banking regulation in any given country is influenced by bureaucratic structures (Wall and Eisenbeis, 1999) and information asymmetries that foster incentive conflict in regulatory decisionmaking. The spread of banking insolvency creates bad incentives not just for bankers, but also for their regulators (Kane, 1998). Regulators come under strong political and career pressure to take actions that extend implicit guarantees to depositors, guarantees that effectively destroy coverage limits that may be formally imbedded in explicit deposit-insurance contracts.

Because Japanese regulators were slow to resolve banking insolvencies at home, Japanese banks may well have initiated disruptive capital inflows into and out of the crisis countries. However, the paper argues that the precrisis expansion of East Asian debt at European and North American banks may more reasonably be attributed to efforts by residents of the crisis countries to protect themselves from the unacknowledged, but growing insolvency of their domestic banking systems.

Section II explains how sectoral political pressures create incentive conflicts that tempt regulators to adopt policies that generate short-term macroeconomic growth and specific sectoral subsidies at the risk of increasing the likelihood and probable depth of a future banking crisis. Section III explains that the precrisis pattern of regulation adopted in crisis countries was bound to lead to growing bank insolvencies and escalating silent runs. Section IV lays out a general model of the life cycle of a regulation-induced banking crisis. Section V expands the model to provide a role for international competition in regulatory services and shows how regulatory competition can facilitate the development of silent runs on an insolvent banking system. Section VI applies the model to explain the stylized facts of the Asian case. Section VII summarizes the argument and offers some policy advice to the IMF and World Bank.

Figure One: Comparative Exchange Rates Relative to the U.S. Dollar April 1,1997-April 30,1999 (April 1,1997 = 100)

Figure One: Comparative Exchange Rates Relative to the U.S. Dollar April 1,1997-April 30,1999 (April 1,1997 = 100)

Figure Two  International Claims of U.S., Japanese and European Banks on the Five Asian Crisis Countries, Yearend 1997 and 1998

Figure Two: International Claims of U.S., Japanese and European Banks on the Five Asian Crisis Countries, Yearend 1997 and 1998

Table 1: Assistance Offered Crisis Countries by the International Community (in billions of U.S. $)

CountryCommitmentsIMF

Disbursements

IMFMultilateralBilateralTotalAs of 6/9/99
Indonesia11.210.021.142.39.5
Korea21.114.223.158.419.4
Philippines^1.6f001.6f1.6f
Thailand4.02.710.517.23.2
Total37.926.954.7119.533.7

Table 2: International Claims of BIS Reporting Banks on Countries outside the Reporting Area (in millions U.S. $)

End-December 1995 Claims by Banks in Country:
JapanU.S.GermanyUKOther Europe and CanadaAll

Other*

GRAND

TOTAL

Claims on:
Indonesia21,2972,7783,8932,7278,7585,39044,843
South Korea21,3097,5907,3183,86113,29124,02377,392
Malaysia7,2891,5232,2491,1582,9181,62216,759
Philippines9872,9467116312,4136378,325
Thailand37,0564,0974,9772,8227,8866,15662,994
TOTAL87,93818,93419,14811,19935,26637,828210,313
End-June 1996 Claims by Banks in Country:
JapanU.S.GermanyUKOther Europe and CanadaAll

Other*

GRAND

TOTAL

Claims on:
Indonesia21,9473,5514,8433,26010,3855,64549,306
South Korea22,3689,5828,5294,14015,05928,20588,027
Malaysia8,1021,8963,1951,2183,5362,12420,100
Philippines1,3973,3511,4757822,86492110,795
Thailand37,7774,4336,3813,0709,6648,30969,409
TOTAL91,59122,81324,42312,47041,50845,204237,637
End-December 1996 Claims by Banks in Country:
JapanU.S.GermanyUKOther Europe and CanadaAll

Other*

GRAND

TOTAL

Claims on:
Indonesia22,0355,2795,5083,83412,2586,60955,523
South Korea24,3249,3559,9775,64319,55431,10099,953
Malaysia8,2102,3373,8571,4174,0672,34622,234
Philippines1,5583,9021,8201,1733,7511,08513,289
Thailand37,5255,0496,9143,12810,2107,32170,147
TOTAL93,65225,92228,07615,19549,84048,461261,146
End-June 1997 Claims by Banks in Country:
JapanU.S.GermanyUKOther Europe and CanadaAll

Other*

GRAND

TOTAL

Claims on:
Indonesia23,1534,5915,6104,33213,3777,66358,726
South Korea23,7329,96410,7946,06420,78132,097103,432
Malaysia10,4892,4005,7162,0115,2112,99328,820
Philippines2,1092,8161,9911,0764,2301,89314,115
Thailand37,7494,0087,5572,81810,4426,80869,382
TOTAL97,23223,77931,66816,30154,04151,454274,475
End-December 1997 Claims by Banks in Country:
JapanU.S.GermanyUKOther EuropeAllGRAND
and CanadaOther*TOTAL
Claims on:
Indonesia22,0184,8986,1744,49213,5207,28658,388
South Korea20,2789,5339,6166,92418,88328,94694,180
Malaysia8,5511,7867,1972,0145,0612,91927,528
Philippines2,6243,2242,9991,6076,2403,03819,732
Thailand33,1802,5336,0282,3619,5545,17958,835
TOTAL86,65121,97432,01417,39853,25847,368258,663
End-June 1998 Claims by Banks in Country:
JapanU.S.GermanyUKOther EuropeAllGRAND
and CanadaOther*TOTAL
Claims on:
Indonesia19,0303,2265,8763,96712,7735,39650,268
South Korea18,9347,4098,4005,63415,68716,38072,444
Malaysia7,9051,1495,1601,6134,3942,80323,024
Philippines2,3083,0252,1611,7757,1521,38217,803
Thailand26,1201,7575,2862,0888,5672,98346,801
TOTAL74,29716,56626,88315,07748,57328,944210,340
End-December 1998 Claims by Banks in Country:
JapanU.S.GermanyUKOther Europe and CanadaAll

Other*

GRAND

TOTAL

Claims on: Indonesia16,4023,5375,6383,81410,5674,86944,827
South Korea16,9256,2918,2505,55113,90514,37165,293
Malaysia6,6238584,6182,0404,3702,31720,826
Philippines2,3242,6572,3041,8445,4521,57916,160
Thailand22,4371,3584,6871,7758,1502,34240,749
TOTAL64,71114,70125,49715,02442,44425,478187,855

Table 3:Number of Bank Insolvencies Resolved or Scheduled to be Resolved in the Four Largest Asian Crisis Countries During the First Nine Months of the East Asian Crisis

July, 1997 Number of Banks and Finance CompaniesClosed/SuspendedNationalized/ Administered by Restructuring AgencyPlanning to MergeForeign-Bought (majority stake)
Thaliand10856404
Malaysia6000410
Indonesia2281656110
South Korea56162 .00