A CRITICAL ANALYSIS OF THE IMF: CASE STUDY OF THE ASIAN FINANCIAL CRISIS Kai-Yang Fan Wanda Montero Arisha Waas William Yuan

Objectives  Introduction to IMF  Case Studies  Thailand  South Korea  Philippines  Indonesia  Malaysia  Conclusion

Introduction to IMF  Established on Dec 27, 1945 as one of the two Bretton Woods System  Original goal was to eliminate exchange rate restrictions and promote economic stability

Introduction to IMF cont’d  Decades after WW II, the world experienced tremendous growth in real incomes   The role of IMF has thus evolved to suit the changes “promote international monetary cooperation, exchange stability, and orderly exchange arrangements; to foster economic growth and high levels of employment; and to provide temporary financial assistance to countries to help ease balance of payments adjustment”

Asian Financial Crisis  Started on July 2, 1997 with the devaluation of the Thai baht  Affected Asian countries, especially South Korea, the Philippines, Indonesia, and Malaysia  There was a collapse in currency values after a period of turmoil in foreign exchange markets

Devaluation during the Crisis

Role of IMF  Very controversial, causing the locals to call the crisis “the IMF crisis”  Criticized for encouraging the developing economies of Asia down the path of "fast track capitalism"  Offered to step in the case of each nation and offer it a multi-billion dollar "rescue package" to enable these nations to avoid default

IMF vs. Financial Crisis in Thailand  Introduction: Financial Crisis in Thailand  IMF Support and Conditions  Critiques  What went wrong?

Introduction: Thailand ’ s Financial Crisis

Two sources of vulnerability coexisted: 1.

Exchange rate

Banks borrowed in foreign exchange and lent in local currencies => exposure to losses in the event of a depreciation

2.

Mismatch of Maturities

Banks borrowed in short-term maturities and lent with longer payback periods => exposure to the risk of a run (creditor ’ s refusal to roll over loans)

IMF Support and Conditions      Float of the currency Medium-term loans in the amount of 17.2 billion US$ to shore up the foreign reserve position, and maintain gross international reserves of $23 billion in 1997, and $24 ½ billion in 1998.

Spending Cut Increase in the VAT rate from 7-10%, effective August 16, 1997, expecting to yield nearly 1 ¼ percent of GDP in additional revenues on a full-year basis.

Banking system reform

Critiques

"These countries didn't get into trouble because of

profligate monetary policy, The IMF probably made the problems worse."

Alan Blinder Some important imbalances in fact existed

but they would have required a more modest adjustment …

“ The punishment was much larger than the crime ”

.

Largely consensual

Panic in the financial sector partially explained and definitely amplified by institutional weaknesses and bad (incoherent) policies, including non-domestic ones (IMF, lack of accurate international surveillance)

What went wrong?



Why demand balanced budgets from countries that are already in recession due to lack of demand?

Thailand after IMF intervention ended with insufficient demand, high interest rates, when the need was of

increase in investments

, in education and/or infrastructure, both essential to economic growth. The lack of demand worsened the recession deepening the economic slowdown.



What about rising interest rate?

Thailand firms at that time presented high levels of indebtedness, thus imposing a high interest rates helped to the collapse of many firms .

IMF vs. Financial Crisis in Korea  Introduction: Financial Crisis in Korea  IMF Support and Conditions  Critiques

Introduction: Financial Crisis in Korea  Huge bad debts  Sharp Korean won depreciation  Financial structure

IMF Support and Conditions  Korea received $21 billion loan from IMF  Conditions of IMF Stand-By Arrangement  Tighten Monetary and Fiscal Policies  Cancel trade barrier  Reform the bank system

Critiques  Jeffery Sachs ’ criticism 

“ There is no fundamental reason for Asian ’ s financial calamity except financial panic itself.

”

 IMF has double standards of the policies.  Local banks and international banks are in the different criterion

IMF vs. Financial Crisis in the Philippines  Philippine's Economic Conditions  IMF Support and Conditions  Critiques  Philippines’ Strategy

Philippine's Economic Conditions 1  High inflation and overinvestment

Philippine's Economic  Conditions 2 Prolonged use of IMF Funds

IMF Support and Conditions  EFF 1997 $699 million and SBA 1998 $1371 million  Fiscal Policy: 25% mandatory reserve, temporary suspension of 14.4 billion peso of new programs and projects, tax reform  Monetary & Exchange rate policy: increase foreign reserve to $920 million, adjust interest rate to contain inflation

Critiques  IMF policies were contractionary in nature  Philippines deviated from the IMF goal, sought more aggressive reform

Philippines’ Strategy  Focused on regional trade and business process outsourcing

IMF vs. Financial Crisis in Indonesia  Introduction: Financial Crisis in Indonesia  IMF Support and Conditions  Critiques

Introduction: Indonesia’s Financial Crisis  Large amount of short-term foreign debt owed by the private corporate sector  Attack on the Indonesian rupiah

Role of IMF  Financial support of up to about US$10 billion, equivalent to 490% of Indonesia’s quota, over the next 3 years  Initial programs:  Financial sector restructuring  Structural reforms  Fiscal measures

Critiques  Forced government of Indonesia to guarantee private debts owed to foreign creditors  Severe fiscal austerity caused millions of Indonesians lost their job

IMF vs. Financial Crisis in Malaysia  Introduction: Financial Crisis in Malaysia  How Malaysia Overcome the Crisis  Result

Introduction: Malaysia’s Financial Crisis  Attack of the Malaysian ringgit  Sell off on the stock and currency markets

How Malaysia Overcome the Crisis  Moved the ringgit from a free float to a fixed exchange rate regime  Imposed capital control  Formed various agencies

Result  Growth at a slower but more sustainable pace  In 2005 - US$14.06 billion surplus  Without IMF, Malaysia suffered less severe economic problems

Conclusion  The financial crisis in Asia was not a consequence of economic downturn  Martin Wolf:  “ Partial integration into a world financial system unable to evaluate risk either intelligently or consistently."   IMF should not be given so much power IMF should build the confidence in the country