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Replay of 1997 Asian Crisis Unlikely in EM Countries 

Stefan Hofrichter 



Chief Economist Stefan Hofrichter says that despite temporary weakness in asset prices, Asia’s EM economies look better prepared to avoid a repeat of the Asian contagion of ’97. Look for better economic data to help redirect capital flows.
Since the announcement of Fed tapering on 22 May, emerging-market (EM) equity underperformance – ongoing for three years – has increased. Most EM currencies, except the RMB¹, have devalued significantly. In some cases – notably India, Indonesia, Brazil, Turkey, South Africa – the decline in currencies has been parabolic, and hard and local currency bonds have also lost value. Are we facing a new EM crisis similar to the one that started in Asia in 1997 and extended to Latin America and Eastern Europe in 1998?

To answer this question, it is important to understand that emerging markets today face several headwinds.

First, as many EM currencies and bonds have benefited from Fed balance-sheet expansion, a slightly less aggressive US monetary policy is clearly causing issues. With the Fed’s decision not to start tapering in September, this issue is less imminent now, but it is likely to come back to the fore later this year. Weaker EM currencies are also triggering higher inflation rates and may induce tighter central-bank rates – negative for bonds and equities.

Second, the change in policy by the BOJ² has triggered a major devaluation of the yen. Asian exporters – particularly South Korea – are suffering as their respective currencies have appreciated against the yen. Keep in mind that the 1997 Asian crisis was preceded by major yen weakness (the yen depreciated from around 85 to around 125 against the dollar from 1995 to 1997), putting pressure on Asian exporters.

Third, given the lacklustre post-bubble economic recovery in the industrialized world, EM export growth has lost momentum.

Fourth, to stem huge capital inflows into EM countries as a consequence of QE in industrialised economies, EM central banks began tightening monetary policy in 2010. As EM central-bank balance sheets relative to GDP contracted, EM growth slowed.

Fifth, with growth in EM economies slowing, demand for commodities has moderated, putting pressure on commodity-exporting economies – especially in Latin America and Eastern Europe.

All these developments can help explain the temporary weakness in Asian asset prices. However, in many ways, EM economies today look better prepared to avoid a repeat of 1997:

Current account deficits in Asia were the rule in the 1990s, while today they are the exception: Apart from India (with a current account deficit of 5 per cent of GDP) and Indonesia (at 3 per cent), all other major Asian economies run trade surpluses – though admittedly these have been shrinking of late.
In Latin America and Eastern Europe, current accounts are in better shape.
External debt/GDP ratios are much lower.
As a consequence of the previous crisis, and to guard against capital outflows, authorities in Asia have accumulated substantial currency reserves.
During the past few months, economies with better fundamentals (notably China, Taiwan, Thailand, Korea and Poland) have seen their currencies and asset Japanmarkets perform significantly better than those with weak fundamentals. Market participants are clearly differentiating.

Still, there are developments that warrant close monitoring. Strong capital inflows into some EM economies – primarily China and Hong Kong – after the burst of real-estate bubbles in the West triggered a substantial and sudden increase in private-sector debt; similar build-ups in indebtedness in the past have frequently, albeit not always, been a precursor for problems in the financial sector. In addition, even though bond issuance in EM economies in the 2000s was primarily in local currencies as opposed to hard currencies – the “original sin” of the 1990s – foreign ownership of Asian bonds has increased substantially. Foreign investors could potentially put more pressure on Asian asset prices unless the appetite for EM assets recovers.

We believe there are important differences between today’s environment and the crisis of the mid- to late 1990s, and a repeat of the 1997 crisis is unlikely. While we are not yet out of the woods, the recently observed stabilisation in economic data in some emerging markets may help redirect capital flows back into the region.

1. Renminbi
2. Bank of Japan

Foreign markets may be more volatile, less liquid, less transparent and subject to less oversight, and values may fluctuate with currency exchange rates; these risks may be greater in emerging markets.

The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Forecasts and estimates have certain inherent limitations, and are not intended to be relied upon as advice or interpreted as a recommendation.



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