THE collapse of the Thai baht on 2 July 1997 signaled the most serious crisis of confidence that the economies in the ASEAN¹ region (as well as the Northeast Asian economies²) have faced in recent years.³ The impact of the confidence crisis within ASEAN differed across countries and was very much linked to the volume and volatility of capital inflow into them. Thus, the initial impact of the confidence crisis was most felt among those attracting sizeable amounts of international capital⁴: Indonesia, Malaysia, Singapore and Thailand.

As short term capital began to leave and the currencies came under severe pressure, the economic and social fundamentals, institutions and policy responses differed as did the consequences.⁵ As Table 1 portrays, in terms of the impact and evolution of the confidence crisis, Indonesia suffered the maximum and Singapore the least.

 

 

The region is now posting signs of recovery. The factors that have contributed to it are the relatively low international interest rates, Japanese reflation (US$ 80 billion worth of permanent tax cuts for individuals and corporations), Japan’s US$30 billion aid package for East Asia, injection of new money from the IMF (US$ 90 billion), the overall supportive stance of G7 countries and strong U.S. growth. Most commentators on the economic health of the region, however, caution that many problems still remain and the recovery is rather fragile. This is because there are, in fact, ranges of recovery within the region: robust recovery in Singapore, cautious optimism in Malaysia, fragile recovery in Thailand and continuing uncertainty in Indonesia.

The Singapore economy grew strongly in the second quarter of 1999, a sharp rebound from the preceding quarter (Table 2). The commerce and manufacturing sectors also expanded by over 20% on a seasonally adjusted quarter-on-quarter basis. The boost for the manufacturing sector came from the expansion of the electronics industry by 23% as output of telecommunication equipment surged with a strong demand for cellular phones. Growing global demand also boosted the manufacturing of semiconductors, while the regional recovery stimulated a higher output of PCBAs. Chemicals and chemical products industry grew by 38%, led by the increase in production of pharmaceuticals for exports to the U.S. and Europe. The construction sector continued to be in a slump.

Singapore’s total trade rose sharply by 8% in the second quarter of 1999, reversing the 9.4% contraction in the preceding quarter. The rebound reflected the growing strength of the recovery of global electronics demand and the bottoming out of the crisis hit Asian economies.

There was a strong rebound in the financial services sector. The main engine driving the robust growth was the stock market, which surged by 587% and 359% in volume and value terms compared to declines of 40% and 21% respectively in the first quarter.

In line with the pickup in economic activities, the labour market improved in the second quarter. Total employment rose by an estimated 15,400 in the second quarter, compared with a decline of 9,600 in the preceding quarter. This is the first quarterly increase after four consecutive quarters of declines. The seasonally adjusted unemployment rate continued to trend downwards, easing to 3.3% in June 1999 from 3.9% in March 1999.

Reflecting the impact of the cost cutting package implemented from January and a strong improvement in productivity, the unit business cost (UBC) index of the manufacturing sector fell by 16% in the second quarter after a decline of 14% in the earlier quarter. The unit labour cost (ULC) index of the manufacturing sector showed a substantial decline of 24%, compared with the 19% fall in the first quarter. This was due to strong labour productivity growth.

Manufacturing investment commitments totalled $2.1 billion in the second quarter of 1999, higher than the $1.7 billion in the first quarter. Two-thirds of the commitments came from foreign investors, led by the U.S. (39% share) and Japan (15% share). The latest surveys of business expectations show that the outlook of most industries continues to improve. The Ministry of Trade and Industry is raising the 1999 GDP forecast from 0-2% to 4-5%.

The future of the economy in the medium term is closely linked to the efficiency and growth of the manufacturing and financial sectors.⁶ In respect of the latter, in the middle of May 1999, the Monetary Authority of Singapore (MAS) announced a five year programme of liberalization (to allow greater competition in the sector),⁷ measures aimed at improving corporate governance practices and lifting the 40% foreign shareholding limit in local banks. The aim is to move towards a more open and competitive environment so as to spur the development and upgrading of local banks.⁸

 

 

Whether it is the pre 1970 growth process based on thriving rubber, tin and other primary exports and modest industrialisation, or the post 1970 growth based on industrial widening and deepening and industrial exports, one of the key facilitating factors was the exchange rate mechanism – fixed exchange rates in the Bretton Woods system and the subsequent regime of flexible exchange rates.

In the wake of the currency and financial crises of the late 1997 and 1998, Malaysia decided not to seek IMF help. Instead, on 1 September 1998, the Malaysian Central Bank (Bank Negara) announced a series of measures to insulate and protect the economy to minimise the impact of the global financial turmoil on the country. These included the establishment of a fixed exchange rate for the Malaysian ringgit (pegged at RM 3.80 to the US dollar on September 2) and making the ringgit tradeable only in the country.

The new measures⁹ are aimed at limiting the contagion effects of external developments on the Malaysian economy; preserving the recent gains made in terms of the policy measures to stabilise the domestic economy; ensuring stability in domestic prices and the ringgit exchange rate and creating an environment that is conducive for a revival in investor and consumer confidence and facilitate economic recovery. Assured, however, are the general convertibility of currency for current account transactions; free flows of direct foreign investment and repatriation of interest, profits and dividends and capital; and minimal inconvenience to the general public.

The superior 8.7% GDP growth achieved during 1990-97 in contrast to the 5.2% of 1980-90 has been facilitated by phenomenal increases in exports and investment, respectively occupying 90 and 43% shares in GDP in 1997, compared to 30 and 58% in 1980. The key question thus is whether currency controls will stimulate domestic investment and exports.

There was a strong 4.1% economic growth for the April to June period (Table 3). The official explanation is that the recovery has been due to strong export growth, government spending and the stability brought about by capital controls. Manufacturing led the way in the second quarter, growing by 10.4% after a 1.1% contraction in the first quarter. This was due to strong external demand for electronics, mainly from the United States.

 

 

Agriculture was the next strongest performer, recovering from a 3.5% contraction in the first quarter to grow by 8.7%. Overall, Malaysia’s economy has grown by 1.4% in the first half of the year, putting it on track for full year growth of more than 3%. Government spending ballooned to RM 5.5 billion (S$2.4 billion), compared to RM 933 million in the first quarter, as Malaysia revived infrastructure projects stalled due to previous year’s recession. Despite this, inflation slowed to 2.7% compared to 4% in the first quarter.

Trade surplus remained high at RM18.1 billion. The external debt position improved as Malaysia used its global bond issue to pay off short term debts; and the ratio of short term debt to external reserves fell to 24.5% from 28.9% at the end of March. The interest rate was kept low at 5.5%. Bank Negara’s Corporate Debt Restructuring Committee was working on restructuring the steel, transport and telecommunications industries.

The optimism about the near term has to be tempered with caution for a number of reasons. It is likely that some of the US $7 billion in foreign portfolio capital will be pulled out once restrictions are eased. Foreign investment applications for manufacturing projects in Malaysia fell by 12% last year and another 21% in the first half of 1999. Export oriented electronics manufacturing has been the engine of Malaysia’s economic rebound and this lack of fresh investments despite high capacity utilization of over 90%. This could mean that the electronics companies are uncertain about future demand in the event they want to commit fresh investments to Malaysia. There is also continued weakness in imports of capital goods, which have fallen 11.3% in the second quarter after falling 36% in the first.

By the end of August 1997 (that is just about a month after the nose diving of the baht), Thailand approached the IMF, which agreed to provide a $17.2 billion standby assistance spread over 34 months. Government implementation of the conditions started soon after the conclusion of the agreement with IMF.¹⁰

The IMF bailout had begun to work by late 1998 and early 1999. The baht has strengthened and stabilised. From early 1999, when it was trading at 36 to the US dollar, the baht by late August 1999, strengthened to 38. The country’s foreign reserves, nearly depleted by the flawed policy of the previous government, which took out US $23 billion in forward contracts to defend the baht from speculators, have been replenished. They stood at $31 billion in the middle of August. Interest rates fell from double digit figures to 7% in early 1999 and 4% in August. Inflation for 1998 stood at 8%. It was expected to be halved in 1999.

Buoyed by the return of foreign investors, the Thai bourse recovered, with the benchmark Stock Exchange of Thailand (SET) index staying above 300 points in early 1999, and reaching 469 on August 25.

 

 

Growth of the economy has resumed since the first quarter of 1999 (Table 4), though the growth rate in the first quarter over the same period 12 months ago was only 0.9%. If the recovery is not short lived and is carried into the rest of 1999, Thailand could become the classic case of an IMF success story in a rather short period of time.

The fragile nature of recovery is due to continuing weaknesses in a number of areas. First, the non performing loans (NPL) of Thai banks, estimated at 45% of total loans in the financial system, or a staggering two trillion baht. Second, some 80% of small and medium sized companies are nearly bankrupt. It is not yet clear that bank and corporate restructuring are proceeding smoothly. For instance, in the middle of August 1999, the Thai central bank, after providing 185 billion baht (S$8.3 billion) to the country’s second largest financial institution, Krung Thai Bank, dismissed all but one of Krung Thai’s board members amid disagreement over how to proceed with its rescue.

 

 

Unlike Thailand, Indonesia’s IMF bailout programme followed on a roller coaster track. The Indonesian exchange rate was close to 3600 Rupiah per dollar by late October compared to 2400 prior to July 1997. Indonesia signed the IMF standby agreement on October 31st for a 36-month programme involving assistance of $43 billion. The sailing for the programme was not smooth, however. With the then Indonesian president declaring in early 1998 that the country might consider going the Currency Board way to stabilise the currency and IMF managing director disagreeing,¹¹ the currency nosedived to Rp 10,000 in mid February 1998.

There were widespread protests by students and civilian groups in Indonesia, initially protesting the price rises, and thereafter demanding the resignation of President Suharto. He resisted and stood firm. The political crisis became serious and most foreigners and some Indonesians began leaving the country. Some of Indonesia’s friends such as the U.S. openly advised the president to resign while others (those notably within ASEAN) continued to respect the elder statesman while privately hoping that the Indonesian political crisis would be resolved soon. He resigned and in mid 1999, Indonesia had its first general election, resulting in President Wahid taking over.

The latest economic report by the World Bank on Indonesia¹² notes the gradual stabilization of the economy. The following are indicators of stability. First, the exchange rate, which has moved down from Rp 2000 up until July 1997 to the lowest ever recorded levels of Rp 17000 prior to October 1998, began to recover. Since then, however, the rate has remained at around Rp 7000-8000. Second, the growth of the consumer price index, which was running at a high 82% in September 1998 declined to 24.5% by the end of June 1999. Moderation in the inflation rate has helped bring about a decline in the interest rate. A key central bank interest rate declined from a peak of 70% in August 1998 to 16% by the end of June 1999.

In 1998, GDP declined by a massive 14% (Table 5). Recent (Q1-1999) trends indicated a modest recovery though the growth rate continued to be negative.¹³ The investment slump continues, however, and the so-called reduction in the negative growth in GDP in early 1999 was mainly due to consumption growth and a turnaround in exports.

Amidst some encouraging signs that have been seen over the first and the second quarters of the year, problems continue. Negative growth (though indicative of some recovery) will not have a favourable impact on the poor. The problem of poverty is serious. Percentage in absolute poverty climbed up from 11% in 1996 to some 18 to 20% – some 40 million people – by the end of 1998.

The Bank report cited earlier recommends immediate action on three fronts: bank and corporate restructuring, protection of the poor and fiscal sustainability. On the first, the report says: ‘For banks, this means focusing on restructuring state banks, strengthening bank supervision, and accelerating asset recovery.’ Recent events, however, are not in that direction. New scandals had broken in August 1999 and these seem to threaten the fragile economic stabilization that has been achieved so far.

The newest scandal – Bank Bali scandal – came into public view in August. The story pieced together from various sources is as follows. A company (PT Era Giat Prima) owned by the deputy treasurer of the ruling Golkar party (Setya Novanto) received a whopping 546 billion Rupiah (US $80 million) fee from Bank Bali¹⁴ to collect a 904 billion Rupiah debt from two failed nationalised banks. More than half of the collection was commission. That alone was not the issue. As a matter of fact, who will pay the debt of the defunct ‘nationalised’ banks to Bank Bali, which is in need of re-capitalization? Since the debtors collapsed and closed under government supervision, the so called inter-bank claims would have to be made good from public funds. The ‘fee’ too must come from public funds.

It is alleged that the then ‘fee’ was earmarked by Golkar to pay bribes to parliamentarians to ensure the incumbent president Habibie’s election. The scandal appears to threaten what little recovery there was in Indonesia. In the last week of August, the World Bank threatened to freeze aid. Immediately after that, IMF (which has the US $49 billion bailout package) said that Indonesia was courting an economic disaster over its handling of the scandal.

The FDI confidence rankings in Table 6 do not indicate a likely FDI surge in the economies affected by the crisis. Thus, Indonesia, Malaysia, Singapore and Thailand have ranks much higher than China and India, which are potentially large markets with a billion people each. The rankings in the table are about where the investors wish to go and not where they have already gone. The medium term outlook for the ASEAN regional economies in the post crisis period thus must still be considered unclear.¹⁵

Despite the comments made above, relatively more recent evidence on the estimates of GDP growth seem to provide room for optimism about the medium term prospects for the region. The data in Table 7 indicate that Malaysia, Singapore and Thailand are on a comfortable recovery track, while Indonesia’s achievement in 1999 has been limited to preventing the steep downturn of the previous year. There is no doubt what-so-ever that the new democratically elected regime in Indonesia faces formidable challenges on many fronts.

Whatever the validity or otherwise of the current mood of optimism, changes in the development paradigm are underway. It will be quite a while for the region’s major economies to re-invent the growth miracle within the framework of emerging values of democracy and transparent accountability.¹⁶

 

TABLE 1

From Confidence Crisis to Other Crises, As of Mid-1998

Source: Ministry of Trade and Industry, Singapore

 

TABLE 3

Malaysian Economic Growth, 1998-99

Source: Bank Negara Website.

 

TABLE 4

Thailand: GDP Growth Rates

(over previous year)

Source: BOT Web and Links.

 

TABLE 5

Indonesia: Period to Period Growth Rates

Source: Bank Indonesia Web Pages.

 

TABLE 6

FDI Confidence and WEF Market Growth Rankings, 1999

Source: WEF and AT Kearney Web Pages.

 

TABLE 7

Growth Rates, 1996-2000

Source: IMF, World Economic Outlook, May 1999 and The Economist poll of forecasters as of January 2000.

 

 

Footnotes

1. ASEAN stands for the Association of Southeast Asian nations comprising Brunei, Indonesia, Cambodia, Malaysia, Myanmar, Philippines, Singapore, Thailand and Vietnam.

2. Korea was especially affected, while Taiwan too was involved.

3. It is well known that the exemplary economic performance of the East Asian economies has been dubbed the East Asian miracle. An analysis of the growth performance and the identification of the miracle economies is available in V.V. Bhanoji Rao, ‘East Asian Economies: Growth within a International Context’, Economic and Political Weekly, 7 February 1998, pp. 291-296.

4. When the East Asian economies removed capital controls during the 1990s, inflows of foreign capital amounting to 5-10% of GDP assisted them in obtaining fast growth. But, there is now growing recognition that capital can come in as well as go out quickly and a concerted outflow could spell disaster.

5. For a detailed discussion, see V.V. Bhanoji Rao, ‘East Asian Economies: The Crisis of 1997-98’, Economic and Political Weekly, 6 June 1998, pp.1397-1416.

6. Singapore is an established financial centre. The city state is the fourth largest foreign exchange trading centre in the world: Singapore comes behind only London, New York and Tokyo in foreign exchange trading, with an average trading volume of US$167 billion in 1997, for instance. It is the fifth largest trader in derivatives and the ninth largest offshore lending centre: the Asian Dollar Market is one of the premier offshore banking centres in Asia and the Singapore International Monetary Exchange (SIMEX) has grown into one of the world’s leading derivatives exchanges. The country of just over 3 million people has more than 700 financial institutions, local and foreign. They provide a wide range of financial services, including trade financing, foreign exchange, derivatives products, capital markets activities, loan syndication, underwriting, mergers and acquisitions, asset management, securities trading, financial advisory services and specialized insurance services.

7. Since the early 1970s, local banks were protected, especially in retail banking. A three tier licensing system was in place for commercial banks, comprising full banks, restricted banks, and offshore banks. No new licences for full and restricted banks were granted since 1970 and 1983 respectively. Foreign full banks are not allowed to set up new branches or relocate existing branches; install off-premise ATMs or share ATMs with other banks; or offer Electronic Funds Transfer at Point-of-Sale (Eftpos) services. (In wholesale banking, and in treasury and capital market activities, foreign banks compete more freely with local banks, while offshore banking is open completely.)

8. While government protection and strict MAS supervision enabled local banks to grow into sound, well-capitalised institutions and withstood the recent crisis, they still lagged behind the best international banks in terms of technology, expertise, range and quality of service to customers, and shareholders’ returns. They will also face increasing competition within a globalised and internet connected world.

9. The main changes in the exchange control rules are as follows: *External accounts: approval is required for transfer of funds between external accounts. Transfers to residents’ accounts are permitted only until 30 September 1998; thereafter, approval is required. Withdrawal of ringgit from external accounts requires approval, except for the purchase of ringgit assets. *Authorised depositary institutions: all purchases and sales of ringgit financial assets can only be transacted through authorised depository institutions. *Trade settlement: all settlement of exports and imports must be made in foreign currency. *Currency for travellers: with effect from 1 October 1998, travellers are allowed to import or export ringgit currency of not more than RM 1,000 per person. The export of foreign currencies by resident travellers is permitted, up to a maximum of RM 10,000 equivalent. *There are no limits on the import of foreign currencies by resident and non-resident travellers. The export of foreign currencies by non-resident travellers is permitted, up to the amount of foreign exchange brought into Malaysia. Subsequent to the announcements of early September, a number of clarifications were issued. Notable among them was that ringgit proceeds from the sale of shares listed on the Kuala Lumpur Stock Exchange could be taken out of the country only one year from the date of the sale, irrespective of the period for which the stocks had been owned. For more discussion on the capital controls, see V.V. Bhanoji Rao, ‘Malaysia’s Currency Controls: What they Mean and Whether they will Work’, Economic and Political Weekly 33(41), 10-16 October 1998, pp. 2637-39.

10. The authorities suspended 58 finance firms. In December 1997, it was announced that 56 of the suspended firms would be closed. In addition, financial sector legislation was revised and various other steps were taken. To meet the IMF’s target of a 1% fiscal surplus, the government increased its duties on import and luxury items and adjusted certain utility and state enterprise charges to reflect the larger baht depreciation. On the expenditure side, investments in utility programmes were reduced. Privatisation efforts were stepped up.

11. On 16 February 1998, Michel Camdessus said that the Indonesian plan to create a currency board could lead to ‘skyrocketing interest rates’ and heavy pressure on reserves. He also said that a currency board would ‘violate’ the terms of its $43 billion rescue deal for Indonesia.

12. Indonesia: From Crisis to Opportunity, Jakarta: World Bank Resident Staff in Indonesia, July 1999.

13. Positive growth is targeted for the year 1999-2000 at 1.5 to 2.5% as indicated in the letter of intent sent to IMF by the Government of Indonesia on 22 July 1999.

14. Not too long ago, Bank Bali, with such reputed shareholders as the United Overseas Bank of Singapore and Sanwa Bank of Japan, was Indonesia’s most highly regarded retail banking institution.

15. One might contrast the FDI confidence rankings with the World Economic Forum rankings of competitiveness. In that ranking, the positions are quite different: China has a rank (32) below Singapore (1), Malaysia (16) and Thailand (30), while India’s rank (52) is below that of Indonesia (37). What is indicated by the competitiveness index? The following is illumining: ‘Éour guiding principle is to construct an index that is correlated with economic growth over a time horizon of five years. In our index, competitive countries are those that have the underlying economic conditions to achieve rapid economic growth for a number of years’ (Year in Review by Jeffrey Sachs and Andrew Warner, 1999 World Competitiveness Report, Geneva: World Economic Forum, p. 14). Inevitably, therefore, industrialized economies such as U.S., Canada, Switzerland, U.K., Netherlands, Finland, Australia, N.Z., Japan and Norway are in the top 15 places in the ‘competitiveness’ ranking. These very countries are the ones that invest in developing countries. Entrepreneurs in these countries have contributed responses, which are the basis for the FDI confidence rankings. Those rankings, therefore, have relatively greater significance for the medium term growth of the developing economies. They are also close to the market growth rankings in the competitiveness report (ibid, p.17).

16. The values are part of the ‘Comprehensive Development Paradigm’ that the World Bank is expounding and is also what is now widely known as the Washington Consensus. In the words of the World Bank President, the content of the paradigm is as follows: ‘What it basically says is that when you look at a country, you cannot just look at fiscal or monetary policy, macroeconomic policy, exchange rates and budgets. You have to look at that, but if you have to get a complete picture, you must look at its legal structure, its governance... whether it works, is solid, decent, or if it is affected by corruption. You have to see if it has a financial structure that works, that regulates banks and public markets... You have to look at social safety nets and until you have got that, the structural elements, you really do not know much about the country... Then you have to look at the elements that go into development, that includes educational systems, knowledge transfer, water, power, transportation, communications, urban and rural projects, environment, all of which we have got there. It is not just that, it must be a list that should be set by the country itself. It should have its own priorities. But these are social priorities, structural priorities, and what we have learned is that if we try and bring about development without looking at those issues, you will waste a lot of money and you won’t be effective.’ See the interview in The Hindu, 23 May 1999.