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The international political economy is one of the important phenomena in international relations. Issues in international economics have a huge impact on the relations at the international stage. One of the most important issues in international economics is the forces in the international business cycles resulting to economic crises.
International financial crises have been prevalent in international economics occurring in different regions at different times. The first major financial crisis in the world occurred during the post WW1 era in what is famously known as the great depression of 1930s. Other crises in international economies have been occurring including the recent financial crisis that directly affected the United States and the European Union.
There is also the least known financial crisis that affected East Asia in a span of one year – 1997-1998. This had devastating consequences on the East Asian economy. However, the quick actives responses by the states in the region helped in the quick aversion of the crisis and its impacts on the region’s economy (Heo & Horowitz, 2000). This essay discusses the developments of the financial crisis in East Asia financial crisis.
The effects of the crisis on the affected states have been analysed. In addition, the paper discusses measurers applied by states in averting the crisis. This essay centres on two benchmark states: Singapore and Australia. In this article, it has been be demonstrated that the economic crisis has a spill over effect especially when applied to regional economic blocs.
Origin and development of the financial crisis in East Asia
Most research findings point at a number of aspects as being behind the financial turmoil that was witnessed in East Asian States between the year 1997 and 1998. Weak macroeconomic policies and foundations by East Asian countries have been found to dominate the argument about the causes of the financial crisis.
This argument was made by both financial institutions such as the International Monetary Fund and economists. However, there is another argument holding that the presumed causes of the crisis do not wholesomely apply to all nations in the region. In most cases, the economic analyses of the causes are generalized.
This relates to political settings of these countries, economic structures, social environment and the relations between these countries. However, diversity exists in the internal economic and political structures of these countries, and this point to different inclinations causes, responses and results of the crisis to individual countries (Hasan, 2002, p. 1).
Radelet and Sachs (1998) observed that the financial crisis in East Asia emanated from liquidity flight in Thailand and the subsequent depreciation of the Thai currency. The baht recorded a big percentage of depreciation – over 50 per cent in the year 1997. This depreciation had effects on the currencies of other countries because of the participation of the country in regional trade.
The Indonesian currency was the second one to respond. Eventually, all countries within the economies of East Asia followed in progression. Indonesia and Thailand in which the crisis emanated were the hardest hit by the crisis. Inflation became very high with a lot of cutbacks and crunches being witnessed in these economies. Inflation rose by 58 per cent in Indonesia within a period of less than a year (Reisen, 1999).
Inflationary pressures were also recorded in the entire states of East Asia. There were notable different economic abilities in handling the crisis. In this case, the most devastated countries were those states that had weak economic structures. The East Asian countries had different liberalization patterns, which aided them differently in mitigating the effects of the crisis.
Countries with strong economic structures such as Malaysia are argued to have suffered regional economic contagion. Political pressures of the 1970s and 1980s had forced most nations in the region to embrace the liberalization of their financial systems.
This was also done in order to give countries some power to respond to the external market with a lot of ease. Therefore, it was evident that the economies of the countries in the regions were closely knit in the sense that individual countries could not easily resist economic falls in one country (Baek and Jun, 2011).
The Asian financial crisis can be looked at from both the micro and microeconomic policies that were being pursued by the countries, which resulted to currency speculations. Speculation and the pursuance of hard monetary policies are argued to be the genesis points of the Asian financial crisis.
Prior to the crisis, most Asian countries had for close to two decades executed economic strategies that had put them on a clear lane of economic development. This crisis led to lapses and destruction of the flow of economic development for most countries in this region.
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On the other hand, it is argued to have been a pointer to economic re-examination by most countries in the region. A number of countries such as Singapore, Malaysia and Korea recovered from the crisis and have attained great economic achievements that surpass the achievements made in the US and Europe.
Some countries have found it strenuous while trying to recover from the crisis because of the policy lanes that they followed. However, other emergent issues combine to hinder the countries from full recovery and the attaining of strong, sustainable economies (Denis, 2002).
Among the factors that economies of East Asia is the 2007 economic turmoil that originated in the United States and Europe. This signifies the fragility of international economies (Jeon, 2010).
Response and effectiveness of response to the crisis
In history, whenever countries have been faced with financial crises, they have often resorted to certain policy response mechanisms. One of the most common policy responses is the search for funds from international financial institutions to help in cushioning the financial crunch.
International financial institutions such as the International Monetary Fund in most cases attend to the needs of the states by providing funds to bail the countries affected by the crisis. However, this response is not often immediate or rapid as countries have to fulfil the conditions of the international financial institutions, which may include ensuring that there is economic transparency.
The East Asian financial crisis was responded to by the affected countries that were in search of ways of revitalizing their monetary systems. Malaysia is among nations that were hard hit by the crisis which threatened to sway the country from the rapid economic path that was being pursued (Sundaram, 2006).
According to Hasan (2001), Malaysia took a different response path to the crisis. Malaysia did not choose to approach the IMF for financial support. However, the country chose to go as per the prescriptions of the IMF. Malaysia adopted a tight monetary policy for a period of one year. This was one of the prescriptions that was made by the international financial institutions and entailed the raising of the interest rates.
However, this policy lane did not seem to be favourable to the Malaysian economy. The economy began to shrink because of the inability of business institutions to access finance due to unsustainable interest rates. Many projects that were running had to be either put on hold or progress at a very slow pace due to deep cuts in public expenditure. The employees suffered from cutbacks in their work benefits.
In short, the economic impacts of the monetary policy adopted by Malaysia during the first year were not favourable to the economy. The tight monetary policy led to a series of activities that included cutbacks in the economy.
This resuted to more than 6 per cent drop in the real gross domestic product of the country. In spite of this, Malaysia still remained adamant to approach IMF for funding to bail the economy and stabilize the currency (Dornbusch, 2001).
Since the economic fundamentals of Malaysia were strong, the country chose to impose control on capital outflows in order to eliminate the speculative demand for the Australian currency and prevent its internationalization. Thus, the country pegged its currency on the US dollar that helped in devaluing the currency and eliminating the speculative demand.
This was a replica of international economic behaviour since most countries suffering from economic shrinks opt to strict regulation of foreign capital flows. However, this was done in a more liberalized and open way, as opposed to the pre-crisis period.
The controls were implemented in a selective manner leaving the foreign investments intact. The current accounts were also not affected (Sundaram, 2006). In addition, the country replaced the pursuance of a tight monetary policy with the prescription made in Keynes economics.
A cheap monetary policy was adopted, and this resulted to a drastic fall in the rate of interests. Effective demand was increased, and banking institutions were encouraged to lend considerable finances to the industry. All this translated to a clear path towards the regaining of performance and financial stability of the Malaysian economy (Choudhry, Lu and Peng, 2007).
The avoidance of assistance from the IMF and the adoption of a Keynes economy accompanied by liberalized restructuring programs helped in putting the Malaysian economy back on track. The gross domestic product of the country regained its strength by the end of the year 1998 registering over 6 per cent growth.
The country’s economy has been operating on quite a stable path since then. Rejecting to approach the IMF for funding is argued to have helped Malaysia to recover from the crisis quickly (Huston and Kearney, 1999).
Being among the countries that had adopted a strong development path, Singapore was also devastated by the East Asian financial crisis. The effects of the financial crunch in the region fell on Singapore with a thud. This is because Singapore had strong roots of investment in the neighbouring countries.
This resulted to major economic shocks such as the shrinking of prices on the stock and securities market of Singapore. In general, the country is argued to have been a victim of the crisis (Choudhry, Lu and Peng, 2007). It suffered from the spill over effects of the crisis due to strong economic roots in the East Asian trading region.
Singapore is argued to be one of the benchmarks in dealing with the financial crisis that occurred in East Asia. Singapore took an independent or internal approach to avert the crisis and its effects to the economy following the footsteps of Malaysia. The country chose to concentrate on wage instruments and control of exchange rates in an effective way.
Despite the rise in the speculative demand for the Singapore dollar, the country used strict controls to manage and check its exchange rate system. Therefore, the Singapore dollar was quickly depreciated as a response to the loss of competitiveness in exports due to the collapse of the currencies of the neighbouring countries. Direct cost cutting approach was used by the country to maintain competitiveness.
Wage and operating costs were cut. Singapore continued withholding to the liberalization of its currency on a long-term basis thus ensuring competitiveness of the economy. This enabled the country to maintain a strong currency as compared to other currencies of the region like rupiah, the baht, the ringgit and the won.
This happened despite the drop in the value of the Singapore dollar to major international currencies such as the US dollar, European currencies, and the Japanese yen (Choudhry, Lu and Peng, 2007).
Despite the effect of the financial crisis, Singapore, which is the economic hub of Southeast Asia, had strong economic foundations that sailed it through the crisis. These include the maintenance of strong fundamental in the economy such as strong financial institutions and the continued use of a well managed exchange rate system.
Others included the well established wage system and strong controls on bank lending in Singapore currency (Baek and Jun, 2011). The country had to respond to the loss of competitiveness in international trade by making adjustments to the long withheld economic policies. The country applied the strategy of cost reduction to improve the profits made by businesses.
This was implemented by enhancing the capacity of all industries and improving on the labour efficiency. All these were pursued with the aim of cushioning the Singapore economy amidst the crisis and maintaining the sustainability of the economy. The country managed to devalue the currency through the combination of exchange rate depreciation and application of cost-cut measures.
In addition, the Singapore economy has been significantly diversified with the development of many industries and reduction of dependence on a few industries (Jin, 2000). In this case, it can be said that Singapore gained economic grounds after the shocks of the Asian financial crisis and has continued to grow by continuing to embrace sound economic policies (Choudhry, Lu and Peng, 2007).
It has been demonstrated that financial crises are a common phenomena that often result from the economic policies that are pursued by states. Countries that fall within a common economic block or region can easily be affected by a financial meltdown occurring in a single country.
This is evident in the East Asian financial crisis and resonates from the fact that economies are interconnected in the sense of bilateral and multilateral trade relations. While some states opted for external financial support from IMF, others like Malaysia chose to pursue independent economic policies that helped them to recover from the crisis immediately.
Countries that sought for international funding took quite long to recover such as Indonesia and Thailand. Notably, the implications of the crisis cannot be said to have been completely eliminated. This is because many gaps still remain in the regional economic policies exposing countries to economic shocks.
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