The Asian economic crisis: Does meltdown spread?

By Gwynne Dyer

Following is the first of a three-part series of articles examining the economic, social and political implications of the current crisis that began in Asia and is threatening to involve the entire world. Subsequent parts will follow in the coming days.

LONDON (JP): "The experience of being disastrously wrong is salutary," J.K. Galbraith once remarked. "No economist should be denied it, and not many are." Not now, anyway. Six months into the slow unraveling of the Asian economic miracle, nobody knows what comes next.

"Inflation will flare up, unemployment rise, and numerous companies collapse," warned South Korea's president-elect Kim Dae-jung on New Year's Day, and all that is happening already -- not just in South Korea, but in Indonesia, Thailand and the other ex-"tigers". But what about other "emerging markets" like Russia, India and Brazil? Could the contagion even affect mature industrial economies like the United States, Germany, and Japan?

So far, the dikes are holding. The other emerging markets have paid a high price: Russian interest rates doubled in November to stop foreigners from dumping government bonds and sinking the ruble, and Brazil had to impose an austerity plan to defend the real's peg to the dollar. But despite a wild ride in the stock markets in October, the other two "time zones" of the industrial world, Western Europe and North America, have taken no major hits.

Only it's not over yet. There is more bad news to come, even in countries where the currency has already fallen by half. Take Malaysia.

Compared to places like Indonesia or South Korea, Malaysia is a model of financial probity. The banking system is better regulated, and unsecured loans and monopolies were handed out to the party faithful rather less generously: no more than a dozen men in the country have made over US$100 million from their connections.

But as a local financial analyst said in Kuala Lumpur in November (off the record, of course): "Nobody knows how much money is under water around here."

The Malaysian stock market is down by 60 percent since August, and a huge proportion of the cash that evaporated was borrowed money. With the end-of-year accounting period now upon us, the banks cannot obey Prime Minister Mahathir Mohamad's request to "wait" on these debts much longer. So we will shortly find out whether Malaysia's hidden problem is big but manageable, or whether it is a $10-15 billion killer that will force brokerage houses and banks to close, and trigger a new fall in the ringgit.

There are land-mines like this scattered throughout the region: the best guess is that only about two-thirds of the bad news has come out yet. Worse yet, the remaining bad news is heavily concentrated in Asia's two biggest economies: Japan and China.

Japan has the world's second-largest economy, but a financial system not vastly superior to South Korea's. In a way, it is just a super-Korea: During the later 1980s the big Japanese banks and industrial conglomerates, with the encouragement of the state, succumbed to the same delusion that unlimited investment would produce unlimited returns, almost regardless of where you put it.

Japan built new industrial capacity in the late 80s equal to three times the total capacity of France, and of course there was no market for it. The bubble burst in 1989, and since then Japan has had the lowest economic growth rate of any G-7 country. Japanese banks were already sitting on one mountain of bad debt; now the crisis in the "tigers" has given them another.

On 13 January, the Finance Ministry disclosed that Japanese banks have three times the total of bad or doubtful loans that they had previously admitted: $86.3 billion in "irrecoverable" or "high risk" loans, and another $481 billion in "questionable" lending.

With good luck and good management, Japan may squeak through once again. But bad luck and/or bad management could produce a cascade of Japanese bank failures later this year. That would certainly have a global impact.

So would major political upheavals in China, which are very likely if the government goes ahead with the plans for mass privatization that were announced at the 15th Party Congress in September. If Beijing doesn't go ahead with the reforms, on the other hand, the economy will start to buckle under the weight of supporting so many loss-making state enterprises. Heads you lose, tails you lose.

At the least, global economic confidence will probably have to withstand two more major shocks this year: another big downward lurch in the Japanese stock market, and a devaluation of the Chinese currency. (And if the yuan falls, Hong Kong cannot avoid devaluing at the same time.) This promises to be exciting stuff, for these are far bigger economies than the ones whose troubles are currently spreading dismay around the planet.

Japan and China-plus-Hong-Kong together account for one-sixth of world trade. If they come seriously unstuck, then the entire world is heading into a major recession. (The editor says not to use the d-word.) But even if full-scale panic does not spread beyond Asia, the net impact of the Asian crisis on the rest of the world will not be small.

Barring full-scale global market meltdown, the non-Asian countries will probably carry on much as usual economically for the next six months. Then, as the full impact of Asia's difficulties feed into the global economy, they will start to come seriously off the curve in the second half, with falling growth and rising unemployment all round.

That will be unpleasant for everyone, but nothing like the level of pain that eastern Asia will be experiencing by then. There have been a million jobs lost in greater Jakarta (pop. 16 million) in the past six months, as 16 banks were shut down and construction cranes halted throughout the metropolitan area. At least a million more jobs will disappear in the capital alone this year, and between five and ten million more in the rest of the archipelago.

South Korea saw 15,000 business failures last year, but that's not a patch on the likely casualty toll for 1998. Much has been made of the "market for the formerly rich" in east-central Bangkok, where Thais with cash-flow problems can sell off the second BMW to cover the servants' salaries, but the real pain is among the millions of "formerly just getting by" who now literally have to eat less. If this is a rite of passage, it's one hell of a tough one.

It probably is a rite of passage, in both the psychological and the structural senses. The boundless optimism and naive arrogance of the "miracle" years were bound to end in tears. The cronyism, cheap credit and lax regulation that fueled the Asian investment mania of the past five years was not a system that could carry these countries into the promised land of full industrial status.

Now, in a region awash with goods for which there is no market, buildings with no tenants, and banks without money, they must build new financial structures that will meet the standards of their new master, the IMF. That means changing their whole "Asian way" approach to doing business.

"The IMF is asking them to change not just their economy, but their culture," said David Roche, formerly with Morgan Stanley and now president of London-based Independent Strategy. But with bail-outs on the order of $17 billion (Thailand), $23 billion (Indonesia), and at least $57 billion for South Korea, the IMF -- or rather its owners, the industrialized countries -- now calls the tune, and the locals must dance to it even if they hate it.

Indeed, plenty of people in the region (Malaysia's Mahathir Mohamad and the militant South Korean trade unions, to name but two) suspect that the whole crisis was engineered by the West to sabotage rising Asian competition, and to facilitate foreign take-overs of local firms.

The foreign take-overs are certainly happening: Thailand's 91 finance companies and 15 banks will be down to around 10 of each by late 1998, estimates Neil Saker, head of regional economic research at SocGen-Crosby Securities in Singapore -- and "outside the top four banks, they will all be foreign-controlled." But Asian competitiveness in export markets is actually sharpening as a result of the steep devaluation of most of the region's currencies.

Why, then, have the advanced economies come up with so much money to bail out the former Asian "tigers"? Pure self-interest. These Asian economies are big enough, and linked closely enough to the rich countries by trade and investment, that their misfortunes can drag the rich down too. So they must be rescued -- whereas really poor countries don't count at all, and can be left to starve.

The unfolding of the first big "post-global" economic crisis highlights two problems that were covered up or wished away in the early enthusiasm for globalization. The first is that it's a pretty selective globalization.

It took the IMF just two weeks to drum up $57 billion in emergency loans for 45 million South Koreans (whose average wages are about equal to those in Britain). It has taken the IMF most of this decade to get a tentative agreement on less than $10 billion worth of debt relief for hundreds of millions of very poor people in the "Highly Indebted Poor Countries": places like Mozambique, where debt service amounts to double the combined health and education budgets. "The market" worries about stability, but it doesn't give a damn about the sufferings of mere people.

The second, seriously frightening revelation is that the global economy, having evolved without a plan, is a tightly inter-linked but almost completely unregulated system. Disturbances propagate through the system in ways both rapid and unforeseen: who would have guessed that the problems of some Indonesian pseudo-banks could shake Western stock exchanges? It turns out that the global market, like other markets, does not automatically seek stability, and is perfectly capable of spinning out of control.

Over 70 years ago, just before the last Great Depression, John Maynard Keynes wrote: "I think that Capitalism, wisely managed, can be made more efficient for attaining economic ends than any alternative system yet in sight, but that in itself it is in many ways extremely objectionable."

The free market has triumphed worldwide, but now comes the task of figuring out how to survive the victory. The global economy awaits its Keynes.