The so-called Asian financial crisis provided some valuable lessons about nation state and global financial systems. What are some of those lessons? The so-called global sub-prime credit crisis has had a significant impact on the international financial markets. Discuss the evolution of sub-prime component of the crisis and the credit component of the crisis.
Asian financial crisis is a series of currency deflation, economic slowdown and monetary crisis and other events that spread through many Asian markets beginning in the summer of 1997, that left a big impact on national currency rates, interest rate, capital flow, economic growth, consumer demand and default on foreign debts. Through this crisis, valuable lessons should be learned to prevent it happen again.
To begin with, every nation need for great caution about financial liberalization and globalization, especially for developing countries that interface between global developments and national policies in planning a nation's financial system and policy (Martin Khor n.d.). Based on Wade and Veneroso (1998), financial liberalization in Asia was an inappropriate policy that only diluted the role of government in overseeing by supporting private enterprises, and it also undermined their developmental strategy that had served the region's economies with unique financial system that was successful in marshaling big amounts of savings and long-term financial relations. So, actions should be taken to avoid speculative inflows and outflows of funds, and to prevent opportunities for speculation on their currencies. At the least, the process of launching capital flows can be done in line with the growth of knowledge and ability locally on how to effectively handle the challenges that come with the different aspects of liberalization.
Next, nation state need to maintain the exchange rate by requiring policy makers to have the good understanding of the processes at work, the policy instruments to deal with them, adequate regulatory, policy and legal structure and the enforcement ability (Martin Khor n.d.). It's because during the Asian financial crisis, Hanbo Steel, the flagship of the 14th largest charcoal in terms of total assets with US$ 6 billion in debt, declared bankruptcy in January 1997 (Fukushima & Takii 1998, p142). Moreover, the private sector players will also have to understand, master and control the processes such as inflows of funds through loans and portfolio investment, the recycling of these to the right sectors and institutions for efficient use, and the control the changes in foreign currency rates.
Last but not least, nation need to manage and build up foreign reserve carefully. Exports and imports, the payment for trade services, the servicing of debt and repatriation of profits, the inflows and outflows of short-term funds, the level of foreign direct investment and the inflows of new foreign loans are components of the balance of payments, whose "bottom line" determines whether there is an increase or run-down of a country's foreign reserves (Martin Khor n.d.). To guard and build up the foreign reserves, the country has to take measures in the short and longer term to strengthen the its balance of payments, in particular the two main aspects, the current account and the capital account,so that the overall balance of payments can be in surplus, and the foreign reserves be built up. Most Asian economies now enjoy sizeable current-account surpluses and have built up extensive foreign-exchange reserves with which, in theory, they could protect their currencies from speculative attack in future. (Chung H. Lee 2002)
In a nutshell, through Asian financial crisis, every nation should more take note on liberalization and globalization, maintain exchange rate and build up foreign reserve.
Answer (b):
Sub-prime credit is the lending industry to define a borrower who does not have a good credit history and hence is not able to qualify for best market rates vis-à-vis the prime category borrower (Abhishikta Chadda n.d.). By lending loan to these financially troubled, the lenders, probably, are exposing to high risks. In 2008, the sub-prime financial crisis happened, and its effect has been spreading throughout the economy: finance, services and manufacturing, and more effects are yet to be revealed.
To begin with, in 2007, the sub-prime financial crisis began with the eruption of housing bubble in the United States (U.S.) and triggered a global financial crisis. This happens because USA federal reserves had maintained a very loose monetary policy whereby interest rates were extremely low, in order to stimulate economic activity (FIN 111 Introductory Principles of Finance 2011). However, this became supporting the culture of debt accumulation. At the same time, low-cost finance created a big demand for housing, housing loan lenders began to lower their credit standards by giving 'honeymoon interest rate' that are initially low, but rise tredemendously at the end of honeymoon period. These loans are known as sub-prime credit as large number of borrowers began to default loan repayments. In order to recover a outunstanding defaulted loan amount, bank foreclosure increased to set off the sale of lenders's assets residential properties. This securitization process spread the market risk, offered depository institutions a more liquid class of loan assets, and tapped deep sources of capital for the mortgage market (Randall Dodd 2007). These had lowered the price in housing property market, and bank reluctant to lend as the losses had to be written off against equity capital and reduce their capital base. Also, the largest proportion of housing loan were packed together and sold to institutional investors which are known as collateralised debt obligations (CDOs).
As a result of sub-prime crisis, a number of financial institution falled, the most remarkable is Lehman Brothers. Also, the sub-prime crisis became global credit crisis as institutions cut back their lending in the inter-bank market and the lending to individuals and corporations. On the other hand, central bank attempt to reduce the credit crisis by pumping huge amount of liquidity into financial system, however it only created a limited effect. As a result of the turnmoil in the financial markets, negative economic growth occured. Besides, with the ageing population rapidly approaching retirement, the crisis has increased the longer demands on pension payments by govertment as their value of retirement savings had coupled with economic downturn.
In a nutshell, all nation must be very caution on sub-prime credit crisis, so they should have the ability to understand, measure and manage risk to prevent or minimise the risk.
