The Asian economies' large current account deficits are worrying, says David Smith, but there's no reason why prosperity should not continue in the longer term.
A familiar phenomenon has been at work in international financial markets recently. Currencies have come under fierce attack, forcing banks to raise interest rates sharply and prompting governments to denounce the speculators they see as responsible. The International Monetary Fund (IMF) has been called in to organise a rescue. To students of British economic history, it must seem like old times. Or it would be, were it not for the fact that some of the countries and currencies affected are those we have come to regard as part of the Asian miracle. The tigers themselves (Hong Kong, Singapore, Taiwan and Korea) have certainly been partially affected, but at least some of the tiger-cub economies (Thailand, Malaysia, Indonesia and the Philippines) have been directly in the line of fire.
A textbook currency crisis
For these four, sometimes called the Asean-4 (Association of South East Asian Nations), the symptoms of the current malaise have been similar.
A slowdown in export growth has heightened investor concern about whether the large current account deficits they have been running, ranging from less than 4% of gross domestic product in Indonesia to nearly 8% in Thailand, are sustainable. This concern has, in turn, produced a reversal of the large-scale capital inflows upon which these economies depended. Once capital starts flowing out again, or even stops coming in at the same rate as before, the results are straight from the British textbook of currency crises. Interest rates are pushed up to the mid-teens, other emergency measures are introduced. Some investors get their fingers burnt. Others decide to seek safer havens until well after the crisis has blown over. Most worrying of all, nationals of the countries concerned decide to indulge in a little self-preservation, otherwise known as capital flight - shifting their own assets abroad.
This particular crisis has, however, raised more questions than most - among them, whether there will be a significant direct impact of Asia's problems on western economies and whether the Asian economic miracle is over. Certainly some $70 billion of international banking assets were tied up in Thailand before the crisis - and roughly double that amount for the Asean economies combined. But it is important to put what has been happening in Asia into perspective. Big though the capital flows in and out of these tiger-cub economies have been - relative to the size of those economies - they are small in relation to the global picture.
The world need not worry
It is worth remembering, too, that market 'corrections' do not necessarily imply world economic downturns. The October 1987 crash was followed by the memorable 1988/89 boom.
I agree with those who believe that stock markets have risen too far.
Financial turbulence, wherever it occurs is, in addition, a symptom of underlying problems, perhaps a sign that investors are engaged in the last few rounds of pass the parcel, with no one wanting to be left holding a bundle of losses. But currency and stock-market turmoil in Asia does not necessarily impact on the real economies and even a bad recession in the affected Asian economies would not imply anything too severe for the more mature industrial economies. Calculations by Goldman Sachs show that, even in the event of a 5% drop in demand in the Asean-4 econ-omies, the effects would be relatively small. GDP growth in Japan would be reduced by 0.11%, in America by just 0.04% and in Europe by a similar amount.
Clearly, the greater the extent to which the tigers as well as the tiger-cubs are affected, the bigger these effects, but they will nevertheless still be relatively minor.
This then leaves the second question. Is it the end of the party for some of the miracle economies of Asia? Certainly, for some of them it will feel like it over the next couple of years. Thailand, constrained by an IMF-imposed austerity programme, will do well to grow at all this year, and will struggle to show more than 2%-3% annual growth over the next couple of years, a pale shadow of recent rates of expansion of 7% to 9%. Growth in Indonesia, the Philippines (which has also called on the IMF for stand-in loans) and Malaysia will also slow markedly, but probably not to the same extent.
After that, there is no real reason - as long as international investors recover their composure - why the Asian miracle should not have longer to run. Mexico is a case in point. Its economy declined by 6% in 1995, but has averaged 4%-5% growth since, partly under the impact of a lower exchange rate and its beneficial effect on export growth. A similar mechanism should occur for the tiger-cubs, as long as they avoid the temptation to close themselves off by taking aggressive action on those they believe to be speculators - George Soros has already been named as a villain of the piece by local politicians.
What the crisis has done, however, is to demonstrate that there is a limit to which even economies with huge potential can run large current account deficits and be reliant upon even larger capital inflows. Sooner or later, unbalanced economies run into difficulty. In this respect, the markets have served a very useful purpose.
This brings me on to China, which at the time of writing has appeared immune from the difficulties faced by other emerging economies in its region. China, whether by luck or judgment, has managed to run a more balanced economy. There is no gaping current account deficit, it runs small surpluses, and capital inflows have been of a different character (ie more long-term) than others in the region. Which is just as well.
Because of its sheer size, a China crisis - and not only because of its impact on Hong Kong - would be a different kettle of fish.