[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

International Perspective
GLOBAL FINANCIAL CRISES
The decade of the 1990s witnessed three global financial crises.
The first occurred in 1992, forcing the United Kingdom, Italy,
and Sweden to abandon pegged exchange rates and leading
several other members of the European Monetary System
(EMS) to devalue their currencies. The second occurred in
1994 with the collapse of the Mexican peso. The collapse raised
concerns among speculators about the financial health of other
Latin American countries, and their currencies also came
under pressure. This process by which concerns about one
country spread to others is called contagion. Because the
1994–1995 crisis was centered in Latin America, the fallout
from the Mexican crisis has been called the tequila effect.
The third crisis of the 1990s was set off in mid-1997 when
speculators began selling the Thai currency, the baht. In June,
the Thai government stopped fixing the value of the baht and
it immediately devalued. As investors continued to shift into
safer currencies, such as the dollar, the Thai economy continued
to suffer. Between June 1997 and December 1998, the Thai stock
market lost almost half its value—as if the Dow Jones average
in the United States had fallen from 11,000 to 5,500. As stock
prices and other asset prices fell, banks that had lent money
using the inflated asset values as collateral were threatened.
Initially, no one expected what seemed to be an isolated
event in Thailand to lead to a global financial crisis. It did,
because investors’ assessments of the risks of investing in
emerging market economies like Thailand’s changed. Investors
started pulling funds out of Indonesia, Malaysia, and the
Philippines. As these countries were forced to let their currencies
depreciate, Singapore and Taiwan stopped fixing the
value of their currencies out of concern that their exports
would otherwise be at a competitive disadvantage. As investments
in emerging markets looked increasingly risky, investors
wanted out. They started selling holdings in other Southeast
Asian economies. The Hong Kong stock market fell 23 percent
in just four days in October 1997. Even the U.S. market
was hit by fears of a crisis. The Dow Jones industrial average
dropped 554 points on October 27, 1997, at that time the largest
one-day point loss ever. In Asia, selling pressure spread from
Thailand to Indonesia, South Korea, Taiwan, and Malaysia
before jumping around the globe to hit Russia and Brazil.
20
PERCENT CHANGE FROM YEAR EARLIER
15
10
5
0
–5
Asia
Latin
America
U.S. and
Canada
–10
1993 1994 1995 1996 1997 1998 1999
WORLD INDUSTRIAL PRODUCTION
SOURCE: IMF, World Economic Outlook (1999).
770 ∂ CHAPTER 34 THE INTERNATIONAL FINANCIAL SYSTEM