Thursday, 6 October 2011

The Forgotten Crisis And What Every Financial Pundit Didn't Learn From It

Imagine there was a financial crisis that involved similar circumstances to the one we are dealing with right now and we knew how it ended. There would be no inflation vs deflation debate because we would have the answer right in front of us. .........Well guess what....There was one and we know how it ended. For some reason though, every econo-financial pundit, no matter what school of thought they are from, have forgotten about it. Wether it is Gonzalo Lira, Jim Rogers,  Max Keiser, Martin Armstrong, Karl Denninger, Mish the idiot,  or the vast misinformed crew of keynesians that spew their nonsense all over the  financial world, not one of them has ever mentioned the Asian Financial crisis. If they have then please let me know.

 The causes of the Asian financial crisis are many and disputed. At the time of the mid-1990s, Thailand, Indonesia and South Korea(440 million people, excluding China and Japan) had large current account deficits.cough..cough..US.. anyway, Many economists believe that the Asian crisis was created by market psychology and policies that distorted incentives within the lender–borrower relationship.(ala China US) The resulting large quantities of credit that became available generated a highly leveraged economic climate, and pushed up asset prices, mainly real estate, to an unsustainable level. These asset prices eventually began to collapse, causing individuals and companies to default on debt obligations. The resulting panic among lenders led to a large withdrawal of credit from the crisis countries, causing a credit crunch and further bankruptcies. In addition, as foreign investors attempted to withdraw their money, the exchange market was flooded with the currencies of the crisis countries, putting depreciative pressure on their exchange rates. To prevent currency values collapsing, these countries' governments raised domestic interest rates to exceedingly high levels (to help diminish flight of capital by making lending more attractive to investors) and to intervene in the exchange market, buying up any excess domestic currency at the fixed exchange rate with foreign reserves. (Indonesia had foreign exchange reserves of more than $20 billion)
Neither of these policy responses could be sustained for long. Very high interest rates, which can be extremely damaging to an economy that is healthy, wreaked further havoc on economies in an already fragile state, while the central banks were hemorrhaging foreign reserves, of which they had finite amounts. When it became clear that the tide of capital fleeing these countries was not to be stopped, the authorities ceased defending their fixed exchange rates and allowed their currencies to float. The resulting depreciated value of those currencies meant that foreign currency-denominated liabilities grew substantially in domestic currency terms, causing more bankruptcies and further deepening the crisis.


So what happened to the currencies ? Did the "debt deflation" within the respective economies cause their currencies to rise ? Because as the deflationists say...."there will be less currency in circulation as debt defaults" Lets see.....


Thai Baht. The Baht fell swiftly and lost more than half of its value. The Baht reached its lowest point of 56 units to the US dollar in January 1998.



Indonesian Rupiah .Before the crisis, the exchange rate between the Rupiah and the dollar was roughly 2,600 rupiah to 1 USD.The rate plunged to over 11,000 rupiah to 1 USD on 9 January 1998, with spot rates over 14,000 during January 23–26. I mentioned that Indonesia had forex reserves of 20 billion dollars in 1997. At the 1997 gold price of $300 an oz, that is equal to 1890 tonnes of gold.. The USA has around 50 billion in forex reserves in 2011. At today's price that's 810 tons of gold.



South Korea. The South Korean Won weakened to more than 1,700 per dollar from around 800.

The Philippines. The peso dropped from 26 pesos per dollar at the start of the crisis to 54 pesos in early August, 2001.

Malaysia. The ringgit had lost 50% of its value, falling from above 2.50 to under 4.57 on (Jan 23, 1998) to the dollar.

Singapore. There was a gradual 20% depreciation of the Singapore dollar.

China. Unlike investments of many of the Southeast Asian nations, almost all of China's foreign investment  took the form of factories on the ground rather than securities, which insulated the country from rapid capital flight.   Funny that.....How many factories does the US dollar have to insulate it from capital flight ?

Japan. The Japanese Yen fell to 147 as mass selling began, but Japan was the world's largest holder of currency reserves at the time, so it was easily defended, and quickly bounced back. Funny that too.....How much foreign reserves does the US have to defend the dollar ? Just under 50 billion actually. About $100 per person. Just for some perspective, Switzerland today has $40,000 per person in foreign reserves. And the consensus is that the dollar is the best of the fiat currencies today hahaha. That's a topic for a whole other post though.


Comparing the United States and the dollar bloc to Zimbabwe is just plain wrong at best and stupid at worst, yet that is what everyone seems to bring up.The Asian financial crisis is the proper comparison.

Thailand, Indonesia and South Korea(440 million people) had large current account deficits.-Check
Market psychology and policies that distorted incentives within the lender–borrower relationship.-Check
a highly leveraged economic climate, and pushed up asset prices to an unsustainable level. These asset prices eventually began to collapse, causing individuals and companies to default on debt obligations. -Check

The resulting panic among lenders led to a large withdrawal of credit from the crisis countries. -Treasuries/US Debt/JGB's have rallied so no. This has not happened yet but it will. That is the essence of loss of confidence.

As foreign investors attempted to withdraw their money, the exchange market was flooded with the currencies of the crisis countries, putting depreciative pressure on their exchange rates. -This has not happened yet either but it will. It is also the essence of loss of confidence.

To prevent currency values collapsing, these countries' governments raised domestic interest rates to exceedingly high levels (to help diminish flight of capital by making lending more attractive to investors). -This ain't going to happen. As I said in my first post "Is the Euro System the next Monetary Order ?", the system is too far gone for capital to be re-attracted to government bonds as a store of value.

When it became clear that the tide of capital fleeing these countries was not to be stopped, the authorities ceased defending their fixed exchange rates and allowed their currencies to float.- Coming soon but in this case, the ultimate wealth reserve asset will be allowed to float, gold. The COMEX futures market will default and the London Bullion Market Association will implode, no different then the London Gold Pool imploded when France withdrew which ended Bretton Woods 1.

So in conclusion, who in the right mind can possibly think that there will be a sustained rally in the US dollar as their economy is implodes ?  Also, was it mentioned once that any of these Asian countries where printing currency that resulted in these huge devaluations ? No. 

As past crisis history has shown , capital flight out of US dollar denominated debt and treasuries is the the only logical conclusion to this crisis 
 




27 comments:

  1. hey! very cool article! I've been hearing about the Asian crisis here and there but was lacking a solid picture. Thank you very much!
    One question though: their raising interest rates, doesn't seem to be on a western agenda these days... do you think that is relevant or not?

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  2. Hey M

    "Also, was it mentioned once that any of these Asian countries where printing currency that resulted in these huge devaluations ? No. "

    Just a small thing. The debts of the Asian countries, was it denominated in their own currencies?

    How about the debt of the United States, is it denominated in dollar?

    Peace

    TF

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  3. Hello again JOL

    "One question though: their raising interest rates, doesn't seem to be on a western agenda these days..."

    At the moment, for some reason, the Fed has the luxury that the whole world is using the US bond market as a place to sit and wait. The world is not sitting in the US bond market for any fundamental reasons. There will come a time though, just like in the 70's, when investors will base their decisions on holding US debt on fundamentals(inflation rate,yield,debt load). That is the turning point where the Fed/treasury will have to try and incentivize capital to stay in the bond market.Remember Ben Bernanke said he could raise rates in 15 minutes haha. The SE Asian central banks tried... how well did it work ? The Fed doesn't have the slightest hope in hell. Rates would have to go at least as high as they did last time this happened, which was about 20% interest, 11% real. At those kind of rates, the current budget wouldn't come close to covering the interest, never mind the principal. Then its all over for the US dollar. It will plunge by at least 50% in days, just like the Thai baht.

    "do you think that is relevant or not?"


    Nothing is relevant until sentiment changes on the US dollar and bond market. As of now, the Fed and treasury can do no wrong. They can openly monetize debt, become the largest holder of treasuries, get downgraded, lie about inflation, you name it, the world still buys bonds. But when sentiment shifts, the Fed or the treasury can do no right. They can try and cut spending and raise rates but nothing will stop the capital flight. NOTHING.

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  4. @ MF

    (I never took a shot at FOFOA, schiff et al for saying anything wrong. I was just saying that they have never mentioned the Asian financial crisis)

    "Just a small thing. The debts of the Asian countries, was it denominated in their own currencies?"

    Yes it was denominated in their own currencies. "Foreign debt" does not mean it is denominated in foreign currency, it just means it is owned by foreign creditors.

    "How about the debt of the United States, is it denominated in dollar?"

    Yes it is and it is owned by foreign creditors. Only Japanese debt is mostly owned by domestic creditors. Allot of Euro debt too but the US is full on foreign owned.

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  5. Do you think silver will roughly follow gold upward in this scenario? What about gold miners? I own mainly "paper assets"--but these are GDX and SIL.

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  6. @ Anonymous

    Silver is a tough question..

    I don't think silver will follow gold because central banks have never bought silver. They only hold gold. This is where allot of gold bugs will get burned possibly. But that doesn't mean it will be a bad performing asset. It just wont do as good as gold. Some people believe that silver will crash because they rely completely on John Exters inverse pyramid of liquidity.

    http://atyantcapital.com/wp-content/uploads/2010/05/Exters-Pyramid-1-300x300.png

    I don't because there is nothing forcing people to sell their silver to buy treasury bonds.

    Mining stocks are risk money. Quality debt free unhedged mining stocks represent real capital but they also represent paper. Consider them half physical gold and half paper gold. With that in mind, have a look at this version of the Exters pyramid:

    http://2.bp.blogspot.com/-iurp4LreE_4/TfyLsQECckI/AAAAAAAAAos/hJN8VNFeYYQ/s1600/assets%2Band%2Bclaims%2Bdiagram.png

    If the COMEX price of gold(paper gold) crashes and there is no price of gold on the tape for a period of time then who knows what could happen to mining stocks. They could rise and survive with the price of gold but they could also crash. They could be nationalized too. They are a good gamble for really wealthy people that already have a mountain of physical gold but if you are not really wealthy, you are best to just buy as much physical as you can so you can ride along with them.

    ETF's are dangerous, whether it is the miners or the metal ETFs. The world is being driven to gold literally. Allot of gold bugs believe that the first ever debt backed fiat reserve currency crisis will just result in bubbly gold market that will resemble the Nasdaq stock market in the late 90's. That is why they trust and sell ETF's and stuff. They think there will be a time to get out in the near future. I don't think physical gold will play the same role as Pets.com did in the coming years. But hey, that is just me.....

    Allot of these same gold bugs think gold is kinda expensive now because they bought it at the low. Their claim to fame is their good timing and speculating but if they know it all, they could have bought things like real estate and bank stocks 11 years ago that had higher and faster gains then gold did.....IF they knew when to sell.

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  7. Thank you very much for your reply. Would you trust something like the Central Fund of Canada, a closed ended fund? I need something to put registered retirement account assets into that is safe.

    Also, shouldn't the US do well compared to Canada in a currency crisis, since the US owns a large amount of gold per capita and Canada owns almost none? (I think this is might be different from Schiff's view). Also, even though China has large foreign reserves, they are mostly paper. So I don't see why China should "decouple" (Schiff's words) when their foreign reserves become worthless because they don't own much gold like the US or Europe.

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  8. "Mish the Idiot"...hahahaha, right!!!

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  9. I like this article and am responding to as a follow up to let you know that Freind of a Friend of ANOTHER has covered this issue of the asian currency crisis but in numerous posts that dated back to at least 2000 in the original cryptic ANOTHER posts on kitco. do to time restraints i am unable to link the certain parts of said posts. i mention this not to be disrespectful of your article and blog but just as an update.
    bottom line, yours and FOFOA, FOA and Another's opinion of the causes, effects of the Asian Currency Crisis and inevitable freeing of gold from the chains of this paradigm are all consistant, except yours breaks it down "Romper Room" style and is very easy to grasp. thanx
    Frikinstik

    ReplyDelete
  10. Hi M

    It seems my last comment didn't arrive here, though I did get it in mail. Would you like me to repost or will you go look for it?

    TF

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  11. @ Frikinstik

    " Friend of a Friend of ANOTHER has covered this issue of the Asian currency crisis "

    Thanks for the tip. I read about half of ANOTHER and lost track of where I was. I am going to start reading it all again from start to finish.

    ReplyDelete
  12. @ Anonymous

    "Would you trust something like the Central Fund of Canada, a closed ended fund? I need something to put registered retirement account assets into that is safe."

    If I had to pick one, that would be it. I am not sure but I thought that some sovereign gold is held there the same way which is good. You should still buy some physical with your savings.

    "Also, shouldn't the US do well compared to Canada in a currency crisis, since the US owns a large amount of gold per capita and Canada owns almost none?"

    Possibly. But Canada is part of the dollar bloc now. The Royal Bank of Canada is a Fed primary dealer. Canada may somehow get worked into the deal again when the US re-mobilizes its gold. Plus it has lots of gold in the ground, and oil.

    "(I think this is might be different from Schiff's view). Also, even though China has large foreign reserves, they are mostly paper. So I don't see why China should "decouple" (Schiff's words) when their foreign reserves become worthless because they don't own much gold like the US or Europe. "

    I respect Schiff for being so dedicated on his stance on the dollar. He is 100% correct on that. The problem is, Schiff likes the concept of the Bretton Woods 2 system too much. He under-estimates how much the system is actually human creation and not a market creation. He thinks that the free market can work fine within this creation. Evidently, it cant. That is why he is bullish on foreign currencies that have sound fundamentals within the system. That is also why he said he would sell all his gold if it got in the 5 digit range. Like allot of gold bugs, he is looking for a repeat of the 1970's 80's and 90's, a bear market in gold and a new 30+ year run in bonds.

    China is the biggest gold importer in the world and the biggest producer of gold so I think they have more then they say. In some way or another China will decouple just because of the productive capacity and potential of their economy. Those are Schiffs words. Schiff just thinks that China will decouple within Bretton Woods 2. That is what I disagree with.

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  13. @ MF

    Was it a link or something ? Just re-post it. I wouldn't know where to look.

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  14. (repost)

    Hey M

    I'm not taking a shot at you either, just asking the most pertinent question I see.

    You see, I know that in Africa, the loans granted by the world bank ( or should I say engineered upon) third world countries are denominated in US dollars... so the worse things get in those countries, the more the debt becomes in real terms( despite the dollar also devaluing).

    This for example is what 'forced' Zimbabwe to print, they could not pay both their internal and external obligations anymore, with external being denominated in USD.

    So they paid in gold and foreign currency for external things, and paid internal things ( to cling to power) with printed Zimbabwe dollars.

    Are you sure about the debt denominations of those Asian countries? In today's world foreign aid is still denominated in USD, so it would be strange to me if you were right.

    If you are right, then why did they not print? As they then had the ability to repay foreign loans in devalued currency; the ability the USA has at this stage.

    Cheers

    TF

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  15. This comment has been removed by the author.

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  16. @ MF

    "Are you sure about the debt denominations of those Asian countries? In today's world foreign aid is still denominated in USD, so it would be strange to me if you were right."

    FOFOA posted this in his last piece(I didn't read his last piece until after I posted this one.)

    FOFOA-"...Asian contagion crisis wherein it was shown how quickly and easily a nation could be stressed by its liabilities denominated in foreign currency."

    As far as I know, a capital account surplus, whether in Asia in the 90's or the USA in the 2000's comes in the front door of the central bank denominated in a foreign currency and goes out the back door in the local currency. So the US's current account deficits are funded in foreign currency (Yen, RMB, Ruble,anyone who is buying US debt)but denominated in dollars. Just like SE Asian debt(current account deficit) was funded in mainly dollars and denominated in Baht, Peso , Ringgit ect.

    "If you are right, then why did they not print?"

    They could have if the capital stayed there to collect the payments. The only reason the US has the ability to print now is because the capital is still there to collect. That is why Peter Schiff rightly assumed when he wrote his book CrashProof, that the dollar would crash as the US economy crashed. It should have and it still will. It is quite an anomaly that it didn't in 2008. Its in-fucking-sane that it didn't. Excuse my lingo...

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  17. Hey M, I wrote (what I think) was a very interesting article on an aspect of the Asian Financial Crisis using data gleaned from the RBA.

    Let me know if you're interested in reading it, I can email it to you.

    ReplyDelete
  18. @ JDM

    I`d like to see it, just email it to vdm02343@gmail.com

    ReplyDelete
  19. Thanks for an interesting piece. You triggered an compelling thought for me.

    from your post, "...and pushed up asset prices to an unsustainable level. These asset prices eventually began to collapse, causing individuals and companies to default on debt obligations."

    In terms of looking for signs that the edge of the cliff has arrived, and the USD collapse is fully upon us, I had never thought that a rapid acceleration in individual and corporate defaults are unavoidable during the event, but must begin to happen immediately before the crisis goes parabolic.

    Not much notice to work with, I admit. But maybe enough to allow some quick trips to the bank, grocery, and coin shop?

    Cheers

    ReplyDelete
  20. @ byiamBYoung

    Looking for signs....

    Fidelity's bond funds exceeded the size of their equity funds for the first time ever recently. That's a sign.

    Its anyone's guess how long it will last.

    ReplyDelete
  21. Information in English on the lack of a Swiss minimum wage-

    http://www.swissinfo.ch/eng/business/Minimum_wage_comes_under_the_spotlight.html?cid=31701888

    http://www.ch.ch/private/00054/00055/00543/00544/index.html?lang=en

    http://www.thelocal.ch/page/view/3424

    ReplyDelete
  22. Information on the lack of a minimum wage in Switzerland

    http://www.swissinfo.ch/eng/business/Minimum_wage_comes_under_the_spotlight.html?cid=31701888

    http://www.ch.ch/private/00054/00055/00543/00544/index.html?lang=en

    http://www.thelocal.ch/page/view/3424

    ReplyDelete
  23. @M,

    "Fidelity's bond funds exceeded the size of their equity funds for the first time ever recently. That's a sign."

    I'm a relative newcomer to this arena, so let me ask: Is that because money is seeking a home with greater liquidity, or because money is nervous about the sustainability of the equity markets...or both?

    Cheers

    ReplyDelete
  24. @ byiamBYoung

    The reason is that allot of the dumb money thinks bonds are safer then the equity market. And allot of the big money is seeking liquidity. Add them both up and you have the biggest bubble of all time.

    As Marc Faber said "If you held German government bonds throughout the 20's and through the hyperinflation and world wars, you got wiped out 3 times. If you held Siemens stock, traded on the German exchange throughout the same time period, you would still have money today."

    The biggest losses will be incurred in the bond market.

    ReplyDelete
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