A Web page by Chris Nitescu for Econ. 193--Institutional Economics
This article sought to identify the main institutional factors that contributed to the prolonged severity and length of the Thai financial crisis. The article recapped the economic incidents and the measures the government took in response to the rapidly deteriorating economic conditions
The authors state that the conventional explanations for the SE Asian financial crisis do not adequately explain Thailand's problems. These generic explanations are typically believed to be corruption, cronysim, risk-taking, and weak bankruptcy laws. In fact, Thailand's problems stem from a much more specific problem, a problem that was perpetuated by Thailand's domestic economic policies.
The structure of Thailand's financial market forced the finance/ securities companies to have relatively riskier portfolios than banks because their customer base consisted of those who were turned down by the banking system. When Thailand liberalized its capital account and set up an international banking center in Bangkok. Short-term capital inflows thus helped Thai banks but not the finance and securities firms. The inflow of foreign funds caused the spread between maximum lending rates and deposit rates at commercial banks to decline. This declining spread hurt the finance/securities companies, which did not have access to foreign funds.
The speculative effect on Thailand's property market acted as a cat- alyst for its current financial crisis. Between 1992 and 1996 about 40% of the new houses built in Bangkok remained unoccupied. The devel- opers and builders could not sell or lease the buildings they had problems repaying the loans. Much of the construction credit was ex- tended by finance and securities firms, and they were left economically vulnerable.
The finance and securities firms started to collapse under the weight of non-performing property loans. This started a domino affect that reached the banks. Authorities tried to force firms to restructure and re-capitalize but it was of no use. The stocks of banking institutions plummeted as they lost about half of their deposits. Banking instit- utions were forced to write down capital; the share value dropped to 1/1,000 th of previous value in some cases. Fearful, foreign- ers withdrew all capital form the country.
Thailand's high interest rates hurt its financial institutions by further depressing property and capital markets; more borrowers could not meet their obligations. The government had vowed to protect the Baht currency and not devalue it. But now the government was in a crux, should they maintain the high interest rates that had traditionally attracted foreign investors or should they lower it and hurt the Baht? Initially, the government tried to defend the Baht on the international market but its foreign reserves were falling fast. Thailand was forced to concede defeat and devalued the currency. It fell by as much as 30% against the dollar. Thailand received IMF loans of approximately $17 billion under strict conditions that it restructure its financial sector. Consolidation and absorption of poorly performing banking in- stitutions ensued in the financial sector.
In retrospect it is evident that Thailand's economic structure was poorly designed as magnified the effects of the financial crisis. The unlevel playing field between the banks and finance/securities comp- anies forced the latter companies to either grow bigger in the hopes of gaining a banking license or continue to remain a second-class fin- ancial institution on the verge of failure. Due to their positions in the financial sector, the finance/securities firms were forced to un- dertake tremendous risks. The globalization of the Thai economy can make the playing field less even if certain institutions, like banks, earn benefits while others, like finance and securities companies, lose due to the increased competition. The weaker sector will be harmed and this can cause expectations to fall, setting off a reaction that is capable of harming the whole economy.