Asian currency and financial crises: Lessons from vulnerability, crisis, and collapse

The East Asian financial crisis has been a truly extraordinary event. Suddenly the most rapidly growing and successful economies in the world were plunged into deep crisis. Still, a year on, the events are not well understood. It is our argument that, in each of the Asia Pacific countries, it was the depreciation of the currency which led to financial collapse. This was a result of the particular feature, already noted, to which the fixed exchange rate regime had led: foreign currency liabilities as a result of massive unhedged borrowings in foreign currency. Devaluation increases the value of these liabilities. Financial collapse resulted when currency devaluations were sufficiently large that those who had lent to the financial system came to believe that government guarantees to the financial system could not be honoured. This triggered fears of sovereign insolvency.