The issue of financial liberalization has caused major discussions among world economists nowadays. On one hand, it can be regarded as a positive phenomenon due to the fact that financial institutions argue that strict regulation from the government does not let them operate to the fullest, and limits their opportunities not only to get profits but also serve the interests of their clients. In some cases, this statement is actually true because oftentimes the government is too slow in updating the regulations for the present day needs of financial institutions. However, on the other hand, financial liberalization can lead to the destruction of the country’s financial system because liberal regulation environment motivates financial institutions take more risks than they would otherwise be taking and get engaged in activities which have a negative influence on their performance. Financial crisis of 1997 in Thailand is a great example of fatal influence of financial liberalization on the financial system in the country.
The financial crisis in Thailand was a part of the general financial crisis which occurred in Asia since the beginning of summer of 1997. “The first round was a precipitous drop in the value of the Thai baht, Malaysian ringgit, Philippine peso, and Indonesian rupiah. As these currencies stabilized, the second round began with downward pressures hitting the Taiwan dollar, South Korean won, Brazilian real, Singaporean dollar, and Hong Kong dollar… The currency crises also has revealed severe problems in the banking and financial sectors of the troubled Asian economies. (Nanto, 1998, p.1). Most of the problems which were faced by Asian nations at that time were very similar, and caused by similar reasons.
The financial crisis which Thailand witnessed was a shock for the whole economy because for a long while this country had been growing very rapidly. One of the major reasons of such economic growth was connected with a change for export-oriented policy. “Thailand’s GDP growth rates were impressively high until the disaster struck in 1997: in 1992, growth rate was 7.9 %, in 1993 8.2%, in 1994 8.5% and in 1995 8.6%. Apparently Thailand was a dynamic Tiger Economy of Southeast Asia. (Mayint, 1999, p.1.) Despite the positive events which were happening on Thai economy, the features of the crisis started showing very soon, and rates of economic growth dropped significantly. There were many problems in Thai economy which caused the financial crisis but one of the most important ones was the liberalization of the financial market which caused many losses for financial institutions.
In order to guarantee stability for the economy, it is very important for the government to provide regulation of financial sector on a very high level. “Harmony between the state’s role and its institutional capability is even more important as a country, such as Thailand, integrates increasingly into the world economy. Where markets for goods and capital are open, the state has a hard time managing the consequences of monetary indiscipline” (World Development Report, 1997, p.39). It appears much easier for government to regulate the financial institutions activity when the economy is not globalized than it is in the case when the country integrates into the global economy. Thai government was not ready to make necessary changes in the regulation with the speed as the economy was getting influenced by globalization. Even though globalization has a favorable influence on financial market in many ways, this influence can become very negative in case the regulation is not adapted to the needs and requirements of new reality.
However, there were some other features of liberalization in Thailand, which made its influence even more negative on the economy. “Throughout the liberalization process, which started in the early 1990’s, [Thai government] has failed to develop appropriate institutional mechanisms, prudent regulatory policies and ability on the part of the government to engage in concerted, collective actions in handling financial issues at the least cost to society. Rather, the process of financial liberalization was just an unbridled process of deregulation in disguise. No rules whatsoever were established as to the nature, amount, and purpose of loans from international creditors” (Mayint, 1999, p.4). Deregulation can be appropriate in the markets of highly-developed countries which already have had experience of successful financial market functioning for many years. Therefore, some liberalization will only be favorable because financial institutions are stable enough to be able to choose the most profitable activities for themselves. In emerging economies, it’s very important to adopt all the necessary legislation as fast as possible, and make sure all the spheres of activity of financial institutions are covered. Thai government failed to achieve this, and it led to many negative consequences for the economy. The policy of “laissez-faire” applied in the regulation of Thai financial caused its financial crisis.
“A problem which ravaged the Thai economy was the failure of many commercial banks because of the bad loans made to real estate developers. Asia’s growth miracle of late has been sustained by domestic demand, particularly for property.” (Granitas, 1997, p.67). Liberal government regulation of financial institutions gave them a motivation to get involved in many loans to real estate developers, even though many of them were risky. In order to prevent this, the government should have put some limitations of the amount of financial resources which could be given to particular businesses in order to make sure the loan portfolio of banks in the country was well-diversified. However, “slack” regulation of banking activity gave those institutions an opportunity to get engaged in any activities which they considered profitable.
The mistake of the Thai banks was that they did not consider the demand for the buildings which were being constructed by their borrowers. Even though in the beginning of real estate era in Thailand the construction was a profitable business, after a while it turned out that those buildings where much more expensive than customers would like to pay for them. As soon as Thai economy started experiencing a downturn, this problem became even sharper because “when the economy began to falter in the face of competition from other exporting economies, these real estates failed to sell and their developers defaulted on loans. Bankruptcies of property developers mushroomed, which contagiously bankrupted the banks” (Mayint, 1999, p.2).
The process of bank bankruptcies due to bad loans started in 1996 with the bankruptcy of Bangkok bank of Commerce. The bank was engaged in the business in which it bought underpriced companies with a hope to be able to sell them in the market in some time for a much higher value. The problem was that the bank was relying very much on powerful politicians who were supposed to speculate successfully in these operations, but unfortunately the reality showed there was no arbitrage opportunity which led to loss of money. Even though the bank was doing its best to show large profits in the annual report, those statements were mostly false. It was also discovered that due to a low level of government regulation, the bank gave large sums of money in loans to insiders. Those loans exceeded 17 billion Baht, and were given to the top management of the bank which were never paid back by them. A similar situation occurred with loans given to the private sector due to insignificant requirements for the borrowers. It was estimated at that time “that the amount of non-performing loans made by Thai commercial banks to Thai businesses could increase to between 9 and 10 percent” (Kanoksilp, 1997, p.3).
There were some other issues regarding the financial market regulation which caused a crisis in Thailand. “The financial difficulties in Asia stemmed primarily from the questionable borrowing and lending practices of banks and finance companies in the troubled Asian economies. Companies in Asia tend to rely more on bank borrowing to raise capital than on issuing bonds or stock. Governments also have preferred developing financial systems with banks as key players. This is the Japanese model for channeling savings and other funds into production rather than consumption.” (Mayint, 1999, p. 5). In the Thai economy, the government’s policy was channeling the financial resources from the banks only to the favorable branches of economy. Those businesses were able to obtain loans without any problems and at low interest rates. At the same time, individuals and businesses which weren’t considered strategic by Thai government, had problems with getting loans and had to pay much higher interest rates for using the resources. This deformed system of granting loans in the economy was one of the major reasons why it was destined to fail. “A weakness of this system is that the business culture in Asia relies heavily on personal relationships. The businesses which are well-connected (both with banks and with the government bureaucracy) tend to have the best access to financing. This leads to excess lending to the companies that are well-connected and who may have bought influence with government officials.” (Mayint, 1999, p.7).
When the economy became globalized, this problem started to show even more. Since the regulation of banking activity was very liberal, they were allowed to enjoy all the benefits of international financial market, without thinking about deadly consequences which those activities can have on their performance in the future. For example, Thai banks started borrowing many resources in the international market at favorable interest rates in order to be able to lend those resources to domestic companies which needed financing at a higher rate. No matter how profitable this business seemed, there were some hidden risks in it. “International borrowing involves two other types of risk. The first is in the maturity distribution of accounts. The other is whether the debt is private or sovereign. As for maturity distribution, many banks and businesses in the troubled Asian economies appear to have borrowed short-term for longer-term projects. Many economists blame such loans for the Asian crisis.” (The Nation, 1997, p.1)
Another important reason of financial crisis in Thailand was connected with the policy of the Bank of Thailand which was not appropriate for the regulation of financial market of that time. The central bank failed to employ transparency rules for the banking institutions, which were vital for the development of the financial market. Even though the level of specialists working at the Bank of Thailand could not be doubted due to their professionalism, they did not manage to carry out transparency rules for banks. The lack of transparency did not give the regulators a chance to monitor the activities of the commercial banks, and many of them became bankrupts much earlier than the specialists of the central bank noticed any negative tendencies in their development. One more mistake made by Bank of Thailand was not adopting bankruptcy law for banks. The bureaucratic structure of the central bank, its reliance not on the competence of specialists but on the family connections was also another reason why efficient monetary policy couldn’t be carried out.
As the result of investigations, it’s necessary to conclude that one of the major reasons of financial crisis in Thailand was liberalization of financial institutions regulation. Among other factors, it created major problems for the financial sector in the country. Many policies carried out by Thai government officials did not work in the new environment. The major flaws of financial markets regulation in Thailand include inability to adapt to the economy integrating into the global market, bureaucracy in many levels of financial institutions organization structure, and failure to adopt important legislation in the areas regulating activities of financial institutions.
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