Asian Problems and the IMF

Abstract

Between 1990 and 1996, capital inflows to emerging market countries rose from $60 billion to $194 billion. Mexico’s problems in 1995 changed the form of those capital transfers, and equity owners learned from their losses. After 1995, portfolio investment declined, but direct investment increased. Banks were bailed out, so they continued to lend, and bank loans rose with direct investment. No one carefully monitored those capital flows. When problems developed in Asia in 1997, neither the International Monetary Fund (IMF) nor the private lenders knew the true magnitude of the debts of some of those countries. Firms borrowed directly and through their subsidiaries. Often the total was not shown on any balance sheet. The provision of the IMF Articles of Agreement requiring surveillance, and the decision tostrengthen surveillance followingthe 1995 Mexican problem, proved to be of little use, Though important, the IMF’s failure to monitor seems small beside the elementary mistakes ofprivate lenders. The lenders ignoredthree principles of prudent behavior that history has shown repeatedly to be a major reason for financial failure. Mistakes of Private Lenders First, Asian banks and other Asian borrowers used short-term renewable credits from foreign banks to finance long-term loans. All banks do this to some extent, but the extent matters a great deal. When the foreign loans were not renewed, the Asian banks and corporations faced large defaults. Second, Asian banks and corporations borrowed in foreign currencies—yen, marks, and dollars—and loaned in local currency. They

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