Asian ills may still have global significance

At the end of a year of turmoil in Asia, it is tempting to look back at what people were saying just before the region was hit by the biggest economic breakdown and financial collapse since the second World War. After all, the crisis came as a huge surprise to most economists, government leaders, businessmen and investors.

It was fashionable to write last summer of the coming "Asian century". One of the best sellers in Hong Kong and Singapore bookshops was Mega trends Asia by US author John Naisbitt, a "top social forecaster" according to the jacket. He forecast that "as we move towards 2000, Asia will become the dominant region of the world: economically, politically and culturally" and "even Japan will be left behind as the countries of south-east Asia increasingly hold economic sway". A more modest, but no less misguided, hot seller was Asia Rising by a former Economist journalist, Jim Rohwer. One can still find it in airport stores beside a tome entitled The Asian Economic Miracle (which now perhaps should be in the fiction section). However, displayed prominently these days is the first book to deal with the meltdown, called, appropriately enough, Asia Falling? and written by English-born currency analyst, Callum Henderson. Wild optimism has given way to unbridled caution.

Mr Henderson acknowledged at his book launch that a large number of forecasters did get it wrong, but added: "When markets are booming, no one wants to hear a bear or, especially, to be the first bear." The media by and large (present company not excepted) went along with the popular theories. There were actually a few pundits who got it right, like economist Paul Krugman, who wrote long before the dark clouds began to gather about "the myth of the Asian miracle", and Christopher Lingle, a US economist, who correctly foretold the future early last year in his prophetic book The Rise and Decline of the Asian Century. Officials at the World Bank and International Monetary Fund seemed not to have read his book before their annual meeting in Hong Kong last September. Asia had survived other world crises and seemed untouchable to the men in suits who gathered to celebrate the coming Asian century. They were perhaps reluctant to talk about the gathering crisis, as if that would make it worse by scaring the markets.

This was probably President Clinton's reasoning when he famously dismissed the Asian malaise last November as "a few small glitches on the road". The US Treasury got it badly wrong last year too, forecasting that after a few months of IMF medicine the Thai economy would recover as did Mexico's some years before. The IMF itself reassured the world that Indonesia was in good shape and would quickly recover after its intervention in November.

Indonesia is now facing 20 per cent negative growth. The consensus of the quick-rewrite economists gifted now with hindsight is that Asian economies were in fact very sick all along, and they list the maladies which are so obvious to all today. Property prices had gone sky-high, inventories were swollen, industrial capacity was being recklessly expanded, trade and current account deficits were rising too fast, banks were overextended with loans based on cronyism rather than risk-assessment, and foreign banking institutions were urging everyone to borrow in dollars rather than in local currencies which incurred higher interest rates.

They can see now that Asia was afflicted with a plague so that when a year ago investment fund managers in the West began to withdraw from Thailand, the baht went down and took others with it. Frightened investors fled from the contaminated region. Some looked deeper and pointed to the devaluation of the Chinese yuan in 1994 which pushed other Asian economies out of important export markets.

So what about the next year and the prospects for recovery? Who can save Asia? "Don't look at me," has been the response of Japan, the world's second-largest economy. Japan itself has gone into recession, with 42 per cent of its exports depending on the Asian market. Many still believe that only if Japan accentuates its economic and banking reforms and opens its market for more imports can the situation start to turn around. Japan has household savings of about $1 trillion (£719 billion), but has failed to encourage its thrifty citizens to spend. China, the only balloon still inflated in the post-party debris, has made much of its refusal to devalue the yuan, thus preventing a further round of competitive devaluations. It shares many characteristics of the collapsed economies, like over-extended banks in hock to bankrupt industries, but is still claiming solid economic growth. The difference is that China has closed markets and has $140 billion in foreign reserves to improve its infrastructure and maintain growth.

Everywhere else the outlook is gloomy. The coming year could see a debt moratorium throughout south-east Asia as technically-bankrupt companies fail to scrape up enough of their badly-devalued local currencies to pay off huge dollar debts. The IMF bailouts have not stabilised the region's weakest economies.

The big question now is whether the crisis will lead to a world recession. It has already spread from Thailand to Indonesia, Malaysia, South Korea, the Philippines, Hong Kong, Singapore, Japan and Russia, and the IMF is itself almost drained of reserves. It is eroding other once-healthy economies around the Pacific Rim. New Zealand is a case in point. Since the crisis hit, its exports to South Korea have fallen 56 per cent.

Europe and the US have barely been touched by the crisis but in North America factories are beginning to lose export orders to Asia and manufactured goods are piling up in warehouses. Washington is getting nervous and is terrified of a collapse in the Japanese yen. The question of possible worldwide contagion has been studied by the Washington-based Institute of International Finance, whose chief economist, William Cline, said this week that the impact of the Asian crisis on the leading industrial economies would be "moderate but significant".

The institute's report concluded that the current account surplus of the seven countries hardest hit by the downturn would increase by an aggregate of between $100 billion and $150 billion as exports rose and imports fell. This should reduce US growth by about 0.7 per cent, European by 0.6 per cent and Japanese by 1.4 per cent in the coming year. Trade turnover in seven key Latin American economies will fall 3 per cent. This is less than first feared, the report concluded. "There is a large pool of manufactured goods in world markets, including some from industrial countries that compete with east Asian exports. Any individual emerging market economy's share in this global pool is likely to be limited," Mr Cline said. Mexico, however, could be hard hit by cheaper imports from Asia.

Other economists are much more pessimistic. Three things must happen to prevent the crisis going global, said World Bank vice-president for east Asia and the Pacific, Mr Jean-Michel Severino, at a conference in Australia in June. The fall of the Japanese yen must stop, infrastructure investment in Asia must increase, and Asian banks must be recapitalised. Otherwise the economic crisis in the Asian region would not be resolved this year and there would be a second Asian crisis causing a worldwide depression.

If that is the case the economic crisis in Asia is now the single largest threat to the six-year economic boom in the US. Mr Henderson's conclusion in Asia Falling? is that "if people truly believe that the US and Europe have fully passed the effects of the crisis then they're fooling themselves".

But note the question mark in his book's title. After getting it so badly wrong last year, even the most astute economists are now hedging their bets.