ECONOMIES IN CRISIS

Q. What is going on in Asia?

A. In simple terms, it’s a correction of excess.

Too much borrowed money not wisely used. The day of reckoning has arrived.

The crisis began unfolding in late spring as Thailand tried for a time–and ultimately failed–to prop up the value of its currency, the baht, against the dollar. On June 2, Thailand devalued the baht, immediately making everything made in Thailand cheaper. Surrounding countries, not wanting to lose out competitively to their neighbor, did the same. Like rippling waters after a stone has been thrown into a pond, that put pressure on economies, currencies and stock markets farther afield, like Singapore and Hong Kong and South Korea.

All those states–and their economies, currencies and stock markets–now are seeking to find a sustainable level. That pre-June level was too high; it now may be too low in some countries and not low enough in others.

Over time, things will most likely stabilize. But, particularly in that part of the world, this will be a painful process and will unfold over months or years. It means bankruptcies and bank failures, and as more people are thrown out of work, heavier pressure on governments to do something to end the pain.

How did it happen?

Much as we would like to believe, miracles, upon closer examination, rarely are. And that is true of the so-called “Asian miracle,” which was never as miraculous as the media and the investment gurus claimed.

Way too much money poured into these “emerging” economies, much more than could be intelligently spent. In the 1990s, $1 trillion was funneled to these countries, either directly into infrastructure projects like roads and dams, through bank loans or into their stock markets.

This cornucopia of riches flooded in just as this part of the world was dismantling decades-old trade and investment barriers and regulatory rules that had kept domestic economies closed and protected from competition and innovation

Overall, free and open markets are more efficient for an economy than tightly regulated central planning, but investors in free markets are only human, and they make mistakes, too. Once the mistake is recognized, a free market swiftly and brutally corrects it.

Didn’t anyone see this coming?

Well, actually they did. But remember the savings and loan crisis in the U.S. in the 1980s? People saw that one coming, too–for years–before anyone acted. Critics warned that allowing thrifts to aggressively compete for deposits while at the same time freeing them from rigid rules about what they could do with all that money was a recipe for disaster.

And so it was. The S&Ls promised investors returns on short-term certificates of deposit way above market rates and the S&Ls were freed to pour those funds into long-term–and ill-advised– investments like over-priced office towers and apartment complexes and shopping centers that weren’t needed.

Some fraud was involved, too, as there usually is when the rules are relaxed, no one’s really looking at the fine print and the investment climate turns hot and heavy.

Likewise, the strains in Southeast Asia began showing up in 1995 and ’96, but the money kept pouring in.

Who is to blame?

This gets to be a very long list with a lot of finger-pointing now that the region has come down with the flu:

– Governments in the Asian countries along with the buddy-buddy relationship among leaders of the countries, officials of big local banks and industrial and real estate developers.

– Local corruption.

– Wall Street, international banks and institutional investors like mutual funds and pension funds, seeking higher and higher returns.

– Technology that allows money to move with lightning speed into industries and countries that promise great returns–and out of them just as fast when the bubble bursts.

– Greed on the part of you and me and all those other folks who poured their money into “emerging” country funds, seeking a higher rate of return than that staid old U.S. stock market could produce.

So far, who’s been hurt?

The pain level will be very high in the countries like Thailand and South Korea that have devalued their currencies. But it doesn’t stop there.

Companies that sell to Asia will find their sales dropping off as their customers in Thailand or South Korea can no longer afford to pay their bills and go bust.

Also, the price of chips and toys and cars and shoes made in Asia will be cheaper because they have devalued their currencies against the dollar and because they are desperate to sell their stuff. That means even U.S. companies that don`t directly do business in Asia could be affected, because the prices they can charge for their cars or shoes will be held down by cheaper Asian products.

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Will anyone benefit?

Yes. In fact, already the crisis may have relieved some of the incipient inflationary pressures on the U.S. economy. Alan Greenspan, chairman of the Federal Reserve Board, said the U.S. economy was on an “unsustainable track” in early October because the labor force was growing so fast. This crisis is expected to slow overall economic growth in the U.S. next year by 0.25 percent to 1 percent.

The range is wide because a lot of companies aren’t yet sure what the full impact will be. Their costs might go down because they do some manufacturing in Asia, but their sales might be lower, too. Also, companies with big international operations will have to calculate the net effect of all those currency devaluations.

How will it affect the U.S. stock market?

One reason the U.S. stock market has done so well and has been so quick to snap back from any whiff of bad news is that so many U.S. companies had been figuring on all those “emerging economies” as new markets for their products. Slowdowns in those countries mean they may not sell as many Barbie dolls and Boeing 747s and razors overseas, and that will affect their forecasts of how much money they will make.

Steady profit growth has been the fuel for this market, and Wall Street is already bracing for a rash of negative “surprises” from companies scaling back their projections for next year and beyond.

But be alert. Just as every storm this winter is getting blamed on El Nino, look for some companies to blame the Asian flu for what in any other year would be exposed as a dumb business decision or bad timing.

But, wait a minute, if this is so serious, how come the U.S. trade deficit shrank nearly 14 percent in October?

Because the damage done this fall in Asia hasn’t yet shown up in the trade figures. It will, and expect the U.S. trade deficit to balloon over the next several months. Exports will drop as companies find they can’t sell stuff in Asia because the Thais and Koreans can’t afford to buy it. And because the currencies have been devalued in that part of the world, making their stuff so much cheaper, look for imports to skyrocket.

Is it something I should be worried about?

That big sell-off in the U.S. stock market at the end of October–when the Dow Jones industrial average dropped 554 points in one day–turned out to be not such a big deal because all of us little investors didn’t panic. We figured it was a temporary setback and it was.

But imagine what would happen if the stock market dropped 500 points on a Monday and another 700 points the rest of the week and then 1,000 points the following week. Then the market stabilized for a week or so but shed another 2,000 or 3,000 points over the next couple of months.

Still feeling confident? Still think it’s temporary? Or would you want to cut your losses and run?

Markets turn on psychology. And psychology turns on millions of us weighing those questions. Will I still have a job? Maybe we shouldn’t buy that new car? Let’s take this money we’re going to need for a new house or the kids’ college education or our golden years and put it into something safe that won’t lose half its value in a month.

Two-thirds of the more than $7 trillion U.S. economy is consumer spending and if American consumers decide to cut their losses and put their money into something safer, the impact of Asia will be far more significant on the U.S. economy.

When will it end?

That’s a little hard to say because it’s still happening. It’s like trying to predict in mid-eruption when a volcano will go dormant again.