.. (and for foreign lenders such as the Japanese banks) and has forced the closure or consolidation/ merger of a number of lending institutions. Thus, the crisis has enveloped the financial systems in the region, and has been accentuated by high rates of borrowing. Its resolution will also require structural reform of financial institutions. (7) The prudential regulation of financial institutions will probably also have to be drastically upgraded in these financial systems.
Asset price deflation, rising bad debts and failing banks provide a very dangerous mixture for national economic performance and may require several years of adjustment before they can be fully overcome. The case of Japan is both instructive and rather frightening. After rapid Japanese asset price inflation in the 1980s (especially in property and shares), the early 1990s there saw asset price crashes, escalating bad debts (since these were often secured against the now vastly devalued assets) and banks teetering on collapse. Japan has seen very low economic growth in the last six years as it has attempted (ineffectively) to cope with such deep-seated financial problems. It is now clear that the Japanese financial sector has not been rationalised in the thorough way needed for strong economic recovery.
Insolvent institutions beyond hope of trading their way out of trouble have not been closed but have been allowed to linger on. Bad loans beyond any genuine hope of payment have not been written off against shareholder capital and/or government funds but have remained hidden in the ‘nether regions’ of institutions’ balance sheets. (8) However, more resolute action by Japanese financial regulators may now be forthcoming. It can only be hoped that the countries of Southeast Asia fare better but this will require rapid, concerted responses to the problems confronting them. The policy responses so far announced have been reasonably encouraging but much more needs to be done.
(9) Affect to New Zealand New Zealand’s rapidly growing export markets in Southeast Asia will probably be cut back substantially in the next couple of years. This is both because slower growth in the region will reduce the growth in demand for New Zealand exports, and also because the much lower real (inflation-adjusted) exchange rates of Southeast Asian countries will further reduce their imports by favouring domestic production the latter effect will also favour their exports. Further ‘second round’ adverse effects on our major trading partners such as Japan and South Korea will be important to New Zealand. Similarly, New Zealand exports to Asia can be expected to eventually recover when exports from these Southeast Asian countries themselves accelerate under the influence of their devalued exchange rates. The latter export expansion will then help to generate broader recoveries in economic growth in the region.
The strong ‘economic fundamentals’ of high rates of investment, saving, technological transfer, and expansion in education and training throughout Asia all point to the region recovering to robust economic growth once the current set of problems have been dealt with. (The crucial proviso is probably that financial sector problems in the region be effectively resolved). Thus, the medium to longer term prospects for New Zealand exports to Asia remain strong so long as our producers continue to be competitive in terms of price and quality. Estimates of reductions in New Zealand economic growth resulting from this negative external shock currently range from 0.2 to 1.0 percentage point falls in the next year or two. (13) Initial estimates were at the low end of the range, but more recent forecasts have generally been higher, as more adverse information has been received. (Falling growth in New Zealand exports is likely to be reinforced by cuts to investment and consumption plans).
These estimates pose serious problems for the New Zealand economy and New Zealand economic policymakers. Most importantly, they imply that New Zealand economic recovery in the growth of output and employment, which according to many forecasters already looks to be only quite moderate and gradual, could be substantially nullified by the external economic shock emanating from Southeast Asia, and its flow-on effects on Northeast Asia. (14) Difficult dilemmas for the current setting of New Zealand monetary and fiscal policy are thus created. For example, disturbances to New Zealand financial markets caused by the crisis alleviate against any current relaxation of monetary policy arising from consideration of the need to counter the external economic shock proactively. This is especially so in the case of the recent fall in the New Zealand dollar; this acts to encourage net exports and helps to counter the external shock (but also adds to domestic inflationary pressures, mainly through higher import prices).
However, this devaluation could prove to be substantially the result of financial market over-reaction and thus could be quite temporary in nature. Unfortunately, this may not become clear until end of 1999, by which time a further reduction in official interest rates might be rather late in terms of dampening the external shock. The enduring currency devaluation may be insufficient in itself to dampen the external shock substantially. On the other hand, even if monetary policy is relaxed now this will do little to nullify the shock’s effect on New Zealand spending and growth. This is because of the substantial time lags involved in the impact of such monetary policy changes on the economy. However, such a policy relaxation could help to bolster growth after next calendar year, if the effects of the crisis on New Zealand are expected to last that long.
Monetary policymakers also seem to be restrained at the present time by uncertainty about the magnitude and duration of the economic effects of the Asian crisis on New Zealand, and its effects upon the future course of New Zealand inflation in particular. (15) This also comes at a time when official forecasts already see inflation rising back into its target range, in 2000, of 2-3% underlying inflation. (16) Fiscal/ budgetary policy might also help to dampen the shock by temporarily moving to a more expansionary/less restrictive stance. It is an attractive policy tool since it has shorter lags of impact on the economy than monetary policy and is less likely to generate exchange rate devaluation (and consequent intensified inflation pressures) than monetary policy. This might allow stronger growth while also allowing the inflation target to continue to be met.
However, fiscal policy is currently in a contraction stance at the national level, being preoccupied with budget deficit reduction to boost levels of national saving and help contain current account deficits. Indeed, New Zealand’s current account deficit is highly likely to increase as a result of the negative external shock arising from Asia, and this mitigates against any move to fiscal policy expansion. Bibliography 1.International Monetary Fund, World Economic Outlook, October 1997, Table 16. 2.The Asian Financial Review July 1998, pp. 37-39. 3.’The IMF and Indonesia: Baleful Bonanza’, The Economist, 8 November 1997, p. 95. 4.Commonwealth of Australia, JOURNAL No.
90, 11 August 1997, and No. 116, 1 November 1997. 5.For a critical perspective on such policy changes, see: Greg Earl, ‘IMF Solution Follows Wrong Track: Economists’, Australian Financial Review, 19 November 1997, p. 13. 6.Economist Intelligence Unit, Country Report: Singapore, London, 3rd quarter, 1997, pp.
23-26. 7.Simon Davies and John Ridding, ‘Crisis into Catastrophe?’ Financial Times (London), 31 October 1997, p. 15. 8.Max Walsh, ‘Aid Parcels to Japanese Banks’, The New Zealand Herald, 18 November 1998, pp. 25-26; Max Walsh, ‘Time for Japan to Save the World’, The New Zealand Herald, 21 November 1998, pp.
29-30. 9.John McBeth, ‘Big is Best: Indonesia’s Rescue Package Draws on the Thai Experience’, Far Eastern Economic Review, 13 November 1997, pp. 68-69; Greg Sheridan, ‘The Asian Malaise is Curable’, 28 November 1997, p. 13. National Business Review 10.Charles Lee, ‘The Next Domino?’ Far Eastern Economic Review, 20 November 1997, pp. 14-16. 11.Eric Ellis, ‘Kim Inspects Mouth of IMF Gift Horse’, Australian Financial Review, 24 November 1997, p.
12. 12.Teresa Wyszomierski and Christopher Lingle, “Fortress Japan Under Siege’, Australian Financial Review, 19 November 1997, p. 20. 13.Ian MacFarlane, Forbes Magazine Business 1998, pp24-27. 14. Forecasts Lowered’, The New Zealand Herald, 20 November 1998, pp.
29-30. 15.Reserve Bank of New Zealand, semi-annual Statement on Monetary Policy, November 1997, pp. 2-13. 16 A New Revolution by Peter Smith As published in NZBUSINESS, August 1998, PP 5-12.