Financial Crises

Abstract

Are financial crises a common recurrence as a result of an increasingly globalized world economy? How and to what extend does the forces of economic globalization influence financial crises? I shall give a brief analysis on the causes and consequences of four financial crises and discuss the common factors that played a role in shaping these financial crises in the context of globalization of the world economy.

The Four Financial Crises

East Asian Crisis

In line with the Washington Consensus, countries in East Asia started to liberalize their financial and capital markets in the 1990s (Furman, Stiglitz, Bosworth and Radelet, 1998). This led to rapid and excessive inflows of hot money into East Asian economies. This was cited by Stiglitz (2002b) as the most important factor causing the East Asian Crisis due to the pro-cyclical nature of capital flows. Capital flows into an economy in a boom increasing inflationary pressures and is usually not needed by the country but flows out of the country during a recession, right when a country needs the funds the most. The liberalization of capital markets meant East Asian countries became increasing exposed to the mood swings of global investors (Corsetti, Pesenti and Roubini, 1999). The dismantling of capital market controls led to funds flowing to sectors which did not needed such heavy investments and produced excess capacity as in the case of commercial real estate in Thailand (Stiglitz, 2002a), the subsequent quick exit of funds mean asset prices collapsed leading to increased nonperforming loans and putting banks in distress (Corsetti, Pesenti and Roubini, 1999).

In July 1997, the Thai Baht collapsed. Currency speculation had hit East Asia and would soon spread to other countries like Korea, Malaysia and Indonesia (Corsetti, Pesenti and Roubini, 1999). Thailand had pegged its currency to the US dollar and speculators believed that the Thai Baht would devalue, with free convertibility, traders...