History of Currency Crises — What the Asian Financial Crisis Left Behind
In the summer of 1997, a small currency event in Thailand swallowed all of Asia within a few months. The Indonesian rupiah plunged by more than -80%. Why do currency crises erupt so suddenly, and so repeatedly?
What is a currency crisis?
A currency crisis is an event in which a country's currency value collapses sharply in a short period.
It usually proceeds in this order. At first, the market suspects that country's currency is overvalued. Then investors sell the currency and try to get out, and this selling begets more selling until the currency value plunges.
For a country that had maintained a fixed rate (peg), the central bank defends by pouring out foreign reserves until they finally run dry and it abandons the peg. At that moment the currency free-falls.
The more debt a country has in dollars, the greater the blow. When the currency is cut in half, the debt to be repaid doubles in its own currency terms.
Currency crises often erupt together with banking crises and external-debt crises, becoming a 'compound crisis.' Asia in 1997 is a representative case.
1997 Asian financial crisis: the numbers of the plunge
On July 2, 1997, Thailand abandoned the baht's dollar peg, and the crisis began.
The Thai baht plunged about -56% from July 1997 to January 1998 (some sources see it as -60% depending on the measurement point).
The Indonesian rupiah was even more severe. Over the same period it plunged about -81%. Based on data showing the rate spiking from about 2,400 rupiah per dollar to about 16,800 rupiah in January 1998, that reaches -86%. It was the worst among Asian currencies.
The crisis started in Thailand and spread like dominoes to Indonesia, Malaysia, and Korea (contagion). Korea, too, ended up receiving an IMF bailout amid this flow.
Source: Corporate Finance Institute 'Asian Financial Crisis,' EBSCO Research Starters. The declines vary by reference point and measurement method, so they are shown as ranges.
The common pattern of currency crises — and the 2018 rerun
Currency crises throughout history share strikingly similar ingredients.
First, a large current account deficit (imports exceeding exports). Second, high inflation. Third, excessive external debt (especially dollar debt). Fourth, political uncertainty. When these four overlap, it is a danger signal.
Something similar happened in 2018. As U.S. rates rose, funds left emerging markets, and the Argentine peso plunged about -37.7% that year. The Turkish lira also recorded the second-largest decline among emerging markets. Both countries carried the four weaknesses above.
The lesson is this. A currency crisis is not 'someone else's story' but a pattern that can recur anytime once vulnerable structures pile up. If you invest in emerging-market assets, you must always view this currency risk together.
Source: FocusEconomics 'Emerging Market Currency Crisis,' CNBC (2018-08-31). This article does not predict the future of any particular country or currency.
よくある質問
Q. Are 'currency crisis' and 'foreign-exchange crisis' the same term?
They are used with almost the same meaning, but the nuance differs slightly. A 'currency crisis' focuses on the sharp fall in currency value itself, while a 'foreign-exchange crisis' is a broader concept that includes the situation where a country becomes unable to make external payments (in dollars, etc.). Korea in 1997 was a typical foreign-exchange crisis in which a currency plunge and depletion of foreign reserves overlapped.
Q. Do developed countries experience currency crises?
It is relatively rare but not nonexistent. However, currency crises occur far more frequently in emerging markets that have a lot of external debt and unstable inflation and fiscal positions. Countries with 'safe-haven currencies' like the dollar, yen, and franc tend to see their currencies actually strengthen in a crisis, placing them at the exact opposite pole from a currency crisis.
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