Will US’s Bailout leads to another Asian’s Currency Crisis?

The recent credit crunch and the US’s release of its $700 billion of bailout plan had failed to stabilize the stock market in recent week. The Dow Jones had fallen by 16.9% this week, followed by Moscow (24%), Bangkok (23.4%), Hong Kong (16.3%), Sydney (15.7%) and Singapore (15.2%). Nevertheless, against the financial turmoil in US, dollars had risen against major currencies due to concerns of risky market conditions (Europe’s banking conditions) and risk-aversion investors had cashed in for US dollars to place their safe bet in long term US treasury bonds. (Llya, 2008) It would argue that once the rush into treasuries was subsided, the dollar would resume its decline.

However, with recent events occurring and the Asia countries proclaiming that they were less affected by the US Subprime Crisis, we had seem a weakening of Asia currencies against dollars over the months. More interestingly, the US government planned to borrow the money from world financial markets through issuing an additional $700 billion worth of treasury securities, which one might expect a weakening dollar. Nevertheless, the Asia countries were facing dilemmas in their currency policy due their exposure to currency risks :

• 1. A fallen dollars would mean hurt Asia countries whom relying heavily on the export market
  2. Much of the foreign reserve in Asia countries (especially China and Japan) are still denominated in US dollars. Depreciation in dollars means a decline in their foreign reserve. Worst of all, if the US government defaulting, these would mean zero value to their US foreign reserve that lead to problems in funding their own economy growth. (see Table 1)
  3. Many Asian countries’ currency policy still pegged with dollar. At the end of 2000 to Sep 2004, the accumulated foreign exchange reserves of the Asian economies had risen from $543 billion to $917 billion as compared to Japan’s $811 billion and China’s $515 billion. (The International Economy, 2005) A fallen dollar might force these countries to abandon their dollar peg, allowing it to float which in turn lead to further drop in US dollars, hurt their export, and prone to speculative attacks since their currency performance would be tied to their export.
  4. On the other, if these countries continue to support their dollar peg policy, these would mean a further buying in of more US treasury securities/dollars using their local currencies/foreign reserves, which lead to further drop in their own currencies/foreign reserves, inflation rises, and might trigger another Asia Financial Crisis 1997-1998. The question was how much can the Asian countries to continue to absorb the debt in order to stabilize the dollar without sacrifice their short-term debt obligations. (see Chart 7)

In addition, it was suspected that the recent depletion in Asia’s currency rate might due to withdrawal of their financial assets by foreign investors whom were facing a credit crunch in their own market, and in need of cash to fund their operations at home. Again, these would hurt the Asia countries’ currency since it would deplete their foreign reserve, investors selling off their currencies in exchange for dollars, and triggering a further decline in Asia currency rate. Lastly, to protect their own currencies, a massive sell-off of dollar/T-bills to absorb their own currencies by these Asia Central Banks was most undesirable to be seen in the global financial market.

With an unstable political situations facing by Asian countries, the vulnerability came in U.S. dollar and their exposure to external markets; it was most likely they would fall to the prey of unethical investors whom looking for another speculative currency attacks in these countries. It was crucial for these countries to setup a well-planned policy and strategies to face of the potential risks that might arise within the short term in the money market.

BIBLIOGRAPHY

1. Kelvin Tan (2008). To Catch a Falling Dollar. http://www.asia-inc.com/index.php /investing/101-may-june-2008/166-to-catch-a-falling-dollar, 1 May 2008

2. The International Economy (2004). The new U.S. Asian dollar bloc: and Why Europe would end up the loser, http://goliath.ecnext.com/coms2/gi_0199-1531/The-new-U-S-Asian.html, 22 Mar 2004

3. The International Economy (2005). Has Dollar Pegging Paid Off For Asia? (Economic Conditions in Asia), http://goliath.ecnext.com/coms2/gi_0199-4926132/Has-dollar-pegging-paid-off.html, 1 Jan 2005.

4. Llya Spivak (2008). US Dollar Rises as Jobs Fall, Markets Call for Fed Rate Cuts – Why?(Euro Open). http://www.dailyfx.com/story/topheadline/US_Dollar_Rises_as_ Jobs_1223273562748.html, 6 Oct 2008.

5. Mark Landler (2008). In a Weak Climate, U.S. dollar has muscle, http://www.iht.com/articles/2008/10/06/business/dollar.php, 6 Oct 2008.

6. Leika Kihara (2008), Return of Asia Currency Crisis Unlikely: ADB, http://www.chinapost. com.tw/business/asia/asian%20market/2008/07/05/164040/Return-of.htm, 5 July 2008

7. Tyler Cown (2007), The Dollar is Falling, and That’s Good news, http://www.nytimes.com/2007/12/02/business/02view.html?_r=2&ex=1354338000&en=388b47b38dc5bf57&ei=5088&partner=rssnyt&emc=rss&oref=slogin&oref=slogin, 2 Dec 2007.

8. Jack Ewing (2008). The Power of Falling Dollar, http://www.businessweek.com /globalbiz/content/mar2008/gb20080310_608242.htm, 3 Mar 2008.

9. FxStreet.com (2008). UPDATE: Asian Shares, Currencies Drop; US Econ Concerns Rise. http://www.fxstreet.com/news/forex-news/article.aspx?StoryId=2fab6dbf-96e9-4862-a5f4 -1f4accde0e2a, 6 Oct 2008.

10. Henry C K Liu (2007). The Interest Rate Condundrum, Part 2: How Currency Devaluation Destroys Wealth. http://www.atimes.com/atimes/Global_Economy/ IF14Dj01.html, 14 Jul 2007

11. Daniel Kruger (2008). Yen Gains Most in Decade as Investors Abandon Risk, Carry Trade. http://www.bloomberg.com/apps/news?pid=20601101&sid=alu1s9F0w0bM&re fer=japan, 11 Oct 2008.