The last article in the Popular Economics series looked at alternative economic relationships to capitalism. This article looks at the causes of the current global financial crisis.
Over the past year, many economies around the world have experienced major crises, beginning in Asia and then spreading to other regions. Many economies are either in a depression now or heading towards a major slump. The countries affected to date include Japan (with the second largest economy in the world), Russia (the largest country in them world), and Brazil (with the largest economy in Latin America).
Huge numbers of additional people in countries such as Thailand and Indonesia have fallen into poverty in a matter of days. In many countries, food is scarce and expensive. In some cases, political and ethnic conflicts have exploded. This issue of the Popular Economics series looks at the disaster and its implications for South Africa.
What Happened?
While the build-up to the crisis happened over many years, the spark that started the economic disaster occurred in Thailand during the first half of 1997. Thailand had been a rapidly growing economy for many years. Its growth depended on many short-term loans and investments. Many of these loans were not performing very well and the international lenders became nervous that they would not get their money back.
In addition, Thailand started to have trade problems -- importing much more than they exported. International investors began to say that the Thai baht, the currency in Thailand, would have to lose value.
The arguments that the Thai currency would lose value attracted the attention of major international speculators. Speculators make profits off changes in exchange rates by moving money from one country to another. The activities of the speculators in Thailand, combined with nervous lenders and predictions that the Thai baht would have to lose value, caused a panic.
The value of the currency began to go down rapidly. As the currency began to fall, investors panicked further, they took more money out of the country, and they caused the currency to fall even faster. The Asian crisis had begun.
Investors often need cash in order to move their investments out of a country. Economists call this need for cash a need for liquidity. In order to get money out of one country, an investor might begin to sell investments in another country. This can cause the panic to spread from country to country.
The Asian crisis quickly spread from Thailand to Indonesia, Malaysia, the Philippines, South Korea, Hong Kong, and Japan. When Russia eliminated controls over the Russian currency, the ruble, the crisis jumped north. Most recently it has moved to Latin America, most notably Brazil.
In most countries, the fall in the value of the currency caused prices of many goods, including basic food supplies, to increase rapidly. The living standards of people fell and many people suddenly found themselves in poverty. Most countries tried to deal with the crisis by increasing interest rates. High interest rates might encourage investors to stay because they can earn more money by keeping their money in the country. But high interest rates also cause the economy to slow down because it becomes very expensive to borrow money.
The loss of investment, lower standards of living, growing poverty, and high interest rates moved these economies closer and closer to a depression. Since these economies depend on each other - for example, 53 percent of all trade in Asia is between Asian countries - as one economy was hit by the disaster, more economies quickly followed.
Economic Disaster
The activity of the speculators in Asia might have started the crisis, but it cannot be called the cause of the crisis.
For many years, the countries of Asia, Latin America, and Eastern Europe (including Russia) had been adopting policies of free-market capitalism.
They wanted to achieve very high growth rates in a short period of time - they wanted to be on the "fast track" to capitalist development. For many years, at least in Asia, the policies seemed to work. Many countries in the region experienced some of the highest growth rates in the world.
To get on the fast-track to capitalist development, many of these countries eliminated government policies that controlled the flow of money in and out of their countries. Policies that control the flow of investment internationally are often called "capital controls." The elimination of these controls was followed by a flow of short-term investments into the economy. The Asian countries then used this flow of money to finance projects which led to high levels of economic growth.
Many of the investments, however, were not highly productive. They were focused in such areas as real estate, consumer finance, and stock markets. Many bad loans were made which did not support productive, sustainable development.
Furthermore, the removal of controls over investment meant that investors could take money out of the country as easily as they brought it in. When the crisis began, there was no easy way of stopping it quickly. Instead, it spread around the world. The goal of rapid capitalist development became a fast-track to economic disaster.
South Africa
What does the global crisis mean for South Africa? South Africa will be affected by the crisis as many economies around the world begin to slow down. Investors could look to pulling their money out of South Africa just as happened in Asia, Russia, and Latin America.
Already the value of the rand has fallen during the global crisis. Interest rates remain extremely high. Unemployment is not improving. And economic growth continues to slow down.
In 1996, South Africa had adopted a formula for "fast-track" capitalism which corresponded to the strategies followed by many Asian economies. The idea was to create an "African Lion" to match the "Asian Tigers."
Unfortunately, such policies simply make South Africa more likely to be affected by the global crisis. To date, the impact of the crisis in South Africa has not been as severe as in many parts of the world. But this could change overnight.
Capital Controls
South Africa has capital controls (which are called exchange controls) in place. These capital controls have been weakened for many years, limiting the ability of South Africa to shield itself from global instability. One possible response to the global crisis could be to strengthen controls over capital flows.
Already, Malaysia has adopted capital controls similar to those in place in China. Of all Asian economies, it was China that was best able to withstand the impact of the crisis. Such a strategy could be considered for South Africa to prevent the falling standards of living, the higher levels of unemployment and poverty, and the beginning of an economic depression which can come with fast-track capitalism.
