Dealers Aren't to Blame for Currency Wobbles
International Herald Tribune
July 30, 1997
Philip Bowring

Southeast Asia is making its own problems worseby exaggerating the dangers of recent currency market instability.

In characteristically robust fashion, Malaysia's Prime Minister Mahathir bin Mohamad has been in the lead, accusing Western "rogue" speculators of trying to destroy the region's economic success.

Central bankers, too, have been hinting that problems are the fault of currency dealers, not of fundamentals.

The reality, however, is that the region's currencies have not been conspicuously volatile by international standards. With the exception of the Thai baht, all the falls to date havebeen at or under 10 percent.

Malaysia's ringgit, for example, is off only 7 percent against the dollar. This is barely any more than the Deutsche mark and the yen have lost against the dollar over the same period. It is a fraction of the almost 20-percent swings in dollar-yen rates that have been seen so far in 1997, or of the 30 percent rise of sterling against the mark. The Korean won has fallen 15 percent in the past year, and the Taiwan dollar has declined by as much as the ringgit without anyone much noticing.

Certainly there is greater market volatility now than before. In the Thai wake, markets have recognized that Malaysia, Indonesia and the Philippines all have significant dollar debt, large current account deficits and open capital markets. These factors always made them potentially vulnerable to fluctuations in foreign exchange markets that may have little to do with their economic fundamentals. Welcome to the real world!

These countries have a numberof choices: make their foreign exchange and capital markets much less open (as in South Korea and Taiwan); aim for reasonably stable exchange rates against a basket of currencies,not just the dollar; cut back growthrates and reduce reliance on foreign money; accept the same degree of currency volatility as other medium-sized, open economies. All these are options. Fuming against speculatorsis a diversion from policy choice.Southeast Asia's desire to persist with a close and stable link to the dollar has been understandable. It provided cheap and easy credit. But it led to excessive debt, and meant that currencies were divorced from the main source of trade and direct investment growth — Japan.

The weakness of Asian currencies against the dollar (but not the yen or the mark) is a problem only because so many companies have borrowed dollars. Otherwise, like Taiwan, South Korea or Japan, they would be looking on the brighter side, at the benefit to flagging exports of a weaker currency.

Although recent currency falls have been evidence of weakening confidence in the region, the long-term silver lining will be escape from excessive dollar dependence. Meanwhile, it is ironic, to say the least, that Asian central bankers have been expressing a largely meaningless solidarity in defense of their outdated links to a non-Asian currency.

The other problem for the region is that currency stability against the dollar has become a political fetish. Thus, dark foreign forces must be found to account for departures from it.

The reality is that recent regional currency weakness is not the work of a few out and out speculators — although they do exist. It is a natural product of a region where trade and capital movements have always been large relative to the size of the economies. At such times of uncertainty, businessmen park cash in safe-haven currencies or delay converting dollar receipts into local currency. Nothing will stop those short-term flows other than draconian foreign exchange controls.

Greater day-to-day currency volatility will not be a problem for the region if macroeconomic policies remain sound and if companies borrow for longer, and either in their own currencies or on a diversified and hedged basis.

There are some specific lessons in recent events for Asian central banks and corporations. But the most important are, as ever: Diversify risk, keep cool, roll with the punches.

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