Asian Crisis Assignment.docx

Q4: During the Asian Crisis, some local firms in Asia borrowed U.S. dollars rather than local currency to support local operations. Why would they borrow dollars when they really needed their local currency to support operation? Why did this strategy backfire?

During crisis, countries were facing hi inflation. To cover this high inflation interest rates were higher in home countries. Because of this high interest rate local firms borrowed US dollar. Local firms intended to capitalize the high domestic interest rate by borrowing foreign in foreign currencies. The strategy backfired because of depreciation of home currency forced to pay more in order to pay off the loans borrowed in foreign currencies. Investors/firms couldn’t anticipate the devaluation of home currency. Q5: The Asian crisis showed that a currency crisis could affect interest rates. Why did the crisis put upward pressure on interest rates in Asian countries? Why did it put downward pressure on U.S. interest rates?

increase in interest rates (which tends to reduce economic growth) may have been caused 1. Fund outflow: Asian countries faced substantial outflow of funds, then the government raised interest rates to encourage investors to keep their money in Thailand. 2. Lack of confidence on local currency by investors and firms and also in the ability of the Asian central banks to stabilize the local currencies. There were more dollars in Market. So the banks had more funds which were give away as loan without appropriate information verification or prework. As a result there were huge chances of defaulting loan payoff. It put downward pressure on US interest rate because of this chance.