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Thailand started by getting its central bank to relax capital flow by reducing restriction for commercial banks to engage in foreign exchange markets through trade and allow foreign participation in the domestic banking operation at point A. Foreign investors start investing in real estate and engaging in domestic financing activities at point B. The government did not set regulation to guide the capital flow into long term investment that will drive the competitiveness of the economy at point F. During 1990s, China and Vietnam liberated their market and compete as low cost manufacturers. Thailand lost its competitiveness because of a real appreciation in its Baht against most currencies especially US. Overtime, the Central Bank has to increase its interest rate to keep the real exchange rate unchanged but this interest rate start to impact the property market and commercial loan market. The speculators realized that the Central Bank reserve is limited and the country is running a trade deficit, so they short the Baht. When there is excessive supply of real estate and rising default of commercial loans, the investors were concerned whether there will be return especially given that Thailand have rising trade deficit. At the same time, the Central Bank run out of reserve and floated the Baht which severely affected the returns of the foreign investors. This confidence crisis led to currency crisis that eventually propelled the investors to pull out their capital at point E.

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One thought on “Appendix A2: Systematic Failures that setup the Asia Financial Crisis

  1. Pingback: Asian Financial Crisis and Subprime Crisis: A brief comparative study | Andrewanalysis's Blog

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