The suddenness of the move surprised everyone. On Thursday, Oct. 30, U.S. Treasury Secretary Robert E. Rubin called in top Treasury and White House officials to say he had agreed to American participation in an International Monetary Fund bailout of Indonesia. Just a month ago, nobody was predicting that a confident Indonesia would agree to the tough terms proposed by IMF negotiators--or that America would ever get involved. Then again, nobody thought the Indonesians would need up to $40 billion to calm their frantic markets. Three days later, in the first sign of compliance, Indonesian officials abruptly shuttered 16 troubled banks and posted armed guards at the doors. It was the culmination of two weeks of tough talk among Indonesian technocrats, the IMF, and Japanese and U.S. troubleshooters.
Switch the scene 3,400 miles north, to Tokyo, the center of another of Asia's financial crises. Sanyo Securities Co., one of Japan's largest brokerage houses, has just gone bust under $3 billion of debt. Investors are still trying to figure out how Japanese banks can get out from under at least $250 billion in bad loans. But even here, there are signs of a workout. By letting Sanyo collapse, the government is showing a new willingness to let the financial sector restructure itself. And it's allowing Western bankers into the system to help work out billions of dollars in bad bank debt.
The shape of the Great Asian Bailout is emerging. It's not a single grand scheme put in place by the IMF and orchestrated by a few technocrats. Instead, it's the most complex financial reorganization ever, involving the IMF, the World Bank, the U.S. Treasury, the Asian nations themselves, and a host of private investment bankers and big multinational banks. In East Asia especially, the rescue is taking the form of powerful help from global aid agencies and local governments. But elsewhere, especially in Japan, the efforts are more ad hoc and homegrown--everything from attempts to securitize bad Japanese loans to Beijing's plans to reform its money-losing state-owned enterprises and banks.
Viewed from afar, the whole effort has the air of a morality play, as Western reformers clash with Asians over their heavy-handed form of capitalism. The IMF hopes Western-trained technocrats inside the region's governments will push for reforms and blunt the inevitable counteroffensive from local pols and their business allies. Yet there's also a feeling developing in Asia that arrogant Western moneymen are imposing a new form of financial colonialism. Already, the resentment of Westernization and foreign currency traders has produced the rants of Malaysian Prime Minister Mahathir Mohamad. Yet well-trained moderates, too, are getting fed up with sermons from Washington about the virtues of unbridled capital flows and free trade. Says Japan's Vice-Minister for International Finance Eisuke Sakakibara: "There is probably an element of arrogance among some Americans."
SERIOUS NUMBERS. Yet no bailout of this size can proceed without tension. The money could come to more than $100 billion, double the Mexican rescue of 1995. The potential price tag involves not only the $40 billion commitment to Indonesia but an additional $23 billion to Thailand and the Philippines (table). Financial markets are now betting that Korea, where debt-choked companies have triggered a bank crisis and the government is running low on foreign reserves, will need as much as $40 billion to clean up the mess. These figures don't even count the cost of fixing Japan's banks, which have only started to work out their problem loans.
Huge numbers. But the IMF and its rich-country patrons are deadly serious about halting the tremendous wealth destruction sapping East Asia. Not turning Asia around would not only buffet the global economy, it would exact a high social cost in countries where a broad middle class is emerging. Western firms rely on Asian demand for everything from personal computers to luxury cars to cosmetics and financial services to fuel their expansion plans, and Asians rely heavily on the U.S. market to prosper. If, as expected, Asia's economic growth rate in 1998 slows by three whole percentage points from its 1996 rate, the drop-off would amount to $75 billion in lost growth. More Asian turmoil would also continue to roil markets around the world.
But the bailout will ultimately fail unless agencies such as the IMF coax badly needed change out of the region's leaders. For years, Asia's corporate and political chiefs have borrowed far more money from foreigners than could be prudently invested. Asian companies have gone into hock to the rest of the world to the tune of at least $700 billion since 1992, figures Josephine Jimenez, senior portfolio manager for Montgomery Emerging Markets Fund. Japanese banks alone have lent Asians $263 billion, while Europeans have lent $155 billion and Americans $55 billion.
So, while the world marveled at the Tiger economies' exporting prowess, it was often debt-fueled speculation in golf resorts, high-rise office towers, and luxury condos that was increasingly driving growth. Money that did flow to manufacturing often just built auto or chip plants that simply added to the global glut in those products.
Now, many of those loans have soured. In addition to the problem loans that are on Japanese lenders' books, banks in Indonesia, Malaysia, the Philippines, Thailand, and Singapore have run up bad loans totaling $73 billion--an amount equal to 13% of those countries' economic output, estimates Jardine Fleming International Securities analyst Robert G. Zielinski. In relative terms, that's a far bigger crisis than either the U.S. savings and loan crisis of the 1980s or the implosion of Japan's "bubble economy" earlier in this decade. "It's a quagmire," Zielinski says.
RUNNING LOW. The biggest difficulty is finding the bottom. That's because Asian governments have developed an opaque financial system in which outsiders often don't know where the state ends and corporations begin. Korea, for example, has pledged its foreign-currency reserves to bail out banks and guarantee foreign loans to corporate borrowers that push its export policy. The governments of Thailand, Indonesia, and Malaysia have also made off-the-book guarantees to support favored companies that create employment and push national goals. Banks have been eager to lend against these implicit pledges. Factor in the true cost of supporting all the corporate wrecks, and the governments may be far more broke than anyone suspects.
Yet the payoff from abandoning this skewed form of market economics could be tremendous. If Asia emerges as a cleaner place to do business and develops a responsible banking sector, investors could come back much faster. Governments could also use the crisis as an opportunity to divert investment from frivolous real estate or low-tech manufacturing into more specialized areas that promise higher profits.
There will be more bad news, however, before the real benefits of a bailout are seen. Korea could be next to go. This year, 6 of the top 30 corporations have filed for bankruptcy. That's a corporate disaster comparable to Dupont, Chrysler, and Sears Roebuck biting the dust at the same time. If all the bad corporate loans are written off, the entire equity of Seoul's major commercial banks will disappear. The Bank of Korea has already extended $4 billion in emergency loans to its banks and may need to come up with more.
Yet the government is running out of money. "The country has $65 billion to $70 billion of short-term foreign debts maturing within a year, while the central bank has foreign exchange reserves of only $30 billion," says Park Kyung-min, chief investment officer of Asset Korea Capital Management. If rollovers of the loans are not possible, then the government may have to seek help from the IMF. If the IMF comes in, it's sure to demand big changes: opening capital markets that are virtually closed to outsiders, lifting the ban on takeovers, and breaking the link between the banks, the government, and the chaebol.
As the disaster spreads, the IMF will find itself struggling to fight a war on several fronts against recalcitrant politicians and their corporate allies. Nowhere are these conflicts more evident than in Thailand, where Prime Minister Chavalit Yongchaiyudh just announced his resignation.
Political bickering within Chavalit's six-party coalition government has cost the economy dearly. When the IMF formulated its rescue package, it assumed that a round of Thai tax hikes, a 20% cut in budgetary spending, and swift bank closures would stabilize the nation's currency at 32 baht to the dollar. Chavalit mostly followed through on the first two counts but balked at determining the fate of 58 wobbly finance companies that made big, bad bets on the real estate market. "They need to shut down those finance companies once and for all," says Nikhil Bhati Srinivasan of Morgan Stanley's Bangkok office.
As the government dithered, the baht fell to 41 to the dollar from 26 before Thailand devalued the currency in July. Now, the IMF doesn't have anyone to negotiate with, especially since all of the country's political parties are tainted by corruption and mismanagement. Says one Western economist in Bangkok: "There doesn't appear to be a sense of urgency. It's just coalition politics as usual." Since the Thai economy will be lucky to grow by 1% over the next year and tax receipts will drop, the prudent budget that the IMF demanded now looks like a lost cause. Worse, Thai companies have some $15 billion in short-term foreign debt that's coming due by yearend. Says Stewart J. Matthews, director of research at Deutsche Morgan Grenfell Securities (Thailand): "Every company in Thailand is for sale now."
The resulting slump is now evident everywhere. Two huge Toyota Motor Corp. car-assembly plants outside Bangkok have shut down for the rest of the year. At the Peninsula Plaza, one of Bangkok's ritziest shopping malls, there are 70%-off sales. Pricey designer boutiques such as Christian Lacroix, Emanuel Ungaro, Christofle, Fendi, and Moschino in September have started closing shop on Mondays.
On the highway into Bangkok, looming over the traffic jams, stand the cement pillars meant to support a rail-and-highway project. The mass-transit scheme, in which Gordon Wu's Hong Kong company invested more than $500 million, is only 20% finished, years behind schedule, and now officially suspended. It's a victim of the property-market collapse, the economic downturn, government mismanagement, and corporate hubris.
CONCESSIONS. To start the reform, some observers think Washington will need to step forward with a $5 billion pledge and so send a signal that it wants a Thai bailout to work. That would bring the potential bailout cost to $22 billion. "It would make sense for the U.S. government to come up with a contribution," says Chalongphob Sussangkarn, president of Thailand Development Research Institution Foundation, a leading think tank.
In the end, it was Washington's pledge of $3 billion to the Indonesian bailout that gave the IMF the extra boost it needed. It took months for Indonesian President Suharto to work out the strategy for bringing in the IMF. In September, he quietly called on Widjojo Nitisastro, a retired economic adviser known for his free-market views, to restore stability. While the cabinet stayed in the dark, Widjojo came up with a game plan that called for higher interest rates to stabilize the currency and approaching the IMF.
As resistance to a humiliating IMF bailout mounted, Suharto tried to persuade Singapore to come up with the money. But Singapore authorities called Suharto's bluff by demanding serious reforms and a tie-up with the IMF. At that point, the IMF teamed up with the U.S. to get the deal done.
The concessions the IMF has already won from Jakarta have surprised observers. Besides liquidating the banks, the government has also vowed to drop restrictions on wheat and flour imports and lessen the power of the so-called National Logistics Board, or Bulog, which calls the shots on the trade and distribution of commodities. In addition, local-content rules on auto assembly will be scrapped. Says Dennis de Tray, director of the World Bank's Jakarta office: "There is no reason to think that the IMF package is at risk." Yet others disagree, and resistance from Suharto's family and associates is certain to test the clout of the IMF and its technocrat allies within Indonesia.
The other wild card in the region is Japan. The world's biggest exporter of capital, it is too big and too rich to need the IMF's money. A bailout, one Ministry of Finance insider says, would "mean the death" of Prime Minister Ryutaro Hashimoto's government. But Japan is flirting with recession, corporate bankruptcies are soaring, and the Nikkei stock average is approaching levels that will mean big losses on the stock holdings of the nation's banks, brokers, and life insurers.
The big question is whether the pressure has reached a point where serious change is possible inside Japan's closed financial system. Within Japanese banking circles, it's certainly no longer corporate treason to seek the help of foreign banks in culling out bad loans from their portfolios. Even the Ministry of Finance, which has kept outsiders at bay for decades, has no choice but to encourage the trend, given the depth of the mess.
The number of deals is starting to pile up. So far, Bankers Trust New York Corp. has teamed up with Nippon Credit Bank, Barclays Bank with Hokkaido Takushoku Bank, and Swiss Bank with the Long-Term Credit Bank of Japan. All three alliances have been motivated by the MOF's desire to encourage a market in Japan's bad debt. The foreign players have the knowhow to package real estate into marketable securities, price them, and distribute them globally. If Japanese banks can finally remove these bad loans from their books, they can repair their balance sheets and get back into the business of lending and spurring economic growth.
As a result, major Japanese banks sold some $50 billion in such securities in the latest fiscal year, double the prior year. Some see a $100 billion market by decade's end. Says Long-Term Credit Bank Managing Director Takashi Uehara: "It's obviously sort of a megatrend that's pushing the transformation of our financial sector." The foreigners, in turn, often get equity stakes in Japanese banks, as well as fat fees for brokering deals and a chance to acquire decent Japanese real estate at below-market prices. The Western money houses also want to position themselves to manage Japanese pensions and portfolios.
More important, an increasing foreign presence in the Japanese financial system could slowly loosen the MOF's iron grip. That's a goal Washington has quietly supported for years. It has also pointed out that Japan still lacks a clearinghouse similar to America's Resolution Trust Corp. that can seize collateral, establish ownership rights, and sell a steady flow of properties to international investors. Tax incentives for sales of distressed assets are lacking as well. "We have encouraged the Japanese to learn from our RTC experience," says one U.S. official.
FIREWALL. At least the Japanese are showing some signs of understanding their financial problems. In Malaysia, Prime Minister Mahathir has declared the system is sound--the country has even donated funds to support Indonesia's bailout. Yet investors wonder when the bad news will leak out. One Jardine Fleming report suggests nonperforming loans held by the banks could account for almost 23% of gross domestic product--a level surpassing even Thailand's.
Then there's China. It's the last high-growth economy in the region, yet its top banks have about $90 billion in problem loans. The country is wallowing in excess manufacturing capacity, and real estate in Shanghai and Beijing is overbuilt. The Chinese currency is nonconvertible and so has a sort of firewall to protect China from the traders who have attacked the region's other currencies. Yet no one knows how an internal debt crisis could spill over China's borders and complicate the IMF's task of reviving the region. A big Beijing conference on banks in mid-November may result in major reform in the sector.
The crisis atmosphere is forcing technocrats from Tokyo to Jakarta to rethink cherished notions. It's going to take a concerted effort by the West to make sure Asia's market turmoil and banking crises don't do real damage to the global economy. But setting the stage for a durable recovery will also take forceful action by local governments--and plenty of short-term pain.