By Chris Devonshire-Ellis

Dec. 14 – While the United States continues to mutter darkly about the position of the Chinese RMB against the U.S. dollar, claiming that the strength of the Yuan is protecting Chinese manufacturing at the expense of the U.S. economy, political analysts may wish to reflect upon the behavior of U.S.-based hedge funds and currency speculators back in 1997 and their role in the Asian Financial crisis.

While much of the crisis was caused by overbuilding and extension of easy credit to Asian economies ahead of their capability to pay, currency speculators in their droves, most notably lead by George Soros, effectively bet against several Asian currencies and their ability to hold onto their then U.S. dollar peg. The avarice of U.S. speculators at the time – now regarded as a contentious theory, and not fully proven – certainly seemed to assist the meltdown as I recall events.

What is widely acknowledged is that the Thai baht came under massive speculative attacks in May 1997, which lead to the government removing the U.S. dollar peg and opened the door for a meltdown. The baht lost half its value in six months. Indonesia was next, suddenly coming under severe attacks in August, leading to the managed floating exchange regime being replaced by a free-floating exchange rate arrangement. The Indonesian rupiah dropped further, until the IMF came forward with a rescue package of US$23 billion. The rupiah sank even more amid fears over corporate debts, massive selling of rupiah, and strong demand for dollars. Indonesia’s debt was subsequently re-graded as “junk” status, while the currency has still to recover fully from the impact, 12 years on.

The process of mysterious attacks on national Asian currencies and the U.S. dollar peg continued. It may be historically significant that Hong Kong had just been handed back to China, but massive attacks on the Hong Kong dollar occurred. In October 1997, the Hong Kong dollar, which had been pegged at 7.8 to the U.S. dollar since 1983, came under speculative pressure because Hong Kong’s inflation rate had been significantly higher than that of the United States for several years. Monetary authorities spent more than US$1 billion to defend the local currency.

Other economies to be attacked by mysterious speculators included South Korea, Malaysia and the Philippines. In the space of 12 months, the Thai baht lost 42 percent of its value, the Indonesian rupiah 83 percent, the Philippine peso 37 percent, the Malaysian ringgit 39 percent and the South Korean won 34 percent. In numerous cases, the U.S. dollar peg, previously used as a mechanism to protect their currencies against sharp deviations, had itself been used as a tool against which to bet. Several Asian economies subsequently dropped the U.S. dollar peg and moved to a secret weighted “basket” of currencies instead.

It is arguable whether the fortunes of the U.S. dollar and indeed the seeds of the current financial crisis have their roots in what occurred in Asia. But what is apparent is that in losing the trust of several major Asian economies concerning the merits of the U.S. dollar peg, the respect for the U.S. dollar as a symbol of global trade has been diminished.

China meanwhile, and businesses within it, braced for a downturn. Foreign investment into China dried up at the time – I recall it well as Dezan Shira & Associates business development pipeline those twelve years ago all but dried up – foreign investors were expecting the Chinese to devalue the RMB, and put off investments into China, and the rest of Asia, while they waited for this to occur. The wait lasted about nine months, and China held firm. There was no devaluation of the RMB, and it cost the Chinese economy billions to maintain their position in the face of falling investment and trade volumes. FDI into China meanwhile had plummeted from a healthy position in early 1997 to a much more subdued mood. It didn’t recover until mid 1998 – nearly 18 months of depression.

In 1997, Bill Clinton was president of the United States, and Alan Greenspan the chairman of the Federal Reserve. While the United States is now on its second president since then, China’s government however remains the same. And in Asia, memories run deep. Whether it was attacks by American currency speculators or not that caused the Asian Financial Crisis is not now necessarily the point. What is clear however is that the longer term damage that was done to Asia at the time has impacted on the previously reliable image Asian governments had towards the US dollar, and in the overall trust of U.S. financial interests to hold Asian considerations truly to heart. While America may want China to revalue the RMB, Chinese memories run deep and mistrust and chaos as a result of 1997 is still part of the demographic thought process in deciding how best to move forward.

Chris Devonshire-Ellis is the publisher of China Briefing and founding partner of Dezan Shira & Associates. Comments are welcome.

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