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Tuesday, December 22, 1998 Published at 16:48 GMT


The year the bubble burst

Far East traders had their share of tense moments in 1998

Will 1998 be remembered as the year in which, in the words of George Soros, capitalism started to "come apart at the seams"?

Review of the Year
It was certainly a very uncomfortable economic year for much of the world, with currencies plunging in the Far East and Russia, Japan going into recession, large-scale job losses in the UK and stock markets seemingly charting new peaks and troughs every week.

And gradually moving centre stage was the Spirit of Christmas Future, the euro, an unknown quantity ready to roll out across most of Europe in the New Year.

South Korea flounders


[ image: As economic turmoil spread through Asia, so did despair]
As economic turmoil spread through Asia, so did despair
Twelve months ago, however, the focus was on the Far East where the problems of 1997 were continuing, particularly in South Korea and Indonesia.

South Korea renegotiated much of its debt at the start of the year, but its economy continued to flounder. A rescue package was put together in September which involved boosting consumer demand and restructuring the banking sector.

This was followed by the country's conglomerates, known as chaebols, swapping businesses in a bid to become more efficient. The unions, however, feared job losses and many went on strike.

Prospects for 1999 looked little brighter, with forecasts of a stagnant economy.

Suharto goes, doubts remain

Indonesia's economy had once been seen as one of the fiercest of the Asian Tigers, but it contained underlying weaknesses. A rescue deal was signed with the IMF but there were problems with getting President Suharto to comply.

In the meantime, the Indonesian people felt the true impact, with more than 40% of the population reduced to poverty.

After the resulting disturbances and internal pressures forced Suharto to step down, his successor, BJ Habibie reached a fresh agreement and agreed to IMF conditions.

One of the victims of the Indonesian crisis was the Hong Kong-based Peregrine Investment Bank, which collapsed in January and caused shares in the territory to spiral.

But Hong Kong, freshly independent of the UK, proved to be vigorous in defending its economy and currency throughout 1998. When the Hong Kong dollar came under attack from speculators later in the year, the government pumped $9bn into local shares in order to prop it up. The move was successful, but left the government vulnerable to any sudden falls.

Hong Kong's new ruler, mainland China, was the region's new economic superpower. There were fears that it would be the next domino to fall, but it vowed it would not devalue its currency and foreign investment continued to flow in.

By the end of the year, however, China's exports were faltering because of its strong currency and there were questions whether it could maintain its 8% growth rate.

Falling yen, failing banks

Even more worrying internationally were problems in Japan.

Big stock market falls led to a 'Big Bang' in April in an effort to get more cash flowing back into the market. These measures were not enough for the G7 leading industrialised nations, who wanted more far-reaching steps.

In June, the Japanese economy formally went into recession. The yen continued its sharp falls against the dollar and the US intervened that same month to prop up the Japanese currency and stave off fears of a worldwide currency crisis.


[ image: The collapse of the LTCB added to Japan's financial woes]
The collapse of the LTCB added to Japan's financial woes
Japan's banks, however, had deep long-term problems with combined bad debts of some $650bn.

Particularly vulnerable was the Long Term Credit Bank of Japan (LTCB).

One of its affiliates, the Japan Leasing Corporation, collapsed in September with debts of more than $16bn.

The Japanese government reached agreement the following month for better control of the financial sector, but the system remained delicate. As soon as the new regulations came into effect the LTCB asked to be taken over by the government and in December, another institution, the Nippon Credit Bank was forced under by the weight of its bad loans.

Russia's "terminal phase"


[ image: Yeltsin appointed Kiriyenko to head up Russian reforms - but replaced him within months]
Yeltsin appointed Kiriyenko to head up Russian reforms - but replaced him within months
In the summer, attention turned to Russia.

President Yeltsin had sacked his long-time Prime Minister, Viktor Chernomyrdin, in March, replacing him with the almost unknown Sergei Kiriyenko.

The rouble continued to fall, however, and in June Russia asked for $10-15bn to stabilise its financial markets.

The International Monetary Fund came up with the offer of a loan, but insisted that the reforms be carried out despite strong opposition to them within Russia, particularly from the communists.

In August, international financier George Soros pronounced that the turmoil in Russia's markets had reached a "terminal phase", advising devaluation, and two agencies downgraded the country's international debt rating. This led to a massive stock market fall of nearly 12% in a single day - a cumulative total of more than 80% in the year.

There were also big losses around the world as fears grew for those who had invested in Russia.

President Yeltsin and his government said they would not devalue but in the end had to give way to the markets. Amid calls for his resignation Mr Yeltsin sacked his prime minister, turning back to Mr Chernomyrdin.

The ensuing battle with the Russian parliament over the new appointment was eventually lost by Mr Yeltsin, but whoever was in charge was going to be faced with the same problems. In the end this proved to be Yevgeny Primakov, who promised to carry out the necessary economic reforms.

There were serious doubts about his ability to do this, however, and when Mr Primakov produced a budget in December it contained assumptions about help from foreign creditors which were widely regarded as unrealistic. Russia's rouble debt, frozen at $40bn in August, was eventually restructured.

Fears of global collapse

The problems in Russia and the Far East had a huge impact across the rest of the financial world. Stock markets soared and crashed constantly amid general volatility. On 5 August, for example, Wall Street suffered one of the biggest falls in its history in panic selling.

For a time it looked as though there would be a global crash and recession. This feeling was made worse in September with the collapse of the Long Term Capital Management hedge fund.

LTCM was the worst case of several such funds with massive exposure to declining markets and there were fears that the collapse could the the final straw. Such fears prompted the US Federal Reserve to organise a $3.75bn rescue.

It was also the catalyst in prompting the regulators to recognise the abyss and they took steps to avoid it. Demands for interest rate cuts had previously been rejected by Fed chairman Alan Greenspan as late as September. Two months later, there had been three reductions.

These were instrumental in reviving the American economy, which proved to be the best performer among the world's major economies over 1998, helping keep less stable economies afloat.

This boom led to a record US trade gap as Americans bought foreign goods made cheap by their falling currencies. There were doubts, however, that the recovery could be sustained into 1999.

The UK - rising interest rates, rising job losses

The UK was one of those countries suffering from high currency value and high interest rates, which hit manufacturing and caused job losses on top of redundancies for other reasons.

The City had been shocked in June when the Bank of England raised interest rates by 0.25%. Governor Eddie George denied that it was a surprise and it emerged that a rise in average earnings had been the crucial factor as the Bank feared this might increase inflation.

Ironically, it later emerged that the earnings figure on which the rise was based was a rogue. The chancellor ordered an inquiry and publication of the data was suspended in November, but by then the damage had been done.


[ image: Siemens cut 1,100 jobs in the Northeast of England]
Siemens cut 1,100 jobs in the Northeast of England
The wave of job losses could not be put down to a single reason. Those at Siemens on Tyneside and the proposed Hyundai plant in Dunfermline were a result of the downturn in the Far East.

The most pointed factory closure of them all was that of the Fujitsu semiconductor plant in the prime minister's own constituency of Sedgefield as a result of overcapacity in the market.

The north, in fact, seemed to bear a disproprtionate burden of the job losses and Bank of England Governor Eddie George made enemies in the region when he said unwisely that unemployment in the north was a price worth paying for prosperity in the south.

The loss of 1,000 jobs at the Royal Doulton china firm, however, was put down to the high rate of sterling damaging overseas sales. This was a common, swelling theme over the summer and unlikely allies such as the Confederation of British Industry and the Trades Union Congress joined forces in calling for cuts in interest rates.

These did not come, however, until the American reductions began, but once they started they were much bigger. The Bank of England slashed rates by a total of 1.25% in three stages, although the level remained much higher than most European countries as the year ended.

This was particularly the case as there was a co-ordinated reduction across the European Union among those countries which had signed up to the single currency. This produced a common 3% rate prior to the launch of the euro on 1 January.

Longer-term reform

As well as steps such as reducing interest rates, those in charge of the world's financial systems took a longer-term view about what needed to be done.


[ image: The IMF has come under scrutiny as the global crisis deepens]
The IMF has come under scrutiny as the global crisis deepens
The crisis had focused attention on the role of international institutions such as the International Monetary Fund and the World Bank.

Their apparent failure to act and inadequate resources led to criticism and calls for reform - led politically by UK Chancellor Gordon Brown and Prime Minister Tony Blair, as well as President Clinton.

This resulted in a plan agreed by the G7 nations in October including a larger IMF rescue fund, tighter controls on international markets and improved codes of practice for banks.

One of the first beneficiaries was Brazil, which received $41bn over three years to support economic reforms and support its currency. The move was also designed to help prop up other Latin American economies in difficulties

Whether these changes will be enough to stop 1999 - and indeed the next century - being as volatile as 1998, however, remains to be seen. Doubts have been expressed that the IMF will be strong enough and that tougher regulation of the banking system is needed.

When as influential a person as George Soros expresses doubt on these points, then it is probably wise to remain cautious.



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In this section

Sex, lies and impeachment

Northern Ireland: An historic year

The year the bubble burst

Kosovo: Another Balkan tragedy

Nature's turbulent year

Sport: Trials and triumph

Goodbyes