Myths of the Asian economic crisis still dominate
Gerard Jackson
Without a doubt, the depth and suddenness of the economic crisis that swept through the Asian economies took most economists and investment advisers by complete surprise. The one exception was Credit Lyonnais Securities (Asia). Only those schooled in Austrian economic analysis were completely unfazed by these events.
Unable to find an explanation for the crisis most of our commentators were reduced to parroting statements about bad investments, poor decision-making, overinvestment, excess capacity, etc., in an attempt to hide their ignorance.
These utterances were or less formed into four myths that now pass for informed economic opinion. In reality, they only show that our commentators are at a complete loss for an economic explanation.
Myth 1. The overinvestment view:
This is an old economic fallacy and is based on the belief that investment can out run consumption. Overinvestment is impossible. What advocates of the overinvestment-fallacy are really saying is that Asia has accumulated too much capital! As the classical school pointed out, society can never have too much capital.
It was farcical to suggest, for instance, that Thailand had too much capital. Every single community's problem throughout history has been a scarcity of capital. It is only by continuously raising investment per capita that we bring about rising living standards.
However, what Asian countries experienced was relative overinvestment. This means excess investment took place in one part of economy while another part suffered underinvestment.
The Austrians call these relative overinvestments malinvestments. Asian countries artificially lowered their interest rates, thus encouraging businesses in the higher stages of production to expand their investments beyond the point justified by the real supply of capital goods.
Moreover, capital goods for these projects had to be bid away from the lower stages of production. Eventually the inflationary consequences of these policies brought on a monetary crisis which forced these malinvestments ('overinvestments') to take the form of idle capital and labour. This is why Austrians say that monetary factors cause depressions but real factors constitute them.
So even in the absence of corruption and industry policies there would still have been a crisis, though much less severe.
Myth 2. Excess capacity caused the crisis:
This is obviously a version of myth 1. As we have seen, the 'excess capacity' consists of revealed malinvestments. Capital is a heterogeneous structure in which capital combinations have to be integrated. Inflationary policies distort the structure by sending out false price signals.
When countervailing forces finally assert themselves the phenomenon of 'excess capacity' appears. But this also means that other stages of production were forced into making inadequate investments. The so- called excess-capacity explanation is only used by clueless commentators and 'analysts'.
Myth 3. Too many bad investments was the real problem:
This one is as bad as the excess-capacity explanation. One should imagine that a sudden surge of bad investments would invite the simply question: Why? That is does not tells us much about what passes for economic commentary in this country. Fortunately the Austrians have already asked and successfully answered this question.
Too many bad investments (malinvestments) obviously mean too many bad-investment decisions. I have already shown that by distorting price signals entrepreneurs are induced to make malinvestments. When the malinvestments are finally revealed what we also see is a cluster of entrepreneurial failures. That these failures always appear in clusters never seems to strike most of our economic observers as odd.
Myth 4. Pegged currencies brought on the crisis:
The word for this one is daft. Pegging currencies to one another can never be damaging in itself so long as they are pegged at their market rates. Problems emerge when countries with pegged currencies begin to inflate against the currency to which they are fixed.
They find their currencies become over valued, current account problems begin to emerge and speculators see the opportunity for arbitrage activities. The longer the inflating countries resist the necessary currency adjustments, the bigger the monetary shock will be when it eventually comes. This is the lesson of history. It is the lesson of economics. It is a lesson that Asia has still not learned learn.
The cure for the crisis: the market should be allowed to liquidate the malinvestments; a sound monetary policy must be adopted; favouritism, subsidies, privileges and monopoly grants should be abolished and tariffs should be eliminated. Failure to implement most of these measures has kept Japan in the economic doldrums for years.
The lesson: (a) markets really do know better than bureaucrats and politicians, (b) money does matter.
Readers should note that the vast numbers of commentators might give explanations, but they do not give analyses. When an 'analyst' or commentator only provides a description of what has happened he is in fact admitting that he really does not know. And this is exactly the situation with much of our economic commentariat.
Gerard Jackson is Brookes' economics editor
BrookesNews.Com
Monday 27 September 2004