Financial liberalization, crises, and Malaysian policy responses

The Malaysian currency and financial crises since mid-1997 are shown to be due to financial liberalization rather than excessive regulation. The quasi-peg to the US dollar and opening up of stock markets encouraged a greater inflow of foreign savings to supplement the already high domestic savings rate, resulting in inflation of shares and real property prices. Short-termism has also accentuated the bias against longer term productive investments. The quasi-peg not only encouraged unhedged borrowing from abroad, but also became a target for currency speculators as regional currencies appreciated with the US dollar despite declining export competitiveness and growth. Meanwhile, financial liberalization allowed lucrative opportunities for taking advantage of falling currencies, and together with unjudicious official responses, transformed a correction into a collapse of the ringgit and the stock market. Contractionary policy responses - favored by the International Monetary Fund and the financial community are likely to accentuate the resultant economic slowdown. (C) 1998 Elsevier Science Ltd. All rights reserved.