Asian Currency Sink

In: Business and Management

Submitted By alcapon03
Words 415
Pages 2
Why did so many Asian companies and banks borrow dollars, yen, and Deutsche marks instead of their local currencies to finance their operations?
What risks were they exposing themselves to?

Several factors affected the cause of Asian companies and banks borrowing foreign currencies. First, most Asian countries depended on exports as their engines of growth and development. The majority of these exports were destined to the shores of Japan and the United States. These exports include clothing, footwear, office machinery and telecommunications equipment to name a few. Because of this, most of the countries tied their currency to the dollar. This strategy worked out well until 1995, were low inflation and stability was in place. This strategy also boosted exports at the expense of Japan, as the dollar fell against the yen. This caused Japanese firms to shift their own production to East Asia in order to cope with the strengthening yen. A country’s export competitiveness depends on its exchange rate. This not only includes it being against the dollar, but also against its major competitor’s currencies. Because other currencies such as the dollar, yen and Deutsche mark carried lower interest rates, it was financially found advice for East Asian companies to finance themselves with those currencies. In total, they borrowed around $275 billion worth, much of it in short term loans. The key to understanding why East Asians borrowed from other currencies is in the interest rate level. It is also important to understand that many of the local currencies were pegged to the dollar, and interest rates for borrowing on the dollar were generally lower than borrowing from the local currency. But, if the domestic currency is incapable of maintaining the dollar peg, and the dollar begins to rise in value, this would spell disaster for borrowers attempting to repay the…...

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