In 2008 financial crisis, the economies of China and Singapore
remained largely unscathed. This article looks at the reasons
and responses of the respective governments.
The following paper explores the effect of the 2007-2008 US financial crisis on the economies of China and Singapore. To compare economic indicators the period from 2006 to 2011 has been chosen to effectively present the state of the above mentioned economies just before the crisis, during the crisis and in the short period after the crisis. In order to analyze the effect of the crisis on the two economies the areas of impact have been classified into five broad categories:
BACKGROUND
Globalization and liberalization has paved the way for economic interdependence in the global economy. Economic interdependence is a two way street; if the economy of any country has a considerable impact on the global economy then the problems of the global economy in some way will have an impact on the country’s economy.
The following paper explores the effect of the 2007-2008 US financial crisis on the economies of China and Singapore. To compare economic indicators the period from 2006 to 2011 has been chosen to effectively present the state of the above mentioned economies just before the crisis, during the crisis and in the short period after the crisis. In order to analyze the effect of the crisis on the two economies the areas of impact have been classified into five broad categories:
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Trade
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Real Economy
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Banking and Financial Sector
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Foreign Direct Investment
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Labor Market
BACKGROUND
Globalization and liberalization has paved the way for economic interdependence in the global economy. Economic interdependence is a two way street; if the economy of any country has a considerable impact on the global economy then the problems of the global economy in some way will have an impact on the country’s economy.
In 2007 in the initial stages of the crisis, the financial channels
were most important in dispersing its impact. Financial
institutions across the globe, especially in Europe that had a
significant exposure to the securities linked to the US real
estate market were the first casualties of the crisis and these
investors suffered huge losses. This was the primary wave of
the effects of the crisis. This in turn created the second wave of
effects of the crisis, in the form of capital outflows from many
emerging market economies. This loss of investment and FDI
brought the effects of the US crisis to the emerging market
economies, adversely affecting their growth rates. The crisis
also affected the economic outlook and risk attitudes of the
stakeholders of the economic scenario. Prior to the crisis
extreme optimism had affected several markets across the
globe creating stock market booms. In the aftermath of the
crisis this extreme optimism turned in to pessimism leading to
stock market crashes and erosion of wealth.
The 2007 crisis in the US had a large impact on the Asian
economies either due to any of the aforementioned reasons or
due to a combination of them. In the last quarter of 2008 the
cumulative GDP of Asian economies (excluding India and
China) fell by 15%. The strength of the effect of the crisis felt
by the Asian economies has revealed several shortcomings in
the regulation and supervision of the financial sector in general
and liquidity management in particular. Dependency on
wholesale funding, lax monetary policy, insufficient regulatory
perimeter, and the inherent instability of the export led growth
model are factors that make these economies vulnerable to
external shocks.
When the financial crisis started in the United States in
the August of 2007 most economists were of the opinion that it
would have little effect on emerging market economies like
China because of the decoupling effect. Since the financial
sector in these markets was still in nascent stages and thus did
not possess many instruments of financial innovation like credit
default swaps etc. which were largely opaque and understood
by few by virtue of their complexity. In addition, the heavy
regulations in the financial sectors of these economies would
have limited their exposure to toxic assets. According to the
decoupling theory the demand and growth in Asian economies
was mainly fueled by domestic factors and thus was decoupled
and thus buffered from external shocks.
CHINA
Although the Chinese economy in the post financial crisis period showed spectacular growth rates, there was a significant drop in growth rates compared to the previous years of its growth. The Chinese economy may not have been crippled by the global financial crisis but it was certainly affected by it. China’s exposure to the global financial crisis was moderated by its lack of direct exposure to the subprime mortgage problem. The Chinese put restrictions on capital outflows limiting investment by individuals and corporations in foreign assets to encourage domestic investment. Thus the bulk of Chinese investments overseas in foreign assets are made by the Chinese government, with extremely cautious investment habits. Since most of these investments are in safe low yielding investments such as US treasury securities.
Thus exposure to sub-prime mortgages itself was not problematic for the Chinese economy. It was the secondary effect that was problematic for the Chinese economy which was the effect of the sub-prime crisis on two of its largest trading partners, the United States of America and Europe. As the two largest import regions of United States and Europe were in deep financial trouble it caused a cascading effect, causing international trade to drastically drop, credit to tighten and direct foreign investments to be swiftly withdrawn; creating a domino effect of recession.
Although the Chinese economy in the post financial crisis period showed spectacular growth rates, there was a significant drop in growth rates compared to the previous years of its growth. The Chinese economy may not have been crippled by the global financial crisis but it was certainly affected by it. China’s exposure to the global financial crisis was moderated by its lack of direct exposure to the subprime mortgage problem. The Chinese put restrictions on capital outflows limiting investment by individuals and corporations in foreign assets to encourage domestic investment. Thus the bulk of Chinese investments overseas in foreign assets are made by the Chinese government, with extremely cautious investment habits. Since most of these investments are in safe low yielding investments such as US treasury securities.
Thus exposure to sub-prime mortgages itself was not problematic for the Chinese economy. It was the secondary effect that was problematic for the Chinese economy which was the effect of the sub-prime crisis on two of its largest trading partners, the United States of America and Europe. As the two largest import regions of United States and Europe were in deep financial trouble it caused a cascading effect, causing international trade to drastically drop, credit to tighten and direct foreign investments to be swiftly withdrawn; creating a domino effect of recession.
Summarized below are some the macro-economic indicators
for the Chinese economy from 2006 to 2010.
Chinese economy was neither hardest hit by the financial crisis nor was it completely insulated from it. The growth of Chinese GDP slowed down compared to its performance in the preceding years. From 1978 to 2010 the share of Chinese GDP in the world economy increased from 1.7% to 9.5% providing diversity to the engines of global growth making it more stable. But in turn it has also increased the exposure of the Chinese economy to the global market conditions. In 2010 China overtook Germany as the world’s largest exporter with exports worth 1.5 trillion. The Chinese economy also became more linked to the economies it trades with. Thus any slowdown in partner economies is reflected in their purchasing power and reduction in imports which in turn
affects Chinese exports. This is reflected in the reduced
current account surplus in the years 2009, 2010 and 2011 as China’s import trading partner countries suffered from
recession.
As can be seen from the above data just before the crisis occurred, nearly 40 % of China’s GDP was from exports. China’s export driven economy indicates that it is heavily dependent on consumption of its goods by export markets for its economic growth. With this level of skewed dependency of a supplier on a consumer to maintain its growth rate, it was not a surprise that the global financial crisis affected China but China was quickly able to offset its affects.
From the above data it can be seen that during the period between 2007 and 2009 there was an effect on Chinese trade due to global factors. Both in case of exports and imports there was a decline in the value as a % of GDP and even though there was a slight increase in the values from 2009 onwards they still lagged behind the pre crisis values. In November 2008 China’s growth export rate fell sharply to -2.2% from 20% in October and total exports fell by 17% in 2009. In the first half of 2009 exports shrank 21.8% and imports declined 25.4%. Same can be seen in the case of export volume index. This index is assuming the base year to be 2000 and its value to be 100. Thus we see that in the period 2007-2008 the growth of Chinese exports by volume was sluggish compared to other years and in the period 2008-2009 there was a decline in the volume of exports from China. Further, observing the import volume index similarly assuming the year 2000 as the base with a value of 100. From the period of 2007-2009 the imports to the Chinese economy stagnated before picking up again in 2010.
These observations have two implications. Firstly since the Western economies are important trade partners for China, slowing down of the Western (American and European) economies resulted in lower demand for Chinese products thus reduced exports for the Chinese economy. Secondly, since the Chinese economy has become the assembly sector of Asia in the recent years with a large part of Chinese imports from Asian countries specifically for its export industry, decline in Chinese imports as a consequence, hence adversely affected the growth of other countries. Thus a reduction in imports by China as a consequence of reduced exports adversely affected the other Asian economies. Moreover despite experiencing large economic shocks and a decline of nearly 5% in growth rates the Chinese economy quickly showed signs of recovery even when the other economies unfavourably affected by the crisis continued to struggle to recover.
A consideration here is that due to the global financial crisis and resulting dip in demand, global raw commodity prices declined. This has been beneficial to China both by causing improvement in terms of trade and in reducing the inflationary pressure induced in the economy due to the government measures to abate the effects of the crisis on the Chinese economy. Thus helping boost domestic consumption and stabilizing the economy.
Further the Chinese export economy is also a source of
employment. In January 2009 the Chinese government
estimated that the slowdown in China’s economy due to the
global economic crisis led to the loss of twenty million jobs in
China in 2008. Due to the slowdown of the economy many jobs
have been shed in the export oriented manufacturing sector.
In the labour sector there was a rise of 0.6% in unemployment
but it was relatively small compared to the rise in
unemployment in other economies affected by the crisis. The
contribution of manufacturing sector in terms of value to the
GDP only declined marginally. In contrast there was a
contraction in merchandize export from 2008 to 2009. Thus this
difference must have been
made up by domestic consumption. But during the same period domestic consumption by households as a % of GDP fell slightly. Thus it can be concluded that the consumption was artificially created by government policies in order to prevent rise in unemployment and halt the slowing down of the economy.
made up by domestic consumption. But during the same period domestic consumption by households as a % of GDP fell slightly. Thus it can be concluded that the consumption was artificially created by government policies in order to prevent rise in unemployment and halt the slowing down of the economy.
Annual FDI in China grew from $2 billion in 1985 to $148 in
2008. Hence we can state that the economic engine of growth in
China has been heavily dependent on inflows of Foreign Direct
investments. In the wake of the sub-prime crisis since investors
suffered losses the cost cutting measures thus introduced
decreased the FDI inflows to China. However, as one of the
strongest emerging market economies the amount of decrease
in FDI in China was marginal compared to other such
economies. From the 2008 to 2009 we can see a slight decrease
in FDI inflows into China but in 2010 we see a strong recovery
in FDI inflows as the global scenario improves. Similarly we see
the contribution of FDI to the Chinese GDP decline in 2008 and
2009 before bouncing back in 2010. Considering portfolio
investment there was a sharp decline during the crisis period of
2007 to 2009 with 2010 showing moderate upswing but
nowhere near the pre crisis levels.
Looking at the table below we can see a contraction in M2 money supply in the Chinese economy in 2007 and 2008 there was a surge in liquidity in the market in 2009 as a consequence of government policies which again fell in 2010 and 2011. This is indicative tightened credit in the economy.
Looking at the table below we can see a contraction in M2 money supply in the Chinese economy in 2007 and 2008 there was a surge in liquidity in the market in 2009 as a consequence of government policies which again fell in 2010 and 2011. This is indicative tightened credit in the economy.
The Chinese stock market increased fivefold between 2005 and 2007. But starting in 2007 the stock market crashed wiping out more than two thirds of its market value. This sharp decline in the Shanghai Stock Exchange Composite Index occurred from December 2007 to December 2008. This was indicative of loss of confidence in the economy in response to the financial crisis. Even at this scale for China’s economy the stock market crash or the real estate bubble were relatively small compared to the effects on the Chinese economy via trade channel.
In order to increase the liquidity in the market and ease out the credit crunch in order to fuel economic growth the Chinese government reduced the lending interest rates offered by the banks. This was further accompanied by elimination of lendingquotas so that the banks could freely lend to companies and households. Bank lending in China totaled RMB 9.6 trillion in 2009 reaching nearly half of that year’s GDP. Credit given by both banks and the financial sector was rapidly expanded in order to boost economic growth.
Moreover, the government policy sought to create an important
role for domestic consumption as a driver of growth; in order to
reduce dependency on exports and FDI as an economic growth
model to improve sustainability of the growth. Thus deposit
interest rates were reduced and real interest rate became
negative for a while in order to stimulate spending instead of
saving to drive up domestic consumption. Furthermore social
programs like providing healthcare, quality education and
pension etc. were undertaken in order to reduce precautionary
savings. This can be seen in the increased healthcare
expenditure as a percentage of GDP and increased public
spending in this sector. Further resources were also invested in
capacity building as can be seen by increase in spending on
Research and Development.
The fiscal policy response of the Chinese government was to
introduce a $ 586 billion package in November 2008. The
injection of such massive amount of liquidity into the economy
provided capital for domestic spending and to stimulate the
economy by job creations. Investment in infrastructure,
transport etc. formed a vital part of this package. This focus
on infrastructure ensured that money was spent quickly and
had a significant impact on employment where it was needed
the most since many low skill workers had lost low end export
processing jobs. The trickle-down effect of money funneling
through state enterprises to private sub contractors had the
effect of restoring consumer confidence in the economy.
The size of China’s stimulus package was comparable to that of the United States when its economy is only third as large. Thus the effectiveness of the stimulus package played an important role in mitigating the effects of the crisis on the Chinese economy. China could adopt a substantial stimulus package because of its strong financial position. High levels of reserves made expansionary monetary policies feasible. China was in a better position than many other countries to withstand the global financial crisis. Its conservative and prudent fiscal policies have allowed it to have resources at hand to deal with the effects of the crisis. The financial crisis offered China an opportunity to adjust its economy from being overly reliant on exports. Thus at the end of the crisis China was a relative winner not because it was not affected by the financial crisis of 2007 but because it could weather it better.
But the same program also created some problems for the Chinese economy in the future. The indiscriminate lending by banks during this period has created new non performing assets. Coupled with the previous ones already weighing on the banks the banking industry is highly dependent on cash infusions by the government and the sustainability of such a system is open to speculation.
The size of China’s stimulus package was comparable to that of the United States when its economy is only third as large. Thus the effectiveness of the stimulus package played an important role in mitigating the effects of the crisis on the Chinese economy. China could adopt a substantial stimulus package because of its strong financial position. High levels of reserves made expansionary monetary policies feasible. China was in a better position than many other countries to withstand the global financial crisis. Its conservative and prudent fiscal policies have allowed it to have resources at hand to deal with the effects of the crisis. The financial crisis offered China an opportunity to adjust its economy from being overly reliant on exports. Thus at the end of the crisis China was a relative winner not because it was not affected by the financial crisis of 2007 but because it could weather it better.
But the same program also created some problems for the Chinese economy in the future. The indiscriminate lending by banks during this period has created new non performing assets. Coupled with the previous ones already weighing on the banks the banking industry is highly dependent on cash infusions by the government and the sustainability of such a system is open to speculation.
SINGAPORE
Apart from interconnectedness of financial institutions trade was an important transmission channel for the crisis of 2007. Global trade declined at the fastest rate in the second half of 2008 since World War II. In the recent decades trade has become an important driver of economic growth for emerging Asian economies. The trade growth reflects the fact that different countries in emerging Asian economies export intermediate goods at various stages of production but the bulk of final goods still have their destination in the advanced economies of Europe and US. Singapore has a highly developed and a successful free market economy. Its economy depends on exports of consumer electronics, information technology products, pharmaceuticals and financial services. The twin engines of growth for the economy of Singapore are manufacturing (and export of merchandise) and services (as Singapore is a trade hub). Singapore had the earliest decline to negative growth in 2008 and remained in negative growth in 2009 (Singapore was the first ASEAN nation to fall into recession) due to its heavy reliance on international trade. United States and Europe account for nearly 33% of Singapore’s non oil exports over the last few years.
Listed below are some of the macroeconomic indicators for the economy of Singapore for the period between 2006 and 2011.
Apart from interconnectedness of financial institutions trade was an important transmission channel for the crisis of 2007. Global trade declined at the fastest rate in the second half of 2008 since World War II. In the recent decades trade has become an important driver of economic growth for emerging Asian economies. The trade growth reflects the fact that different countries in emerging Asian economies export intermediate goods at various stages of production but the bulk of final goods still have their destination in the advanced economies of Europe and US. Singapore has a highly developed and a successful free market economy. Its economy depends on exports of consumer electronics, information technology products, pharmaceuticals and financial services. The twin engines of growth for the economy of Singapore are manufacturing (and export of merchandise) and services (as Singapore is a trade hub). Singapore had the earliest decline to negative growth in 2008 and remained in negative growth in 2009 (Singapore was the first ASEAN nation to fall into recession) due to its heavy reliance on international trade. United States and Europe account for nearly 33% of Singapore’s non oil exports over the last few years.
Listed below are some of the macroeconomic indicators for the economy of Singapore for the period between 2006 and 2011.
As an economy structurally dependent on international trade
Singapore was inimically affected by the slump in trade post
the financial crisis. The GDP growth rate for Singapore’s
economy plummeted in 2008 remaining low for 2009 before
regaining strength in 2010. The extent of the drop in the rate is
indicative of the deep impact of the US crisis on the economy
of Singapore. Singapore has a high value of manufacturing
relative to GDP at a value of approximately 128%. At the same
time the quick recovery of the economy in two years also
brings out the fact that the effect was not propagated through
structural channels, since the economic fundamentals of the
economy were in order, the economy was able to recover fairly
quickly. The reduction in the current account balance surplus
also brings out the dependency of the economy on exports and the action of the
Singapore government in introducing stimulus packages to
inject liquidity into the economy.
Demand for manufactured exports is highly sensitive to income
and wealth effects. Consequently during the US and European
recession when income fell and consumer wealth declined
because of collapse in asset value demand for durable goods
dropped sharply. In addition the banking sectors in industrial
countries tightened credit. Thus the volume of goods shipped
internationally declined in part because some importers could
not get the credit they needed to pay for shipments. Singapore
has the position of a trade hub. Supporting trade related
services from transportation to trade finance. This implies that
the slowdown in trade had wider implications for Singapore
than just being limited to export oriented manufacturing
sector. As can been observed from the data above that manufacturing holds around 21-25% of the GDP share in the
economy of Singapore but the export and import of goods and
services as a flow through the economy is nearly twice the
value of the GDP of Singapore. This brings out the importance
of services that Singapore provides as trade hub. Thus not only
was the economy of Singapore affected because of decline of
manufactured exports from Singapore but also due to decline
of exports from other counties that used it as a hub, in effect
amplifying the effect of the crisis that was felt via the trade
channel. Hence while economies like China were affected by
decline in manufacturing exports of their economy, countries
like Singapore were affected not only by effects of crisis on
their manufacturing exports but also by the effect on
neighbouring countries’ manufacturing exports; which is one of
the reasons that Singapore was affected much more deeply
and adversely by the 2007 financial crisis.
As can be observed from the data below, during the period of 2008 and 2009 both the value of merchandise imports and exports declined. During the same period the consumption expenditure in the economy stagnated indicative of stagnation in demand before picking up again in 2010. In 2010 the % of labour force unemployed increased almost by five percentage points.
Decline in imports and exports, brings out the negative effect of the crisis on the Singaporean service sector. The stagnation in consumption is indicative of reduced household wealth due to the recession in the economy. However, the paradox here is that almost one in four people in the labour force are foreign workers thus they provided a buffer against a sharp increase in unemployment of the citizens. The flexible industry wage in Singapore allows employers to adjust costs better and reduce job cuts to an extent. Thus even with such high unemployment rates in absolute percentages the net welfare effect on the citizens was mitigated.
FDI inflows into Singapore reduced dramatically to almost a quarter of their previous value from 2007 to 2008. This is also indicated by the share of GDP contributed by FDI inflows that reduced from 25% in 2006 to 6.3% in 2008. This dependency on FDI is also one of the reasons for recession in the Singaporean economy as the FDI channel dried up post the crisis. Moreover portfolio investment in Singapore not only decreased but also turned negative which implies that not only did the money stop flowing into the Singaporean economy it also drained out creating a credit crunch in the market in the immediate aftermath. Singapore experienced the greatest decline in cross border loans in the financial sector with exception of Hong Kong in this period. But Singapore was somewhat buffered by these capital outflows by virtue of its current account surplus. In addition the Monetary Authority of Singapore guaranteed bank deposits to restore the confidence in the economy and the financial sector. MAS also flushed the market with liquidity increasing the M2 money supply in the economy and reducing real interest rates to prevent freezing of inter bank facilities in tightening credit conditions. Further a 30 billion dollar swap arrangement was made with the US Fed in order to ensure that the local institutions were able to maintain adequate dollar liquidity.
Though banks in Singapore had some exposure to collateral debt obligations their assets were relatively safe and much less leveraged compared to banks in US or Europe.However, reduction in risk appetites froze financial transactions and created fears about short term funding ability. Singapore suffered a huge loss of wealth as the stock market plummeted from a high of 3500 points in December 2007 to 1700 points in last quarter of 2008. Falling asset prices led to declining household wealth and contracting consumer spending which further affected financial intermediation services. Further investment spending was adversely affected as the credit crisis led to higher financing costs. The share of domestic credit in the financial sector increased by almost 20 percentage points in the post crisis years of 2008 and 2009 as the credit provided by the international financiers declined.
As an immediate policy measure to combat the effects of the financial crisis the government of Singapore established a US 1.56 billion dollar loan facility along with risk sharing initiatives. Further the Singapore central bank shifted its currency policy to a zero appreciation stance and devalued the Singapore dollar to help exports. Further nearly 400 million dollar plan
was launched for the training and development of workers in
order to improve labour productivity the human capital
element. Additionally a 13.8 billion dollar resilience package
was introduced for the year 2009 to combat the effects of the
financial crisis.
The key focus of the government was to keep people in jobs. In order to boost the economy the government of Singapore spent heavily on big investment projects in the construction sector like the new MRT line. The swift action of the Singapore government, the soundness of its public finances and the existence of adequate reserves all contributed to the rebound in the economy of Singapore and little welfare impact on the people of Singapore despite the large drop in GDP growth.
CONCLUSION
In the aftermath of the 2007 financial crisis there were few countries that escaped unscathed. Due to tighter regulations and conservative practices the exposure of Chinese and Singaporean financial institutions to the sub-prime problem and toxic assets was limited and constrained. Despite that both the economies were affected via the secondary trade route and the tertiary capital flow channel along with the adverse affects of erosion of market confidence.
The exposure of the Singaporean economy to international trade was far greater as compared to the Chinese economy and the potential for other diversifying elements like domestic consumption limited.The good health of public finances and adequate reserves coupled with prompt government action is a similarity of the response by both the Chinese and the Singaporean government in combating the effects of the crisis. Additionally this crisis also saw both countries investing in welfare activities and long term measures like R&D and human capital development to improve the economic scenario. To sum up both economies were greatly affected by the 2007 financial crisis but neither was crippled by it.
The key focus of the government was to keep people in jobs. In order to boost the economy the government of Singapore spent heavily on big investment projects in the construction sector like the new MRT line. The swift action of the Singapore government, the soundness of its public finances and the existence of adequate reserves all contributed to the rebound in the economy of Singapore and little welfare impact on the people of Singapore despite the large drop in GDP growth.
CONCLUSION
In the aftermath of the 2007 financial crisis there were few countries that escaped unscathed. Due to tighter regulations and conservative practices the exposure of Chinese and Singaporean financial institutions to the sub-prime problem and toxic assets was limited and constrained. Despite that both the economies were affected via the secondary trade route and the tertiary capital flow channel along with the adverse affects of erosion of market confidence.
The exposure of the Singaporean economy to international trade was far greater as compared to the Chinese economy and the potential for other diversifying elements like domestic consumption limited.The good health of public finances and adequate reserves coupled with prompt government action is a similarity of the response by both the Chinese and the Singaporean government in combating the effects of the crisis. Additionally this crisis also saw both countries investing in welfare activities and long term measures like R&D and human capital development to improve the economic scenario. To sum up both economies were greatly affected by the 2007 financial crisis but neither was crippled by it.
(Saumya Shankar is Master’s student at JSIA, Jindal Global
University)
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