An Overview of Global Financial Crisis
The global financial crisis (GFC) refers to the period of extreme stress in global financial markets and banking systems between mid 2007 and early 2009. During the GFC, a downturn in the US housing market was a catalyst for a financial crisis that spread from the United States to the rest of the world through linkages in the global financial system. Many banks around the world incurred large losses and relied on government support to avoid bankruptcy. Millions of people lost their jobs as the major advanced economies experienced their deepest recessions since the Great Depression in the 1930s. Recovery from the crisis was also much slower than past recessions that were not associated with a financial crisis.
Causes of Global Financial Crisis
1. The credit crunch
The global financial crisis (GFC) or global economic crisis is commonly believed to have begun in July 2007 with the credit crunch, when a loss of confidence by US investors in the value of sub-prime mortgages caused a liquidity crisis. This, in turn, resulted in the US Federal Bank injecting a large amount of capital into financial markets. By September 2008, the crisis had worsened as stock markets around the globe crashed and became highly volatile. Consumer confidence hit rock bottom as everyone tightened their belts in fear of what could lie ahead.
2. The sub-prime crisis and housing bubble
The housing market in the United States suffered greatly as many home owners who had taken out sub-prime loans found they were unable to meet their mortgage repayments. As the value of homes plummeted, the borrowers found themselves with negative equity. With a large number of borrowers defaulting on loans, banks were faced with a situation where the repossessed house and land was worth less on today’s market than the bank had loaned out originally. The banks had a liquidity crisis on their hands, and giving and obtaining home loans became increasingly difficult as the fallout from the sub-prime lending bubble burst. This is commonly referred to as the credit crunch.
Although the housing collapse in the United States is commonly referred to as the trigger for the global financial crisis, some experts who have examined the events over the past few years, and indeed even politicians in the United States, may believe that the financial system was needed better regulation to discourage unscrupulous lending.
3. The collapse of Lehman Brothers
The collapse of Lehman Brothers on September 14, 2008 marked the beginning of a new phase in the global financial crisis. Governments around the world struggled to rescue giant financial institutions as the fallout from the housing and stock market collapse worsened. Many financial institutions continued to face serious liquidity issues. The Australian government announced the first of its stimulus packages aimed to jump-start the slowing economy. The U.S. government proposed a $700 billion rescue plan, which subsequently failed to pass because some members of US Congress objected to the use of such a massive amount of taxpayer money being spent to bail out Wall Street investment bankers who were believed by some to be one of the causes of the global financial crisis.
By September and October of 2008, people began investing heavily in gold, bonds and US dollar or Euro currency as it was seen as a safer alternative to the ailing housing or stock market. In January of 2009 US President Obama proposed federal spending of around $1 trillion in an attempt to improve the state of the financial crisis. The Australian government also proposed another stimulus package, pledging to give cash handouts to tax payers, and spend more money on longer-term infrastructure projects.
Causes of Global Financial Crisis (Malaysia vs Singapore)
The financial crisis and recession in the U.S. spread globally through both financial and trade linkages. Seeing housing prices in the U.S. rising, foreign banks sought opportunities to invest in the U.S. housing market, such as through CMOs issued by investment banks. When the mortgages backing these securities began to fall in value, the value of the securities themselves began to fall. Seeing their asset prices falling, investors attempted to liquidate their holdings beginning in August of 2007. These assets became frozen because of a lack of buyers in the market. As credit became scarce and in response to a lack of confidence in U.S. financial institutions, international banks began to raise the interest rate at which they lent money to one another, known as the LIBOR.
Additionally, the economic slowdown in the U.S. led to declining U.S. imports from its major trading partners, the European Union, Mexico and China. When export sales languished, foreign GDPs fell too, spreading the recession worldwide. It has been observed that the current crisis has had an impact on developing Asia through the contraction of trade and FDI inflows (James, 2008). As Malaysia and Singapore are having a heavy reliant on their exports, it is easy to see why the global financial crisis will impact both countries via the trade channel. It is obvious that if demand from the country’s dominant trade partners were to decrease, its repercussions would be felt throughout the economy. Hence, the causes of global financial crisis for both countries are similar and can be said to be the same.
Effect & Consequences of Global Financial Crisis (Malaysia vs Singapore):
Malaysia
By late 2007, many financial institutions in the United States and other parts of the world suffered heavy losses from their CDOs, CDS and other financial assets. Fortunately, Malaysia’s financial institutions had negligible exposure to these toxic products. Furthermore, Malaysia’s financial institutions and banks were in stronger shape than they were during the AFC with better financial supervision and regulation. The capital adequacy ratio has been always more than 13% after 2001, which is higher than the 8% requirement by the Basel international standard for minimum capital adequacy ratios of banks. The nonperforming loan as a percentage of total loans declined from 11.5% to 2.6% in 2008, on the eve of GFC (Khoon, Hui & Sua, 2012).
However, when the financial crisis spread to the real economy in the United States and Europe, the drastic decline in consumption in these countries led to a collapse in Asia’s export markets. Asian countries including Malaysia began to feel the adverse impact of the GFC towards the second half of 2008 and early 2009. Singapore was one of the first Asian countries hit by the GFC, followed by Taiwan, Hong Kong, South Korea and Thailand. Malaysia recorded a fall in real GDP by 6.2% yoy in the first quarter of 2009, the first time in negative territory since 2001. The contraction in growth has persisted into the second and third quarter of the year. IMF economists described this as an export-led recession (IMF Country Report, 2009). The two major channels through which the GFC impacted Malaysia’s economy were the finance channel via the outflow of foreign portfolio capital and trade channel via the drop in export volume and price (Khoon & Lim, 2010).
After the economy began to recover in 1999, Malaysia’s capital controls were gradually relaxed and removed. There was a liberalization of capital account with increasing freedom given to both inflow and outflow of funds. Foreign participation in the Malaysian stock market has been more than 30% since 2004 (Kuang, 2008). The economy on the eve of the GFC is more liberalized compared to 1997 (Khoon, Hui & Sua, 2012). Driven by global deleveraging and repatriation of capital by foreign investors, portfolio investment turned negative after the second quarter of 2008 with the largest net outflow of RM92 billion in 2008, compared to a positive net inflow of RM18.3 billion in 2007. The huge outflow in portfolio investment, mainly due to sale of shares in the stock market, was among the most severe in East Asia. Consequently, the Kuala Lumpur Composite index declined sharply by more than 30% between mid-2008 and March 2009.
Inflow of FDI into Malaysia declined 9% from 2007 to 2008 with the biggest fall of 95% from RM17.4 billion to RM0.88 billion between the second and third quarters of 2008. On the other hand, outward investments by Malaysian corporations continued to grow— and FDI outflows outstripped inflows since 2007.21 In 2008, outflow rose to RM47 billion, and exceeded FDI inflow of RM26.7 billion which resulted in a net direct investment outflow of RM20.5 billion. The surge in bank outflow in the second half of 2008 had a negative impact on other investments. Other investments recorded a lower net outflow of RM11 billion in 2008 compared to a net outflow of RM46.9 billion a year earlier, due to lower net external debt repayment by both the official and private sectors (Bank Negara Malaysia, 2008).
As Malaysia is coping with the huge outflow of capital from a position of strength compared to the AFC, it has ample foreign exchange reserves and a more resilient financial and banking system (IMF Country Report, 2009). Malaysia’s foreign exchange reserves stood at RM410 billion in June 2008 before it began to shrink beginning in the second half of 2008. As capital outflow intensified since September 2008, Malaysia’s foreign exchange reserves continued to slip till March 2009. As of October 2009, Malaysia’s foreign exchange reserves stood at RM334 billion – 9.9 months of Malaysia’s imports and is 4.1 times its short-term external debt. Similarly, the ringgit has depreciated against other major currencies from mid 2008 till early 2009. The real effective exchange rate (REER) has weakened by about 4.5% during this period, owing to nominal depreciation and a relatively higher domestic inflation.
The impact of the GFC on Malaysia’s trade sector is more serious. Statistics shows that the most important factor contributing to its sluggish GDP growth in the last quarter of 2008 and the first quarter of 2009 was the big slump in the export market, though low private investment was also another reason (IMF Country Report, 2009). Malaysia’s exports are highly dependent on electronics and semiconductors which contributing 40% of total export, started falling since October 2008. In January and May 2009, total exports fell by 27.9% and 29.7% y-o-y terms respectively – the biggest drop since 1981. Apart from the fall in manufactured exports, there was also a sudden drop in the demand and prices of Malaysia’s export commodities such as petroleum, palm oil, rubber and timber. These commodities account for one-third of Malaysia’s exports. Palm oil and palm oil-based products are the second largest export earners for Malaysia, contributing 9.6% of total exports in 2008. In May 2009, export of palm oil contracted 32% on yoy basis. Meanwhile, crude petroleum, the fourth largest commodity that accounted for 4.2% of total exports, declined by 53% to RM10.5 billion over the same period.
The impact of the GFC on Malaysia’s exports was further aggravated by the fact that more than 40 per cent of Malaysia’s exports were destined to the G3 countries of United States, Japan and Europe which were heavily affected by the GFC. Hence, this time around, unlike the AFC, Malaysia could not export its way out of the recession since the demand from these countries for Malaysian exports fell. The crisis also affected the import of intermediate goods that are used in exports. Malaysia’s imports contracted 32% to RM29.5 billion in January 2009. Since 70% of the country’s imports are in the form of intermediate goods, imports fell faster than exports so that Malaysia still maintained a small trade surplus.
The impact of the crisis on unemployment in Malaysia is not as alarming compared to other countries or during the AFC. Malaysia had a tight labor market prior to the crisis. With unemployment rate of about 3.5%, and the presence of almost 2 million of foreign workers, the impact of the crisis on employment opportunities for Malaysians was relatively moderate. The brunt of unemployment was mostly borne by the foreign workers. During the depth of the crisis in quarter one of 2009, the unemployment rate increased only to 4.0% compared to 3.1% in the fourth quarter of 2008. According to a World Bank report, “Some 8 percent of the manufacturing workforce, more than 120,000 workers, was shed with foreign workers taking a disproportionate hit. Job losses, shorter working hours and lower wages are likely to have raised absolute and relative poverty in urban areas” (World Bank, 2009).
Singapore
For decades, Singapore had a highly developed and successful free-market economy. It enjoyed a remarkably open and corruption-free environment with stable prices and a per capita GDP higher than that of most developed countries. The economy depends heavily on exports, particularly in consumer electronics, information technology products, pharmaceuticals, and financial services. As a result of all this, Singapore’s real GDP growth averaged 7.1% between 2004 and 2007 (CIA, 2012).
When the 2008 global economic crisis hit, Singapore was the first East Asian country to fall into recession (Thangavelu, 2009). This clearly showed the vulnerability of the trade-dependent Singaporean economy. The manufacturing sector was hit particularly hard due to falling demand induced by the overall deterioration of economic conditions in the U.S. and Europe (key export destinations which account for nearly 33% of the total Singapore’s non-oil exports over the last few years) (Thangavelu, 2009).
Fortunately, due to its well-regulated market, the exposure of Singapore’s banks to subprime mortgage was limited (Thangavelu, 2009). Even though damage to the banking sector was limited, Singapore still suffered a huge loss of wealth as the stock market plummeted from a high of 3500 points in December 2007 to 1700 points in the last quarter of 2008. This depressed domestic demand and investment in assets (Kesavapany, 2010).
Singapore’s policy makers responded with a series of measures aimed at insulating the population at large from the negative effects of the financial crisis. The Monetary Authority of Singapore (MAS) guaranteed bank deposits and flushed the money market with enough liquidity to restore market confidence. It established a US$30 billion swap line with the US Federal Reserve to abate any strain in USD funding in the Asian dollar market (Kesavapany, 2010). To assist local, small- and medium sized companies in obtaining access to credit, the Singaporean government established a US$1.56 billion (S$2.3 billion) loan facility and launched a risk-sharing initiative which took on significant shares of bank-lending risks in November 2008 (Kesavapany, 2010 ; Thangavelu, 2009). Moreover, the Singapore central bank shifted its currency policy to a “zero-percent appreciation” stance and devalued the Singapore dollar (S$) to help electronics exports (Kesavapany, 2010).
The Singaporean government also set aside US$406.2 million (S$600 million) for training and development of workers to improve its human capital (Thangavelu, 2009). This had a strong impact on future reemployment and retention of productive workers in the labour market. Furthermore, the government delivered a US$13.8 billion (S$20.5 billion) resilience package for the 2009 financial year for temporary measures to combat the effects of the financial crisis (Abidin, 2010). The key objective was to help Singaporeans keep their jobs and thus increase overall confidence. Measures included strategic industrial support in order to drive down business costs and avoid corporate failures as well as income tax rebates to ensure household flexibility without locking down rates (Kesavapany, 2010). In addition, Singapore’s government spent heavily on big investment projects in the construction sector such as the construction of two integrated resorts, the Marina Bay financial sector and the new MRT line (Kesavapany, 2010).
In many ways, Singapore is well positioned to ride out what is likely to be a prolonged global recession for the following reasons: first, the Singaporean government is swift in initiating effective coping measures. Second, its public finances are sound and can run budget deficits without increasing the tax burden. Third, the large pool of foreign workers, about one in every four workers in Singapore, provides a buffer against a sharp rise in unemployment. Fourth, the flexible wage system allows employers to adjust costs better and reduce job cuts (Fong & Lim, 2016).
In general, Singapore’s economy contracted 1.3% in 2009 as a result of the global financial crisis, yet rebounded nearly 14.7% in 2010, on the strength of renewed exports (CIA, 2012).
Implementation after Global Financial Crisis (Malaysia vs Singapore):
Malaysia
Like in other countries, the Malaysian government introduced stimulus packages to revive the economy recession. Domestic demand is expected to provide the main support to the economy, with public sector expenditure as the main driver of domestic demand. On 4 November 2008, the government announced the first economic stimulus package which amounted to RM7 billion. The government claimed that the funds would be allocated to projects with a high and immediate multiplier impact on the economy. The projects are included as below (Khoon & Lim, 2010):
These included RM1.2 billion to build more low and medium-cost houses, RM500 million to upgrade, repair and maintain police and army stations, camps and living quarters, RM600 million for minor projects like village roads, community halls and small bridges, RM500 million for public amenities such as roads, schools and hospital, RM500 million to build and improve roads in East Malaysia, RM200 million for schools , with equal parts going to religious schools, mission schools, also Chinese and Tamil vernacular schools, RM500 million to improve public transport in major cities, RM1.5 billion to set up an Investment Fund to attract more private sector investment and lastly, RM400 million to expedite the execution of High Speed Broadband project. Several measures to directly support private consumption were also introduced, such as reduction of EPF contributions from 11% to 8% and higher vehicle loan eligibility for civil servant.
However, the RM7 billion stimulus package which accounted for approximately 1% of Malaysia’s GDP was criticised as too small. As the global economic conditions deteriorated into the fourth quarter of 2008 and early 2009, the Malaysian economy faced the prospect of a deep recession. The worse-than-expected global trade slowdown and the sharper plunge in trade in January 2009 prompted the government to introduce a second stimulus package that was bigger and more comprehensive, totalling RM60 billion, in March 2009. This package was almost 9% of Malaysia’s GDP. Of this amount, RM15 billion was in the form of fiscal injection, RM25 billion for government guarantee of private loans and bonds, RM10 billion for government investment company Khazanah National to invest equity stakes in local project with high multiplier effect, RM7 billion for private finance initiative (PFI) and off-budget projects, and RM3 billion in tax incentives. This is the largest stimulus package in the country's economic history and will be implemented over the year of 2009 and 2010. The two packages together are equivalent to 10% of Malaysia's GDP. This makes Malaysia the second most aggressive in its "policy-induced recovery" programmes among the Asean countries after Singapore (Khoon & Lim, 2010).
In any event, recovery should not just be confined to the stimulus package. With the slowdown of inflation, there is more room for monetary policy to drive the economy by lowering interest rate (Khoon, Hui & Sua, 2012).. Bank Negara Malaysia, the central bank reduced the Overnight Policy Rate (OPR) three times by a total of 150 basis points between November 2008 and February 2009 (Khoon & Lim, 2010). The OPR is currently 2% while the Statutory Reserve Requirement (SRR) has been reduced by 200 basis points to 1.0%.
Singapore
As most other economies, Singapore responded to the global crisis with both monetary and fiscal policies. However, monetary activities were not that immense as fiscal measures and played relatively smaller role in boosting economic development. Monetary decisions included above all revision of exchange rate policy and its gradual loosening (Chong, 2013). Thus, in October 2008 the MAS adopted a zero percent appreciation of the Singapore dollar Nominal Effective Exchange Rate (NEER) policy band. This measure though restored to a certain extent confidence among domestic exporting companies, turned out to be insufficient at the time of intensified economic slowdown. The monetary policy was eased further in April 2009 when the MAS re-centered downwards the Singapore dollar NEER policy band in order to match it with the lower level of economic activity in the country. These two measures helped to avoid serious appreciation pressure on the domestic currency during the whole period of economic recovery.
As a response to tightened conditions in funding markets, the MAS used to inject increased amount of funds into the banking system during 2009-2010. Foreign currency liquidity was also raised due to 30 billion US dollar swap agreement signed with the Federal Reserve in October 2008 (Monetary Authority of Singapore, 2009). Moreover, with the help of fiscal incentives the government triggered a Special Risk-Sharing Initiative comprised of a Bridging Loan Program and a Trade Financing Scheme. The former raised the loan quota from 0.5 to 5 million Singapore dollars and increased the government’s share of bank lending risks from 50% to 80%. While the latter implied assumption of part of the risk in trading finance (75%) by the government (Civil Service College, 2018).
Stabilization and recovery of the Singapore’s economy took approximately one year. After experiencing a severe downturn at the end of 2008, country’s economy expanded year-on-year by 4.6% in the fourth quarter 2009 and by16.4% and 19.4% in the first and second quarters 2010, respectively (Monetary Authority of Singapore, 2010). Such a rebound allowed the MAS to tighten its monetary policy by re-centering Singapore dollar NEER policy band upwards in April 2010 and withdrawing excess liquidity in 2011.