Taiwan s Opportunity from 2008 Worldwide Financial Crisis

Transcription

1 Taiwan s Opportunity from 2008 Worldwide Financial Crisis Yuan-Ho Chen 1 Ming-Kun Lin 2 Chih-Wen Tu 3 1 Graduate school of Business & Management Lunghwa University of Science and Technology 2 Department of Finance Lunghwa University of Science and Technology 3 Graduate school of Business & Management Lunghwa University of Science and Technology Abstract The bankruptcy of Lehman Brother on September 15, 2008 had triggered the largest financial tsunami crisis since the Great Depression of 1930s. The collapse of global financial crisis has yield the largest financial market shakeout since the saving-and-loan meltdown in Although most of the developing countries around the world reported different level of recovery since the third quarter of 2009, the financial crisis does not have any recovery signs in developed counties with larger government deficits, higher unemployment rate, more banks bankruptcy, more businesses shut down, higher prices and inflation pressure and so on. In fact, it is still too early to say that all signals are leading us to get out of the financial hurricane, since we are afraid of that the world is just passing the hurricane eye and entering the other half of the storm from recently financial shocks of public deficits in European dollar zone, the fall of business real estate and the rise of regional economic conflicts. The current crisis highlights some structural weaknesses in economics, especially in the fields of macroeconomics and finance. On the other hand, the financial crisis may turn out to be an opportunity. The economic growth of Great Chinese Economic Cycle (GCEC), including mainland China, Macao, Hong Kong, and Taiwan, will continue to grow rapidly for years if Taiwanese government can utilize its advantage to grow with this market especially mainland China will play a locomotive in world economy. Keywords: Financial Tsunami, Great Chinese Economic Cycle, Taiwan 1. Introduction The financial tsunami of 2008 had been called the worst financial crisis since the Great Depression of 1930s. The US housing bubble collapsed started in 2006 and hurt financial organizations worldwide and global economy further after Despite the slowly recovery economic situation worldwide in 2009, personal bankruptcy, house 57

2 龍華科技大學學報第三十期, foreclosure and escalating unemployment rate, have resulted in rising financial defaults, primarily impacting the small and medium banks financial situation in the US since For example, the number of Americans filing personal bankruptcy raised 9% in October 2009 than last month. The American Bankruptcy Institute (ABI) also forecasts that total personal bankruptcies will exceed 1.4 million in 2009, which would be the highest since It would also be an increase of at least 30% from These numbers were the highest annual total for last four years, according to ABI report. 2 The number of house foreclosure also hit a record high in 2009 after its poor economic performance, such as continuous massive job losing and financial difficulties in every industry from previous year. In 2009, it is expected to have a total of 3.5 millions houses facing mortgage payment default and have been placed to foreclosure market in the US. It is 52% increased than 2008 or 269% increased than There numbers are very hard to convince Americans that the US economy is on a recovery track right row. In addition, the unemployment rate in the US goes up to a 26-year record high of 10.2% in 2009, even as the national GDP grew for the first time during the past 12 months at 3.5 percent in the third quarter of It was 15.1% in Michigan and 13% in Nevada and 12.5% in California States. 3 In first quarter of 2010, the unemployment rate was still at 9.7 %. We cannot see signs to show that the US economy and unemployment rate will have a large improvement in the near future. According to the US Federal Deposit Insurance Corporation 4 (FDIC), the total number of American banks going out of business has risen to 140 banks in These numbers are expected to increase to 150 banks or an average of 12.5 banks closed per month in It is the highest number since 1992 when total 181 banks filed bankruptcy due to savings and loan crisis at that time. Moreover, in 2009 the bankruptcies are about five-time higher than 2008, when just 25 banks closed. In details, the maximum number of collapses in 2009 took place in July, which 24 banks were closed down, and compared to 20 banks went out of business in June. In first four months of 2010, there are 68 banks took over by FDIC and total number of bank bankruptcies will excess 140 banks in The American Bankruptcy Institute (ABI), an industry research firm that relies on data from the National Bankruptcy Research Center, said 135,914 consumers filed for bankruptcy last month. Almost a third of the bankruptcies were filed under Chapter 13, in which consumers are put on a repayment plan of up to five years. 2 "The nearly 9% increase in consumer bankruptcy filings in October, together with a 7% jump reported in business cases, demonstrates the sustained stress on the U.S. economy," said ABI executive director Samuel Gerdano. 3 US Department of Labor, Bureau of Labor Statistics, 4 The US Federal Deposit Insurance Corporation (FDIC) insures deposits at over 8,000 American banks. 58

3 Table ~2009 US Major Economic and Financial Indicators Indicators Personal Bankruptcy million* Bank Bankruptcy banks** House Foreclosures N/A N/A million*** Unemployment Rate 5.4% 4.9% 4.5% 5.0% 7.2% 10.2%**** Sources: * The American Bankruptcy Institute and National Bankruptcy Research Center Reports February, ** The US Federal Deposit Insurance Corporation (FDIC) Report and CNN Money, February, ***CNN Money, November 6, 2009 and US RealtyTrac November 2009 Report. ****US Labor 2. Background In addition, the US economy has been spending too much and borrowing too much for years and the rest of the world depended on the US consumers as a source of global demand, according to The Brooking Institution reported in June In the United States alone, trillions of dollars are transferred between banks each day to support the $50 trillion credit outstanding in the economy as a whole. Commercial banks require funds to initiate the mortgages, auto loans, and credit card debt they then sell into financial markets, while investment banks finance much of their activity with daily borrowing. Economic recession resulted in a low interest rate policy since the year of 2000 to encourage house market boom thereafter. According to the US Office of Federal Housing Enterprise Oversight (OFHEO), the US housing price index hit its record high in the early of On the other hand, high default rates on subprime and adjustable rate mortgages (ARM), began to increase quickly during 2005 and 2006, Figure 1 and Figure 2. 59

4 龍華科技大學學報第三十期, Figure 1 Housing Price Indices January 2000 to April 2009 Sources: OFHEO and Haver Figure 2 U.S. Mortgage Originations by Type 2001~2007 Source: Bank of England Financial Stability Report As interest rates began to rise and housing prices started to drop by the end of 2007, refinancing became more difficult, defaults and foreclosure activity increased dramatically. In summer 2007, U.S. and global financial markets found themselves facing a potential financial crisis, especially in subprime mortgage market loans. Bank lending is closely tied to bank capital or net worth specifically, bank regulator 60

5 require that loans not exceed a certain multiple of capital. Thus, the Federal Reserve faced the danger of a sharp contraction in credit and bank lending in a way that threatened a deep recession or worse. For example, home mortgage market reached a record high, around four trillion US dollars, in 2003 when conventional mortgages decreased dramatically in Federal Housing Administration (FHA) 5 and Veterans Affairs (VA) 6 did not change much at the same period. On the other hand, subprime mortgages continued to reach a record high after 2003, and by 2006, total subprime had increased to US$ 640 billions, 530% more than 2001 level, as well as alternative-a mortgage. The reasons of the expansion are home buyers cannot apply for prime mortgage in house mortgage market and they have to use Fair Isaac Corporation (FICO) 7 standard to apply for home purchasing. Although most home buyers will apply for prime mortgage, around 60% total in home mortgage market, many home buyers bought their home and invested in second home by applying for alternative-a and subprime mortgage, as their lower credit scores need to pay higher interest rate, even during low interest period. For example, if a home buyer s FICO scores is less than 620, and he/she may have to apply subprime mortgage instead of prime mortgage application. Moreover, the US government established Government Sponsored Enterprises (GSE) in major residential home mortgage market, Fannie Mae and Freddie Mac, 8 to provide large fund in assisting American people purchasing their homes. These two home mortgage companies also issue conforming loans to agency Mortgage-Back Security (MBS) and they also invested in subprime markets MBS. In June 2006, the market interest rate had increased to 5.25% from 1% in June 2004 due to the increase of petroleum price in the end of In fact, the higher interest rate intended to relieve the inflation pressure resulted from petroleum price rising. In 2007, higher interest rate resulted in higher default rate on subprime and adjustable rate mortgages (ARM) home buyers and caused housing bubble nationalwide, especially in Nevada, Florida and California States. As housing price declined, major global financial institutions that had borrowed and invested heavily in subprime MBS reported significant losses and further resulted in homes worth less 5 The Federal Housing Administration, generally known as "FHA", provides mortgage insurance on loans made by FHA-approved lenders throughout the United States and its territories. 6 Mortgage loans backed by the Department of Veterans Affairs (VA). It had a lower foreclosure rate than any other type of home loan in the industry. 7 FICO standard scores (380~850) decides by (1). Payment on time 35%, (2). Credit history 15%, (3). Total liability 30%, (4). Liability content 10%, (5). Recent loan application number Fannie Mae and Freddie Mac have (1) high FICO scores (700), (2) Low loan-to-value (70%), (3) Low default rate (1%), features. 61

6 龍華科技大學學報第三十期, and house foreclosures ratio increasing, Figure 3. However, it seems that higher interest rate not only hurt real estate market and house mortgage market but also in worldwide stock markets, job markets and investors as well as consumers confidence at the same time. Finally, it was not only a financial crisis but a financial tsunami around the world. 3. Literature Review Q1 Q2 Q3 Q4/07 Q1 Q2 Q3/08 Figure 3 The Number of Foreclosure Houses 2007~2008 Data Source: RealtyTrac in Wikipedia Subprime Crisis. According to Allen (2001), there are three distinct stages for financial crisis. The bubble inflation stage is accompanied with expansion credit and asset price increasing. During the second stage, the bubble bursts and asset price collapse. The third stage is firms and banking institutions default. This default may cause problems in real sector of an economy and last for a number of years. As the crisis rapidly developed and spread into a global economies, from the US, European banks, stock markets and large reductions in the market value of equities and commodities to recent Dubai event. It seems that it is a global contagion. Forbes and Rigobon (2001) and Edwards (2002) take a more narrow view of contagion. They argue that both common shocks and the international transmission of external shocks are observed in tranquil periods as well as episodes of crisis. In the tradition of epidemiological studies, true contagion is then a larger than expected effect of foreign shocks. They therefore define contagion as an exceptional increase in the magnitude of international linkages, such as the 50 percent fall in the Brazilian stock market subsequent to the collapse of the Russian ruble in Forbes and Rigobon (2001) refer to this narrower concept as shift contagion. Using this concept, Forbes and Rigobon (2002) find no evidence of contagion 62

7 for a number of crises. However, they do find what they call interdependence, the cross country correlation of asset prices during tranquil and periods alike. Similarly, Bekaert, et al (2005) finds no evidence of increases in correlations subsequent to the 1995 peso crisis, although they do find evidence after the 1997 Asian crisis. For the current crisis, Eichengreen, et al (2009) find that sensitivity to common shocks increased at the Fall 2008 volatility peaks for bank credit default swap spreads, using data for 45 large banks in Europe and the United States. Coudert and Gex (2008) argue that credit default swap (CDS) market activity is also prone to contagion, noting that that market had seen a large rise in correlations of asset prices since August This induces investors to respond to bad news about an individual asset or market with more concern about counterparty risk of related and seemingly unrelated assets. In a similar view, Gros and Micossi (2008) note that many European banks found themselves exposed to foreign countries due to the activities of their affiliates on those countries. While their balance sheets were formally separate, these banks centralized their asset and liability management, ensuring that subsidiary financial difficulties would find their way to home country lending policies. Davis (2008) argues that leveraged investors increase the risk of market contagion, as they may be forced to sell in illiquid situations, feeding a fire sale dynamic that forces down prices further and results in the need for even more selling. Adrian and Shin (2008) argue that mark to market practices exacerbate the severity of the impact of changes in prices and perceived risks on market liquidity. Peek and Rosengren (1997) examined the case of the Japanese banking crisis, and found that disruptions to banking parents had an adverse impact on their lending through subsidiaries in the United States. They conclude that there may well be a role for contagion for financial linkages over and above that identified for trade linkages, and indeed, that some of the contagion previously identified as attributable to trade linkages may actually stem from financial linkages, as the two are highly correlated in the data. However, in practice it has proven difficult to empirically disentangle contagion due to trade linkages from that attributable to financial linkages, as countries that are closely linked in one dimension tend to also be linked in the other. Kaminsky, Reinhart and Vegh (2003), there have been a number of potentially major financial crises (such as the 1999 Brazilian devaluation and the 2001 Argentine default) that did not have dramatic international implications in practice. They note that one common distinction between cases where domestic financial crises did and 63

8 龍華科技大學學報第三十期, did not lead to international spillovers was whether or not there were other borrowers exposed to a common leveraged creditor. These common leveraged creditors helped to foster contagion, as difficulties experienced in one borrowing country led to deteriorated bank balance sheet positions. In that sense, they reconcile the absence of contagion with a fundamental, namely the lack of a common creditor to spread the shock internationally. This time, Carman et al (2009) analyst argued, the huge run-up in U.S. housing prices was not at all a bubble, but rather justified by financial innovation (including to sub-prime mortgages), as well as by the steady inflow of capital from Asia and petroleum exporters. The huge run-up in equity prices was similarly argued to be sustainable thanks to a surge in U.S. productivity growth a fall in risk that accompanied the Great Moderation in macroeconomic volatility. As for the extraordinary string of outsized U.S. current account deficits, which at their peak accounted for more than two-thirds of all the world s current account surpluses, many analysts argued that these, too, could be justified by new elements of the global economy. Thanks to a combination of a flexible economy and the innovation of the tech boom, the United States could be expected to enjoy superior productivity growth for decades, while superior American know-how meant higher returns on physical and financial investment than foreigners could expect in the United States. In the summer of 2007, the United States experienced a striking contraction in wealth, increase in risk spreads, and deterioration in credit market functioning. The 2007 United States sub-prime crisis, of course, has it roots in falling U.S. housing prices, which have in turn led to higher default levels particularly among less credit-worthy borrowers. The impact of these defaults on the financial sector has been greatly magnified due to the complex bundling of obligations that was thought to spread risk efficiently. Unfortunately, that innovation also made the resulting instruments extremely nontransparent and illiquid in the face of falling house prices. 4. Responses to Financial Crisis The US Federal Reserve and worldwide central banks have taken steps to expand money supplies to avoid the risk of its own economics and financial domestic issues, especially higher unemployment rate, increasing petroleum price and exposed to world financial crisis. For example, the US government has enacted large fiscal stimulus packages and bailed out Fannie Mae and Freddie Mac, investment banks, a variety of private assets from banks and firms. In addition, Taiwanese government had issued consumption coupon, increasing domestic demand and public investment, stabilized stock market and lowered interested rate. 64

9 A variety of regulatory changes have been proposed by economists, politicians, and country leaders to minimize the impact of their own county s financial crisis. As a reminder, David Ricardo stressed on a country will export its comparative advantage product and factor endowment abundant industry. 9 Thread of New Entrants Bargaining Power of Supplier Competitive Rivalry within an Industry Bargaining Power of Customersr Threat of Subtitute Products Figure 4 Michael Porter Five-Force Analysis Data Sources: Porter (1979) Further, according to Porter (1980), Five-Force Analysis, to establish a competitive strategy for a business is to create an irreplaceable status within an industry from a self-interest point of view. In competitive rivalry within an industry, the numbers of current competitors within an industry will affect a company s market shares and growth. A company strategy is how to come out a differentiation strategy and make its products different and irreplaceable. In thread of new entrants, a company may use learning curve to low cost or increase its economy scale to establish an entry barrier. In threat of substitute products, a firm s service, product knowledge and innovation can be very important irreplaceable strategies. In Porter s point of view, bargaining power between supplier and consumer has a negative effect and how to balance these two sides of bargaining force to maintain certain profits and gain stable, low cost materials depends on differentiation and innovation. In Porter s Competitive Strategy (1980), a company should take cost leadership, differentiation, and focus as its major competitive advantage strategies to increase its profits, Figure 5. 9 According to Ricardo's theory, even if a country could produce everything more efficiently than another country, it would reap gains from specializing in what it was best at producing and trading with other nations. 65

10 龍華科技大學學報第三十期, Competitive Strategy Differentiation Low Cost Focus Competitiveness Figure 5 Porter s Competitive Strategy Data Sources: Porter (1980) With strong innovation, design and research and development (R&D), a company will have powerful strategy in product differentiation and benefit from monopoly profits. With economy scale and learning curve, a company can low down its production, management and operation costs. Finally, focus on customer demand, consumer-orientation, and satisfaction to provide buyers the best service and products to meet the market requirement. Taiwanese economy has changed its economic structure from export and import substitution to high technology industry, although it is mainly manufacturer. However, Taiwanese businesses still have comparative advantage in research and development (R&D), design, service and management, especially in high technology industry compared to mainland China. If Taiwanese manufacturers can raise its market shares in mainland China to absorb the shortage between the US, European and Asia markets during this financial crisis. Wisely use this advantage to continue utilizing Taiwanese comparative advantage, since we have the same language, culture and races. 66

11 5. Conclusion A number of commentators have suggested that if the liquidity crisis continues, there could be an extend recession or economic downturn. The collapse of this global financial crisis has yield the largest banking shakeout since the saving-and-loan meltdown in In addition, the US economy has been spending too much and borrowing too much for years and the rest of the world depended on the US consumers as a source of global demand, according to The Brooking Institution reported in June The financial crisis does not have any slow down signs in developed counties with higher unemployment rate, more banks bankruptcy, increasing numbers of closed business, higher prices and inflation pressure. The current crisis highlights some structural weaknesses in economic models, especially in the fields of macroeconomics and finance. At the same time, we also find that the literature on financial crises which has become quite extensive and varied in recent years offers some useful insights into the nature of this crisis and its structural characteristics. Integrating these insights into the mainstream of macroeconomics and finance seems to be the logical next step; attempts to do so will certainly be considered more relevant and important than before the unfolding of the crisis. In this sense, academic research will probably even benefit from the financial crisis 2007 and 2008, as it has raised numerous complex and topical issues. On the other hand, the financial crisis may turn out to be an opportunity. Taiwan has a better environment and market to explore and continue its growth. The Chinese big emerge market (Great Chinese Economic Cycle), mainland China, Hong Kong, and Taiwan, is the second large market in The economic growth of this market will continue to grow rapidly for years. Next fifty years, mainland China will play a locomotive in world economy. Taiwan has to take this advantage to grow with mainland China and Hong Kong. 6. Reference Allen, F (2001) Financial Structure and Financial Crisis, International Review of Finance, 2 (2002), 1~19. Adrian, T., and Hyun song Shin. (2008) Liquidity and Financial Contagion, Financial Stability Review Banque de France, February Bekaert, Geert, Campbell R. Harvey, Angela Ng. (2005) Market Integration and Contagion,Journal of Business 78(1), Carmen M. Reinhart and Kenneth S. Rogoff. (2009) This Time is Different: Eight Centuries of Financial Folly Princeton, NJ:Princeton University Press. Coudert, Virginie and Mathieu Gex. (2008) Stormy Weather in the Credit Default 67

12 龍華科技大學學報第三十期, Swap Market, in Felton A. and Reinhart, C. M. eds., The First Global Financial Crisis of the 21st Century Part II June December 2008, VoxEU.org, 13 October Davis, E. Philip. (2008) Liquidity, financial Crises and the Lender of Last Resort How much of a departure is the Sub Prime Crisis?, in Bloxham P. and Kent C. Eds., Lessons from the Financial Turmoil of 2007 and 2008 Reserve Bank of Australia Conference, H. C. Coombs Centre for Financial Studies, July, Edwards, Sebastian. (2002) Contagion, The World Economy 23(7), Eichengreen, Barry, Ashoka Mody, Milan Nedeljkovic, and Lucio Sarno. (2009) How the Subprime Crisis Went Global: Evidence from Bank Credit Default Swap Spreads, NBER Working Paper # Forbes, Kristen J. and Roberto Rigobon. (2001) Measuring contagion: Conceptual and Empirical Issues, in S. Claessens and K. J. Forbes, eds., International Financial Contagion, MIT Press, New York, Forbes, Kristen J. and Roberto Rigobon. (2002) No Contagion, Only Interdependence: Measuring Stock Market Co Movements, Journal of Finance, 57(5), Gros, Daniel, and Stefano Micossi. (2008) Crisis Management Tools for the Euro Area, in Felton A. and Reinhart, C. M. eds., The First Global Financial Crisis of the 21st Century Part II June December 2008, VoxEU.org, 30 September, Kaminsky, Graciela L., Carmen M. Reinhart, and Carlos A. Vegh. (2003) The Unholy Trinity of Financial Contagion, Journal of Economic Perspectives 17(4), Peek, Joe and Eric S. Rosengren. (1997) The International Transmission of Financial Shocks: TheCase of Japan, American Economic Review 87(4), Porter, M.E. (1979) How Competitive Forces Shape Strateg, Harvard business Review, March/April Porter, M.E. (1980), Competitive Strategy, Free Press, New York,

13 2008 年全球金融危機的成因與機會 陳元和 1 林明坤 2 凃智雯 3 1 龍華科技大學商學與管理研究所 2 龍華科技大學財務金融系 3 龍華科技大學商學與管理研究所 摘要 2008 年 9 月 15 日雷曼兄弟的破產引起了自 30 年代大蕭條後規模最大的金融海嘯危機, 引發全球金融危機 雖然大多數的開發中國家在 2009 年第三季有各種不同程度的景氣回復, 然而開發中國家在國家赤字 高失業率 銀行破產 更多的企業歇業 通貨膨脹壓力等方面, 並沒有任何復甦的跡象 目前的金融危機突顯了一些結構性弱點, 特別是在宏觀經濟和金融領域 另一方面, 金融危機也可能是一個機會 經濟增長的大中華經濟圈 (GCEC), 包括中國大陸, 澳門, 香港和台灣等地區, 將會多年持續快速的成長 如果政府可以利用其優勢, 對中國大陸這個市場多加著墨, 將可在世界經濟體系扮演火車頭的角色 關鍵詞 : 金融海嘯 大中華經濟圈 台灣 69