South-Western College Publishing - Economics  

Are US Stock Markets Being Bahted?
Subject Exchange Rates
Topic International Finance
Key Words Thailand, Baht, Currency Markets
News Story Although it may seem unlikely, stock markets in the US and throughout the world were battered this week, possibly as the result of currency problems in the small Southeast Asian country of Thailand. Many countries in Southeast Asia peg their currencies loosely to the dollar. That means that the baht was allowed to fluctuate in a narrow range to the dollar. With economic growth, Thailand found that its currency was overvalued with the result that imports had increased dramatically and exports had slowed to low amounts. Business had borrowed dollars rather than bahts to finance their investments because of the dollars lower interest rate. As the balance of trade worsened, talk of devaluation arose. Individuals borrowed bahts and used them to buy dollars. Businesses bought dollars to protect themselves from devaluation. The increased demand for dollars coupled with the belief of international speculators that a devaluation of the baht was imminent resulted in the devaluation of the baht.

Uncertainty in the currency markets in Southeast Asia put pressure on the currencies of Malaysia, Indonesia, the Philippines and then spread to Hong Kong even though the Hong Kong dollar is fixed to the American dollar. To keep the currency stable interest rates rose and Hong Kong’s stock market plunged. The turmoil in Hong Kong’s stock market was quickly followed by turmoil all over the world. Even though the American economy would have been little affected by the economic policies of Hong Kong, American investors began a selloff that resulted in a decline of over 500 points in the Dow Jones Industrial Average (Updated January 15, 1998)

Questions
  • Suppose that the Thai baht is fixed to the dollar. What are the consequences of an increase in the demand for the dollar?
  • Suppose that instead the Thai baht floated against the dollar. What are your predictions concerning an increase in demand for the dollar?
  • How did the decision of Hong Kong’s economic policy makers to raise interest rates help stabilize the Hong Kong dollar?
Source Source: Floyd Norris, "Thailand’s Currency Flutters, And Wind Is Felt in the U.S.," The New York Times, October 24, 1997

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