Asia’s Schumpeter Crisis: Fundamentals and Financial Market Interaction

The crisis in East Asian economies, whose start was signalled to the world by the devaluation of the Thai baht on 2nd July 1997, has been widely seen as the product of globalised financial markets, and, as such, something quite new––the first crisis of the twenty first century. It appeared that a region that had exhibited remarkable and remarkably sustained growth rates was brought low by irrational financial markets. Implicit in this view is that, had it not been for the crash in regional currencies and equities, high growth within economic systems that had delivered it hitherto would have continued. An alternative perspective, identifying sources of weakness in the economies’ fundamentals themselves, is found in several studies of East Asia. This paper considers the evidence on both fundamentals and financial market behaviour, evaluating them within an older theoretical framework––the business cycle theory of Joseph Schumpeter. The evidence is consistent with the view that, far from being a new, twenty first century phenomenon, the crisis was similar to those of the nineteenth and twentieth century as described by Schumpeter. Its roots lay in the dynamic of the real economy–the ‘fundamentals’; but its evolution and sharpness were determined by their interaction with finance.