Managing Economic Crisis in Southeast Asia

3. Managing Financial Crisis in Singapore

54 Tan Chwee Huat 3 Managing Financial Crisis in Singapore Tan Chwee Huat Introduction This chapter begins with a brief discussion on the housing bubble in the United States and how the sub-prime crisis caused the collapse of major financial institutions such as Lehman Brothers andAIG. Their collapse severely devalued Lehman-related structured products sold in Singapore and diminished the savings of many retail investors. The crisis also had serious spillover effect on the exports of Singapore. Workers lost their jobs when companies cut costs to remain competitive. The Singapore Government introduced a Resilience Package to save jobs and to minimize the negative impact caused by the crisis. The chapter then discusses the effectiveness of these rescue measures and the lessons to be learnt from the crisis. Many books, articles and reports have been written by economists, financial analysts, journalists and political observers about the financial crisis caused by the sub-prime housing bubble in the United States.1 Managing Financial Crisis in Singapore 55 Beginning around 2000, the demand in the U.S. property market began to rise as house buyers took advantage of the low interest rates. Some banks even offered incentives such as interest only adjustable rate mortgage (IO-ARM) loans. Borrowers only had to pay interest during the initial period. Without the normal due diligence, loans were even offered to sub-prime or “NINJA” borrowers (people with No Income, No Job or Asset). As a result, the share of subprime mortgages to total originations increased from 5 per cent (US$35 billion in 1994) to 20 per cent (US$600 billion in 2006) (Tilson and Tongue 2009). The crisis started in 2006 when there were signs of inflation. When the Federal Reserve Board increased interest rates to combat inflationary pressures, many Americans were unable to make their mortgage payments. Defaults and foreclosure increased sharply. In 2007, nearly 1.3 million homes were foreclosed, up by 80 per cent from 2006. In comparison, between 2001 and 2005, there were only 650,000 foreclosures (Leong 2008). The sub-prime housing bubble affected many major U.S. institutions such as Bear Stearns, Lehman, AIG, Bank of America, Fannie Mae and Freddie Mac. On 15 September 2008, Lehman Brothers filed for bankruptcy and its collapse affected the entire financial market in the United States and many other countries. Global Impact of the AIG Collapse In March 2009, U.S. insurance giantAmerican International Group (AIG) reported a loss of US$62 billion for the last 56 Tan Chwee Huat quarter of 2008, the biggest quarterly loss in U.S. corporate history. To prevent another rumble in the equity markets, the U.S. Government injected US$30 billion into AIG, on top of the US$150 billion in bailout funds first meted out to it at the end of 2008. AIG’s global reach is so extensive that there is literally no single bond insurance in the world that does not have some affiliation to the insurance group. The global insurance industry would face catastrophe if AIG were to go bust, leaving millions of underwritten insurance policies exposed (Wong 2009). What caused the collapse of AIG was not its core insurance business but its subsidiary which issued Credit Default Swap (CDS) to offer buyer protection against losses from Collateralized Debt Obligations (CDOs) based on mortgage loans. At first, it seemed that the crisis was confined to the United States. Shortly after, the contagion spread toAsia and other parts of the world. In Singapore, export sales declined and workers were retrenched. Other people, including many retirees, were affected as they had invested in structured products like Lehman Minibond Notes which were sold through local financial institutions. These investments became worthless and their life savings vanished overnight. As the financial crisis unfolded, it became clear that its direct impact on retail investors was mainly caused by the mis-selling of structured products, particularly those that were linked to Lehman Brothers. However, the slowdown of the U.S. economy has caused wider impact on businesses in Singapore.2 The MAS has stepped in to investigate the mis-selling of structured products. At the macro level, the government took steps to deal with broader issues such as job loss and lack of credit for businesses. Managing Financial Crisis in Singapore 57 Offering Structured Products During the past decade, many structured products were introduced by financial institutions in Singapore. By using persistent selling tactics...