CHAPTER EIGHT

World on the Brink

I HAD TOLD LARRY SUMMERS—and, more important, myself—that I was probably going to leave the Treasury Department in the middle of the second term, ideally sometime in 1998. As it turned out, two events prevented me from doing that. The first was the yearlong impeachment battle that began in January 1998. I didn’t want to make the President’s position any more difficult—and whatever I might have said to explain my departure, people would have read my resignation in 1998 in ways harmful to Clinton. My leaving could also have increased the general sense of uncertainty, which might have had adverse economic effects.

The other obstacle to my departure was the Asian financial crisis, an event that began several months before the impeachment conflict with a devaluation of an obscure currency, the Thai baht, in July 1997. From this seemingly unremarkable event in a country few Americans had thought much about since the Vietnam War, there unfolded a major financial crisis. Much of the practical work of handling the crisis fell to the Treasury Department. As Secretary, I was the public face of the U.S. response, and my leaving could affect confidence. With all of Larry’s capabilities, the situation clearly called for both of us to remain fully engaged, and we were better off avoiding a change in leadership.

What people generally referred to as the Asian financial crisis was actually a global economic crisis that began in Asia in the summer of 1997 and spread for a period of nearly two years as far as Russia and Brazil. Aftershocks were felt across emerging markets and even in the industrialized world. Viewed in its entirety, this event posed an enormous threat to the stability of the global economy and caused great economic hardship in the affected countries. Here in the United States, in the fall of 1998, capital markets seemed in danger of seizing up. After a Russian default and the near collapse of a giant hedge fund—Long-Term Capital Management, which had bet heavily on a return to normalcy in the global markets—even the market in U.S. Treasury bonds, the safest and most liquid instruments in the world, was buffeted. For a brief period, all but those companies with the best credit were frozen out of the debt markets. This was perhaps the most dramatic of several moments when cascading financial instability appeared to endanger the entire global financial system.

In certain ways, the Mexican peso crisis of 1995 provided a template for understanding what was happening in the crisis economies. But our fears during the Mexican crisis—that a kind of financial contagion would take hold around the world—had not been realized. This time around, that scenario came true. From its beginnings in Thailand, the contagion spread violently and inexorably. But while our stake in what was happening was very great, the self-interest of the United States in dealing with the problem was even less obvious to Congress and to the American public than it had been two years earlier with Mexico.

Looking back with a few years’ perspective, I’ve come to regard the global crisis of those years as more and more important. What happened to the world economy during that period—and, perhaps more important, what didn’t happen—leaves us with a sense not only of how much damage was done but how close we came to even greater calamity. Financial markets are driven by human nature and have a propensity to go to excess. This means that periodic financial crises of one sort or another are virtually inevitable. Understanding what happened last time can help us better prevent and respond to crisis in the future. And that has tremendous importance for many people around the world. My primary focus at Treasury was on the financial aspects of the crisis and its ramifications for the American and global economy. But behind the facts and figures were enormous humanitarian costs—as people lost their jobs and their savings and were plunged into poverty in the worst-hit countries.

In each of the countries where the crisis focused with great intensity—Thailand, Indonesia, South Korea, Russia, and Brazil—the issue of restoring confidence, reestablishing financial stability, and returning to economic growth went well beyond the traditional realm of macroeconomics. As we worked with the IMF, the World Bank, and other nations on the unfolding problem, I found myself having to deal with issues that an American Treasury Secretary doesn’t typically become involved in—the labor movement in South Korea, corruption in Indonesia, and the good faith of various members of the Russian government. In this kind of situation, distinctions between foreign policy and economic policy blurred, although decision-making structures inside the government (the State Department, the Treasury Department) were still defined by these traditional boundaries. Also, economic policy makers needed to understand all sorts of issues that weren’t expected to be part of our purview. In a way, the need for a rapid education in unexpected topics took me back to my days as an arbitrageur, when I would urgently immerse myself in matters I knew nothing about, ranging from the condition of railroad beds to Rhodesian sanctions, that had the potential to affect big corporate mergers.

Of course, my perspective on the crisis remains an American one, based on my experiences at Treasury. As intense as our interactions were, the experiences and reflections of other key players—whether in the governments of other countries or in the IMF—would undoubtedly differ from mine. To me, the events of those years lead to four important points. The most straightforward of these is the international interdependence that results from greatly increased integration of trade and capital markets—and how little understood that interdependence is. I remember Pedro Malan, the finance minister of Brazil, telling me in October 1998 how difficult it was to explain to his people that their currency was under attack and interest rates were higher in part because the Russian Duma had failed to raise taxes. The global crisis underscored the reality that in an economically integrated world, prosperity in faraway countries can create opportunities elsewhere, but instability in a distant economy can also create uncertainty and instability at home. One country’s success can enrich others, and its mistakes can put them at risk.

The reality of interdependence leads to a second point, namely the central importance of effective governance, both national and transnational. The familiar framing of conflict between “the government” and “the market” is in many respects a false one. A market economy needs a whole host of functions that markets by their nature won’t provide effectively, including a legal and regulatory framework, education, social safety nets, law enforcement, and much more, and that only government can adequately address. Moreover, while we live in a world of sovereign nations, more and more issues are multinational in nature—for example, trade and capital flows, certain major environmental problems, terrorism, and some public health issues—and those too can only be dealt with effectively by government. Beyond this, some people argue that globalization means that national governments matter less, in the sense that forceful imperatives of the world economy take power away from them. To me, the opposite is true. The potential impact of any one country’s problems on others means that national governments matter more—an ineffective government in one country can have a damaging impact beyond that country’s borders. Moreover, the responsiveness of global capital markets to national economic policy, whether that policy is good or bad, magnifies the impact of government actions.

The third point is that when a crisis of confidence develops and capital starts to flee, neither money nor policy reforms alone can turn the situation around; both are required. Governments need to implement strong reform programs to convince creditors and investors—both domestic and foreign—that staying is in their interest, that growth and stability will return. In many cases this means addressing long-standing structural weaknesses that have finally become unsustainable and a focus of investor concern, such as a weak banking system or corruption. Also, exchange rates and interest rates must move to levels where both savers at home and investors from abroad feel confident of adequate returns going forward. But money is also needed. Effective international response to a financial crisis combines support for strong policies with enough funding to give those policies time to work—to stem unraveling in the markets and to create confidence—while still allowing governments to support essential programs, including social safety nets to protect the poorest. This is where official resources—from the IMF and World Bank and in some cases “bilateral” contributions directly from the governments of the United States and other countries—are also necessary.

The fourth and final point is that the tools available to deal with the crisis were not as modern as the markets. These tools included the resources and policy expertise of the IMF and the World Bank, the deep engagement of the U.S. President and administration and our G-7 partners, bold leadership in a number of the affected countries, and the ability of nations around the world to work together. And together we did eventually succeed in taming the financial market turmoil, but not before the crisis had wreaked great havoc on emerging economies around the world, causing deep hardship for millions of people. Changes were needed in what was called the “architecture” of the international system to deal more effectively with the risks of globalization by improving crisis prevention and response. The IMF, which was at the center of the crisis management, was founded nearly sixty years ago to promote stability in a world of fixed exchange rates where trade, not capital flows, dominated the international economy. It had adapted remarkably well to the challenges of globalization, but much more needed to be done. We expected this reform process—initiated while the crisis was still raging—to be complex and long term. While important progress has now been made, better approaches still need to be developed on a number of issues.

   

THE FIRST FLASH POINT in Asia was the collapse of the Thai baht in the summer of 1997. I say “flash point” because what happened in Thailand might just as easily have happened in a number of other countries. Throughout the developing world, imbalances had been building for the better part of a decade. Since the late 1980s, investment and credit flows from the developed world had been increasing rapidly in response to strong growth and steps toward economic modernization. Many developing countries had privatized state-owned industries and opened their markets to competition. But these flows were also a textbook example of the kind of speculative excesses that can take hold when investors become seized with some idea—whether an irrational idea like the scarcity of tulips or a sound concept such as the transformation of emerging-market countries—and lose their discipline.

Over time, those excesses became increasingly evident. The mentality that prevailed among emerging-market investors and lenders by 1997 was similar to the psychology of stock market investors in a bull market. Less and less thought was given to risk, which meant that credit and investment flowed into economies that still had many shortcomings. These shortcomings included some traditional macroeconomic problems, such as overvalued exchange rates that were effectively fixed to the U.S. dollar and inappropriate fiscal or monetary policy. But they also involved structural weaknesses, such as underdeveloped and poorly regulated financial systems, serious governance and corruption issues in some countries, lack of financial transparency, and various counterproductive regulatory, labor, and trade regulations. Excessive inflows into countries with serious vulnerabilities were an accident waiting to happen. Thailand simply happened to be the first place where that combustible mixture blew up.

Many of the particulars of Thailand’s problems in 1997 echoed those of Mexico at the end of 1994. The country had a big current account deficit—its imports greatly exceeded its exports. Thailand was financing this current account deficit with a lot of short-term borrowing, which was then lent by Thai banks and finance companies for long-term projects, including an unsustainable real estate boom. The Thai baht was tied to the U.S. dollar. The dollar had begun to rise in value on the world market in 1995, and as that continued, the baht became more and more overvalued, worsening the current account deficit. Eventually investors became unwilling to continue financing it. Through the spring and summer of 1997, the Thai government repeated another one of Mexico’s mistakes: instead of unfixing its exchange rate from the rising dollar and floating its currency, which would have allowed the market to determine the baht’s proper level, the central bank tried to defend that value, spending its dollar reserves to buy baht on the foreign exchange markets. Meanwhile, the country’s banks and financial institutions were in terrible shape, ridden with bad debts. And because of extensive lending to companies that had dollar debts but little or no dollar earnings, banks as well as their customers were vulnerable to any decline in the value of the baht.

As investors belatedly recognized the risks Thailand faced, capital that had flowed in too quickly flowed out even faster. As reserves diminished, the Thai government could no longer defend the exchange rate and went to the International Monetary Fund for help. Our Treasury team had been closely following the situation during the spring and summer. We discussed Thailand’s difficulties at length and felt that the IMF could handle what we viewed at that point as a familiar kind of financial crisis that occurs when an exchange rate gets seriously out of line and a country is importing too much. Thailand’s economy had been growing at an average rate of 9 percent per year for a decade. We thought that after the country dealt with this disruption, with some slowdown leading to fewer imports and increased exports, healthy growth would return. And although we were always cognizant of the risk of financial contagion, we didn’t rate the probability as very high—in part because the Asian region was still so widely viewed as economically strong and attractive to investors.

Nevertheless, the dangers were great enough that we supported a larger-than-usual IMF package to address the financing needs opened up by a sudden rush of capital out of the country. In contemplating such a package, we did worry about the “moral hazard” problem that had gotten so much attention during the Mexican peso crisis. There were actually two separate moral-hazard issues. The first pertains to countries. Do large rescue packages encourage countries to borrow unwisely or adopt unsound policies? I didn’t worry so much about that because, as this crisis itself would show, countries and their political leaders pay a high price for financial missteps. The possibility that a nation might be saved from devastation at the eleventh hour by international loans hardly constituted an incentive to mismanage the economy.

The other kind of moral hazard, the kind that affects creditors and investors, was a more serious concern: insulation from loss can sow the seeds of future crises. Part of the issue in Thailand had clearly been excessive and undisciplined investment from the developed world. “Rescuing” these investors, especially in a relatively small economy like Thailand’s, could encourage lenders and investors to give insufficient weight to risk in pursuit of higher yield in other developing countries and undermine the discipline of the market-based system. In supporting an IMF rescue program, we would be interfering with the free play of market forces. As a result, investors would escape some of the burden of problems they had helped create.

This concern was outweighed by the importance of reestablishing stability and avoiding a dangerous worsening of the crisis. As negotiations between the IMF and Thailand came to a head, the question was not whether to help Thailand but how best to do so. The answer was official resources combined with a bold enough reform program to turn the economy and investor confidence around. Thailand, like the other so-called Asian tigers, had great cultural and economic strengths, including a strong work ethic and a high savings rate. But to restore the confidence of both domestic citizens and foreign creditors, the government needed to address both macroeconomic problems and structural flaws in the economy—not just its overvalued currency but its weak financial sector, which had contributed to a real estate and investment boom financed in foreign currency. Investors and lenders were now as single-mindedly focused on Thailand’s economic flaws as they had been on its strengths. Only when sound policies were pursued would confidence—and investment capital—return and economic recovery take place.

While Treasury focused on a large IMF package allied with strong reform measures, officials from the State and Defense Departments as well as the National Security Council thought we should also contribute additional American resources, using the Exchange Stabilization Fund as we had done in Mexico. They argued that Thailand had been an important military ally of the United States since the Vietnam War and that failing to provide a specific American component to the support package, as many other countries were doing, sent a signal of abandoning the Thais in a time of need. And there was some feeling to that effect in the region. Even if the ESF didn’t make much difference economically, they argued, the failure to offer direct bilateral support could have adverse political and strategic consequences.

On balance, the possible negative effects of trying to put up U.S. money seemed to me to outweigh the positives. We—and the IMF—thought that the money raised without a U.S. contribution was sufficient to address Thailand’s problems. Another problem was that we did not have full use of the ESF as a result of the so-called D’Amato restrictions. These had been imposed by Congress after the Mexico crisis to curb future ESF lending to troubled economies and were due to expire in the fall. Attempting to use the ESF could easily result in a new, perhaps more stringent, version of the restrictions. I put great weight on preserving the ESF option going forward, both because unforeseen problems could arise and because loss of access to these funds could itself have damaging effects on confidence. In retrospect, I think protecting that option was the better decision on balance, but I probably did give too little weight to the symbolic benefits—economic and geopolitical—of a bilateral contribution to the Thai package.

This disagreement with the President’s military and foreign policy advisers also raised a complicated question of who should perform what role. Thailand and the rest of the Asian crisis raised foreign policy and military issues that State and Defense were best equipped to handle, as well as international economic issues for which Treasury was best suited. The two chief levers for our financial intervention—control of the ESF and the U.S. government’s relationship with the IMF and the World Bank—were at Treasury. I felt strongly about not trying to use the ESF and got a bit carried away in one meeting in the White House Situation Room. After I finished delivering a lecture on the subject, Sandy Berger asked me whether I was prepared to allow the President to have some input into the decision.

Sandy’s point was right. In practice, Thailand was one of those cases where one agency, in this case Treasury, needed to have a clear lead role but within an interagency process. Handling a foreign financial crisis involves complex technical and economic questions, including effects on markets and confidence. Moreover, our military and foreign policy purposes would only be served over the long term if Thailand recovered economically. For this reason, the President tended to look to Treasury to take the lead throughout the Asian crisis, while the NEC, led by Gene Sperling, and the NSC, under Sandy Berger, made sure we did not act without a full airing in the interagency process. As we at Treasury became more and more caught up with the crisis, with discussions stretching into the night, others in the government were also drawn in more deeply. Later on, in the heat of the crisis, interagency process included a daily conference call among Treasury, NEC, NSC, State, Defense, and others. We also worked closely with our finance ministry counterparts in other countries and relied tremendously on the administration’s foreign policy team, notably Dan Tarullo at the White House and Stu Eizenstat and Al Larson at the State Department, to lead the effort to reach out to leaders and governments around the world.

In the end, the IMF put together a $17 billion support package for Thailand—$4 billion from the IMF itself as well as bilateral contributions—that was huge relative to the size of Thailand’s economy and to rescues prior to Mexico’s. The August 1997 program specified economic reforms, including substantial restructuring of the financial sector and a more credible monetary policy regime to provide some stability to the still-falling exchange rate, as well as public disclosure of basic financial data. One controversial but technical issue Treasury had to deal with right at the start of the Thai program was whether or not to disclose how bad the government’s financial position truly was. The IMF learned during the negotiations that the government had been hiding the extent of its currency intervention by selling dollars on the forward market. This meant that although the Thai central bank showed reserves on its books, almost none of those reserves were usable: the central bank had already promised to deliver them to someone else in the future, at a price that was by now highly disadvantageous to Thailand. When the program was announced, we insisted upon full disclosure about the unavailability of the Thai central bank’s reserves. Our view was that this information was bound to leak out eventually and that Thailand’s and the IMF’s credibility would be harmed by keeping it secret. Moreover, without true transparency, no one would ever believe in the integrity of Thailand’s finances. But this revelation spooked the nervous markets further.

Despite the size of the finance package, the IMF program failed to take hold in September and October, a reflection not just of the newly disclosed bad news about the reserves but, even more important, concern about the Thai government’s commitment to reform. The Prime Minister closed insolvent finance companies that were undermining the health of the country’s financial system but never fully followed through with the program. Policy drifted as the governing coalition fell apart. Only when the Prime Minister resigned several months later did the new Thai government begin to take real ownership of the reform conditions built into the IMF program. And only then did investor confidence slowly begin to return.

   

AFTER THAILAND BROKE the baht’s link to the dollar in July 1997, financial crisis swept across the region. In the days and weeks that followed, it affected one country after another that had been widely viewed as on a strong footing. In the course of a few weeks, currencies came under attack in Malaysia, Singapore, the Philippines, and Hong Kong as investors scrambled to pull out their money. When the crisis began to affect Indonesia—a huge country with some 225 million people and a pro-Western anchor in Southeast Asia—it generated deep concern.

The markets were relatively calm into early October, but turmoil returned shortly thereafter. Investors’ alarm showed in Hong Kong, where the Hang Seng index, the most important stock market gauge in the region, lost 23 percent of its value over four days, starting on October 20. South Korea, the third-largest economy in the region after Japan and China, was also coming under pressure. The region now clearly had serious problems that threatened to spread even more widely. On October 23, the stock markets in Brazil, Argentina, and Mexico dropped in concert with those of the Asian countries. Then our attention was forced back to the United States. On October 27, the Dow dropped 554 points, to 7,161, before the New York Stock Exchange suspended trading in advance of the closing bell. A meeting we’d convened to discuss Indonesia turned into the session where we drafted the public statement on the U.S. stock market that I read on the steps of the Treasury.

My focus wasn’t on the level of markets per se, but I was concerned about the volatility in the markets and the ways the Asian crisis could affect us, in terms of both financial contagion and damage to our exports. The Asian countries were the biggest customers of the United States—at that time, 30 percent of our nation’s exports went to Asia. For California, Oregon, and Washington, that figure was higher than 50 percent. If the Asian economies were seriously weakened, key sectors of our economy could suffer because consumers in Asia would be poorer and thus less able to buy our goods.

Within a few days, on October 31, the United States joined with others to add our bilateral money—money lent directly from one country to another—to an IMF package for Indonesia. This time there was less debate with the foreign policy team. The D’Amato restrictions had expired, and we were developing—with our G-7 and other partners—a framework whereby bilateral funds would be pledged as a “second line of defense,” to be used only after the IMF money had been drawn and only in the context of a successful IMF program. Both made the risks of a congressional assault on our use of the ESF less likely. And in the context of a widening crisis, the balance of judgment shifted to using the ESF to build confidence and to demonstrate support for a crucial U.S. ally.

Despite these efforts, Indonesia’s economy remained in turmoil and the broader crisis showed no signs of ebbing. By now there was immense focus around the world on what was happening in the financial markets and intense debate about what should be done. As additional countries in the region got into trouble, it drew more and more attention to the position of the region’s two largest powers, Japan and China. The former had been America’s chief Asian ally for fifty years and had become one of the world’s richest countries. The latter had historically been part of the Communist world and was often a strategic antagonist. The irony was that Japan’s policies and practices—by failing to reverse Japan’s economic morass—were contributing to the crisis while, in important respects, China’s policies promoted stability.

Our focus on Japan’s economic weakness had begun long before the Asian crisis erupted. But as we became increasingly worried about the risk of contagion in the region during the fall of 1997, we became more troubled by the adverse impact Japan’s failure to deal with its own economic problems was having on the region. Japan appeared to be experiencing not just a cyclical downturn but a serious, long-term economic quagmire that it lacked the political will to address. The country’s monetary and fiscal policies were too tight, and more fundamentally, its economy had formal and informal rigidities that were a great impediment to growth. One critical problem was the deeply troubled Japanese banking sector. The government wouldn’t move to close insolvent banks or require them to foreclose the nonperforming loans on their books. Dubious loans supported insolvent companies through the so-called keiretsu system of close cooperation between companies and banks. And with banks’ assets tied up in these companies, the flow of credit to productive uses was severely hampered.

In our view, by far the most important action Japan could take on behalf of Asia was to get its own economic house in order. Japanese growth had slowed dramatically, and the Nikkei index, which had been as high as 39,000 yen at the end of the 1980s, was down to around 15,000 in November 1997. For the country responsible for what was, by some measures, two thirds of the region’s GDP to be slumping so badly made the recovery elsewhere in Asia much harder and the risk of further contagion much greater. Japan was a major market for the other countries in the region, and the weakness of the yen, which mirrored the strength of the dollar, further undercut these export-dependent emerging-market countries. Japanese banks were also an important source of capital. But the Japanese banks were pulling their money out of Thailand, Indonesia, and South Korea.

The IMF can influence economic policy in emerging-market countries, at least when those countries need to borrow, by attaching conditions to its loans. But wealthy nations can influence each other in the direction of sound economic policy only through diplomacy and the kind of debate that takes place in the various international institutions and in such fora as the G-7 meetings. There is a great deal of formal and informal process around the G-7 that is useful in this regard. The finance ministers and central bank heads of the seven largest developed economies meet several times a year, aside from the better-known summit meetings of the heads of state. These meetings—and the need to agree on what to say to the press afterward—provide a vehicle for sharing advice and exerting some pressure. But the effect on any industrial country’s policies is still very limited, at best.

Some in George H. W. Bush’s administration had taken umbrage when Japan had chided us about the U.S. budget deficit in the late 1980s and early 1990s. My view had been that the Japanese had every right to raise the issue because of those deficits’ effect on global economic conditions, just as we now had every right to point out the difficulty that Japan’s problems were causing others. In 1997–98, the other G-7 countries often found themselves wishing they had more of a lever to get Japan to deal with its economic problems. It’s the familiar conflict between national sovereignty and transnational issues in an interdependent international community. The United States would like to be able to pressure countries whose unsound policies have consequences beyond their borders. At the same time, we would not countenance outside intervention in our own policy decisions. And of course, the question of which policy choices make the most sense in any specific situation is often hotly debated.

We looked for ways to try to influence Japan by focusing attention on its economic problems, both publicly and privately. Privately, we stressed the need for action in our bilateral talks with Japan, coordinating our message at all levels of government, including, on occasion, presidential involvement. In multilateral sessions, especially of the G-7, other countries and the IMF could also weigh in. In the midst of the Asian crisis, I remember a G-7 meeting in London where Alan Greenspan was very effective in getting the highly respected German central bank president, Hans Tietmeyer, to join with us in expressing these concerns to Japan.

Publicly, I spoke rather bluntly about the problems in Japan. Such comments always raised touchy diplomatic issues. Japan was our close ally and tended to be acutely sensitive to criticism. But as time went on, I thought that the effort to make an impact through public comment was more and more appropriate because the country’s political leadership seemed to be in a state of denial and Japan’s economic recovery was increasingly important to the entire global economy. I recognized this kind of paralysis from my Goldman Sachs days. The attitude of much of Japan’s political establishment seemed to be that of a trader praying over his weakening positions, when what he needed to do was to reevaluate them unsentimentally and make whatever changes made sense.

Inside the administration, we had many debates about what to do. Like almost everyone else on Clinton’s team, I was something of a policy hawk on Japan, but Al Gore was even more so. We had one meeting in the Cabinet Room where we were talking about how to get through to the Japanese about fixing their economy. The Vice President, who was sitting across from Clinton, got very emphatic. He said to the President, “We’ve got to find some way to get their attention, to exert some pressure on them.” Gore proposed a comprehensive strategy to influence broader attitudes in Japan that would involve flying American opinion leaders to Tokyo to speak publicly about the importance of the country getting back on track. Gore may have been trying to make more of a point than a serious suggestion, but it illustrated the frustration we felt when a First World ally’s poor economic policies threatened to harm all of us.

One episode that remains vivid in my mind dates from April 1997, when Ryutaro Hashimoto came to Washington to meet with President Clinton for the first time as Prime Minister. Larry and I briefed the President for the meeting and reminded him how important it was for Japan to face its problems. I don’t think Clinton particularly relished the prospect of hectoring the Japanese Prime Minister. But he understood the importance of pushing, and he pushed. Hashimoto had anticipated having to face this issue with Clinton. When the President brought up the economy, the Prime Minister took out charts he had brought with him that purportedly showed that Japan was on the verge of turning itself around. He said that it was going to start growing again. Hashimoto complained that “Rubin and Summers”—both of whom were sitting there in the meeting—were saying all these things publicly, but they were entirely wrong.

The world did eventually work its way through the global economic crisis without Japan recovering. But I still think we were correct that Japan’s weakness made recovery more difficult and increased the risk of further instability in Asia. And Japan’s weakness contrasted with China’s role in contributing to stability. Had China made different choices at a moment when Japan’s economy was so weak, the combined effect of the two on the region could have been very damaging. At that time, China was neither the leading export market nor a major lender to the rest of the region. It was, however, a competitor in exports, and some in the Chinese government seemed to feel that devaluing the renminbi would serve China’s interests by making its exports cheaper. But doing so could have set off a new round of competitive devaluations throughout the region. Several times, in meetings with President Clinton, with others in the administration, or with me, President Jiang Zemin and Premier Zhu Rongji underscored the firmness of their commitment not to devalue the Chinese currency. And they never did.

Those meetings left me with some impressions about China that have continued to inform my view. Its leaders were tough, independent-minded, and unresponsive to pressure. Rightly or wrongly, I also had the sense that Chinese officials took a great deal of satisfaction in being seen by the United States and the world as playing a constructive role in contrast to Japan. But while China’s nationalistic pride seems to me to have contributed to a constructive economic stance during the Asian financial crisis, I don’t think international pressure would have been effective had the country’s leaders been differently inclined. Early on in the administration, Clinton argued that instead of trying to pressure China by linking access to U.S. markets to its human rights progress, we should instead have a strategy of engaging China in the international economy through trade policy. The President supported his argument by citing the historic example of the Sino-Soviet split. China had refused Russia’s demands when China was weak, Clinton said, and would be even less likely to respond to American pressure now that it was much stronger.

I saw that tough side of the Chinese government time and again in our discussions—for example, when we urged China to ease the Asian crisis by investing and importing more instead of increasing its large foreign currency reserves. I saw it again later, when we negotiated with China on lowering its trade barriers as a precondition to joining the World Trade Organization. As the increasing number of Americans attempting to do business in China are discovering, the Chinese may move, but not in direct response to demands or on someone else’s timetable. In the twenty-first century, China will be a formidable and staunchly independent force. It is greatly to the benefit of both our countries to have an effective relationship. There undoubtedly will be frictions in our relationship—trade, for example, is likely to be contentious at times—but I think our common interest should motivate us to work through these.

   

WE HADN’T THOUGHT of South Korea as a country where trouble would develop. The South Korean economy was the eleventh largest in the world, the beneficiary of extraordinary growth during the previous several decades. It had graduated from being among the developing countries that borrow from the World Bank and, in 1996, had followed Mexico to become the second emerging-market nation to join the Organization for Economic Cooperation and Development (OECD).

But no sooner had agreement been reached on the loan package for Indonesia, on Halloween Day 1997, than market attention—and our concern—shifted to South Korea. At first, it was hard to believe that South Korea’s finances could go the way that Indonesia’s or Thailand’s had. Even as the market pressures built, we did not expect the government to come for an IMF loan, especially since it faced presidential elections at the end of the year. What we did not realize—and neither did the IMF or South Korea’s bank creditors—was that the country was already almost out of reserves. In late November, with an IMF team beginning to pore over the books, South Korean officials broke the news that what on paper were around $30 billion in government foreign reserves were basically gone. All but a few billion had been deposited in South Korean banks, which were now on the brink of insolvency. This sudden revelation ushered in a period of grave danger for the world economy.

Our concerns came to a head the day before Thanksgiving. Larry had called an emergency meeting of his G-7 colleagues in New York to talk about how to manage the deepening crisis. Alan Greenspan had been alerted to how desperate the situation was and how that also affected South Korean banks in the United States, and he came straight over to my office to tell me about it.

Our Asia team gathered in my office, with Larry coming in over the squawk box. As I looked around the room, I saw an extraordinarily capable group of public officials. Larry’s presence had served as a prime draw for some extraordinarily well qualified figures in the field of international economics at just the time when the U.S. government had an immense need for them. Some called it a “dream team” of international economic crisis response. That was so not only because of the distinction of the individual résumés. It was the way we all worked together at both conceptual and operational levels. Our group would sit around for hours and intensely debate the merits of this or that policy option the way people might in an academic seminar—me with my shoes off, Larry with his tie loosened. Differences and disagreements were treated with a sense of mutual respect and collective good humor. But this easygoing group was also a formidable apparatus for making dauntingly complicated decisions with potentially vast real-world consequences.

In addition to Larry and Alan, the core group included remaining veterans of our Mexico team. Ted Truman, who had been at the Fed since before the Latin debt crisis of the early 1980s, was legendary in the field and a repository of the history of past rescue efforts. He once again became a de facto part of our team while still at the Fed—and later an official part when he moved over to Treasury. Dan Zelikow, who had done extensive work in Mexico, also remained. Dan was skeptical and hard-nosed about the terms of support in IMF or bilateral programs, always focused on the danger that the fine points of a loan agreement might undermine the larger effort. Another alumnus of the Mexico crisis was Tim Geithner, who had been a career official when Larry had spotted him and begun promoting him, all the way—eventually—to Larry’s old job of undersecretary. Geithner knew a great deal about Asia. He had grown up in Thailand and India and in his Treasury career had worked in the Financial Section of the U.S. Embassy in Tokyo. Tim also had a natural talent for working with other people, terrific common sense, and instinctive political judgment.

Other familiar faces were playing new roles. There was Mike Froman, who prior to becoming my chief of staff had worked on economic reform issues in the Middle East and Eastern Europe, including a stint living in Albania. David Lipton, who had replaced Jeff Shafer as our top international official when Jeff had left for the private sector, had developed a considerable reputation among economists as a “country doctor.” After getting his Ph.D. in economics from Harvard, where he had played tennis and argued a lot with Larry, David had spent eight years at the IMF, developing a specialty in dealing with countries in extreme financial distress. After that he had worked with Jeffrey Sachs, another Harvard colleague, as an adviser to countries with distressed economies, many of them in Eastern Europe. David had helped to engineer the transition to a free market in Poland, among other places, and had made an enormous contribution to the Bosnian peace settlement negotiated in Dayton, Ohio. (Warren Christopher had called me while still deeply embroiled in negotiating the agreement just to say that David was one of the most extraordinary people he’d ever worked with, which said a lot about both David and Christopher.) David’s attitude was typical of our group. He was deeply committed to what he did and took it seriously—but he didn’t take himself too seriously.

We were also joined by Caroline Atkinson, deputy assistant secretary for international monetary and financial policy—Tim’s old job. Caroline, who had grown up in England, was a former official at the IMF and the Bank of England. She brought to the table a sharp mind and incisive analysis as well as experience in negotiating with troubled debtors. Where Larry and David were often intent on developing a plan, Caroline tended to join Dan Zelikow in reinforcing my own skepticism about what could work.

The group all felt great worry and concern that day. South Korea in crisis signaled something truly new, both geopolitically and economically. South Korea was a crucial military ally, with thirty-seven thousand U.S. troops stationed near the North Korean border. One fear was that instability would create an opportunity for North Korea to do something provocative. But what I think troubled us most was a different kind of unknown, namely the potential risk to the world’s financial system. South Korea, much more than Thailand or Indonesia, was a mainstream economy with deep links to the rest of the world, both credit relationships and sizable Korean banks in the United States and Korean-owned factories in industrialized countries such as Great Britain.

The problem inside South Korea combined elements of what had happened in Mexico and Thailand. A fixed-exchange-rate regime had led gradually to a serious overvaluation of the South Korean won. At the same time, South Korea’s banks had made a practice of borrowing money short term from foreign banks and lending it longer term to the domestic conglomerates known as chaebols. The chaebols, which became hugely indebted in foreign currency, had earnings mostly in local currency. With a sense of panic spreading, foreign banks were refusing to roll over their short-term loans, imperiling the survival of South Korea’s banks, and capital now started to flee in earnest. The South Korean won plunged even as the government burned through billions in reserves trying to defend it.

Once again, the core issue was how to reestablish confidence and stop the flood of capital out of the country. For an economy as large as South Korea’s, this clearly would take a huge amount of money, as well as a serious policy commitment. The stakes were high, not just for South Korea but for the rest of the world. Many creditors and investors thought as follows: if mighty South Korea is going to default, how secure are loans and investments in other emerging-market countries? Banks, mutual funds, and hedge funds in the United States, Europe, and Japan that hadn’t thought much about risk when times were good were already pulling back from developing countries without distinguishing among the circumstances. And there was no reason why this pullback would be limited to Asia. Latin America, Eastern Europe, and Russia were all in jeopardy. And if crisis spread throughout the developing world, the developed world could easily be pulled in as well.

This sort of contagion can involve a ripple effect, as the failure of one financial institution works its way through the system, causing an expanding number of other institutions to fail as a result. Financial linkages, though less broadly recognized than trade connections, are highly complex and diverse. Say, for instance, that Japanese banks were heavily exposed to South Korea. And say that U.S. commercial and investment banks had heavy exposure to Japanese banks. South Korea’s troubles could feed back in unexpected ways to U.S. banks that had not considered themselves unduly exposed to South Korea.

In an extreme situation, the entire financial system could be threatened, with the health of the world’s largest banking institutions at risk. But even without conditions growing that severe, major international lenders could become less willing or able to extend credit. If that happened, capital could quickly dry up, not only for the developing world but within developed countries as well. The potential existed for the whole international credit system to freeze, with untold consequences. In our discussions, we focused intently on the question of whether a failure in South Korea could trigger that kind of domino effect.

Over Thanksgiving, I was up at my house in Westchester County, where I was supposed to be spending a quiet holiday with Judy and my family. Instead, I spent much of the day and evening on a series of urgent conference calls with Treasury and Fed officials, the President, the national security advisor, and the Secretary of State. Madeleine Albright said she was basting a turkey while we talked about whether South Korea’s financial problems could encourage a more aggressive military posture across the demilitarized zone to the North. At some point, we all took a break to eat dinner with our families before getting back on the phone.

For understandable reasons, we at Treasury and the foreign policy people in the administration looked at the issue from somewhat different perspectives. Madeleine and the other foreign policy advisers on the phone were mainly worried about our relationship with a crucially important military ally, as well as national security issues. They thought any instability in South Korea might encourage a reaction from the North, where troops had reportedly gone to some heightened state of alert. Their view was that we economic types were insufficiently focused on geopolitical concerns and that the United States needed to move quickly to show support for South Korea through the IMF and a backup loan from the ESF, as we had just done for Indonesia—what we were now calling a “second line of defense.” I felt strongly that if economic stability wasn’t reestablished, our geopolitical goals wouldn’t be accomplished either. Substantial money—from the United States and the IMF—had been a significant help in Mexico, but only in the context of the government adopting sensible policies. So far, the money we had pledged for Indonesia had not done much to mitigate the crisis there. Committing the IMF and ourselves to a show of financial support for South Korea without an adequate commitment to reform might even make it less likely that South Korea would get back on track, because providing money without strong conditions would reduce our leverage in getting the country to adopt a program that would work.

Late in the evening, I was still on the phone with the President and Sandy Berger. After speaking to South Korean President Kim Young Sam to strongly urge reform, Clinton, who was at Camp David, was waiting to be connected to the Japanese Prime Minister. President Clinton was supposed to urge Hashimoto to address Japan’s problems and to discuss the South Korean problem more generally. But Hashimoto was on an airplane and couldn’t be reached right away. As we waited and waited, some wondered if the Prime Minister didn’t want to take this call. While we were standing by, Clinton was doing the New York Times crossword puzzle, which he reputedly could dispatch in a matter of minutes. He asked me about a clue—a three-letter word starting with some letter or other. I had no idea, so I asked my son Jamie.

“Who’s so stupid that they don’t know that?” Jamie retorted in a voice that could be heard at the other end of the phone.

“The President of the United States,” I said.

IMF Managing Director Michel Camdessus had already gone to South Korea once to begin negotiations. That trip had been made in secret to prevent spreading additional alarm. Now Camdessus was headed back to South Korea officially to negotiate the terms of an IMF program. Facing the prospect of a huge U.S. commitment to South Korea, we decided to send David Lipton to Seoul right away. We wanted to get an independent assessment of the situation as well as to reinforce the importance of strong reform measures.

Our view was increasingly that nothing short of a major reform program in South Korea would bring back market confidence. And more than in Mexico, the necessary policy changes needed to go beyond macroeconomic issues such as interest rates and exchange rates to encompass a range of structural issues that went to the heart of the South Korean economic system. One troubling practice was “directed lending,” whereby government officials could tell banks to whom to extend credit. That kind of arrangement was the lifeblood of what was being called “crony capitalism.” Korea also limited foreign investment and competition. The result of all this was that banks that had little discipline and that favored businesses were protected from failure and had virtually no financial constraints. South Korea would have to tackle fundamental issues for the economy to recover. But in negotiations with the IMF staff and direct discussions with David, officials of the Ministry of Finance and Economy offered inadequate proposals on key structural issues.

Our discussions within Treasury—about what South Korea needed to do to stop the crisis—continued almost around the clock. For many of these meetings, we relied on the Treasury telephone operators to connect us from disparate spots on the globe. During an intense phase of this discussion, I was in Chile at a meeting of Latin American finance ministers, David was in Seoul, in a completely different time zone, and Larry and others were in Washington. I remember placing a call from Chile to Michel Camdessus, who was under heavy pressure in Seoul to reach an agreement. The South Koreans kept announcing that they were about to sign a deal, perhaps trying to force the IMF’s hand. We hoped that the South Korean intelligence service would be listening in, so my discussion with Michel—about the extreme importance of a strong program—was meant for the South Koreans as well.

As we continued to hold out, the South Koreans began to take the IMF conditions more seriously. They agreed that interest rates would be set at levels sufficient to restore a willingness to hold won-denominated assets. Directed lending would be abolished. Failed financial institutions would be closed or else restructured and sold. And South Korea’s financial sector would open to competition, including from foreign companies. With these concessions in hand, Camdessus announced a $55 billion assistance package on December 3. This was the largest support program the IMF had ever assembled, although smaller relative to the size of the South Korean economy than the Mexican program had been.

Signing a deal didn’t make us think South Korea’s problems were solved—far from it. The big question was whether the commitments the government had made on paper would be implemented in practice and whether the markets would respond. The immediate reaction of the financial markets was positive, giving us initial cause for optimism. The South Korean won moved up a bit, and the South Korean stock market rose a good deal. But after two good days, the situation began to darken again. Beginning on Monday, December 8, the won plunged 10 percent a day for four days in a row—as much as it was allowed to move under the existing currency regime. That decline triggered a further downward spiral in other world markets, especially those in Asia.

What went wrong? One problem was that South Korea did not really want to let interest rates rise to the levels necessary to induce investors and creditors to stay. The government faced a kind of Catch-22: higher interest rates threatened to hurt the over-indebted chaebols and weaken the South Korean banks still further. But companies and banks would also be damaged if the won fell more against the dollar, pushing up the won value of their dollar debts. And that was likely to happen if interest rates were kept too low.

As the situation deteriorated, foreign banks became more desperate to pull out their money. None of them wanted to be the last ones in when there were no reserves left to pay them. We kept daily tabs on what we called “the drain,” or the rate of hard currency outflows from South Korea. We now knew that the South Korean central bank was depositing its hard-currency reserves in South Korean banks. These banks promptly used the dollars to repay foreign bank loans, so the central bank could not feasibly get the dollars back. In early December, even after drawing $5.5 billion from the IMF, South Korea’s foreign currency reserves were down to around $9 billion, with a “drain rate” of $1 billion a day.

We also had a problem, as with Thailand, of belated disclosure. The revelation that South Korea’s buffer of reserves was almost gone spooked the markets. Rumors began flying about the size of South Korea’s foreign debt. One estimate put the total foreign debt coming due in the next year at $116 billion. That meant that even the huge IMF program couldn’t save South Korea if confidence didn’t return. Around that time, Barton Biggs, a well-respected Wall Street analyst, estimated that South Korea could run out of reserves by the end of the month.

An additional problem was that the South Korean elections were rapidly approaching. With the country’s political leadership in flux, the markets were skeptical that the government would be able to take ownership of the IMF program. Although the IMF had gotten the three leading candidates for the South Korean presidency to sign on, none of them evinced much enthusiasm for the reform measures that President Kim Young Sam had agreed to. The front-runner in the campaign was Kim Dae-jung, a heroic former dissident and eventual winner of the Nobel Peace Prize, who had spent time on death row under the military dictatorship that fell in 1987. Kim was a trade-union populist who, despite an election manifesto that in some respects echoed the IMF program, said in one interview that if elected, he wanted to renegotiate the terms of South Korea’s deal with the IMF.

On December 18, the day of the election, top Treasury and Federal Reserve officials met to address what we all viewed as the threat of an imminent collapse of the South Korean economy. Of the many, many discussions we had about the deepening financial storm in Asia, the dinner we had that night at the Jefferson Hotel stands out in my mind as a critical moment. During the evening, there were several calls from the White House to work on the wording of the message President Clinton would deliver in a congratulatory call to the apparently victorious Kim Dae-jung that night. The basic point we wanted Clinton to convey was that President Kim had a real opportunity to change the way his country did business—and that the consequences of not doing so could be very bleak indeed.

Over dinner, we all discussed the situation. Our first attempt at an intervention—the biggest package ever negotiated by the IMF, backed up with additional support from the United States and other nations—hadn’t restored the confidence of foreign investors in the South Korean economy. South Korea was significantly larger than Thailand and Indonesia put together. If the South Korean government or banking sector failed to make its scheduled loan payments, contagion could spread quickly through other emerging markets in Asia, Eastern Europe, and Latin America. We were very focused on the risk to the global financial system and the possible consequences for the industrial countries, including the United States. Some people at the table tried to convey their sense of this with a somewhat hyperbolic reference to a “1930s scenario.”

Most of the discussion that night was about our remaining options, none of which was very promising. One alternative was to “let South Korea go” and somehow try to build a firebreak around it by supporting other countries. But no one thought this was likely to work. So we focused much of our effort on other ways to shore up confidence: accelerating the disbursement of IMF funds and putting together a stronger international aid package—with more upfront money from the United States and Europe—as backing for stronger reforms in South Korea. Larry Summers said that the IMF money should be disbursed aggressively to avoid a “Vietnam” situation—that is, a gradual escalation that didn’t work. Because the problem was confidence, he felt that we needed, as we had in Mexico, something more akin to the famous Colin Powell Doctrine—a massive show of financial force.

But even the more robust support package we were considering seemed insufficient to restore confidence by itself. Dinner ended with a better understanding of various unpromising options, but without any clear decision about which way to go. At the end of the evening, Tim Geithner’s pager transmitted the news that concern about the effects of Kim Dae-jung’s election victory was driving the won down further. Markets had opened in Seoul, where it was already morning.

In this case, not choosing immediately turned out for the best. Over the next few days, Treasury and Federal Reserve officials turned attention to another idea that we hadn’t thought wise or feasible when it was first floated in the IMF a few weeks earlier. The proposal was a voluntary version of what’s known as a “standstill,” whereby banks would agree to roll over their loans, extending their due dates and converting short-term obligations to longer-term ones. I don’t think the banks would have considered doing this earlier because they hadn’t yet realized how dire the situation was. But now was the eleventh hour, and the banks were staring default in the face. Still, they would not act on their own; we would need to provide a catalyst. The plan had two other elements: a stronger reform package on the part of South Korea and accelerated money from the IMF and creditor governments, including the United States.

As well as being more likely to work, this three-pronged plan could also reduce the moral-hazard problem by involving private creditors in the resolution of the crisis. The banks were reluctant to roll over South Korea’s loans and would not have chosen to take the continued exposure on their own. Under this plan, they shared the continuing risk of nonpayment with one another and to some extent with the multilateral institutions. I never liked calling our rescue efforts “bailouts”—rescuing investors was an unavoidable side effect of restoring stability—but you could reasonably describe this approach as a private-sector “bail-in.” My view of the extent to which creditors and investors had lost their sense of the risks involved in emerging markets was borne out when we began to explore the idea. We asked the commercial and investment banks how much exposure they had to South Korea by way of financial derivatives, apart from their direct loans. Most had a very imprecise idea, and some took a full week to find out.

Among the risks of the plan was the considerable difficulty of successful execution. Every bank had an interest in being a free rider, in not participating while others did. But if a preponderance of the major financial institutions didn’t agree to participate on equal terms, the deal would fall apart. We had little practical leverage to induce their cooperation. We could only try to affect the outcome by making phone calls, asking bank CEOs to do what was in their collective self-interest, and, in the case of some reluctant parties, suggesting that the world might know who was responsible for failure and its consequences, should they occur.

Meanwhile, David Lipton was on his way back to Seoul again, in part to try to gauge Kim Dae-jung’s commitment to reform. Some people at the State Department at first objected to the President-elect of South Korea meeting with a Treasury Department official before a more ceremonial visit from someone at State. But the new ambassador to South Korea, Stephen Bosworth, overruled the objection, saying the situation was so pressing that we couldn’t stand on ceremony. Bosworth, a distinguished former ambassador to the Philippines who had previously also worked at the State Department’s Economic Desk, was not only very sensible and effective but also an example of the kind of diplomat we’re going to need more of in the future—one who combines foreign policy expertise and skill with a good understanding of economic issues. Bosworth said that Lipton should see Kim Dae-jung as soon as possible, and Lipton’s first stop in Seoul was the union headquarters that had served as the former labor leader’s campaign office.

I left that day for Virgin Gorda in the British Virgin Islands on a family vacation that we’d taken annually for fifteen years. As usual, I had hired Garfield Faulkner, a local guide, to take me fly fishing for bonefish off the neighboring sleepy island of Anegada—where arriving pilots used to have to be on the lookout for cattle blocking the airstrip. You fish from a boat or wade in the ocean flats and try to spot the silvery bonefish, which never stop moving in the clear water. The fish are fast, finicky, and immensely powerful. One weighing only a few pounds will run out several hundred feet of fishing line in an instant. But this time I had to cancel Garfield while I spent the day talking on the phone with Alan and Larry in Washington and David in Seoul.

As I stared longingly at the water, David reported back that his meeting with Kim Dae-jung had been highly encouraging. Kim, despite having been elected on a populist platform, told him that the South Koreans would never be able to deal with their problems if they kept blaming them on America and the IMF. The new President also said the burden would have to be shared three ways: the government would have to be reorganized to take power away from the Ministry of Finance. The chaebols would have to restructure. But, perhaps most important given his background, Kim told David that unions would have to accept layoffs and wage reductions if South Korean companies were to become profitable again. Only then would investment and growth recover. At the end of the meeting, David described Kim as becoming more philosophical. “For thirty years, they arrested me, drove me into exile, and tried to kill me,” he said. “Now I come back and get elected President, just in time to face the collapse of my country.”

That Kim was committing himself to reform meant we were going to move ahead with the bail-in proposal. South Korea owed money to banks in Japan, Germany, and many other countries, as well as the United States. To be successful, we needed our G-7 partners and other key countries on board. Many of them had favored trying some form of bail-in, but we also needed their support for the stepped-up financing from the IMF as well as their individual contributions. I flew back to Washington as Larry juggled phone calls with the top management of the IMF and his G-7 colleagues in Japan, Europe, and Canada while briefing the White House and the foreign policy team on our progress.

We must have set some kind of record that holiday for disturbing the slumber of finance ministers and central bankers all over the world. But the calls we made paid off. With twelve other countries on board, we released a statement on Christmas Eve saying that the IMF would speed up the disbursement of funds in the context of voluntary rollovers that we would seek from banks throughout the developed world. The statement listed all the countries willing to put bilateral funds on the table, provided the private banks and the South Koreans did their part.

A massive, synchronized international effort to encourage the banks to act together was also put into effect by the Federal Reserve, acting primarily through the Federal Reserve Bank of New York and the Treasury Department. Compounding the intrinsic difficulty of the situation was that the bankers we needed to convene had all dispersed for their Christmas vacations. I made calls to U.S. banks and investment banks from the conference table in Larry’s office. William McDonough, the president of the New York Fed, made calls to his international counterparts, who made similar calls to banks in Europe and Japan.

These calls required great tact. I had to be persuasive about the banks’ collective self-interest—and even on a few occasions suggest that a poor citizen would probably become known in the event of failure—without overstepping an uncertain line. And for Bill McDonough, the balance was even more difficult. The Federal Reserve is the nation’s chief financial regulator and could apply pressure just by convening a meeting. If such pressure went beyond a strong sense of “moral suasion,” that could be an improper use of the Fed’s regulatory position and could also prove counterproductive by scaring the banks further. As a former commercial banker himself, Bill knew how to frame the issue. When the heads of the leading U.S. banks came together at his office, he suggested that they act collectively, not for the sake of South Korea but in their self-interest and that of their shareholders. Otherwise, the vast South Korean debt they held could become uncollectible. Some bankers grumbled, but nearly everyone agreed to participate. Critical to the effort was Bill Rhodes, a banker who was central in the world of international finance and whose “golden Rolodex” and tireless cajoling had brought renown in global financial circles during the 1980s debt crisis. Meetings like ours took place in financial capitals around the world. In London, where there are probably more foreign banks than anywhere else, Bank of England governor Eddie George summoned key bankers back from vacation to a meeting on Boxing Day, when The City, London’s financial district, was usually shuttered for the holidays.

In combination with President Kim’s public commitment to economic and financial sector reform and the international community’s financial support, our coordinated effort showed signs of having the desired effect. South Korea’s currency and stock markets soon stabilized, although they did not rise appreciably for some time. Contagion seemed to abate and our fears about the global financial system eased for the moment. In the end, the banks did not suffer from their participation. They were paid back in full and ended up receiving a higher rate of interest in the interim. And in the end we did not disburse any U.S. funds. Treasury’s discussions on the loan agreement with South Korea—initially quite heated—petered out after a few months. The money turned out not to be needed.

That wasn’t the end of the South Korean stage of the crisis. At several points in 1998, there were dicey moments when we feared that the plan wasn’t working, or when political developments elsewhere threatened to plunge the country back into economic gloom. But basically, the South Korean economy was on the mend. And what had mattered most wasn’t anything the IMF or U.S. Treasury had done but South Korea’s own response. President Kim Dae-jung and his colleagues, the heroes of the South Korean recovery in my view, showed how sound, courageous political leaders can make a great difference—in fact, the key difference—in overcoming economic duress.