The severity of the financial crises enveloping the "tiger" economies of Southeast Asia in 1997 came as a surprise to many observers. This paper uses a simple Fisherian model of the "overborrowing syndrome" to compare the Asian crises of 1997 with earlier overborrowing episodes in Mexico and Chile. While important similarities exist, the crises in Southeast Asia have been exacerbated by the unhedged foreign exchange positions of Asian banks. These open currency positions not only imposed significant additional losses on the banks following devaluation, they also magnified the scale of overborrowing during the cycle's initial boom phase. Failure to limit the exposure of banks to foreign exchange risk therefore increased the magnitude of the boom-bust overborrowing cycle both ex ante and ex post. The paper highlights the importance of effective regulation and supervision of capital markets, with a focus on limiting the speculative currency positions of banks, especially those that form the core of the domestic payments system and therefore enjoy a (possibly implicit) public guarantee. Improving the institutional infrastructure of financial supervision is the only effective way of mitigating the macroeconomic costs of overborrowing. (C) 1998 Elsevier Science Ltd. All rights reserved.
