Lately I have been teaching a course on managerial economics and business strategy. There is one chapter in the textbook that I like very much, about the theory of information economics. the global crisis we have been witnessing lately can largely be explained by this theory, especially the relationship between the uncertainty and the market. The presence of uncertainty can have a profound effect on the ability of markets to allocate resources efficiently. Problems in the global financial markets are created when there is uncertainty. Collapses of financial institutions, serious runs on deposits and erosion of confidence are a result of severe problems with asymmetric information. Asymmetric information is when some people have less information then others. This can result in a situation where those with the least information rationally refuse to participate in the market, resulting in a loss of credit lines and depletion of liquidity that can accelerate the demise of financial institutions. These have lately included Bear Stearns, Indy Mac, Freddie Mac, Fannie Mae and Lehman Brothers, with maybe others casualties to come, such as Merrill Lynch, the American International Group (AIG) and Morgan Stanley. In economics theory, problems can occur when an institution has hidden characteristics, characteristics it knows but that are unknown by the other party in an economic transaction. Problems can also occur when one party performs hidden actions, actions it knows but the other party can not observe. Many financial institutions fail because of complacency in sitting on these two problems, which are later exposed. The impacts on Thailand can be lessened if we can soothe fears and concerns regarding Thai financial institutions and markets. One way of doing this is to use the economics theories of signalling and screening to reduce asymmetric information and provide information about the true and perceived hidden characteristics and actions of financial institutions. Let it be known that Thai financial institutions have been affected by US financial problems as follows: - Thai commercial banks as a whole invested in foreign assets totalling Bt110,680 million, equivalent to a mere 1.3 per cent of total banking assets. - Four commercial banks had investments in collateralised debt obligation (CDOs) worth US$715 million(Bt24.43 billion) as of the end of June. - All commercial banks have put up all provisioning or already liquidated these assets. Today, only $295 million worth of CDOs remain. - Exposure of Thai banks - two Thai banks that are often named in the press- to Lehman Brothers is in the form of Bt 1.6 billion worth of loans,Bt3.25 billion worth of investments and Bt1.86 billion worth of off-balance-sheet transactions. - Lehman Brothers’ investment in Thailand amounts to as much as Bt50 billion, including equities, bills of exchange, real estate, bonds (Bt20 billion) and private equity (estimated at Bt20 billion). Meanwhile, mutual funds in Thailand have about Bt 57 million invested in Lehman Brothers - related entities. - Thai commercial banks’ exposure to AIG is in the form of Bt3.715 billion worth of credit extensions,Bt340 million worth of investment and Bt16. 415 billion worth of off-balance-sheet activities. In this period of financial turmoil, the baht is expected to be quite volatile. However, the theory information economics teaches us is that we need to provide as much up-to-date and real information as possible, so that the market will not speculate based on unfounded or false information. By: Chodechai Suwanaporn [email protected] Source: www.fpo.go.th