Building Resilient Economies Lessons from global financial crises

Tulips are common in any typical flower shop today, indeed the second most available only behind roses across most of Europe. However, few today are aware that 400 years ago Europeans experienced an intense fascination with tulips, driven by their rarity, vibrant colors, and exotic origins. Tulips became highly sought-after status symbols. Their bulbs were traded for exorbitant sums, sometimes equivalent to the price of a house. This speculative frenzy – which economic historians term "Tulip Mania," – led to Tulip prices soaring far beyond their intrinsic value. Humans, after all, have a tendency to inflate the worth of beauty and novelty. When the bubble inevitably burst in February 1637, it wiped out fortunes, triggered widespread panic, and left a trail of economic devastation across the Netherlands and beyond.

Barely a century later as stock markets were emerging, the South Sea Bubble of 1720 – involving the South Sea Company in Britain and John Law's Mississippi Company in France – saw stock prices of these and other similar companies rising astronomically and then collapsing. This was the first truly global financial crisis as it devastated fortunes across Europe and ensnared every social class, from regular commoners to brilliant intellectuals like Sir Isaac Newton. Britain's quick response to this crisis was the Bubble Act of 1720 – designed to regulate speculative joint-stock companies and usher a new era of regulatory oversight – led to
faster recovery. Meanwhile, France's delayed reaction prolonged the crisis.

The pattern – where crises bring about necessary reform – is replete through history, with each upheaval laying the groundwork for more reforms. From the Panic of 1873 to the Great Depression that was ignited in 1929, every major crisis has, in its wake, catalyzed significant reforms – be it the creation of central banks, securities regulators, deposit insurance schemes, or international regulatory frameworks – all aimed at stabilising macroeconomic conditions, building market resilience, and fostering economic growth. In the 1990s when the Thai Baht collapsed following speculative attacks and unsustainable external debt levels, the crisis spread rapidly across the region. Countries like Indonesia, South Korea, and Malaysia, which had attracted significant foreign capital since the prior decade, found their currencies plummeting and their financial systems – and economies – on the brink of collapse. The so-called Asian Financial Crisis of 1997-1998 exposed weaknesses in regulation, a lack of transparency, and excessive reliance on foreign currency borrowing.

Companies with large foreign currency debts faced bankruptcy as their local currency revenues became insufficient to service their obligations. Widespread economic contraction ensued, leading to rising unemployment and even social unrest. Thankfully, the crisis also spurred profound reforms as affected nations implemented structural reforms to strengthen market supervision, improve corporate governance practices, increase transparency, and reestablish macroeconomic stability.

While painful in the short term, these reforms helped build more resilient financial systems and diversified economies, leading to a stronger, more sustainable growth trajectory in the long run for many of these Asian tigers. South Korea, for example, used the opportunity to enhance financial transparency, deleverage, and liberalize its capital markets – moves that laid the foundation for their current economic resilience. The more recent financial crises, particularly the 2008 meltdown and the financial fallout from the COVID-19 pandemic, have reinforced these lessons on a global scale.

The 2008 crisis, originating from the subprime mortgage market in the United States, quickly morphed into a global contagion, severely impairing financial institutions and real economies worldwide. Developing and emerging economies, even those initially thought to be seemingly insulated, soon felt the tremors through reduced trade, plummeting commodity prices, and a sharp decline in capital inflows and remittances. The crisis laid bare the interconnectedness of the global financial system and the need for coordinated international responses.

The reforms that followed were unprecedented in scope. The Dodd-Frank Wall Street Reform and Consumer Protection Act in the U.S. and other similar national responses, along with Basel III accords and IOSCO task forces internationally, aimed to increase capital requirements for financial institutions, improve risk management, and regulate derivatives and OTC markets more effectively. While challenges remain, these reforms have undoubtedly strengthened the global financial system, making it more resistant to severe
shocks.

This resilience and lessons learned were shortly tested during the COVID-19 pandemic that began in 2020. The pandemic triggered massive consequences including lockdowns, supply chain disruptions, a collapse in demand, and a sharp global recession. Developing and emerging economies, often with weaker health systems and limited fiscal space, faced particularly acute challenges. However, the policy responses – ranging from massive fiscal stimulus packages to monetary easing and debt relief initiatives – were swifter and more
coordinated than in previous crises. These interventions, while costly, helped cushion the blow and prevent a deeper, more prolonged global depression.

In the Global South, these crises and subsequent reforms have often underscored the vulnerability of economies reliant on commodity exports and external financing. However, they should also serve to accelerate efforts towards building more diversified economies and strengthening domestic financial systems. Strong financial systems are associated with higher income levels, more robust responses to shocks, and faster recovery times. Through the work of the International Monetary Fund (IMF) and the World Bank, we know that inclusive financial systems are crucial for reducing poverty and inequality, as they enable households and firms to smooth consumption and invest in productivity. Additionally, Carmen Reinhart and Kenneth Rogoff, in their seminal work 'This Time Is Different: A panoramic View of Eight Centuries of Financial Folly,' underscore the importance of robust financial regulation and prudent macroeconomic policies in mitigating the frequency and severity of crises.

More recent studies, often drawing on the experiences of the 2008 global financial crisis, further emphasise the role of a strong, effectively regulated financial ecosystem with adequate capital buffers in absorbing shocks and preventing contagion. But resilient financial systems support not just stability, but also long-term growth, wealth creation, and inclusion – the ultimate enablers of transformative change. Just as they were
crucial in financing the factories, railways, and innovations of the Industrial Revolution, they are equally vital in facilitating the transition in the current Fourth Industrial Revolution. This age of artificial intelligence, blockchain, meme coins, and green technologies needs a resilient and dynamic financial system even more. A system that will not only provide the necessary capital and risk-sharing mechanisms but also the basis for resilient recovery when crises inevitably occur.

The lesson is clear. Resilient economies are built on resilient financial systems. And resilient financial systems are not accidents – they must be thoughtfully designed, regulated, and continuously reformed.