A model of the domestic financial intermediation of foreign capital inflows based on agency costs is developed for studying financial crises in emerging markets. In equilibrium, the banking system becomes progressively more fragile under imperfect prudential regulation and public sector loan guarantees until a crisis occurs with a sudden reversal of capital flows. The crisis evolves endogenously as the banking system becomes increasingly vulnerable through the renegotiation of loans after idiosyncratic firm-specific revenue shocks. The model generates dynamic relationships between foreign capital inflows, domestic investment, corporate debt and equity values in an endogenous growth model The model's assumptions and implications for the behavior of the economy before and after crisis are compared to the experience of five East Asian economies. The case studies compare three that suffered a crisis or near-crisis, Thailand and Malaysia, to two that did not, Taiwan Province of China and Singapore, and lend support to the model.

In this paper we set out to show that China has certain significant specificities in terms of the gradual (i.e. "step by step") approach it has followed in implementing reforms affecting its financial system. This is in contrast with the traditional shock or "big bang" therapy adopted by other emerging or transition countries, on the basis of what is known as the Washington Consensus, which notoriously prescribes the immediate, wholesale introduction of market-oriented systems through large-scale liberalisations and privatizations. Nevertheless, as we will endeavour to demonstrate the process of reform of China's financial system has not prevented problems of financial fragility from arising in the banking sector, and of corporate governance for firms, such as to threaten the very sustainability of growth in the future.