ARE Thailand’s central bankers working too hard to arrest the strengthening of the baht? There are certainly some who think so. Last month, The Nation newspaper published an editorial that argued the Bank of Thailand (BoT) was running the risk of producing yet another financial crisis.

During the 1997 Asian financial crisis, the BoT sold US dollars to prop up the baht until it lost most of its usable foreign exchange reserves. The baht collapsed as a result. This time around, the central bank has been buying up dollars to prevent a strong baht threatening export competitiveness.

“The massive intervention,” warned the Nation editorial, “is now putting pressure on the central bank’s balance sheet”. This is because the bank will post heavy losses when these depreciating dollars are converted into baht.

Buying dollars involves other costs: To prevent the financial system from being flooded by baht, the BoT has been forced to issue bonds to soak them up.

Between May and August, the central bank issued bonds totalling 24 billion baht (S$998 million), representing just 3.6 per cent of the dollars purchased. With worries about inflation increasing, however, this proportion has been increasing. In September alone, the BoT issued bonds worth 135.8 billion baht. This figure was equal to about 57.1 per cent of dollars acquired by the BoT then. Given the likelihood that the United States will be running a huge fiscal deficit for some time, the editorial warned that the BoT was fighting a losing battle.

By moving against the global tide, the bank was risking the country’s macroeconomic stability. The newspaper suggested the authorities consider abandoning export-led growth in favour of domestically generated expansion.

Like many other central banks in the region, the BoT has been under pressure to keep its currency from strengthening too quickly in order to promote exports and tourism. Ordinarily, the problem would not be serious. After all, the export sector constitutes only a small proportion of the Thai economy. But Thailand faces domestically generated problems that have changed this calculation.
An extended period of political uncertainty in the capital Bangkok has depressed the investment outlook and led to a sharp decline in private consumption. A court decision in September ordering a halt to 76 government- approved projects after environmental groups filed a complaint has added to the dismal mood. According to Finance Minister Korn Chatikavanij, the court ruling could stall construction projects accounting for about 6 per cent of Thailand’s “absolutely necessary” three-year stimulus plan.

This leaves exports as the only immediate source of growth.

Fortunately, these have recently shown signs of improvement. Exports jumped 11.9 per cent in September compared with the previous month, for example. This is a development the BoT will be anxious to support.

The contrast with Indonesia, which also has a large domestic economy, is stark. Political stability in Jakarta and strong domestic demand have helped ensure continued growth despite a drop in international trade. The Thai economy is expected to contract by about 3 per cent this year, while the Indonesian economy is projected to grow by 4.3 per cent.

According to Ms Julia Goh, a regional economist with CIMB investment bank in Kuala Lumpur, focusing on restructuring Thailand’s domestic economy probably would make more sense after current political uncertainties have been resolved. “If they allow the currency to strengthen too fast, and the domestic sectors are not strong enough, it could be a double-edged sword.”

Comparisons with the Asian financial crisis are also misleading. In December 1997, the BoT had just US$27 billion in international reserves with which to defend the currency. As of Oct 23 this year, however, the BoT had a war chest amounting to US$135.6 billion (S$188 billion). And thanks to a rising current account surplus (largely the result of sharply lower imports) the figure is rising. Foreign reserves rose by US$24.6 billion in the first nine months of this year.
Fortunately, inflation remains subdued, allowing the monetary authorities to keep interest rates low in order to stimulate the domestic economy. Any rise in rates now would encourage more capital inflows, strengthening the baht further.

Interestingly, while the BoT’s strategy has been controversial inside Thailand, it is in fact almost identical to that being pursued in many other regional capitals. Malaysia’s Bank Negara, for example, has implemented a similar policy with the ringgit, given the country’s relatively high dependence on external trade.

Yet another point in BoT’s favour is that it has been successful so far. It is true the baht has strengthened significantly this year against the greenback.

But on a trade-weighted basis, the baht has been quite stable. That is as good an indication as any that export competitiveness has been sustained. Thailand’s central bankers may have their critics, but on balance it looks as if they are on the right track.

Copyright © 2009 Singapore Press Holdings Ltd