Successful bank recapitalisation is the only way out of the present liquidity trap and the free fall of the Thai economy, Thanong Khanthong reports.

Last week an MBA student of Chulalongkorn University's Sasin Graduate School of Business Administration put a delicate and most relevant question to Robert Rubin, the US treasury secretary. She wanted his view on the possibility of the Thai government nationalising the banking system.

Naturally Rubin, who was on a regional whirlwind tour that took him to China, Malaysia, Thailand and South Korea, restrained himself from taking on the question. He cut it short by indicating that he'd rather have Tarrin Nimmanahaeminda, the Thai finance minister, handle this issue.

Earlier in his remarks to the Sasin students and faculty, Rubin made it clear that for countries in this region to return to financial stability and economic health they needed to put their banking sector on a sound footing and put an end to non-commercial lending.

''Problems of corporate indebtedness need to be effectively addressed, impediments to trade and investment need to be reduced, and the social safety net needs to be improved,'' he said.

However, Rubin did not offer any initiatives that would make life easier for Thailand and other wounded-tiger economies, save for his call for them to continue to bite the bullet by pursuing drastic economic and financial reforms.

Rubin's remarks were immediately interpreted by Dr Virabongsa Ramangkura, the former deputy prime minister in the Chavalit government, as a lack of leadership on the part of the US to confront turmoil in the region and take it out of the financial and foreign-exchange crises. Virabongsa would like the US to do something to recycle the capital back to this part of the world after its panic flight on the heels of Thailand's baht devaluation in mid-1997.

Obviously US intervention in this style or on this scale was not part of the US agenda or at least in Rubin's mind at this juncture even after his recent macho role in leading a concerted central-bank intervention to prop up the sagging yen. It was the US government's first intervention on behalf of another currency since 1992.

At this point Rubin preferred to let the market in Asia, with a little help from the International Monetary Fund and other international organisations, work its way out. His reading of the Asia crisis was that it would have minimum impact on creating a global recession.

Virabongsa did not elaborate on the priority sector for the foreign capital if it were to make a comeback. But if this question was to be put to the finance minister, Tarrin would certainly identify the banking sector, which is presently in a shambles. The problem is at the heart of the present financial and foreign-exchange crises. Failure to recapitalise the banking system to internationally accepted standards will continue to jeopardise confidence and prevent a resumption of normal bank lending.

Rubin remarked that in Japan even though interest rates have been brought down to half a per cent, banks are lending no credit. The situation is parallel to that in Thailand, where liquidity won't improve in spite of any artificial efforts to cut interest rates.

Insofar as banks, which are facing a rise in their non-performing loans, have not been established on a sound financial basis, they will downsize their operations by ceasing to extend credit. Total lending in the banking system amounts to Bt5-Bt6 trillion, so it is indeed the equivalent of the Bt5-trillion Thai economy. Presuming that this year 40 per cent of the Thai banking system is non-performing, it means that Bt2.2 trillion will become a black hole that will suck away liquidity from the Thai economy.

Any other efforts to lubricate the Thai economy will be piecemeal. For instance, there have been calls from economists, particularly Virabongsa, for Tarrin to adopt a more expansionary fiscal programme, a looser monetary policy or the injection of additional monetary base to give the domestic economy a jump-start. They have argued that if nothing is done to avert the contraction, the economy may slip into a negative growth of 8-10 per cent this year. But Tarrin won't buy this argument insofar as it does not lead to a resumption of normal bank lending.

Tarrin believes, as does the IMF, that the risk of further exchange-rate instability and upward price pressure, created by a more expansionary fiscal programme and looser monetary policy, will not be worth the effort after the country has been biting the bullet with the stabilisation economic programme for a full year.

In any economic remedies there is a big trade-off to be made. The problems in Thailand and other countries in the region have been complicated and exacerbated by the recession in Japan and the weak yen, which have threatened to send the whole region down the tubes.

The question then is: where will all the money to recapitalise the Thai banks come from? Apparently the total needed to recapitalise the Thai banking system is not to be found in Thailand. One is talking about a conservative estimate of Bt800-Bt900 billion as predicted by Standard & Poor's. If the economy keeps shrinking and leads to a consequent rise in non-performing loans to, say, 45 to 55 per cent next year, this recapitalisation amount will not be enough.

Only Thai Farmers Bank and Bangkok Bank have raised a decent amount of fresh capital; the rest of the big banks are still facing a bleak future. If they fail to recapitalise by the Bank of Thailand's schedule this year they certainly will find it difficult to avoid suffering a fate similar to the four commercial banks -- Bangkok Metropolitan Bank, Siam City Bank, First Bangkok City Bank and Bangkok Bank of Commerce -- which have already been ordered to write down their capital to the bone. Nationalising the banking system in another fell swoop is thus not unthinkable.

Another big question that lies ahead that fails to attract the debate it deserves is how Thailand will rise from the ashes. As Rubin hinted in his remarks, the banking system must end non-commercial lendings. One of the main reasons that has contributed to the present economic crisis is the cronyism that existed in the banking and finance system.

Bank loans were extended to cronies of the management or the major shareholders, disregarding professional practices and contributing to the insolvencies. There has also been rampant corruption in the banking system, which has made insolvencies even worse.

Over the next few days the police at the Economic Crime Suppression Unit will announce a long list of 40 suspects in the 56 finance companies that have been shut down. It will be a rude awakening for Thai society that the once rich and powerful financiers who lived high-profile lives are in fact thieves. If the crony capitalism or corruption in the Thai banking system is not uprooted, foreign capital won't return and the problem won't be resolved. Increasingly, the foreign investors are demanding management control over the banks in which they invest.