The day of the strong baht policy is over
August 11, 2000
SINCE late 1998 and for most of 1999, the baht was hovering around Bt36-Bt38 to the US dollar. It was a honeymoon period for the baht. Both Finance Minister Tarrin Nimmanahaeminda and Bank of Thailand Governor MR Chatu Mongol Sonakul came out to say that this exchange rate was good for the Thai economy. But most local economists argued that the baht then was too strong to spur Thai exports.
On July 12, 2000 the baht visibly lost its charm. It broke the Bt40 barrier for the first time in 10 months, having shed six per cent of its value in three months. It was brought down largely by the sharp slides in the Indonesian rupiah and the Philippine peso. Its weakness was also attributed to the central bank's determination to maintain its loose monetary policy to kindle the economic recovery - for if you want to keep interest rates low, you have to sacrifice the exchange rate. Now the baht is trading at around Bt41, and many believe that it will hit Bt42 before the end of the year.
Yet both Tarrin and Chatu Mongol have recently come out to comment that they are comfortable with the present foreign exchange rate, which should boost exports. They also hint that with an inflation rate below 2 per cent this year, the Thai economy can tolerate the baht at Bt42 without sacrificing growth. Deliberately or not, the top policymakers have set a benchmark for the Thai exchange rate. With this exchange target in mind, the financial markets will be looking forward to testing it, or even to breaking it. From Bt36 to Bt41 is a long way down the slope for the baht, although there have not been any significant changes in the country's economic fundamentals.
So why did the two gentlemen at the Finance Ministry and at the Bank of Thailand alter their views on the exchange rate so readily in so brief a period? Let's try to crack their thinking. For all their personal conflicts, Tarrin and Chatu Mongol share the same view on the exchange rate. They belong to the same school of thought with the International Monetary Fund, which dreads chronic external debts. Thailand's external debts hit US$109 billion in 1997 when it lost all of its foreign exchange reserves. This triggered the financial crisis. If a country keeps on shouldering heavy foreign debts, no new foreign capital flows in. Foreign creditors do not want to continue to do business with the locals.
To bring this heavy external debt load down, the Thai authorities pursued a rather strong baht policy after they had succeeded, around August 1998, in shifting their macroeconomic policies to a more expansionary mode. Just compare the baht with the Malaysian ringgit, and you'll clearly see that the baht was overvalued against its neighbour's currency. The Malaysian ringgit was, and still is, pegged at 3.8 to the dollar in this same period. During the pre-crisis, the ringgit started off at the same nominal exchange rate with the baht at 2.5.
Tarrin viewed that for every decline by Bt1 in the foreign exchange rate, the country will have to produce Bt100 billion just to stay even in terms of its external debt profile. Chatu Mongol also commented on several occasions that if the baht is kept weaker than it should be, Thai industries, most of which are still labour intensive, would not have the incentive to improve their productivity or their competitiveness.
Keeping the baht rather strong and stable also helped the central bank to quietly go into the foreign exchange markets to buy dollars to rebuild its foreign exchange reserves. Now the reserves are standing at around US$30 billion. Big corporations took advantage of the strong baht to repay their debts by refinancing them with local bonds. It was a bonanza for the big corporations.
In the meantime, Tarrin would also argue that the authorities had no intention to keep the baht strong as evidenced by the loose monetary policy at work. But if the baht were too weak, it would make imports expensive and create inflationary pressures. Under the floating exchange rate regime, it is the markets that largely determine the value of the baht. Nonetheless, the baht exchange rate was appropriate enough to create a current account surplus for Thailand, hitting US$14.3 billion in 1998, US$11.3 billion in 1999 and around US$9.6 billion this year. This current account surplus helps the country to service its external debts while capital continues to flow out of the country to service the debts.
Now that the baht has slid to below Bt40, only MR Pridiyathorn Devakula, the president of the Export and Import Bank of Thailand, has stood firm in his conviction that it would be good for the Thai economy. He has been arguing all along for the baht to remain at least at Bt40 to boost exports and deter imports. The rest of the soft-baht policy supporters have not aired their views because suddenly oil prices have risen sky-high and threaten to spur inflation.
If the baht is to get weaker, inflation will rise. Since the Bank of Thailand is committed to an inflation target of 3.5 per cent, any upward pressures on prices will force the central bank to tighten its monetary policy. The dilemma is that the central bank cannot raise its rates while the economy is recovering weakly and bad debts remain high in the banking system.
The baht's weakness, coupled with the higher oil prices, has created a series of domestic price rises. Tarrin and Chatu Mongol have exhausted their ammunition. Now you'll be hearing a lot of people complaining about the higher cost of living. The way for the baht is further downward. The day of the strong baht policy is over.
BY THANONG KHANTHONG
