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Outside South America, the country most haunted by the ghost of the Mexican crash is Thailand. All the signs of success coming apart at the seams are there, including a large current account deficit, a build up of short-term debt, an overvalued currency, a moribund stock market, overextended banks, a property slump and inept government. As if this wasn’t enough, journalists, analysts and academics have been busy penning articles pointing out the dangers Thailand faces. Financial meetings in London and New York have been abuzz with Thailand horror stories and many bankers with Thailand risk have flown to Bangkok to assess the situation. If Thailand was indeed on the brink of collapse, such scaremongering should have sent it over the edge. But the country has held firm and, while the problems are by no means resolved, the country’s technocrats are starting to breathe a little easier. Thailand’s civil service is noted for its cool steering of the economy during periodic crises such as military coups, political upheavals and riots. Such domestic difficulties are commonplace for an experienced Thai technocrat. But there was less confidence about whether they could prevent substantial capital flight out of liberalizing financial markets. This was the challenge that defeated Mexico. So far Thailand has fared much better and analysts are now starting to attribute the country’s economic problems to structural adjustment the malaise affecting all the Asian tigers rather than a new-style emerging markets rout. One analyst has even accused Moody’s which raised tension in September by downgrading the country’s short-term debt of getting hold of the wrong information. “There’s no way [Thailand’s short-term debt] is over 40 [billion US dollars],” says Mark Greenwood, managing director of Asia Equity Thailand. “The book-keeping has been wrong and that was not properly explained to Moody’s because they were talking to the wrong people at the BOT [Bank of Thailand].” This, says Greenwood, was because the central bank was preoccupied with the troubled Bangkok Bank of Commerce (see Euromoney October 1996, page 62) at the time of Moody’s research, and the banking supervision and statistical department were not communicating with each other properly. If this were true (Moody’s says it stands by its decision), it reflects rather poorly on BOT technocrats, whose reputation did indeed suffer during the Bangkok Bank of Commerce (BBC) debacle, when the BOT’s independence was questioned and its former governor, Vijit Supinit, came in for criticism. A more generous assessment of the Thai crisis is that BOT executives, notwithstanding the BBC affair, have handled an unstable situation with customary aplomb. Through a series of small but emphatic measures, the BOT has been acting over a long period to slow capital inflows (so cutting down the scale of any subsequent outflows), to cool overheating and credit growth, and to push Thailand very gradually towards a free-floating baht. (The contradiction between a fixed exchange rate and the need to run an independent monetary policy is at the root of Thailand’s difficulties.) Such policies have provoked the disdain of the financial community which sees them as a reversal of Thailand’s liberalization efforts. But given Thailand’s success in avoiding a shock devaluation that might have triggered a crash, this seems a small price to pay. On the edge At times things have looked very delicate and the economic situation remains serious. After a run of spectacular economic growth over the past decade, Thailand has become a victim of its own success. Inflation, at around 5.7% a year, is barely under control; export growth has weakened; and in August the current account deficit was around Bt30 billion ($1.18 billion). Despite the insistence of senior Thai bureaucrats that the problem is merely a blip, others are not so convinced. “The consensus is too optimistic in hoping everything will return to normal after just one year. Many of the problems are structural and will take three to five years of adjustment,” says a report from Kleinwort Benson, which believes the stock market has yet to hit bottom and is warning investors to steer clear or be saddled with “dead money” for a year. The stock market has been falling for most of the year, hitting a low of 905 in October. Expectations that the poorly regarded government of Banharn Silpa-arch would be replaced by a Democrat-led coalition following last month’s elections sent the index up to just over 1,000, only for it to fall back after the New Aspiration Party came in ahead. “It’s a real mess,” says Robert McMillen, managing director of investment banking at General Finance & Securities. “They will probably announce a reasonably acceptable [government] finance team, then Banharn is going to stick his nose in and I am not sure it will materialize.” Throughout the crisis the currency has been the main focus of attention. The baht is pegged to a basket of currencies whose composition is a closely guarded secret; but Morgan Stanley calculates it to be 88% US dollars, 8% yen and 4% Deutschmarks. The dollar/baht mid-rate is announced daily by the Bank of Thailand, which pledges to buy or sell unlimited amounts within a band Bt0.02 either side of the mid rate. Sporadic rumours of a baht devaluation have kept foreign investors in a state of nervousness since the Mexico crisis, but so far the Bank of Thailand has stood firm in its intention to support the currency, pouring millions of dollars into the repurchase and offshore swap markets in July and August. A potential trigger for a devaluation would be an outflow of funds. Merrill Lynch estimates there is around $24 billion of “hot” money in portfolio inflows and non-resident deposits which could be sold and would bring down the baht. But the investment bank points out that Thailand had international reserves of just under $40 billion, as at the end of July, which is a substantial buffer. In addition, Thailand’s reserves are sufficient to cover around 30 months of current account deficits, against just six months’ cover in pre-crash Mexico. But whether the reserves are sufficient in relation to Thailand’s short-term debt is a topic of debate. Moody’s downgrading of Thailand’s sovereign debt from Prime-1 to Prime-2 was based on a short-term debt figure of $41 billion. A Moody’s report said: “The downgrade reflects the country’s increased vulnerability to a financial shock through the balance of payments as a result of the very rapid and recent accumulation of short-term external debt.” The rating agency also points out that “the spill-over effects of any financial instability may also have negative implications for Thailand’s long-term foreign currency debt ratings”. Asia Equity’s Greenwood believes the situation is not as serious as Moody’s claims. He argues that while nominally the figures show $41 billion of short-term debt, the booking of part of the debt figure by BOT was inaccurate and is being re-examined. Some $9 billion of the short-term debt figure, Greenwood says, comes from Bangkok International Banking Facilities (BIBF) loans arranged by foreign branches of Thai banks. (BIBFs are offshore banking operations which enable institutions to borrow non-baht currencies overseas and lend either domestically or offshore.) This is effectively long-term debt since it is being raised as long-term money offshore but lent back into Thailand as short-term money. A further $9 billion, says Greenwood, comes from foreign bank lending, mainly by Japanese BIBFs, which involves borrowing short-term and relending long-term to Japanese companies in Thailand, replacing much of the equity which used to be booked as foreign direct investment. Greenwood puts genuine short-term debt at nearer $23 billion than $41 billion $30 billion at the outside. The BIBF is the centrepiece of Thailand’s attempts to liberalize financial markets, and management of the resulting flows has challenged the BOT. Some of its measures to rein in the economy have not earned much praise. Most recent among these have been restrictions on lending by BIBFs. The minimum loan size has been increased from $2 million to $5 million, and total domestic BIBF lending by local institutions has been capped at 7% of baht loans, with the aim of stemming short-term foreign capital inflows. Foreign BIBFs are required to match one-for-one their domestic and offshore loan extensions. The result of these measures will be increased interest rates as demand for credit intensifies, thus restoring confidence in the baht but tightening liquidity at least that is the theory. But conventional wisdom has a way of being turned on its head in Thailand. “It is hard to contemplate the future without more shocks,” says the Kleinwort Benson report. The build-up of short-term debt, predominantly through BIBFs, has been a chief cause of concern, increasing exposure to changes in international sentiment. Total foreign debt was around $83 billion at the end of 1995, of which $16.4 billion was public and $66.2 billion was private, including $23.7 billion from BIBFs. Thailand’s current problems have been worsened by financial liberalization at a time of economic slowdown. Many of the domestic institutions are just not lean enough, or lack the necessary expertise, to compete in a freer market. There is also a fundamental change affecting Thailand and many of its Asian neighbours as companies shift from cheap-labour manufacture of such goods as textiles and footwear to businesses harnessing technology, management and skilled staff. Jan Cherim, general manager at ING Barings in Bangkok, believes Thailand is facing an extended period of readjustment. “The thing that astonished me is the way in which expectations have been so bizarre about the Thai market,” he says. “In the first part of the year export growth dropped to single digits and everyone panicked as if the sky was falling in. People forget what it means. It just means exports are growing at a slightly slower rate. I’m not at all pessimistic about growth. It is about time they shifted gears, and not at all unhealthy you cannot defy gravity with these ridiculous figures for ever.” “The current economic downturn apparently caught forecasters off guard,” says Tara Siam Business Information in its latest quarterly economic review. Managing director Chesada Loha-unchit says: “All the major economic indicators clearly point to a downturn in the Thai economy and there is a chance that unless something is done quickly, it may be headed for a hard landing.” The company forecasts growth at 7.2% for this year and next, with 6.2% inflation for the full 1996 year. “It is quite clear that Thailand can no longer be complacent in taking external factors such as international capital flows and major world currency alignments for granted,” says Chesada. “The experience of the last few years has clearly shown that traditional economic policy tools, although not completely ineffective, cannot be used in the same way in an economy which has become much more open. The high interest rate policy in an environment of controlled foreign exchange risk is the most glaring contradiction.” The derivatives question One consolation is that shocks will not be magnified through derivatives. Thai banks and companies are still not using derivatives to any large extent, and the foreign banks are tending to lend offshore in US dollars, with proceeds swapped into baht, with most borrowers tending to have dollar revenue, says Goldman Sachs regional banking analyst Wanna Matanachai. However, some of the dollar borrowing is not fully hedged. “If the BOT starts to widen the currency band it could have some repercussions,” says Wanna. A number of Singapore banks are exposed to straight Thai lending, but Japanese banks account for a huge slice of BIBF lending and are the most vulnerable. Thai convertible bonds were heavily traded by foreigners offshore in the week before the election. A number have put options close to maturity that look certain to be exercised. One Thai company which appears to have prepared for the problem is listed Sino-Thai Engineering and Construction, which raised an $80 million loan recently to cover the early redemption later this year of its $80 million 10-year convertible, which was lead-managed by Jardine Fleming and Swiss Bank Corporation in 1993. The loan was arranged by the Singapore branch of HSBC Investment Bank. Companies that may not be so fortunate include troubled Somprasong Land and Bangkok Land, which have another two or three years’ breathing space on their puts. Although property companies are likely to be hardest hit, those in volatile sectors such as electronics could also be struggling. A notable exception is Alphatec, which has already made provisions to fund redemption of its bond due 1999, which is puttable next June at 111.25%. “Maybe one or two have adopted the ostrich management style, and there will be fireworks,” says Cherim of ING Barings. On the other hand, most convertible issuers are high-profile companies and if it seems they might have to default, they will go running to their main local relationship banks for help. “They will mortgage their first-born in exchange for being bailed out,” says Cherim. It is unlikely they will be able to refinance in the public markets, he says. “Price targets are a million miles off. It would be a very brave investor who did not exercise the put,” he adds. The authorities have been tinkering with financial rules and regulations for the last year and a half. Some policies have been announced and then rescinded or modified while others have never got past the ideas stage. The latest is an announcement by the central bank that as part of its new open market policy no limits will be imposed on lending growth next year. Lending growth was restricted to 21% this year, compared with 24.5% last year. Finance ministry permanent secretary Chatumongol Sonakul was quoted as saying the move was the first step towards a free-floating baht, but that would not happen until “sufficient devices” were in place. The central bank is also looking to appoint primary dealers through which to trade government securities in order to control liquidity. Ironically, it was the Mexican peso crisis which contributed to the brevity of the latest cycle in Thailand. The crisis increased emerging markets’ capital costs and focused attention on capital accounts. Since the beginning of 1995, measures to stem capital inflows to Thailand have included an increase from 2% to 7% in the reserve requirement for non-resident short-term baht bank deposits, and a similar reserve requirement for finance companies; exclusion of “non-priority” foreign currency loans in calculations of banks’ net foreign exchange positions; and a rise in the minimum capital adequacy requirement from 8% to 8.5% for commercial banks, and from 7% to 7.5% for finance companies. In the clear These policies seem to be working with BIBF out-in loans money borrowed offshore and on-lent domestically dropping by about 1% to $30.7 billion. Average monthly net inflows into non-resident baht deposits fell from $1.3 billion in the first quarter of the year to $150 million in the second quarter. A research paper by Thai broker Phatra Thanakit calls for a relaxation in exchange controls over the long term. “Given the irreversible trends of globalization and financial liberalization, it is necessary for the local financial system to withstand dramatic and frequent changes. The pressure is likely to increase when inflows are short-term in nature because of the risk of quick reversal,” says the paper. “The current exchange rate regime in which the value of the baht is pegged to the basket of currencies makes it increasingly difficult for the Bank of Thailand to effectively control domestic liquidity and money growth. In other words, it is not possible to simultaneously maintain the exchange rate and interest rate stability, while foreign capital is fully mobile. To cope with the highly volatile and mobile capital inflows, it is crucial for the exchange rate system to shift from the peg system to a more flexible exchange rate policy.” Even if Thailand has avoided a Mexico-style crash it must still face up to the poor condition of many of its banks and companies. The stock market has been adversely affected by poor third-quarter results from major companies along with continued worries about the health of the banking sector, exemplified by the BBC scandal which revealed huge bad and doubtful debts put at around Bt20 billion and brought charges of embezzlement against senior bank executives. Most of Thailand’s 15 commercial banks are believed to have serious bad debt problems, exacerbated by the close-knit, often family-oriented, nature of their operations. This leads to intra-group lending and judgments on creditworthiness that are at best unsophisticated and at worst highly questionable. The drive to report ever-increasing profits has meant provisioning has not always been as stringent as it might be. The property market has been one of the key reasons for the woes of banks and finance companies. The bottom has dropped out of a market which only two years ago looked like a licence to print money. Residential demand has dried up, and there is an oversupply of office space. “The financial system is strained by poor-quality loans made during the upswing of the present cycle in 1994-95,” says a Morgan Stanley report. “The finance companies are in worse shape than the banks because of their larger exposure to property.” Morgan Stanley puts non-performing loans at 4.1% in the second quarter for finance companies, compared with 3.9% for the whole of 1995. The ratio for banks was 7.7% in 1995, but the investment bank was unable to come up with a definitive figure for this year. The smaller banks, which lack the huge branch networks and capital base of their bigger counterparts and are under more threat from liberalization, have fared worst. But in a report entitled “Crisis? What Crisis?”, Morgan Stanley notes: “We believe the Bank of Thailand is capable of managing the problems in the financial system and avoiding a system-wide crisis. The central bank does not want banks to fail, and it has the instruments to prevent failures and the experience to manage the work-out of troubled institutions.” On all fronts, it seems, Thailand’s technocrats are managing bad situations well. But if Thailand is in the clear what is needed now are long-term measures to take account of new economic realities. The new finance minister Amnuay Viravan is a former banker. Will he go down in history as the man who freed the Thai baht? |
