On March 16, the Federal Open Market Committee (FOMC), the US equivalent of Thailand's Monetary Policy Committee, raised its policy interest rate (Fed Funds Rate) by 25 basis points from 0.00%-0.25% to 0.25%-0.50% to tame rising inflation.
On April 21, Fed Chairman Jerome Powell said the central bank is committed to raising rates "expeditiously" to bring inflation down. He added: "It's absolutely essential to restore price stability." Most US analysts agree the Fed is likely to raise interest rates six more times this year, bringing the end-year Fed Funds rates to 2.5% to 3.5%.
After the US raised interest rates, the Bank of Japan decided to maintain its negative interest policy at -0.1% and confirmed its commitment to buy an unlimited amount of bonds to support domestic liquidity.
The Japanese yen has lost 10% of its value since March 16. Deep currency depreciation is one of the prices Japan has paid for not following US interest movements. The 10% currency depreciation will mean that Japanese consumers have to pay 10% extra for already high-priced imported products such as gasoline. This could push Japan's ultra-low inflation rate of 1.2% (March 2022) beyond 3.0%, which is unacceptably high for Japan's economy.
The Thai Monetary Policy Committee shared a similar view as the Bank of Japan by maintaining local interest rates to support economic growth. The price that the Thai economy has already paid is a 3.0% depreciation of the baht and a US$8.72 billion (299.2 billion baht) loss of foreign exchange reserves (also called international reserves).
If the Bank of Thailand did not intervene in the market by selling dollars from its reserves, the baht might have depreciated no less than the Japanese yen has.
The editor once asked me how could I be sure that the Bank of Thailand has intervened in the exchange market to shore up the currency value. This is an easy question to answer for an economist, especially one with IMF working experience. I observe changes in international reserves, where data is available on a weekly basis. If the reserves recede, it can only mean that the Bank of Thailand has sold its own foreign exchange holdings to lower market-determined prices.
Thanks to the Bank of Thailand's rich and up-to-date data reporting, I am able to write with 100% accuracy about weekly currency intervention activities. Let me summarise: in the past 12 months, the Bank of Thailand might have used $16.5 billion to support the value of the baht.
Without such interventions over the year, we could have seen a baht/dollar exchange rate above 40 baht per US dollar. Strictly speaking, depleting $16.5 billion, averaging $1.375 billion per month, from Thailand's $250.4 billion net international reserves is nothing to worry about. According to IMF standards, Thailand needs merely $100 billion of international reserves to be comfortable.
The problem came after Thailand failed to follow the US interest rate hike. Last month alone, Thailand was believed to have lost more than $8 billion in reserves. Interest rate disparity quickly drives money out of Thailand.
As of May 2, the US five-year government bond yield was 2.92% per annum while the similar-termed Thai government bond yield was 2.33% per annum. Unwise investors who prefer Thai government bonds make 25.3% less money than those holding US government bonds, not to mention the potential upside gain from dollar appreciation. If the Thai Monetary Policy Committee does not change its stand on interest rate policy, Thailand could run into a financial crisis similar to the crisis of 1997.
The next FOMC meeting was set for May 3-4 and another rate hike is almost certain. The question is how much? Twenty-five, or 50 basis points? The sentiment leans towards 50 basis points. Therefore, should we expect another large outflow of capital from Thailand in May?
A more interesting question is whether money will keep flowing out of Thailand, in large volumes, until we hit a crisis like Tom Yum Kung in 1997.
Optimistic economists will have two arguments on this issue. First, with current gross international reserves of $233.9 billion, a crisis is most unlikely to happen.
Even if it lost half of those reserves, Thailand would still be okay. Second, foreign investors hold no more than 1.5 trillion baht (US$45 billion) of investments in Thai money and capital markets. Even if all of these investments left Thailand, the country would still be okay.
But there are two big misunderstandings on the issue. First, it's not only foreign money that leaves Thailand. When money exits Thailand to seek better returns elsewhere, it does not necessarily belong only to foreign investors. Thai investors can freely move their investment abroad or invest through Foreign Investment Funds issued by local asset management companies. All investors, Thai or foreign, share a common principle -- seeking the best possible return at the lowest possible risk.
Second, the 2022 crisis (if it happens) will not be an international reserves crisis arising from inadequate reserves, but it will be a liquidity crisis arising from inadequate domestic liquidity. Before investors, Thai or foreign, can shift their investment abroad, they have to sell their Thai baht-dominated investment or make cash withdrawals from domestic banks first. Such actions would cause a corresponding reduction in domestic liquidity.
Let me tell you that there is a total of 15 trillion baht invested in the Thai bond/debenture market. If only 10-20% of that amount were to leave the country to find higher yield elsewhere, the country would run into a liquidity crisis. Those who lived through the crisis of 1997 understand the great pains of inadequate liquidity well. Commercial banks would scramble to raise deposits to make up for unexpected withdrawals.
Liquidity (deposit) wars would drive interest rates through the roof. Then, half the borrowers would be in default as they are unable to service debt. The economy would then go into depression. It is simply a repetition of the Tum Yum Kung crisis story.
What happens if the Bank of Thailand injects liquidity into the system to replace outflow money? Thailand will end up like Turkey. The central bank of Turkey keeps the domestic interest rate at 14% by injecting liquidity into the monetary system despite massive capital outflows. As of March, Turkey's inflation rate was 61% and the Turkish lira has lost 80% of its value.
Being a member of the international community with an open capital market, I really do not think the Thai Monetary Policy Committee has a better option than following US interest rate movements.
