Tarisa Watanagase: What determines the future of the Thai economy?
Speech by Dr Tarisa Watanagase, Governor of the Bank of Thailand, at the British Chamber
of Commerce Luncheon Talk, Bangkok, 17 September 2008.
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Chairman Bain,
Ladies and Gentlemen,
I would like to thank Chairman Bain for inviting me once again to join this gathering of
distinguished members and guests of the British Chamber of Commerce. I look forward to
our annual get-together in this warm and friendly atmosphere and especially welcome the
opportunity to update and exchange views on the Thai economy and its outlook.
My talk today will cover three parts. First, I would like to focus on recent developments and
prospects of the Thai economy in the near term. In the second part, I will share with you my
perspectives on the important factors that I believe will determine the future of the Thai
economy. To close, I will touch on the preparations that we should be making for the future of
the Thai economy, focusing particularly on the central bank's role in achieving price stability
to support long-term growth.
Ladies and Gentlemen,
Notwithstanding news headlines, most of us are aware that the overall economic atmosphere
continues to be business-as-usual. Nevertheless, the current tension and ongoing
uncertainty on the Thai political scene has posed worries for some investors on the
prospects of the Thai economy for the rest of 2008 and 2009. Confidence has already
weakened somewhat on both consumer and business ends. Evidently, the Business
Sentiment Index or BSI, surveyed by the Bank of Thailand, which has lingered below the 50
benchmark, slid further in the past few months. In addition, tourism has been adversely
impacted by travel warnings as the Thai political developments made global news.
This latest dent on confidence has added to the list of challenges facing the economy since
the end of last year, including inflationary pressure from volatile oil and commodity prices,
tightening domestic monetary policy, as well as potentially more downside risks to global
economic growth in light of recent US economic developments.
The headline and core inflation in July rose at decade-high rates of 9.2 and 3.7 percent from
a year ago, respectively. The rising inflation largely stemmed from soaring oil prices. At their
worst, oil prices set new records almost on a daily basis, led by a combination of growing
demand for fuel of emerging markets, geopolitics of the oil-exporting countries, and the
depreciation of the US dollars. Even though, in August, headline and core inflation went
down to 6.4 and 2.7 percent, respectively, due to moderating commodity prices as well as
government measures, the risk on inflation from high and volatile commodity and oil prices
remains, particularly given the constraint in supply adjustment.
In the meantime, the risk of global economic downturn seems to have accumulated as the
bottom-out of US subprime problem is still uncertain. This has, in turn, affected the outlook
for Thai exports as the economic prospects of Thailand's major trading partners, such as
European Union and Japan, became less positive. Overall, the impact of bleaker global
economic outlook depends on the degree of decoupling from developed economies and the
consensus among central bankers over the world is that it is perhaps unrealistic to assume
that emerging economies in general will be able to decouple. Therefore, it is more an issue of
a time lag and at the present time we must wait and see when this moment of truth arrives
and what the impact will be. I believe that unless the global economy dips below what we
anticipated, the impact on the Thai economy will be manageable.
At this juncture, let me emphasize that Thailand's underlying economic fundamentals remain
sound and growth momentum on track. During the first half of 2008, the Thai economy
achieved a favourable growth rate of 5.7 percent, improving from the growth of 5.3 percent in
the second half of last year. Even though three of the four main engines of economic growth,
namely consumption, investment, and public expenditure, remained mostly subdued, the
performance of net exports was notably better-than-expected. This reflected export sector's
substantial efforts to adjust to slowing global demand by diversifying into new markets.
Meanwhile, on the supply side, agricultural production was the key growth contributor, due
mainly to an increase in crop production in response to higher market prices.
In fact, economic indicators for July showed the continued expansion on both production and
demand sides. Farm income from major crops was up by 69.5 percent from the same period
last year, due to expansion of both production and prices of paddy rice, rubber, and oil palm.
Manufacturing production also registered a satisfactory growth of 11.3 percent during the first
seven months.
On the demand side, private investment and consumption continued its recovery trend.
Exports also expanded well in line with production expansion. Meanwhile, imports
accelerated, partly in response to improvement in domestic demand. Even though this
resulted in a current account deficit, strong external stability has been reflected by high level
of international reserves and low external debt.
For the entire 2008, the central bank's July Inflation Report has projected a growth rate of
4.8-5.8 percent with a more moderate growth in the second half, in line with the global
economy. While this forecast has already taken into account a number of key risk factors,
potentially prolonged political tension and uncertainty remain a prominent one, with little
known about when and how it will unwind. This is reflected in the recent plunge in consumer
confidence index. In a pessimistic extreme scenario, the government budget disbursement
may delay if the upcoming budget process in parliament is disrupted and mega-project
investment could fall behind schedule. Prolonged disagreement could also soften domestic
demand and tourism, which would be unfortunate given that the tourism high-season is
approaching.
Having said this, I must also highlight that, by historical records, political developments had
dented confidence in the economy only in the short run. Therefore, I am optimistic that with
Thailand's economic fundamentals remaining sound, the economy will be able to maintain
growth momentum and overcome these short-run dips. In this regard, I wish to add that
political development, which sometimes breeds strain and uncertainty within the society and
economy, is not a unique phenomenon only to Thailand. Rather, it is a necessary process of
growing up for most economies.
For the past thirty years, the Thai economy has taken a good lead in development progress
building on lessons learnt from crises, while political advancement trailing behind. From 1977
to 2007, the economy in real term has grown at an average rate of 7.0 percent (excluding
1997 and 1998), facing phases of reforms and restructuring, from import substitution to
export promotion and to liberalization after the Asian financial crisis.
In the meanwhile, Thai politics has evolved more gradually than the economy. And now, it
may be time for catching up. And hopefully, out of this growing-up process, the gap between
economic and political developments will narrow and a stronger economy under a more
matured politics will emerge.
Ladies and Gentlemen,
I turn now to the second part of my talk. In the face of possible short-term dent on
confidence, it is prudent that we do not lose sight of what importantly determines the future of
the Thai economy. Sound economic fundamentals continue to provide support for favourable
growth and collective efforts should be focused on raising the economy's potential output in
order to achieve price stability and sustainable growth in the long run.
By old book, growth comes from utilization of the country's resource endowment with
available technology. However, with the advent of global economic and financial integration,
growth is no longer constrained by endowment. In today's world economy, outsourcing for
inputs abundant in other countries and exchange of technology and skills allow for lower
production costs and greater potential to grow. Potential output in this era is thus free from
conventional hindrance.
From the Bank of Thailand's latest research, the Thai economy has a potential output growth
rate of around 5.5 to 6.0 percent per year from 2008 to 2015. This is based on an
assumption that investment can grow at the same rate as the economy, and therefore, the
ratio of real gross investment to real GDP needs to increase from 22 percent today to 28
percent within the next 8 years.
Prior to 1997, Thai economy grew satisfactorily on the back of high level of investment as
well as increasing utilization of labor. During this period, sufficient capital formation allowed
for an increase in labor productivity. However, in the post crisis era, potential output gradually
declined as real investment did not fully resume its pre-crisis level, which was 31 percent of
real GDP. Meanwhile, labor productivity has been dwarfed by the lack of capital and lagged
behind the regional standard. On the overall picture of employment, Thailand has had very
low unemployment but room to increase productivity remains in the area of reducing
underemployment.
Let me discuss an example of the agricultural sector. This sector has seen a steady decline
of its share in GDP from 1980 to 2007. In contrast, its share in the country's employment
remained high, though reducing from 65 to just about 40 percent of total labor force during
the same period. Meanwhile, yield of major crops per unit area is significantly lower than
yields in other agriculture exporting countries. In fact, Foreign Agricultural Service of USDA,
estimated that Thailand produces rice yield about 430 kilos per rai compared with the world
average rice yield of 653 kilos per rai. There is thus ample room to increase productivity in
this sector through better land and water management as well as a more systematic farming.
Going forward, the problem of labor scarcity, though not unique to Thailand, will also become
more of our concern as we are moving into aging society, while population growth remains
low. Increasing productivity is therefore the solution to sustain potential growth as well as
competitiveness. And, to do so, it is crucial that we increase investment, such that there is
sufficient capital formation to facilitate productivity growth.
On this note, I am pleased to say that collective effort to increase the level of investment has
already taken place. The government campaign - "Thailand Investment Year 2008/2009" is a
spearhead project to make Thailand stand out as the investment destination for foreign
investors. The campaign's key missions include restoring investor's confidence with more
proactive marketing activities, strengthening infrastructure to accommodate for expansions,
channeling investment into strategic industries for the future, as well as improving
investment-related services.
Recently, a good feedback on the international level has been reported by the media. In the
"Doing Business 2009" survey of 181 countries by the World Bank, Thailand just ascends 6
ranks to the 13th place where investors are provided with convenience in doing business.
Thailand made key improvements in areas such as protecting investors, ease of paying
taxes, and trading across borders. Apart from these efforts to induce external capital, it is
also necessary to support investment through domestic saving promotion scheme in an
anticipation of narrowing investment-saving gap in the future. Furthermore, the ease and
coverage of financial access can also be enhanced further to facilitate efficient flow of funds.
Outside the realm of government policy, we stand to gain from a greater role of private
sector. In this regard, I would like to commend the BCC's effort throughout the years. A
programme like "Thailand Means Business 2008" which BCC will hold in both Thailand
hotspots like Bangkok and Chiang Mai, as well as abroad like England, Hong Kong, and
Singapore, is a great help for attracting foreign investment into Thailand and enhance the
country's capacity and potential.
Ladies and Gentleman,
For Thailand to achieve the goal of long-term sustainable growth, commitments have to be
made today. And, this leads to the final part of my talk.
As Governor of the central bank, I am committed to pursuing price stability and financial
stability to foster medium and long-term economic growth. On the financial stability side, I
see that the Thai banking sector has decoupled from the direct impact of the global credit
crisis. In fact, the banking sector's exposure to CDOs was only 0.3 percent of its total assets
in 2007, which was completely sold off.
On non-performing loans, the net NPL level will be one of the issues that we will be
addressing through second-phased financial sector master plan. As of end June 2008, net
NPL of the banking sector in relation to its total credit is 3.4 percent, not a terribly high level.
In addition, since the potential losses of these NPLs have already been provided for
according to IAS39, the international accounting standard, the financial implication of NPLs
on the banking sector's financial standing is very small. However, reducing NPLs further
should improve the banking sector's credit rating.
The master plan will also focus on improving competition and efficiency of banks, while also
broadening financial access to a bigger base of clientele. After the industry-hearing, we will
announce the FSMP so that market players have a clear picture of the banking sector going
forward.
On the pursuit of price stability, I wish to emphasize two points:
First, most central banks, both inflation targeter and non-inflation targeter, have their main
objective on price stability, which is well-accepted as a necessary condition for sustainable
growth. Studies show that "too loose" monetary policy for "too long" could potentially fuel
severe inflation and fail us in the pursuit of long-term growth. More importantly, it will take a
bitter-than-necessary pill to bring down inflation once its expectation persists. As an inflation
targeter, therefore, it is important that central bank can anchor inflation expectations such
that everyone believes that central bank will not tolerate high inflation which, in the long run,
can undermine economic growth.
In Thailand's case, our studies have confirmed that during the first half of 2008, actual growth
is close to potential growth, which could add on to inflationary pressure, with the real policy
rate becoming mostly negative in July 2008. Moreover, another piece of central bank
research also points out that Thailand's inflation dynamics has exhibited greater persistence.
In part, this has been because food and fuel prices, though are cost-push factors, change as
a result of structural shifts in supply and or demand. These are the rationale for the Monetary
Policy Committee to raise the policy rates by a total of 50 basis points during the past two
meetings in order to gradually withdraw the demand stimulus.
Second, monetary policy aims to create a conducive environment for consumption and
investment decisions. Through price stability and efficient allocation of resources and
finance, the economy will be able to achieve its potential growth. In this regard, it is crucial to
establish an understanding between the central bank and the government of the
laggednature of monetary policy transmission, and the need for targeting stability to effectively
anchor long-term inflation expectations.
To this end, coordinating with the fiscal authorities in setting a target aims to ensure that
monetary policy is aligned with the country's overall economic policy direction. By the end of
this year, the Bank of Thailand's Monetary Policy Committee, jointly with the Minister of
Finance, will be required to set an annual target for monetary policy for 2009. More
importantly, this understanding must also be shared with the public at large - that the only
long-term role for monetary policy is in creating an environment of price stability which would
help support sustainable economic growth.
Ladies and Gentlemen,
In raising the economy's potential output, it requires that we pay attention to our capacity. I
would like to raise two important areas of commitments that all economic participants
together can help the economy build strong capacity. These are greater energy efficiency
and advancement in education.
On the commitment to improve energy efficiency, we must reduce our dependence on
imported oil from the present net oil imports ratio to GDP of about 8 percent, which is the
highest in Asia. This can be done through investment to modernize new energy-efficient
machinery and technology used for production. Importantly, price and tax mechanisms
should foster energy saving.
As for the commitment to help upgrade education to increase labour productivity, reform in
the education system should focus on raising the standard and quality of education for future
generation of labor force. Skill specialization must be shaped to complement for Thailand's
competitiveness in the world market. Indeed, better education would also improve financial
literacy and access, which will, in turn, allow more efficient allocation of consumption and
investment.
In sum, no matter how fast the economy manages to grow, at the end it is merely numbers.
The development makes a real difference only when we are committed to building strong
fundamentals to support long-term growth to ensure that the people are really better off on a
sustained basis. Moreover, as we move toward an ageing society, fiscal policy is able to
ensure a sound social safety net system to accommodate for an increase of elder population
in the future. Meanwhile, the monetary policy takes care of price and financial stability.
Ladies and Gentlemen,
After a rather heavy presentation, I would like to end my talk on a lighter note. I trust that
during your years in Thailand, you may have come across some fortuneteller stalls packed
with worried-looking customers. In finding out what lies ahead, these customers hope that
the right thing can be done today to secure a brighter future. I believe that all of us at this
gathering are not dissimilar in trying to do the right things today for a better tomorrow.
Indeed, the pursuit to become a higher income economy is not a lone man or lone
organization journey. This ambitious goal calls for coordination and synergy of all participants
in the economy. And, with everyone's support, including all of us here in this room,
Thailand's fortune should be as bright and promising as ever.
Thank you very much for your attention.