Veerathai Santiprabhob: Monetary policy and financial sector
development policy of the Bank of Thailand
Speech by Dr Veerathai Santiprabhob, Governor of the Bank of Thailand, at the Thailand
Focus 2015 "Opportunity Growth and Reform", Bangkok, 2 December 2015.
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Chairman of The Stock Exchange of Thailand,
Secretary General of The Securities and Exchange Commission,
President of The Stock Exchange of Thailand, Chairman of Phatra Securities, and
President of Asia Pacific Bank of America Merrill Lynch,
Distinguished guests, ladies and gentlemen,
A very good morning to you all.
I would like to thank The Stock Exchange of Thailand, Phatra Securities, and Bank of America
Merrill Lynch for the invitation to join this year's Thailand Focus event. I am much honored to
be addressing this prestigious group of audience, and especially investor friends of Thailand
from abroad.
The title of my talk this morning is "Monetary Policy and Financial Sector Development
Policy of the Bank of Thailand". I would like to share with you the Bank of Thailand's roles
in supporting the Thai economy as we venture ahead in the volatile world. This year, there
would be few among us who failed to notice turbulence in the financial markets worldwide. But
what probably matters more is the shifting global economic forces that lie at the heart of such
an incident.
In the first part of my talk, I will explore volatility in the context of a "new normal" world where
we observe, for instance, stagnant growth and low inflation. Then I will discuss the implications
for Thailand, before moving on to policy navigation of the Bank of Thailand.
Financial volatility has manifested itself throughout 2015. Let me briefly recap some of
them:
• Only a few months ago, the Chinese equity market recorded one-day steepest loss of
8.5 per cent and trillions of dollars were wiped off from the global equity market within
a day. The fluctuations in the Shanghai stock index perfectly exemplify the market
volatility where from the beginning of this year the index rose by 60 per cent up to
June, before collapsing to 10 per cent loss by August.
• There have also been sharp capital outflows from Emerging Markets, resulting in large
Emerging Market currency depreciations. Indeed, the Institute of International
Finance expects that capital flows to Emerging Markets will turn negative for the first
time since 1988.
• On the commodity front, Brent Crude Oil price plunged below 50 dollars per barrel
this year, having peaked at over 110 dollars just one year ago.
Against this backdrop, market participants have been increasingly concerned about investment
and business implications. So what brought about heightened volatility in the global markets?
I will attempt to answer by highlighting two key sources of volatility.
In the aftermath of the global financial crisis, unconventional monetary policies - most
notably successive rounds of Quantitative Easing - were implemented by major
advanced economies. This abundant global liquidity contributed largely to strong asset price
gains and higher risk appetites. As major central banks pursued their policy of flooding the
market with liquidity, risks had been compressed, intentionally or otherwise.
Recently though, despite ample global liquidity, investors have grown worried about
the diverging paths of monetary policy among major central banks. That is, the Federal
Reserve or the Fed is poised to begin its tightening phase while the European Central Bank,
the Bank of Japan, and the People's Bank of China are likely to continue their ongoing
monetary easing for a considerable period of time. The implications of diverging monetary
policy stance for asset markets have weighed on the minds of investors around the world. As
I shall elaborate, it is probably not the excess liquidity per se that generates turbulence and
volatility, but prospects of the exit - or reversal - that does so.
In the near future, global markets are bracing for the impacts from the Fed "lift-off",
leading to growing nervousness in the markets. Although the prospect of an interest rate
increase by the Fed has been widely anticipated ever since the taper tantrum in 2013, the
uncertainty over its timing and possible impacts has in part contributed to episodes of market
turbulence this year. After the eventual lift-off - whenever that may be - the markets will turn
their attention to the pace of monetary tightening - or rate increases. The shift in market
expectation over the pace will prompt volatility going forward.
Hopefully I have not spoilt your morning by delving too deeply into volatility. But, let me stress
this, monetary policy divergence will continue to be an underlying source of volatility
in the global and regional financial markets. However, issues in financial markets are, by
no means, disconnected from the real economy. Indeed, volatility arises from slow recovery,
and timid growth outlook for the global economy, the so-called "new normal".
Looking ahead, the global economy is expected to grow only at a subdued pace as some
major advanced economies are still grappling with the impacts of the global financial crisis and
Emerging Market economies are faced with sluggish exports. Many economists have begun
to refer to these conditions as a "new normal" for the global economy where global growth is
weak, global merchandise trade shrinks and commodity prices remain low.
An important factor behind this global dynamics may be attributed to China's attempt
to rebalance its economy, with more emphasis on domestic consumption, and less on
investment and exports. While China is undergoing its economic transition, a slowdown in its
growth rate is inevitable. The repercussions of China's transition have been quite evident on
the collapse of commodity prices, leaving many Emerging Market commodity exporters with
current account deficits and massive sharp depreciations.
Another crucial driver is the trend of "on-shoring" among major economies - leading to
a structural change in the global supply chain - where countries like the US and China seek
to source inputs domestically, rather than import intermediate goods from other countries.
Thus, even if global growth were to be robust, it is unlikely that Emerging Market export growth
would recover quite as strongly.
I would certainly be remiss if I failed to mention another potential risk in Emerging Markets
which could have impact on the real economy; that is a rapid buildup in Emerging Market
corporate indebtedness.
Ultra-loose global monetary policies have made it much easier for firms in Emerging
Markets to raise funds - or borrow - especially from abroad. However, in the wake of
tighter financial conditions, Emerging Market firms are facing greater difficulty to repay or roll
over their debt.
In summary, I have highlighted two key sources of volatility: first, continued excess liquidity
amid diverging monetary policies, along with shifting market expectations about the future path
of monetary policies; and second, the global economic transition to the "new normal" steady
state. The process is ongoing, and will probably take some time - and it may not be smooth -
before the new steady state is reached.
Ladies and gentlemen,
Against the backdrop of such a volatile "new normal" world, I will now turn to the implications
for Thailand. The impact will be realized on both our financial markets and the real economy.
However, as I shall elaborate, the Thai economy has strong buffers that will make it relatively
resilient to external shocks.
Let me start by looking at implications for the financial markets and the exchange rate.
In line with the trend of regional currencies, the Baht's recent movement has been
largely influenced by external factors. Any eminent signals of the Fed's initial hikes, or
worse-than-expected data coming out of China, would prompt capital outflows from Emerging
Markets, thereby weighing down their currency values. Significant outflows could tighten
financing conditions of domestic companies, in terms of both "cost of funds' and "availability of
funds". Such interplay of several risk factors is a challenge for business managers and
investors alike.
However, international investors, like many of you here, have been increasingly
selective in their portfolio decision. They no longer treat Emerging Markets collectively as
a single asset class, but have shown to differentiate between Emerging Markets. As such,
even though Emerging Markets may generally move in the same direction, the actual
adjustments across individual markets have been uneven. In this context, the degree of Thai
Baht depreciation ranks within the middle of the regional movements - and our currency also
closely tracks regional peers - while the level of volatility is moderate relative to peers. This
owes much to Thailand's sound external position which provides cushions from volatility in the
global financial markets, shielding the economy from any potential undesirable.
An economy with strong buffers could be likened to a car with good suspension, which
could smoothly go through a bumpy road of global financial markets volatility.
In fact, on the external stability front, Thailand performs well across several metrics.
The current account surplus is expected to top 6 per cent of GDP this year, amounting to more
than 26 billion USD. Public debt stays rather stable at around 43 per cent of GDP. Our
international reserves stand at almost 3 times of short-term debt, among the highest in the
region. The non-resident security holdings in our bond market is lower than 10 per cent, while
those in the Stock Exchange of Thailand account for around 30 per cent of market
capitalization. Such relatively low levels of non-resident participation, compared to our peers,
suggest limited exposure to future capital flight.
Corporate sector's foreign debt also accounts for just 13 per cent of total corporate debt as of
mid-2015. Moreover, most external debt is concentrated among large corporations.
These large firms tend to manage their exchange rate exposure well, by utilizing financial
hedging instruments. Careful risk management practice among Thai corporates and financial
institutions has made them much more resilient to volatile movements of the exchange rate.
The Thai banking system is also resilient, with a high level of capital buffer and stable
loan growth, despite some deterioration in loan quality. Banks have closely monitored
their customers, and have maintained a high level of loan loss provision as a buffer for bad
loans. They are also well capitalized, with the capital adequacy ratio at 17.3 per cent and
Tier1 ratio at 14.4 per cent, among the highest in Asia. This suggests that our banking system has
sufficient capital to shoulder unexpected loss, and accommodate credit expansion. In addition,
their profitability will help enhance their capital base over time.
Last but not least, inflationary pressure is stable due to a substantial fall in oil price
from last year. Headline inflation, though currently in negative territory, is expected to
gradually rise, and turn positive in 2016. Deflationary risks remain contained as demand
continues to expand, and prices of most non-energy items remain stable or trend upwards.
Such inflation trajectory is consistent with medium-term expectations of the public and the Bank
of Thailand's medium-term inflation target. Overall, the economy and our financial system
show a good sign of stability and resiliency.
Let me now turn to implications for the real economy and begin by giving you some
positive news, that is, the economy is likely to register stronger growth momentum next
year. Tourism continues to show good prospects where the number of tourist arrivals is likely
to exceed 30 million in 2016. Fiscal stimulus will continue to be a key growth driver. Public
expenditure is expected to increase by more than 200 billion Baht from this year, providing
support to the economic recovery, especially the construction sector. In the private sector,
there are signs of investment expansion in construction, telecommunications, and alternative
energy, among others.
Although we may see export contraction in 2015, there are resilient spots in certain
sectors. Exports to CLMV economies have experienced strong growth, and continue to show
great potentials from which Thailand could capitalize. In fact, the share of exports to CLMV in
our total exports is now on par with the share of our exports to the major trading partners such
as the US, Europe, and Japan. Thailand's exports to the US are also poised to become firmer
as the US economy continues to see improvement in its recovery. Our exports of vehicle parts,
electronic-appliance parts and electronics to the US have expanded in the past few months,
and are likely to continue their growth momentum in 2016 in line with the US economic
recovery.
Nevertheless, some structural limitations still weigh on long-term growth. The recovery
of the export sector will continue to be impeded by a shift in the global trade structure. Some
of our products such as apparels and garments have seen a continuing decline in
competitiveness, while some others are falling out of technological trend.
Simply put, the Thai economy is like a car whose engine is in need of an overhaul. We
need structural adjustments in growth drivers to enhance our competitiveness and sustainable
economic growth. The private sector needs to invest in new production technology, and
improve product quality in response to changes in global demand and consumer preferences.
As Mohamed A. El-Erian, then CEO of PIMCO, once said "structural challenges require
structural responses".1
In this context, we welcome many new initiatives by the government to stimulate public
and private investment and upgrade Thailand's value chain. With the introduction of
changes in the Board of Investment's criteria for investment privileges, the government has
geared up its effort in promoting high value added industries. It also announced Special
Economic Zones in order to facilitate the growing networks of production, trade, and services
initially with our neighboring countries. By expediting growth-enhancing infrastructure
development and increasing ease of doing businesses, the government also helps promote
crowding-in of private investment.
Fiscal reforms are also in the pipeline in order to boost efficiency of the public spending,
revenue collection, and other public administration. Reforms of state enterprises will also
be vital to upgrading the country's growth potential as they manage strategic assets of the
country, and account for a large share of public capital expenditure.
All in all, our car needs an engine overhaul. The government's recent initiatives form an
important part to uplift the car's engine. In the meantime, I can assure you that we have
a good suspension system to get through a bumpy road of market volatility ahead.
Ladies and gentlemen,
At this juncture - during which Thailand is going through multi-dimensional reforms - the Bank
of Thailand will do our part to safeguard stability, support the economic recovery, and facilitate
long-term structural reforms.
There are three main elements of our policy navigation that I would like to share with you this
morning.
First, the Bank of Thailand will ensure ample liquidity in the system in order to
accommodate the economic recovery. As policy normalization by the Fed is imminent, the
risk of liquidity withdrawal from Emerging Markets increases. We anticipate limited impact on
the overall Thai economy as markets have priced in the Fed's initial hike. Besides, it is widely
expected that the Fed fund rates would rise gradually from then on.
As for now, despite the slow economic growth in Thailand, the overall credit to the
private sector continues to expand at around 5 per cent. Furthermore, enterprises have
issued a sizable amount of corporate bonds, leveraging on lower yields compared to last year.
Commercial banks' liquidity position is stable. All these are indications of favorable domestic
financing conditions. Should a sudden reversal scenario occurs, the Bank of Thailand would
make sure that liquidity will not become an impediment to economic recovery.
The Bank of Thailand will also ensure that "cost of funds" is accommodative to the
ongoing recovery. The two pre-emptive cuts in the policy interest rate earlier this year, in
response to greater downside risks to growth, have eased domestic cost of funds. In addition,
low inflationary pressure gives room for monetary policy to remain accommodative. This would
ensure that the overall monetary conditions are conducive to the economic recovery.
Nevertheless, we keep a cautious eye on risks to financial stability, especially under the
prolonged low interest rate environment. Household debt, although it has stabilized, remains
high in relation to GDP. We will continue to monitor and assess the impact of the low interest
rate on the search for yield and long-term saving behavior. We are also vigilant on other
pockets of risks which may have destabilizing effects on the economy, such as those in the
real estate sector.
Let me now turn to the Bank of Thailand's plan to handle an increased volatility of foreign
exchange, which is the second element of our policy navigation.
As a matter of fact, a certain degree of foreign exchange flexibility is desirable for the
economy as it allows foreign exchange to act as a shock absorber and facilitates real
economic adjustments. With weaker outlook of growth across Emerging Market economies,
and the expected Fed's policy rate hike, many Emerging Market currencies, including the Thai
Baht, have depreciated. In case of Thailand, with relatively strong external financial position
and well-managed foreign exchange risk exposure by public and private sectors alike, the risks
from substantial foreign exchange debt exposure are currently contained. In addition, as part
of the Capital Account Liberalization Master Plan, the Bank of Thailand announced earlier this
year the relaxation of capital flows measures in a bid to promote more balanced fund flows,
and greater flexibility in the foreign exchange markets.
As the global financial markets will continue to be volatile in the near term, the Bank of
Thailand thus remains focused on mitigating short-term excessive exchange rate
volatility to cushion any impact it would have on the domestic financial conditions, and
consequently the real economy.
In the longer term, however, demand-management macroeconomic policy - be it fiscal or
monetary - cannot be used to address structural problems successfully. As such, the Bank of
Thailand is also geared towards financial sector development in order to facilitate the country's
long-term structural reforms. Financial sector development is the third element of our policy
navigation.
The Financial Sector Master Plan Phase III will aim for a "competitive, inclusive,
connected, and sustainable" financial sector. Our vision is to have a competitive Thai
financial sector which can support more diverse needs at a fair and undistorted price, promote
regional trades and investments, while maintaining safety and soundness of the economy and
the financial system. Today I hope to share with you some of the highlights and key milestones.
Five years from now, I foresee that the Thai financial landscape will look different from
today, with more digital banking and electronic payment transactions, and increased
competition from nonbanks and foreign players. The landscape will also contain innovative
fintech companies who provide alternative solutions to both service providers and users such
as data analytics, crowd funding, and product or price comparison services. Ultimately,
competition will increase financial access, and lower transaction costs to the economy as a
whole.
The Bank of Thailand will focus on the development of infrastructures and standards, while
ensuring that rules and regulations are clear and supportive of innovation and efficiency. The
new Payment Systems Act will unify all relevant regulations currently specified under different
laws and enforced by various different agencies.
In addition, the Bank of Thailand will support the government's initiatives to promote
nation-wide electronic payment system, including, for instance, the development of "Any
ID" payment infrastructure, and the promotion of debit card usage for payment and transfer of
welfare benefits.
On connectivity, the establishment of Qualified ASEAN Banks, or QABs, will allow Thai
banks to expand regionally, while welcoming foreign banks in the region to conduct
businesses in Thailand. Bilateral negotiations with several countries have been planned and I
expect some arrangements to be made by the end of next year. The Bank of Thailand will
collaborate with other central banks in the region on the promotion of local currency
settlements for trades and investments. The appointment of cross-currency dealers to act as
clearing agents for the Baht and the Ringgit should be done by the first quarter of next year,
while negotiations with other countries are ongoing.
We are conscious of the rules and regulations which may hinder the development of
regional trades and investments, and we are working carefully to remove obstacles
without compromising stability objective.
The joint initiatives by the government and the Bank of Thailand regarding treasury centers
have generated interest among large companies applying for a license. These treasury centers
can purchase or sell foreign currencies and hedging instruments for companies within their
groups, thereby aiding in foreign exchange and liquidity risk management. Multinational
companies, as well as large Thai corporations with overseas branches, could similarly benefit
from lower transaction costs and improved liquidity management. On top of the tax incentives
offered by the Board of Investment, International Headquarters established in Thailand will be
eligible to provide financial management services to their affiliated companies, once granted
the treasury center license.
Rules and regulations also need to keep up with innovations in order to ensure safety
and reliability of the financial system, and to maintain confidence of the public. To this
end, the Bank of Thailand has been given a full responsibility in the regulation and supervision
of the Specialized Financial Institutions or the SFIs, which amount for around 22 per cent of
Thai financial institutions' assets. In performing such roles, the Bank of Thailand will apply the
internationally accepted principles and standards taking into account the mission, mandate,
and current conditions of each SFI. The ultimate goal is to ensure safety, sustainability and
soundness of SFIs' operations, so that they can perform their core duties for the long-term
benefit of the Thai society.
Ladies and Gentlemen,
It is clear that the world is currently changing fast. The global economy has now entered
the new normal environment. Indeed, we expect to experience greater volatility as the world is
in transition to a new steady state.
Looking ahead, we must not fear volatility, but be mindful of associated risks and ways
to manage them. So far, with robust cushions, Thailand has fared well from external shocks
compared to other Emerging Market economies. This does not mean we can be complacent.
Our country is in need of reforms to address long-term structural problems, similar to having a
more powerful engine, enabling us to reach our destination faster. Fortunately, though, our
economy is currently equipped with strong buffers, similar to a robust suspension
system in a car, smoothing our ride through bumpy roads.
Ladies and Gentlemen,
Let me assure you that the Bank of Thailand will do our part to ensure a stable and
resilient macroeconomic landscape. We will accommodate changes, especially those in the
financial system, which will put Thailand on a stronger footing and in a more competitive
position. I am confident that Thailand will ride forward with the much more powerful engine it
deserves.
Thank you very much for your attention.