DOI: 10.14457/tu.the.2014.3
title: Financial policies of the Bank of Thailand (BOT) and financial development of Thailand 1962-1996

description: This thesis tests the financial development policies implemented by the Bank of Thailand (BOT) from 1962 to 1996. In particular, two questions are answered in this study: Did those policies contribute positively or negatively to financial development? If so, why did the BOT’s financial policies exhibit such effect on financial development?The first question is initially answered by relying on two theoretical frameworks. The first theory, financial intervention theory (Courakis, 1984; Demetriades and Luintel, 1996a), argues that states should impose the proper lending rate ceiling since it will lead to the expansion of financial activities in the monopoly/oligopoly market structure. The second theory, financial restraint theory (Hellmann et al., 1997), argues that states should create rents for financial institutions because the market has high risk and asymmetric information problems in the early stage of financial development. Rents retrieved from policies will lead to the development of the financial sector.However, the empirical effect of these financial policies is not always positive. A ceiling on lending rate or rent may have negative outcomes, which are contrary to the predictions of the two theories. If these situations occur, the effect of financial policies is called financial repression instead.Results show that both financial intervention and financial restraint can be the baseline framework for analyzing the effect of the BOT financial policies on financial development because the characteristics of the Thai financial sector and the BOT financial policies from 1962 to 1996 fit the important features of the two theories. In particular, the Thai financial sector can be characterized as having an oligopoly structure during the whole period of study and has had very high risk since the early 1960s. the BOT has imposed a lending rate ceiling and created rent to banks since 1960s.The Dynamic Ordinary Least Square (DOLS) is applied to test the effect of the BOT financial policies under the two theories. The results from econometric estimations suggest that the effect of the BOT financial policies on financial development took place during 1962-1996 financial repression. In particular, ceiling on lending rates and rent show the negative effect on development of Thailand’s financial sector. However, the degree of negative outcome from rent decline with time. In this regards, it can be interpreted that the negative effect of ceiling on lending rate was due to the ineffectiveness of Thai state. The negative of rent, on the other hand, cannot be explained in the same way. This thesis therefore employs Khan (2000) framework to explain why rent exhibited the negative effect on financial development with the lower degree over time. It is noteworthy that there is consistency between the econometric results and Khan’s logics. Based on Khan’s framework, highly negative effect of rent on financial development in the 1960s was occurred since the BOT provided economic rent to banks without any effective measure to force banks to invest the rent in the way that enhance financial development. Banks as a result were free to invest the given rent in activities that would benefit their business such as to maintain political and business connections. However, the political and economic changes since 1971 onwards had pressured them to spend the rent to improve efficiency and to provide better services. Moreover, the financial liberalization plan in the early1990s, imposed by the BOT was another force that changed banks’ investment choices in the same way i.e. improving efficiency which in turn resulted in financial development. As rent had been gradually spent on more desirable ways over time, it thus continually exhibited the less negative effect on financial development.