Moody's welcomes BOT's new inflation regime

However, the rating agency, in a report on "Headline Inflation Target Will Not Affect Sovereign Credit Profile", noted that the move will not affect Thailand's sovereign credit profile, because even under the current system price stability was high and inflation expectations well anchored.

"The planned change, if enacted in early 2015, would open some room for a further interest rate cut. Headline inflation has trended down more sharply than core inflation, reaching the lower band of the planned target range of 1.5 per cent year-on-year in October, down from 2.6 per cent in May. Core inflation has remained unchanged at 1.7 per cent over the same period," it said.

The BOT proposed a 2015 target for average annual headline inflation of 3.0 per cent, plus or minus 1.5 percentage points, in the minutes of its September Monetary Policy Committee meeting . Currently, the central bank targets average quarterly core inflation to stay within 0.5-3.0 per cent. The rationale was that it would be easier for the general public to understand and a better reflection of living costs. It also noted that a 3.0 per cent target was broadly in line with Thailand's trading partners, and so would help the country to remain competitive. In addition, BOT expects economic conditions in 2015 to be favourable for a transition, because inflationary pressure from commodity prices will remain subdued. Six central banks in Asia Pacific target headline inflation, namely those in Australia, Indonesia, Korea, New Zealand and the Philippines. 

Finance Minister Sommai Phasee on November 11 announced that he approved the proposal.

Moody's viewed that under the current system, Thailand's inflation performance has supported its assessment of strong policy credibility. Since inflation targeting was introduced in 2000, core inflation rates have stayed within the BOT's target range for most of the time, and never crossed the upper band, which has helped to maintain comparatively low and stable government funding costs.

"Under the proposed new regime, occasional breaches of the upper limit by monthly headline inflation are more likely. For instance, inflation rates reached more than 9 per cent year-on-year in July 2008 and were above 4.5 per cent for 12 months between July 2005 and June 2006. But on an annual basis, headline inflation would have exceeded the upper limit only three times."

Over the last ten years, annual yearend inflation rates have averaged 3.1 per cent, broadly in line with the average median of 3.0 per cent for economies of which sovereign ratings are "A", and much lower than the Baa-rated median of 4.8 per cent. Thailand's inflation volatility is also relatively low, at 1.3 per cent over the past decade, putting it within the top third of rated sovereigns on this measure.

"Considering this historical evidence, we are not concerned that the shift from core to headline inflation targeting would alter BOT's strong track record of maintaining price stability. Furthermore, the government has an interest in keeping inflation rates low and stable, given the 10-year inflation linked bond issued in 2011, which is indexed to headline inflation."