For the Thai private sector, foreign loans are nothing to fear

The financial crash in 1997 led to a huge shift in sentiment. Years of austerity and slow recovery led to a much more cautious mindset, both by the government and by the private sector. 

One aspect of that mindset is a much more sceptical view towards foreign currency debt. The boom had been helped by large inflows of foreign funds. The bust had been driven by outflows of those funds – a rapid de-leveraging process that devastated the economy. 

Is there a risk of something similar happening again? After all, interest rates in the major economies (the US, euro zone, and Japan) are near all-time lows. Central banks in the developed world have been printing money – and all that money is sloshing around the global financial system, looking for places to go to. 

There are risks with foreign currency loans, but many opportunities as well. And Thai businesses at the moment are much better positioned to potentially benefit from cheap international funds, compared to back in the 1990s. 

The structure of local financial markets has changed a lot. In the 1990s, dollar interest rates were much lower than baht interest rates, while the exchange rate between the two currencies was fixed. That led to huge arbitrage opportunities – everyone was incentivised to borrow cheaply in dollars, and invest in baht. 

Thai authorities at the time wanted to promote Bangkok as a financial hub. Banking regulations were relaxed to promote loan inflows, by allowing banks to set up “International Banking Facilities”. Dollar loans became widely available for the first time, even to smaller local companies.  

They took full advantage. Soon, local investment increased by too much. As opportunities dried up, an increasing amount of funds went into unproductive sectors such as real estate. Investment expenditures made up more than 40 per cent of GDP. Asset bubbles were created, and would eventually burst.  

Due to confidence in the fixed exchange rate regime, most of those dollar loans were unhedged. (This point is always difficult to explain to those who were not there at the time! Suffice it to say that hindsight makes fools of us all.) When the central bank was forced to float the currency in mid-1997, the baht depreciated sharply – meaning that outstanding loan amounts on local balance sheets were suddenly much larger and much more difficult for corporates to repay. 

Thai regulators, investors and companies have all learnt many lessons from that time.  

The baht has been floating for nearly 15 years, with the dollar-baht exchange rate ranging very widely from above 50 to below 30 during that time. The Thai private sector is now well aware of the need to manage and hedge foreign currency exposures. 

There is also a big shift in the use of foreign currency loans. Whereas before, the loans were driven by interest rate arbitrage and used for local purposes, today more and more corporates need foreign currencies for their international business operations. This may be due to large-scale import requirements, or for the increasing number of Thai investments outside the country. 

The internationalisation of Thai corporates has been a clear trend in the past few years, with many well-known companies ramping up their activities in other countries. This trend will probably accelerate, as the private sector prepares for the Asean Economic Community launch in 2015. 

To support their competitiveness, it is important for Thai corporates to have access to cheap foreign currency funding, appropriate hedging instruments, and efficient cash management systems. The local banking sector therefore has a clear role to play in supporting this new environment. 

Foreign debt was one of the causes of the 1997 crisis, but today it can be one of the drivers of success for Thai corporates in an increasingly globalised and complex world. 

 

Parson Singha is chief markets strategist, Global Markets Department, HSBC Thailand.