Banana republic maybe, but not yet rotten fruit

According to the famous opening line of LP Hartley’s novel, “The Go Between”, the past is a foreign country where things are done differently. Substitute “central banks” for the “the past” and the analogy holds equally well. This month we’ve seen Thailand compared to a banana republic, despite arguably having one of the few remaining genuinely independent central banks, at a time when the consequences of the actions of central banks in so-called developed nations have threatened to drive the baht significantly higher or, at a whim of foreign central bankers, ultimately much lower, perhaps close to 38 to the dollar.

The problem with most central banks is that they’re not independent. This is particularly true with The US Fed, the Bank of Japan and the Bank of England. It’s much less true here in Thailand, where the central bank has been asserting its position. Yet, earlier this month, the day before the Thai central bank’s Monetary Policy Committee (MPC) met to review rates, CNBC’s Bernie Lo asked me whether Thailand has become a banana republic because of the Ministry of Finance’s “oddball” specific demand for a 50-basis point interest-rate cut.

I told Bernie that I don’t know exactly what makes a banana republic these days, but if you look at places like the UK or the US, central bankers are operating hand-in-hand with the governments there in terms of facilitating very easy policy. On the other hand, in Thailand we’ve actually had a very strong counter-balance between the Bank of Thailand (BOT), which clearly sees that its job is to stop things getting out of control, and a Ministry of Finance that is very committed to promoting growth. So if Thailand is a banana republic, it’s working much better than some of the developed economies where central banks have been rather more pliant.

Maybe Bernie isn’t familiar with Bangkok negotiating techniques – if you want 25 of anything (whether basis points or mangoes) you start by asking for 50 and generally end up at 25 after a period of haggling. That said, playing out policy-making in public, as the BOT and the ministry have tended to do, clearly isn’t working in foreign eyes. What’s more, I’m not sure that the most widely stated reasons for cutting the rate by 25 points are valid.

A weaker baht is not guaranteed to stimulate exports. The baht is a pro-cyclical currency and tends to strengthen during periods of global growth, which is when the strongest Thai export growth occurs. Thai exports are far more influenced by the health of the importing economies than by exchange rates. 

Furthermore, almost everyone seems focused on the dollar/baht cross rate. It’s also important to look at the baht’s rate against the Japanese yen, as well as the Chinese yuan. The yen is being deliberately devalued and the yuan has long been manipulated too. A client who recently returned from China remarked how cheap Big Macs are. This is significant as The Economist’s “Big Mac Index” is an informal way of measuring purchasing power parity between currencies. So either the Chinese don’t like hamburgers or the yuan is cheaper than it should be. Fast-food sales figures suggest that the Chinese do indeed like burgers, so it doesn’t appear to be the former.  

More importantly than what I think, I believe that BOT Governor Prasarn Trairatvorakul also doubts that interest rates should have been cut. However, he was undoubtedly under huge pressure to do so, and had been for some time; counter-balancing the frothy risks of the government’s stimulatory policies by encouraging a stronger baht through policies such as reverse sterilisation. Although first-quarter GDP figures may have been disappointing, Thailand is still growing at over 5 per cent year on year, and concerns about bubbles are widespread.

Luckily the foreign press didn’t witness what I did the day before the MPC meeting when Deputy Governor Pongpen Ruengvirayudh had to step in at the last minute to speak to the Joint Foreign Chambers of Commerce of Thailand because Dr Prasarn was detained in a meeting with the prime minister and Cabinet. Otherwise that would have prompted speculation about the nature of that conversation and its impact on the rate decision.

I took the opportunity to ask Pongpen about Bernie’s banana republic comments. Her view was that the governor was setting “a great example” and the MPC is trying to be a good central banker in the BOT’s 70th anniversary year by walking straight and walking tall, without paying attention to media commentary. But then again, he is her boss! That said, the comments did appear to be heartfelt.

She added that the high pace of credit growth raised the risk of the economy overheating, adding that the MPC had flagged this several times, was monitoring the situation closely, but was also aware that growth was being affected by a compression in global demand. Nevertheless, the deputy governor sees reversion back down to mean growth as healthy. She suggested that the MPC must weigh up the objectives and that interest rates were not the only tools: macro-prudential tools were also available. She sees the baht’s strength as a sign of robust growth, strong external balances and good fundamentals, stressing that any measures enacted would be designed to avoid unintended consequences.

Leaving aside the other currency crosses, what is fair value for dollar/baht exchange? I believe that direction will be driven far more by market expectations of global monetary policy than local policy. Increased monetary stimulus from China, Japan and the US in response to soft recent economic data may well see the baht move to 27.85. Longer term, a total reversal of such policies, starting with so called “tapering”, is likely to see baht weaken. In extremis, a rapid baht depreciation in such a liquidity-negative scenario could see a drop of 30 per cent to the 37.98 level. This would be brief and would be a great time to buy baht or baht-denominated assets.

The question is when? It’s hard to say, but we’re not there just yet.  

 

Paul Gambles, managing partner of MBMG International, is a regular speaker on markets, business consulting and legal issues. He is featured regularly on CNBC’s “Squawk Box”, and on Money Channel’s “News at Ten”. Paul’s regular MBMG Updates can be found at www.mbmg-group.com/mbmg/blog and he can be contacted at [email protected].