Thailand: the pitfalls of improved transparency

An unwelcome 29% increase in Thailand''s foreign debt burden shows the perils of increased transparency.

One cause of the Asian financial crisis was the paucity of reliable economic data. Inadequate information on the health of regional banking systems, and on the domestic and external leverage in AsiaÆs private sector meant that the market was unable to ôpriceö adverse trends into financial markets.

As a fuller picture of AsiaÆs fundamentals came to light in 1997 amid a wave of corporate bankruptcies and deteriorating external liquidity positions, markets were prone to overshooting as a welter of adverse news was belatedly and suddenly priced into financial markets.

Poor transparency meant that financial market trends were replaced with event shocks. One of the main benefits of the financial crisis, therefore, has been an awareness among policy makers of the need for more accurate and timely economic and financial data. Greater transparency is a clear positive for the regionÆs medium-term financial market outlook.

Over the short-term, however, the release of fresh information can provide some nasty surprises. Thailand was a recent example of this risk, following an unwelcome 29% upward revision to the countryÆs foreign debt burden, a revision that reinforces our pessimism towards the Baht.

ThailandÆs outstanding foreign debt as of March 2000 was revised to $92.23 billion (77.2% of GDP) from $72.12 billion (60.4%). While the Bank of Thailand (BoT) has been signposting an upward revision for some months, the increase was expected to be closer to $8 billion-$10 billion.

No new risks

At the outset, however, it is important to note that the new number is not in itself cause for a marked reassessment of ThailandÆs sovereign risk profile. The balance of payments data already includes the servicing of the debt that was not previously recorded in the official stock figure, and so no additional direct dollar outflows will be seen as a result of the new data.

Secondly, while ThailandÆs external liquidity position now appears substantially weaker, $32 billion worth of FX reserves (58% of short-term foreign debt), and a current account surplus forecast at 5.4% of GDP this year, are expected to preserve ThailandÆs investment grade rating for now. (Admittedly, ThailandÆs debt service ratio of 19.6% and ratio of foreign debt minus reserves to GDP of 50.6% is reflective of a sub-investment grade country, and hence there is little room for slippage in BoTÆs policy of reducing the size of the foreign debt stock, especially the short-term debt stock.)

Nevertheless, the foreign debt data supports our forecast of a weak Thai Baht. On one level, the new debt data adds fresh impetus to BoTÆs policy of enouraging corporates to retire foreign debt, even if it means increasing Baht liabilities to fund the debt repayment. Informally, BoT favours a foreign debt/GDP ratio of around 40% which, unrealistically assuming zero nominal GDP growth and a stable $/Bt, would imply a $44 billion fall in foreign debt.

Our assumption of Thai borrowing costs remaining substantially below USD borrowing costs for the next 1-2 years (the BoT is assuming sub-2.5% inflation for the next 7 years) suggests the trend towards Baht fund raising to retire dollar debt û which involves local buying of USD/THB - will continue.

This reinforces our assumption that ThailandÆs $1 billion a month current account surplus can be easily recycled. After all, in addition to foreign debt repayment, we are assuming a large capital account deficit due to weak economic growth limiting portfolio inflows (real GDP growth in 2000 is forecast at just 4.5%, despite a yawning output gap), due to inadequate bankruptcy laws limiting FDI (the 12 month rolling sum for net FDI inflows is down 40.7% y/y in March), and due to declining local yields into a G7 global tightening cycle increasing the carry cost of holding the Baht.

Easing monetary policy

On the final point, the new foreign debt data also supports our view that Thai monetary policy will ease further over the next 6-12 months, increasing capital outflows. Crucially, public sector indebtedness is rising at an alarming rate. Domestic public sector debt currently measures 64.2% of GDP (from under 10% in 1996), and the new data shows the government to be holding $36.23 billion of foreign debt or another 30.3% of GDP. 

With the government still facing large contingent liabilities in the financial system, the governmentÆs balance sheet is looking increasingly stretched given that total revenue is under 20% of GDP. This reinforces our view that the government will not rely on fiscal policy to support growth into 2001, and the current 5.5% of GDP fiscal deficit will have to be reined-in.

With a variety of structural problems weighting down on economic growth (notably a disintermediating financial system and excess capacity in urban centres), monetary policy will have to become more accomodative during the fiscal consolidation. This is particularly true since monetary conditions are already too tight with M2 falling by 0.1% y/y in May, which provides a bearish portent of future nominal GDP growth, while the lingering problems in the banking system (NPLs at 35.6% 3 years into the crisis!) demand low yields. A greater reliance of monetary reflation is clearly negative for the Baht.

The new foreign debt date therefore reinforces our current bearish view on the Baht, which we believe is established on a multi-year trend of weakness. We reiterate our long-standing forecast of buying $/Bt on dips, targeting 43.0 by year-end. Outright forward positions are favoured given that the combination of balance of payments deficits and the two-tier $/Bt market will bias the offshore forward curve towards inversion, creating periodic funding squeezes.

In terms of the Thai sovereign bond, our underweight recommendation remains intact. ThailandÆs poor external liquidity position, laggardly growth performance and limited fiscal flexibility suggest no further upgrades for at least 18-24 months. Only a lack of liquidity prevents the Thai Æ07 trading at least 50 bps wider than the Korea æ08s and Malay æ09s.

Pieter van der Schaft is an Economist at Barclays Capital in Hong Kong.

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