"Who should do what to curb volatile baht?"

After several tireless attempts by concerned parties, the strengthening baht has started to stabilise. The value of the baht is not getting stronger - but not promising to fall back to the Bt34 level last month. At least we can be content that it will not strengthen beyond Bt33 this time around.

When the baht strengthened from the 34 to 33 level, I was very alarmed by the possibility that it might stretch to Bt32 - which would reduce the competitiveness of Thai exports against Asian competitors. During this period, a number of economists came out to emphasise that the stronger baht would damage Thai competitiveness and accused that the Bank of Thailand (BOT) of not doing enough to stabilise the baht.

Some of them said that to raise competitiveness of Thai exports, the baht should weaken to Bt36/ against the US dollar. Some even sarcastically suggested the revocation of the 30 per cent capital reserve rule, although being fully aware that without this rule, the baht would strengthen to levels as high as in the offshore market.

Thai industry leaders and the Chamber of Commerce suggested modification to the regulations which were worthy of note. However, no one has yet identified how the suggested measures can alleviate this currency crisis. Certain economists advised the government to urge state enterprises to pre-pay their foreign currency loans, which would increase outflow of foreign currency and ease pressure on the baht, resulting in stability or weakening of the currency if pre-payments are massive enough.

I write this article with three main purposes. Firstly, I would like to put in plain words how and when the BOT intervention measure will be effective and when it will be futile. Secondly, I would like to illustrate the appropriate exchange rate that would make Thai exports remain competitive. Lastly, I would like to pinpoint the suggested measures that have been the most effective in my view what has been done by whom that has effectively stabilised the baht.

First, allow me to explain a certain principle. Technically, the value of the baht would strengthen when the supply of dollars in the foreign exchange market is more than its demand. Trade surplus would provide excessive supply of dollars into the market. Also, when there is more capital inflow than capital outflow, the net capital inflow will be sold in the market. These two excesses will strengthen the baht value should no one purchase the excessive dollars. Therefore, when the country experiences a trade surplus and net capital inflow, the BOT could simply handle the currency situation by purchasing the excessive dollars. However, in the real world, it is not as easy. At times, the import-export sector's confidence in the currency becomes a more important factor affecting the value of the baht. When there is speculation of a stronger baht, exporters will hurriedly sell their dollars while importers will prolong their dollar payments in the hope of some exchange profit. Each month, the export value is higher than that of imports by not more than 1,000 million US dollars. In a normal situation, therefore, the excessive amount that the BOT has to handle is only around 1,000 million US dollars, which the BOT can mange conveniently. However, when the market reflects on a stronger baht, exporters swiftly sell and importers delay their purchases. Subsequently, the excessive dollars increase rapidly - so much so that it is impossible to drain them in a short period of time. The baht, as a result, becomes stronger.

The above scenario occurred twice this year. In early March when there was a new minister of finance, the business community misunderstood that the newcomer would revoke the preventive 30 per cent reserve measure, which would result in a strong baht. Exporters therefore rashly sold the dollar proceeds of that month as well of the following 2-3 months. (As much as $10,000 per month). To make the situation worse, importers prolonged their selling. The value of Bt35 Baht/US dollar strengthened to around Bt34 in a few days even when the BOT had absorbed quite a lot. The other case occurred in the last 2-3 weeks when the exchange rate was stronger due to the unusual speed of the dollar capital inflows. As a consequence, exporters were worried the baht would become even stronger so they rushed to sell dollars, which worsened the situation. The baht strengthened to around 33. The BOT could easily absorb the excessive amount in normal circumstances.

The second concern is about the appropriate exchange rate that will help maintain export competitiveness. It is well understood that the main cause of strong Asian currencies was the shift of dollar funds from US capital markets to Asian markets. Therefore, the reference point to compare exchange rates for the purpose of maintaining our competitiveness should be the time when the shift occurred. Many Thai economists commented that since the beginning of 2006, the baht had risen 22.6 per cent, which was much stronger than other regional currencies. However, in my opinion, the comparison from the beginning of 2006 is not be accurate. At the time when I was the BOT governor, I closely monitored the situation and found that the dollar capital started flowing massively into Asian countries since the end of 2004. However, in the first half of 2005, Thailand was just recovering from the tsunami. The dollar, thus, flew into other Asian countries but not Thailand. The result was that other Asian currencies strengthened while the baht weakened. Thai exporters at that time benefited from the situation. Therefore, there was no urge for them to adjust to the market mechanism. Until the beginning of 2006, the dollar inflows to Asia turned to Thailand at a more rapid rate than any other countries; the baht value then moved up rapidly. Compared to exchange rates at the beginning of 2005 the stronger baht in the first half of 2006 was still behind currencies of other Asian countries. The country's competitiveness had not been affected.

Since the end of 2004 until the end of June 2006, the baht had risen only 2.21 per cent (appreciation against the dollar), which was not stronger than those of other regional currencies.

From the end of 2004 until the end of 2006, the baht had risen only 8.38 per cent, much less than the currencies of Korea, the Philippines, and a little bit higher than those of China, Singapore and Malaysia.

Only later that the rush sale of US Dollar as a result of uneasiness of Thai exporters toward the change of Finance Minister at the beginning of March and toward the rapid capital inflow at the beginning of July did strengthen the Baht up to the point that affected the country's competitiveness. As shown in column 11, though Thai Baht now has strengthened at the rate a little less than those of Philippines Peso, the rate was considering high in comparison to those of the rest. It is high time we curbed strengthening Baht and if we could even bring it down to level which is weaker than 33 Baht, it would much help improve the competitiveness of our exporters. However, it is not needed to fall to 36 Baht/ Dollar as some economists cited. If it touched upon that level, Thai exporters would enjoy the windfall and do not feel the urge to seriously adjust themselves to become competitive, as it was the case in 2005. Considering the value of other Asian currencies at this moment, keeping the Baht at around 34-35 would be enough to compete and, at the same time, deliver the message for exporters not to be complacent and to adjust themselves for the future change.

The next question in light would be that what measure would really be effective in preventing the Baht to strengthen and if it is possible, how to make it weak to the level of 34-35 Baht smoothly and effectively. The monetary measures that business leaders have proposed to the Ministry of Finance and the BOT are practical in terms of reducing the pressure to sell export proceed in US Dollar. It also widens the opportunity for local investors to buy US Dollar for investing in securities overseas thus increases the demand for US Dollar. Consequently, the US Dollar would become stronger while the Baht would be weaker. However, one can argue that, this opportunity might not be attention-grabbing for Thai investors as in time of weakening US Dollar as currently, those consider investing in US Dollar assets might feel that their investment might devalue and run losses. This measure might not be effective for the time being but will become constructive when the global market is stable later on. Moreover, there will be no guarantee that the exporters would be interested in taking advantage of other measures i.e. the permission for exporters to hold US Dollar. In case the exporters are guarded against the stronger Baht, they will definitely accelerate their sell as witnessed twice this year. The proposed measure which I found most beneficial now is the one that encourages state enterprises to prepay foreign-currency loans as it will urge immediate purchase of US Dollar in high amount. This would generate the sudden effect and if the purchase is excessive enough, it might even avert the appreciation of Baht. Two leading economists suggested these similar measures and called for the Government decision.

As I have been monitoring this situation with high concern, I am well informed of the Government movement in handling the currency crisis. The BOT agreed with the measure to encourage state enterprises to prepay foreign-currency loans and also proposed the same to the Ministry of Finance. This measure is considered not having negative effect to the stock markets as well as the other sectors of economy. If everything goes well, the stronger medicine which might affect the stock exchange will not be needed. However, in the meeting with Ministers at the Ministry of Finance last week (before 14 July) and again at the Government House on 16 July, the answer received showed the reluctance to urge the state-enterprise to follow. It was very disturbing to me to have heard. Keeping distance from the problem does not really prevent your hands from dirt. Nothing will be more right and proper than being Minister asking state enterprises to follow suit for the country's benefit. These state enterprises drew down the loans at the time when the rates were 39, 38, 37 or 36 Baht/ US Dollar accordingly. Paying back loans when the current rate is at 33.50 will definitely be profitable. No other suitable time to raise the issue up. Being very annoyed, I raised this prepay issue up when I ran into Khun Sommai Phasee, the Deputy Finance Minister in a social gathering on 17 July 2007. I got a glimpse that he did understand it well but awaiting the policy. I gave him confidence that directly overseeing the Public Debt Management Office, he had full authority to proceed before the rate reached 32 Baht. I have learnt later that Khun Sommai moved forward the very next day (18 July). He was the one who announced the loan prepayment to the public as witnessed in the evening news that same day and morning headlines the next day (19 July). The market responded well to the news of 2,180 Million US Dollar state enterprise prepayment by the slight weakening Baht. I do believe that if we dig deeper, we could do more in this direction.

Allow me to add one more paragraph here regarding the measure proposed by private sector. I see that one measure was not brought up. Actually, there are ways of settling the import payment; to pay at sight or to take the credit of up to 180 days under the trust arrangement with the banks. The latter has an effect of delaying the payment in US Dollar. The private sector can help alleviate the problem by encouraging importers to settle the import payment at sight instead of the extension of the USD payment. I personally do not have figures in hand but I strongly believe that the amount of imports that enjoy this financial flexibility is as vast as thousands of million US Dollar. This particular measure will be more effective to accomplish the weakening of the Baht than the measure that loosen the period of holding foreign currency of the exporters.

To bring you to a close, after the Ministry of Finance has persuaded state enterprises to prepay foreign currency loans, the foreign exchange became stabilized. The chance of the Baht getting stronger has subsided. If Finance Ministry makes a move for the bigger amount of prepayment and the BOT together with Bankers' Association jointly determine the measure for importers to pay at sight, the Baht will possibly depreciate against US Dollar. Moreover, maintaining a good dialogue between the BOT and private sector will reduce the chance of businessmen being easily alarmed and the chance of them rush sale US Dollar, whenever such excessive capital inflow ever occurs again.

By M.R. Pridiyathorn Devakula