aggressive rate cut signals a worsening growth outlook

Most research houses expect more rate cuts to come as the Bank of Thailand's historic 1-percentage-point cut on Wednesday signalled a dramatic move to halt the sharp economic downturn and potential deflation.

SCB Investment Research

The Bank of Thailand slashes target policy rate by 100bps [basis points] to 2.75 per cent.

This is the most aggressive move in the history of Monetary Policy Committee (MPC) and came as a surprise to the market, which had expected a reduction of 25-50bps. This could be perceived as a sign of an oncoming severe economic downturn.

More concerns on growth outlook.

The Monetary Policy Committee  cites a "greater-than-expected slowdown in growth in industrial economies", "decline in exports", and "fiscal stimulus is likely to be delayed" as reasons. It expects domestic political problems to be a drag on confidence and tourism going forward.

No concern about inflation.

Inflation dropped to 2.2 per cent in November from a peak of 9.2 per cent in July. The MPC expects lower oil and commodity prices to keep inflationary pressures low in 2009.

Since the fiscal stimulus will be delayed by the ongoing political uncertainty, we expect economic stimulus to come from the monetary side. We anticipate more bad news from economic indicators, which will lead to further rate cuts by the BOT. We expect policy rate at 1.5 per cent by mid-2009.

JPMorgan Asia-Pacific

Economic Research

The Bank of Thailand surprised the markets by lowering the 1-day repo rate 100 basis points to 2.75 per cent on Wednesday.

The move marks the first cut of the easing cycle and it comes at a time when the economy is facing considerable domestic and external headwinds. The tone of the statement was significantly more dovish than the last, and the BOT expressed an overwhelming growth bias. With the BOT showing its willingness to move aggressively, and headwinds to growth intensifying at a time when fiscal policy seems increasingly impaired, we now expect a much deeper easing cycle in Thailand. We thus are calling for another 175 basis points of easing in the first quarter, leaving the policy rate at 1.00 per cent by mid-year.

The statement was dovish from beginning to end. The BOT stated that the global financial conditions are having a greater-than-expected impact on external demand and export growth from the region and that economic activity in Thailand is slowing. In contrast to the last statement, where the authorities noted that a rise in farm income and lower inflation would boost consumers' purchasing power, the BOT this time highlighted the "substantial rise" in risks to the growth outlook.

Moreover, the BOT assessed that "political problems" are likely to have greater repercussions on economic growth than previously expected while fiscal stimulus is likely to be delayed. We recently revised our 2009 growth forecast to 2 per cent, and we highlight that risk is likely to the downside.

On the inflation front, the BOT noted that inflationary pressures throughout 2009 will likely be low as weak global demand weighs on oil and commodity prices. We agree, as domestic fuel prices have further to adjust and labour market conditions will likely weaken. We expect CPI inflation to print negative on an over-year ago basis for several months next year while core inflation will likely stay well below the BOT's 3.5 per cent.

Given the aggressive action, the dovish tone of the MPC statement, and the recent intensification of headwinds to growth, we expect the BOT to cut its policy rate 50 basis points at its next three meetings and by 25 basis points at the one thereafter. This would leave the policy rate at 1.00 per cent by mid-year.

Citi industry flash

The MPC announced an aggressive cut in policy rate by 100bps, from 3.75 per cent to 2.75 per cent, which exceeded market expectation of 25-50bps. The main reason for the aggressive rate cut was due to faster-than-expected deterioration in the economy driven by political chaos and the global economic slowdown. A deep cut has flagged deepening downside risk to growth of the economy. We view this as a strong signal from the BOT to banks to lower lending rates.

In anticipation of the deep cut, we expect a lukewarm response from the banks as they will try their best to maintain margins. We therefore expect the banks to cut interest rates asymmetrically, that is, lower deposit rates more than the lending rate.

Our economist expects another 100bps cut in the first quarter of 2009 if domestic demand contracts as a result of ineffective monetary policy (if banks do not respond consistently to policy rate) and lack of fiscal spending.