Experiencing appreciation in peso, Manila looks to curb fund flows
The Bank of Thailand is under heavy pressure to weaken the baht, either by slowing down foreign-capital inflows through interest-rate cuts or slamming on the brakes through capital controls. Last year, net inflows hit US$11.49 billion (Bt342.6 billion), helping to push the baht past the 31-per-dollar level.
“The government could announce that foreign funds brought in since January 1 would be kept in the country for some time,” Ammar Siamwalla, professor emeritus of the Thailand Development Research Institute, said yesterday.
He favours capital controls, as lower interest rates alone may not be effective enough to stem inflows and prevent asset bubbles. A lower policy rate could also put pressure on inflation, which is on an uptrend from higher domestic consumption. And promoting overseas investment is like exporting long-term funds, while short-term funds are imported.
Echoing Bank of Thailand chairman Virabongsa Ramangkura, Finance Minister Kittiratt Na-Ranong said he favoured a policy-rate cut to match historically low interest rates in the United States and Japan, but left it to the central bank to make the decision.
Central bank Governor Prasarn Trairatvorakul was noncommittal, saying that keeping the rate low for a long time could create problems including asset bubbles.
“Interest rates must respond to economic fundamentals. The Thai economy is expanding well, compared with the US and Japan, with low unemployment and high loan growth and investment. These factors must be taken into account.
“In 2008, the US lowered its rate and kept it low for some time. This could lead to bubbles, and the bubbles will burst when interest rates are raised,” Prasarn said.
The BOT revealed that in December alone, Thailand witnessed net capital inflows of $2.2 billion, partly due to short-term borrowing of foreign-bank branches in Thailand and portfolio investment. Economists say the central bank is biased towards natural appreciation of the baht, with as little intervention as possible, as long as the dollar/baht movement is in line with regional movements.
Phacharaphot Nuntramas, senior economist of Siam Commercial Bank’s Economic Intelligence Centre (EIC), said the BOT should take the current opportunity of low inflationary pressure and a slowing global economy to cut the policy rate in the first half of this year. It should trim the 2.75-per-cent rate by 0.25 percentage point this month and another 0.25 point in April. If the rate is lowered to 2.25 per cent, that would be enough to maintain economic stability during the second half, he said.
Since early this year, the baht has gained more than other regional currencies, appreciating 2.7 per cent against the dollar, while South Korea’s won dipped 2 per cent and the Philippine peso rose 1 per cent. The baht is surging towards 29.50 against the dollar late this year, Phacharaphot said.
Huge inflows are also hitting other Asean countries. In the Philippines, since mid-2010, the capital account has been much more substantial, with net inflows averaging $1.3 billion per quarter from $300 million before the global financial crisis in 2008. The bulk of these flows are portfolio investments, and the latest readings of high-frequency indicators suggest that this was sustained into late last year.
A report by Moody's Investors Service, completed after its analysts’ visit to Manila, shed some light on what the Central Bank of the Philippines was doing with the inflows that have pushed up the peso by 5.5 per cent in the past 12 months.
“Managing these capital flows remains a priority for BSP,” or Bangko Sentral ng Pilipinas, the report said. “By contrast, inflows of foreign direct investment remain fairly limited (more on this later) and this, in our view, is partly fuelling the central bank’s concerns over the short-term nature of capital flows. Combined with the current-account surplus, strong capital flows have led to peso appreciating by nearly 6 per cent on an REER [real effective exchange rate] basis – one of the region’s strongest performers.”
As in Thailand, both the Philippine government and the export sector have become increasingly vocal about the potential for deterioration in external competitiveness. Philippine central bank governor Amando Tetangco said on Wednesday he was weighing more curbs on fund flows, as the inflows include a “speculative” sum going to the equity and bond markets. Besides financial assets, the real-estate sector is also believed to be attracting these flows.
According to Moody’s economists, the response so far has been a combination of macro-prudential measures, which include more regulations in the non-depository forward (NDF) markets and higher capital charges. In the real-estate market, the central bank is closely monitoring developments and has asked banks to declare their exposures using a broader definition of mortgage lending.
Like the Thai central bank, the BSP has reiterated that it has the tools to mitigate speculative flows and will not hesitate to use them as necessary. Existing macro-prudential policies could be tightened and implemented more aggressively. It is in consultation with banks through the Bankers Association of the Philippines in further regulating the NDF markets.
The other measures in consideration that have also been mentioned in the press are imposing holding periods and reserve requirements on certain trust instruments.
“These are just some examples, and given the range of tools, it is difficult to forecast exactly which measures will be implemented next – indeed, it is not clear whether the implementation of any these is already imminent,” Moody’s said. “It is, however, clear that discussions at BSP (both at the technical and the monetary board level) are now held on a more regular basis. This should be reassuring as it allows a timely implementation of a policy option that has already been studied carefully.”
Moody’s analysts said last week’s adjustment on special deposit accounts (SDA) demonstrated further preference against draconian policies. This decision came as the central bank incurred losses of 78.4 billion pesos (Bt57.5 billion) during the first 10 months of 2012, about three times the losses of the previous year, from foreign-exchange options, and interest costs on deposits including SDAs.
More drastic capital controls are part of the discussions, but Moody’s analysts continue to think “this is not the preferred option given the questions of effectiveness, and more importantly, the concerns over negative market reactions and the impact on longer-term policy perceptions”.
In 2006, Thailand imposed capital controls, which did not stem the appreciation of the baht during the 14-month period. The currency appreciated by about 14 per cent during the period and in spite of this appreciation, exports rose by more than 30 per cent in 2007.
Yet the measure, which required 30 per cent of all foreign-capital inflows to be deposited with the central bank for a year without interest, triggered a 15-per-cent one-day sell-off in the stock market – the biggest one-day drop in its history. This wiped out $22 billion in market value and caused other emerging markets also suddenly to swoon.
Moody’s expects the peso to appreciate further given more inflows. “From a competitiveness standpoint, we believe BSP views the appreciation as a reflection of an economy with strengthening fundamentals that should, in turn, partly counter any decline in external competitiveness. As deputy governor [Diwa] Guinigundo emphasised in a recent editorial, ‘… frail domestic industries and diminished competitiveness are not exactly due to the strong peso’.
“We believe forex interventions will continue to be aimed at reducing volatility, instead of reversing the trend appreciation,” the economists said.
The peso is expected to rise to 39.0 by end-2013 and 38.2 by end-2014.