Fight back against cheap capital inflows

Dr Virabongsa Ramangkura, who has the ears of the government, has come out yet again with his call for the Bank of Thailand to cut interest rates to stem capital inflows. Speaking at a Wednesday seminar, "Thailand's Economic Outlook 2013", hosted by the Thai Institute of Directors, he warned about asset price bubbles as a result of the present interest-rate policy of the Thai central bank. He suggested that the central bank slash its policy rate, now at 2.75 per cent, to narrow the gap with the US rate, and to put a lid on baht appreciation. By doing so, the Thai economy will not only gain in competitiveness from weaker exchange rates, but Thai asset prices would be spared the bubble.

Virabongsa's argument sounds rather imprudent under the present abnormal situation in global finance. Many countries - including China, Brazil, South Korea and some in the the EU - are now expressing concern over the impact of the US Federal Reserve and the Bank of Japan's ultra-easy money printing policy. They are feeling the pinch from currency appreciation, which undermines their exports. And they are trying to shield themselves from the hot money by either considering imposing capital controls or moving away from the dollar as an international reserve to gold. None of these countries are pondering a policy to cut interest rates to enter the race of competitive devaluation. They are also worried about inflation as a result of the US-determined policy to debase the dollar.

At 2.75 per cent - similar to South Korea - Thailand's policy rate is almost the lowest in Asia, compared to 3 per cent for Malaysia, 3.50 per cent for the Philippines, 5.75 per cent for Indonesia, 9 per cent for Vietnam, 8 per cent for India and 6 per cent for China. Hong Kong and Taiwan's policy rates are among the lowest in the region, at 0.50 per cent and 1.88 per cent respectively.

At the same time, the euro zone is maintaining its policy rate at 0.75 per cent, against 0.10 per cent for Japan and 0.25 per cent for the United States.

The question is: How can Thailand and other emerging-market countries match the ultra-loose monetary policy of the US and Japan at a time when they also have inflation to worry about? Thailand's inflation this year is expected to reach 4 per cent. A further cut in the interest rate would widen the negative yield.

Late last year the Hong Kong dollar came under sustained attack, although the central bank rate was around 0.50 per cent. This forced the Hong Kong authorities to defend the HK dollar from breaking through the peg. They also introduced higher property taxes to stem speculation. Singapore followed suit with tax measures to stem property market bubbles. This shows that lower rates do not guarantee a slowdown of capital inflow under abnormal global financial conditions.

In Thailand, there are signs of stock market and property bubbles. The SET index surged almost 37 per cent last year. Property developers are announcing billions and billions worth of new projects, whose prices are getting way beyond the affordability of salary earners.

Strangely enough, the Thai authorities have yet to issue any complaints to the US Fed and Bank of Japan over their quantative easing (QE), or isuue serious warnings about asset price bubbles.

With the US economy contracting by 0.1 per cent in the fourth quarter of 2012, the Fed will be determined to continue its money printing through asset purchase to the tune of US$85 billion a month. The new government of Japan under Shinzo Abe is also determined to force the yen down in a hurry to boost Japanese exports. As a result, banks and money managers are borrowing cheap dollars or yen to speculate in global assets. They are creating asset bubbles unseen in the history of modern finance.

Emerging-market countries like Thailand will have no choice but to defend themselves against this currency war. Cutting the interest rate to counter capital inflows will prove futile. The only way to counter the onslaught of hot money is to introduce capital controls in the short and medium term and to create a new regional financial architecture in the longer run.

Capital controls can be implemented by slapping on a higher withholding tax for short-term money invested in the bond market, or higher taxes on property transactions. And it is long overdue for the government to introduce capital gains tax on the stock market. Stock investors have reaped enough profits from the Thai stock market. They have never paid any taxes.

QE will undermine the US dollar as the global reserve currency. Asia should be looking forward to creating a regional financial architecture to diversify away from the risks of sharp US dollar devaluation, which hurts its foreign reserves holdings. In this context, increasing the role of gold and the Chinese yuan in theregion should be a good starting point.