Baht float raises fear of regional domino effect

By K I WOO /The Nation
DATE : 09/07/1997 02:01:36

HONG KONG - The sudden de facto devaluation of the baht last week has become a major headline story in the business pages of the new Special Administrative Region of China newspapers.

The story has even supplanted new Chief Executive Tung Chee-hwa's potentially earth-shaking announcement that he is considering new measures to dampen rampant Hong Kong property speculation, moves which will in the long run unquestionably drive down sky-high property prices and depress the earnings of the SAR's property-dominated stock exchange.

While most commentators and analysts agree the Thai government's decision to float the baht is a good first step to revive the country's moribund economy, a key underlying fear in Hong Kong was the possible domino effect on the economies and currencies of other Southeast Asian countries who are suffering current account deficits, particularly the Philippines and Malaysia.

In a commentary published in the South China Morning Post , David Roche, president of Independent Strategy in Hong Kong, said central bankers throughout the region are being forced to explain why the Thai crisis will not spread to their respective countries.

He noted that Thailand's 8.2 per cent current account deficit as a proportion of gross domestic product in 1996 was similar to that of Malaysia and the Philippines. How it was financed was the crucial difference.

Thailand financed its current account deficit with short term loans mainly from Bangkok international banking facility institutions, he said.

Roche said net foreign liabilities of the Thai financial system amounted to nearly 26 per cent of GDP at the end of last year and additional foreign liabilities outside the financial system amounted to another 16 per cent. In comparison, Malaysia had foreign bank liabilities of 6 per cent of GDP and the Philippines had 7 per cent of GDP.

Although these countries' problems seem to be less serious than Thailand's, Roche nevertheless predicted they would be severely affected by the Thai government's decision to unpeg the baht.

He said Thailand's decision to float the baht and its resulting devaluation will make it more difficult and more expensive for other Asian countries to finance their current account deficits. `'Foreign lenders will now have to charge everyone else higher rates to allow for the possibility that they may also have to unpeg their exchange rates," he said.

Because foreign lenders fearing a domino effect from Thailand's decision to float its currency are left in a quandary, analysts such as Roche suggest that Asian countries will no longer find it easy and cheap to finance current account deficits with foreign loans. "Asian countries will now only be able to grow as fast as they can boost exports, which can be no faster than import growth," he said.

Roche expects GDP growth in the region will be reduced by between 1 and 1.5 per cent.

Amidst all this turmoil, Roche added that a devaluation or de facto devaluation can still be a panacea, if countries such as Thailand don't allow wage inflation to rise. "Devaluation and an end to the dollar peg would re-establish export-led growth for the region," he said.

The Thai government's bold move to float the baht hopefully reduces foreign lenders' perceptions of any future baht devaluation risk and should in the long run lead to lower interest rates.

Roche added that as soon as international markets become convinced that currencies had stopped falling, money would flow back into the economies and growth would take off. "This time, central banks in the region would be in a better position to control domestic liquidity because their quasi-fixed exchange rate with the US dollar would be gone " he said.

Roche warned however, that while devaluers such as Thailand would see their economies and equity markets improve, it would be at the expense of those who refused to follow suit.

He added that the Thai government's audacious move to float the baht probably marks the beginning of the end of East Asia's adherence to the dollar bloc.

Countries who do not follow Thailand, he warned, may be left with high interest rates and overvalued exchange rates.

However, any de facto devaluation also forces citizens to take a real pay cut. The Thai government has now taken the political risk while other countries in the region, facing similar slowing export growth, are undoubtedly pondering the political fallout from a similar solution.

In Hong Kong, many analysts are also worried that the Hong Kong economy will suffer if it maintains its peg on its dollar. "The Thai baht de facto devaluation will have some negative impacts for us in Hong Kong " said Peter Churchhouse of Morgan Stanley Inc.

Some analysts predict that if the SAR's regional trading partners devalue their currencies, the Hong Kong dollar peg would render the SAR woefully uncompetitive and saddle its corporations with high interest rates needed to defend the currency peg. `'A major risk for Hong Kong's real estate and equity markets," said Independent Strategy's Roche.

Thailand's move has set off a chain reaction among currency speculators hoping to hop onto the next fast train to riches.
The Philippine government was reported to have spent US$500 million (Bt13 billion) yesterday to defend its peso from foreign speculators.

Speculators are also reportedly attacking the Malaysian ringgit.

Earlier this week, Joseph Yam, chief executive of the Hong Kong Monetary Authority, said he doubted if any speculators would dare bet against the Hong Kong dollar. "We have foreign reserves six times greater than every Hong Kong dollar printed," he said.