As the governors of central banks in Asia met for their periodical conference in Shanghai two Friday ago, many of them were leaving battered currencies at home. Indeed, the contrast between our central banks problem of how to stop the rupee from appreciating, and what Asean currencies have been facing since the beginning of the month "" one currency after another falling victim to speculative attacks "" can hardly be starker. The developments remind one of the domino theory, a favourite of the American foreign policy establishment of the sixties and seventies. This theory was the justification for the US intervention in Vietnam "" if south Vietnam went communist, this would make it difficult for the other countries in the region to resist the onslaught of expansionary communism and they would fall, one after another, like dominoes. Or so the theory propounded.
While the domino theory fell by the wayside as the Americans retreated from Vietnam with a bloody nose, this month has been witness to a nineties version of the domino theory in the south east Asian currency markets. The first to fall was the Thai baht. Thrice this year, the Bank of Thailand had thwarted speculative pressures against the currency. It may be recalled that the turmoil in the Thai financial markets started with finance companies and banks facing a growing volume of problem loans to the property sector. Speculators attacking the currency were also encouraged by slowing export growth and a very high (eight per cent of GDP) deficit on the current account. Indeed, a slowdown in exports has been a common feature of all east Asian economies (we too experienced it in 1996-97), thanks at least partly to the dollars strength against European currencies and the Japanese yen. With most Asian currencies tied to the dollar for all practical purposes, the US currencys appreciation had eroded the competitiveness of Asian exports in European and Japanese markets.
While the stage had been set for a currency fall for some time, when the Bank of Thailand (BoT) capitulated on July 2, the move was something of a surprise. After all, it had successfully defended the parity on three separate occasions earlier in the year. Perhaps the cost had become too much. It had spent $7 to $8 billion in intervention although, even thereafter, the reserves amounted to a healthy $33 billion. But market analysts question the quality of the reserves as the bank is rumored to have sold an estimated $20 billion in the forward market, in support of the currency. If so, the BoTs capitulation is more understandable. It stopped supporting the old parity but jacked up its discount rate by two per cent to 12.5 per cent, in a bid to make short baht positions costlier. The day the exchange rate was floated, the baht slipped 16 per cent on the currency market. The BoT also suspended operations of 16 finance companies in trouble.
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The fall of the baht is reverberating across the economy. For long the corporate sector had been lulled into complacency about the exchange risk, so much so that huge amounts of dollars had been borrowed to take advantage of the lower interest rates. This was done without regard to whether the business had any natural hedge against currency fall. The 16 troubled finance companies have something like $2 billion of foreign currency loans. The remaining 75 finance companies are indebted to the extent of $5 billion, and the corporate sector owes as much as $70 billion, much of it short term. Foreign lenders are getting worried about the safety of the loans post-devaluation.
In a typical fashion, they are lobbying the central bank to help out the troubled borrowers, and threatening a drying up of international credit to Thailand should the BoT refuse to bail them out. One hopes the BoT stands firm. Surely bankers, domestic or foreign, should suffer the consequences of imprudent lending!
If commercial credit is not rolled over, Thailand will require large foreign currency resources just to keep the economy going. While no official figures have come out, analysts estimate that BoT will need up to $20 billion of additional resources. Thailand, at least so far, has refused to approach the IMF. The finance minister, however, did visit Tokyo to lobby for Japanese support; after all, Japan is the largest foreign investor in Thailand and has a lot at stake. China too may help. CITIC Pacific, its Hong Kong-based investment company, is already looking at taking over some of the finance companies. Despite Thai reluctance, at some stage an approach to the IMF may become unavoidable "" if only to restore confidence in international markets. Meanwhile, the current years growth forecast has been slashed down to 0.8 per cent "" after a decade of near-double digit GDP growth.
If the baht was the first domino to fall, the Philippino peso was the next. The story was the same: intervention, followed by jacking up of interest rates (overnight rates were increased from 15 per cent to 20, 24, 30 and finally 32 per cent). But finally, the parity had to be abandoned. The rate has fallen from 26.4 per dollar to 28.5 now. And, the story was repeated in Malaysia from 2.5250 ringgit per $ to 2.6480 ringgit now) and Indonesia (from 2430 rupiah to 2650 rupiah). Even the mighty Singapore dollar has suffered despite a surplus on current account. And last week the New Zealand dollar too came under pressure.
When will it end? Perhaps sooner rather than later. Southeast Asia is no Mexico. Domestic savings and fiscal balances are strong. And export growth is expected to resume next year. Quite possibly, the currency fall may well give a boost to competitiveness and growth "" as UK and Italy found after their ignominious exit from the exchange rate mechanism back in 1992!