New Bank of Thailand (BOT) governor
Pridiyathorn Devakula spoke in very clear and direct terms yesterday
on the dramatic reversal in the central bank’s monetary policy.
The main thrust of his policy was that the central bank in the
short-term will need to increase both interbank rates and foreign
reserves to reduce rate distortions and deter capital outflows.
Pridiyathorn argues that if banks have the opportunity to make
bigger profits from interbank lending, either loans rates would
be eased or deposit rates increased.
We have never seen such an abrupt
change in monetary policy before, nor have we seen such widespread
disagreement from the entire financial community. Our own position
is clear; we believe the government is barking up the wrong tree
by forcing up interest rates at a time when most sectors of the
economy are struggling and the financial system is awash with
excess liquidity estimated at Bt600-700bn. Despite the disagreement,
long-term interest rates are going up immediately and short-term
interest rates will rise in about 6 months.
Pridiyathorn’s major objectives are
as follows:
Small banks must immediately
increase long-term deposit rates
Pridiyathorn sent a very direct signal to the banks that are net
borrowers in the money market that they must raise long-term deposit
rates, like DBS Thai Danu did last week. This includes most of
the smaller Thai banks and most of the foreign banks in Thailand.
The bigger banks, who are awash with liquidity, won’t feel pressure
to raise long-term deposit rates until they begin losing some
of their deposit base.
Pridiyathorn said that the new policies
won’t be implemented until year-end. We, therefore, believe short-term
interest rates are likely to increase only slightly.
Bond market is quickly moving
to reflect quick reversal in interest rates
Last week market prices for government bonds fell by 5-7%, as
the yields increased by 75-137 bps. Pridiyathorn’s comments yesterday
unsettled the bond market again, resulting in another 10 bp increase
in the yield.
We have two questions for Pridiyathorn.
Why did the Bank of Thailand intervene in the bond market last
week if the change in the monetary policy would lead to immediate
losses for the central bank? How does the government plan to sell
new bonds into the market until the domestic interest rates begin
to stabilize?
The rapid shift in the bond yield
curve has another major effect – very large losses for the big
banks that have parked some of their excess liquidity into the
market.
Health of the banking system
is just as important as foreign reserves
The government will try to maintain the country’s foreign reserves
at a minimum of $30bn to build up confidence and stability. Loosening
either the provisioning requirement or the capital adequacy ratio
for the banking sector will have just the opposite effect.
Corporate sector still intends
to pay off foreign debts
Almost all Thai companies that we have interviewed over the last
several months still intend to pay off their foreign debts even
if they have a natural hedge through US dollar sales. After all,
trust in the government and the Bank of Thailand maintaining the
fixed exchange regime got most of them into financial trouble
to begin with. Uncertainty over interest rate trends, however,
may force companies to delay new issues of domestic bonds or offer
higher coupon rates. On the other hand, those companies with foreign
debt have got less incentive to repay it ahead of schedule if
the baht strengthens on the back of higher interest rates.
