Asia Times: ANALYSIS : Thailand: Where Wharton, Keynes and confusion reign


	June 5, 2001	atimes.com

Editorials

ANALYSIS
Thailand: Where Wharton, Keynes and confusion reign

By Uwe Parpart
Editor, Asia Times Online

How to react to the Thai government's latest economic policy gyrations - talk of higher interest rates, the sacking of the central bank governor, subsequent assurances by the prime minister that low interest rates are good for the economy after all? Alice's "curiouser and curiouser" is the first thing that comes to mind.

But unfortunately, the matter is more serious than that. Under pressure from any number of quarters and an ever-growing number of advisers to do something about sagging economic growth due to failing external demand, Prime Minister Thaksin Shinawatra seems ready to graft an astonishingly ill-conceived jumble of monetary, regulatory and fiscal measures onto his initially well-conceived supply-side strategy to reform and revive the Thai economy. The inevitable outcome will be large-scale policy failure with equally inevitable consequences for social and political stability.

Looking at pronouncements over the past months and days of the two policy advisers who - unaccountably - seem to have gained the ascendancy in Thaksin's councils recently, former finance minister Virabongsa Ramangkura (aka Dr Krong) and former Export-Import Bank president and new central bank governor Pridiyathorn Devakula (aka Mom Oui), one is hard put seeing where to begin to unravel the unfathomable policy conundrum they have wrought and apparently succeeded in selling to the prime minister. (And I won't necessarily blame my own alma mater, the University of Pennsylvania, and its famed Wharton School of economics and business administration for the Krong/Oui policy atrocities, though both are graduates of Wharton and the school is a known bastion of Keynesian confusion.)

It was Dr Krong who - according to Thai press reports - had the last word a week ago on the replacement of Bank of Thailand Governor Chatumongkol Sonakul (aka Mom Tao) by Mom Oui ("Mom" in both nicknames standing for a title of aristocracy) and here, to the best of my ability to sort it out, is the wondrous policy mix my fellow Penn alumnus is proposing:

1. Higher savings deposit rates to stem capital outflows and stimulate consumer spending.
2. Capped bank lending rates to prevent higher investment and operating capital costs.
3. Persuading banks to lend more.
4. Defending exchange rate stability. (Unclear [to me] how this is to be achieved - central bank intervention? capital controls?) 4. Protection and build up of foreign reserves (Unclear [to me] how, though apparently related to 1 above). 5. Relaxation of banks' capital adequacy requirements. 6. Relaxation of criteria for nonperforming loan classification.

Add to this some loose talk about undesirably high foreign debt repayments, lack of flexibility in corporate debt restructuring and general hullaballoo about being caught in a Keynesian "liquidity trap", and you have an horrific mess of an implied policy (mis)direction - or at any rate an horrificly embarrassing policy confusion. But basically, what it all seems to add up to is the notion that Thailand should use monetary policy measures and directives and exchange-rate manipulation to manage demand while simultaneously slowing corporate debt restructuring and relaxing banking regulations. Arrgh!

During the election campaign and until the latest turn of events, Thaksin had put forward and speedily implemented supply-side policies to build domestic demand. The strategy was to have government provide the boundary conditions for bad-debt resolution and the creation of new entrepreneurs, new enterprises, new wealth, and new jobs - and hence new demand. This publication's only previous complaint was that this strategy should be further enhanced by more aggressive tax cuts than planned. There is no question that such a strategy would have worked - albeit over time. Now it appears in imminent danger of being sidelined by incoherent and dangerous quick-fix approaches.

Banks will lend not when being coaxed to do so, but when there exist profitable lending opportunities. Banks will reduce the spread between deposit and lending rates when lending risk subsides and/or credible new lending opportunities turn up. Forcing them (whether they are private or state-owned institutions) to lend or reduce spreads on any other conditions will wreck them. Relaxing capital asset or loan classification requirements will only encourage resumption of the same bad practices that nearly sank the Thai financial system in the first place.

During the 1980s Japan flooded the economy with credit. This generated a huge asset boom and massive malinvestments (misallocation of capital resources). When the boom came to an end Japan made the mistake of not allowing the malinvestments to be liquidated, causing the economy to stagnate. The policy of trying to protect the heavily distorted capital structure by propping up the banks and not allowing them to foreclose on unsound investments meant that resources were trapped, savings withheld, and profit margins depressed - paralyzing domestic investment activity. The reason why low interest rates have not stimulated the economy is because what matters to business is future profit margins.

Apply that to Thailand and it's obvious what the so-called liquidity trap is about: bad investments have not been liquidated; new investment opportunities have not been created. But it's only when that finally happens that capital flows will be reversed. Any other "solution" is no solution at all.

It's too late to reinstate Mom Tao as Bank of Thailand governor. But it's not too late for Thaksin to get back on track with his original strategy - provided he locks the front and back doors of Government House to Dr Krong and his noxious policy mix. Failing that, just watch how local and foreign investors will vote with their money and their feet.

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