Lessons from Thailand

Madan Sabnavis

It was a curious sense of déjà vu with an apparently similar story being retold 9 years after the Asian crisis of 1997. However, the narration is different: the player is the same, concerns are different, the impact similar, albeit with less permanence. Yes, it was the Thai baht at the centre of the cauldron with the Bank of Thailand imposing restrictions on the outward movement of dollars: 30 per cent of non-trade related foreign exchange sold for the local baht currency must be deposited interest-free with the central bank for a year. Further, all new foreign investments over $20,000 was to stay in the country for at least a year. These measures were meant to ensure that money coming in stayed that way for some time or faced the threat of a penalty.

The government was feeling vulnerable with considerable overseas inflows circulating in the economy. Central bank figures showed that nearly $1 billion of foreign capital came into Thailand in the first week of December, up from an average of $300m a week in November. Moves had been announced to deter overseas speculators from flooding the market and prevent further rises in the value of the baht. The problem with a rising currency is that it makes exports globally non-competitive as goods become dearer in overseas markets. After the market turmoil caused on the local bourses, which has also ricocheted in the neighbouring markets, the restrictions on foreign investments were later eased.

It was also ironic that Thailand thought of attacking currency speculators just a few days after Malaysia’s former prime minister, Mahathir Mohamad, publicly forgave George Soros for the ringgit’s collapse after the 1997 crisis.

What does this story hold for India? Thomas Friedman has written about how technology-related developments have flattened the world. But he left out this entity called foreign investors, who have shown repeatedly how their actions in one country can have consequences across others. The fall of the baht should have nothing to do with investor action in India, but it did and caused the Sensex to lose 350 points. When investors are global they look at all markets simultaneously and reshuffle portfolios on a real time basis.

The Thai clarification has settled things for the time being. But, there are two issues which are raised. The first is how do we look at our foreign exchange reserves. Our foreign inflows have been rising and have had a tendency to strengthen the rupee. The same factors that played in Thailand are operative here. It is here that the monetary authority has a very important role to play in stabilising the environment. We have a very reassuring central bank (RBI) which has always ensured that there is no untoward movement in the currency either way. Therefore, the situation is different.

Besides, since we are not convertible on capital account, there is a double assurance that there cannot be any major outflow of capital, a risk which we have to carry once we open the account. It does sound odd that a country can be affected by an international development having no bearing on its own performance. But that is how meltdowns take place.

Now the question is whether such an event can turn into a regional crisis. This is where the fundamentals matter. East Asian countries these days are running strong current-account surpluses, their public finances are mostly in good order, and they have hefty foreign exchange reserves with which to defend themselves from speculative attacks. Their banking systems, one of the main concerns in 1997, have since been largely cleaned up.

Therefore, the 24-hours crisis was quite different as such and affected only the stock markets. To this extent it was purely a capital market phenomenon, which however had a major impact on even the Indian market, primarily because of the dominance of foreign investors on our bourses (these entities have capital account convertibility and can withdraw their funds at will).

But, the point here is that domestic investors will migrate out of their own country only when they see that their own household is not in order. But, when economic indicators are strong and the currency is backed up with adequate dollar support, then there is no reason for domestic citizens to think of taking their money out of the country. In such a case, capital account convertibility would not really matter.

So, the policy must be framed keeping a close eye on the economic fundamentals and take corrective action when they display shock value.

The writer is Chief Economist, NCDEX Ltd. The views expressed are his own.