Thailand
Selected Issues

This Selected Issues paper for Thailand highlights the effect of higher global interest rates on Thailand and the relationship between financial crises and long-term potential growth. Since the Asian crisis, Thailand has adopted an inflation targeting regime, and has intervened in the foreign exchange market to prevent excessive baht volatility. The monetary tightening in the United States in 1994 has been followed by heightened bond market volatility and a widening of emerging countries’ credit spreads.

Abstract

This Selected Issues paper for Thailand highlights the effect of higher global interest rates on Thailand and the relationship between financial crises and long-term potential growth. Since the Asian crisis, Thailand has adopted an inflation targeting regime, and has intervened in the foreign exchange market to prevent excessive baht volatility. The monetary tightening in the United States in 1994 has been followed by heightened bond market volatility and a widening of emerging countries’ credit spreads.

I. Overview

1. The essays in this Selected Issues paper address three questions related to key policy challenges in Thailand. The focus is on the effect of higher global interest rates on Thailand, the relationship between financial crises and long-term potential growth, and the factors that could help determine if credit booms will lead to financial deepening or dangerous credit bubbles.

2. The purpose of the second chapter is to measure the effect of shocks to world interest rates on real activity in Thailand, and to identify the appropriate monetary policy response. Emerging economies have enjoyed an exceptionally favorable economic and financial environment throughout 2004 and early 2005, supported by solid global growth, low interest rates, and suppressed credit spreads. The United States’ easy-money policy of recent years has spilled worldwide, creating an environment of low interest rates in international markets. If world interest rates were to take a sudden course upward, this would increase the cost of borrowing for emerging economies, and lead to less hospitable financing conditions for emerging markets. The analysis employs the Global Economy Model (GEM) developed by the Research Department of the IMF by calibrating the model to Thailand and the United States, and investigating how key macroeconomic variables in Thailand respond to interest rate shocks originating in the United States. The chapter finds that monetary policies in Thailand that allow more exchange rate flexibility cushion the adverse effect on output, consumption, and investment.

3. The third chapter studies how financial crises affect countries’ long-term growth potential, and considers the specific case of Thailand and its growth outlook. The effects of currency crises on output are highly diverse. While the average country suffers output and growth losses, a significant fraction of crises leads to growth accelerations. This chapter documents this diversity and identifies some of the macroeconomic determinants that are correlated with stronger post-crisis growth recoveries. In the case of Thailand, it argues that while growth rates have come down from the exuberant rates in the 1990s that led to the crisis, they since then seem essentially in line with Thailand’s longer growth experience.

4. The fourth chapter identifies episodes of faster-than-normal credit growth and examines if such credit growth events are associated with benign financial deepening or dangerous credit bubbles. While financial deepening has been shown to be both a cause and an effect of economic development, the rapid growth of credit aggregates has often been associated with episodes of bank distress, leading to the widespread belief that credit booms are a recipe for financial disaster. However, historically, only a minority of boom episodes has ended in a crash. This chapter examines the characteristics of a panel of credit booms and identifies factors that can help the early detection of dangerous bubbles from episodes of healthy financial deepening. The results suggest that it is not possible to fully discriminate between “good” and “bad” (or “ugly”) credit booms, but several macroeconomic variables help to predict whether a boom is heading for some form of financial distress.

Thailand: Selected Issues
Author: International Monetary Fund