Thailand
Financial System Stability Assessment
Author: International Monetary Fund
Publication Date:
15 May 2009
eISBN:
9781451836868
ISBN:
9781451836868
Language:
English
Keywords:
ISCR; CR; bank; financial institution; BOT Act; commercial bank; private bank; trading portfolio; mid-sized bank; bank regulator; bank resolution decision; resolution framework
Download PDF (2.6 MB)

This paper discusses key findings of the Financial System Stability Assessment (FSSA) on Thailand. The assessment reveals that the soundness of Thailand’s financial system has been strengthened since the financial crisis of the late 1990s. Substantial progress has been made in upgrading the regulatory and supervisory system and improving macroeconomic management. Banking fundamentals have strengthened, with most Thai banks reporting high levels of capital and solid profitability. Private corporations, which are the banks’ primary borrowers, have also strengthened their balance sheets and reduced leverage.

Abstract

This paper discusses key findings of the Financial System Stability Assessment (FSSA) on Thailand. The assessment reveals that the soundness of Thailand’s financial system has been strengthened since the financial crisis of the late 1990s. Substantial progress has been made in upgrading the regulatory and supervisory system and improving macroeconomic management. Banking fundamentals have strengthened, with most Thai banks reporting high levels of capital and solid profitability. Private corporations, which are the banks’ primary borrowers, have also strengthened their balance sheets and reduced leverage.

I. Current Macroeconomic and Financial Environment

A. Macroeconomy

1. Economic developments were broadly favorable for the financial sector over the past two years (Figure 1). GDP growth averaged 5 percent in 2006 and 2007, supported by strong net exports. Domestic demand weakened reflecting the negative impact of political developments and higher oil prices. Inflation declined steadily from its peak in May 2006 to well within BOT’s target band. Property prices also continued to rise, helping to support collateral values and spur demand for housing-related credit. Corporate profitability strengthened further on the back of rising profit margins and sales (Figure 2). The household sector’s financial position also improved, despite higher debt acquired largely to finance housing, due to positive real wage growth and rising housing prices (Figure 3). Household debt at about 30 percent of GDP at end-2005 is moderate compared to regional averages.1

Figure 1.
Figure 1.

Thailand: Economic Indicators

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Source: Bank of Thailand.
Figure 2.
Figure 2.

Thailand Corporate Financial Indicators

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Sources: Worldscope; and Fund staff calculations.1/ Based on 321 listed nonfinancial firms.2/ Return on Assets = Net Income/Total Assets.3/ Interest Coverage Ratio = Earnings Before Interest, Taxes and Depreciation/Interest Expense.4/ The rapid increase in company coverage over the last three years distorts some of the ratios, such as interest/assets and short-term debt for 2004.5/ Quick Ratio = (Cash + Accounts Receivable)/Current Liabilities.
Figure 3.
Figure 3.

Thailand: Household Financial Indicators

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Sources: Thai authorities; Global Financial Stability Reports (IMF), and CEIC database.

2. Macroeconomic policy management faced the challenge in 2006 and through 2007 of high capital inflows, a rising baht, and weak domestic demand. Faced with a rapid appreciation of the baht and surging external inflows, the authorities in late 2006 introduced wide-ranging capital controls (i.e., a 30 percent unremunerated reserve requirement (URR). Investors reacted negatively. The SET fell 15 percent the day after the announcement and bond yields increased sharply. Financial institutions were not significantly impacted by this market reaction nor subsequent ones, such as the mid-2007 repricing of risks in the mature markets, because of their low exposure to structured products and market risks.2 The BOT has since removed the URR and the SET index has gained 26 percent in value during 2007. In response to weaker domestic demand and declining inflation, the BOT cut its main policy rate by 175 basis points since early 2007 while fiscal policy provided a small stimulus.

3. The near-term macroeconomic outlook remains favorable to the financial sector, although slower growth could pose challenges. Owing to their large exposure to corporate loans and slow progress made in addressing outstanding legacy issues, stress tests show that Thailand banks are vulnerable to a sharp slowdown in growth. The main channel of macroeconomic risks for the Thailand economy and financial sector are: (i) a significant deterioration in global economic growth, with exports accounting for over two-thirds of GDP; and (ii) domestically, political uncertainties and delayed implementation of major public investment projects continuing to act as drag on domestic demand and the investment climate. A protracted slowdown would also hurt Thailand banks’ ability to lower their nonperforming assets.

B. Financial Sector

4. The Thailand financial sector is relatively large, with assets close to 180 percent of GDP. It is bank centered, although capital markets and nonbank financial institutions are assuming a more prominent role (Table 1). Commercial banks account for 60 percent of financial sector assets. SFIs—which are government-owned, in most cases are deposit-taking, and are intended to promote the government’s social and economic development—account for another 14 percent. Nonbank financial institutions hold the remaining 25 percent of financial assets. Many of them (e.g., leasing, asset management, insurance, and securities companies) are subsidiaries of local banking groups.

Table 1.

Thailand: Structure of the Financial System

(In billions of baht)

article image
Sources: Thai Authorities.

Including deposit and non-deposit taking SFIs

Including Property Funds for public but excluding special funds.

Including provident funds and government pension fund.

Deposit-taking financial institutions

5. The deposit-taking financial system underwent a major restructuring over the past decade. This includes: (i) the closure and mergers of a number of finance companies; (ii) the implementation of the government’s Financial Sector Master Plan, resulting in new entrants, mergers, and the formation of new banking conglomerates; and (iii) ownership changes from private bank recapitalizations, government intervention in banks, and the sale of two banks to foreign investors.

6. Foreign-owned banks play an important but limited role. Foreign banks accounted for about 18 percent of total banking assets at end-March 2007—in line with many emerging market countries.3 In accordance with BOT rules, they operate mostly as single branches, with only two full-service foreign-owned commercial banks. While a one branch policy restricts the size and scope of their retail banking activities, some have used outsourced distribution channels with support from internet banking and telemarketing to penetrate the retail market. Most foreign banks are focused on the wholesale market. Domestic banks do not have a major presence abroad. Despite some entry restrictions, the banking sector does not appear concentrated, with the Herfindahl index at 910.4

7. Despite considerable divestiture since the crisis, the government continues to maintain a significant equity stake in the commercial banking sector (Table 2). This equity stake resulted from the 1997 financial crisis, and while the government has since reduced its participation in these banks, the pace of divestiture has slowed in recent years. It currently has controlling interests in three banks and significant shares in three other large local banks as well as a number of smaller banks. These banks accounted for 41percent of total commercial banking sector assets at end-2006.

Table 2.

Thailand: Developments in the Government’s Equity Stake of Thailand Banks1

(In percent of total)

article image
Source: Thai Authorities.

Data reflects developments in the government’s equity stake in large Thai banks, a number of which received government support during the 1997 financial crisis. The government also has equity holdings in other smaller banks, including Tbank and ACL.

Latest data observation August 2007.

The government intervened in KTB in the 1980s.

2007 data reflects the common shares held by the Ministry of Finance of Siam Commercial Bank. The government via Vajupuk Funds also holds preferred shares of SBC. The government’s shareholdings of SBC amounted to 19 percent at end-August 2007.

8. Banking fundamentals continue to strengthen, with most banks reporting high capital levels and solid operating profitability (Table 3, Figure 4). The average risk weighted capital adequacy ratio (CAR) for Thailand banks was 15 percent at end-2007, well above the regulatory minimum (8½ percent), supported by a high level of Tier 1 capital and a strong leverage ratio. While banks have reported strong operating profits since 2004, driven by higher margins and moderate loan growth, net profits fell in 2006 and 2007 due to large provisioning requirements arising from the phased introduction of IAS 39. Banks’ return on assets (ROA) fell to 0.3 percent in 2007 compared to 1.4 percent for 2005. The three largest private banks achieved full compliance with IAS 39 at end-2006. Other banks, some which raised additional capital including through new foreign strategic partners, phased in their compliance during 2007. Two state-banks with low capitalization are being closely supervised by the BOT.

Table 3.

Thailand: Banks’ Profitability and Solvency Indicators 1

(In percent)

article image
Source: Bank of Thailand, and staff estimates.

Includes Thai Military Bank in which the government has a large stake.

RWA stands for risk weighted assets. Data excludes foreign branches.

Figure 4.
Figure 4.

Thailand: Banking Sector Financial Soundness Indicators

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Source: Bank of Thailand, and staff calculations.

9. Since the financial crisis, banks have diversified their revenue base, which has helped improve their risk profile. Banks have focused on expanding their services to retail customers and small- and medium-sized enterprises (SMEs). This has helped them diversify their loan and revenue base, reduced earnings volatility and lowered the concentration risk associated with lending to larger corporates. Concerned over the rapid pace of consumer lending, starting in 2004 the BOT introduced a series of prudential measures to strengthenlending standards.5 These measures have contributed to a reduction in the pace of lending over the past two years and there was no evidence that the rapid growth had resulted in rising consumer NPLs.

10. Considerable efforts have also been made to strengthen banks’ capital position and enhance their risk management practices. Recent regulatory measures include revisions to loan loss provisioning guidelines to comply fully with IAS by end-2007. This has led to higher provisioning charges for the banking system as a whole (Figure 5), although a few large and mid-sized banks still have low loan loss coverage. The BOT has also adopted a conservative approach to Basel II implementation, now expected at the end of 2008. Banks are aligning their risk management practices and Information Technology systems for the move to Basel II and all but one bank have indicated they intend to adopt the standardized approach.

Figure 5.
Figure 5.

Thailand: Distressed Assets and Loan Loss Provisions

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Sources: Bank of Thailand, and staff calculations.1/ The BOT does not collect or monitor the stock of restructured loans on a regular basis. Information for 2006 was collected as a result of a BOT survey. Restructured loans tend to have a relative high reentry to NPL status.

II. Banking Stability

11. Despite considerable efforts to improve banking soundness and lower NPLs, Thailand banks remain exposed to large holdings of NPAs and restructured loans. Total NPLs among banks amounted to 7.3 percent of total loans at end-2007, a modest improvement from 8.3 percent in 2005. This was driven primarily by lower NPLs among private banks. Most of the NPLs are loans that were previously restructured and have fallen back to NPL status or assets acquired through foreclosure. This figure may underestimate the problem given the high re-entry rate of previously restructured loans to NPL status and, until recently, lax guidelines governing classification of restructured loans.6 The magnitude of the problem is also higher if loans and foreclosed assets warehoused with the state-owned AMCs are included. The gross level of distressed assets in banks and AMCs amounted to B 1.5 trillion at end-2007, or 17.5 percent of GDP.

12. Banks’ large holdings of NPLs, the poor performance of restructured loans, questions regarding adequacy of provisioning levels, and unfinished legal reforms weigh on banks’ credit ratings and risk perception (Table 4, Figure 6). This is visible in the C/D rating in Fitch’s Banking System Index, in the individual D ratings in Moody’s Bank Financial Strength Rating (BFSR) and the Group 6 (scale of 1–10 with 1 the highest) Banking Industry Country Risk Assessment (BICRA) ranking by Standard and Poor’s.7

Table 4.

Thailand: 2007 Ratings of Six Largest Commercial Banks

article image
Source: Moody’s, Fitch, Standards and Poors (S&P), and Bloomberg.

Individual ratings for TMB and BAY were upgraded in 2007 due to capital raising efforts and the emergence of a major foreign strategic shareholder.

Figure 6.
Figure 6.

Thailand: Standard & Poors’ Distribution of BFSR Ratings for Systemically Important Banks in Asia (2007)1

Citation: IMF Staff Country Reports 2009, 147; 10.5089/9781451836868.002.A001

Source: Standards & Poors1/ Left hand side reflects the number of systemically important banks. The ratings reflect S&P’s bank’s stand-alone credit ratings, represented by the Bank Fundamental Strength Rating (BFSR). BFSR is based on an asssessment of a bank’s fundamental strengths. ‘A’ reflects very strong and ‘E’ significant weaknesses.

13. The relatively slow progress made in addressing legacy related NPLs reflects a host of factors, including a weak credit culture and weak creditor rights. These include: (i) a nonsupportive legal and judicial framework that makes the restructuring and foreclosure process cumbersome and costly;8 (ii) tax disincentives for prompt recognition of losses through write offs;9 and (iii) until recently, gaps in the regulatory treatment of restructured loans. In the mission’s opinion the slow progress in addressing NPLs may also reflect the political clout family-owned corporates enjoy in the Thailand political system. This may explain difficulties creditors have faced in converting debt into equity, the relatively modest change in ownership of companies, and the failed attempts to address shortcomings in the Bankruptcy Act and Civil Procedure Code. The result of this legislative stalemate is to reduce the value of NPLs, which in turn has discouraged banks from selling them at the market-determined value, and weakens the credit culture in Thailand. Protracted bankruptcy also reduces the economic value and efficiency as large assets remain out of the productive system or, in some cases, distort corporate competition.

14. There are several actions, some of which the BOT is already implementing, that could both address the current overhang of NPAs and reduce the likelihood of a recurrence of this problem in the future.

  • The BOT’s decision to have banks fully implement IAS 39 will bring more clarity and veracity to their balance sheet, which in turn will encourage banks to deal promptly with problem loans.

  • The BOT should strengthen its supervisory program of holding bank management fully accountable for identifying distressed assets and criticize management of those banks who continue to rely on bank supervisors to uncover their banks’ problem loans.

  • The BOT should maintain its policy of requiring banks to adopt more conservative guidelines on restructured loans, notably by requiring restructured loans to perform for at least three payment periods before reclassifying the loan as performing. This will reduce the likelihood of multiple restructuring of the same loan.

  • The government should, as a matter of high priority, further strengthen creditors rights by expediting the foreclosure processes, enhancing the effectiveness of the specialized bankruptcy court, and adopting a liquidity test to better reflect the true financial position of troubled debtors.

  • The government should reform tax regulations to permit prompt recognition of losses by making it easier to deduct provisions or write offs for tax purposes.

15. The government should require that state-owned AMCs accelerate the pace of distressed asset disposal. While fiscal risks have largely been mitigated, the protracted warehousing of large amounts of distressed assets among state-owned AMCs is costly. It sends the wrong message to the marketplace and reduces the likelihood for the development of a market for distressed assets. The government’s continued involvement in purchasing NPAs from banks reduces banks’ incentive to resolve the NPL problem through market-based solutions. More aggressive but objective benchmarks (possibly time-bound) and realistic guidelines for AMC managers should be set that explicitly acknowledge that market prices may be below the valuation assigned to the asset being sold (i.e., state-owned AMC managers should be given relief from the paralyzing attitude of avoiding any loss in the disposal of assets). Finally, a realistic exit strategy should be developed for these AMCs.10

16. The government should also continue its divestiture program of its equity stakes in commercial banks that were recapitalized during the crisis. Virtually all of these mixed-ownership commercial banks were private sector banks that the government took an equity stake in for the purpose of restoring banking stability. These equity investments were expected to be temporary. When the government is an owner of a bank, it creates the potential for the government to affect lending decisions and puts the bank supervisor in the position of, in effect, supervising activities sanctioned by the government. This is particularly awkward where operational independence of the supervisor is not explicitly provided in the law, as is the case in Thailand. Further, the noncompetitive award of government business to state-owned banks may lead to market distortions and creates the appearance of an uneven playing field. The mission recommends that the government develop and implement an exit strategy from its ownership of commercial banks. Consistent with the development of an efficient and competitive banking system, the government should also assure that state-owned banks including Krung Thailand Bank (KTB), which has been owned by the government for a number of years, is also subject to the same regulatory treatment regarding external auditors as private banks and that the bank is insulated from potential political interference through the establishment of a proper governance structure and enhanced disclosure requirements. Over time, consideration could be given to fully privatizing state-owned banks.

Stress test results

17. Several stress tests for the banking sector were carried out by the BOT, the mission, and the eight largest Thailand commercial banks. These eight banks accounted for 88 percent of the Thailand banking system assets at end-2006 and covered all systemically important financial institutions.11 The stress tests involved single factor stress tests and macroeconomic scenario analysis—both a global and domestic stress event (Appendix II).

18. While the stress tests indicated that the Thailand banking system was resilient to a variety of macroeconomic and factor specific shocks, they underscored the need for continued close supervisory attention by the BOT, in particular of the weaker banks in the system. The BOT had identified these weaker banks through its ongoing supervisory process and some of them are currently in the process of recapitalization.

  • As a result of Thailand banks’ large loan book—loans account for about half of banking assets, with the bulk extended to corporates—credit risk is by far their main source of vulnerability. The four largest banks weather the macro shocks in the stress test comparatively better than the smaller banks, and private banks perform comparatively better than state-owned banks. Under the two shock scenarios, NPLs as percent of total loans would approximately double over a two-year horizon. Banks accounting for about one-fifth of total banking assets would fall below BOT’s minimum CAR. The stress scenarios are extreme but plausible shocks

  • Liquidity risk was found to be material for a few banks notwithstanding the current high liquidity in the banking system.

  • Interest rate risks on the banking book were contained, with only one small bank reporting a significant impact in terms of regulatory capital. However, it is important to note that the tests did not highlight any common pattern of behavior across banks. Instead, a variety of impacts emerged reflecting the different positions and maturity structures across financial institutions.

  • Market risks were found to have a minor impact. This reflects the small size of banks’ trading portfolios, regulatory limits on banks’ exposure to securities, prudential rules governing open foreign exchange positions, the very small proprietary trading positions, and the use of “plain vanilla” interest rate and forex hedging instruments.

  • Contagion risks through the interbank market and international market were negligible due to the very small size of the interbank exposures and because Thailand banks have reduced their balance sheet exposure to international credit markets since the 1997 crisis, in particular by significantly lowering their short term external debt exposure. Thailand banks rely mainly on retail deposits for funding.

Nonbank financial institutions and capital markets

19. Nonbank financial institutions—in particular contractual savings institutions—are growing in size, although their role in the financial system remains small. The insurance sector is in the mid-development stage and profitable. Insurance penetration (total premium to GDP) stood at 3.6 percent and insurance density (total premium per capita) was US$99. The sector, measured by premium, is the largest among the members of the Association of South-East Asian Nations (ASEAN). The FSAP team found the sector to be sound and profitable, but recommended a strengthening of the regulatory framework. The pension/provident fund industry is small, reflecting in part the lack of a mandatory social security system. Mutual funds have grown rapidly since 2004, with 724 funds managing about B 1.14 billion in net asset value at end March 2007. Fixed income funds account for the bulk of net asset value, with most effectively short-term money market funds. The brokerage industry is relatively small, not well capitalized, faces entry restrictions, and has performed generally poorly in contributing to market development. Brokerage firms are not active traders in the capital markets, limit their underwriting services to equity, and rely heavily on retail driven sales at fixed commission fees for revenue.

20. While Thailand’s capital markets are relatively large in size, market development suffers from limited issuance activity and shallow secondary markets.

  • The Thailand bond market is large but, in common with many countries, dominated by public debt instruments, with corporate debt issuance activity limited. While the primary market for government securities functions relatively well, liquidity in the secondary market is poor. Addressing the fragmentation of the current stock of public debt, strengthening the role of primary dealers as market makers as well as improving public debt management (including reducing frequency of auctions while increasing the size of individual offerings), could help promote secondary market liquidity.

  • Thailand equity markets have grown significantly in the past 10 years, with total market capitalization equivalent to 75 percent of GDP at end-2006. However, the SET is characterized by: (i) heavy concentration, with the ten largest companies accounting for 40 percent of the total market capitalization and the government also owning a substantial portion of the largest companies; (ii) high volatility, reflecting also the small volume of freely floating shares; (iii) retail driven, with retail investors accounting for over half of daily market turnover; and (iv) low valuation, with price-to-earnings ratio of less than 10, much lower than most exchanges in the region. A number of measures could further promote deeper equity markets, including the government renewing its commitment to privatization, liberalizing entry restrictions into the brokerage industry, and eliminating the SET regulation that mandates fixed brokerage commissions.

III. Regulatory and Supervisory Framework

21. While the regulatory and supervisory program for banking in Thailand reflects a high degree of compliance with international standards, its effectiveness is threatened by an outdated legal framework and absence of formal legal independence. The current law holds the potential for compromising the authority of BOT as bank regulator. Responsibility for banking supervision is shared between the MOF and the BOT and the BOT formally lacks full and independent enforcement capabilities. The mission, however, found no evidence of the MOF interfering in the supervisory operations of the BOT. Nonetheless, the legal subordination of BOT to the MOF has the potential to lead to interference or delay in taking required regulatory action and delays in operational supervisory decisions.

22. The BOT has worked around these legal weaknesses, although there are risks associated with this strategy. The MOF could, in theory, overrule the BOT’s regulatory decisions. The BOT’s regulatory powers could further be challenged in court and overruled. Also, corrective measures that lack explicit legal underpinnings may more easily be revoked. Overall, this creates an environment of legal uncertainty, which can—among other things—hurt banking sector product innovation and soundness, and limit the range of remedial actions available to the BOT to deal with noncompliance. This underscores the need to expeditiously pass and implement pending draft laws, which would address a number of these shortcomings.

23. Aligning Thailand’s financial supervisory framework with international best practices requires providing greater independence to all of the supervisors. The heads of the BOT and other supervisory bodies, more broadly, perform functions that are critically important to assuring financial stability and soundness. At all times, they must feel sufficiently secure to take necessary measures to address problems, even if these actions are politically unpopular or involve enforcement actions against government officials who sit on the boards of banks. The current laws should be amended to include appropriate procedures for appointment and dismissal of the heads of regulatory bodies so that:

  • the supervisory agencies have the necessary legal powers to fully meet their mandate to preserve the soundness and stability of the financial system;

  • the heads of the supervisory agencies are appointed for significant fixed terms and on the basis of their qualification and integrity; and

  • there are objective safeguards regarding their dismissal—with conditions for dismissal explicitly stated in the law. On the rare occasions on which the governor or the head of another supervisory body is to be dismissed, the reasons for doing so should be clear and publicly disclosed.

24. The BOT also should be given legal powers to conduct consolidated banking supervision. Given the emergence of large banking conglomerates in Thailand, with significant ownership of nonbank financial institutions and considerable market share, consolidated supervision has become an important instrument for the BOT in promoting the stability of the overall financial system. Currently, the BOT does not have any legal authority to perform consolidated supervision of banks’ exposure to their insurance or securities businesses. To overcome this problem, the BOT has used a combination of moral suasion and the use of contractual conditions, such as imposing certain conditions when banks apply for permits and licenses to perform its supervisory responsibilities. However, undue risk exposures could arise for banks in their universal banking activities, in particular if those segments are not well regulated, and coordination among the regulating agencies is not well developed.

25. The BOT, as bank regulator, should also distance itself from the functions of management and ownership in the intervened banks (via its ownership of the FIDF. Although the FIDF is an independent juristic entity, and the MOF has assumed the FIDF’s liabilities, in practice, the FIDF is run within the organizational framework of the BOT and managed by a board chaired by the Governor and staffed by both the BOT and MOF. This puts the BOT in a situation where it is required to supervise the banks with whose ownership and management function it is involved. This arrangement creates, at the minimum, the appearance of a conflict of interest for the BOT as both an owner and bank supervisor.

26. The current supervisory framework of deposit-taking SFIs should also be strengthened. Loan performance at SFIs, as measured by the level of outstanding NPLs compared to total loans, is weak, with potential fiscal implications. The deposit-taking SFIs, which in practice, operate alongside commercial banks, are regulated under separate, SFI-specific laws. Having a different regulatory regime for SFIs and according the SFIs special privileges can contribute to level-playing-field concerns and distort competition. While the MOF has delegated authority to the BOT to examine the SFIs on an annual basis, the overall supervision of these deposit-taking SFIs remains with the MOF. If, going forward, the SFIs continue to operate as major deposit-taking institutions, they should be supervised in the same manner as commercial banks. The current bifurcated approach to examination and supervision of SFIs creates a potential source of reputation risk for both the BOT and the MOF.

27. The shortcomings in the regulatory and supervisory framework governing the insurance sector are well understood and the authorities are beginning to address them. The key reforms are: to amend the insurance law to establish the insurance supervisor as an independent authority; move toward risk-based capital and supervision; and introduce a policyholder protection scheme. A comprehensive stress test should also be undertaken to assess the sector’s vulnerabilities. Once implemented, these reforms would provide the sector with a sounder platform to support the expected continued growth.

28. While the regulatory framework for capital markets is fundamentally sound, the regulatory independence of the SEC should be strengthened and the SEC should be empowered to use civil proceedings to enforce the law. Under the current Securities Exchange Act (SEA), the MOF has the formal authority to supervise the SEC, even though the powers under SEA have never been invoked by any Minister. Furthermore, the MOF has been assigned the formal licensing responsibilities for securities firms and mutual fund operators. These are not in line with international standards. The SEA should also be amended to empower the SEC to independently bring civil proceedings when securities laws are violated, and the legal definition of insider trading should be clarified.

29. With financial markets in Thailand becoming more integrated and complex, there is a need to coordinate and communicate more effectively among the different regulators and with market participants. Overall, the mission is of the view that the current institutional arrangement with different regulatory bodies is adequate. The costs associated with creation of an integrated regulator would appear to outweigh any possible benefits. Instead, along with strengthening regulators’ legal power and the creation of a separate insurance regulator, the focus should be on improving coordination among the various regulators and industry participants. Coordination promotes sound financial sector policies and regulations. Events in one market can quickly spill over to other markets and policies intended to address a problem in one particular sector could have unintended consequences on other markets. A number of committees for consultation exist and Memorandums of Understanding (MOU) have been formalized among the various regulatory bodies. The mission believes, nonetheless, that there is a need for more regular, frequent and open consultations and discussions among regulators and, as appropriate, the MOF at the staff level. This should include early consultations in the drafting stage of critical reforms. There is also a need for more effective dialogue and consultations with the industry as policies are being developed.

IV. Crisis Management, Bank Resolution, and Safety Net

30. The BOT has in place a sound crisis management framework to facilitate prompt and coordinated action in the face of a crisis. A contingency plan has been prepared to deal with a systemic banking crisis and a continuity plan for disaster events. Guidance has been issued to banks to prepare their own disaster recovery plans and business continuity plans. A crisis management committee (CMC) chaired by the BOT Governor is designated to act as the central command to coordinate and manage banking crisis resolution.12 The BOT has established transparent guidelines governing the use of emergency credit to lend to banks perceived as solvent but illiquid. A working group has also been set up to arrange scenarios for testing once every year and to provide feedback to make improvements in the contingency plans.

31. There is room, however, to strengthen the current bank resolution framework by moving toward a more transparent and well-defined process for addressing troubled financial institutions. Several critical bank resolution decisions remain under the purview of the MOF. The MOF is in charge of granting, suspending and revoking licenses, approving mergers and acquisitions, deciding on conservatorship, and liquidating problem assets. A number of other supervisory activities require joint decisions between the MOF and the BOT, such as establishing minimum capital adequacy or suspending a bank’s operations. In a number of supervisory activities that are critical to ensuring banking stability, the BOT must first make a recommendation to the MOF and await its approval (e.g., increase in a troubled bank’s capital funds or removal of directors or executive officers). This sharing of regulatory enforcement powers with the MOF can result in delays in supervisory decisions. In this context, the mission urges the authorities to implement the recently designed prompt preventive action (PPA) and prompt corrective action (PCA) framework by the BOT. The PPA and PCA include many effective bank resolution elements including corrective actions to address liquidity problems and undercapitalization in various stages, clearly defined trigger points, and a corresponding set of measures that need to be taken to prevent undue delays. The PCA is awaiting MOF’s approval. For actions in which taxpayers’ money might be needed such as providing financial assistance to resolve troubled banks, the MOF needs to be fully involved in the decision-making process.

32. The authorities recognize that there are moral hazard problems associated with the current financial safety net arrangement. Thailand remains the only East Asian crisis country that has not yet formally removed its blanket deposit guarantee. Its continuation runs the risk of eliminating market discipline and facilitating weaker banks attracting deposits in direct competition with healthier banks. The mission supports the authorities’ intention to put in place a limited deposit protection scheme. It urges that the design of the new scheme include enhanced bank resolution tools providing for early resolutions of troubled banks, and mandate minimizing costs related to providing support to uninsured depositors.

V. Financial Market Integrity

33. The BOT has available a range of powers and instruments for effective systemic liquidity management. The BOT has full autonomy on how it uses its own instruments. The BOT is also closing its repurchase (RP) window to promote more active use of the interbank market for liquidity management. There are, however, a few legal shortcomings that could potentially limit the BOT’s ability to manage systemic liquidity. These are being addressed under the proposed amendments to the BOT Act. Passage of the amendments would permit the BOT to pay interest on banks’ uncollateralized deposits held with the central bank, which it currently cannot do. It would also remove the need for the BOT to receive approval by the MOF on the overall ceiling for the amount of BOT bills/bonds that can be issued for monetary purposes.

34. The assessment of BOT’s Automated High-Value Transfer Network (BAHTNET) shows that while the overall payment system is well developed and governed, the system is exposed to systemic risks. The finality of the settlement of interbank transactions can be challenged in the event of bankruptcy. Furthermore, the SEC and the TSD do not have presently the authority to respond promptly to financial failures by market participants. The mission recommends that these two shortcomings be addressed quickly.

35. The current AML/CFT framework needs to be brought in line with the requirements of the Financial Action Task Force (FATF) 40+9 Recommendations. While the Thailand AML/CFT regime has resulted in a very large number of suspicious transaction reports, a large amount of seized assets, and has contributed to the Thailand government’s objective of tackling drug crime, the legal and institutional framework is not fully in line with international standards and codes. There are weaknesses in the legal framework, in the pursuit of money laundering cases, coverage of institutions, and enforcement which should be addressed. The AMLA should be amended inter alia to: (i) properly criminalize all serious predicate money laundering offenses; (ii) provide for more comprehensive coverage of financial institutions; and (iii) clearly delineate the roles of Anti-money Laundering Office (AMLO) and the financial sector supervisors for monitoring compliance and provide appropriate powers for conducting compliance examinations. Financial institutions should be required to develop internal policies, procedures and controls for AML/CFT.

Annex: Observance of Financial Sector Standards and Codes—Summary Assessments

The annex contains summary assessments of five international standards relevant for the financial sector. The assessments were undertaken in the context of the FSAP during 2007 and have helped to identify the extent to which the supervisory and regulatory framework is adequate to address the potential risks in the financial system in Thailand.

The following detailed assessments of financial sector standards were undertaken:

  • The Basel Core Principles for Effective Banking Supervision (BCP), by Aditya Narain (IMF, MCM) and Göran Lind (external expert);

  • The International Organization of Securities Commission (IOSCO) Objectives and Principles for Securities Regulation, by Jonathan Katz (external expert);

  • The Transparency in Monetary Policy (MPT) by Jeanne Gobat (IMF, MCM);

  • The Principles for Systemically Important Payment Systems (CPSS) and the Recommendations for Securities Settlement Systems (RSSS), by Elias Kazarian (IMF, MCM); and

  • The AML and CFT, by Steve Dawe (IMF, LEG).

A. Assessment of Compliance with the Basel Core Principles for Effective Banking Supervision

36. The framework for banking supervision has been considerably strengthened since the crisis of the last decade. The BOT has a cadre of competent and well trained supervisory staff and has issued a comprehensive set of prudential regulations as well as guidance on risk management based on international best practices. A system of risk-based supervision is in place, which employs well documented and implemented on-and off-site techniques to focus on key risks in banks. The enabling legal framework for effective banking supervision is, however, a matter of concern as the MOF and not the BOT has been empowered by the law to take action on several routine aspects of supervision. While in practice, this may not have been a major impediment, the laws need to be amended to provide BOT the required operational independence to perform its supervisory functions. Another major gap is in the supervision and regulation of the state-owned deposit taking SFIs, which function as commercial banks but are not under the same supervisory regime as banks. The authorities are aware of these issues. Expediting passage of laws and amendments aimed at addressing them will go along way in improving compliance with the BCP.

Introduction

37. This assessment of the BCP in Thailand has been completed as part of the FSAP undertaken jointly by the World Bank and the IMF mission, which visited Bangkok during January 16–31, 2007. The assessment was carried out by Göran Lind of the Sveriges Riksbank and Aditya Narain of the IMF. It reflects the position of compliance of banking supervision practices of the Thailand authorities as of the end of January 2007.

Information and methodology used for assessment

38. Consistent with the October 2006 Basel Committee guidance and the timing of this assessment, the mission used the 1997 version of the BCPs and the 1999 version of the assessment methodology.13 It is based on a self-assessment of compliance prepared by the BOT, a review by the assessors of English translations of laws, regulations, and other documentation, as well as detailed interviews. The mission is grateful to the BOT for providing all of the information and documents required by the assessors and for arranging meetings with industry representatives and other agencies. The high degree of preparation and the methodical documentation provided has considerably facilitated the work of the mission. The mission met with officials of the BOT, the Fiscal Policy Office (FPO) of the MOF, the SEC and the Department of Insurance (DOI), and representatives of the banks, banking associations; accounting, legal and other financial services professionals.

Institutional and macro prudential setting, and market structure—Overview

39. The macroeconomic policy environment in Thailand has improved since the crisis of 1997, following the establishment of a new macro policy framework including inflation targeting, a managed floating exchange regime, and the implementation of a fiscal sustainability framework.

40. The banking sector is the mainstay of the financial system. Commercial banks account for almost 62 percent of financial sector assets at end-2006; the top five commercial banks account for about 61 percent of banking assets and 65 percent of deposits. The stock and bond markets have market capitalization at 72 percent of GDP and 44 percent, respectively. The insurance, provident fund and mutual fund sectors are growing, although from a small base. The structure of the banking sector has changed markedly since the 1997 financial crisis, with the number of deposit-taking institutions declining sharply from 135 at end-1996 to 50 at end-2006, with most of the consolidation taking place among finance companies. Foreign-owned banks play an important role but their contribution is restricted.

41. The government’s role as shareholder in financial institutions has increased sharply over the past decade, largely because of intervention during the financial crisis. The government has controlling stakes in three banks and significant shares in three others. There are several SFIs, four of which take public deposits and operate in competition with commercial banks, but are regulated under separate, SFI-specific laws. Level playing field issues arise due to state ownership of banks.

42. Banking fundamentals continue to strengthen, with most Thailand banks reporting high capital levels and solid profitability. The average capital-to-risk weighted assets ratio for Thailand banks was 14 percent at end-2006, well above the regulatory minimum. Banks’ profitability, which had strengthened considerably since 2004, fell in the fourth quarter of 2006 due to the large provisioning requirements arising as a result of the introduction of IAS 39. The resolution of troubled assets continues to be a key concern with a gross NPL ratio about 7.5 percent (loan loss coverage ratio at 70 percent as of end-2006 and the average rate of reentry of restructured loans into the NPL category of 14 percent.

Preconditions for effective banking supervision

43. Thailand has a civil law system under which the courts decide cases by applying or interpreting statutory provisions. In some cases the existing laws have been overtaken by developments in the financial sector. New legislation for banking and banking supervision, notably the FIBA, the amended BOT Act, and a DPA, are in the legislative process but none have yet been passed.

44. There has been a marked improvement in the overall credit environment. Credit rating and scoring systems have been developed in banks and a credit bureau now provides its services to both banks and nonbanks. The Bankruptcy Act and the Civil Procedure Code, which entails foreclosure procedures for civil cases, have been amended and a Bankruptcy Court and a Bankruptcy Case Procedure Act enacted. However, progress in resolution of the legacy NPAs still remains slow, due both to the prolonged processes required to possess the collateral and the “wait and watch” attitude of banks and AMCs looking towards a recovery in the property markets.

45. BOT has taken many steps to develop a crisis management framework to facilitate prompt and coordinated action in the face of a crisis. A contingency plan has been prepared to deal with systemic banking crisis and a continuity plan for disaster events and guidance has also been issued to banks in this regard. A crisis management committee chaired by the BOT Governor is designated to coordinate and manage crisis resolution. A working group has also been set up to arrange scenarios for testing once every year.

Main findings

46. Objectives, autonomy, powers, and resources (CP 1). Responsibility for banking supervision is shared between MOF and BOT. For some supervisory activities BOT may act on its own, but in many cases it must first make a recommendation to MOF and await its approval. Currently, MOF has delegated to BOT the ability to conduct offsite monitoring and onsite examinations of commercial banks and SFIs.

47. There are shortcomings in the present legislation that hinder effective supervision. BOT attempts to compensate for this by attaching contractual conditions when banks apply for permits. While this has often worked well in practice, the lack of explicit legal powers makes supervision less effective.

48. Licensing and structure (CPs 2–5). In addition to commercial banks and retail banks, some state-owned SFIs, may receive deposits in accordance with the special Acts under which they are established. The SFIs are regulated and supervised by MOF, although MOF has currently delegated the right to conduct examinations to BOT. The separate SFI Acts also set out rules for the corporate governance and audit of the SFIs, which are partly different from the corresponding rules for commercial banks.

49. Prudential regulations and requirements (CPs 6–15). The regulations and policies on capital adequacy are in line with the Basel Capital Accord of 1988, with a few exceptions. Reduced risk-weights for calculating capital charges have recently been introduced for loans collateralized by residential real estate and for small retail loans. Although the effect on banks’ capital of these changes is currently insignificant, since the remaining parts of the new framework will be applied only after December 2008, this could, in principle, weaken the capital adequacy regime in the interim period.

50. BOT has issued detailed guidance on risk management for banks, and has generally integrated these well in its supervisory framework. The classification system of NPLs is based on both qualitative and quantitative criteria. However, the level of restructured loans, and the proportion of these that result in NPLs continue to be high in some banks. Country risk management guidance has been issued recently and banks are still in the process of implementing the required framework and devising related risk rating and provisioning systems.

51. The framework for managing operational risk encompasses losses arising from fraud, and components of AML/CFT have been reinforced through onsite examination, although comprehensive supervisory guidelines in this regard have only recently been issued and the MOU for information sharing between BOT and AMLO just signed.

52. Methods of ongoing supervision (CPs 16–20). BOT follows a system of continuous supervision that uses both onsite examination and offsite monitoring based on the assessment of key risks. Currently, the BOT does not have adequate legal authority to call for information from banks on a consolidated basis, or from entities related to banks. It also requires MOF approval to introduce any periodic reporting requirements, and the authority to examine banks has been delegated to it by the MOF under the Act. While this has not hindered BOT supervision currently, this can be an impediment in the future.

53. Information requirement (CP 21). Banks in Thailand are subject to accounting and auditing standards that have been broadly accepted internationally. The local accounting standard conforms generally with the IAS, with some exceptions. For instance, IAS 39 is currently being implemented on a gradual basis, which includes stricter rules for loan-loss provisioning. The appointment of external auditors for each bank must be approved by BOT on a yearly basis. Before each audit, the external auditor submits and discusses the scope of the audit with BOT. According to the law, external auditors must report any material findings to the bank’s Board and to BOT and also provide special reports to BOT on effectiveness in internal audit and instances of related lending.

54. Formal powers of supervisors (CP 22). Laws and regulations provide a wide range of remedial powers to MOF/BOT. However, in cases where BOT has to wait for MOF approval of proposed corrective actions timeliness and effectiveness might be impaired. BOT has recently proposed to issue a more structured policy framework for taking PCA against under-capitalized banks.

55. Cross-border banking (CPs 23-25). Although overseas assets of Thailand banks are only about 7 percent of total assets, some banks have become more active internationally and BOT has recently begun conducting onsite inspections of major overseas operations. MOUs for information-sharing with foreign supervisory authorities have also been concluded in a few cases.

Table 5.

Thailand: Summary Compliance with the BCP—Report on the Observance of Standards and Codes (ROSCs)

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Table 6.

Thailand: Recommended Action Plan to Improve Compliance with the Basel Core Principles

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Authorities’ response

56. The Thailand authorities would like to thank the FSAP mission for the various reports and findings of Thailand’s observance on standards and codes, and more particularly for the comprehensive sets of assessments and recommendations of the Thailand banking regulations as part of the FSAP. As the FSAP mission recognized the significance of the banking sector in Thailand, the mission also emphasized that the system enjoys a high degree of compliance with the BCP principles and objectives of banking regulation. Where there are gaps, without due delay, the authorities have already taken steps to implement some of the recommendations and are carefully considering the others to develop the policy agenda for further enhancing effective supervision. As banking activities are changing rapidly around the world, and the internationally accepted regulatory environments are swiftly evolving, our policy objectives in the coming years are to continue to work towards achieving optimal compliance with the existing BCPs and the revised BCPs, and equally ensuring the strength of our system for continued growth, stability, and the protection of consumers and market integrity.

57. As reported in the Detailed Assessment (DA), Thailand fares satisfactorily well in both essential and additional criteria in banking regulation system measuring against international best practices. The authorities would like to highlight some of those elements mentioned in the DA and those discussed during both missions so as to provide complete and balanced information in our response associated with this summary report.

58. We agree with the FSAP mission’s findings that the laws had not kept pace with what we needed to perform our job in the past. While the explicit legal powers are to be preferred, the FSAP mission confirmed that they did not find interference and we have continued to press ahead to achieve the high quality outcomes. However, the legal infrastructure going forward will be greatly strengthened in line with international best practices. In December 2007, the National Legislative Assembly has passed the new FIBA and DPA, and the amendment of the BOT Act. Under the new FIBA, the BOT will have broad explicit supervisory power, including the authority to conduct consolidated supervision and take prompt corrective actions. The BOT will have sole responsibility for virtually all ongoing supervisory tasks, while the Minister retains the formal authority to grant or revoke licenses, but only on BOT’s recommendation. The amended BOT Act will further enhance operational independence of the BOT as the Governor will be appointed on a fixed term basis (5 years), with conditions for premature dismissal explicitly specified in the law. The new DPA will provide explicit, limited deposit guarantee to depositors as well as reduce moral hazard in the financial sector.

59. As Basel II will be fully implemented in Thailand in 2008, BOT is committed to sound regulation and is actively considering the recommendations contained within the report for future policy outcomes. Under the current laws, BOT has implemented various regulations. The major regulation now in place includes the consolidated supervisory framework, which gives the broad range of powers to review the banking structure, its related parties and nominees. We also have developed an early warning system and bank resolution methodologies to enable BOT to take necessary, prompt corrective and preventive actions. In line with Pillar II, our continuous, supervisory review process has been strengthened and well-integrated into our system since 2001. The BOT examiners have been enforcing the minimum standards as set out by the current banking law. In addition, where necessary, they have been able to utilize qualitative judgment to gather and independently verify information, and applied a range of penalties when prudential requirements are not met or risks deemed to be material and concentrated. For this vigorous review, coupled with other global forces of change, market participants have responded positively by upgrading their systems and operational structures with more sophisticated risk management and more improved governance practices. As a result, the system reflects a level of strengthened capital adequacy with a low rate of new NPLs and reentry of restructured loans.

60. As mentioned in the DA, we have employed various channels of communication and cooperation, ranging from formalized MOU to making informal contacts. Such system of interagency cooperation and sharing of relevant information has been used for both domestic and foreign regulators. In the domestic context, through the functioning and membership of Financial Institutions Policy Committee (including representatives from MOF, SEC, DOI, the Council of State, Federation of Accounting Profession (FAP), and the Agricultural Futures Exchange), it provides an effective channel for co-ordination, especially in minimizing regulatory arbitrage and conducting problem bank resolution. At the technical level, we are also actively pursuing cooperation as recommended by the FSAP mission. This additional channel will be useful for system-wide policy implementations; first of which may include suitable measures to resolve the problem of legacy NPLs.

61. With respect to the role of Government in the banking system, particularly SFIs supervision, the economic and social objectives of SFIs, fitting in Thailand economic and social development context, should continue to be maintained in SFIs’ operations in a foreseeable future. The international standard practices as recommended by the FSAP mission would help policymakers to come up with the most appropriate reform, design, fitting particular circumstances, for example the need of comprehensive, medium term strategy for the SFIs and a systematic process to evaluate the outcomes and cost effectiveness of government policy intervention. However, the MOF has to be cautious that the assessment is set as a prescriptive norm without certain flexibilities. Then, the application may be difficult to implement in Thailand.

Role of SFIs

62. SFIs are important and vital to provide financial services to specific groups such as the low-income households, farmers and infant SMEs. These groups are the backbone and blood line of the country and do not have access to normal financial markets.

63. The partial functions of SFIs may be the same as private commercial banks in providing banking services to the people. However the overlapping of the market segment between commercial banks and SFIs is insignificant. Most of SFIs customers are low and medium income people and in the provincial areas. SFIs provide loans with concessional terms and conditions. The amount of loans is very small compared with commercial banks. It inevitably confirms that Government Housing Bank (GHB) does not increasingly compete with commercial banks. 90 percent of the GHB lending portfolio is loans that are less than B 1 million.

64. Moreover, the operation of SFIs in the overlapped market segment does not undermine the role of the private financial sector, but it is considered as a benchmark for commercial banks to improve their operation.

Deposit taking SFIs

65. SFIs still need to be funded since one of the main missions of SFIs is to promote and enhance the saving discipline of Thailand people. Moreover, the deposit taking by GHB, Bank for Agriculture and Agricultural Cooperatives and Government Savings Bank (GSB) (SME Bank is not a deposit taking institution) are different from commercial banks. Most of the deposits placed are from their borrowers and mostly low-income home owners and farmers.

66. Since SFIs serve as the development bank and the mechanism of the government to fill the gap of financial services rendering and to support the country’s economic policy. Therefore, it is the responsibility of the MOF as the economy oversight agency to supervise the SFIs with a special supervisory framework to facilitate the work on their main mandate and mission. However, the direction and policy to comply with the international prudential standards is clear and MOF and all SFIs are well aware.

67. As the SFIs supervisory authority, MOF works under the certain legal framework in each Enabling Acts identifies the key prudential regulation that need to be exploited. Furthermore, MOF also has been increasing prudential regulation in key areas such as capital adequacy, liquidity asset, asset classification and provisioning based on their specific characters by Ministry Regulation or Declaration. It could be stated that the way SFIs have been supervised has been appropriate. Regarding the past performance of the SFIs since the financial crisis, SFIs did not suffer the same problems as the commercial banks and the government had assigned SFIs as a public mechanism to revitalize the Thailand economy. In addition, the SFIs have been doing well in certain segments. For example, in the housing market, it has commanded almost half of the market share and mostly because the commercial banks could not provide mortgage loans.

68. Beside the compulsory work, the MOF is on the process to strengthen efficiency quality and transparency of SFIs supervision. Ongoing projects that will enhance the monitoring framework further from an annual basis are SFIs Monitoring and Reporting System, Information Dissemination through the FPO website and the NPL Resolution plan (year 2006-2008).

69. With the special supervisory framework, there might be a competitive advantage of SFIs over other financial institutions; for example SFIs are exempted from corporate income tax (30 percent), specific business tax (3.3 percent) and stamp duties. However, SFIs as State-Owned Enterprises are subjected to commitment of revenue remittance. GSB, GHB and EXIM are required to remit 35-45 percent of their profit to the MOF. Their revenue remittance is compatible (more or less) to corporate tax payment (Table 7).

Table 7.

Thailand: SFI Revenue Remittance

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Remittance Ration - % of profit remitted to MOF.

B. Summary Assessment of Implementation of the IOSCO Principles

70. Thailand has a fundamentally sound system for regulation of its capital markets. The effectiveness of the regulatory system could be improved by providing the Thailand SEC with the legal authority to file civil enforcement actions to address misconduct and to impose monetary penalties administratively. Regulatory effectiveness would also be enhanced if the SEC Board is restructured for greater independence, if there is increased coordination of policy decisions and policy implementation among government agencies and responsibility for licensing financial intermediaries is transferred from the MOF to the SEC. The adoption of International accounting standards will likely result in a significant need for interpretive guidance on application. The Thailand Federation of Accounting Profession will likely require additional professional staff to meet this need.

Information and methodology used for assessment

71. This is an assessment of the SEC. This assessment was conducted in January, 2007 by Mr. Jonathan Katz, a technical advisor to the World Bank, as part of the FSAP.

Institutional and market structure—Overview

72. The SET was created by law in 1975 and the Thailand Futures Exchange (TFEX), a wholly owned subsidiary of the SET, began operation in 2006. Equity trading of listed companies must occur on the SET. There are 518 listed companies on the SET, with a total market capitalization of approximately B 5 billion (as of December 2006). Daily trading averages B 16.3 billion. Retail investors account for over 55 percent of daily trading. Foreign investors account for 34 percent and institutional investors for the remaining 11 percent. Only one product is currently available on the TFEX, a SET50 future.

73. The Thailand securities markets have grown significantly in the past ten years. However the growth has slowed in the past year. Market valuations following the market declines in fall 2006 are relatively low, with a typical P/E ratio of less than 10. The market capitalization is heavily concentrated. The ten largest cap companies represent approximately 40 percent of the total market cap. The government continues to own a substantial portion of these largest companies and when combined with control person ownership, this results in limited liquidity for the remaining freely floating shares.

74. The brokerage community in Thailand is small and not well capitalized. The MOF has not awarded a new brokers license in ten years, preferring that new entrants purchase an existing firm. There are currently 41 licensed firms and these firms rely heavily on commission fees for revenue (estimated at 75 percent of total industry revenue). Because commission rates are fixed by the SET, there is little incentive to invest in other business areas. Many firms appear to rely heavily upon day trading by retail investors for commission revenue.

75. One of the perceived reasons for the low equity valuation and market liquidity is the small size of the institutional investor community in Thailand. Mutual funds in Thailand are largely invested in government debt and private pension investment is similarly low. As of December 2006, there were 18 asset management companies managing 807 mutual funds, with total assets of approximately B 1,222.5 billion.

76. The debt market in Thailand is conducted primarily in an informal over-the-counter (OTC) manner. The Thailand Bond Market Association (TBMA) publishes government trades upon receipt and corporate trades twice daily. Daily liquidity in the Thailand bond market (corporate and government) is limited. Excluding bank repo transactions, the number of transactions is typically less than 300, with as few as one crossed through the SET electronic system. The total estimated value of the corporate debt market is approximately B 1 trillion but the value of the daily trading is less than 3 percent of the total.

77. The SEC was created in 1992 with the enactment of the SEA Act B.E. 2535 (SEA). The SEC is headed by a Board comprised of 11 members. Five members are ex officio including the MOF, who is the Board Chair, the Governor of the BOT, the Permanent Secretaries of the MOF and Commerce, the Secretary-General of the SEC and 4-6 members are appointed by the Cabinet following the recommendation by the MOF. Board members are appointed for staggered fixed six year terms. The appointed members must include at least one legal expert, one accounting expert and one financial expert. None of the 4-6 expert members appointed by the Cabinet may be a political official.

Preconditions for effective securities regulation

78. The Thailand securities laws are fundamentally sound and comprehensive. However, there is a need for specific amendments to the law in areas pertaining to SEC enforcement authority; SEC and TSD authority to act in the event that a licensed broker fails, to prevent one firm’s failure from causing systemic failures in the industry; and implementation of key shareholder protections identified in a 2005 ROSC on corporate governance. Each of these issues is discussed in the detailed assessment.

Main Findings of principle by principle assessment
Table 8.

Thailand: Summary Implementation of the IOSCO Principles—ROSCs

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Table 9.

Thailand: Recommended Action Plan to Improve Implementation of the IOSCO Principles

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Authorities’ response
General view

79. Joining FSAP is a very fruitful experience for the SEC, Thailand. The assessment results reflect a satisfactory level of implementation of IOSCO Principles and can serve as an assurance that Thailand’s securities regulation is on par with international best practices. Major weaknesses identified, most of which involve limitations in our legal authority, have been treated as highest priorities in our ongoing law amendment agenda.

Independence of the SEC

80. In practice, the SEC has operational independence in carrying out its day-to-day activities. Though the mission views that a certain provision (262) in the securities law is theoretically open for possible involvement by the Finance Minister in SEC daily decisions, the provision has never been invoked by any Minister.

81. The SEC is aware that the existing composition of the SEC Board, with the Minister of Finance as Chair and a number of government appointees, cannot be considered independent, though in practice the Minister has never involved in the SEC’s daily activities. With an effort to strengthen independence in this regard, an amendment to the existing law has been proposed to restructure composition of the SEC Board and improve appointment and dismissal process of Board members. The draft law amendment is now in the process of enactment.

Enforcement powers

82. The mission’s recommendation for the SEC to have the power to file civil enforcement actions independently, including the power to impose money sanctions against the violators of the SEC Act would help enhance the SEC’s enforcement authority significantly. Apart from civil power, the SEC considers that improvement in administrative power, particularly imposition of administrative sanctions on those who are not regulated persons or entities under the SEC Act, is also important. For instance, the explicit power to bar or blacklist a person from being a director of a listed company would be a meaningful tool to enforce our regulations in relation to good corporate governance and further enhance effectiveness of law enforcement.

Authority to deal with a failing securities firm

83. The SEC is aware of the gap in its legal authority to deal with the eventuality of a failing securities firm and a draft amendment to the SEC Act has been proposed and accepted by the Cabinet. This amendment, when effective, would give the SEC the power to segregate and administer client assets in the event of a firm’s failure. Indeed, the amended SEC Act was passed on August 7, 2007, after the completion of the assessment and as such eliminates the uncertainties in TSD functioning as a settlement counterparty.

C. Summary Assessment Observance of the Transparency Code in Monetary Policy

84. While a culture of monetary policy transparency has been firmly established by the BOT, further challenges remain in particular on the legal framework. The generally high observance of sound monetary policy transparency principles is primarily the result of extensive efforts on the part of the BOT to overcome the legal shortcomings through a highly open process for formulating and reporting on monetary policy. Changes in the monetary policy stance are regularly explained to the public. Information on the specification and use of the BOT’s monetary instruments is publicly disclosed and the BOT meets the standards on data reporting on monetary and financial statistics.

85. Significantly weighing on monetary policy transparency, the objectives of monetary policy are not defined in any of the Acts. While in practice, the government does not interfere with the policy formulation and operation of the BOT, the law allows the MOF to have the authority over the BOT’s operation and the conditions under which the MOF is permitted to do so are not spelled out. In addition, the terms of office for the Governor and Deputy Governors are not spelled out in legislation and the Governor can be removed from office by the Crown upon recommendation of the Cabinet. This inevitably raises questions about the clarity of the role and the responsibilities for monetary policy between the BOT and the MOF.

86. Recommended actions to improve monetary policy transparency require primarily legal amendments, to the BOT Act, the Royal Decree and the Currency Act, and these should be addressed urgently. Among the most important ones are: clarify the primary objective of monetary policy in the BOT Act; assure the BOT’s full operational independence and accountability; clarify the role of the MOF in BOT’s decision making process; and spell out the terms of office of the Governor and Deputy Governors. Other recommendations to further enhance transparency of monetary policy do not warrant placement at the top of the reform agenda at this time. These include moving toward a consolidated balance sheet and income statement to further enhance overall transparency. While the BOT accounts are independently audited by the Office of the Auditor General of Thailand, which is consistent with the Code on Monetary Policy Transparency, the BOT would benefit from having its financial account audited, in parallel, by an independent private accounting firm.

87. The BOT is in the process of amending the BOT Act, and the proposed amendments would help, if enacted, address several of the institutional shortcomings in monetary policy transparency. The amendments of the BOT Act have been approved in principle by the Cabinet on February 27, 2007 and are now under review by the Council of State for legal clearance.

Introduction

88. This assessment covers the transparency of monetary policy in the Kingdom of Thailand, and in particular its formulation and implementation by the BOT in the context of the government’s overall economic strategy. It forms part of the FSAP for Thailand, which was conducted jointly by the IMF and the World Bank during 2007. The assessment was undertaken during the first FSAP mission in January 2007, with additional discussions during the second mission early June 2007. The main assessor was Ms. Jeanne Gobat of the Monetary and Capital Markets Department of the IMF.

Information and methodology used for assessment

89. The assessment is based on information available in January and March 2007, and specifically on a review of relevant laws and regulations then in force, publications issued by the Thailand authorities, speeches and presentations, and material provided and posted on the BOT’s website; the authorities’ response to the questionnaire and their self-assessment of observance of the code; and discussions held with the authorities at senior level and among various departments and divisions of the BOT and financial sector representatives. The authorities cooperated fully, and generously provided materials and time for discussion.

Institutional structure—Overview

90. The current institutional arrangement governing the implementation of monetary and exchange rate policy is complex. The MOF is in charge of the BOT Act, the Currency Act and the Exchange Control Act. The powers and duties described under the Currency Act and the Exchange Control Act have been delegated to the BOT. In addition, the Royal Decree issued under the BOT Act describes the instruments, duties and transactions that the BOT is authorized to conduct. The BOT under the current legal arrangement is responsible for the conduct of monetary policy and implementation of exchange rate policy, foreign reserve management and the management of exchange controls, as well as note and currency issuance. There are some weaknesses in the current institutional arrangement. Specifically, the objectives of monetary policy are not defined in any of the Acts. Also, the operational autonomy of the BOT is constrained as the MOF is given the power to supervise the activities of the BOT (Section 14 of the BOT Act) and the Governor can be removed from office by the Crown upon recommendation of the Cabinet.

91. The BOT is what generally is known as a statutory body and a juristic person capable of suing and being sued. The governing body of the BOT is the Court of Directors (CoD), consisting of the Governor (Chairman of the CoD), three deputy governors as Vice Chairman and at least five non-executive directors. The Governor and deputy governors are appointed or removed by the Crown upon the recommendation of the Cabinet while all other CoD directors are appointed and removed by the Cabinet upon the recommendation of the MOF. There are also the Audit Committee that reports to the CoD and the Top Management Committee, which consists of high-level executives of the BOT, acting as executive board of BOT.

92. While the BOT Act specifies a narrow mandate for the BOT, its duties and activities are expanded under the Royal Decree Regulating the Affairs of the Bank of Thailand. The BOT has the power to set interest rates for its standing facilities and rediscount paper; buy and sell debt instruments and foreign exchanges and extend credits to financial institutions against eligible collateral. Under the Royal Decree, the BOT cannot pay interest rates on any type of uncollateralized deposits. While the BOT needs to ask for MOF permission for the overall outstanding size of BOT bonds, it determines the tenors, the auction amount and the frequency of BOT bond issuance.

93. Although monetary policy objectives are not explicitly stated in the BOT Act, the BOT has been de facto implementing an inflation targeting (IT) framework since May 2000. The BOT targets the quarterly average core inflation range of 0-3.5 percent. The Monetary Policy Committee (MPC) is the policy body responsible for setting monetary policy in the context of inflation targeting. The MPC signals shifts in monetary policy stance through announced changes in its key policy rate, the 1-day overnight RP rate. In the context of inflation targeting, the BOT manages a floating exchange rate regime. This has been in place since July 2, 1997 when the government of Thailand abandoned the pegged exchange rate regime. Under the current regime, the exchange rate is market determined, although the BOT manages the exchange rate by intervening in the foreign exchange market from time to time and occasionally through the use of exchange controls.

Main findings
Table 10.

Thailand: Summary Observance of the Transparency Code

(Monetary Policy)

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Table 11.

Thailand: Recommended Action Plan to Improve Observance of the Transparency Code

(Monetary Policy)

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Authorities’ response

94. Recognizing the shortcomings in the legislation establishing the BOT in providing a clear monetary policy framework, the BOT has taken extensive efforts to close these gaps through an open and transparent framework for monetary policy decision-making and monetary policy operations. In many cases, the BOT has gone above and beyond the requirements that have been stipulated in legislation in order to achieve these goals, particularly in terms of data dissemination and information disclosure.

95. The BOT therefore welcomes the findings that monetary policy has been conducted in a transparent manner, which is crucial for the conduct of monetary policy under the inflation-targeting framework. The BOT also appreciates the recognition of the FSAP mission that such a high degree of transparency in formulating and reporting monetary policy has been the result of the BOT’s continuous and extensive efforts to achieve these goals.

96. Given the importance of the legal framework underpinning transparent and credible monetary policy, the BOT has long been committed to addressing the remaining shortcomings in the legal framework with a view to defining the objectives of monetary policy as well as providing greater operational autonomy and accountability to the BOT. As acknowledged by the FSAP mission, the proposed amendment of the Bank of Thailand Act has already been approved in principle by the Cabinet. It is expected to be enacted by the Legislature within the term of this administration. Other key legislations are also in the pipeline.

97. The BOT is determined to take additional steps to further improve transparency in the conduct of monetary policy in areas identified in the assessment. However, with regard to the issue of publication of BOT’s consolidated balance sheet and income statement, it is important to note that the Currency Reserve Account, as one of the components of the Issue Department, is wholly owned by the MOF, whereby the BOT is acting merely as a reserve manager. Therefore, a consolidated balance sheet and income statement, as recommended by the FSAP mission, would be neither practical nor appropriate. Nevertheless, the balance sheets of Issue Department and Banking Department are already published on a weekly basis in the Royal Gazette and the BOT website. In this connection, the BOT recognizes that further clarification on this issue to the public will help increase our overall transparency.

D. Summary Assessment of Observance of Principles for Systemically Important Payment Systems

Systemically important payment systems (CPSS)

98. The BAHTNET is a sound and efficient payment system and complies with the CPSS core principles for Systemically Important Payment Systems (CPSIPS). The system functionality is well developed, its risk management to mitigate credit and liquidity risks is adequate and its governance structure is affective and transparent. The legal basis to ensure settlement finality should further be strengthened. Some recommendations are provided in order to further enhance the operations of BAHTNET and its regulatory environment.

99. The summary assessment of compliance of BAHTNET with the CPSIPS was conducted in January 17-31, 2007. It was based on a comprehensive self-assessment, prepared by the BOT, and discussions with officials from relevant departments of the BOT, and with representatives of commercial banks and other financial institutions. During the discussions, complete information was received on the relevant laws, regulations, administrative polices and other technical and business aspects of the payment systems in Thailand. The methodology used for the assessment followed the Guidance Note prepared in August 2001.

Institutional and market structure

100. The BOT Act stipulates the roles of BOT in payment systems, including the issuance of bank notes and the operation of interbank clearing system. Based on this act, the BOT is empowered to issue regulations and guidelines on its payment services. The Payment Systems Committee (PSC) was set up in 2001, chaired by the Governor, with the aim of defining the BOT payment systems policy and oversight and promoting efficient payment systems and infrastructure in Thailand.

101. The BOT owns and operates BAHTNET, System for Managing Automated Retail Funds Transfer (SMART) and the Electronic Checks Clearing System (ECS). BAHTNET, which is a real time gross settlement (RTGS) system, is considered the only systemically important payment system in Thailand. It was modified in 2001 to allow for real time automated delivery versus payment (DVP) mechanism for the settlement of government securities. Payment transactions are processed and settled continuously and irrevocably in real-time. Final settlement of obligations between BAHTNET participants is executed through entries to their accounts at the books of BOT. The major bulk of BAHTNET payment transfers are channeled via SWIFT network and smaller amount of transactions are transmitted via BOT web-based platform.

102. BAHTNET accepts payment instructions for interbank payments and for the settlement of net balances arising from low value payments systems such as ECS, SMART and Online Retail Funds Transfer system. BAHTNET also settles on a real time and gross basis the cash leg of the government securities transactions. In 2006, BAHTNET had 65 participants and the daily average value of transactions was B 595 billion and the volume was 7,220 transactions.

103. There is no explicit legal provision that empowers the BOT to oversee the payment systems. Its oversight responsibility is derived from its statutory responsibilities for monetary policy and banking supervision. Consequently, the BOT has the legal basis to oversee only payment systems operated by the commercial banks. However, a Royal Decree, which the Government expected to be enacted in 2007, would empower the BOT to regulate and oversee electronic payment services

Main findings
Well-founded legal basis (CP 1)

104. The current regulatory framework ensures that the design and operations of BAHTNET have a sound and solid legal basis. In particular, the relationship between the BOT and BAHTNET participants are based on contractual arrangements and enforced by laws. Although there is no zero hour rules in Thailand, it can not be ruled out that payment transactions settled in BAHTNET can be revoked in the event of insolvency. The Bankruptcy Law is currently being amended in order to address this issue.

Understand and management of risks (CP 2 and 3)

105. The BOT uses a variety of channels to ensure that participants understand BAHTNET business features, operational specifications and the risks they incur by using the system. Furthermore, the system’s regulations identify the obligations and rights of the members and the system operator.

106. BAHTNET has adequate risk measures procedures in order to cope with credit and liquidity risks. It is an RTGS system with optimizing settlement functionality and queuing facility that settles in central bank money and allows access to liquidity from the central bank based on repo transactions. The BOT has well-established and adequate procedures to handle crisis situations.

Settlement (CP 4, 5, and 6)

107. BAHTNET settles in central bank money on a continuous basis during the day with intraday finality. The system provides prompt final settlement during the day although there is a potential risk that a transaction can be revoked in the event of insolvency. It is deemed that credit risk is negligible due to the lack of concentration of payments to few direct participants. Operating times are clearly defined and monitored.

Operational reliability and efficiency (CP 7 and 8)

108. BAHTNET activity and the payment process are monitored throughout the operating day and incidents and disruptions are logged adequately. Rules and routines are in place for operational follow up. The BOT has a contingency plan to cope with a wide range of incidents and failures. The system is protected from failures of technical infrastructure, services and natural disasters through redundancy at the primary site and duplication of services at the remote backup site. The contingency plan can be enhanced further by carrying out separate test specifically for BAHTNET, and requiring information on the testing result of the participants’ internal payment systems.

109. As an RTGS system, BAHTNET meets the key requirements of speed, cost, practicality, and users’ relevance. The system has an intra-day liquidity management arrangement, queuing facility and optimizing mechanism. At present, the BOT covers only BAHTNET operating cost, which is about 50 percent of the total cost. The BOT may consider reviewing its pricing policy taking into account the total cost as well as BAHTNET’s benefit for the economy.

Access and governance (CP 9 and 10)

110. BAHTNET system is open to banks other financial institutions and under limited circumstances, nonbank government agencies. Its access criteria are clear, publicly disclosed, fair and objective. The governance arrangements are effective, accountable and transparent. BOT owns and manages the system. BAHTNET’s participants are consulted on any major changes introduced to the system. However, the BOT may consider setting up an advisory user group that meets on a regular basis to discuss the system’s technical and business features. BAHTNET fulfils the other nine CPSIPS.

Central bank responsibilities (A-D)

111. The BOT has a legal framework for its oversight activities for payment systems operated by commercial banks but not for systems operated by other institutions. The BOT objective (published in the Payment Systems Annual Report) is to promote sound and efficient payment systems in Thailand. The PSC was set up in order to advise the BOT in implementing its oversight responsibility and payment systems policy. The BOT Act is currently being revised to provide the legal basis for the BOT objective in the field of payment systems and the roles and responsibilities of the PSC.

112. Within the Payment Systems Department there is a clear separation between the staff managing BAHTNET and those preparing the policy and oversight of the BOT. A formal assessment of BAHTNET against the Core Principles was carried out by the Payment Systems Policy and Oversight Office and the report was discussed by BOT executive management.

113. The BOT has set up a special office to oversee private sector payment systems. At present, there is no privately operated system in Thailand considered systemically important by the BOT.

114. The BOT cooperates with the SEC and other relevant authorities, and a MOU provides for information sharing. This cooperation can further be enhanced by having regular meetings between the BOT and the SEC. The BOT also cooperates with other central banks.

Table 12.

Thailand: Summary of BAHTNET’s Observance of CPSIPS

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Table 13.

Thailand: Recommended Actions to Improve BAHTNET’s Observance of CPSIPS and the BOT Responsibilities in Applying the CPs

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Authorities’ response

115. BOT agreed with the assessment and appreciated to have had Thailand’s systemically important payment system, the BOT BAHTNET, reviewed by the IMF and the FSAP. The review was conducted professionally and cooperatively.

116. With regard to the recommendation to have explicit legal protection for settlement finality in both BAHTNET and securities settlement system, the Bankruptcy Law has already been in the process of amendment. It is to ensure that transactions in BAHTNET cannot be revoked by the court order in the event of insolvency of the participant.

117. As BOT is at the initial stage of implementing payment systems oversight, some necessary steps are needed to broaden the area of oversight. Currently, BOT is formalizing the oversight methodology and procedures.

E. Recommendations for Securities Settlement Systems

118. The assessment of TSD against the CPSS/IOSCO/RSSS demonstrates that the system to a large extent is sound, efficient and reliable. However, essential measures need to be introduced in order to strengthen the legal soundness of the system, enhance its governance, improve its communication network and increase transparency of the system. In particular, the netting arrangements should be legally valid even in the event of bankruptcy. The settlement and depository functions of TSD need to be protected from the credit and liquidity risks inherent in the CCP function. In addition, there is a potential conflict of interest between providing CCP and CSD services as the former one may obligate participants to use its CCP service in order to have access to CSD functions. The most effective way to avoid a conflict of interest is to legally separate the CSD and the CCP functions. To reduce the settlement risk, TSD should refrain from allowing debit balances of securities. TSD settlement and custody fees are bundled into the total fees charged by the SET. TSD should have its own pricing structure and regularly review its pricing levels against its costs of operation. Adequate regulatory and oversight frameworks should be put in place which would allow the SEC to exercise its’ regulatory tasks, and allow the BOT to exercise its’ oversight responsibilities effectively. Cooperation between the SEC and the BOT should be substantially strengthened.

Information and methodology

119. Assessment of the securities settlement system was undertaken in May 2007. Prior to the mission, the SEC conducted a self-assessment. The Thailand authorities were fully cooperative. The mission also benefited from meetings with market participants. The assessment covers TSD as the CSD and the settlement system for a broad range of securities, such as equities, government bonds and corporate bonds traded both on regulated markets and OTC. The assessment does not cover the CCP function of TSD. This function should be assessed against the CPSS/IOSCO recommendations for central counterparty, which covers broader aspects of CCP activities.

Institutional and market structure

120. The securities markets in Thailand are relatively well developed. The size of the equity market was US$112 billion at the end of 2006, equivalent to 51 percent of GDP and the number of listed companies amounted to 518. The annual turnover value for 2006 was US$111 billion. The debt market is relatively large in Thailand. At the end of 2006, the outstanding value of government bonds and bills was US$41.45 billion (18.81 percent of GDP) and US$6.43 billion (2.92 percent of GDP), respectively. Apart from government bonds, the outstanding value of state-owned enterprise bonds was US$9.39 billion and US$4.46 billion for government guaranteed and nongovernment guaranteed issues, respectively. As for state agency bonds, the outstanding value was US$25.29 billion. Most corporate bonds were issued domestically in private placement with an outstanding value of US$23.98 billion. The total trading value at 2006 year-end was recorded at US$120 billion with an average daily trading value of US$496 million.

121. The SET, established by a 1974 law is the only authorized regulated securities market. It began trading operations before the establishment of SEC. In 1998, the Market for Alternative Investment was established as a business unit of the SET to open up fund-raising opportunities for small and medium-sized enterprises. TSD, a wholly owned subsidiary of the SET, is the only clearinghouse and central securities depository in Thailand. It provides central securities depository and settlement functions for equities, government and corporate bonds, bills of exchange, investment units and warrants. TSD also acts as a CCP for equities. Members include securities companies, commercial banks, custodian banks, finance companies, BOT, and certain institutional investors such as insurance companies, financial institutional or juristic persons established by specific laws.

122. The SEC, established in 1992 under the SEA, is responsible for regulating securities businesses in Thailand. The SEC is empowered to supervise and develop the primary and secondary markets. The SEC is authorized to regulate and supervise securities clearing and settlement systems, but for historical reasons, the TSD is exempt from being regulated by the SEC. Currently, the BOT does not have any active role in overseeing the clearing and settlement activities of the TSD.

Main findings
Legal framework (Rec. 1)

123. The regulatory framework provides some legal protection for the operations of TSD. The business relationship between TSD and its participants is based on contractual arrangements, enforced by laws, but there is uncertainty whether the netting arrangement is legally protected in the event of the insolvency of a participant.

Pre-settlement risk (Rec. 2-5)

124. All trades between direct market participants are confirmed the same day and are settled three days after trade execution for equities, and two days for debt instruments. Technological improvements need to be introduced to the system before further shortening the settlement cycle.

125. TSD acts as a CCP for securities listed on the SET. No cost-benefit analysis has been carried out to introduce CCP for debt instruments. Issues related to the regulation of CCP, risk management, financial strength and efficiency are covered by the CPSS/IOSCO Recommendations for CCP and, therefore, the SEC is encouraged to assess TSD against these Recommendations.

126. There is a securities lending and borrowing mechanism in place, but lending activity is very low. Allowing nonresidents to participate in the local securities lending market would contribute to its development and enhance the liquidity in the securities market.

Settlement risk (Rec. 6-10)

127. Securities are issued in a physical form and a relatively high share of them are immobilized. Moving towards dematerialized securities regime—where the issuance and transfer of securities take place in a book entry form—would significantly reduce the cost of settlement and custody, and improve the efficiency of the securities market. TSD has adequate risk control procedures to address participants’ failure to settle, including calling for full collateralization of exposures that exceed a predetermined limit. However, due to the lack of a same-day buy-in facility, the TSD ends up permitting debit balances in equities.

Operational risk (Rec. 11)

128. TSD has adequate procedures and processes to monitor, identify, and manage operational risk. Issues related to operational risk are handled by senior managers and checked by the Managing Director. Written documentation is in place to handle different contingency scenarios. A “live” secondary site is in place that allows the resumption of operations within a short period of time in the event of any malfunction of the primary site. The TSD business continuity plan, including a back-up facilities system, is subject to both internal and external audit.

Custody risk (Rec. 12)

129. Several technical and institutional arrangements are in place to ensure the protection of the customers’ securities. Participants are obligated to segregate their assets from those of customers, and to reconcile the securities held in their records, they need to carry out internal audits on a regular basis.

Other issues (Rec. 13-19)

130. TSD access criteria are objective and permit fair and open access to all financial intermediaries. The TSD may open its system to foreign participants after implementing the appropriate risk management procedures. TSD uses a proprietary network to send and receive instructions that does not fully meet international procedures and standards. TSD rules and other contractual arrangements defining the rights and obligations of the participants are publicly available. The SEC intends to publish the answers to key question in RSSS methodology on its website. In order to influence the design and operation of TSD, SEC needs to rely on the SET. TSD is not subject to the oversight responsibility of the BOT. An MOU between the SEC and the BOT for sharing information on the relevant prudential issues and to address financial disruption has not yet been implemented.

Table 14.

Thailand: Summary of Observance of the RSSS—ROSCs

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Table 15.

Thailand: Recommended Action Plan to Improve Observance of the RSSS

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Authorities’ response

131. The results of FSAP assessment on Thailand’s securities settlement system against the CPSS/IOSCO recommendations reflect a highly satisfactory level of compliance, which in turn can serve as an assurance that Thailand’s securities settlement system is on par with international best practices. Major weaknesses identified, which involve coverage of SEC supervisory power over the TSD, and efficiency in the TSD’s risk management and operations, will be attended to promptly. In particular, the TSD is committed to abolishing debit balances and implementing a same day buy-in and same day settlement facility upon participants’ failure by the end of this year. In response to the recommendation to separate the CCP function from the depository function to prevent conflict of interest and any risk impact on securities depositors, the SEC is in the process of requesting a technical assistance from the IMF to conduct a study on this matter. To increase transparency in the TSD’s pricing/cost structure and reduce the risk of cross subsidizing since the TSD’s settlement and custody fees are currently included in the aggregate fees collected by its parent company, the SET, the TSD is reviewing its cost structure and in the process of unbundling its fees.

132. The SEC is aware of the limitation in its legal power to directly regulate and supervise the TSD (without going through the Board of the SET). A draft amendment to the SEA had been proposed, passed the scrutiny of the Council of State, and was pending endorsement of the National Assembly. The proposed amendment, when effective, would give the SEC the power to directly regulate the TSD.

F. Summary Assessment of Observance of the Financial Action Task Force Recommendations for Anti-Money Laundering and Combating the Financing of Terrorism

Introduction

133. This Report on the Observance of Standards and Codes for the FATF 40 Recommendations 2003 for AML and 9 Special Recommendations on CFT were prepared using the AML/CFT Methodology 2004 and were carried out as part of a separate mission to Thailand from February 26 to March 13, 2007.15 The report provides a summary of the AML/CFT measures in place in Thailand, the level of compliance with the FATF 40+9 Recommendations, and contains recommendations on how the AML/CFT system could be strengthened. The Detailed Assessment Report (DAR) on which this document is based was approved by the Asia-Pacific Group (APG) on Money Laundering plenary and agreed by the Thailand authorities.

Executive summary

134. Thailand has introduced a number of measures in recent years to strengthen its AML/CFT framework, particularly for CFT. The regime has resulted in a very large number of suspicious transaction reports, a large amount of assets being seized, and contributed to the Thailand government’s objective of tackling drug crime. These achievements occurred despite outmoded legislation and other shortcomings identified in the DAR.

135. Thailand is susceptible to money laundering (ML) and terrorist financing (TF) because illicit proceeds are generated from drug trafficking, illegal gambling, theft, prostitution, human trafficking, illegal logging, corruption and from crime in bordering countries and because of a terrorist problem in its southern region. The illegal economy in Thailand has been estimated up to 13 percent of GDP and with ML predicate offenses estimated to generate illicit proceeds of up to five percent of GDP. In addition, the widespread use of cash and a large informal sector, estimated at up to 53 percent of GDP, provide many avenues for illicit proceeds to be laundered in Thailand.

136. Thailand has a legal framework in the 1999 AMLA, around which the core elements of its AML/CFT regime are established. The AMLA criminalizes ML by reference to eight predicate offenses, establishes the AMLO as Thailand’s financial intelligence unit (FIU), imposes some customer due diligence (CDD) obligations on a wide range of financial institutions (FIs), requires these FIs to report transactions to the AMLO, and creates a civil process for the AMLO to seize criminal assets and have them vested in the state.

137. However, the AML/CFT framework is not fully in line with international standards and codes—there are weaknesses in the legal framework, the pursuit of ML cases, the coverage of institutions and in enforcement. The recommendations to address these include:

  • amending the AMLA in order to: (i) properly criminalize ML so that it covers all serious domestic predicate offenses; (ii) impose the core AML/CFT obligations to all FIs that contain ML and TF risks; and (iii) clarify AML/CFT supervisory roles and give appropriate powers for conducting compliance examinations;

  • strengthening enforcement when the AMLO and the financial regulators discover breaches of AML/CFT obligations;

  • extending AML/CFT obligations to nonfinancial businesses and professions;

  • properly pursuing criminal investigations and prosecutions of ML and TF; and

  • fully implementing the UN Security Council Resolutions and properly criminalizing TF

138. The authorities are committed to bringing Thailand’s AML/CFT regime up to international standards and they are supported in this endeavor by the management of the major FIs.

Legal systems and related institutional measures

139. Money laundering in Thailand is criminalized under the AMLA, but not fully in accordance with the FATF recommendations. The predicate offenses in the AMLA need to be extended to cover all serious offenses and, at a minimum, the 14 out of the 20 designated categories of offenses in the FATF 40+9 recommendations not currently covered.

140. The AMLO is also established under the AMLA to carry out the FIU, and other functions. Critically, the AMLO disseminates few reports to Thailand’s law enforcement agencies (LEAs) for completion of criminal investigations and prosecution of ML offenses due to the operational tendency of AMLO to focus on civil seizure cases. Moreover, the AMLO does not allocate sufficient resources to properly analyze the suspicious transactions reports (STRs) it receives. AMLO’s structure includes an investigative unit that focuses on seizing assets under a civil process for vesting property in the State. The unit is not an LEA, but it does work with LEAs to help pursue its civil process, and assists in their criminal cases. Insufficient effort has been put into providing guidelines, feedback, and public awareness about ML and TF.

141. While the use of civil processes has resulted in a large amount of criminal assets being seized, the authorities need to place more emphasis on pursuing criminal investigations and prosecutions for ML and TF. Total asset seizures in Thailand since 1999 exceed US$250 million. The AMLO has seized approximately US$30 million of assets each year and secured permanent vesting of approximately US$14 million per year under its civil processes. The AMLO and LEAs have preferred to pursue criminal assets using civil processes because the standard of proof is lower than in criminal prosecutions, and because they have been encouraged by the existence of rewards for staff based on the amount of assets seized. The AMLO rewards system is in the process of being abolished partly because it acts as a disincentive for the AMLO to focus on its core FIU role, and partly for integrity reasons. On average, Thailand prosecutes just eight ML cases each year, obtaining convictions for three of those. The prosecuted cases typically relate to self-laundering connected with drug offenses and not other predicate offenses.

142. Most law enforcement agencies need to provide more training on, and dedicate specialized staff to carry out, ML or TF investigations, especially outside of Bangkok. The exception would be the Office of the Narcotics Control Board (ONCB) Asset Forfeiture Group who have, over the last several years, successfully prosecuted cases and forfeited assets associated with drug trafficking. Investigators attached to this unit have been trained and have provided proceeds of crime training to other police agencies involved in narcotics investigations throughout the country. Further, the AMLO has trained over 800 Royal Thailand Police (RTP) officers across Thailand on financial investigations. Even though that training focused on civil processes to seize property, the officers were provided specialized training in investigative techniques that they can apply to criminal investigations.

143. Financing of terrorism is criminalized under the Penal Code and is a predicate offense for ML under the AMLA, but not fully in accordance with international standards. The Penal Code offense of TF needs amendment to: extend to the financing of the acts set forth in the treaties in the annex of the UN TF Convention; fully cover the individual terrorist or terrorist organization; cover the mere provision or collection of property to a terrorist or terrorist organization; and, to increase the sanctions for the offense of TF. Moreover, the authorities do not appear to place sufficient reliance on investigating TF to deal with Thailand’s significant domestic terrorism issues, and no TF cases have been prosecuted to date.

Preventive measures—financial institutions

144. The Thailand legal framework for preventive measures for FIs consists of the AMLA, ministerial regulations and other secondary legislation, and guidelines issued by supervisory authorities. In the Thailand system, the secondary legislation and guidelines issued by supervisory authorities are referred to as “Notifications” (sometimes circular letters) or “Policy Statements.” Notifications can be considered as regulations or other enforceable means depending on the method of issue and their content. In some instances, notifications may have the status of unenforceable guidelines.

145. Imposing preventive measures in the financial sector is hampered by outdated legislation, a diverse range of institutions, and a lack of clarity about which agencies are responsible for regulating and supervising the institutions that are subject to AML/CFT obligations.

146. There is a limited range of preventive measures applying to the FIs contained in the AMLA, and regulations made pursuant to it, which apply to the most important types of FI in Thailand. FIs must have their customers identify themselves when they conduct certain transactions. Under the AMLA, FIs are required to report to the AMLO: a) cash transactions over B 2 million (US$52,800); b) transactions connected with property worth more than B 5 million (US$132,000); and, c) suspicious transactions, regardless of the amount of the transaction. The reporting system results in approximately 40,000 STRs each year, almost all from banks. However, there are issues that need to be addressed to improve the AMLA: a) Customer identification does not extend to beneficial ownership, applies only to transactions that must be reported, and there is no obligation to conduct ongoing due diligence of the business relationship, including monitoring transactions; b) The threshold for occasional transactions of B 2 million (US$53,000) exceeds the US$15,000 amount permitted by the standard and cannot be justified compared to the average Thailand income level of US$3,000; and c) There is no requirement to report attempted transactions, and only limited guidance has been issued by the authorities to help FIs identify suspicious transactions.

147. The AMLA also does not require enhanced scrutiny of transactions involving countries which do not, or insufficiently, apply the FATF Recommendations, and Thailand has no mechanism to apply counter-measures against such countries. Finally, the AMLA does not apply to all FIs that operate in Thailand—a notable omission being authorized money transfer agents. All FIs that carry out financial activities in Thailand, as defined in the FATF 40+9 Recommendations glossary, should be subjected to AML/CFT requirements under the AMLA covering all the core obligations, unless their exclusion can be justified on the basis of a robust risk assessment relating to their activities. The authorities should consider conducting such an assessment—which would also help in developing and implementing a risk-based approach to supervision of FIs for AML/CFT.

148. The authorities are aware of the latest FATF 40+9 Recommendations and the limitations of the AMLA. The core agencies, (the AMLO, the BOT and the SEC have been enthusiastically and diligently taking steps aimed at bringing Thailand’s practice into better compliance with the FATF 40+9 Recommendations by supplementing the AMLA with other measures. However, inadequate and outdated laws hamper their efforts. Often they have had to rely on their good relations with and the goodwill of industry to implement measures that may not be in laws or regulations or are not otherwise enforceable. For example, in March 2007 the AMLO issued a Policy Statement on Compliance with the Know Your Customer and CDD for FIs and Designated Nonfinancial Businesses and Professions (DNFBPs) (the AMLO Policy Statement) containing unenforceable preventive measures. The BOT has issued a number of guidelines that are based on moral suasion and cooperation from FIs.

149. The result is that many of the AML/CFT preventive measures that exist are not enforceable for the purposes of the FATF 40+9 recommendations, including most of those that apply to banks, which dominate the financial sector. The securities sector has the highest level of compliance with the formal requirements of the FATF 40+9 Recommendations. The management of the main banks, securities firms, and insurance companies met showed a good awareness of ML and TF risks and a willingness to implement measures to mitigate such risks even in the absence of legal obligations. However, the newness of many of the measures coupled with the need for the authorities to issue detailed guidance meant that, at the time of the mission, most institutions were still in the process of implementing the latest requirements.

150. The BOT regulates money services businesses, however, substantive measures are still needed to mitigate their ML and TF risks. Authorized money transfer agents should be made subject to the full range of AML/CFT obligations and the competent authorities should increase their efforts to suppress illegal money changing and remittance activity in the large informal sector. Contrary to the FATF standard, there is no law, regulation or other enforceable means regulating wire transfers. There are no declaration or disclosure requirements applying to cross-border transportation of foreign currency, bearer instruments, or the import of domestic currency, and the few controls that are in place are insufficient to effectively mitigate the known risks that exist.

151. The AMLO and the financial regulators have increased their supervision and monitoring of AML/CFT requirements in recent years but there is still room for improvement. There has not been a clear designation of which competent authorities are responsible for ensuring that FIs comply with the AMLA, and some institutions are not subject to any supervision for their AML/CFT obligations. The BOT and the SEC (but not the Department of Insurance) carry out effective AML/CFT monitoring of the FIs that they supervise. Both the BOT and SEC, however, operate under legislation that makes it complicated to impose sanctions for non-compliance. Moreover, greater consideration should be given to imposing criminal sanctions for significant breaches of the AMLA by FIs.

152. The amendments to the AMLA should also clearly delineate the roles of the AMLO and the financial supervisors for monitoring compliance with AML/CFT requirements, and give appropriate powers for conducting compliance examinations. The AMLO and the financial regulators should also establish effective MOUs for coordinating their efforts and sharing information. The authorities should raise awareness about ML and TF among FIs and improve the provision of guidance, especially aimed at the detection of suspicious transactions.

Preventive measures—designated nonfinancial businesses and professions

153. There are no AML/CFT requirements in place in relation to any categories of the DNFBPs. Moreover, while it is illegal for casinos to operate in Thailand, many illegal casinos do exist. Thailand needs to determine how to apply AML/CFT requirements to each of the DNFBPs before the necessary amendments are made to the AMLA and other laws.

Legal persons and arrangements & nonprofit organizations

154. The corporate registry system in Thailand contains information, updated annually, about legal, but not beneficial, ownership of juristic persons. Consideration should be given to improving the provision of beneficial ownership information—including mechanisms to identify beneficial owners of bearer shares, which, even though permitted, no companies have issued them.

155. Thailand has begun a review of the adequacy of existing laws and regulations that relate to nonprofit organizations that can be abused for TF. That review should be completed and appropriate steps taken to mitigate any potential terrorism risks that the review identifies.

National and international co-operation

156. The AMLA establishes the Anti-Money Laundering Board (AMLB) which has a role in overseeing the AMLO’s operations and coordinating AML/CFT issues in Thailand, with representation from a wide range of government agencies. However, improvements are needed to ensure that the AMLB operates effectively to develop, implement, and monitor Thailand’s overall AML/CFT regime. The AMLO, as the central agency with responsibility for implementing the AMLA, did not maintain, and also had difficulty obtaining, some key information and statistics about ML/TF in Thailand. Moreover, many officials, particularly those outside of law enforcement, appeared to have a narrow view that ML relates mainly to narcotics using cash.

157. Thailand has signed, but not ratified, the Palermo Convention and has not fully implemented the Vienna Convention or the UN Terrorist Financing Convention. These deficiencies should be remedied as soon as possible. Thailand should also implement specific measures to ensure that terrorist property can be frozen without delay, as required under United Nations Security Council Resolutions 1267 and 1373.

158. The AMLO has been a member of the Egmont Group of FIUs since 2001 and has a track record of exchanging information with other foreign FIUs. Thailand authorities have also enjoyed success in apprehending international criminals—notably, arresting the terrorist known as Hanbali. It should be noted, however, that the narrow range of predicate offenses for ML and deficiencies in the TF offense in Thailand also seriously impede the ability of Thailand to cooperate internationally on ML and TF matters.

Other issues

159. The authorities should give higher priority to reduce cash use and encourage more activity to come within the formal sector to help reduce ML and TF risks.

160. The AMLO compiles a lot of statistical information about the country’s AML/CFT regime and publishes some related information in its annual report, but there is room for improvement. Steps should be taken to improve data collection and statistics on ML investigations, prosecutions, and convictions, foreign assistance requests, and results relating to ML or TF investigations, and terrorist and TF activities.

161. There are good intentions and efforts of the authorities to bring Thailand into compliance with the FATF 40+9 Recommendations can only be achieved once the legislation that they are using to operate Thailand’s AML/CFT regime is amended to address the deficiencies identified in the DAR.

Table 16.

Thailand: Prioritized Key Recommendations to Improve the AML/CFT System

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