Thailand: ‘Hot money’ proves too spicy

As concerns over “hot money” grow in emerging markets, the scale of capital inflows into the Thai economy has led local officials to announce that they are weighing investment controls to limit appreciation pressures on the baht.

At the end of November, Bank of Thailand (BoT) governor Dr Prasarn Trairatvorakul said the reserve was prepared to intervene and slow capital inflows if necessary. The bank’s options included imposing a tax on financial transactions which could be introduced when and if the need arose, he said.

“The best way for us [to control capital inflows] is to have a variety of policy tools and then be able to use a mixture of them in a good proportion, hopefully with good timing,” Prasarn told local press.

Thailand has faced excessive inflows in the past. According to the IMF, from 1988-96 some 88.8% of GDP was made up of capital inflows, destabilising a number of economic sectors. As of 2005, flows have steadily risen and while they are small in comparison to the past – only comprising 12.2% of GDP – the government appears to be concerned by recent developments.

Estimates place Thailand’s GDP in excess of $300bn for 2010, and so far this year, some $30bn has flowed into the economy, with around $18bn of this coming as portfolio flows, according to BoT figures. Prasarn explained that the level was manageable, but acknowledge he was concerned over the potential impact of the decision of the US Federal Reserve to buy a further $600bn of government bonds with newly printed money. This round of quantitative easing could result in a surge of capital outflows from the US, with Thailand being an attractive destination, despite its relatively low interest rates.

The BoT has to plan its moves carefully. It would like to raise basic rates to help push down the baht, which has gained more than 10% this year. However, any move to do so could attract further overseas capital. In order to maintain the balance, the central bank is considering a levy on transactions.

“A lot of countries are thinking about these kinds of measures,” the BoT’s deputy governor, Atchana Waiquamdee, told the Reuters news agency in an interview on November 16. “But some measures have to be weighed very carefully in terms of the benefit and cost.”

In mid-October, a 15% withholding tax on interest and capital gains for government and state-owned company bonds was announced. However, the move has so far had only a limited effect on easing the flow of funds into the economy.

When first imposed, officials said that time was needed for the impact of the withholding tax to be assessed and decisions made as to whether further measures should be put in place. Some two months later, it seems as if the assessment has been made and a decision all but taken.

However, any new levy aimed at reducing the flow of capital from abroad will need to be carefully measured before it is enacted, with the government and the central bank having to weigh their options lest it reverse the tide of money completely, as happened in 2006. Then heavy handed measures, including a requirement that foreign investors had to keep their funds in country for at least a year, saw a rapid and destabilising exodus.

There have been concerns that a renewed downturn in the global economy will similarly have a direct flow effect on Thailand. The government and the BoT will need a deft touch when they again move to tighten the taps on capital inflows, keeping the money coming while managing the pace.