BoT ought to revise exchange rate policy

This is not the usual time slot for my article. My articles are usually published every other Thursday. The next one was for Oct 3. However, I feel that the “too strong” Thai baht requires immediate attention.
The baht drew attention when it strengthened beyond 33 baht per dollar last weekend. Just a week before, when the baht went below 33.2 baht per dollar, I was asked whether the currency would pass the 33 baht mark. My answer was “unlikely”.
The answer was based on the information that most currency analysts opined that the US dollar would rise about 1% after the Fed cut rates. Consequently, the Thai baht would depreciate about 0.35 baht per dollar. I could not be more wrong.
The first wrong point is that the US dollar lost 0.5% of its value instead of rising 1.0% as analysts expected. Maybe it was because the Fed cut the rate by 50 basis points, not 25, and said there could be further heavy cuts in the future.
The second wrong point is that the Thai baht did not appreciate 0.5% against the dollar as usual. There must be speculative inflow into the baht, causing the currency to strengthen 0.9% compared to the dollar.
Many will ask what the big deal is about the baht strengthening beyond 33 baht per dollar? I would not waste my time writing a special article on a lazy Sunday morning because the Thai baht was only 0.4% stronger than the US dollar. The over-appreciation of the baht has been a long-term trend that has hurt our exports and the services sector.
Let’s look at the Thai baht’s competitiveness compared to our trading partners over the last year.
The baht strengthened 8.9% against the US dollar; 5.63% against the Chinese yuan; 6.19% against the Japanese yen; 10.84% against the Vietnamese dong; 10.68% against the Indonesian rupiah; and 3.31% against the Singapore dollar.
No wonder our exports declined over the year. Recent export growth, especially the robust 15.3% in July, could be mainly due to the re-exporting of Chinese products through Thailand to bypass trade barriers in the US and Europe. It might not be a coincidence that imports from China rose by an average of 10% from January to July, compared to an average growth of 0.6% last year. Shockingly, Chinese imports increased 24.4% in July.
The Bank of Thailand (BoT) might argue it has been closely monitoring the Thai baht by stabilising Nominal and Real Effective Exchange Rates (NEER and REER), not currency by currency.
On that principle, the bank has been doing a great job as the Thai baht has depreciated by 1.4% in REER terms and deeply depreciated by 3.6% in NEER terms since January of this year. Exporter competitiveness is, therefore, enhanced and has not deteriorated.
Do readers understand anything in the above paragraph? No? I am not surprised. Just technical jargon that only experienced economists would understand. Because no exporter or importer trades with NEER and REER. They trade with real currencies.
When the baht appreciates from 36 baht to the dollar to 33 baht per dollar, Thai exporters cannot sell as their products are 9% more expensive in the American market.
Meanwhile, the Vietnamese dong depreciates 1.3% against the dollar over the year, making Vietnamese products cheaper for Americans. Thai products vs Vietnamese products are now priced 10.3% apart. Naturally, US orders go to Vietnam.
I will reveal a secret on how the BoT is able to keep NEER and REER on track. It is an old fashion method of market intervention. The BoT bought up $5.8 billion in July, $6 billion in August, and $2.6 billion in the first half of September. Unfortunately, this method is only effective in textbooks as the market force is much larger than any central bank can handle, particularly the BoT.
The danger of this method is that foreign speculators would be loaded with Thai baht that the BoT used to purchase dollars from them. One unfortunate day, speculators can use the baht to attack our currency — much like what happened in 1997.
The real, cruel world does not care about NEER and REER. Some 16.8% of our exports goes to the US and 11.8% goes to China (not including Chinese tourist spending). The BoT might be better off focusing on these two currencies rather than stabilising NEER and REER.
The big question is, without tracking NEER and REER, what “correct” rate should the baht be set at?
After all, Thailand has adopted a flexible exchange rate regime since 1997. Exchange rates would be determined by the market, not set by the BoT. Our central bank only intervenes when it feels that demand or supply is excessive.
On this point, I might be able to help.
My PhD dissertation was about “calculating an equilibrium exchange rate”. The research paper might be almost 40 years old but the concept is still valid. The “correct” or “equilibrium” value of the Thai baht per US dollar is in the neighbourhood of 36.28 baht per dollar.
The exchange rate of 36.28 baht per dollar happened in July this year, and the rate was able to balance our current account. The BoT, if it believes in the conclusion from my 40-year-old dissertation, might want to start from this value.
For the BoT’s use, NEER was 118.81, and REER was 101.05 in July 2024.
Also from my dissertation, the equilibrium exchange rate is not a fixed, single figure like 36.28 baht per dollar for all occasions. But rather, a dynamic figure changing with the economic environment. For the morning of Sunday Sept 22, the equilibrium value of Thai baht per US dollar was 35.02. The market rate of 32.93 baht per dollar was clearly overvalued.
If the BoT should want to see the (current) rate of 32.93 baht/dollar closer to 35.02 baht/dollar, how to do it? The country is no longer in the era of a fixed exchange rate regime or even a managed float regime where the official rate can be announced.
The textbook recommendation is to lower the domestic interest rate, the so-called Interest Rate Parity theory.
That is unlikely to work, as the Bank of Indonesia tried that and failed. This confirms that speculative forces can overpower a central bank.
The Bank of Indonesia lowered its interest rate by 25 basis points hours before the Fed announced its decision. The result is in contrast with the textbook. The Indonesian rupiah appreciated 1.64%, which is stronger than the Thai baht’s appreciation of 0.9%.
To stop the baht strengthening, the BoT has to look at much stronger tools than short-term interventions or minor interest rate adjustments. My suggestion is to encourage the repayment of foreign debt. As of Q1/2024, Thai banks had $30.9 billion and Thai corporates had $122.8 billion in foreign debt.
The two combined is equivalent to 64.1% of our gross international reserve. That is a threat to Thailand’s long-term stability. It would be wise to reduce such risk.
Economic theories are to be respected. But greed and modern financial tools like electronic transfers, leveraging, buying/selling long/short, derivatives, cryptocurrencies, and AI-assisted trading force macro-economic policymakers like the BoT to become more flexible and think out of the box.
Most importantly, not many countries are good boys and behave according to textbooks. That’s all I have to say.
By the way, the Oct 3 article will be on schedule. This one is not to be missed.