Challenges remain for Bank of Thailand
Cautious approach needed on rates, while intervention to tame the baht could backfire. By Fitch Solutions
We believe the Bank of Thailand (BoT) will take a cautious approach to further monetary easing over the coming quarters. We have maintained our forecast for the key policy rate to be kept on hold at 1.50% through 2019, but now forecast a further cut in 2020 to 1.25%.
The key reason for the cautious approach are policy constraints, which we do not foresee abating in the coming quarters. These include high household indebtedness, slowing economic growth, Thai baht strength and ongoing trade negotiations with the US.
These policy constraints are unlikely to abate in the near term, given the policy changes needed to address high household debt and structural fundamentals driving baht strength. With these factors in mind, we believe the central bank will wait to see whether the weak inflation outlook responds to its August cut before easing further.
However, in the face of persistent external risks, we do see the BoT opting for lower rates in the first half of 2020, with a reduction of 25 basis points to 1.25%.
At its September meeting, the central acknowledged the impact of externally driven economic growth weakness, but also flagged financial stability risks that still warranted monitoring and how financial conditions were accommodative.
There was unanimous consensus among the Monetary Policy Committee (MPC) that inflation and growth expectations did not warrant further easing, despite the projection for growth being lowered to 3.3% from 3.7% in 2020.
In addition, the MPC maintained its 0.9% and 1.0% core and headline inflation forecasts for 2020, suggesting it expects inflationary pressures to remain subdued and is willing to tolerate this, with its inflation target range of 2.5%, plus or minus 1.5 percentage points. The forecasts accounted for the impact of greater fiscal stimulus and exports rebounding moderately in 2020. HOUSEHOLD DEBT
The key financial stability risks in Thailand relate to household indebtedness and small and medium enterprises (SMEs) with unhedged foreign-exchange exposure (flagged as risk against rapid baht depreciation in a recent IMF assessment).
We note household debt levels remain elevated, at 68.9% of GDP in the first quarter of 2019, up from 68.4% in the first quarter of 2018 despite central bank policy tightening. While a relatively small increase, the inability of households to poor their debts during periods of falling unemployment and strong economic growth is a concern.
The central bank fears that further easing could encourage a rise in household borrowing and pose further risks to overall financial stability. Similarly, the unhedged forex exposure of SMEs poses risks to weakening the baht by aggressive monetary easing.
The baht has been an outperformer among Asean currencies in 2019, returning 7.0% yearto-date, but has contributed to disinflationary pressures and eroded export competitiveness. Tackling Thai baht strength remains a challenge for the central bank, given its reluctance to ease too aggressively.
There is potential for the bank to decide to diverge from its usual policy of limited forex intervention. However, major depreciatory interventions in the foreign-exchange market could pose risks to the economic outlook by encouraging more volatile “hot money” inflows as investors begin to make more speculative investments in the baht.
Currency manipulation could also be seen unfavourably by the US which is currently reviewing Thailand’s Generalized System of Preferences (GSP) duty-free access.
RISKS TO GROWTH
Risks to overall economic growth remain tilted to the downside, with few positive dynamics for growth on the horizon. Export growth will continue to face challenges over the coming quarters given the baht strength, as well as yuan weakness weighing on Chinese tourism — Chinese arrivals account for around 60% of all tourists in Thailand.
We also do not expect external headwinds such as the US-China trade war to be resolved before the November 2020 US presidential elections. In addition, private consumption and investment remain weighed down by high debt levels and large inventories, which further dull the outlook. In fact, fiscal stimulus looks like the only growthpositive factor heading into 2020.
In this environment of subdued economic activity and baht strength, we forecast inflation to average 1.0% in 2020, from a forecast 0.7% in 2019. This underscores our view that the BoT will ease a further 25 basis points in 2020, to support fiscal stimulus.
While it is not our core view, a more severe downturn externally, or the baht being used as a safe-haven currency could prompt the central bank to take more radical action. As such, we do not rule out unconventional monetary policy tools or forex intervention over the coming quarters.
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The central bank fears that further easing could encourage a rise in household borrowing and pose further risks to overall financial stability.