In the1980s the Thai government tried to play “catch up ball” with its more sophisticated Asian neighbors by pegging its currency to the U.S. Dollar, a move intended to make the baht a freely convertible, “hard” currency like the Hong Kong Dollar.[1]  Neither goal came even close to reality.  Instead of remaining pegged, the baht lost its value as a currency as well as a regulatory tool in the fight against economic stagnation.  The dollar continued to rise, driving up prices and wages in Thailand without any relationship to the underlying activity of the Thai economy.  As the currency increased, prices for Thai exports lost their competitive edge.  Simultaneously, industries that might have thought of locating in the country revisited their decisions.  Had the baht been independent of the dollar, this economic downturn could have been controlled.  Instead, it spun out of control.

 In the midst of this chaos, time came for a national election.  People looked at it as an opportunity to take their minds of their troubles.  Thailand has a history of paying more money for votes during an election than any other country in the world, and because of this, substantial money has to be returned once the election is over.  This only puts a greater strain on the overall economy, but that didn’t matter, since a distraction was needed and elections are spectator sport here.  “Rural people routinely sell their votes, but doling out cash at election time is only part of the trick to getting elected in the provinces.

Because the Thai administration is highly centralized – even garbage collection in rural villages is controlled from Bangkok by the Interior Ministry – successful rural MPs must also act like local government representatives or patrons.  They have to mediate in disputes, pay for coffins at funerals and secure funds from Bangkok to pave roads and install running water.  The incentive for most MPs to develop the national policy expertise that urban voters crave is almost nil, unless they want to run for national office, and there is no political college anywhere about.

Substantial concerns were being raised about the ability of Thai property companies to service their debts.  One of the biggest builders of residential units in Thailand, Somprasong, collapsed when it couldn’t pay the interest on its bank loans, forget about the principal due.  Now, it looks as though the entire industry is going to go through the meat-grinder.  Officials indicate an estimated 365,000 residential units are unoccupied and almost 100,000 more will be completed this year.  Meanwhile, a plan to rescue developers announced in January by the new Thai government has been unable to stimulate demand and has turned into an exercise in limiting the exposure of Thai banks and finance companies to the property sectors.

The government’s next major mistake occurred when they suspended trading in bank and other financial sector stocks.  These securities just happened to be about the only things that were liquid in the country, and suddenly the Government was halting trading in them.  Mr. Amnuay, the Finance Minister, faced criticism from local and international investors for ordering suspension of the bourse’s most liquid stocks, but said he wanted to avoid a panic triggered by the near-collapse at the weekend of Finance One, the country’s largest finance company.

His reason made some logic, and the government was making the banks increase their bad reserves and adhere to a shorter time to write-off problem loans.  The Government felt that this was heavy news for the market to absorb and wanted to halt trading before additional damage was done.  The effect, however, was just the reverse.  Stocks would probably have risen on news that the Government was going to make the companies more fiscally responsible; instead, the only liquid assets the people had left were worthless, at least for some period of time.  Unable to sell these stocks they began to dump everything else in sight, thereby increasing the level of the panic substantially.

The International Monetary Fund, on the other hand, was overjoyed at the government’s decision.  Michel Camdessus, International Monetary Fund chief, welcomed Thailand’s recent steps to impose more discipline on financial institutions while helping them out of their current liquidity problems.  “They are doing exactly what you must do to avoid recurrence of a Mexico-like crisis,” he told a conference in Hong Kong.  “I don’t see any reason for this crisis to develop further.”  Mr. Camdessus soon lost his job over the disaster in the Pacific Rim; one must wonder whose crystal ball he was looking into when he made those remarks.

Moody's, seeing that no matter what the Thai Government tried to do wasn’t going to work and that the economic roller coaster ride that the country was on was now headed only in one direction, announced that it was reviewing most of the major Thai financial institutions and was probably going to downgrade them because the property market disaster.

This news reinvigorated the hedge funds who, smelling blood in the water, sold billions of dollars worth of baht’s, and in a unanticipated twist of fate, the Thai Government called upon the Central Banks of Singapore, Malaysia and Hong Kong, based on a mutual assistance treaty ratified in 1995.[2]  Good to their word purchases of the baht and sales of dollar were made to offset the Hedge fund selling.  It was becoming open economic warfare with the penalty for being wrong getting more substantial by the day.  Billions of dollars started changing hands as the battle of the titans waxed and waned, but Thailand had one more trick up its sleeve.  Simultaneously, the Bank of Thailand forbade the loan of baht to offshore borrowers – a trick learned from Malaysia’s Bank Negara that helped them fight off a similar raid several years ago.

Yet another wild card appeared within the complex equation.  When the baht speculators attacked the currency, one of the devices they utilized was shorting it in the forward market.  These uncovered positions were sold as far out as eighteen months.  Acid rain on the hedge fund parade created a lose/lose situation.  Not being able to deliver the baht that was sold short, hedge funds were forced to either borrow at excessive rates or pay rates as high as 3% per day. 

The yen’s 12% spike against the dollar has only put speculators in a worse position, as yen denominated loans were routinely used to finance hedge fund activities and must be paid back with increasingly more expensive money.  The side effect of protecting relative currency values is always high interest rates, which invariably causes foreign investment to dry up.  A combination of a falling stock market, high interest rates and restricted growth prospects, over time, takes a terrible toll on internal economics.

It is also interesting to note that many of the money center banks also joined in the game when it seemed evident that Thailand did not have the resources to take the type of stand their central bank had made.  The two-tier system, although not particularly creating any internal benefit to Thailand, can create havoc outside of it.  The global amount of available baht is not only finite, it is stretched to its limits.  Hedge funds and banks, knowing that they have temporarily bet on the wrong horse, are in a doubly dangerous position.

In the meantime, in spite of loses of hundreds of millions of dollars, the sharks have regrouped and continue to circle the wounded prey.  The issue has become simple, for high rates may be able to help forestall the ultimate devaluation for a time but economically, it will be at a tremendous price.  The country will now have to pay an increased price for their foolishness, and it will be the citizens that will be obliged to pay the piper.  By creating a two-tiered currency, Thailand has created an enormous squeeze on those speculating on their currency.  The squeeze is forcing the hedge funds to cover an ever-increasing price, forcing the baht higher in the international marketplace, exactly what Thailand was trying to prevent when they pegged their currency to the dollar.  There was not much question that this strategy would win the battle and lose the war, for this was only a question of hanging tough.  However, Thailand’s partners in this currency manipulation soon saw that it was a no-win situation and looked to save themselves.

Thai companies in primarily yen-denominated accounts are in debt to the tune of $87 billion.  The concurrent rise of the yen (12%) during the period that other Pacific Rim Central Banks poured funds into the baht, has literally obliterated these funds, when analyzed from the point of view of increased principal and interest repayments these companies must pay.  Thus, the current accounts balance should reflect a situation that has added $12 billion to Thai Central Bank debt and another $12 to $15 billion in increased repayment costs to Thai companies.

In reviewing where we now were; the combination of excessively liberal Japanese lending and badly conceived local currency management triggered financial disaster in Thailand.  The Thai economy, with its poorly educated workforce and labor-intensive industries, faltered in the mid 1990’s.  The stock market collapsed; real estate prices went into free-fall; the banks staggered under the weight of non-performing loans, companies defaulted on interest payments, and the banks rescheduled borrowings.  Exports stagnated, the country's current account deficit soared; foreign investment dried up, and wage rates rose.   Speculators attacked the baht; property prices plummeted, and the country’s economy braked sharply.  The battered Thai stock market -- now at the 530 level, after reaching 1,200 last year -- is continuing its downturn with no early end in sight.

The seeds of Thailand's economic downfall were sown in the 1980's, when the Thai Government tried to play "catch up ball" with its more sophisticated Asian neighbors by pegging its currency to the U.S. dollar, a move intended to make the baht a freely convertible "hard" currency like the Hong Kong dollar.  Neither goal was achieved.  Instead, the baht lost its value as a regulatory tool in the fight against economic stagnation.  The U.S. dollar continued to rise, driving up prices and wages in Thailand without any relationship to the underlying activity of the Thai economy.  As the value of the currency increased, prices for Thai exports lost their competitive edge.  Industries that had been drawn to the country by lower wages revisited their decisions.  Had the baht been independent of the dollar, this economic downturn could have been controlled.  Instead, it spun out of control.

Thailand unwisely chose early on to peg their currency to the dollar. When times were good, this held back the baht from rising in the early 1990s when FDI flooded the country.  By keeping the baht, unreasonable low, foreign investors were able to buy into the country at bargain basement prices, uncontrolled monetary expansion occurred causing investments in projects that under other circumstances would not have been made.  Foolishly, many believed that the property boom would never end.  It is the failure of many of the ill-conceived undertakings that have caused a substantial part of the crises.  Thailand literally had two bites of the apple that could have righted the ship: the first came when the baht should have been allowed to float up, and the second when it should have been allowed to float down.  A less rigid central bank would not have gotten into this problem to begin with. .  On June 2, 1997, the baht was devalued but the prolonged fight to keep it above water have badly damaged the country’s foreign reserves.

The world stopped for Thailand at the end of June in 1997.  This was a red-letter day for Thailand as Thanong Bidaya, Thailand's recently named Finance Minister discovered another ugly truth.  Paiboon Kittisrikangwan, pubescent and inexperienced, but because of certain political connections, had been appointed Thailand’s chief currency trader.  While on the job, on his own recognizance and without discussion with anyone else, Paiboon had used the majority of the country's foreign exchange reserves to purchase forward contracts.  What had been a cache of $30 billion was now just over $1 billion, and that represented the currency reserves necessary to cover only two days of imports.  Thanong also found out the Central Bank had effectively lent substantial amounts of unreported cash to the country's financial institutions by buying stock in them whenever they were in need of money.  As a result of these two discoveries, Thanong realized the Treasury was bare and the nation’s financial institutions were underwater, and now there was no money available to save them.  There was a chill in the summer air.  Things could not possible get worse.

The Central Bank, now out of money (but still a fact not generally known), determined to shut down the largest finance companies in the country because the bank could no longer function as the lender of last resort.  Several days later, as it became public knowledge that the Central Bank no longer had any reserves, the baht was devalued and proceeded to drop 14% on June 30, 1997 alone.  If it were not for some short covering by hedge funds, it probably would have sunk through the floor.

The Los Angeles Times ran a small article on this event in their July 2, 1997 edition:

“After waging an expensive and bitter war against both currency speculators and logic, the Thai Government finally succumbed to common sense after a costly, illogical defense of an overpriced currency.  The difference between having the devaluation forced by speculators and allowing the currency to have floated on its own brings with it tremendous costs, substantial losses in national reserves and higher rates of inflation than otherwise would have been the case.”

“By effectively devaluing the baht, the government is taking the bitter medicine that Mexico took in 1994.  The move will slash the buying power of Thais, raise local interest rates and create more problems for Thai companies that have borrowed in dollars.” (Or in almost any other currency for that matter.) 

Treasury reserves had dropped almost 30% in less than a year because of the ill-fated defense of the currency.  The country’s tax base has been severely eroded as countless companies have gotten into trouble due to overbuilding and over borrowing.  Although the more competitively pegged baht will make Thai products more economical in the near term, illogical bureaucratic blunders have graphically demonstrated to international investors that Thailand is not yet a place where sizeable money can be invested without concern and, in the near term, tourism may wind up being the only major winner in this unpleasant scenario. 

“The Thai central bank intervened to support the baht, saying it had fallen too far at bt30 – its lowest level since devaluation.”[3]  On July 15, the bath collapsed entirely, and the Thai central bank was forced to step in.  This was done in spite of the Treasury having a hole in it a mile wide.  Almost all loans outstanding by substantial businesses in Thailand were denominated in foreign currency.  Thus, as the bath continued to fall, the debt that had to be repaid by Thai businesses became ever greater.  The only way around the onerous situation was a “Catch 22.”  Sell baht short and buy either dollars or yen.  Otherwise, most of these businesses would soon be facing bankruptcy. ([4]) This created additional pressure on the bath, and the government was beginning to think that it would never stop declining.  The devaluation astoundingly caught many Thai borrowers by surprise. ([5]) In spite of the surprise, they had time to hedge their repayments, thus causing chaos in the foreign exchange markets as they played catch up. ([6])

 The country is again supporting its currency, which perpetuates the daisy chain.  Thai businesses were literally reselling baht back to their own government.[7]  It is obvious that the overall situation has become so disordered that in spite of two teams from the International Monetary Fund working around the clock with the central bank to restore order, no plan was ever created or even conceived to cover these types of contingencies.  Strangely, it almost appeared that the government was actively sponsoring this chaos when Chatumongkol Sonakul, Secretary for Finance, made the bizarre announcement that, “it was too early to implement any new economic measures.” 

On the other hand, Thai officials had approached Japan for aid on an urgent basis. Japan logically had indicated that they were unlikely to do anything without the involvement of the International Monetary Fund.[8]  Thai officials, never in a hurry in their rush to judgment and in spite of the fact that their house was burning down, indicated that they have not made a decision to ask the IMF for help.  It seems like nothing is going anywhere.

Considering all of the advanced notice, the ongoing cabinet meetings and the perilous condition of most financial institutions, which were hovering on the brink of collapse, the government did not seem to have a clue as to what to do next.  They even suggested that the healthy financial institutions take over the unhealthy ones, thus solving a substantial part of the problem, at least in their minds.  This would hardly work, as the financial industry was a basket case to begin with and literally had no healthy participants, now that the baht had been devalued, there probably wasn’t anyone left with a positive net worth in the financial business.  Thailand was showing that they were not a multi-decisional country, having dealt with the unpleasantness of devaluation, they apparently have to take a breather before going on to the next unpleasant solution while the world awaits and the fire that Thailand created are being fanned into the rest of the Pacific Rim. 

Since the collapse of the baht, both the Malaysian “ringgit”[9] the Philippine “peso”[10] and the Indonesian “Rupiah” all have effectively suffered sympathetic devaluations[11].  These countries had not learned the Thai lesson and did not realize that decisive action was the best cure for financial freefall.  Thus, their currencies continued to depreciate, and — other than Indonesia, which was a political morass — no country suffered like Thailand did.  The other countries ever so slightly widened the band in which their currencies were allowed to fluctuate, but they did not allow their currencies to float free, nor were the economic problems within these countries addressed.

Two lessons are to be learned from this where we sit at this point.  The first is that the higher degree of corruption in a country, the greater the underlying problems relative to the total infrastructure that are going to become evident in an economic malaise.  Second, the price of a country’s currency is often determined arbitrarily by governmental officials who think maintaining a particular currency ratio is a macho action.  Unfortunately, there was no more time for macho actions, there was only time for survival when this typhoon blew across the economic landscape.  Singapore, Malaysia and Hong Kong figured it out and fled, but Thailand played it tough and got killed.

In the long run, though, speculative attacks, far from killing the species off, only cut out weaker members of the pack and allow the breed to become stronger.  This process sends messages to others that their house must be kept in order or they may become fodder for a ruthless economic adversary.  Although the system is harsh, there doesn’t seem to be a regulatory alternative to bring financial sanity to emerging economies. 

We would think that rather than allowing nations to decimate their own financial systems, a global central bank should be created that sets sensible banking parameters for international lending.  It should be mandatory that these parameters are followed, just as central banks in mature countries set standards for internal financial requirements.  Rate competition between global lenders would give banks incentive enough to sell their wares, but excessive funding without acute financial planning, infrastructure mandates and global positioning, time and time again, have resulted in negative results for all concerned.

So often egocentric concepts, such as, “my currency is stronger than yours,” are immature and unnecessary.  They can easily be prevented by the use of logical guidelines.  Heads of state can ill afford to be out of the mainstream as their geographic rivals race to the mark and build economies.  Furthermore, the central banks of individual lending nations should be closely examined as to their domestic performance and transparency.  Yardsticks should be set in place, and when a nation does not conform, that nation could be restricted within the global community.  This incentive would go a long way in keeping domestic banking calamities to a minimum.

The defense of indigenous paper money is like “country and flag,” highly testosterone driven and illogically emotionally charged.  The Thai example is much like Don Quixote and his windmills.  His psyche required the Lord of LaMancha to defend his territory in spite of overwhelming odds, but with one difference, for the delusions that Don Quixote suffered only penalize him personally; in the case of Thailand, the Prime Minister punished an entire country.[12]  Sadly, we have not seen the last of this type of leader.  He is no different, relative to the pain and suffering that he has brought his people because of his machismo, than a Saddam Hussein.

In an unusual statement, Michel Camdessus, IMF Managing Director, said the following: “Let me put it very bluntly, Thailand’s problems could have been corrected at much less cost to the economy, and to the economies of neighboring countries, if they had been addressed in a more timely manner.  Please understand that.…what was necessary was a kind of cultural change in the country.  We are dealing with sovereign, democratically elected leaders....We are not there to take the reins of the country, and implement measurers against their will.”   For Camdessus, who had denied that a problem existed when it began, this was quite a statement.

The foregoing is illustrative of both the intransigence of the Thai leadership and the herd instinct of Japanese Banking.  Yen denominated loans made by the swarming Tokyo bankers offering money to one and all for every unbelievable and poorly conceived project would not soon see the principal or interest repaid.  This would seem the ultimate in stupidity or at the very least an inconceivably high price to pay to gain a foothold in a country whose business practices leave much to be desired.