BOT rate cut provides monetary stimulus to Thai economy (24-05-07)
By Jon Fernquest[Introduction|Vocabulary|Article]
[Reading Questions|Answers]
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The Bank of Thailand (BOT) cut interest rates yesterday.
The Monetary Policy Committee (MPC) collectively made the decision to cut rates.
Weak Thai consumer and investor confidence continues.
Investment sentiment continues to suffer from post-coup political uncertainty and policy reversals such as the proposed changes in the Foreign Business Act.
The BOT rate cut aims to reverse this trend and stimulate private investment of businesses in the economy.
Despite the appreciating baht, export performance has still been good.
The financial system is liquid enough to avoid worry that rate cuts will spur dangerous capital outflows.
Accelerated government spending has been planned but not yet achieved.
The disbursement of the government budget has been slow this year.
Today's article gives the reader good practice with vocabulary to: 1. describe the state of a country's economy and 2. explain government macroeconomic policy.
For further reading, read a Bangkok Post article last week on proposed changes in the Bank of Thailand's legal framework.
Check out the Bank of Thailand's Financial Market Operations web page including a paper on recent reform on the BOT Monetary Operation Framework as well as a powerpoint presentation on this theme.
Read one explanation of how Asian economies, including Thailand, recovered from the 1997 Economic Crisis, quoted from a Financial Times editorial in Brad Delong's economics blog.
Study economics vocabulary in The Economist's economics glossary.
Check out the list of macroeconomics articles at Wikipedia.
Check out the Economics Network's list of online economics quizzes that you can test your knowledge of macroeconomics and other econ subjects with.
Reading Questions
Here are some questions to guide your reading (See answers at end):1. How much did the BOT cut interest rates by yesterday?
2. Which specific interest rate did the BOT cut?
3. Why was the cut in interest rates made?
4. Was the cut unexpected?
5. Does this cut follow a trend?
6. How great an effect on financial markets did the announcement of the cut have?
7. Is the rise in bond yields that occurred normal with an interest rate cut? Why or why not?
8. How has BOT monetary policy officially changed after this rate cut?
9. Why wasn't a larger rate cut made to stimulate the economy even more?
10. Summarise the current state of the Thai economy as described in this article?
11. What was the most important reason for this rate cut?
12. Why has government spending not provided as much of a fiscal stimulus as expected?
Bangkok Post Article May 24, 2007
MPC cuts key rate 50 basis points
Fourth cut this year brings rate to 3.5%PARISTA YUTHAMANOP
The Bank of Thailand yesterday cut interest rates by half a percentage point as the economy continues to slow due to weak investor and consumer confidence. The move by the central bank's Monetary Policy Committee (MPC), the fourth reduction this year, brought its one-day repurchase rate down to 3.5%.
But the markets mostly ignored the decision as it had been widely anticipated. The Stock Exchange of Thailand index fell 0.21% while bond yields rose slightly as investors considered comments by the central bank that further rate cuts should not be taken as a given.
Suchada Kirakul, a central bank assistant governor, indicated that the monetary stance had shifted from a bias toward easing to a more neutral position.
"The current interest rate is suitable. We would rather wait to assess new incoming data before deciding on the future trend," she said.
The MPC's statement offered similar comments. "The current rate was deemed suitable in ensuring the inflation target and supporting economic expansion," the statement said.
"Overall domestic demand continued to soften due to a slowdown in private expenditure and fragile confidence. Although the government accelerated spending, government spending has yet to achieve the target.
The MPC noted that while exports had continued to perform well, a slowdown was a risk in line with the global economy.
Ms Suchada said weak domestic demand in turn would help keep inflation in check, despite recent increases in oil prices. Dubai oil prices have risen to $66 per barrel from $63 at the last MPC meeting in April, but remained under the forecast ceiling of $68.
"The oil price has been pushed up by temporary factors and the fact that it is now the [US] driving season. It hasn't differed much, however, from the second quarter of last year," she said.
Weak private investment has been the major reason for the MPC's aggressive rate cuts this year, Ms Suchada said.
"Private investment is key to an economic recovery. The interest rate cut will be one positive factor to help improve confidence," she said.
Short-term interest rates have fallen by 1.5 percentage points from 5% at the beginning of the year, as domestic demand has remained weak and inflation low.
Ms Suchada said lower interest rates would help export-oriented firms. At the same time, the political climate remained the key risk for companies focused on the domestic market.
According to the central bank, private investment contracted in the first quarter. MPC members in their meeting yesterday also reviewed April economic data, which are due to be released to the public next week. In any case, analysts expect short-term policy rates to fall by at least another quarter or half point by year's end.
Ms Suchada said the impact of eased monetary policy on the banking system would be more quickly felt than rising rates.
"But it will take some time to get people to spend due to poor confidence. There will be some impact on depositors [from the rate cuts], but new financial products in the banking system should help to offset the impact," she said.
Real one-year fixed deposit rates after inflation now stood at 0.74%.
Ms Suchada added that the central bank was not concerned that lower rates would lead to capital outflows, given ample liquidity in the financial system. Policy interest rates in Thailand now stand on par with those in Malaysia at 3.5%, but are higher than Taiwan's 2.9% and lower than Korea's 4.5%, she added.
Khunying Jada Wattanasiritham, a director of Siam Commercial Bank, agreed that private investment was the key factor affecting the economy.
Business confidence has fallen markedly in recent months due to political uncertainties and policies such as efforts to tighten the Foreign Business Act.
"Exports have been strong. [Government] budget disbursements lagged behind targets, but the reason - that prudent procedures are needed - is in the right direction," she said.
"There is only private investment left that remains uncertain. In fact, the business sector should no longer be reluctant to invest if they are confident about the future."
Gary Newman, country officer for Citi in Thailand, said the 50-basis-point cut raised an interesting question as to how "deep" the central bank was willing to push rates this year.
"They seem reasonably confident of a downturn in core inflation," Mr Newman said, adding that the move was unlikely to have a significant impact on the baht.
"The currency isn't strengthening due to yield differentials. ... The baht will appreciate due to structural capital flows."
Steady trade and current-account surpluses and a weakening dollar have continued to pressure the baht this year even though investment sentiment remains weak due to political uncertainties.
Vocabulary (in discussion above)
macroeconomics - the overall study of what is happening in a country's economy (growth, inflation, unemployment), whether people in the country are prospering or suffering economic hardship, and the effects of both short-term and long-term government measures policy to help an economy (See The Economist and Wikipedia)
Bank of Thailand (BOT) - Thailand's central bank, in charge of monetary policy in Thailand (See website and Wikipedia)
Monetary Policy Committee (MPC) - the BOT committee that collectively decides on monetary policy
a basis-point - 0.01% (50 basis points is 0.50%)
one-day repurchase rate - the short-term policy interest rate that Bank of Thailand uses in its monetary policy
consumer confidence - how positive consumers feel about their economic future (See Wikipedia)
investor confidence - how positive investors feel about future returns on their invetments in the economy
* weak investor and consumer confidence
* improve confidence
* poor confidence
taken as a given - assumed
should not be taken as a given - should not be assumed
stance - attitude, beliefs, what you think about a situation
monetary stance - beliefs about appropriate monetary policy
the monetary stance had shifted - change in beliefs about appropriate monetary policy
bias toward x - likely to do x, but not sure yet
neutral position - not biased
deemed to be - people believe it to be, condidered to be
suitable - appropriate (acceptable or right for a particular purpose)
was deemed suitable - people believed it to be the right thing to do
demand - aggregate demand, the total demand for goods and services in the economy during a time period: Y = C + I + (G - T) + (E - Im), where C = consumer spending, I = investment, G = government spending , T = taxes, E = exports, Im = imports (See Wikipedia on aggregate demand)
demand softened - demand decreased
demand continued to soften - demand continued to decrease
weak domestic demand - very slow growth, demand in the country is increasing at a very low rate
* domestic demand has remained weak
private expenditure - non-government spending in the country, spending in the country by consumers/households and businesses: C + I
fragile - easily broken or destroyed
in line with - agrees with, goes together (does not contradict)
keep inflation in check - control inflation, prevent inflation from increasing a lot and getting out of control
driving - causing change
the [US] driving season - the season in the United States which causes changes in prices
private investment - business investment, private sector investment (low inflation, low interest rates, and low taxes all encourage investment; See The Economist on Investment)
contracted - decreased, fell
private investment contracted - business investment fell
aggressive rate cuts - interest rate reduced much more than expected
political climate -
short-term policy rates - the interest rates that the government uses in its monetary policy, these are short-term interest rates
deposits - money kept in banks
depositors - people and businesses keeping their money in banks
* fixed deposit rates
help to offset the impact -
ample - enough
liquidity - how much money and credit (loanable funds) is flowting around in an economy, liquidity keeps the engines of commerce running, as seen in M.V = P.Q where M = money supply, V = velocity of money, P = price level in economy, Q = output in economy, the equation that almost every economist agrees holds at least in the long-run and certainly under hyperinflation, see Quantity Theory of Money [The Economist, Wikipedia] (See The Economist on liquidity and Wikipedia on market liquidity)
ample liquidity - enough money and credit
* ample liquidity in the financial system
on par with, stand on par with - be at the same level
Foreign Business Act (FBA) - 1999 Foreign Business Act, Thailand's current law that regulates how foreign businesses can conduct business in Thailand
disbursements - formal payments (here by the government)
prudent - careful, using common sense, not taking risks
reluctant to -
Citi - Citigroup Incorporated, the world's largest company as of March, 2007, a major American financial services company based in New York City (See Wikipedia)
core inflation - the rate of inflation excluding certain sectors whose prices are most volatile, specifically food and energy (Source; See The Economist and Wikipedia on inflation)
yield - annual income from an asset as a precentage of the asset's price (See The Economist)
a differential -
yield differentials -
structural - related to the structure of the economy (for example "structural unemployment" or "structural adjustment")
structural capital flows - investment attracted by a country because the country's economy is in good shape and promises good future returns
current account - a country's exports less imports of goods and services (plus some other things, See Wikipedia on current account and balance of accounts)
surplus - more than is needed, positive amount (opposite: deficit)
deficit - less than is needed, negative amount (opposite: surplus)
current account surplus - revenue from exporting is more than expense of imports (roughly)
weakening dollar - depreciating dollar, dollar getting less valuable compared to other currencies
investment sentiment -
Answer Key:
]1. How much did the BOT cut interest rates by yesterday?
The BOT cut rates by half a percentage point (0.5%) also known as 50 basis points.
2. Which specific interest rate did the BOT cut?
The BOT cut its one-day repurchase rate also referred to as its "short-term policy rate" in the article.
3. Why was the cut in interest rates made?
The cut was made because the Thai economy has continued to slow down "due to weak investor and consumer confidence."
4. Was the cut unexpected?
No, it was anticipated.
5. Does this cut follow a trend?
Yes, there has been a downwards trend in interest rates. This is the fourth cut this year.
6. How great an effect on financial markets did the announcement of the cut have?
Not much of an effect. The cut was anticipated which means that most of the effect on financial markets had already been felt when the announcement was made.
7. Is the rise in bond yields that occurred normal with an interest rate cut? Why or why not?
It is normal. Interest rates on bonds and the price of bonds move in opposite directions.
If the interest rate decreases then existing bonds at higher interest rates become more valuable.
Bond yields are calculated from bond prices.
8. How has BOT monetary policy officially changed after this rate cut?
The official monetary policy is that the BOT is not planning further rate cuts. BOT's "monetary stance" has changed from a "bias toward easing to a more neutral position."
Although later in the article, an expert raises the possibility of further cuts:
"Gary Newman, country officer for Citi in Thailand, said the 50-basis-point cut raised an interesting question as to how "deep" the central bank was willing to push rates this year."
9. Why wasn't a larger rate cut made to stimulate the economy even more?
A larger rate cut could lead to increased inflation above the targeted inflation rate.
("The MPC's statement offered similar comments. "The current rate was deemed suitable in ensuring the inflation target and supporting economic expansion," the statement said.")
10. Summarise the current state of the Thai economy as described in this article?
a. Weak domestic demand
b. Slowdown in private expenditure.
c. Fragile, weak, low confidence (consumer and investor)
d. Accelerated government spending planned but not yet achieved.
e. Good export performance.
f. Possible future slowdown in exports due to slowdown in world economy.
g. Low inflation.
h. Temporary increase in oil prices.
i. Weak private investment
j. Short term interest rates have fallen.
k. Short-term policy rate has been cut.
l. Current account surplus
m. Weakening dollar
11. What was the most important reason for this rate cut?
Weak private investment. The central bank wants to stimulate private investment.
("Weak private investment has been the major reason for the MPC's aggressive rate cuts this year, Ms Suchada said.
'Private investment is key to an economic recovery. The interest rate cut will be one positive factor to help improve confidence,' she said.")
12. Why has government spending not provided as much of a fiscal stimulus as expected?
Government budget disbursements have lagged behind targets.
Accelerated government spending is planned but has not yet been achieved.
