Can Thailand learn from New Zealand's recent experience with capital inflows and currency appreciation?
By Jon Fernquest[Introduction|Vocabulary|Article]
[Reading Questions|Answers]
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Thailand is not the only country where currency appreciation may be eroding away the export sector.
New Zealand provides a telling contrast to Asia's appreciating currencies (Thailand, India, Phillipines, etc)
New Zealand's central bank is under the monetary policy discipline of inflation targeting much like Thailand.
Unlike Thailand it has shunned all central bank intervention in exchange markets until last month.
News headlines sound like Thailand over at the news aggregator Scoop, even though the export industries going out of business are slightly different:
1. Wood Processors Call for Monetary Reform [link]2. Sheep and beef farmers' revenue may slide 9 percent in the year ending June 30 because the currency's appreciation is crimping export earnings
3. "We hold grave fears for the future of our industry," Andrew Fenton, president of Horticulture New Zealand, which oversees an industry that exports NZ$2.5 billion of fruit and vegetables a year
4. Cedenco Foods Ltd, which processes and exports food ingredients, said it will close a factory [link]
5. Click Clack Ltd., an Auckland-based plastics manufacturer, is transferring some of its factories to China [link, link]
6. Politicians should stop interfering with the independence of the Reserve Bank and instead commit to real solutions to lower interest rates and the exchange rate [link]
The report issued by New Zealand's central bank yesterday sounds a lot like Thailand:
* The export sector being crushed by an exchange rate perhaps 10 cents higher at the moment than would otherwise be the case.* Long-term export and therefore economic growth prospects being damaged as companies are scared away from exporting because of knowledge that every now and then they will be slaughtered by a central bank relying on a sustained high exchange rate to fight inflation rather than quick hikes in interest rates.
Comparing Thailand and New Zealand
Now for some basic economic, cultural, demographical, and geographical facts.
Everyone and everything in New Zealand seems to be named after the Kiwi bird (See photo above).
New Zealand is a small open economy like Thailand.
New Zealand ranks as a fully developed country and member of the OECD.
Thailand's economy is twice as big ($206 vs. $104 billion GDP) but it's per capita income even adjusted for purchasing power is still a lot less ($9,000 vs. $26,000).
Thailand's population is a lot larger (66 million vs. 4 million) and has about twice as much land as New Zealand does (511,770 sq km vs. 268,021 sq km).
Japan and the US are leading export markets for both countries with each from 10% to 15% of the total. [Sources: Economist Intelligence Unit for Thailand, New Zealand and CIA World Factbook]
Today's article is from EcoCafe, a weekly column on Friday in the Bangkok Post that discusses important current economic issues. The column is written by economist Dr. Tientip Subhanij who works in both banking and academia.
For further reading, check out Te Ara the official Encyclopedia of New Zealand to learn more about the country. Maoris
Read background information on New Zealand's economy at the Economist Intelligence Unit.
Reading Questions
Here are some questions to guide your reading (See answers at end):1. How big is new Zealand compared to Thailand?
2. In what ways is New Zealand similar to and different from Thailand?
3. What kind of official monetary policy does New Zealand use? Is this similar to Thailand's official monetary policy?
4. How does New Zealand's target inflation range compare to Thailand's?
(Web research required)
5. Why did New Zealand's central bank perform its first foreign exchange intervention in history only last month?
6. Was the foreign exchange intervention effective?
7. What is New Zealand's Official Cash Rate (OCR) ?
8. Why has New Zealand's currency risen so rapidly recently?
9. What is the carry trade and how have investors profited from it?
10. What factors have led to 25 year highs for the New Zealand dollar this week?
11. What factor has led to record lows in the US dollar recently?
12. What is the likely effect on the New Zealand's currency of raising interest rates even further to combat inflation like it did yesterday?
13. How has currency appreciation affected New Zealand's export sector?
How does this compare to what is happening in Thailand?
14. What kind of products does New Zealand manufacturer Fisher and Paykel produce?
15. What kind of investment in Thailand is Fisher & Paykel planning to make? How much will the investment be? Where will it be? When are they planning to make it?
16. How has currency appreciation affected New Zealand's import sector?
17. Which country seems to be facing a more difficult situation economically right now, Thailand or New Zealand? (Express your opinion)
Bangkok Post Article July 27, 2007
ECO CAFERunaway kiwi puts pressure on New Zealand
Dr Tientip SubhanijCompared to Thailand, New Zealand is a small country. Its population is only four million with nominal GDP and total land area half our size. Among OECD countries, it is also one of the smallest and greatly dependent on international trade. Yet the economy of New Zealand is very prosperous with significant amounts of its currency traded in the world foreign-exchange market.
Last month, New Zealand made news worldwide when the Reserve Bank of New Zealand intervened in the foreign-exchange market to sell the New Zealand dollar. Confronted by rising pressure from the strong kiwi dollar, the central bank decided on June 11 to stage its first foreign-exchange intervention since the currency was floated in 1985.
The main reason behind the rapid rise in the kiwi is the country's high interest rate. New Zealand's official cash interest rate (OCR) now stands at 8.25% - the highest among industrialised countries. The New Zealand dollar has been pushed higher by overseas investors seeking to take advantage of the country's relatively high real interest rates, and with rates being increased in an attempt to curb inflation, investing in New Zealand assets is viewed as a safe bet.
Japanese investors, earning almost nothing in yen, have poured money into New Zealand assets. Other investors have also taken advantage of the "carry trade", allowing them to borrow at low interest rates in yen and reinvest the amount at higher rates overseas. Warren Buffett - the second-richest man in the world - was reported to have made about NZ$130 million just by speculating on the currency from 2003 to 2006.
And that's where the Reserve Bank's intervention comes into play. The aim is to signal to speculative currency traders that the kiwi is no longer a one-way bet. Post-intervention, however, the kiwi registered a 1.6% fall that proved short-lived, with the currency soon climbing back to its pre-intervention level. The Reserve Bank has succeeded in handing out hundreds of millions of New Zealand dollars at below market value to institutions abroad so that they could earn high interest rates.
The currency broke the US$0.80 level on Monday for the first time in 25 years. And it is still going strong due to the resurgence in demand for carry trades and a weak US dollar that has hit a record low against the euro amid worries about the US subprime mortgage sector.
Following its unsuccessful intervention, the Reserve Bank announced that it would change the way it manages its foreign currency reserves to make it easier to respond if the New Zealand dollar ever goes into a freefall. The Bank's traditional practice has been to hedge its foreign-exchange position - matching its holdings of foreign-currency assets with equivalent borrowings in the same currency
With the new approach, however, part of the foreign-reserve portfolio will be funded in New Zealand dollars rather than foreign currencies. The rationale behind such changes is to give the Bank a more effective means of responding to crisis situations in case of sharp falls in the kiwi. With a portion of reserves no longer borrowed from abroad, but funded internally, the Reserve Bank will be less dependent on international capital markets
Alan Bollard, the governor of the Reserve Bank, is instructed by law to keep inflation down. And he only has the tool of raising interest rates in an attempt to slow down the economy, and therefore - in theory, at least - reduce inflation. Yesterday he used that tool again as the Reserve Bank lifted its benchmark rate - the fourth increase this year - to 8.25% from 8%.
The tactic of raising official cash rates (OCR) to stave off inflationary pressure, however, is serving only to make the kiwi more attractive and leading to an influx of overseas buying, boosting inflation further
Meanwhile, the impact of a huge increase in the exchange rate in the past six months has severely affected the export business, raising concerns that New Zealand manufacturers will close operations and set up offshore, resulting in job losses
Ironically, Thailand has been a beneficiary of New Zealand's struggles. The high-end appliance manufacturer Fisher & Paykel said earlier this year that it could no longer remain competitive if it stayed in New Zealand. It is investing 1.6 billion baht to build a factory in Chon Buri to begin production in mid-2008. The company employs 1,950 people in New Zealand and at least 350 of them will lose their jobs.
Meanwhile, the increase in the kiwi also makes imports significantly cheaper, fuelling more spending. The Reserve Bank, once more, lifts interest rates.
Despite some differences in the direction of interest rates and the current-account balance, the kiwi story seems similar to what Thailand is facing.
If there is any consolation to us in Thailand, New Zealand is also facing a great dilemma. And so far, it has dug itself more deeply than Thailand into a no-win position on interest-rate and exchange-rate policy
Dr Tientip Subhanij holds a PhD in economics from the University of Cambridge, and currently has a career in banking as well as academia. She can be reached at tien201@yahoo.com
Vocabulary (in discussion above)
the kiwi - New Zealand's national bird and also the name sometimes used for their currency and even people from the country (See Wikipedia on the New Zealand dollar and the Kiwi) (See Wikipedia)
soil erosion - the gradual destruction and disappearance of soil by water (rain, river, ocean)
eroding away - gradual destruction
telling - showing the true nature of the situation
inflation targeting - when the central bank uses a long-term inflation rate to guide monetary policy and setting interest rates (New Zealand, Thailand)
shunned - avoided
demography, demographical - teh study of populations of people and the way they grow
runaway - out of control, moving uncontrollably (for example, a runaway horse or car)
runaway kiwi - New Zealand's currency appreciation is out of control
OECD countries - 30 developed countries are members of the Organisation for Economic Co-operation and Development (OECD), an international organisation of developed countries that accept the principles of representative democracy and a free market economy, founded in 1948 (See Wikipedia on OECD)
dependent on - relies on, needs
prosperous - rich and successful
Reserve Bank of New Zealand (RBNZ) - New Zealand's central bank (See Wikipedia on the RBNZ and the New Zealand dollar)
currency was floated - allowing the value of a currency to move up and down according to supply and demand in currency markets
official cash interest rate (OCR) - the interest rate used by New Zealand's central bank to meet the average inflation rate target of 1 to 3 percent per year, setting this rate influences the interest rate for bank loans in the country: "The most crucial part of the system is the fact that the Reserve Bank sets no limit on the amount of cash it will borrow or lend at rates related to the OCR." (See Reserve Bank of Australia and Wikipedia on the Official Cash Rate)
a safe bet - a safer choice
carry trade, currency carry trade - borrowing in a country with low interest rates and investing the funds in a country with higher interest rates, borrow low-yielding currencies and lend high-yielding ones (Source; See Wikipedia on carry)
registered a fall - recorded or reported a fall
resurgence - renewed growth, growing again
resurgence in demand for carry trades -
US subprime mortgage sector - a current problem area in the US financial system, making risky loans to borrowers who do not qualify for regular loans and interest rates because of problems with their past borrowing history, in late 2006 banks many of these loans started defaulting because of depressed real estate prices and banks began foreclosing on them and this has caused problems in parts of the American financial system (See Wikipedia on subprime mortgage lending and subprime meltdown)
a freefall - falling uncontrollably
* goes into a freefall
hedge - reduce risks, protect against loss of money (See The Economist and glossary)
hedge foreign-exchange position - buy currency at the current exchange rate for delivery in the future, to avoid risk of exchange rate changing in future
a rationale - the reasons for doing
the rationale behind x - the reasons for doing x
a benchmark - a known standard to compare and measure other things against
* lifted its benchmark rate
a tactic - methods or techniques (used to achieve immediate objectives; opposite of a "strategy" which is a long-term for achieving a goal)
stave off - stop temporarily
stave off inflationary pressure - temporarily prevent inflation
an influx - an inflow
an influx of x into y - arrival of large numbers of x at place y
ironically - strange because it is the opposite of what you expect
high-end - the most expensive kind
high-end appliance manufacturer Fisher & Paykel -
Fisher & Paykel Appliances Ltd - New Zealand manufacturer of high-quality expensive home appliances with innovative designs, usability, and environmental awareness, appliances include refrigerators, ovens, dishwashers, washing machines, and dryers, gas and electric cooktops, and front loading dryers (See Wikipedia)
consolation - comfort (make you feel better about an unpleasant situation)
if there is any consolation... - if there is any comfort...
a dilemma - a difficult choice
* facing a great dilemma
dug itself more deeply into - situation got even worse and more difficult to solve
no-win - cannot win or succeed, not possible to win
* a no-win position on
Answer Key:
1. How big is new Zealand compared to Thailand?
A lot smaller:
a. Half the total land area of Thailand.
b. With a population of 4 million, not even 10% of Thailand's population.
2. In what ways is New Zealand similar to and different from Thailand?
a. Similar: Small open economy greatly highly dependent on international trade.
b. Different: Member of the OECD which requires that the country be: i. a developed country, b. accept the principles of representative democracy, iii. be a free market economy.
3. What kind of official monetary policy does New Zealand use? Is this similar to Thailand's official monetary policy?
New Zealand uses inflation targeting.
Thailand also uses inflation targetting.
4. How does New Zealand's target inflation range compare to Thailand's?
(Web research required)
New Zealand's target average inflation rate is1 to 3% per year and Thailand's is 0 to 3.5%, which makes them almost the same, except Thailand's range is a little bit wider.
The Bank of Thailand's website states that this is "close to the band width set by New Zealand" so it sounds like Thailand has been influenced by New Zealand's range (Source: BOT)
5. Why did New Zealand's central bank perform its first foreign exchange intervention in history only last month?
To curb currency appreciation after a rapid rise in the New Zealand dollar.
They wanted to send a "signal to speculative currency traders that the kiwi is no longer a one-way bet," and stop the speculation.
6. Was the foreign exchange intervention effective?
No, the intervention was not effective since the currency only fell slightly for a short period of time before rising beyond its previous level.
("Post-intervention, however, the kiwi registered a 1.6% fall that proved short-lived, with the currency soon climbing back to its pre-intervention level.")
7. What is New Zealand's Official Cash Rate (OCR) ?
It is the interest rate used by New Zealand's central bank to influence the inflation rate and keep it within the target range by controlling the liquidity and credit in New Zealand's financial system. (See Reserve Bank of Australia)
8. Why has New Zealand's currency risen so rapidly recently?
Interest rates are very high in New Zealand compared to most other countries.
This has attracted inflows of investment funds from other countries.
9. What is the carry trade and how have investors profited from it?
The carry trade consists of investors borrowing in a country like Japan with low interest rates and investing the funds in a country with higher interest rates like New Zealand (borrowing low-yielding currencies and lending high-yielding ones). An example:
"An example of a "yen carry trade" is borrowing 1,000 yen from a Japanese bank, exchanging the funds into U.S. dollars and buying a bond for the equivalent amount. Assuming that the bond pays more than the amount you must pay the bank for borrowing the funds, and the exchange rate does not move adversely, you will earn a profit." (Source)
10. What factors have led to 25 year highs for the New Zealand dollar this week?
a. A resurgence in demand for carry trades.
b. The US dollar hitting record lows against the Euro.
11. What factor has led to record lows in the US dollar recently?
Worries about problems in the US subprime mortage lending sector
which is enountering high levels of defaults and foreclosures.
12. What is the likely effect on the New Zealand's currency of raising interest rates even further to combat inflation like it did yesterday?
Increasing interest rates just makes the carry trade even more attractive thereby attracting even more capital inflows.
("...Yesterday he used that tool again as the Reserve Bank lifted its benchmark rate - the fourth increase this year - to 8.25% from 8%.")
("The tactic of raising official cash rates (OCR) to stave off inflationary pressure, however, is serving only to make the kiwi more attractive and leading to an influx of overseas buying, boosting inflation further")
13. How has currency appreciation affected New Zealand's export sector?
How does this compare to what is happening in Thailand?
Currency appreciation has made New Zealand's export sector less competitive in world markets and has spurred some companies to move manufacturing operations offshore to Thailand and lay off employees in their own country.
14. What kind of products does New Zealand manufacturer Fisher and Paykel produce?
They produce innovative home appliances. (See vocabulary section)
15. What kind of investment in Thailand is Fisher & Paykel planning to make? How much will the investment be? Where will it be? When are they planning to make it?
a. What kind: A factory.
b. How much: 1.6 billion baht factory in Chonburi that will begin
c. Where: in Chonburi.
d. When: The factory will begin production in mid-2008.
16. How has currency appreciation affected New Zealand's import sector?
Imports have become cheaper and this has fueled more spending, inflation, and further rate cuts according to the author.
("Meanwhile, the increase in the kiwi also makes imports significantly cheaper, fuelling more spending. The Reserve Bank, once more, lifts interest rates.")
17. Which country seems to be facing a more difficult situation economically right now, Thailand or New Zealand? (Express opinion)
New Zealand because:
a. The competitiveness of its export sector has been negatively affected.
b. Inflation targeting doesn't seem to be working.
c. Foreign exchange intervention last month didn't work as expected.
