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FY 1999: Thailand |
CHAPTER II. ECONOMIC TRENDS AND OUTLOOK MAJOR TRENDS AND OUTLOOK This economic trends and outlook report was prepared by the Economic Section of the U.S. Embassy, Bangkok in June 1998. Because of the continuing uncertainties regarding the Asian economic crisis, and the dynamic nature of changes in Thailand's economic situation, updated information is prepared regularly. Check the National Trade Data Bank (NTDB) which is available on the Internet for information on recent developments. After decades of virtually uninterrupted growth, Thailand plunged into a severe economic crisis that shook investor confidence and raised fundamental questions about the country's competitiveness. The devaluation of the baht in July 1997, exposed and exacerbated glaring flaws in the financial system, including massive unhedged, private-sector foreign debt that was not always productively invested. Beginning in August 1997, the International Monetary Fund (IMF) devised a rescue package that was designed to rebuild depleted foreign exchange reserves, restructure the financial sector and improve transparency. The resolute adherence of Prime Minister Chuan Leekpai's new government adherence to the IMF program subsequently helped restore confidence, while differentiating Thailand from more troublesome events in Indonesia. Still, Thailand is facing GDP growth of about negative five percent this year, accompanied by inflation well in excess of ten percent and unemployment of perhaps seven percent. Total bad debt in the financial system amounts to twenty percent or more of GDP. Numerous banks and finance companies face difficult re-capitalization problems, and more may be nationalized if they do not quickly attract foreign money. Corporate bankruptcies are also likely to mount. Recovery should begin by year-end, but it may take until 2000 or later before Thailand sees growth of five percent. That said, Thailand enjoys fundamental strengths that should prove attractive to businesses with a longer-term vision. Strategically placed at the center of Southeast Asia, Thailand has a diversified economy with a growing domestic market; it is not just an export platform. Although Bangkok is notorious for its traffic jams, Thailand's infrastructure has in fact dramatically improved in recent years. Successive governments have committed the country to an increasingly open trade and investment regime. Thailand has no industrial or national car policy. Despite frequent changes in government, the political process is pluralistic and democratic, with three successive peaceful transitions. The monarchy has provided continuity and stability to the country, while Thai Buddhism presents outsiders with an open and friendly face. Although doing business in Thailand has its challenges, the government is generally willing to listen to foreign concerns. Origins of the Present Crisis How could Thailand slide from boom to bust in so short a time? Economists and politicians alike are still debating the issue, but a rough consensus is emerging that inadequate financial supervision and fundamental errors by the Central Bank set the stage for Thailand's dramatic fall. Already in 1996, the Bank of Thailand (BOT) was rocked by the Bangkok Bank of Commerce (BBC) scandal in which BOT officials turned a blind eye to ill advised (and at times criminal) lending. The BBC affair proved to be a spectacular example of a larger pattern of under-collateralized lending by Thai banks and financial institutions, where personal connections seemed to count more than cash flow. BOT statistics tended to disguise the magnitude of Thailand's burgeoning bad debt, as did the irregular accounting practices of many Thai companies. Even after the government suspended sixteen financial companies in June 1997, public spokesmen sought to maintain the fiction that Thailand's financial structure was fundamentally sound, and not needing a thorough overhaul. The Central Bank's rigid defense of a pegged foreign exchange rate system, despite repeated admonitions from the IMF, contributed to Thailand's spiraling asset inflation. With the liberalization of the financial sector in the early 1990's and the establishment of new offshore banks (Bangkok International Banking Facilities, or BIBF's), foreign money -- much of it short-term, and most of it unhedged -- came pouring into Thailand. The BOT's pledge to defend the baht at roughly 25:$1.00 encouraged the illusion that borrowing money from abroad was not only cheap, but also risk-free. The country's 91 finance companies became the intermediaries for much of this hot money, increasingly funneling it into non-productive real estate and into the stock market, as well as over built sectors such as petrochemicals and steel. (To cite the troubled property market, a common estimate in early 1998 was that 300,000 housing units in Bangkok were unfinished or unoccupied, and that with ongoing construction, a third of the capital's commercial office space would be empty by year end 1998.) By 1996, foreign debt had soared to $91 billion ($74 billion in private hands), about half the GDP. In the meantime, exports -- along with foreign investment, the engine that drives the Thai economy -- stalled, showing zero growth in 1996, and 3.5 percent in 1997 (IMF estimates). Economists variously blamed the export sector's weakness on the overvaluation of the baht (especially following Chinese devaluation), under-investment in high value-added production, and the increasing competition that traditional industries (textiles and garments, seafood, shoes etc.) faced from neighboring countries. In 1995 and 1996, Thailand's current account deficit exceeded eight percent of GDP, setting up a tempting target for foreign speculators. Devaluation of the Baht The Royal Thai Government (RTG) devalued the baht on July 2, 1997. What was billed as a "managed float" soon turned into a rout, as the baht plunged from 25 to 35 during the summer, 45 in December, and as low as 57 in January 1998, before recovering to below forty in the spring. The basis for the baht's weakness first became clear in August 1997, when the IMF forced the Central Bank to release figures on the foreign reserves; the BOT had used up most of its reserves in a failed defense of the baht. Because they lacked this vital information, most analysts were taken completely by surprise when Prime Minister Chavalit Yongchaiyudh decided to devalue the baht. The government had argued plausibly that a devaluation was neither necessary nor desirable. Although the current account deficit was high, RTG spokesmen said capital inflows more than covered it, leaving a healthy balance of payments surplus. Besides, three-fourths of the imports were capital goods, intermediate goods, and raw materials -- things that would show up in productive capacity and exports over time. Devaluation, defenders of the status quo contended, would sharply increase Thailand's debt burden. They also argued that the stable baht was a powerful lure to foreign investors. Few paid heed to the IMF and other critics who charged the pegged baht -- essentially the only fixed price in the Thai economy -- with causing misallocation of resources in the economy. In the end, the Prime Minister unpegged the baht not because he was convinced of the merits of a float, but because his back was against the wall. The Bank of Thailand (BOT) had fearlessly taken on speculators who had attacked the baht in successive waves, first in February 1997, then like a tsunami in May 1997. Ordered by their superiors to defend the baht at all costs, BOT technicians committed over $23 billion in forward baht positions. Yet the BOT, hoping, perhaps, to reassure the public, continued to issue statistics showing the reserves comfortably above $30 billion (equivalent to five-to-six months' worth of imports), without coming clean on the net position. In reality, compared with short-term foreign debt, the net reserves were perilously low. By the third quarter of 1997, Thailand was essentially broke. This deception would cost the Central Bank dearly when the truth came out. Unanticipated Consequences of the Float As is so often the case in currency crises, the devaluation did not work as planned. RTG planners had hoped a ten percent drop from 25 baht=1$ to 28 baht=1$, or so, would boost exports without panicking financial markets or igniting inflation. No one expected Thai "bahtulism" to spread beyond its borders. Of course, none of these conditions held. Thailand's heavy dependence on imported inputs (e.g., electronic parts and components) meant that it was effectively importing inflation with the devaluation. Similarly, the high percentage of imported goods built into exported products, for instance, computers, reduced their competitiveness in world markets. The unanticipated contagion of Thai devaluation to neighboring countries also stunted Thai exports because goods from the Philippines, Malaysia, Indonesia, Korea and Singapore also became cheaper than before. Panic set in at the Thai stock market, which was the world's worst performer in 1997. Worst of all, Thai banks and corporations now faced a crushing debt burden. In baht terms, the $70 billion in privately-held foreign debt was twice as large in January 1998, (50 baht=$1) than it was in June 1997 (25 baht=$1). The sudden volatility of the baht scared off foreign investors and caused liquidity to dry up. All those foreign banks that had been so eager to lend to Thailand during the boom started pulling in their lines, confining credit to the best customers. The suspension of 58 finance companies in the summer of 1997 especially hurt small-to-medium enterprises and firms based outside Bangkok. Errors by the Central Bank Thailand was facing a meltdown, and the government lacked the means to do much about it, largely due to two major blunders by the Central Bank. First, the abortive effort to defend the baht in the first half of 1997 had depleted net reserves to dangerously low levels. Thailand's "managed float" was a fiction; the government could do almost nothing to halt the plunge of the baht. Second, the BOT had committed billions of dollars to keep banks and finance companies alive, with little to show for it. The Bank's Financial Institutions Development Fund (FIDF) loaned 430 billion baht ($17.2 billion at the old rate) to the 58 suspended finance companies by the time the IMF program was first instituted (August 1997). This was in addition to another one hundred billion baht, or so, that it had used to keep Bangkok Bank of Commerce on life support. By early 1998, the FIDF had committed some eight hundred billion baht (1.1 trillion baht including potential commitments to depositors and creditors) for this purpose, and still, the financial system was weaker than ever before. IMF to the Rescue: Fiscal Policy It was against this dire background that the International Monetary Fund entered the picture. For years, the Fund had urged the Thai authorities to unpeg the baht, but even IMF specialists probably did not recognize the severity of Thailand's difficulties until the Central Bank opened its books in July 1997. Thanks to new procedures adopted by the G-7 at Halifax, the Fund was able to put together its largest rescue package since the Mexican crisis in a matter of just weeks. Although specific elements of the IMF's program are the subject of continuing debate, Thailand in fact had no other option but to go to the Fund for help in August 1997, for no one else was prepared to make the necessary loans without the IMF's endorsement. The alternative was total collapse. The IMF program had two main parts, fiscal and financial. The Fund initially called for a budget surplus equal to two percent of GDP in fiscal year 1999 (same FY as U.S.), based on an expectation of positive growth in 1998. The Chavalit government, however, persuaded the IMF to scale this back to one percent. Fund economists favored a large surplus for a few reasons: to help close the savings- investment gap; restore investor confidence; and perhaps most important, help finance the anticipated cost to the government from assuming bad debt in the financial sector. Some private economists charged the IMF with slapping a Latin American template onto Southeast Asia without fully understanding the differences between Thailand and Mexico. (Thailand ran budget surpluses for a decade, most of its foreign debt was privately held, etc.) In fact, the IMF was not as inflexible as its severest critics claimed. By the Third Letter of Intent (March 1998), the Fund had eased the fiscal requirement, permitting the RTG to run a deficit equal to negative two percent of GDP in FY 1999 in recognition of the worsening economic environment. However, tinkering with the fiscal targets gave the RTG only a temporary breathing spell. In the near future, the government will have to start generating surpluses to pay for financial restructuring, or else pile up sizable foreign debt. IMF Financial and Monetary Policies A somewhat less controversial part of the IMF reforms was the revamp of the financial sector. Under the initial August 1997 program, the IMF required the RTG to suspend 42 additional finance companies, meaning that 58 of the 91 finance companies were now suspended (56 closed permanently in December 1997). Financial supervision was beefed up as well. The BOT took over four undercapitalized banks in February 1998, after they were unable to attract foreign buyers. In March 1998, the RTG committed Thai financial institutions to reach international standards on loan loss provisioning, collateralization, and the criteria for non- performing loans, effective January 1, 1999. The significance of these seemingly arcane, but far-reaching reforms were not lost on the Thai financial sector. Under the new criteria, for instance, over 25 percent of Thai banks' loans will be considered non-performing by year-end; the situation at the finance companies is much worse. To maintain capital adequacy ratios, Thai financial firms must scramble to raise new capital, primarily from abroad, or risk being taken over by the Central Bank. Even the largest Thai banks are inviting in foreign investors, with some banks facing majority takeovers. As large as it was, the $17.2 billion IMF program contained very little discretionary funding to aid the recovery. The vast majority -- $14.5 billion, or 84 percent -- was devoted to rebuilding the foreign reserves. One of the IMF's conditions was that the BOT could no longer use the reserves to support the baht, except in technical "smoothing operations." The IMF instead mandated a tight monetary policy to prop up the national currency -- a policy, however necessary, that has caused considerable hardship to the real sector. Much of the remaining $2.7 billion from the World Bank and Asian Development Bank (ADB) was earmarked for financial restructuring, with smaller amounts for infrastructure, education and training, environmental projects and the like. Subsequent loans by the World Bank will help alleviate unemployment in the provinces, while the ADB has spearheaded a $1 billion syndicated loan consisting of export credit guarantees to stimulate that stalled sector. The IMF has also required the RTG to accelerate privatization of major state enterprises, to improve bankruptcy and foreclosure laws, and to require greater transparency and better governance. A Qualified Success Even the skeptics of the IMF program had to be impressed with the commitment to reform by the new government led by Prime Minister Chuan Leekpai. Upon taking office in November 1997, the government pledged to implement the IMF program strictly, a signal that the markets and international donor nations welcomed. After hitting rock bottom at 57 in mid-January 1998, the baht steadily strengthened, reaching the high thirties in March before slipping back into the low forties. Following a decade of large trade deficits, Thailand posted several back-to-back monthly current account surpluses beginning with the fall of 1997. Even the stock market showed some life, as foreign bottom-feeders bought up Thai equities. In March 1998, shortly after the IMF rewarded Thailand with looser fiscal guidelines, Prime Minister Chuan met with President Clinton in Washington and won a $1.7 billion package of export credits and bilateral aid. Barring unforeseen factors, positive growth may return by the end of the year. As of mid-May, official sources projected approximately minus five percent GDP growth in 1998, followed by a gradual recovery in 1999 and beyond. Thailand's Difficult Road Ahead Almost no one, however, is predicting an early return to the go-go years for a simple reason: Thailand is awash in bad debt, and there are no easy solutions. (A common, conservative estimate of the total bad debt in the system is around 1 trillion baht -- $25 billion -- or twenty percent of GDP.) Longer term, the RTG must make some daunting decisions concerning, for instance, privatization of state enterprises, reform of the Bank of Thailand, and the massive investment needed in public education. Corporate restructuring, and price adjustments in the real estate market to cope with the property glut, have yet to begin in earnest. Before it can tackle the long-term agenda, the Chuan government must contend with a number of near-term challenges. Debt rollovers, bank recapitalization, lagging exports, and the disposal of assets left over from the bankrupt finance companies lead the list. Although it has made steady progress on most fronts, the continuing liquidity shortage is strangling the manufacturing and export sectors, while ongoing turmoil in Asia has curtailed resumption of normal foreign capital flows. Foreign Debt Rollovers The threat that foreign banks might curtail short-term loans to Thailand has receded, but still must be monitored. Short-term debt as of January 1998, was down to $27.75 billion, about 42 percent of privately held foreign debt. Estimated rollover rates fell significantly from the fall of 1997 to early 1998, but have since rebounded to tolerable levels. Most critical in this regard was the rate at which foreigners renewed loans to Thai banks. After falling to less than one-third in January 1998, the rollover rate recovered to almost two-thirds in March 1998. Compared with Indonesia, the Thais were fortunate, indeed. Still, the possibility that Japanese banks might have to retrench hangs over the market. Banking Recapitalization Banking recapitalization, along with the potential rollover problem, could force Thailand to borrow from foreign markets. The Bank of Thailand estimates that banks need to raise two hundred billion baht ($5 billion) this year, and another two hundred billion baht by the year 2000, to maintain capital adequacy ratios under the BOT's stringent new rules. By April 1998, Bangkok Bank and Thai Farmers Bank had already completed major recapitalization drives in foreign markets. Foreigners have taken majority positions in smaller banks, such as Thai Dhanu and Bank of Asia, and smaller stakes of several other Thai banks. Private analysts believe, however, that the recapitalization bill will be much higher (perhaps $20 billion or more) than the BOT estimates, and that even the healthier banks may have to launch additional recapitalization drives. If the weaker banks (let alone finance companies) are unsuccessful in raising foreign money, the government may have to take over more banks. In the current environment, the fate of the four recently nationalized banks is still unclear -- will they be merged, sold off one-by-one, or shut down altogether? If the government has to pick up the charge for failed financial institutions, it will probably have to go to foreign markets for more money. Already, the four banks are draining funds from FIDF coffers. Lagging Exports With the devaluation, exports were supposed to lead the way to recovery. In fact, after growing robustly in the second half of 1997, exports in dollar terms stagnated in the first quarter of 1998. Many exporters complained they could not get the loans needed to buy inputs despite full order books. The RTG has tried valiantly to help them out, setting up several export guarantee facilities worth some 116.5 billion baht, but manufacturers have drawn down only a small portion of the available funds. What's going on? Despite the guarantees, Thai banks were unwilling to lend to exporters because they still had to put up forty percent of their own money. Given the perceived risk of lending to Thai corporates, most banks would prefer loaning to the FIDF and money markets, which pay higher interest than government-backed export loans and carry less risk. Until Thai banks become more willing to give money to Thai companies, of course, foreign banks are not going to be enthusiastic about issuing and accepting Thai letters of credit. Thailand's Big Fire Sale A final set of problems concerns the disposal of assets left over from the 56 closed finance companies. The Financial Restructuring Authority (FRA) is saddled with auctioning off assets nominally worth 866 billion baht (over $21 billion), consisting of everything from repossessed autos and office furniture, car leasing (hire-purchase) loans, and government bonds -- items that are relatively easy to sell -- to property and corporate loans, which comprise about three fourths of the total. The property and corporate loans may be a tougher sell, as successful bidders win possession of the receivables (income stream) of the loans, but do not gain title to the underlying assets. The FRA will package most assets in lots of $100 million or more. Compared with the role of the Resolution Trust Corporation during the U.S. Savings and Loan crisis, the FRA faces a more onerous task, as the assets in question comprise more than seventeen percent of GDP. Although the FRA is committed to completing the disposal of assets by the end of the year, a number of important issues remained unresolved as of May 1998. In the event the loan is non-performing, the matter may go to bankruptcy court, but only if the debtor agrees. Until Thailand enacts and implements a modern foreclosure law (required by October 1998, by the IMF), however, some foreign investors may hesitate to enter the FRA auction. Tough restrictions on foreign land ownership will scare off others. Despite government assurances that it will only buy up bad assets on which there are no bidders, some fear that the Asset Management Corporation (AMC), with the ability to purchase up to 200 billion baht in assets, may artificially prop up prices. Private analysts guess that the auction will yield about twenty-five to fifty percent of the face value of the assets. The FRA auction process is crucial. If successful, it will set benchmark prices, notably in property, that should help get markets moving again. Clearing so much of the bad debt from the financial system would also make it easier for investors to put a price on what remains in the market. A transparent auction would go far to restore confidence in Thailand, jump-starting the capital inflows that Thai industry so badly needs. Dealing with Liquidity Crisis In response to a public outcry to do something about the high interest rates strangling the real sector, the RTG in late April 1998, announced a package of measures to restore liquidity. At the centerpiece of the program, the government's foreign debt ceiling was raised so that the Finance Ministry could issue foreign bonds (up to $1.5 billion initially, and maybe $5 billion overall). The FIDF was also permitted to offer up to 500 billion baht ($12.5 billion) in long-term domestic bonds in order to reduce its dependence on high-interest, short-term borrowing. Most of the rest of the package incorporated existing commitments, such as bankruptcy and foreclosure reform, accelerated bank recapitalization, debt restructuring, and privatization. The liquidity problem was a top priority of the IMF Third Review beginning in May. Looking Ahead Just as it would be a mistake to overlook Thailand's problems, it would be equally mistaken to underestimate its future. Many have written off Thailand in the past, and they have always been wrong. It was not just hot money and bubble economics that made Thailand the fastest growing country in the world during the decade to 1995. Strategically located next to fast-growing markets, Thailand is already one of the main manufacturing and agricultural centers of Southeast Asia, and is positioned to remain a leader in autos and electronics. Diversification, along with an increasingly open trade and investment environment, has made this country a favorite among foreign investors. Even at the height of the crisis, responsible opinion shunned nativism and xenophobia, instead engaging in an inward-looking debate on the roots of the crash. Despite frequent changes of government, the political system, buttressed by the monarchy, has provided remarkable continuity in national policy, with growing transparency. Indeed, Thailand's political pluralism -- so often dismissed as a curse by the exponents of "Asian values" -- proved to be a blessing during the 1997 crisis. Open political debate, supported by perhaps the freest press in Asia, helped the country to move toward a consensus, albeit by fits and starts, supporting a modified IMF program that is beginning to show signs of success. The first to plunge into crisis, Thailand may be the first to dig its way out. Prudent investors with long-term horizons will find plenty of opportunities in this vibrant and resilient land. PRINCIPAL GROWTH SECTORS Agriculture Even with the dominance of Thailand's manufacturing sector, agriculture remains an important part of the overall economy. Indeed, stepping up agricultural production for export is a priority of the government's strategy to recover from the economic crisis. Thailand is a net exporter of agricultural and processed food products with agricultural goods comprising about ten percent of total exports in 1997. The export competitiveness of some commodities, notably poultry meat, was enhanced by the depreciation of the baht in 1997, and agricultural exports overall continued to be strong in early 1998. These exports offset to a large extent the drop in demand from domestic consumers and contribute to stable, if not rising, farm sector incomes. In addition to export earnings, the agriculture sector continues to employ a relatively large portion of Thailand's workforce, roughly fifty percent of the total, and agricultural production accounted for eleven percent of Thailand's GDP in 1997. Airports and Equipment The Royal Thai Government has a firm policy to develop Thailand as a regional aviation hub and air transportation in the next decade. To achieve this goal, the RTG has reinstated its plan to develop the long delayed Second Bangkok International Airport as Thailand's primary international airport, and scaled down the expansion plan of the existing Bangkok International Airport (BIA) at Don Muang. The new SBIA, as planned will consist of two runways and one passenger terminal with a capacity of thirty million passenger per year. The construction cost is estimated at about 136 billion Baht (US$3.4 billion). Implantation of this new airport will be on a state-private sector joint venture in the form of holding company. The Airports Authority of Thailand (AAT) will hold 70 percent of the stake, while the private sector shares about 30 percent of the equity. Detailed engineering design for passenger terminal is being prepared by a U.S.-led consortium, Murphy Jahn/TAMS/ACT Consultants. Construction is scheduled to commence in 1999 with a completion date in 2003. Seventy- five percent of the construction cost will be financed by a loan from the Overseas Economic Cooperation Fund (OECF) of Japan. In order to cope with the increasing passenger demand after the year 2000, and due to the delay completion of the SBIA, the RTG has decided to invest about 4.36 billion Baht (US$109 million) to expand its existing Bangkok International Airport. This expansion will include the following elements: construction of the east aircraft parking aprons; high speed taxiways; a new aircraft pier (pier No. 5) with six contact gates for wide body aircraft; improvement of pier No. 1, 2, 3 and 4; expansion of existing domestic terminal; construction a new air traffic control tower (Note : tower only); and a new ground service and a duty free cargo buildings. Selection of construction contractor will be based on the AAT's short listed firms, and will be announced in the last quarter of 1998. Automotive Although devastating sales this year, the country's economic crisis should not permanently damage Thailand's long-term national goal is to become the automobile capital and regional manufacturing center of Southeast Asia. With the siting of manufacturing facilities of the American "Big Three"--Ford, GM and Chrysler's assembling activities--it is also becoming the "Detroit of the East". Due to their long entrenchment in the market, the Japanese command 78 percent of the overall market. However, the American manufacturers expect to change these proportions as production starts. As the auto hub develops, both the Japanese and American component suppliers are following their major clients' lead and are setting up manufacturing operations in Thailand. In addition to supplying local market demand, most manufacturers are aiming at exporting a large percentage of their production throughout the region. International assemblers and parts manufacturers remain confident that the Thai automotive industry will prosper in the medium and long term. TOYOTA increased the registered capital of its Thailand operation from 520 million baht to 4.52 billion baht, increasing the parent company's shares from sixty to seventy percent. Similarly, Honda raised its registered capital in its Thailand operation by two billion baht, raising the parent company's control to 97 percent. In addition, 28 other parts manufacturers are now foreign- controlled operations. The severe economic contraction sharply reduced demand for vehicles and forced some wholly Thai owned parts companies out of business. Thai partners in some joint ventures have also had to reduce their holdings or sell out to foreign partners. International assemblers and parts makers are gaining fundamental control of the Thai automotive industry and are turning the industry toward competitive products, large scale production, and wider varieties of parts. Electronics The electronics industry has become one of the country's strategic industries and partly replaces the traditional cheap labor/local raw materials industries in terms of production, exports and employment. The 1990's brought massive expansion and spectacular growth to the Thai electronics industry making Thailand one of the largest production bases for consumer and industrial electronics in southeast Asia. Many of these products are manufactured for export, and while regional economic slowdown may reduce growth rates, the devaluation of the Thai currency will boost the competitiveness of Thai manufacturers. Indeed, in the third quarter of 1997, exports of electronic components rose 27 percent. However, in the future, Thailand will have to continue to improve its efficiency as the worldwide market for electronics is expected to slow due to over supply, and as Thailand faces stiff competition from Eastern Europe and Mexico. Food Processing and Packaging Although the food processing and packaging equipment industry has been severely affected by the economic crisis, Thailand remains a major producer, processor and exporter of food products in the world market. Since the devaluation of the baht, the food processing industry has enjoyed a marked increase in orders of up to thirty to forty percent. Despite this sharp increase in demand, the industry has been unable to expand their production due to the devaluation, which has doubled the cost of expansion. More importantly, commercial banks are unable to extend more credit. Efforts by leading food packaging equipment companies to test the market by introducing new packaging designs and techniques, have not been received favorably by the industry. An industry source indicates that there is a good possibility that "barter trading" will be practiced during the economic crisis. Food processing equipment manufacturers will provide equipment and know-how, while food processors contribute raw materials and labor. The food processor then sells the finished food product back to the food processing equipment manufacturer. This is a good time for food processing equipment manufacturers and food processors to enter into joint venture partnerships with local manufacturers in Thailand. Manufacturing For the past decade, manufacturing of goods for export has been the driving force behind Thailand's economic success. Furthermore, manufacturing for export is counted on to lead Thailand out of the current economic crisis. Industrial products account for seventy percent of the total export value, and 29 percent of the country's gross domestic product. To manufacture finished products, Thailand must import a large percentage of the raw materials and semi-manufactured components, and most of the manufacturing technology. The United States is a major supplier of these materials and technology. However, Thailand needs to restructure key export industries to regain its competitiveness in the world market. Thailand's loss of competitiveness in labor- intensive products became very apparent in 1996, when total exports declined by 0.2 percent compared with increases by over twenty percent per year in previous years. Thai exports have been out performed in terms of quality/price by those from China, Vietnam and Indonesia. The decline in competitiveness is a result of obsolete technology and work methods insufficient research and development, and inadequately trained workers. Export industries which are subject to the reform plan include vehicles and parts, electronic components, electrical products, textiles, footwear, rubber products; ceramics, foods, and processed agricultural products. The Royal Thai Government has outlined a five-year industrial restructuring program, with funding borrowed from the World Bank and the Asian Development Bank. The plan aims at increasing higher value-added products for the middle and upper markets; improving efficiency and quick response capability; creating strategic alliances to enhance technology transfer and expand market channels; lessening industrial pollution; distributing industrial jobs to regional and rural areas; and, improving industrial workers skills. The restructuring program will bring strong and steady growth to the Thai manufacturing sector. Manufacturing will play even greater role in the country's economic development in the future. Oil and Gas Industry The present economic situation is having an adverse effect on the oil and gas industry in Thailand, including oil refining and retailing, and pipeline projects. This is because demand is growing at a lower rate than previously expected, and production costs are higher. Plans for expansion of oil refineries, construction of new gas stations, and installation of some natural gas pipelines have been put on hold. Privatization of oil-related state- owned enterprises is coming come closer to reality. In a recent meeting, the Petroleum Authority of Thailand's Board of Directors agreed to establish a PTT holding company for listing on the Thai securities market in late 1998. However, this proposal will have to wait the passage of the State Enterprise Capitalization Act from the Parliament. The Act is scheduled for scrutinizing in the Parliament in late June or early July 1998. Petrochemicals The Thai petrochemical industry began in early 1950s with a few processors but it was not until the 1970s that investors began the construction of a petrochemical plant to produce plastic resins and synthetic fiber from imported monomers and intermediates. In the late 1980s, Thailand's first National Petrochemical Complex (NPC1) was established in Map Ta Phut, Rayong Province, in the Eastern Seaboard (ESB) development area. The complex includes an upstream gas-based olefins plant and four downstream plants to produce polyethylene, polypropylene, and polyvinyl chloride. With the success of NPC1 and the continuing rise in petrochemical demand, another petrochemical complex, NPC2, was established in early 1990s. The new complex includes a naphtha-based olefins plant, an aromatics plant, and fourteen downstream petrochemical plants. These petrochemical companies are now moving toward restructuring to cope with the slower local demand and to expand export markets. Despite the current economic crisis, construction of two new petrochemical plants that will produce aromatics is proceeding in the Eastern Seaboard of Thailand. Both are majority U.S. owned. In 1995, the U.S. Trade and Development Agency (TDA) funded a feasibility study on the establishment of NPC3 project. The Petroleum Authority of Thailand (PTT) has also proposed to establish another petrochemical complex on the Southern Seaboard of Thailand. But because of the economic crisis, these two projects have to be postponed. GOVERNMENT ROLE IN THE ECONOMY Due to a decline in revenues resulting from the downturn in the economy and the cost of the banking system restructuring, the government budget in FY'96/97 recorded a deficit of 134 billion baht (2.8 percent of GDP) compared to a surplus of 126 billion baht in the previous year. Although revenues fell by only three billion baht, capital expenditures rose substantially along with borrowing costs associated with the finance system restructuring. For FY 97/98, the government deficit is expected to increase even further to 287 billion baht (5.7 percent of GDP). Revenues are expected to decline to 778 billion baht compared to 873 billion in FY 96/97. Borrowing costs associated with the financial sector restructuring is expected to rise to 136 billion baht (2.7 percent of GDP) compared to 33 billion baht in the previous year. Although Thailand takes a free-market approach in many aspects of its economic policy, the government maintains substantial influence in key sectors of the economy through the activities of state economic enterprises, and by direct and indirect (i.e., crown property) share holdings in firms organized as private companies. Parastatal organizations continue to have monopolies in telecommunication services, electricity distribution, tobacco products and rail transportation. Government-controlled public companies dominate the natural gas and air transport sectors, and have a substantial presence in petroleum refining and marketing, petrochemical production, banking and land transportation. According to the National Economic and Social Development Board (NESDB), the share of GDP arising from government or government controlled activities in 1996 amounted to 19.3 percent. By selected sector, the government's share in the same year was construction -- 41 percent; transport and communications -- 52 percent. It is expected that the government will follow the IMF directives to accelerate its privatization programs, which will gradually reduce its direct holdings in many sectors of the economy. In cooperation with the World Bank, a privatization master plan is being developed which will provide a comprehensive blueprint for the transfer of selective productive assets to the private sector. In the short term, the government's legal monopoly in telecommunications is expected to be abolished during 1998, and partial privatization of the two telecom operating companies is expected to take place in 1999. The government has also announced plans to reduce its equity stakes in Thai Airways, Esso Thailand, Bangchak Petroleum and Electricity Generating Company, by the end of 1998. However, privatization remains a complex undertaking, with broad social and political implications. BALANCE OF PAYMENTS SITUATION After the Baht floatation in July 1997, Thai exports grew moderately by seven percent (year on year) in the second half of the year, and increased 3.8 percent for all of 1997 (vs. -1.9 percent in 96) to $56.7 billion. Imports, on the other hand, contracted sharply by 13.4 percent for the year to $61.3 billion (vs. +0.6 percent in 96). The combination of moderate growth in exports and sustained weak imports resulted in a surplus for both trade and current accounts in 1997. In fact, Thailand began chalking up surpluses in its current account in September 1997, a mere three months after the Baht devaluation. For the full year of 1997, the trade deficit declined significantly from $16.5 billion in 1996 to $4.6 billion. The current account deficit shrank sharply from $14.7 billion (or -7.7 percent of GDP) to a mere $3 billion (or -2 percent of GDP), better than the original IMF target of a deficit of five percent. The current account is expected to remain in surplus throughout 1998 despite a disappointing export performance (+1.4 percent in 98). This is mainly due to a much sharper decline in imports (-17.7 percent). For the year 1998, the government expects a whopping current account surplus of $8.5 billion or 6.9 percent of GDP. By contrast, the capital account in 1997, which in previous years had helped financed the current account deficits, recorded a net outflow of $15.6 billion (vs. net inflows of $16.5 billion in 1996) which reflects repayments of short term debts. This resulted in a balance of payments deficit of $18.6 billion. Official reserves declined to $27 billion (5.3 months of imports) at end of 1997. In 1998, net capital outflows are expected to continue due in part to the unwinding of the Bank of Thailand's sizable "offshore" swap obligations. However, the expected large surplus in the current account will help finance the gap, resulting in a smaller balance of payments deficit which the government now projects to be in the range of $6-8 billion for 1998. Total outstanding external debt amounted to $91.8 billion at the end of 1997, of which 73 percent was owed by the private sector. Despite continued borrowing by the public sector, the stock of the country's external debt in 1998 is expected to decline to $89.7 billion due to substantial loan repayments (estimated $10 billion) by the private sector. The debt service ratio could increase to 19.5 percent in 1998 compared to 15.8 percent in 1997. INFRASTRUCTURE AND PRIVATIZATION The Eighth National Economic Development Plan (1997- 2001) developed in early 1997 using the baht rate of B25=$1.00 earmarked about US$67.25 billion for energy and infrastructure development programs. The allocations were: US$24.78 billion for transportation; US$25.29 billion for energy; US$7.71 billion for public utilities; and US$9.47 billion for the telecommunications sector. The erosion of the baht to B40=$1 and the unavailability of funds because of the financial crisis necessitates cutbacks, or at least postponements, of many projects. On April 28, 1998, the Cabinet approved the government expenditure budget of B800 billion (approximately $20 billion) for fiscal year 1999. The Cabinet also approved a higher foreign debt ceiling of $7.2 billion to finance the following projects: * Social investment project with loans of $500 million and $250 million from the World Bank and the Overseas Economic Cooperation Fund (OECF) of Japan; * Ratchaburi power plant with lending from Japan's EXIM Bank and financial institutions totaling $528 million; * $57 million for Bangkok power transmission system through financial institutions; * $130 million for Krabi power plant through export credit and financial institutions; * $26.9 million for Wang Noi power plant through financial institutions; * $177 million for Yadana gas pipeline through export credit and financial institutions; * $276 million for Metropolitan Rapid Transit Authority's mass transit project from OECF; * $150 million for rural credit development program from OECF; * $400 million for housing credit program through financial institutions; * $311 million for export credit program from Japan's EXIM Bank; * $1 billion for export credit program sponsored by the Asian Development Bank; and * $1.7 billion in structural adjustment loan from the World Bank and ADB. Because of the severe economic crisis, and the requirement to follow directives of the International Monetary Fund, the Royal Thai Government has affirmed its policy to accelerate the privatization and deregulation of infrastructure enterprises. The Government has hired Arthur Andersen Consulting Company to draft a master plan for state enterprise reform. The master plan is expected to be completed by the end of August 1998 with a regulatory framework to be announced by the end of September 1998 and a legal framework by October 1998. In addition, the State Enterprise Capitalization Act (alias the Corporatization Act) will be scrutinized by the Parliament which will begin to convene on June 23, 1998. This Act will be used as the basis for privatizing or corporatizing state-owned enterprises. It is likely that restrictions on foreign ownership on state-owned enterprises will remain at least at the initial stage. After the legal framework is established, presumably in October 1998, infrastructure state-owned enterprises are expected to begin their corporatization process. These state-owned enterprises will include the Electricity Generating Authority of Thailand, the Petroleum Authority of Thailand, the Telephone Organization of Thailand, the Communications Authority of Thailand, the Thai Airways International Limited, the Bangkok Metropolitan Administration's wastewater treatment facilities, and BMA's solid waste facilities. In 1997, the Electricity Generating Authority of Thailand (EGAT), a state-owned enterprise, signed Power Purchase Agreements (PPA)with seven Independent Power Producers (IPP) for purchase of a total of 5,800 megawatts of electricity from these IPPs for a period of twenty five years starting from 1999. One of these IPPs have started construction of the power plant. Six other IPPs are still negotiating loans from international financial institutions. Meanwhile, EGAT plans to let the private sector to partly own (probably fifty one percent) its Ratchaburi 4,600 MW power plant which is under construction. The Thai Government is slow in responding to a request by the National Electronics and Computer Technology Center (NECTEC) to tackle the Y2K problems in all government agencies and state-owned enterprises. The Government has nominated Deputy Prime Minister Mr. Suwit Khunkitti to set up a task force and has instructed each Ministry to convert the budget, to be allocated for the fiscal year 1999 for procurement of computers, for solving the Y2K problems. However, this budget needs approval from the Parliament. The Budget Bureau estimated that between $75 and 125 million would be needed but NECTEC believed that the budget would be insufficient. Some state-owned enterprises have taken initiatives of hiring consultants to advise how to solve their problems.[end of document]
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