POST-WAR MONETARY RECONSTRUCTION

​GENERAL CONSIDERATIONS

1. From the internal standpoint of the community, the monetary system must fulfil three functions. Money must serve as a common denominator of value. It must act as a medium of exchange, which means that it must possess the attribute of acceptability in current transactions. Finally, it must serve as a store of value.

2. To perform its first function, that of a common denominator of value, money must provide a method of comparison. It is only when different commodities and services are priced, i.e. have their relative worth expressed in terms of a common denominator, that it is possible to make comparisons necessary for economic action, be it consumption or production. In Thailand the common denominator is the baht; in Japan it is the yen; in Britain it is the pound sterling.

3. ​The necessities of economic life require moreover the provision of a medium of exchange, i.e. of something which has a physical embodiment, so that it can be passed on from person to person in exchange for goods and services. The common denominator thus physically embodied becomes currency, and, as such, possesses a value at any moment of time which is measured by its command over goods and services. Some of the most difficult monetary problems are concerned with the purchasing power of the currency and the correlative of that purchasing power, i.e. the level of prices. In all production and in the majority of transactions there is an element of time. Salaries and wages are fixed and other contracts are concluded for certain specified periods; and, as a suitable medium of exchange, money should possess some stability in its purchasing power through time.

4. The third function of money, that of a store of value, is implicitly in the above explanation. Income and expenditure cannot, as a rule, be exactly synchronized over time and reserves have to be kept against emergencies. People require to keep part of their savings in a liquid form and the maximum degree of liquidity is represented by a holding of cash. If the currency is not safeguarded against depreciation in value and the holding of cash involves risk of capital loss, there will be a flight from the currency into holdings of land, commodities or other currencies. This procedure, if carried on a mass scale, accelerates the deterioration in the value of the currency and reduces its serviceability to the community.

5. The next point to bear in mind is that the physical embodiment of money in the shape of coins and notes, called currency, no longer adequately meets the needs of modern communities. The use of coins and notes have been supplemented by the employment of cheques. Bank credit is a substitute for currency. The ​possibility of drawing cheques upon bankers is however conditioned by the possession by the drawer of a right to draw and this is equivalent to the possession of a bank balance subject to cheque. Such a balance can be obtained either by accumulation out of income or by a loan from the bank itself. Consequently the publics ability to purchase cannot be measured, at any moment of time, merely by the absolute volume of currency in the hands of the public. Over and above this volume is the publics command of purchasing power in the form of the right to draw cheques. The magnitude of the amount here involved is dependent, not merely on accumulation on the part of the public itself, but on the working of the credit system.

6. Finally, as part of these general considerations, it must be remembered that the monetary system of a country has a dual role to play in the economic life of the community. Its working affects not only the internal life of the community but the relations of that community with other communities as well. To enable foreign trade to flow smoothly, there must be stability, in terms of gold or other currency, in the value of the local currency. Goods imported from foreign territory are paid for in foreign currency but are sold in local currency. Where the value of the local currency fluctuates in terms of the foreign currency, the business of the importer at once assumes a speculative character; for the importer cannot know with any reasonable certainty whether the local currency acquired from the sale of any imported commodity will cover the amount required by him for the purchase of that commodity. Similar difficulty exists in the case of the export trade. The exporter buys in local currency and sells in foreign currency. Where there is no reasonable certainty as to how much local currency he will acquire for the foreign currency received as proceeds of his exports, local buying for exportation becomes a gamble. Without external stability, trade becomes mere speculation and will eventually be paralysed.

​THE OBJECTIVES OF MONETARY POLICY

7. The general considerations mentioned above lead inevitably to the conclusion that the objectives of monetary policy are :—

a. external or exchange stability of the currency ;

b. internal stability of the currency ;

c. sound credit conditions.

The interests of Thailand are bound up with the realization of these objectives. In considering them and, particularly, the policy by which they may be attained, regard must first be had to the existing currency and credit position.

THE CURRENCY POSITION

8. The Currency Act, B.E. 2471, continues to provide that the baht shall be the unit of Thai currency. The physical embodiment of the baht takes the form of legal tender notes. Previous to the outbreak of the war in Asia, these notes were issued by the Treasury only against sterling, gold or other notes. It was furthermore mandatory upon the Treasury to receive or deliver sterling against legal tender money at the rate of baht 11 to £1 sterling. By this statutory provision the value of the baht was tied to that of sterling.

9. ​Although Britain abandoned the gold standard in 1931, there gradually emerged what has since become generally known as the sterling area, which came into existence as a result of the gradual realization by many countries of their interest in maintaining a fixed rate of exchange in relation to sterling. The maintenance of a relatively stable U.S. dollar-sterling rate of exchange further widened the area of exchange stability. Linked to sterling, the value of the baht was stable in terms of all the principal currencies of the world.

10. The outbreak of the war in Asia resulted in the cutting of the baht-sterling link and the closing of the doors of all the allied and most of the neutral countries to Thailand. The baht is now tied temporarily to the yen, the currency of practically the only country with which Thailand can trade. Notes may now be issued against yen in place of sterling. Foreign exchange transactions are subject to control and the Bank of Thailand, the newly established Currency Authority, buys or sells yen at baht 100 per yen 100, charging a 2% commission thereon. By these means exchange stability, in terms of the yen and a few other currencies, is maintained. A further legal innovation necessitated by war expenditure is to the effect that the Currency Authority may issue notes against bonds issued to it by the Treasury. This provision is also temporary, and, like the yen link, lapses automatically on the expiration of the state of war.

11. So much for the law. The facts are that since the war there has been an enormous expansion of the currency circulation due to the following factors, viz., (a) Japanese requirement of funds for military expenditure in Thailand, which are met finally by the issue of baht notes against yen ; (b) Governments revenue deficits, met by the issue of notes against Treasury bonds; (c) international balance of payments in favour of Thailand, necessitating the issue of notes against yen.

12. ​On 30th June 2487 (1944) the note circulation amounted to Baht 865,120,348, an increase of 191% over the circulation on 31st December 2484 (1941). The circulation will be found in Annex I and the cover on 30th June 2487 in Annex II.

13. It has already been stated (paragraph 10) that exchange stability with the yen and a few other currencies is being maintained. But the large and unceasing expansion of the currency, particularly at a time when the supply of commodities is substantially and continuously shrinking, cannot but result in a severe and progressive depreciation in the internal purchasing power of the currency. Thailand is experiencing an inflation, that is to say an expansion in the supply of money to spend relatively to the supply of commodities and services to purchase.

THE CREDIT POSITION

14. An expansion in the currency circulation or, in other words, an increase in the physical means of payment, adds to the volume of bank deposits and to the cash reserves of the banks. When cash resources expand, banks are in a position to lend more freely; for, so long as confidence is maintained, they need keep only a proportion of cash against the sums deposited with them. Lending by the Banks increases, as explained in paragraph 5, the publics command of purchasing power and thereby contributes towards further depreciation of the internal value of the Baht.

15. An attempt at control of the volume of credit was made in 2485 (1943), its basis being the compulsory ​maintenance by the commercial banks with the Central Bank of a cash reserve of such amount as may be fixed from time to time by the latter. The underlying theory is that, in a country not possessed of a developed money market and commercial banking system, control of the volume of credit is possible only through statutory power to vary the ratio of the commercial banks cash reserve to their deposit liability. Equipped with this power, the Central Bank can insulate the aggregate supply of credit from a rise in the cash basis by an appropriate rise in the legal ratio and from a fall in the cash basis by an appropriate reduction of the ratio.

16. The theory has not however been put fully into practice. The present position is that the commercial banks are only required to maintain a fixed amount, i.e. not less than 20% of their deposit liabilities, with the Central Bank, and to hold not less than 30% of such liabilities in Government securities. The measure does not contract the volume of credit at a time when it should be contracted; but remains of some use in that it slows down the progress of credit expansion. The relative commercial banking flgures are to be found in Annex III.

SUMMARY OF MONETARY POSITION

17. Currency circulation is quickly expanding ; and credit also expands though at a slower rate. Expansion of the currency and credit means an increase in the publics command of purchasing power and involve a depreciation in the internal value of the currency in terms of commodities. This condition is further accentuated ​by the decreasing volume of imports. The available index of wholesale prices made up by the Ministry of Commerce will be found in Annex IV. Progressive deterioration in the purchasing power of money and progressive rise in the price level; such in brief is the present position.

It now remains to deal, in so far as is possible at the present stage, with the policy whereby the objectives set out in paragraph 7 may be attained and, briefly, with the measures for the execution of that policy.

EXCHANGE STABILITY

18. To achieve exchange or external stability, it is obvious that the currency cannot be allowed to move freely without any association either with some foreign currency or gold. It was to avoid widely fluctuating exchange rates that the Sterling area and other currency blocs came into existence. Linking directly to gold need not be considered. It has never been and is not practicable; nor does modern opinion appear to desire to return to the former gold standard. An international currency is being discussed; but of this little is now known and should, for the present purposes, be left out of consideration. The choice of a foreign currency consequently remains a choice between sterling and yen. It may be added that, should the final choice be any other currency, e.g. the proposed international currency, the steps to be taken are not likely to differ in principle from those proposed hereafter.

19. Trade consists of an exchange of commodities, money being only the medium facilitating such exchange. It follows that stability is desirable in terms of the currency of that country ​with which Thailand has the largest trade. If such foreign currency is itself stable in terms of other currencies, stability of the national currency in terms of other foreign currencies will be automatically achieved. For the sake of clarity, it will be assumed that the greater part of foreign trade will again be with the British Empire and that decision will consequently be taken to return to the sterling link.

20. The next point is the rate of exchange between the baht and sterling. The problem is whether to stabilise the baht merely at the level at which it finds itself at the time of stabilisation, whatever that level may be; or to aim also at an appreciation of the baht. In this connection it should be borne in mind that where the exchange value of the currency appreciates, importation of goods will be stimulated. For if the exchange rate were, say, baht 11 to the pound, only baht 11 would be required to purchase £1 worth of goods. But if the rate were, say, baht 20 to the pound, then it would require baht 20 to purchase the same quantity of goods. A high rate of exchange however penalizes exportation; for the possessor of £1 would, at the rate of baht 11 to the pound, be able to acquire baht 11 with which to purchase goods in Thailand; whereas if the rate were baht 20 to the pound, he would be able to acquire baht 20.

Where, on the other hand, the exchange value of the local currency is fixed at a low level, its effect on trade will be the reverse. Exports will be stimulated and imports penalized.

It must of course be observed that stimulation or penalisation are but temporary effects, ceasing with the adjustment of conditions to the new level.

21. Thailand produces rice of the best quality. An exportable annual surplus of about 1.2 million tons can usually be relied upon, for crop catastrophes are few and far between. ​There is little doubt but that the end of the war will see a large demand for rice. Tin, rubber and teak are also likely to be required abroad. Provided that the exchange value of the baht is not so high as to make the price prohibitive, all surplus production of these commodities will probably be exported. On the other hand, the general need for foreign goods for consumption and reconstruction purposes is urgent and substantial. These considerations indicate that stabilisation should be made at an appreciated level; or, in other words, imports should be assisted as far as possible without unduly penalising exports. From the internal points of view, appreciation of the baht should not cause too much dislocation. Wages and rents lag some distance behind commodity prices. Adjustment of prices downwards would appear to be an easier process than the upward adjustment of wages and rents. Furthermore, the Government have substantial obligations abroad. A high rate of exchange will enable those obligations to be met with a smaller amount in baht.

It should however be understood that an appreciated rate does not necessarily mean the former rate of baht 11 to the pound. It may be that rate is undesirable or impossible of attainment. All that is intended here is that the aim should be high rather than low. The actual rate at which stabilisation is to be effected can only be considered in view of the factors prevailling at the time of stabilisation.

22. External stability cannot be attained by a mere Gazette notification that so many bahts shall be worth £1. Stabilisation involves that the Currency Authority must be prepared to buy or sell on demand the foreign currency to which the baht is linked. To maintain the value of the baht at, say, baht x to the pound, the Bank of Thailand must buy or sell sterling at that rate on demand. This leads to the question of the currency reserve. To be able to buy or sell sterling on demand at a fixed rate, the Bank must be provided ​with the means therefor; that is to say, it must have a reserve in sterling and/or gold. Such reserve must furthermore be large enough to meet any possible demand for sterling. The volume of the demand for sterling obviously depends, ceteris paribus, on the volume of money (currency and credit) in circulation. The larger the circulation, the more substantial will be the reserve required.

23. Of the existing reserve, a substantial part is frozen abroad and its fate unknown; another substantial part is in the form of a currency the post-war value of which may well depreciate, nor is it likely to be easily convertible into gold or sterling. Monetary circulation on the other hand is enormous and still increasing. Consequently, to acquire an adequate and effective reserve, steps must first be taken to stop further currency inflation. Contraction of the volume of currency circulation may also be found necessary. Secondly, a sterling credit may have to be obtained for temporary use in support of the available reserve. Other things being equal, the level at which the external value of the baht can successfuly be maintained will depend primarily on two factors, i.e. the volume of monetary circulation and the amount of effective reserve.

24. To stop further currency inflation, the budget must be genuinely balanced; that is to say, all expenditure however classified or incurred must be met from tax revenue. Loans may, if necessary, be resorted to, but only during the first stage. The budget must further be maintained in equilibrium. The practice of issuing notes for governmental purposes, hitherto unknown in Thai currency history, will have to cease at once. Notes should be issued only for the requirements of legitimate business and trade.

25. For the contraction of the circulation there are several methods. The two following are suggested as being probably the least draconian. First, Treasury bonds issued in ​exchange for notes will mature at short intervals. These should be met as far as possible from revenue, budgetary allowance being made for the purpose. Any revenue surplus should also be utilized for the further reduction of this floating debt. Should this method be found inadequate, additional measure may take the following form. The Bank of Thailand is issuing only the notes of the Government; bank notes have not yet been issued. Contraction of the existing currency circulation could speedily be effected by the withdrawal of Government notes and the issue in exchange therefor of bank notes and deposit certificates. The value of the bank notes and certificates to be delivered in exchange for Government notes are to be fixed at such ratio as will result in a minimum bank note circulation necessary. The deposit certificates need bear no interest (or only a nominal interest); and the period and conditions of redemption must be determined with reference to the circumstances obtaining at the time of issue. This partial freezing of cash assets will have many repercussions and require further study.

26. It may be that a sterling credit will be required for the support of the available currency reserve. With a genuinely balanced budget and stoppage of the use of the printing press for Government purposes, such credit is likely to be obtainable.

27. To ensure exchange stability, exchange control will have to be maintained. Sterling and other sound foreign currency proceeds of Thai exports must be concentrated in the hands of the Central Bank and the demands thereupon scrutinized. Scrutiny and, if necessary, denial of demands for non-essential purposes will be required in order that a foreign exchange balance may be built up for the purposes of re- paying the credit above-mentioned and constituting an adequate reserve. When this building up has been effected, exchange control will have served its purpose and may be dispensed with.

​INTERNAL STABILITY

28. The stopping of further currency inflation and the contraction of the volume of currency will result in an appreciation of the internal value of the baht. That value must be made stable. Internal stability, i.e. stability in the internal value of the currency in terms of Commodities, is attainable only under the condition where the volume of monetary (currency and credit) circulation expands or contracts in response to the requirements of trade and business. In other words, the supply of money to spend must vary in step with the supply of commodities and services to purchase. Where there is an expansion of the monetary supply without an expansion in the volume of commodities and services offered for it, inflation takes place and a rise in prices ensues. In the reverse case, i.e. a contraction of the monetary supply without a contraction in the volume of commodities and services, deflation takes place and a fall in prices follows. Consequently the aim of every currency system is to provide elasticity, or responsiveness of the volume of currency circulation to the increase or decrease in goods and services which are exchanged through the medium of currency.

29. Prior to the war, currency elasticity was achieved through the exchange standard, the fundamental basis of which is provision for the expansion or contraction of the volume of currency. With a favourable balance of trade, the reserve rose and the currency was automatically expanded; whilst with an adverse balance, the reserve fell and the currency was automatically contracted. The adoption of a sterling exchange standard has been suggested for the purpose of achieving external stability (paragraph 19). This exchange standard will, together with the following measure, probably be adequate for the attainment of a reasonable degree of internal stability.

30. First, the Currency Emergency Act, B.E. 2484, under which notes can be and are issued against Treasury bonds, ​will automatically expire upon termination of the war. To guard against inflation, the Act must be allowed to expire; indeed there will be no need for it if, as recommended in paragraph 24, the budget is genuinely balanced. The currency system to be established must contain safeguard against inflation, particularly through the issue of notes for Government purposes.

31. Next, recognition must be given to the world-wide principle that the Central Bank must be independent of politics, in order that it may be free to carry out a policy tending to keep the value of the baht stable. Freedom from politics is essential for the safeguarding of the currency. The Bank of Thailand Act has probably gone as far as possible under the circumstances in decreasing such freedom. It is likely to be attained by the practice of non-interference on the part of the Government rather than by any further modification of the written charter.

32. Thirdly, it has already been explained in paragraph 5 that the publics command of purchasing power lies not only in the possession of currency but also in the right to draw cheques; and that such right depends partly on the working of the credit system. Maintenance of stability in the internal value of the currency consequently requires not only control of the currency but also the control of credit. This forms the subject of the next section.

SOUND CREDIT CONDITIONS

33. As already explained, credit or the right to draw a cheque is money no less than currency is money. The ​discussion concerning the elasticity of the currency applies equally to credit. To ensure stability, control of the one is as necessary as control of the other. The machinery and technique used in the developed countries, such as a short-term money market and a discount policy, are not available. In the less developed countries, the control of the volume of credit can only be effected through statutory power. Its theory has been explained in paragraph 15.

34. The existing Act for the control of credit, which is only a compromise, should be repealed and a new law enabling the Central Bank effectively to control the volume of credit should be promulgated. The ability to control the volume, together with its other powers, will probably enable the Bank also to control the price of credit. It is only with such control, exercised with wisdom, that the country will be possessed of sound credit conditions; that is to say, conditions under which the credit system will meet the needs of healthy growth and development without encouraging speculative abuses.

CONCLUSION

35. The objectives of monetary policy are stability of the currency and sound credit conditions. The measures through which those objectives may be attained have been suggested.

They may be summarised as follows : —

(1) The stoppage of inflation with a view to the stabilisation of the baht, preferably at an appreciated level. This is to be assisted by :—

​(2) contraction of the volume of currency by redemption of the floating debt and, if necessary, other means,

and (3) balancing of the budget as soon as possible, so that thereafter current or non-developmental expenses will be met by taxation, without recourse either to inflation or loans,

and (4) an independent Central Bank to control currency and credit in the interest of the community as a whole, and (5) if necessary, a loan (a) to cover budgetary deficit, if any, during the first stage of reconstruction and (b) to support the external value of the baht, pending 7 acquisition of an adequate reserve to be accumulated through exchange control and centralisation.

36. That this is the decisive year of the war is generally recognized. The only question is merely one of time. The currency system has to be re-constructed, if there is to be a return to conditions of normaicy. The objectives of monetary policy specified in paragraph 7 are beyond argument. It is the policy by which those objectives may be attained and the method of execution of that policy which require consideration. In essence the measures suggested in this Memorandum do not much differ from those taken in the re - construction of European currencies, e.g. Austria, Hungary, after the last World War. The suggestions are nevertheless tentative and are intended to serve as a basis of discussion. The policy remains to be decided. Final decision cannot be given now; but it should not be too early at least to study some of the measures which must inevitably be taken, such as the stoppage of inflation and the balancing of the budget. Many measures require to be worked out and enforced if the objectives above referred to are to be attained, as attained they will have to be sooner or later.

15 August 2487 (1944)

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​ANNEX I Note Circulation

​ANNEX II Note Circulation and Cover 30 June 2487

Note circulation, Baht 865,120,348.

Cover

Note. (1) Gold valued at baht 4.80 per fine gramme

(2) Yen valued at Yen 1 to Baht 1

(3) Sterling valued at 13.92324d. per Baht or Baht 17.24 = £1

​ANNEX III Commercial Banks

​NOTE

1. The figures of the Chartered Bank of India, Australia and China, Bhuket branch, are not included in the total.

2. Deposits include money due to other banks in the Clearing Account.

* The Bank of Asia for Industry and Commerce opened during the year.

** The National and City Bank opened during the year, while the Hongkong & Shanghai Bank, the Chartered Bank of India, Australia and China and the Mercantile Bank of India, the Bank of Canton and the Sze Hai Tong Bank were closed on account of the war in the Far East.

*** The Thai Bank Ltd. opened at the close of this year. There are altogether 10 commercial banks operating during the latter half of this year, including the Bank of Canton and the Sze Hai Tong Bank which were permitted to reopen their business.

​ANNEX IV WHOLESALE PRICES

(2481 = 100)

(The above figures were supplied by the courtesy of the Ministry of Commerce.)