Memorandum, 28 March 1952 (2495)

1. On February 28th 1952 the Bank of Thailand dropped its “free” selling rate for sterling from baht 51 to baht 45. To describe the background and explain the reasons that led to this step is the purpose of this Memorandum.

2. Foreign trade in recent years was characterised by a consistent expansion of the volume of exports at high prices as against imports which increased at a somewhat slower rate, the balance of trade each year being substantially in Thailands favour. The figures are given below.

FOREIGN TRADE

Year Exports Imports Balance
  baht millions
1949 2,981 2,296 685
1950 3,922 2,881 1,041
1951 4,678 3,713 965

3. Thailand also had, in 1949 and 1950, an appreciable surplus balance of payments, although the figures for 1951 are not yet available, there is no doubt that another substantial surplus was achieved; for there was again a considerable increase in the Bank of Thailand’s holdings of foreign exchange.

Bank’s holdings of gold & foreign exchange

  Gold Sterling U.S. dollars
End of year @ $ 35 per oz. (including securities)
  $ £ $
Issue Department
1949 118,137,776 18,822,181 9,914,376
1950 118,137,776 33,965,915 23,854,193
1951 112,461,873 48,014,855 51,866,023
Banking Department
1949 46,795 8,955,020 7,056,257
1950 164,091 12,991,755 12,992,816
1951 501,353 6,392,289 42,830,640
Total
1949 118,184,571 27,777,201 16,970,633
1950 118,301,867 46,957,670 36,847,009
1951 112,963,226 24,407,144 94,696,663

4. The increase in the foreign exchange holdings of the Bank necessarily involved an increased money supply.

MONEY SUPPLY

End of year

Currency

in private hands

Deposit money (net) Money Supply (net)
  baht millions
1949 2,304 743 3,107
1950 3,043 924 3,967
1951 3,796 1,153 4,909

It will be observed that the expanded money supply was due mainly to the increase in the currency in circulation. As the Bank’s practice, in order to put itself in funds, was to transfer sterling or dollars from the Banking to the Issue Department against notes, it is clear that the increased money supply was due principally to the surplus balance of payments.

5. Nevertheless prices did not, inspite of the considerable expansion of the money supply, rise to any comparable extent.

Prices

End of year Wholesale prices Cost of living (BANGKOK)
April 1938-March 1939 = 100
1949 1,490 1,190
1950 1,680 1,250
1951 1,757 1,319

The above figures, inter alia, confirm the belief that a large volume of notes were simply hoarded, mainly by up-country producers. Inflationary pressure was latent and as yet inactive.

6. Under the Exchange Regulations, the foreign exchange proceeds of rice, rubber and tin exports were surrendered to the Bank in the following respective proportions, viz., 100%, 20% and 40%. The non-surrendered proportion of the proceeds of rubber and tin, as well as the total proceeds of all other exports, were freely disposed of in the market. This disposal gave rise to a free foreign exchange market, where the rates were governed by supply and demand. In the case of sterling, the expanded volume and value of exports, previously referred to, involved an increase in the supply; and sales of sterling by the Bank for authorised imports, at a rate slightly below the free market rate, helped to ease the pressure upon the market. Appreciation of the baht in terms of sterling resulted. The figures are given below.

Free Market Transactions

Year

Transactions

(Commercial banks)

Sales by Bank @ “free rate” Free market rate average for December
  PURCHASE SALES    
  £ £ £ Baht per £ 1
1949 18,978,649 17,000,444 17,058,141 57.15
1950 31,096,510 29,096,471 10,336,770 55.44
1951 38,113,037 38,586,914 12,942,866 52.57

7. The above summary shows that, in each of these recent years, the monetary pattern was the same. By arbitrarily taking out of the market a considerable amount of the foreign exchange proceeds of exports, thereby artificially depreciating the exchange value of the baht in the free market, a substantial foreign exchange reserve was accumulated and a fillip given to exports. On the other hand, accumulation of that reserve necessarily involved a large expansion of the money supply. The expansion was however accompanied by a considerable hoarding of notes; and, the factor of velocity having been thereby reduced, prices rose only to a small extent. It may be noted in this connection that the hoarding of notes by individuals represents a grave danger to the economy. It may well be that, for reasons entirely beyond Thai control, hoarders may decide to dishoard and so produce active inflation. Furthermore, while incomes are high, there is no assurance that hoarding will continue at the former rate. A further point to be observed is that, if accumulation of the reserve had been carried out at a slower rate, that is to say, if more foreign exchange had been allowed to enter the free market, the baht would have appreciated to a more marked extent. The rapid building up of the reserve, though essential, kept the baht at an artificially low level and maintained high import costs.

8. Turning to the current year, it may be said that the outlook for exports is again favourable. The exportable surplus of rice is likely to exceed even the post-war peak of 1,550,000 tons in 1951, trade estimates being as high as 1,700,000 tons. Sales on the Government to Government basis will produce on the average an additional £ 3 per ton; and commercial sales may produce as much as an additional £ 8 per ton. Rubber prices have receded from their early Korean War level; but indications are that the export volume will not be less than in the previous year. This remark applies equally to tin. The outlook for other exports appears favourable.

9. In view of the favourable trade prospects, it appears that the pattern of the preceeding three years will again be reproduced in 1952. The increase in the Banks holdings of foreign exchange and the note circulation, as well as the free market sterling rates, indicate that this expectation is likely to be correct.

Banks holdings of foreign exchange

Date Sterling U.S. dollars
  (including securities)
  £ $
Issue Department
1951 Dec. 31 48,014,855 51,866,023
1952 Jan. 31 48,021,719 65,883,994
Feb. 29 47,985,961 74,376,716
Banking Department
1951 Dec. 31 6,392,289 42,830,640
1952 Jan. 31 5,508,923 40,447,121
Feb. 29 5,365,925 37,834,489
Total
1951 Dec. 31 54,407,144 94,696,663
1952 Jan. 31 53,530,642 106,331,115
Feb. 29 53,351,886 112,211,205

Note circulation

Date Total Issue In Banking Dept. Circulation
  baht millions
1951 Dec. 31 4,066 14 4,052
1952 Jan. 31 4,247 29 4,218
Feb. 29 4,352 60 4,292

Free market sterling rates

Date Rate
  Baht per £ 1
1951 Dec. 52.57 (average)
1952 Jan. 52.43 (average)
Feb. 2 52.35
Feb. 9 52.24
Feb. 16 51.97
Feb. 23 51.44

10. It does not appear to be the part of wisdom to allow exact reproduction in 1952 of the pattern of the preceding years. Any substantial increase of foreign exchange in the Issue Department is no longer essential; since its gold and foreign exchange assets already amount to over 90% of the total note issue. Moreover, these assets are for the time being sterilised; for they will not be required, pending stabilisation of the baht, to perform their function of smoothing out temporary fluctuations in the exchange rate. Any addition to these assets means further sterilisation for no essential purpose. Again, another considerable expansion of the money supply will produce a further rise in prices, as well as aggravate the serious potential danger of an active inflation.)

11. It should also be noted, in connection with prices, that certain factors, which hitherto exercise little influence, are likely to play a more conspicuous part in 1952. First, the implementation of development projects should gather speed and involve larger expenditure than in previous years. Secondly, in order to promote efficiency in the Government Service, decision has been taken to increase all Government salaries, wages and pensions. Although this extra expenditure, amounting to baht 300-400 millions per annum, is to be met from revenue, it cannot but result in additional pressure upon goods and services. Thirdly, a further rise in prices abroad, which appears to be generally expected, will increase the cost of imports and contribute to higher prices.

12. In view of the above considerations, counteraction of the growth of the money supply and the rise in prices became an urgent problem early in the year. Of the possible counteracting measures, reduction of the Banks “‘free” rate for the sale of sterling had much in its favour. If sales could be increased, the growth of the money supply and the consequent rise in prices would be retarded. Further, the measure would, by reducing the artificial depression of the exchange value of the baht, lower the cost of imports or counteract an increase in foreign prices. The measure would also be understood by the market and consequently less liable to cause any unsettlement. Finally, it had the great advantage of being a measure to which the Fund had given its approval.

13. As already stated in the Banks letter (dated 28 February 1952) to the Fund, the earlier reductions of the “free” rate were kept strictly within the 2% margin. These reductions however proved ineffective; for, as will be seen from the figures in paragraph 9, the foreign exchange holdings of the Bank and the note circulation were still rising. A much more substantial reduction of the rate became necessary, if the growth of the money supply were to be effectively retarded. The circumstances, under which the reduction to baht 45 was made, were described in the Banks letter above referred to. It need only be repeated here that the reduction, though in excess of the 2% margin and therefore not within the letter of the understanding with the Fund, did not appear to be contrary to the spirit of that understanding. As mentioned in the Banks telegram No. 24 of 3rd April 1951, sterling sales were intended to prevent sterling accumulation and expansion of the note circulation.

14. A careful watch is being kept upon exports, although it is not expected that the measure will produce any appreciable effect upon the volume as a whole. Rice is not affected by the “free” rate. With high prices still prevailing, neither rubber nor tin exports should meet with real difficulty, particularly as the Government possesses the means (such as modification of the surrender provision, the export duty or royalty) to overcome the difficulty, if the necessity should arise. Some of these means apply also to many of the other major exports.

15. Finally, it was not expected that the reduction of the “free” rate would, by itself, result in the further depreciation of sterling in terms of the dollar in the free market. The small Bangkok market has close relationship with the larger one of Hong Kong; and arbitrage operations should, as on the previous occasions when the “free” rate was reduced, maintain the dollar-sterling cross-rate in the two markets in close alignment, with Bangkok slightly higher than Hong Kong. The figures for 1st to 20th March are appended.

28 March 1952.

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CROSS RATE

£1: U.S. $ (Selling)

  Bangkok Hongkong
1952 March 1 2.31 2.36
3 2.31 2.36
4 2.33 2.36
5 2.33 2.36
6 2.33 2.37
7 2.33 2.37
8 2.33 2.37
10 2.32 2.36
11 2.30 2.36
12 2.33 2.36
13 2.32 2.36
14 2.31 2.36
15 2.32 2.36
17 2.31 2.36
18 2.32 2.36
19 2.33 2.36
20 2.33 2.36

 

  1. ๑. Other currencies, being of small amounts, are not included.

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