US embassy cable - 05BANGKOK5217

UNCLAS SECTION 01 OF 04 BANGKOK 005217 
 
SIPDIS 
 
SENSITIVE 
 
STATE FOR EAP/BCLTV AND EB 
STATE PASS TO USTR FOR WEISEL AND COEN 
TREASURY FOR OASIA 
COMMERCE FOR 4430/EAP/MAC/KSA 
 
E.O. 12958: N/A 
TAGS: ECON, EFIN, ETRD, TH 
SUBJECT: THAI ECONOMY CONTINUES TO SLOW 
 
REF: A. BANGKOK 3463 
     B. BANGKOK 2137 
     C. BANGKOK1266 
     D. BANGKOK 1237 
 
1. Sensitive but Unclassified. not for Internet Distribution. 
 
2. (SBU) Summary:  Increasing oil prices exacerbated a turn 
in Thailand's business cycle resulting in GDP growth of 3.3 
percent in 2Q 2005. Continued declines in consumer and 
business sentiment caused weakness in consumer spending and 
private investment leaving 12 percent growth in imports as 
the primary source of economic strength. The 35 percent 
increase in imports, primarily oil, more than offset the 
export growth and resulted in a large Current Account deficit 
over the fist half of the year. The Bank of Thailand is 
expected to increase its policy interest rate by as much as 1 
percent by year-end in a bid to control inflation, maintain 
stability in the baht and reduce the negative spread between 
nominal and real interest rates. This is somewhat at 
cross-purposes with RTG policy which would prefer a 
relatively weaker baht and continued low interest rates to 
augment the fiscal stimulus policies it has put in place. 
Economists have reduced 2005 GDP growth forecasts to 3.5-4.5 
percent from 4.5-5.5 percent thre 
e months earlier. We believe that the government's strong 
fiscal position, commercial bank's improved financial 
condition and strong corporate balance sheets will see 
Thailand through what the Bank of Thailand terms "the year of 
adjustment which tests the economy's resilience." The main 
risk factors to this upbeat scenario are continued increases 
in world oil prices and weakening in the economies of 
Thailand's major trading partners. End Summary. 
 
Economy Growing More Slowly 
---------------------------------------- 
 
3. (U) The Thai economy grew 3.3 percent in the first quarter 
compared to the same period last year, and declined 0.6 
percent from the last quarter of 2004. Initial projections 
for the 2nd 2005 quarter show no improvement.  This continues 
a trend of declining GDP growth over the past 1.25 years. The 
Bank of Thailand attributes the relatively poor economic 
performance so far this year primarily to the increase in 
world energy prices. This global problem has been exacerbated 
in Thailand by the effects of the December 26 tsunami, 
drought in certain agricultural regions and the on-going 
violence in three far southern provinces of the country. In 
addition, the global economy grew only modestly over the past 
year limiting growth opportunities for Thai exports. 
 
The Fallout from High Oil Prices 
---------------------------------------- 
 
4.  (U) There is no doubt that the rise in oil prices has 
been a major contributor to Thailand's swing to deficit in 
its current account, from a US$7.1 billion surplus in 2004 to 
a US$6.2 billion deficit in 2005's first half. Foreign 
exchange reserves have declined modestly over the first half 
from US$49.8 billion to US$48.4 billion-about 3.5 months of 
imports; 3.6 times short-term external debt. Analysts 
estimate that oil costs have doubled, going from 4 to 8 
percent of GDP and subtracting about 5.5 percent from the 
country's rate of growth. Oil has accounted for more than 33 
percent of total Thai imports this year. In addition, the 
cost to Thai consumers and businesses was more keenly felt 
than were last year's increases in world energy prices due to 
the end of the RTG's subsidy on diesel beginning on July 13. 
Diesel prices at the pump have increased 4.1 percent and 
would have been up by around 10 percent had excise taxes on 
the fuel not been reduced at the same time as the subsidy 
ended. According to the B 
ank of Thailand, the increase in fuel prices has been the key 
cause of inflation rising to 5.3 percent in July (core 1.9 
percent). 2004 headline inflation was 2.7 percent. 
 
5. (SBU) The deficit in the current account, rising prices 
and the negative news from natural causes have all taken a 
toll on consumer and business sentiment. Both these 
indicators have been declining for the past six quarters and 
business sentiment is at its lowest point since 2001. This is 
reflected in both the Private Consumption Index (growing at 
only 0.3 percent in 1H 2005) and low rates of fixed asset 
formation, even though capacity utilization continues to run 
above 70 percent. Consumer purchasing power going forward 
will be further constrained by recent Bank of Thailand moves 
to restrict credit growth in the sub-prime market (from 
concern that these consumers were becoming over-extended) and 
interest rates that are expected to increase 75-100 basis 
points by year-end as the Central Bank tries to rein in 
inflation and increase savings by reducing the 3.5 percent 
negative spread between real and nominal short-term interest 
rates. The Monetary Policy Committee (equivalent in function 
to the U.S. Federal 
Open Markets Committee) is faced with pressure to raise 
interest rates to protect the value of the Baht and reduce 
inflation even as the RTG is anxious to keep rates at a level 
that continues to be a stimulus to the economy. 
 
Fiscal Stimulus, But Not Much This Year 
--------------------------------------------- ------ 
 
 6. (SBU) As reported in reftels, the RTG must identify the 
next driver for economic growth now that consumers are 
nearing their maximum debt levels and private investment is 
not picking up the slack. While most analysts are sanguine 
that recent positive growth in the economies of Thailand's 
major trading partners should translate into a renewed 
upsurge in Thai exports, we question the ability of Thailand 
to meet any significant increased demand given the lack of 
investment in increased capacity. The government's five-year 
"megaprojects" infrastructure development program remains on 
the drawing board at this point, slowed by the huge size of 
the proposed projects, the need to create institutional 
capacity to manage several large projects simultaneously, the 
RTG's desire to postpone projects requiring large amounts of 
imported inputs while the current account is in deficit and 
reported in-fighting over which companies will be awarded 
these contracts. Analysts don't expect any real progress on 
these projects un 
til sometime in 2006. 
 
7. (SBU) To stimulate the economy this year, the government 
is taking the following actions: 
-Bt50 billion accelerated disbursement of RTG budget. 
-5 percent increase in salaries of civil servants 
-5 percent increase in pension payments 
- 3.5 percent increase of the minimum wage 
- Directing state-owned commercial banks to accelerate a loan 
expansion program (Note: Most commercial banks have tightened 
lending standards for loans to SMEs in anticipation that 
slower economic growth could result in tougher trading 
conditions for small companies and, therefore, more potential 
loan defaults. End note.) 
-Increase in the "Village Fund" program to direct more funds 
to rural areas. 
Due to a balanced budget, a government debt/GDP ratio of 
around 45 percent, and continued strong growth in government 
revenue (up 10 percent in 1H 2005), the RTG has the fiscal 
wherewithal to undertake these programs without undue risk. 
 
8. (SBU) Newly appointed Finance Minister Thanong Bidaya has 
pledged to make financial stability his key concern. However, 
he has also said that he is investigating means to reduce 
consumer debt burdens. While it is unclear how he will 
accomplish this, some analysts are concerned that it will 
result in some sort of socialization of consumer debts as a 
means to provide consumers with the ability to re-leverage 
themselves and again act as a stimulant to the domestic 
economy through their renewed purchasing power. Meanwhile, 
private commercial banks have tightened up their standards 
and practices for consumer loans and credit cards.  The RTG 
is also studying ways to restructure the debt of small 
farmers suffering from drought. We expect that this will be 
extended to small farmers in general via the RTG-owned 
special purpose banks (Bank for Agriculture and Agricultural 
Cooperatives and the Government Savings Bank.) Note: The 
rural areas are the political base of PM Thaksin and his 
party. End Note. 
 
Oil Anomaly 
---------------- 
 
9. (SBU) To reverse the current account deficit, the RTG has 
asked Thai Airways to delay purchase of two A340 jets and 
requested importers not to stockpile goods, especially oil, 
gold and steel which have been major contributors to the 
deficit. We noted that customs statistics show the value of 
energy imports in 1H 2005 increased over 80 percent in dollar 
terms and over 100 percent in May and June from the previous 
year. The increase in oil prices only account for about 60 
percent of this increase in imports. Meanwhile, the Ministry 
of Energy reports that overall domestic demand for refined 
product declined 16 percent over the 1H 2005 in response to a 
slowing economy and increased prices and that there was no 
net increase in oil imports. The official Bank of Thailand 
explanation for this anomaly is that Thai customs is 
reporting imports in arrears with a mismatch between when oil 
is contracted, imported and accounted for while the Ministry 
of Energy records imports based on invoice dates.  Industry 
contacts also suggest that 2004 customs statistics understate 
imports, thereby distorting year-over-year comparisons. 
 
10. (SBU) A different explanation put forward by some 
analysts is that oil companies may have been importing large 
amounts of oil (stockpiling) earlier in the year to gain 
inventory profits, i.e. they import crude at prices 
prevailing earlier this year but sell refined product later 
in the year and price the refined product at the then 
(higher) prevailing world prices. There is little available 
excess crude storage capacity in Thailand so, if this sort of 
speculation did in fact occur, it could not have accounted 
for a 40 percent increase in oil volume imports. Contacts 
familiar with the petroleum refining industry in Thailand 
have suggested that the reason for increased oil imports is 
that at current prices and refinery margins Thailand is 
exporting refined petroleum products to other countries in 
the region, although Energy Ministry statistics don't support 
this theory.  Finally, some say that because the subsidy on 
diesel caused fuel to sell for below market prices in 
Thailand, some smuggling of product to 
 neighboring countries took place. The RTG has repeatedly 
stated that they expect oil import bills to decline the 
second half of the year in response to energy saving measures 
and "closing loopholes" in accounting. 
 
11. (SBU) Comment: Most analysts expected the Thai economy to 
weaken through the first half of the year (reftels) and they 
have proven correct. Now they are anticipating recovery in 
the second half. They expect the government's relatively 
modest fiscal stimulus, combined with somewhat improved 
export performance, a recovery in tourism to tsunami-affected 
regions and moderation of imports to bring the current 
account deficit down to around US$3 billion by year-end. The 
US$2.6 billion net increase of foreign portfolio investment 
this year also displays some degree of investor confidence 
going forward (although at least some of this is probably 
speculation based on Yuan appreciation using the Baht as a 
proxy). Finally, bankers tell us that they have seen no 
deterioration in loan performance to date. The Bank of 
Thailand is carefully monitoring the lending of state-owned 
banks to ensure proper credit standards are maintained in the 
face of RTG pressure to increase loan volumes. So far, this 
pressure seems to be m 
ostly talk as part of the government's efforts to reverse 
negative public sentiment about economic prospects. 
 
12. (SBU) Nevertheless, we believe that there are significant 
risks to the positive scenario; above all the price of oil 
which would both further increase Thailand's import bill and 
negatively affect Thai export market's ability to grow. If 
growth stays below 4 percent for more than another year, 
there is a strong likelihood that NPLs would again rise as 
companies fail to grow at anticipated rates and restructured 
loans return to default status. While we believe banks have 
rebuilt their collateral and reserves to levels sufficient to 
deal with this problem, the effect on sentiment could 
exacerbate current confidence problems. 
 
13. (SBU) There are no discernable bubbles in the Thai 
economy, but there are also few signs of robust growth in the 
short-term. Consumers will be hit by increases in interest 
rates and high energy prices, the real estate construction 
boom is slowing and domestic manufacturers still show no 
evidence that they are willing to invest in any major 
expansion. In 2001 Thaksin was successful in bringing 
Thailand back economically through policies that stimulated 
domestic consumption while export markets recovered. Now, 
Thailand is returning to a period where it must rely on 
export markets for growth until RTG infrastructure spending 
kicks in. The government is keenly aware of the risks of 
overdependence on the performance of other economies in this 
"year of adjustment which tests the economy's resilience." 
End Comment. 
BOYCE