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CIAO DATE: 2/00
Remarks by Amaret Sila-On
Conference on Crisis & Credit: Restructuring Asia’s Financial Sector Asia Society
October 1, 1999, New York
Distinguished Members of Asia Society, Ladies and Gentlemen:
Good morning and thank you for the warm welcome. To be invited to speak at the Asia Society conferences twice within 6 months—is indeed an honour and a privilege. The repeated invitations are hopefully an indication that my opinions are of interest to the experts on Asia, however, many of my compatriots beg to differ. Many Thai politicians and members of the press perceived that some of my comments are overly critical of Thailand.
For this morning’s talk, I would like to walk you through a quick review on the main aspects of the financial turmoil in Thailand and the root causes. After all, as restructuring efforts continue across Asia, we must not forget what the nature of the beast really is. I understand that many of you are sophisticated investors from the financial community so I will spare you from my simplistic socio-economic analyses, which have been the focus of my recent talks. For those of you who are truly curious, a web site containing my previous speeches will soon be available.
Although much has already been said and debated about the causes of the Asian Crisis, it might be helpful to refresh our memories now that it has been over two years since the financial earthquake erupted. Many of us will—perhaps with some nostalgia—recall the days when capital poured into Asia in a series of tidal waves. In Thailand, the massive inflows were driven by the introduction of the Bangkok International Banking Facilities (BIBF), implicit exchange rate guarantees, unbelievably wide interest rate differentials and, of course, a decade of economic prosperity.
Capital inflows cannot be regarded as a bad thing, even when it involved ‘hot money’ rushing into portfolio investments. The real disaster, in my opinion, was the fundamental or structural flaws in the Thai financial system. For a start, the authorities failed to recognise the implications of allowing speculative operators in Thailand to borrow directly from international creditors.
No offence to those from the Mid-west, but how can a bank in Deerfield, Illinois make quality judgement about the credit-worthiness of a borrower whose operations are based in Cholburi, a province notorious for the propensity to use AK-47 submachine guns to settle outstanding debts. Similarly, merchant banks in Frankfurt will find it difficult to monitor whether the funds approved for the expansion of a steel mill is being used to invest in new technology or for buying a 40-foot yacht. Local financial institutions, which have greater knowledge of domestic clients, are in a better position to act as intermediaries, borrowing from overseas to re-lend within the country. Even then, Thai banks are presently uncovering numerous cases of frauds or misrepresentations—the problems become potential nightmares with foreign creditors, especially those without a local presence.
While it is understandable how foreign banks failed to monitor their borrowers, there really is no excuse when it comes to Thai authorities. In their eagerness to liberalise the financial sector, the authorities failed to develop—beyond the existing rudimentary infrastructure—a system for tracking the capital inflows. The central bank had no credible process for determining to which sectors the capital was flowing and to what purpose the capital was being employed. Clearly, the efforts to follow the money trail were hindered by weak supervision of financial institutions.
Had there been effective supervision of financial institutions, the authorities would have quickly realised that finance and securities companies had strayed far from their core businesses and became active investors in real estate, not to mention other forms of speculative investments. In fact, the real estate boom was in large part driven by non-real estate players, who were entering the market as speculative punters. So while professional real estate investors suspected an imminent bubble burst quite early on and had begun to avoid projects that were in over-supply, such as shopping centres and office buildings, many amateurs were rushing in and were eventually left holding the bag.
The exposure of financial institutions to the overheated real estate market was thus, two-fold: through their own investments in property and through loans aggressively lent out to real estate projects. Although with the benefit of hindsight, we can now see that the whole situation was a bomb with a rather short fuse. Weaker export growth, which in Baht terms, finally became flat in 1996 was symbolic of the erosion of Thailand’s competitiveness. That and, the current account deficits of over 8 percent of GDP for two years running (1995/96) were the invitations for financial predators to move in for the kills. All the signals screamed out that Thailand’s decade-old economic miracles had come to an end. All this was set against a backdrop of a gradually weakening economy—GDP growth had dropped to 5.5 percent in 1996 from 8.8 percent the previous year. The devaluation of the Baht in mid-1997 was just the final nail in the coffin.
Ladies and Gentlemen:
As the growth in non-performing loans (NPLs) accelerated, financial institutions immediately began to feel the strains. The ensuing consolidation of the financial sector was rapid and severe. In 1997, 56 finance companies were permanently suspended, followed by another 12 last year. This year, two additional finance companies went under, one of them being Phatra Thanakit, which was at one time one of the movers and shakers in Thai financial industry. To date, 70 finance companies have disappeared, accounting for assets of well over $28 billion.
The consolidation of banks has not been as drastic, but it is still highly significant. In less than 18 months, three small and medium sized banks (Laem Thong Bank, Bangkok Bank of Commerce, First Bangkok City Bank) were either shut down or merged with other banks while four others (Nakornthon Bank, Siam City Bank, Bangkok Metropolitan Bank, Union Bank) were taken-over by the government. These seven banks held combined assets of $26 billion—or 15 percent of total bank assets—and had received government funds amounting to roughly $6 billion in total.
At present, only 21 out of 91 finance companies are still around, while the number of commercial banks has been reduced from 15 to seven. Conversely, wide-scale government interventions have increased the number of state-owned banks from one to a total of six (Krung Thai Bank, Radanasin Bank, Bank Thai, Nakornthon Bank, Siam City Bank, and Bangkok Metropolitan Bank). Prior to the Crisis, the loans of state banks accounted for less than 14 percent of total bank loans—now the ratio has climbed to over 47 percent.
Given such dramatic developments of Thailand’s financial sector, a number of implications can be drawn. First, the process of nationalising banks is expected to be temporary, albeit somewhat drawn-out. Given the burden on fiscal budget—whether brought about by the massive liquidity support provided by the Financial Institutions Development Fund (FIDF) or the government’s stimulus packages such as public works and tax reductions—the government will be hard pressed to replenish its treasury. All of the nationalised banks will be sold, except for Krung Thai Bank (KTB), which should end up with a substantial foreign stake from a strategic partner.
Another, and probably more obvious, observation is the increase in foreign participation. The banking sector has been practically closed to foreign banks for over a century. Now, for the first time in a hundred years, foreigners have open access to ownership in the financial sector. Standard Chartered, for example, first opened its doors in Thailand in 1894 and was only allowed to operate one branch ever since. The recent acquisition of Nakornthon Bank has suddenly given Standard Chartered 68 branches and a much broader client base.
Standard Chartered’s acquisition of Nakornthon Bank is just one example of the growing trend of foreign participation. Earlier last year, Bank of Asia (BOA) sold a 75 percent stake to ABN AMRO while Thai Dhanu Bank (TDB) invited DBS of Singapore to acquire 51 percent of its equity. And earlier this month, just after the Nakornthon deal, United Overseas Bank (UOB) of Singapore emerged as the top contender to purchase a 75 percent stake in Radanasin Bank.
While this may seem like a lot of deals over a short period, the ball has only started to roll. Much more activities are expected in the coming months as more restructuring unfolds. At last count, NPLs of all banks stood at 47 percent, equivalent to roughly Baht 2.7 trillion or $68 billion. Everyone perceives this as a great threat to the economy and will require a Herculean efforts on restructuring—whether on the part of the authorities or by the commercial banks, themselves. Politics and media hypes portray this as untying the Gordian knot. There is no denying that such a high level of NPLs is crippling the economy, but the situation will also provide great opportunities for savvy investors either domestic or foreign.
Indeed, the auctions organised by the Financial Sector Restructuring Authority or FRA have attracted numerous international investors. Allow me to briefly summarise the FRA activities to give you a better sense of the level of foreign participation.
As many of you know, the closure of 56 finance companies left the FRA with a portfolio of $22 billion, comprising mostly loans of various types. For the first auction, the FRA sold 340,000 hire-purchase contracts, or car loans, with a face value of nearly $1.4 billion for a recovery rate of 48 percent. In this auction, 85 percent of the portfolio was sold to a joint-venture of a multi-national corporation and an investment bank, both from the US.
For the second auction, a recovery rate of 47 percent was obtained from the sale of residential mortgages with an outstanding principal balance of $660 millions. The loans were packaged as one single tranche, which was won by another US investment bank. The last time we checked with them, it seems that these loans were securitised with the bonds issued to domestic investors in Thailand.
In December 1998 and March 1999, the FRA conducted two rounds of auctions for business loans, which were worth a little more than $10 billion in total. The recovery rates received were somewhat lower but still tolerable—25 percent for the first round and 18 percent for the second round. In the business loans auctions, foreign investors purchased assets with a total face value of $3.4 billion, slightly more than 30 percent of the portfolios.
Just recently, the FRA sold Commercial and Other Loans worth approximately $3.5 billion on face value basis for a recovery rate of 24 percent. In this auction, US investors snapped up 26 out of the 35 tranches that were offered for sale. The aggregate value of these tranches was $2.8 billion, equivalent to 81 percent of the portfolios.
To date, the FRA has disposed of over 75 percent of its total loan portfolios, selling loans with a book value of over $15 billion. Of this amount, foreign investors purchased roughly 51 percent or $7.5 billion. With the exception of one sale—which comprised Construction Loans worth $50 million—foreign investors participated in all of the 7 auctions conducted by the FRA. The FRA is scheduled to conduct another and most probably final round of auction in November. With economic recovery in sight, we also expect foreign participation to be strong.
I would like to add that assets under the care of the FRA amount to less than 15 percent of total banking and financial sector assets and, even then, the response from foreign participants has been overwhelming. As financial restructuring continues in Thailand, foreign investors should take a closer look to see what possibilities lie in store. A few commercial banks have already set up their own asset management subsidiaries to dispose of distressed assets. And one of them has hired a US investment Bank to manage the AMC. Moreover, five of the six state-owned banks—accounting for assets of at least $15 billion—are slated to be privatised within the next 12 to 18 months.
Greater foreign participation will inevitably create greater competition within the financial sector. As foreign and local institutions lock horns, it will be difficult for the smaller banks to survive. This implies that there could be another, but hopefully final, round of consolidation. While further consolidation may require additional government assistance and more use of public funds, the benefits—such as higher banking standards, modern technology and improved efficiency—would outweigh the costs in the long run.
Ladies and Gentlemen:
Going forward, the main challenge will be for the authorities to follow through decisively with the restructuring process. Thus far, the Thai government has shown that it is capable of moving ahead swiftly. In the space of twenty months(Dec 1997—Aug 1999), the FRA has disposed of over three-quarters of its $22 billion portfolio. Moreover, the authorities have moved without delay to merge and consolidate weak finance companies and banks. The next step—and a most crucial one—is to open the financial sector even further by sharing ownership of major financial institutions with overseas investors.
To date, Thai authorities have embraced the involvement of foreign investors. Korea, in contrast, has largely kept foreign investors at bay. While it is true that Korean authorities have moved forcefully to merge or shut down financial institutions—and some will argue that Korea has been quicker out of the gate than Thailand—the fact is that Korea has yet to sell a bank to foreigners. The deal between New-Bridge and Korea First Bank has yet to be closed while Thailand has sold 3 banks to foreigners and the 4th is about to be finalised. The Korean Asset Management Corporation or KAMCO has, of course, sold some assets to foreign investors through four rounds of auctions but the total face value of the assets sold amount to only $2 billion or 6 % of total portfolio. The same is true of Malaysia. The number of banks in Malaysia will be reduced from 45 to 6, but none of the banks have been earmarked for sale to outside investors yet.
However, in Thailand, there is a danger that the current politicisation of financial reforms could cause the authorities to develop a case cold feet and either stop dead in their tracks or back out from further schemes to offer significant stakes in financial institutions to foreign investors. It is my hope and belief that the authorities will avoid backtracking as they sincerely want to get Thailand out of this hole and give the country a strong platform to compete effectively in the global market place.
Only by welcoming foreign trade and technology can Thailand hope to become truly competitive. This is a fact that every Thai would realise if they carefully re-read their history books. What is currently happening in Asia is not new. Nearly 150 years ago, Commodore Perry forced the Japanese Shogun to open the port city of Yokohama to foreign trade, which was a pivotal event in Japanese History since it culminated in the Meiji Restoration, paving the way for economic, political and social reforms.
Many people are probably unaware that King Chulalongkorn of Siam and Emperor Meiji of Japan ascended their respective thrones at roughly the same time when they were both 15 years old. Like Emperor Meiji, King Chulalongkorn made great efforts to turn that crisis into opportunities, building on the momentum created by his predecessor King Mongkut, who had—at the urging of Sir John Bowring—opened the Kingdom to foreign trade.
But then the paths of the two countries diverged. Unlike Japan, Thailand has been less successful in assimilating foreign expertise, especially in the areas of science and technology. So while Japan has become the world’s second largest economy through the adoption and adaptation of western knowledge, Thailand still remains—even after 150 years—a medium income country.
The question is, can Thailand learn from its history in order to avoid repeating the same error of omissions. The last time Thailand was forced to open its doors, King Chulalongkorn used the opportunity to transform Thai society from the medieval to the 19th century model. He modernised the armed forces and the civil service, introduced modern medicines, electricity and waterworks and laid the foundation for universal education. But most critical was his continuous striving over a period of 33 years and over the strong resistance of the Nobility which culminated in a peaceful emancipation of slaves. That revolutionised the Thai economy since it resulted in a fundamental shift from subsistence farming to an agricultural based but market-led economy.
If history teaches us anything, it is that Thailand must make the most of this ‘second opening’ of the East Asian economies—this time it is the opening of the financial markets. How could we leverage this to enable Thailand to prosper in the global arena. The country must recognise that through this painful financial crisis, it is also presented with a great opportunity to move forward and its leaders must mobilise all sectors of society to take full advantage of the situation.
Thank you.
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