Anatomy of the economic crisis

It aimed at increasing competition in the local financial system in order to achieve higher efficiency in savings mobilisation, credit allocation and financial-service activities expansion to support rapid growth of the economy as well as to develop Thailand as a financial centre of the region. By June 1992, all interest rate ceilings had been abolished. The commercial banks then faced increased competition among themselves and also from the 91 finance and securities companies in Thailand after their scope of business was broadened.

In 1993 the government allowed both Thai and foreign banks to set up banking units that could lend (only in foreign currency) in and outside Thailand - the so-called Bangkok International Banking Facilities (BIBF). From then on, the Thai banking sector saw a significant increase in lending activities. The amount of lending by these BIBF's increased from about Bt200 billion in 1993 to almost Bt1,300 billion in 1996.

This suggests that during that period the situation was dominated by a lending frenzy with possibly increased lending competition and a desire to expand assets. Due to relatively high interest rates in Thailand, BIBF activities led to greater inflows of foreign capital than the authorities desired. This foreign capital competed with domestic commercial bank loans for the financing of domestic projects. Many Thai companies became increasingly reliant on both credits from Thai financial institutions and foreign ones.

Thailand's economic condition began to weaken very seriously in the second half of 1996. Exports declined by 1.3 per cent (after a long period of double-digit growth) and the current account deficit increased to 7.9 per cent of GDP in 1996. The business environment for financial institutions also began to worsen, with an increasing oversupply situation in the real estate market, falling share prices and selling of the baht on the foreign exchange market.

In the first half of 1997, there were a lot of currency attacks due to both pure speculation for profit and real fear of currency devaluation, despite the central bank's assurance and efforts to shore up the value of the currency. The withdrawal of foreign capital intensified.

Many international creditor banks began to cut lending and even refused to roll over their cross-border loans, which in turn aggravated the deteriorating balance sheets of banks and finance companies and threatened financial-market stability.

In mid 1997, there was a sharp decline in confidence in the entire financial system and the currency. Financial institutions faced severe liquidity problems and some of them were faced with intervention and/or were closed down. The currency depreciated tremendously in the offshore market. The Bank of Thailand, in its futile attempt to defend the currency, depleted most of the country's international reserves. In the end, it gave up and abandoned the fixed exchange rate system and later had to seek the IMF's support.

After the devaluation of the currency, the business environment for financial institutions deteriorated even further.  The companies that borrowed in foreign currency denominated loans were faced with tremendously increased liabilities and began to default on loans.

The high interest rate policy that was adopted in an attempt to maintain the value of the baht increased the domestic debt-servicing obligations of corporate borrowers, thereby causing economic activity to slow down, and triggered further deterioration in the real estate and stock markets. The prolonged high interest rate level coupled with the banks' reluctance to extend credits caused even more bankruptcies and defaults.

Since the devaluation, Thai commercial banks have been severely and adversely affected by the financial crisis, and the Thai banking system has undergone a drastic transformation through various mergers, acquisitions, liquidations and government intervention.

The effect of the financial crisis culminated in 1998 when several commercial banks were taken over by the Bank of Thailand or underwent ownership changes as a result of being saddled with a high level of non-performing loans. The ratio of non-performing loans (NPL) in the banking system increased dramatically from 11.5 per cent at the end of 1996 to 54.5 per cent in June 1999.

Some have argued that Thai banks were weak at evaluating their customers, the customers' businesses and the projects that the bank loans would be used to finance.

Many economists, especially the financial or banking experts from the IMF and World Bank, generally accused Thai banks of not measuring the risk from lending and that lending decisions were based on collateral.

According to these accusations the value of collateral, not the cost of the project or the needs of the business, determined how much banks were willing to lend to their customers.

If this were true then it could be possible that Thai banks did not place enough importance on cash-flow projections, viability of the project, profitability of the business or even consider a thorough industry analysis.

However, experts from auditing firms said that it is often not easy to know the financial details and project the cash flows of the borrowing firms. The prime reason was that financial statements - i.e. profit and loss, and balance sheets - could not be blindly trusted and had to be reconciled.

Small- and medium-sized firms were believed to have been prepared, and to have provided and kept three sets of accounting books - one to show to the bank, another to the tax authority and the other to the owners or their business partners.

Indeed, banks often had to rearrange and make their own version of a customer's financial statements.

Dr Chodechai Suwanaporn

Special to The Nation

Chodechai@fpo.go.th