OF SUBSTANCE AND SPIRIT

(Part 1)

At the IMF, countries are represented by their central banks in the International Monetary and Financial Committee while the finance or development ministers constitute the joint Development Committee to advise both the World Bank and the IMF mostly on issues related to economic development in emerging and developing countries. In particular, governance issues of central banks have often been the focus of lively debates at the IMF.

Just last week, the Fund’s Financial Counsellor and Director of the Monetary and Capital Markets Department Tobias Adrian guested at the Bank of Thailand’s (BoT) Annual Retreat. His remarks focused on central bank independence and why it’s needed and how to protect it.

Adrian’s appearance at the BoT could not have been more auspicious in the face of a running conflict between Thai Prime Minister Srettha Thavisin’s efforts “to exert more control over the country’s central bank after repeatedly clashing with the monetary authority on economic policy,” as reported by Bloomberg two weeks ago.

No less than Srettha himself who admitted seeking advice from former Thai Prime Minister Thaksin Shinawatra on economic policy. And what kind of advice would Thaksin give to Srettha on monetary policy, for instance, other than what he demanded from the BoT during his time? Thaksin’s populist streak pushed him to pressure the central bank to adjust monetary policy and prioritize economic growth over the central bank’s mandate to manage inflation.

What is bad for Thailand is that its new leadership right from the start in September 2023 announced that it was aiming to accelerate economic recovery and ease taxpayers’ financial burdens. During the same month, the BoT decided to jack up its policy rate for the 8th straight time to 2.5 percent, the highest in a decade. This tightening mode was sustained at its November 2023 meeting.

Srettha, who is concurrently finance minister, openly requested a rate cut from the start of 2024 and as Nikkei Asia reported, even summoned BoT Governor Sethaput Suthiwartnarueput to his office on Jan. 10. He even disclosed to the media that he suggested to the central bank head to have more frequent coffee even at the BoT headquarters. Nobody can deny it was an open attempt by the head of the Thai government to meddle with the central bank.

But Sethaput who graduated from Yale was not new in the public service. He was more than equipped and experienced to stand his ground that easing monetary policy when inflation remains an issue is just wrong. The BoT kept the rate unchanged at its Feb. 7 meeting.

Recognizing the independence of the BoT did not prevent Srettha from suggesting that “it should not ignore people’s suffering.” The problem with the Thai Prime Minister is that he’s arguing from nothing. He wanted a rate cut because he believed the Thai economy is in crisis. BoT’s view is contrary to Srettha’s: “domestic demand continues to expand…key factors hindering growth outlook to be external and structural.” It’s pointless to reduce interest rates because growth is emasculated by falling exports due to China’s own economic slowdown and low labor productivity.

The BoT is also concerned that should interest rates are reduced, the Thai baht is likely to weaken. If they start easing before the US Fed, that action could lead to investors dropping Thai assets in favor of foreign assets, and trigger baht selling in a big way. That is inflationary. Srettha does not seem to cover this ground.

Another concern of the BoT is its pride as an independent central bank, something that not all central banks may be steadfast to defend at all costs. Beyond pride, the BoT is correct in its assessment that if the financial market begins to perceive it as being soft on preserving its independence, such could lead to what they call “double baht-selling.” That is injurious to the Thai economy, that is suicide for the central bank.

Clearly the Thai government appears focused narrowly on short-term stimulus measures because its eyes are on the next election. On the other hand, the central bank and its veteran staff would always be the gatekeepers of long-term stability of the economy. There is bound to be a delineation between politics and economic vision.

Thus, Adrian’s remarks are timely and they must be inspiring for those in the trenches at the BoT. He had a number of very precious messages to the central bankers in Bangkok.

First, he talked about setting the stage. Central banks face tremendous pressure from politics because as monetary policy had to be tightened due to the post-pandemic inflation, economies slowed down, unemployment rose and fiscal position worsened. Their balance sheets bloated by the amount of support they extended to their governments. The financial institutions that they regulate are now demanding that they should also live up to the same standards of governance, risk management and transparency that central banks require of them.

Second, independence remains necessary even as some sectors called for greater oversight of central banks. Who supervises central banks? Empirical evidence is clear that higher central bank independence is associated with lower inflation.

Adrian quoted the US Council of Economic Advisers’ blog about the US Fed as a classic example of the supreme value of independence. Even as actual consumer price inflation had exceeded the target two percent, inflation expectation has broadly been steady at two percent because the US Fed is perceived to be independent and therefore its monetary policy remains credible and effective in combatting inflation.

What are the metrics of an independent central bank?

In his remarks, Adrian indicated that together with his co-authors, Lev Menand of Columbia University and Ashraf Khan of the IMF, they collaborated to produce a new global index for central bank independence. Ten metrics have been developed aimed at helping central banks and policy makers strengthen central bank independence. (To be concluded next week).