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					         Development of the Domestic Debt Securities Market in Thailand
A Country Paper for Thailand, prepared for the SEACEN-World Bank Seminar
   on Strengthe ning the Development of Domestic Debt Securities Markets
                         Colombo, Sri Lanka 8-10 June 2004
             (Akkharaphol Chabchitrchaidol, Chanpen Rattanapinun)

I. Recent Development of Domestic Debt Securities Market – an Overview of the
domestic debt securities market in Thailand
   The economic and financial crisis that Thailand went through in 1997 made clear
    the degree of over-reliance of the Thai financial system on commercial banks in
    financing investment and economic growth, and highlighted the need to reform the
    domestic banking system. In a sense, however, Thailand managed to turn the crisis
    into an opportunity to reform the financial system. With commercial banks flooded
    with liquidity, demand for low-risk saving instruments also rose sharply to enable
    banks to invest the excess liquidity.
   Traditionally, the Thai financial system has always had structural rigidities due to
    over concentration on the banking system. However, due to flexibility and positive
    fiscal conditions in Thailand since the crisis, the government was able to fiscalize
    and absorb losses from the financial system.
   To discourage the practice of over reliance of the Thai financial system on bank
    intermediation, Thai authorities have taken steps to develop the domestic capital
    markets, an issue which ranks high on the economic agenda. A deep and liquid
    capital market will help facilitate and support the development of the Thai economy
    as well as sustain its competitiveness in the global marketplace.
   These efforts have been reflected in the fact that the Thai bond market has grown
    rapidly in the years following the 1997 crisis. To help support ca sh-strapped
    financial institutions, in June1998 the government issued government bonds for the
    first time in a decade. The total amount of government bonds issued under this
    program was THB 500 billion and this has opened a new era for the Thai bond
   The government continued to issue bonds since then with the primary objective to
    finance budget deficit resulted from the crisis. The substantial amount of new
    government bonds coupled with successively downtrend of interest rates have
    contributed to the robust of the bond market as evidenced by a significant increase
    in both market size and trading volume. The outstanding value of total bond market
    increased from USD 20.49 billion in 1996 to USD 60.63 billion at the end of 2003.
    Trading volume in the secondary market rose from an annual trading value of USD
    7.9 billion in 1996 to USD 62.8 billion in 2003.
Types of Securities
   Bonds issued in Thailand can be divided into two major components: government
    and corporate debt securities. The market is dominated by Government debt
    securities, which currently account for approximately 85 % of total market
Government debt securities consist of four major types;
    1. Treasury Bills (T-Bills) are short-term debt instruments with maturity less than
    1 year. The bills are sold on a discount basis.
    2. Government bonds are medium to long-term debt instruments issued by the
    Ministry of Finance. They consist of three types; Investment bonds (IB), Loan
    bonds (LB) and Saving bonds (SB). While IB has not been issued since 1991 and
    there are only few issues remaining, LB captures the majority of the market as they
    are issued for financing budget deficit. SB is issued to provide households with
    alternative source of saving.
    3. Bank of Thailand (BOT) bonds, Financial Institution Development Fund
    (FIDF) Bonds and Property Loan Management Organization (PLMO) bonds are
    issued by the central bank, the FIDF and The PLMO respectively. These bonds are
    no longer issued and there are only few remaining issues.
    4. State Owned Enterprise (SOE) bonds are medium to long-term debt
    instruments issued by State Owned Enterprises. This can be categorized into 2
    types; guaranteed and non-guaranteed by the Ministry of Finance (MoF) of which
    the guaranteed bonds account for 86% of total. However, there are restrictions on
    the government to provide debt guarantee for not exceeding 10 % of total budget
    expenditure. Only MoF-guaranteed bonds are eligible for liquidity reserve
    requirement, as same as government bonds.
Corporate debt securities
   The corporate sector began to issue bonds in 1992 after the enactment of the
    Securities and Exchange Act B.E.2535 (SEC Act) that has eased criteria for the
    issuance of corporate bonds. Structures of bonds include Straight, Floating Rate
    Notes (FRN), Amortizing and Convertible. The bonds with more varying features
    are increasingly issued in recent years.
Issuing Process
   Government bonds and T-Bills are issued through auction process, which is
    organized by the central bank on a weekly basis. Term and size of the auctions will
    be announced prior to the auction date. Auctions are held on a competitive price
    auction (American auction) basis. In June 2002, there is a launch of Non-
    competitive Bid (NCB) available for small investors to submit bid in the range o f 4-
    40 million.
   For State Owned Enterprise (SOE) bonds, the issuance and auctions are managed
    by the Public Debt Management Office (PDMO). The auctions are made through
    Dutch auction where the entire issues are awarded to bidders (underwriters) who
    offer the lowest cost of funding.
   For corporate bonds, issuance is subject to the SEC‟s approval. Approval is granted
    on „issuer‟ basis, enabling issuers to offer bonds several times in 1 year. . Credit
    ratings are required for all bond offerings with the excep tion applied to those
    offered to no more than 10 investors, or in the amount not exceeding 100 million or
    to creditors for debt restructuring.
a. Objectives of domestic debt securities market development:
    Objectives in development of the capital market are to provide an effective
     source of financing, to create a favorable investment environment with a diverse
     investor base, to provide a world-class infrastructure with low transaction cost, as
     well as encourage establishment of strong and qualified institutional intermediaries.
     At the same time, authorities aim to promote good corporate governance and any
     necessary measures that serve the appropriate needs of investors. i
b. Profile of domestic debt securities market (1996 to 2003)
                       Outstanding Value of Thai Bonds (in billions of USD)

                                      1996       1997          1998          1999       2000     2001      2002      2003

Government Bonds                          0.71       0.44            10.32     15.52     16.40    15.88      25.92    27.26

T-Bills                                      -           -              -!      0.66      1.54     2.47       3.12     3.06

State enterprise Bonds                   10.99       9.37             7.27      9.42     10.18     9.36       9.20     9.93

- Guaranteed                              9.46       7.88             6.18      8.17      8.60     8.03       7.99     7.88

- Non-guaranteed                          1.53       1.48             1.09      1.25      1.58     1.32       1.21     2.04

BOT/FIDF/PLMO Bonds                       1.60       1.64             0.88      0.48      0.10     2.52       2.61     5.76

Corporate Bonds                           7.20       5.98             4.29     10.62     12.48    12.10      12.64    14.62

Total                                    20.49      17.43            22.75     36.70     40.71    42.33      53.49    60.63
Average Exchange Rate
                                          25.3       31.4             41.4      37.8      40.2     44.5       43.0     41.5

                               Percentage of Total Outstanding Domestic Debt Secuties to GDP


                                                                                71.0%    72.9%

                 50%                                         54.3%
                 40%                             48.3%


                 10%   16.7%    17.8%

                       1996      1997     1998    1999       2000       2001     2002     2003

   Composition of Domestic Debt Securitiesii(detailed data in annex)

        Composition of Domestic Debt Securities in 1996

                                                                                          Government Bonds

      47%                                                              8%                 T-Bills

                                                                                          State Enterprise Bonds
                                                                                          - Guaranteed

                                                                                          State Enterprise Bonds
                                                                                          - Non-guaranteed

                     3%                                          35%                      BOT/FIDF/PLMO Bonds

                                                                                          Corporate Bonds

        Composition of Domestic Debt Securities in 2003
                                                                                          Government Bonds

                                                                                          State Enterprise Bonds
                                                                                          - Guaranteed
                                                                                          State Enterprise Bonds
                                                                             4%           - Non-guaranteed
       24%                                                             13%
                                                                                          Bonds (1/)
                                         10%             3%
                                                                                          Corporate Bonds

         1/ Excluded, THB 411.5 bln. short-term FIDF bonds traded in the Repo market at the Bank of Thailand

   Distribution of outstanding domestic bond by major issuers
                                         Composition of Domestic Bond Issuers


                             0%                                                          Corporate Bonds
                                  1996          1998          2000      2002
                                                                                         BOT/FIDF/PLMO Bonds
                                                         Year                            State enterprise Bonds
                                                                                         Total Government Bonds

   Secondary market liquidity
USD Annual Trading Value
                              1996        1997         1998     1999     2000     2001          2002        2003
Annual Trading       Value
(USD Millions)                7917        3385         1743     11395    33793    35799         49885       62766

Turnover ratio
                              1996       1997      1998         1999    2000     2001         2002         2003
Turnover ratio                1.35       0.63      0.09         0.40    1.07     1.06         1.30         1.38

c. Existence of rating agency and its role in developing the market
   At present, two rating agencies have been approved by the Office of the Securities
    and Exchange Commission (SEC). These two agencies are: TRIS Rating Co.,
    Ltd. (since May 8, 2002) and Fitch Ratings (Thailand) Limited (since February
    20, 2001).
   Their major role in developing the Thai Bond Market is to provide rating for both
    equities and debt securities. This applies especially for public issuance in the
    primary market, whereby the SEC‟s disclosure and rating requirements are meant to
    protect individual investors. Also, in the secondary market, these rating agencies
    continuously monitor and revise the quality of the rated securities and disclose the
    updated information publicly.

d. What are the recent important changes (such as environment, institution, etc.)
that affect domestic debt securities market?
Trading of bonds
   All government debt securities and most corporate bonds are registered with the
    Thai BDC. However, trading of bonds are mostly conducted through telephone or
    on an over- the-counter basis. Dealers (financial institutions holding debt securities
    license granted by the SEC) are required to report all bond transactions to Thai
    BDC. Thai BDC monitors, compiles and disseminates prices to the public at the end
    of day. Prices disseminated by Thai BDC are used as market reference.
   Most bonds trade on yield quoted with up to 6 decimal points. Prices are usually
    quoted by 'clean' basis as a percentage to par value with 6 decimal points. Market
    convention for price/yield formula is actual/365 basis.
   Investors in bond market are mainly institutions including banks, mutual funds,
    provident funds, government pension fund and insurance companies. Government
    bonds are the most actively traded securities, accounting for approximately 80-90
    % of total trade. Benchmark issues are government bonds with maturity close to 1,
    2, 5, 7 and 10 years.
Clearing and Settlement
   BOT is responsible for the settlement of government securities, as it is a depository
    and a registrar for government debt securities. Most of government bonds are issued
    in bearer form and settled by physical delivery at BOT. Corporate bonds are cleared
    and settled at the Thailand and Securities Depository Co. Ltd (TSD). Most of them
    are issued in the form of scripless and transferred on a book-entry basis.
    Convention on settlement date is T+2 but can be varied upon counterparty
   Three types of income are subject to taxation; interest, discount (a spread between
    par and offering price) and capital gain. The tax rates vary across types of investors
    and types of income. Non-resident institutional investors are subject to 15%
    withholding tax on interest, discount and capital gain. The rates may be reduced to
    10 % for double tax treaty countries. For individual investors, interest income is
    subject to 15 % withholding tax. The first individual buyer who buys discount
    bonds is also 15 % taxed as discount is treated as interest income
Other Market Developments
Primary Dealers
   Primary Dealers are financial institutions appointed by the BOT to be the BOT's
    counterparties in open market operations. They are responsible to be market makers
    for government securities, to participate in the government securities auctions. In
    addition, primary dealers are also obliged to submit reference yields on government
    securities to ThaiBDC at the end of each day. Effective from 2 May 2002, primary
    dealers for outright transactions comprise of 10 financial institutions as follows
    1.   ABN A mro N.V.Bank, Bangkok Branch
    2.   Bangkok Ban k
    3.   Bank o f Asia
    4.   Citibank N.A., Bangkok Branch
    5.   Deutsche Bank, Bangkok Branch
    6.   Hong Kong and Shanghai Ban king Corp., Bangkok Branch
    7.   Merrill Lynch Phatra Securities Co.
    8.   Siam Co mmercial Bank
    9.   Standard Chartered Bank, Bangko k Branch
    10. Thai Farmers Bank

II. The Implications of Domestic Bond Market for Central Bank Policy
a. Please briefly explain the objectives and strategy of monetary policy in your
country. What are the main instruments of monetary policy? Does your Bank use
government bonds as the main monetary policy instrument? What are the challenges
in using government bonds for this purpose?
The Case of Thailand
The Guiding Principles of Monetary Policy in Thailand
   Bank of Thailand moved to adopt a managed-floating exchange rate regime on 2
    July 1997, following 13 years of a basket peg system.
   The search for a new anchor for monetary policy led to the adoption, in May 2000,
    of the inflation-targeting framework to provide transparency, efficiency and
    predictability in the conduct of monetary policy. The target is to keep core inflation
    between 0-3.5%. iii
   A Monetary Policy Committee (MPC) was appointed comprising BOT‟s top
    executives and external advisors to monitor domestic and international economic
    and financial conditions.
   The 14-day repurchase rate is used to signal the monetary policy stance.
    (Reductions were made on 25 December 2001 and 21 January 2002) iv
Foreign Exchange Ope ration
   The Bank of Thailand‟s foreign exchange policy objective is to maintain a flexible
    exchange rate under an inflation-targeting framework.
   The BOT operates a managed float, allowing the exchange rate to move according
    to market conditions, with occasional intervention in order to prevent excess
    volatility of the exchange rate.
Monetary Instrume nts
   Under the inflation targeting framework, the Bank of Thailand sets the 14-day
    repurchase rate as key policy rate, and signals a shift in monetary policy stance
    through a change in the announced rate. The main objective of monetary policy is
    price stability by keeping core inflation within target.
   The BOT has a number of monetary policy instruments at hand. These include
    open market operations, and end-of-day lending facility, and reserve requirements.
   Open market operations consists of the BOT repo, the bilateral repo facility, the
    issuance of BOT bonds, outright purchases and sales of government securities, and
    foreign exchange swaps.
   Risks may arise in cases where these operations are constrained, due to instances
    such as a limitation of government securities in the central bank‟s portfolio
    available for repo, or current restrictions on issuance of BOT Bonds, which requires
    prior approval by the MOF.
   The change to a managed floating exchange rate regime in 1997 has given the BOT
    greater leeway for pursuing an independent domestic monetary policy. No longer is
    there a need to defend specific exchange rate levels. Direct foreign exchange
    intervention is thus limited.
   Whether and to what extent the monetary impact of such operations is to be
    sterilised depends on assessment of overall liquidity and interest rate changes
    arising also from such factors as Treasury account flows and banking system's
    reserve position and maturing obligations with the Bank of Thailand.
b. How does bond market development influence the transmission mechanism of
monetary policy? Please provide empirical evidence if your Bank has conducted
research in this area.
How monetary policy works v
   The Bank of Thailand‟s Monetary Policy Committee (MPC) has the responsibility
    in setting the appropriate rate key policy rate - currently set on a 14-day repurchase
    rate - that they believe will keep the inflation rate within the target. Once set, the
    rate change will affect monetary conditions through several channels of
    transmission mechanism. The effect is gradual but expanding through changes in
    consumption and investment in the economy, eventually hitting production and
    inflation. The whole process can take up to 8 quarters.
   Transparency and increased public understanding of monetary policy operations
    will help the public to form better judgments of future changes. Money markets can
    adjust quickly, which will enhance the effectiveness of monetary policy.
Channels of Trans mission Mechanis mvi
   The effect of changes in key policy rate (14-day repurchase rate) can be transmitted
    through several channels.
    1. Interest rate channels (via short term interest rates and long term interest rates)
    2. Credit channel (through availability of credit)
    3. Asset prices channel (via asset & debt instruments)
    4. Expectation channel (via public expectation of future inflation and economic
    5. Exchange rate channel
   Existing financial structure and private sector borrowing are the main factors in the
    system determining relative importance among these channels.
c. Is the benchmark yield curve derived in your country? If so, please provide a brief
explanation of the curve and how it is used to assist the formulation of monetary
Thai BDC Gove rnme nt Bond Yield Curve and Bond Indicesviii
   The Government Bond Yield Curve is developed by using bidding yields quoted
    daily by 10 primary dealers at minimum value of THB 20 million. Additionally,
    Thai BDC publishes reference yields of state owned enterprise (SOE) bonds, FI DF
    bonds and treasury bills. The yield curve information is disseminated to the public
    on a daily basis since 1999.
   In addition to the yield curve, Thai BDC has also developed Bond index to be a tool
    to track market performance. They comprise of Total go vernment bond index and
    Categorized index which is divided into by 4 subgroup by maturity i.e. 1-3 years, 3-
    7 years, 7-10 years and over 10 years. There is also an Investment Grade Corporate
    Bond Index, which has served as a better benchmark for tracking a nd comparing
    corporate bond performance.
   There is now a regular issuance and trading of government securities, thus
    providing the market with an efficient and reliable benchmark yield curve.
d. Does your Bank issue its own marketable securities? If so what are the objectives
of such issues? Please also indicate the type of securities issued.
The Issuance of the Bank of Thailand Bond
   The Bank of Thailand, with the consent of the Finance Minister, is able to issue
    Bank of Thailand bonds (BOT bonds) with the aim of expanding the range of
    instruments used in the implementation of monetary policy in order to enhance the
    flexibility in managing liquidity in the money market.
   The issuance of the BOT Bonds will be based on the same principles and practices
    as those of Treasury bills and Government bonds, in order that the BOT bond yields
    could be used as benchmark rates when government bond yields for particular
    maturities are not available. Eligible bidders comprise the same institutions as
    those eligible for the bidding of Treasury bills and Government bonds.
   Bonds are issued through auctions held on Tuesdays. The Bank of Thailand will
    determine the total issue size and maturity distribution in accordance with the
    prevailing money market conditions, taking into account the issuance schedule of
    public sector debts. Only discount instruments with the maturity of 12-month or
    less will be issued in 2003. The monthly auction calendar will be announced in
    advance on the Bank of Thailand website.
e. How are fiscal policy and monetary policy coordinated?
   At present, the government is empowered to request the Bank of Thailand to buy its
    bonds or treasury bills. However, in an effort to avoid such possible financial
    request from the government, the BOT actively takes part in the budgetary process
    in recommending a sound budgetary expenditure framework.
   Since 1998, the Ministry of Finance has set up “a working group for the domestic
    bond market development” consisting of the Ministry of Finance (chairman – duty
    permanent secretary), the Bank of Thailand, the Securities and Exchange
    Commission, the Thai Bond Dealing Centre and involved entities. The main
    responsibilities of this working group are to formulate the strategic plan as well as
    regulations and law to promote the domestic bond market.
   There has been extensive collaboration in the issuance calendar of T-bills (issued
    by the Ministry of Finance) and the BOT bonds (issued by the Bank of Thailand)
   However, the establishment of working group for the domestic bond market
    development consisting only the top management of involved authorities is
    suggested. This will significantly fasten the progress in developing the bond
   To ensure fiscal sustainability, both fiscal and monetary policies must be closely
    coordinated. Monetary policy plays an increasing role when fiscal policy is
    consolidated in order to address the problem of public debt in medium-term. The
    success of the economic stabilization is subjected to the well-defined framework of
    monetary policy, even under the constraint of the high public debt.
Are there any specific arrangements between the debt management unit and the
central bank? What are the central bank roles in financial budget deficit?
   As the government's fiscal agent, the Bank of Thailand is engaged in the issuing,
    selling and bookkeeping of government securities.
   A primary dealer system is currently established. Selected financial institutions, in
    return for trading relationship with the Bank, will participate actively in the auction
    and distribution of government securities. They will also provide liquidity in the
    secondary market by quoting two-way prices for government securities. The
    scheme will open up another channel of liquidity control as well as deepening and
    strengthening the financial market in general.
f. What is the role of central bank in supporting securities market development?
   The BOT supervises the operation of banking and finance businesses while the SEC
    supervises the primary and secondary market for securities business. The issuance
    and offering of securities are governed by the Securities and Exchange Act 1992
    (B.E. 2535).
   The BOT, as a regulator of Financial Institutions (FIs), is empowered to extend the
    business scope for FIs with regards debt market transactions. This includes trading,
    underwriting, private repurchase agreement, and securities lending and borrowing.
   The BOT aims to promote the bond market to become an additional source of
    investment and funds that helps improve the capital and financia l market as a
    whole, thereby giving wider benefits to the economic developments. In doing so,
    the BOT is improving hedging tools and a large investor base to help share the risks
    and to provide a two-way view of market direction.
   The BOT would like the bond market to be able to transmit monetary operations of
    the central bank in an efficient manner, by improving the market which makes
    monetary management more effective. To achieve this particular end, many
    initiatives have been taken, including the develop ment of the private repurchase
    market together with the development of a more prudent primary dealer system.
   Authorities are working on promoting the essential infrastructure for bond market
    development, including the development of a private repurchase market as well as
    an electronic trading platform for trading of bonds. To encourage investment and
    active participation by market players, the markets for hedging risk are also being
    developed, including the long-term interest swap market.
   In November 1994, 'the Bond Dealers Club' was set up to be the secondary market
    for debt securities. The BDC was upgraded to "The Thai Bond Dealing Centre
    (Thai BDC)' in April 1998 after it was granted the 'Bond Exchange' license from the
   The Thai BDC‟s goals are to provide an environment for fair and secure trading, to
    monitor trade and to disseminate information on the secondary bond market. The
    Thai BDC also functions as a self-regulatory organization (SRO) and has
    implemented a number of standards and conventions for bond trading.
g. What is your Bank policy/view concerning asset backed securities? What are the
risks perceived and measures taken to overcome these risks?
   Securitization, including issuance of asset-backed securities, has been officially
    promoted since 1997 when the Emergency Decree on Special Purpose Vehicle for
    Securitization, B.E. 2540, ushered a fresh alternative for seeking and obtaining the
    working capital of business enterprises through special purpose vehicles (SPVs)
    and the provision of the protection for investors, in the event of such business/
    enterprises and/or the special purpose vehicles becoming insolvent or adjudged
    bankrupt. Additionally, major tax barriers regarding the securitization process,
    such as corporate income tax of the Special Purpose Vehicle, have been waived.
   Since the Emergency Decree mentioned above has legalized the securitization
    transaction, the related legal risk is minimized. However, operational risk remains
    a concern. To reduce operational risk and to ensure that the SPVs shall perform
    their duties in accordance with the law, the SEC requires SPVs to submit a plan of
    their securitization project, which provides details such as securitized assets and the
    project manager, for its approval, prior to a securitization transaction.
III. Key Challenges in Developing Domestic Debt Securities Markets
   In Thailand, an important step towards bond market development is the
    development of a reliable benchmark and issuance calendar. However, the Ministry
    of Finance is constrained by law to issue government bonds only in periods of riscal
    deficit. The regular issuance and advance calendar will greatly facilitate the bond
    market development as a whole.
   The following is the list of main issues/impediments that the Bank of Thailand had
    taken an action or is considering in order to provide the attractive domestic bond
    market to the foreign and cross-border investment.
Cross Border Investment -Thai residents’ investment abroad
   To promote cross border investment, in August 2003, The Bank of Thailand
    allowed, in addition to commercial banks, institutional investors such as life
    insurance companies, mutual funds, pension funds, etc. to invest in foreign currency
    dominated bonds issued by non-resident entities (total amount not exceed 2.4
    billion USD). However, the actual investment amount is still very small.
   As for investment in the domestic bonds by non-residents, there is no restriction on
    foreign investors buying domestic bonds or bond funds. Non-residents with
    underlying investment (i.e. bonds) are allowed to hedge their positions.
   Non-residents must provide the detail of underlying investment and present it to the
    Bank of Thailand every two weeks (there is a plan to expand to four weeks to
    facilitate the non-residents‟ transactions).
Cross Border Issuance - Issuance by non-residents in Thailand
   Aiming to encourage the diversity of products in the Thai bond market, the
    Ministry of Finance, the Bank of Thailand and the Securities and Exchange
    Commission allowed the international financial institutions of which Thailand is a
    member to issue the Baht dominated bond2(so called “Baht Bond) in Thailand.
   Currently, the authorities are considering expanding the eligible Baht Bond issuers
    to cover the ASEAN+3 governments and financial institutions owed by their
Development of Hedging Instruments – Bond Futures
   The launch of the futures is expected in May 2005. The bond futures will be among
    the first products to be listed. Therefore both domestic and foreign investors who
    buy Thai bonds will be able to take advantage of the bond futures in managing their
    interest rate risk.
   Realized the necessity of hedging instruments, the Bank of Thailand will facilitate
    the access to the bond futures market by non-residents.
Efficient Clearing and Settle ment System – A Centralized clearing and settlement
system for bond market
   The electronic bond clearing and settlement system (so called “BAHTNET II”)
    features a delivery- versus-payment system (DVP) introduced since December 2001.
    BAHTNET II system helps reduce the settlement risk and improve convenience and
   Integration of clearing and settlement system across instruments (current status and
    future plan).
     The BOT agreed with the plan to integrate the clearing and settlement system of
       the government bond with that of the corporate bond to facilitate the bond
       market as well as the bond futures market settlement.
     Such domestic integration would be a crucial step toward the centralized
       regional clearing and settlement system in the future.
Inte rnational linkage and usage of Inte rnational Central Securities Depository
(ICSD), for example, Euroclear.
     To facilitate such service, the depository structure (single-tier vs. multi- tier
       account structures) must be changed. Currently single-tier structure is used in
       Thailand. The Law (the Securities and Exchange Act) is being amended to
       allow the multi- tier structure.
     The multi-tier depository structure will greatly facilitate the cross-border
       investment by non-residents.
Endnotes - Annex

     The crisis made even clearer the degree of over-reliance of the Thai financial system on commercial banks in financing
investment and economic growth, and highlighted the need to reform the domestic banking system. In a sense, Thailand managed
to turn the crisis into an opportunity to reform the financial system. With commercial banks flooded with liquidity, demand for
low-risk saving instruments also rose sharply to enable banks to invest the excess liquidity.
The crisis in the banking sector meant that the authorities‟ tasks had to be multifold; to stabilize, manage, and strengthen the
financial system as well as financial institutions. Measures implemented to reform and restructure the financial system included the
suspension of operation of 58 finance companies with the Financial Institutions Development Fund (FIDF) as well as the creation
of various organizations to deal with problems arising from the suspension. These included the Financial Sector Restructurin g
Authority (FRA), the Asset Management Corporation (AMC) and the Thai Asset Management Corporation (TAMC) to solve the
outstanding number of NPLs. Moreover, the capital bases of financial institutions were strengthened through a combination of new
loan classification and provisioning and private sector led recapitalization. Standard were tightened to be consistent with
international standards and best practices. In light of this, banks were required to recapitalize to meet these new standards, and
those who failed to do so were taken over by the FIDF. Banks were also required to maintain a minimum capital adequacy ratio at
8.5 percent in line with that of Basel Accord.
In addition, the restrictions on foreign ownership in Thai financial institutions was temporarily relaxed, allowing foreign investors
to acquire major shareholdings for up to 10 years with the actual holding of shares temporarily grand-fathered thereafter until the
ratio is brought down to 49%. Furthermore, on August 14, 1998, the Government announced a comprehensive finan cial
restructuring package focusing on 4 main aspects: (1) accelerated consolidation of banks and finance companies through additional
interventions; (2) encouragement of private investment in the banking system; (3) provision of public funds to recapitalize viable
financial institutions; and (4) development of framework to create private asset management companies (AMCs). As a result,
authorities were required to intervene in 7 banks and 69 finance companies.
Another pressing issue is how central banks conduct policy in a world of volatile capital flows. More recently, it has been
necessary for the Bank of Thailand to find ways to manage the “return” of large volume of capital inflows into Thailand, and
preventing them from disrupting economic growth. On 23 July 2003, the Bank of Thailand announced the relaxation of exchange
control regulations, aiming to promote Thai residents‟ investment abroad and to offer alternative investment opportunities for
residents. This was due mainly to the temporary excessive savings, and these limits will be reviewed from time-to-time to suit the
prevailing economic and financial situations. In addition, the BOT eased a number of other rules, including the holding of f oreign
currency deposits, allowing local state enterprises to hedge their foreign currency debts, as well as allowing Thai residents to issue
structured products whose returns are linked to external variables, such as exchange rates and foreign assets. On a related issue, the
Bank of Thailand announced on 14 October 2003 additional measures to discourage speculation on the Thai Baht. This included
restrictions on non-residents in opening Nostro accounts in Baht with financial institutions in Thailand. While these were
originally intended to facilitate the settlement of international trade and investment transactions, these accounts have also provided
avenues for speculative activities. Restrictions on the use of these accounts (i.e. for settlement only),a cap on outstandin g amounts
for accounts (not exceeding 300 million baht per nonresident), as well as ensuring that financial institutions refrain from paying
interest in current and savings accounts of nonresidents (except for fixed accounts with maturity of at least 6 months).

                 Outstanding Value of Thai Bonds (in billions of Thai Baht)
                                  1996        1997        1998         1999          2000          2001          2002          2003

      Government Bonds              18         13.8      426.9         587.1        658.7         706.4       1,114.60        1132.2

             T-Bills                 -          -           -           25            62           110           134           127

     State enterprise Bonds       278.4       293.8      300.6         356.4        408.8         416.1         395.7         412.2

          - Guaranteed            239.7       247.3      255.7         309.1        345.3         357.3         343.7         327.3

        - Non-guaranteed           38.7        46.5       44.9         47.3          63.5          58.8           52           84.9

     BOT/FIDF/PLMO Bonds           40.5        51.6       36.2         18.1           4.1         112.3         112.3         239.31/

        Corporate Bonds           182.4       187.6      177.6         402          501.2         538.1         543.4         607.3

              Total               519.3       546.8      941.3       1,388.60     1,634.80      1,882.90      2,300.00      2,518.00
                      Outstanding Value of Thai Bonds (in billions of USD)

                                      1996           1997           1998        1999         2000        2001        2002         2003

Government Bonds                            0.71            0.44      10.32        15.52       16.40       15.88        25.92       27.26

T-Bills                                         -              -           -!       0.66         1.54        2.47        3.12         3.06

State enterprise Bonds                    10.99             9.37        7.27        9.42       10.18         9.36        9.20         9.93

- Guaranteed                                9.46            7.88        6.18        8.17         8.60        8.03        7.99         7.88

- Non-guaranteed                            1.53            1.48        1.09        1.25         1.58        1.32        1.21         2.04

BOT/FIDF/PLMO Bonds                         1.60            1.64        0.88        0.48         0.10        2.52        2.61         5.76

Corporate Bonds                             7.20            5.98        4.29       10.62       12.48       12.10        12.64       14.62

Total                                     20.49          17.43        22.75        36.70       40.71       42.33        53.49       60.63
Average Exchange Rate
                                            25.3            31.4        41.4        37.8         40.2        44.5        43.0         41.5

      Policy Target

1. The use of core inflation as the policy target.
        The MPC decided to exclude raw food and energy prices from Headline inflation in the computation of core inflation, the
target for monetary policy. This is because prices of excluded items, such as rice and cereal products, meats, fruits and vegetables,
electricity and gasoline are highly volatile. Raw food prices are dependent on weather conditions, whilst energy prices are subject
to uncontrollable external factors. Retaining these items in the target measure may lead to perverse monetary policy operatio n by
the MPC. For instance, when prices of raw food and energy rise, a tight monetary policy to slow aggregate demand will exacerbate
the situation in which the purchasing power of the public is already depressed. Despite the exclusion of raw food and energy items,
a large part of the information is still retained in the measure of core inflation, accounting for about 81 per cent of the data used in
constructing the consumer price index. Historical data show that core inflation is less volatile in the short run. Ho wever, in the long
run, the movements of both core and Headline inflation rates closely track one another. Over the past 10 years, core and Headline
inflation averaged 4.7 and 4.8 per cent, respectively. Since the trends in the two measures of inflation move together in the long
run, the maintenance of price stability in terms of core inflation will therefore lead to overall price stability.
2. Setting the target core inflation at between 0 - 3.5 per cent.
        The inflation rate of Thailand's trading partners averaged about 3.5 per cent during the past 10 years, and is expected to be
around 2 - 3 per cent during 2000 - 2001. Ensuring that Thailand's inflation rate is in line with those of trading partners enhances
export competitiveness, which in turn leads to the stability of the Thai baht. The MPC considers the 0 - 3.5 per cent target range for
core inflation to be appropriate for the Thai economy. Such a target should not pose a constraint on the economic recovery ov er the
next 2 years, given the excess production capacity in the system and the low Headline and core inflation rates at 2 per cent and 1.2
per cent, respectively, in June 2000. T he target band width of 3.5 per cent (which is close to the band width set by New Zealand)
will help cushion temporary economic shocks and minimize the need for the MPC to adjust monetary policy frequently, thereby
reducing short-term interest rate volatility and promoting financial stability.
3. Use of quarterly average core inflation as the target.
       The MPC decided to use the quarterly average of core inflation as the policy target, as monthly figures are volatile. This is
consistent with the macroeconomic model, which also employs quarterly data in producing forecasts. If core inflation strays f rom
the target range of 0 - 3.5 per cent, the MPC will have to explain why the target was breached and what measures have to be taken,
as well as the amount of time required, to bring inflation back within the range.

      BO T’s Monetary Conditions Index
The Bank of T hailand uses a Monetary Conditions Index, which consists of interest rates, exchange rates, and liquidity in the
financial system – among other indicators – in its framework for forecasting inflation.
As they have moved away from intermediate targets, inflation-targeting central banks have relied more on variables that provide
useful information about the state of the economy. The information variables chosen should be those that aid in forecasting and
planning based on their capacity to signal future changes in the economy historically. Information variables should be used with
care since there is no guarantee that the information they contain will remain constant over time, particularly if the moneta ry policy
regime is changing. T hus they are often complemented by the use of econometric models to help predict macroeconomic
Under an environment of low and stable inflation, the usual inflationary indicators should also remain stable, and should lose little
of their predictive power
A number of these concepts (such as the use of output relative to inflation) are already incorporated into the Bank of Thailand‟s
framework for forecasting inflation. There is no doubt that there is a role for these concepts – if only for acting as indicators – in
predicting monetary policy.

Other developments:
    Increasing importance of non -interest income: There has also been an expansion of commercial banks‟ scope of business
     to include new financial transactions and services such as Credit Linked Notes, Credit Def ault Swaps, and investment
     advisory services, to name a few. Such measures help create new service channels that have increased operating profits of
     commercial banks.
    Credit Risk Transfer mechanisms: On 24 October 2003, the Bank of Thailand issued two circulars to commercial banks
     allowing commercial banks to trade Credit Default Swapsvi and Credit Linked Notesvi as risk management instruments.
          As the economy continues to grow, the macroeconomic and financial landscape changes. Regulatory authorities will
           need to keep abreast of these changes.
          Thailand‟s bank-based financial system has been characterized by an information asymmetry. However, with the
           introduction of risk transfer instruments, we have begun to see risk transferred from the banking sector to non-banks,
           such as insurance, pension funds, and asset management industry, such as mutual funds.
          In the case of Thailand risk transfer instruments (Credit Default Swaps and Credit Linked Notes) have only recently
           been introduced, and the market is still in and early stage of development. As the market develops, chances of
           mispricing of exposures should be reduced.
          However, regulations have been put into place to ensure safety and stability of the financial system. These instruments,
           by design, aim to effectively distribute and diversify risk to suit an entity‟s risk management strategy to reduce credit
           risk of any one entity.
          To reduce the chances of further risks arising from these developments a number of measures have been put in place.
                      To reduce concentration risk, as well as to reduce the chances of involvement of less risk aware non-bank
                       financial institutions, entities are required to follow guidelines by their own regulatory bodies, whether it be
                       the Bank of Thailand, Securities and Exchange Commission, or Department of Insurance, Ministry of
                       Entities that can participate in CLN and CDS transactions (buy side, sell side, or both) include commercial
                       banks, domestic securities companies, insurance companies, and mutual funds, among
          However, it is important that regulation is consistent across sectors. In Thailand, given that regulation is segmented,
           and the risk transfer market is in a very early stage, this is not yet an issue of concern.
          In the future, regulators need to keep up with developments in the risk transfer market, and ensure consistency of
           regulations across sectors to prevent regulatory arbitrage, which will lead to risk being most concentrated in sectors
           with the least regulation and/or least expertise in managing risk.
          It is important that residual risk that is transferred outside the banking sector is well monitored. There is concern that
           this residual risk may eventually trigger a crisis if not managed properly. T wo important issues regarding residual risk
                      Where this risk originates from
                      Whether this risk was intended or unintended
          Due to the change in financial markets, the characteristics of the various types of risks are constantly changing.
           Regulators and central banks need to keep abreast of such developments.
          Regulators may need to issue guidelines concerning:
                      Depth and sophistication of players
                      Consistency of regulations across sectors
                      Disclosure requirements
          Regulators need to be aware of how the residual risk is distributed throughout the economy and make sure that they are
           not overly concentrated in any particular sector.
    Regulators must ensure that non-bank sectors, which participate in risk-transfer activities, have the proper risk
     management capabilities and are properly regulated.
    There will be an increased role for other regulators (other than the central bank), such as the SEC, in protecting
     investors and providing investor education for investors in non-banks, such as mutual funds. Given authorities‟ policy
     of encouraging depositors to diversify to non-bank investments, these investors must be properly protected and educated
     as well.
    In Thailand other measures that will change the environment for dealing with risk include:
               Implementation of Basel II, which will give the Central Bank greater authority in monitoring banks‟ risk
                profiles. This will also lead to greater convergence with international standards and regulations.
               Establishment of a Deposit Insurance Agency, which will shift some risk to depositors.

viii The example of Government Bond Yield Curves published by Thai Bond Dealing Centre

                                        Government Bond Yield Curves




              1 mth 3 mth 1 yr. 2 yr. 3 yr. 5 yr. 7 yr. 10 yr. 12 yr. 14 yr. 18 yr.
                                2000            2001            2002            2003 q1

                              Source: Thai Bond Dealing Centre