Report No. 9627-TH Thailand Country Economic Memorandum October 10, 1991 Country Operations Division Asia Country Department II FOR OFFICIAL USE ONLY 0 SMWM gan This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authtrization. CURRENCY EQUIVALENTS Average (1990) US$1.00 = 25.582 baht FISCAL YEAR October 1 - September 30 (Most financial and business institutions follow the calendar year) GLOSSARY OF ABBREVIATIONS GNP Gross National Product GDP = Gross Domestic Product NESDB = National Economic and Social Development Board TDRI = Thailand Development Research Institute IMF = International Monetary Fund ICP = International Comparison Program FOR OFFICIAL USE ONLY THAILAND Country Data Sheet General Area (km2) 513.115 Population (millions, 1990) 56.3 Growth Rate (1980-90) 1.5Z Density (per km2) 109.8 Social Indicators Population Characteristics Crude Birth Rate (per 1,000, 1989) 16.2 Crude Death Rate (per 1,100, 1989) 4.4 Health Infant Mortality (per 1,000 live births, most recent est.) 28.8 Population per Physician, 1988 4,854 Population per Hospital Bed, 1988 2,515 Income Distribution (Z of national income) (15-20 years ago) Highest Quintile 50 Lowest Quintile 6 Distribution of Land Ownership Z Owned by Top 1OZ of Owners n.a. % Owned by Smallest 102 n.a. Access to Safe Water (most recent estimates) X of Urban Population 56 X of Rural Population 66 Access to Electricity X of Urban Population n.a. X of Rural Population n.a. Nutrition (most recent estimates) Per Capita Calorie Intake (calories/day) 2,287 Per Capita Protein Intake (grams/day) 49 Education Literacy Rate (Z of population age 15+) 91 Primary School Enrollment (Z of relevant age group) 95 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. THAILAND COUNTRY ECONOMIC MEMORANDUM Page No. COUNTRY DATA SHEET . . . . . . . . . . . . . . . . . . . . . . . EXECUTIVE SUMMARY . . . . . . . . . . . . . . . . . . . . . . . . I. OVERVIEW OF THE ECONOMY . . . . . . . . . . . . . . . . . . A. Introduction . . . . . . . . . . . . . . . . . . . . . B. Current Performance . . . 2 C. Global and Regional Perspecivee . . . . . . . . . 5 D. Domestic Policy Perspective and Current Policy Concerns 6 II. OUTPUT AND DEMAND DEVELOPMENTS . . . . . . . . . . . . . . . 8 A. Introduction . . . . . . . . . . . . . . . . . . . . . . B. Agriculture . . . . . . . . . . . . . . . . . . . . . . C. Manufacturing . . . . . . . . . . . . . . . . . . . . . 14 Construction . . . . . . . . . . . . . . . . . . . . 14 External Markets and Influences . . . . . . . . . . 16 Foreign Investment . . . . . . . . . . . . . . . . . 18 D. Employment, Wages and Prices . . . . . . . . . . . . . . 21 Wages and Productivity . . . . . . . . . . . . . . . 22 III. MONETARY AND FISCAL DEVELOPMENTS . . . . . . . . . . . . 25 A. Monetary Policy Changes and Interest Rates . . . . . . . 25 B. Fiscal Policy . . . . . . . . . . . . . . . . . . . . . C. The Exchange Rate . . . . . . . . . . . * . . . . . . 31 IV. THE EXTERNAL ACCOUNT . . . . . . . . . . . . . . . . . . . . 34 A. The Current Account . . . . . . . . . * * 3 . . . . . . 34 Exports . . . . . . . . . . . . . . . . . . . . . . 35 Imports . . . . . . . . . . . . . . . . . . . . . . 35 Non-Factor ServiceR and Tourism . . . . . . . . . . 36 Factor Services and Transfers . . . . . . . . . . . 36 B. The Capital Account . . . . . . . . . . . . . . . . . . 37 V. EMERGING ISSUES . . . . . . . . * * * * * * . . . . . . . 38 A. Sustainability of Economic Growth . . . . . . . . . . . 38 Problems of Over-heating . . . . . . . . . . . . . . 38 The Infrastructure . . . . . . . . . . . . . . . . . 38 Technology . . . . . . . . . . o * g . . . . . . . 40 B. Distribution of Income and Wealth . . . . . . . . . . . 40 C. The Environment . . . . . E n v i r * * * * . . . . . . 45 This Country Economic Memorandum provides a brief assessment of recent economic developments in Thailand, and of implications for the medium-term. It was prepared by Michael Ward with support from Judy Lu. - ii - Page No. VI. THE ECONOMIC OUTLOOK . . . . . . . . . . . . . . . . . . . 48 A. Summary Review . . . . . . . . . . . . . . . . . . . . . 48 B. Medium Term Prospects; The Economic Outlook of the Seventh Plan Period, 1992-1996 . . . . . . . . . . . . . 49 C. Future Outlook . . . . . . . . . . . . . . . . . . . . . 52 ANNEX TABLES A.1 Population and Employment A.2 Key Economic Variables, 1984-90 A.3 Social Indicators A.3.3 Social Indicators A.4 GNP By Expenditure Category (Current Prices) A.5 GNP By Expenditure Category (1972 Constant Prices) A.6 GNP By Industrial Origin, 1986-90 A.7 GNP By Industrial Origin, 1986-90 (1972 Constant Prices) A.8 Balance of Payments Summary A.9 Exports, Imports and Terms of Trade A.10 External Debt Developments A.11 Fiscal Development A.12 Monetary Survey A.13 Manufacturing Wages and Productivity A.14 Population by Economic Activity in Thailand A.15 Average Annual Income by Source and by Region, 1988 A.16 Comparison of Monthly Per Capita Expenditures and Income by Region and Area ranked by Per Capita Consumption Expenditures, 1988 EXECUTIVE SUMMARY 1. Thailand has been extremely successful in managing its economic policy. By the close of the last decade, Thailand was the world's fastest growing economy and income per head had more than doubled since the beginning of the 1980s. This remarkable growth rate - which was founded on a sound economic base developed from the 1960s - has been accompanied in recent years by both a fiscal surplus and an overall external balance funded by foreign direct investment. Significant progress has been made in reducing poverty and in expanding employment. At the same time, an econcmic transformation has provided a more diversified base of economic activity for the population. Thailand provides an excellent example of the economic dividends to be obtained through progressive trade liberalization, receptivity to foreign investments, and an open market philosophy backed up by conservative macro economic management and cautious borrowing policies. 2. Economic progress, brought about over a short space of time, has been achieved at a cost, however. Although growth has been accompanied by improvements in education and health, new social concerns have arisen over the environment and congestion. These prcblems are associated with the continuing rapid urbanization and industrial transformation taking place. The consequential pressure of these factors on an already overburdened infrastructure could contribute significTntly to an undermining of future growth rates. Thus, a major concern of the Thailand authorities is whether development can be sustained at the high growth rates of the past 5 years and, if so, whether they can be achieved without the increasingly evident regional income disparities. 3. The present economic gains have grown out of favorable external market conditions and a competitive exchange rate that have encouraged a dramatic expansion in manufacturing exports. An outward oriented economy, however, not only benefits from the international market, but can also suffer from such exposure. The slowing down of the world leconomy and the substantial cutbacks in international travel during the Gulf Uar had a serious impact on the pace of economic development in Thailand in the first half of 1991. Growth fell from over 10.0X per annum to an estimated 7.5Z at the beginning of the year, but subsequently rose again, so that the overall outcome for 1991 is now expected to be 9.0Z. The rate of increase in both exports and imports dropped and the current account moved further into deficit at close to 8Z of GDP. 4. At the same time, along with an unexpected political change, signs of a slowdown in private construction emerged. The authorities thus attach considerable importance to bringing about a period of confidence, less affected by speculative influences and other forms of instability that may affect future flows of foreign investment. Continuing reform of both the fiscal and monetary system, especially since the signing of the IMF Article VIII agreement, thus featured prominently in the policies of the government. Priority is being attached to maintaining economic stability and the wider dissemination of the benefits of growth. During this period of consolidation, there will be a further diversification of production of Thailand's economy with a steady expansion of employment opportunities, particularly in the manufacturing sector. Inflation, with conservative fiscal policy and monetary management, is expected to remain - ii - low and to support Thailand's existing cost effectiveness and strong international competitive position. The economic setback at the beginning of the year appears to have been only temporary. The underlying structure of production and exports have remained fairly robust and recovery has been fast. Growth is przdicted to pick up again towards the end of the year, provided the traditional international linkages of trade, capital flows and financing of economic activities that have proved so critical to Thailand's continued economic progress and external balance remain in place and there is no fundamental readjustment of the nominal exchange rate. 5. Thailand's rapid economic growth presents both opportunities and challenges. Vindication of its successful economic policies in the medium term will rest more fundamentally on the government's determination to achieve its desired social development goals than on its ability to raise per capita income levels clone. Although the traditional international linkages of trade, capital flows and financing remain critical to Thailand's continued economic progress, the inter-relationship of these factors with less traditional "soft" linkages such as the environment, public health and vocational and technical (especially female) education is particularly significant for social development as the country enters the last decade of the 20th Century. The authorities recognize that attention needs to be focussed on continued institutional reform, developing efficient allocative mechanisms and generating enhanced levels of service from existing and newly invested social capital to improve the quality of life. Economic progress, therefore, must provide the means to tackle deep-seated development problems such as the pockets of poverty, malnutrition and illiteracy rooted in some areas, in addition to wider issues like environmental damage and regional imbalances to which growth itself has contributed. 6. Three major issues confront policymakers in Thailand. The first is the sustainability of current economic progress itself. This requires action to avoid overheating of the economy, with its accompanying supply shortages that exert upward pressures on prices and have a tendency to distort resource allocation decisions. It calls for investment policies to improve the inadequate infrastructural capacity currently creating serious bottlenecks and unnecessary additional costs for business enterprises. Economic sustainability also needs to be supported by technology enhancement and occupational skills development, implying an increase in investment in productive human and physical capital. 7. The second major issue is the distribution of income and wealth. In the interests of both more balanced development and social equity, especially on a regional basis, policy efforts need to be directed towards narrowing the growing disparities in incomes and asset holdings. Capital has benefitted more than labor in the recent years of rapid growth; urban areas have expanded at the expense of rural regions as the rural-urban terms of trade have fallen; and Bangkok, the capital, has been the major beneficiary of new industrial development. The position on land holding and ownership has changed significantly in some regions and the issue of property rights, including access to water, has emerged as an important social and environmental concern with fundamental long term implications for land use. - iii - 8. The third issue, and the most important in terms of improving the general quality of life over a longer time span, is environmental damage. The depletion of resource capital, the degradation of the environment and associated effects on personal health resulting from air and water pollution, and the deterioration of soils and other productive assets are serious problems facing Thailand. They are linked closely to the overall question of "sustainability, and to both maintaining and improving existing natural and human capital. The cost of rectifying the damage caused to the environment through uncontrolled and undirected development can be substantial and is eventually borne, directly and indirectly, as a collective charge on the whole community. It is a cost that, in Thailand's case, and especially in the area of energy generation, may have regional or international implications because of its contribution to atmospheric pollution and damage to coastal waters. Reforms, recently introduced, aim to improve environmental protection and establish new health controls. These well defined standards need to be closely correlated with more specific industrial project proposals, manufacturing policies and building plans, and focus also on vehicle usage. The government is currently preparing detailed action plans to be implemented in these and other envirc-mental problem areas. 9. The basic economic structure of Thailand has been transformed over a comparatively short period from one based primarily on agriculture to one that depends on industry and the exports of -anufacturers as its dynamic engine of growth. Traditional crops are declining in relative terms, while manufacturing is increasing as a share of both output and exports. The manufacturing sector now contributes more than a quarter of GDP and accounts for over half of GDP growth; by the mid 1990's, it is expected to comprise 30Z of GDP and 70Z of total exports. At the same time it will become increasingly more diversified. 10. Open economic policies have allowed Thailand to adjust quickly to changing international and domestic circumstances. Recent steps taken to reduce output ad price distortions have helped establish conditions for sustained economic growth, while proposed infrastructural investment will encourage an expansion in output. The challenge facing the authorities is to harness economic progress to resolve growing social and environmental issues while developing rapid supply responses, to further improve economic opportunities, and to alleviate poverty. All these objectives form part of the overall goal of peaceful social development and maintenance of Thailand's national identity and its traditional cultural heritage and values. Experience suggests that an appropriate institutional framework is in place and that the tradition of sound economic management in Thailand will permit a continuation of high economic growth well into the middle of the present decade that will help sustain social progress to the end of the century. I. OVERVIEW OF THE ECONOMY A. Introduction 1.1 By the end of the decade of the eighties, Thailand had become the world's fastest growing economy. Estimated annual growth rates over the -ast four years fror 1987 to 1990 were successively 9.5 percent, 13.2 percent, t.0 percent and 10.0 percent. Over the decade of the eighties, income per head more than doubled and, by 1990, Thailand's GNP per capita had risen to a little over $1,400. While this recent acceleration in economic activity is remarkable, it is firmly rooted in a consistently good growth performance over the previous two decades. Bet-een 1965 and 1987, Thailand's average per capita income growth rate of 4.0 percent, placed it among the top ten fastest growing countries. 1.2 The dramatic progress of the past four years has been achieved against more difficult times at the beginning of the decade when new government policies were implemented to restructure the economy, accompanied by adjustment lending by the Bank to support the transformation process. The transition over the past decade, from an economy based primarily on rural activities, centered around a traditional social organization, to a growing urban industrial community has been rapid. The significant rise in income levels has led to a fall in the proportion of the population below the poverty line. In the early 1960s, around three- fifths of the population were poor but, by the mid-eighties, this had fallen to only a quarter. Economic growth has also been accompanied by social improvements in education, health and welfare. In its wake, however, economic progress has createa new social concerns and environmental problems, associated with rapid urbanization and industrial transformation. 1.3 At the beginning of the 1980s, low income levels, restricted employment opportunities, and an undiversified economy dependent predominantly on agriculture were serious concerns. In 1980. Thailand's GNP per capita stood at $670 and agriculture's share of total exports waa close to 70 percent. At least three-quarters of the population lived in the rural areas. By the beginning of 1990, agriculture's share of GDP had fallen significantly to 14.5 percent, half of what it was in 1970. Over the same period, from their dominant position, with 67.5 percent of total exports in 1970, agricultural products dropped dramatically to a mere 18.5 percent in 1990. The sustainability of the current industrial growth rate including both internal and external factors and the impact of growth on the poverty profile and income distribution, both regionally and by household category, have become important policy concerns. Closely related to these issues, and of no less significance - particularly in the context of long term sustainability - has been the emergence of the relationship between Thailand's recent industrial growth and environmental deterioration. There is increasing public and political concern over pollution, congestion, natural resource depletion and other environmental issues. The capacity of the present infrastructure to support the rapid economic transformation occurring is being stretched and, with signs of overheating in the economy at the end of 1990, there are doubts whether it can sustain development at the pace of the past few years. - 2 - B. Current Performance 1.4 Thailand has undergone rapid transformation from a predominantly agricultural based society to an emerging industrial economy oriented to manufacturing, services, and external trade. The share of manufacturing in GDP has risen from 16 percent in 1970 to 25 percent in 1990, with most of the increase occurring over the last 5 years. Gross fixed investment, and particularly private investment, has grown much faster than either private or public consumption (Table 1.1). Since 1987, private investment has increased substantially every year because of the significant development of foreign direct investment. Exports of goods and services have been the primary stimulus of growth, accounting for 52 percent of the growth in GDP from 1988 to 1989, and an estimated 38 percent of growth between 1989 and 1990. The growth of export earnings has contributed to a marked decline in the total debt service ratio to exports from 22.7 percent in 1985 to 8.3 percent in 1990. Family ownership and extended family business organizations with limited access to finance have given way to a variety of corporate entities employing an organized labor force and more professional systems of management. The government now makes few direct interventions in the market and leaves the leading role in decision-making to the private sector. Indeed, official policies actively encourage and support private enterprise. Table 1.1: GNP BY EXPENDITURE, AT 1972 CONSTANT PRICES (Annual rate of rhange) 1985 1986 1987 1988 1989 La 1990 /b Consumption 2.9 4.6 5.7 19.4 14.1 8.1 Private 2.0 5.7 6.8 22.8 13.5 9.1 Public 7.0 0.2 1.1 4.2 17.2 2.9 Gross domestic investment -4.5 -5.9 15.6 35.5 14.1 24.6 Fixed investment -5.3 -3.8 15.4 21.8 22.0 24.0 Private -11.1 0.5 29.2 32.0 25.6 22.3 Public 7.4 -11.6 -13.1 -9.4 5.9 33.1 Export of goods and NFS 10.5 14.6 20.6 19.6 19.6 13.6 Imports of goods and NFS -1.9 3.4 26.8 39.7 22.4 17.7 GDP 3.5 4.9 9.5 13.2 12.0 10.0 GNP 3.0 4.2 8.6 15.0 12.6 10.3 /a Preliminary figures. /b Estimates. Source: Quarterly Bulletin, Bank of Thailand, December 1990. 1.5 The present gains have been mainly brought on by a favorable external environment and a competitive exchange rate. The new outward-looking Thai economy has benefitted from exposure to international forces and market - 3 - pressures. This being so, however, with the recent slowing down of the world economy, Thailand has entered a crucial phase of transition in which critical questions can be raised about its vulnerability to external demand and the consequent sustainability and robustness of current growth rates. After several years of continued high performance, the authorities believe the Thai economy should enter a period of more settled development. They attach priority to maintaining economic stability and view the wider dissemination of the benefits of growth over sheer economic performance as a major objective. The mobilization of domestic savings will ajsume greater priority to facilitate a high level of investment less reliant on the continued influx of foreign capital, that has contributed dominantly to the development of the manufacturing sector. Table 1.2: THAILAND - MACROECONOMIC BALANCES, 1984-1990 Percent of GDP 1985 1986 1987 1988 1989 1990 1. FOREIGN SAVINGS Balance on Current Account including Net Official Transfers -4.1 0.6 -0.8 -2.7 -3.6 -7.3 2. PRIVATE SECTOR 2.1 Gross Domestic Investment 15.0 14.2 18.0 23.7 25.9 27.8 2.1.1 Fixed Investment 14.6 14.2 17.7 21.9 25.3 27.1 2.1.2 Change in Stocks 0.4 0.0 0.3 1.8 0.6 0.7 2.2 Savings 23.9 25.5 24.5 23.7 24.2 21.3 2.3 Investment Minus Savings -8.9 -11.4 -6.4 -0.0 1.7 6.5 3. PUBLIC SECTOR 3.1 Gross Domestic Investment 9.1 7.6 5.3 5.2 5.2 6.0 3.1.1 Fixed Investment 9.1 7.6 6.3 5.2 5.2 6.0 3.1.2 Change in Stocks 3.2 Savings -3.8 -3.1 -0.7 2.4 3.6 5.2 3.2.1 Current Revenue 15.8 15.5 16.4 17.1 18.3 20.1 3.2.2 Current Expenditures 19.7 18.67 17.1 14.7 14.7 14.9 3.3 Investment Minus Savings 12.9 10.8 7.0 2.8 1.5 0.8 4. PUBLIC AND PRIVATE Investment minus Savings 4.0 -0.6 0.6 2.8 3.2 7.3 Investment 24.0 21.8 24.3 28.8 31.1 33.8 Savings 20.1 22.4 23.7 26.1 27.8 26.5 Memorandum Item: Share of Gross Domestic Investment Financed by Foreign Savings (Z) 16.6 -2.9 2.3 9.5 10.4 20.9 Source: Quarterly Bulletin, Bank of Thailand, December 1990. 1.6 1991 is expected to be a time of consolidation and continued diversification of production for Thailand's economy. For the past few years, high growth rates have been associated with a welcome diversification of activities, but the early foundations of growth were narrowly based both geographically and industrially and some strains are now appearing. In the latter half of 1990, the government pulled in the reins, gently at first, then increasingly tighter, just as the emerging oil crisis and international recession began to bite. As a result, the economy has shown signs of cooling down. At the same time, although remaining high, the rate of expansion of tourism and construction activities (partly as a consequence of government action) has tapered off. Credit controls and lending ceilings were put in place and interest rates went up, putting a further damper on expansion and expectations. Officially, real growth rate projections for 1991 have moderated from an initial 9.6-10.0 percent to 6.5-7.5 percent. The latter range is regarded as a realistic target for achieving sustained and balanced progress in the medium term. The inflow of foreign private investment, which has more than funded recent current account deficits, is expected to moderate, but projects in the pipeline will continue to ensure adequate foreign capital to finance the necessary level of imports to maintain activity at a high level. 1.7 The primary engine of growth has been %he manufacturing sector which has expanded rapidly in the last 4-5 years. With vigorous promotion, exports from this sector have grown significantly as a share of both GDP and merchandise trade. Manufactures rose from 42.7 percent of exports in 1985 to 63.5 percent in 1990. Over this period, the annual increase in total exports never fell below 20 percent. Manufacturing has also been strongly supported by growth in the tourist industry and by construction activities. In turn, it contributed to expanded capacity in both sectors. Manufacturing growth has helped rectify basic imbalances on both the fiscal and external account and enabled the authorities in recent years to repay loans and to lower the debt service ratio on lorg-term debt. This has further enhanced Thailand's international creditworthiness status, and is reflected in the government's ability to borrow funds from a wide variety of sources. 1.8 Consumption levels are rising and land prices have soared. In 1988 and 1989 respectively, private consumption grew by 22.8 percent and 13.5 percent. By contrast, public consumption has grown only marginally since 1985. Significant inroads have been made into poverty alliviation in the past three decades. In 1962, 59 percent of all households in Thailand fell below the poverty line; by 1986 this share had fallen to 26 percent. At times in the early 1980s, particularly during good harvests, this percentage fell even lower. Furthermore, despite a significant population growth over the intervening 24 years between these two dates, the total number of poor fell by over 3 million. Unfortunately, since 1986, information on poverty has been rather more sp3radic but, with the expansion in the economy and the corresponding rise in employment and real wages, it seems likely that the overall poverty incidence has probably been further reduced. As employment has grown, especially in small and medium sized enterprises, poverty has been held at bay even among some of the poorest groups in the urban areas, even though much of the re.;ent increase in income has accrued to capital. As elsewhere, the burden of poverty has fallen most heavily on households in the rural areas where agricultural productivity, at least for the major crops, has remained relatively stagnant, where commodity prices are more variable and have followed a downward trend in recent years, and where there are fewer opportunities for supplementary income and more diversified employment. The incidence of poverty, therefore, has also been overlaid by both a regional and a seasonal dimension. - 5 - 1.9 The sustain.bility of the economic base has implications for the environment, urban/industrial infrastructure, and social living standards. Rapid industrial growth has had many effects, the full impact of which, and their implications for poli,y, have yet to be properly assessed. The authorities readily perceive that the existing infrastructure, although under improvement, is lagging and not sufficiently developed for the higher level of economic activity taking place. Growth has revealed bottlenecks in both the financial sector and the real economy; and much of the urban infrastructure is becoming gridlocked. At the same time, pollution and congestion have reached unacceptable levels in the Bangkok Metropolitan Region. Less easily observable environmental degradation has also occurred in the forest regions, hill villages, and other parts of the country. Given expenditure priorities, the authorities recognize the need to find more resources to satisfy popular demands for new social programs to improve welfare and enhance the quality of life. C. Global and Regional Perspective 1.10 The Asia/Pacific region as a whole is not only the most populous, but also the most rapidly growing in the world economy. In a world where economic activities are becoming increasingly regionalized, part of Thailand's success has arisen from its ability to participate in this expanding market. While the global economy has gone through periods of recession and fluctuation over the past decade, Asia has continued to grow, overall, at a faster and more even pace than the rest of the world. In this high performance area, Thailand has led the field and gained remarkable success with double digit growth rates in GNP since 1987, and only a 1.7 percent annual increase in population since 1980, falling to 1.5 percent at present. Thailand's share of the total GDP in East Asia has increased from 4.8 percent in 1965 to over 6.6 percent in 1989. In the space of only four years, Thailand's domestic output expanded by half and, correspondingly, its average income per head increased significantly. This progress was associate. with minimal government interference and few official regulations, and it was accompanied by an overall reduction in trade tariffs. Thailand demonstrates, classically, the economic dividends to be gained through progressive trade liberalization, receptivity to foreign investments and an open market philosophy. The data also suggests that, in certain areas of economic activity like transportation investment, considerable benefits could flow from exploiting and developing the potential regional inter-linkages that exist between the countries of peninsular S.E. Asia. 1.11 The 1990 oil crisis and consequent hostilities posed some short- term problems for the preservation of high levels of industrial output. The medium term sustainability of the economy depends critically on the cost- effectiveness of the manufacturing sector and uninterrupted supplies of fuel oil and raw materials. Higher oil prices combined with direct investment demands for scarce real resources have put pressure on inflation and wages, though both remain moderate by world standards. It is feared that substantial wage increases and changes in the wage structure, without corresponding productivity gains, could damage growth prospects, which are highly dependent on the external market, particularly if accompanied by costly bottlenecks in power supply, telecom- munications and transport. This concern has somewhat faded as wages have been held in check and minimum wage legislation introduced without any apparent serious impact on unit wage costs. Labor productivity in manufacturing has risen substantially, from a 4.0 percent increase in 1981 to 12.1 in 1987. Since then, as indicated in Table 4.2, productivity increases have leveled out, but at a - 6 - highly respectable 7 to 8 percent per annum. Continued success in the international economy relies also on the ability of industrialists to develop new markets and to distribute their goods efficiently. D. Domestic Policy Perspective and Current Policy Concerns 1.12 Economic growth in Thailand over the past few years has been very rapid, but in a private enterprise system where few controls are imposed, increased material standards and private gains have been secured at an observable communal expense. This is especially evident in the Bangkok Metropolitan Region where a promotional "laissez-faire" policy of industrial location and development has been associated with a relatively uncontrolled proliferation of factories in and around the capital. Many of these factories use energy inefficiently or have adopted an unsound energy mix that reflects the distortions in relative energy prices artificially held down for extensive periods by the operation of the Oil Stabilization Fund. Consequently, some neighborhoods have been more exposed to environmental risks, which can pose potential health hazards for surrounding areas. 1.13 The past decade of transformation from a rural, dominantly agriculturally based society to an industrial economy has led to important shifts not only in the structure of production, but also in the pattern of consumption in Thailand. Private consumption continues to diversify and, in the last few years, its growth has begun to outpace the increase in domestic production. This will have implications for relative prices, imports and the balance of payments and, possibly, in the longer term, the exchange rate regime. The need to hold inflation in check and to keep export prices competitive remains essential to Thailand's continued prosperity and prices are a key concern of the country's policymakers. The thrust of relatively conservative official fiscal and monetary policies, therefore, is focussed primarily on achieving a balance between supply and demand in the product market while ensuring flexible responses to market changes. This is helped by the pursuit of an "open" policy of economic manage- ment, which allows the appropriate signals to be manifested. But movements in output and changes in expenditures over the past few years have also had implica- tions for employment and labor rewards. Despite the rapid output growth that has taken place, and the fact that "official" unemployment has fallen, the absolute number of those seeking work has risen. At the same time, serious skill shortages and labor bottlenecks have occurred, a phenomenon not unfamiliar to other countries that have passed through similar phases of rapid industrialization. Thailand has not enough trained craftsmen, accountants and engineers to satisfy demand, and their rate of pay has risen concurrently with the increased competition for their services. On the other hand, with the decline in the rate of growth of agricultural output (it even fell in 1990), farm employment has remained stagnant and the incomes of traditional crop producing rural households have fallen relatively. Some farmers, nevertheless, appear to have been able to diversify into other cash crops, particularly fruits and vegetables. The effects over the country therefore have been uneven, but some regions, such as the Northeast, remain particularly badly hit, partly because of the more severe impact on crops of last year's adverse climatic conditions, and partly because fewer alternative "off farm" income earning opportunities exist. 1.14 Thus, in 1990, the income gap between rural and urban areas and between skilled and unskilled workers appears to have widened, but real - 7 - manufacturing wages rose and the government mandated a significant 14 percent average increase in the nominal minimum wage rate. Public sector wages were also raised in April 1990 by an average of well over 10 percent. Aore important, because the returns to productive investment have increased, and because land and real estate speculation and other asset price increases have occurred, it is the income differential between owners of capital and wage earners that has clearly become larget. This last issue is considered in more detail in Section VII. Industrialization and Urbanization 1.15 Past political and economic stability have had an important impact on Thai development. They have permitted and encouraged the mixture of manufacturing led growth and agriculture-based development that, historically, provided the broad foundation of economic change. The Thai agricultural sector continues to ensure an abundant supply of cheap, hard-working labor as well as the raw materials and finished products for agro-industries. With traditional crops in relative decline, however, increased migration from the rural areas. particularly into the Bangkok area, has compounded urban problems. Favorable international factors and Thailand's own trade protection policies, including import-substitution policies first introduced two decades ago, have encouraged foreign firms to produce locally, responding to the attractive investment climate. Combined with official foreign-investment promotion policies (including tax incentives and permission for foreign firms to remit most of their profits back to their home countries), rural-urban migration has contributed to the Thailand's economy, but raised new questions concerning the suitability of residential conditions, including the adequacy of housing and urban environmental services. 1.16 Rapid industrialization and urbanization, particularly in and around Bangkok, continue to cause serious problems. Poor housing conditions, crowded buses, air and water pollution, contaminated food, and recurrent floods (worsened by land sinking from the digging of deep industrial wells and construction of new buildings) have given rise to growing public concern. Activism among Thai labor unions, especially at state-owned enterprises faced with government privatization plans, appears to be increasing, though the reported total number of days lost through work stoppages overall remains negligible. 1.17 In the 1980s the emphasis of government policy switched from import- substitution policies of industrialization to export-oriented manufacturing, implicitly favoring industry over agriculture. The producers' price index for the manufacturing sector remained consistently above that for agriculture, implying faster price increases for industrial goods, a feature supported by the marginally favorable exchange rate position and reflecting the overall global situation. At the same time, low agricultural prices and profitability probably prevented farmers from accumulating the capital needed to raise productivity and diversify output into riskier cash crops. The fastest growing area of manufacturing output, however, originated in foreign owned firms. For the most part, Thailand has yet to develop its own domestic capacity to produce manufactured goods primarily for export. The impact of these structural changes on the environment is reviewed later in the section on "emerging issues." - 8 - II. OUTPUT AND DEMAND DEVELOPMENTS A. Introduction 2.1 The internal and external performance of the economy remains strong. Successful adjustment, sound economic policy, and private sector expansion have been important forces contributing to Thailand's recent development and growing internationalization. Thailand is an excellent example of foreign direct investment led growth. Most of the country's recent economic performance has been generated by industrial investment and manufacturing output. Thailand maintains a favorable climate for foreign investment because of high growth without inflation, a stable exchange rate with minimal currency restrictions, and a low cost work force. The inherent strength of the Thai economy left it relatively unaffected by the Gulf war. Although the crisis pushed up world oil prices, necessitating two consequent upward domestic fuel oil price adjustments in September 1990, this had less effect on the level of economic activity than the underlying moderation in world demand, that was accompanied by a substantial fall in visitor arrivals during the normal peak December-February season. Early indications suggest this phase was only temporary and that economic activity and visitor arrivals are picking up again following the cessation of hostilities and resumption of normal airline traffic. 2.2 Four main demand forces continue to drive output; these are: (i) domestic consumption in the urban areas; (ii) public investment (particularly in economic infrastructure); (iii) private direct investment; and (iv) manufactured exports. As each competes for the limited resources available, domestic expenditure continues to rise faster than real growth. The output of traditional activities, however, and especially of agricultural produce, has declined making it necessary to import some basic foods and locally consumed items. Although higher than average price increases have occurred, particularly in foodstuffs, the overall rate of inflation in 1990, as measured by the Consumer Price Index (CPI), while marginally higher than 1989, remained relatively low at 6.1 percent (1989; 5.4 percent). 2.3 In 1990 purchases of capital goods comprised two-thirds of all merchandise imports (including vehicles) and machinery alone accounted for 42 percent of the total. But a large share of these imports were already mostly own-funded by exporters and new investors with overseas head office operations and external funding sources. The import bill was especially inflated by the one-time purchase of extra large items, like commercial jet aircraft. There was, consequently, a doubling in the current account balance of payments deficit from 3.5 percent of GNP in 1989 to a preliminary estimate of 7.3 percent of GNP in 1990. Nevertheless, signs of confidence in the economy stay firm; private capital continues to flow in, and international reserves have increased. By 1990 year-end, reserves represented the equivalent of close to half a year's merchandise imports. - 9 - 2.4 Buoyant overseas demand and export promotion have kept total manufacturing output expanding in 1990 at a fast rate of 13.7 percent, only slightly less rapid than the 16.8 percent aad 14.9 percent, respectively, of the two previous years. Some trades (particularly those serving the construction industry) showed slower growth in 1990 because of capacity constraints and the physical shortage of key raw materials like cement and steel bars. Quarrying and stone-crushing activities nevertheless expanded at the same high pace as the construction industry in general. The growth in private construction included both factories and residential properties. Although not all of this output was concentrated in the Bangkok Metropolitan Region, some three-quarters of all new factories were located there. Many new condominium and private leisure projects have been constructed in the same area. 2.5 The concentration of foreign and domestic investment in the formal manufacturing sectors and their location in the central region of Thailand tends to worsen the already serious problems of pollution and congestion in Bangkok. Increasing the number of factories in the city and raising expectations of employment aggravates already pressing economic and social problems. Furthermore, the promoticn of urban development tends to reinforce low agricultural productivity as the more able leave the land. Where such migration occurs, it results in struztural demographic imbalances and poses a threat of rural poverty. It may also encourage informal sector activities in the cities while people seek more permanent employment. 2.6 Despite the sound record of growth and continued new investment, critically important to the next phase of Thailand's development is how further industrial growth based almost exclusively on manufacturing exports from the urbanized central region, can be adequately supported. Thailand does not currently possess the economic infrastructure necessary to sustain industrial development at the rapid pace of the past four years. Strength and resilience will come from a better balance of more diversified activities, with a widespread domestic involvement on a regional basis. This might include, at least in part, developments in the agricultural sector, on which a large proportion of the population is still dependent. B. Agriculture 2.7 At present, the relative weak point of the Thai economy is, in fact, agriculture. Inevitably, industrialization is linked to a long term shift away from agriculture. In real terms, however, the actual rate of growth of total agricultural output has fallen progressively over the past three years. In 1990 it even turned negative. While bad weather and insect infestation may account for some of the decline, and together probably constitute the main cause of the particularly poor performance in 1990, there may be other underlying reasons to explain why the production of main crops, like rice, has been less than expected. Total agricultural output fell by 2.5 percent in 1990 mainly because of a 4.7 percent decrease in crop production. This followed growth rates of 9.1 percent in 1985 and 4.1 percent in 1989. Output of all the main crops: rice, maize, sugar cane and tapioca declined in 1990. Output in other agricultural sectors like forestry and fishing (which had grown by 6.5 percent in the previous year) also fell. The main reason seems to have been the particularly adverse weather conditions of droughts followed by floods and two severe typhoons. Their impact was to wipe out crops at critical harvesting times and to disturb fishing grounds. Prices for many key agricultural products - 10 - (including rice and maize) dropped at the same time from their favorable levels two years earlier. The typhoons also destroyed many trees. In the short run, however, this made more timber available than previously permitted under the total logging ban, and offered some limited scope for a one time partial recovery of forestry output. 2.8 There has been an implicit trade-off between traditional agriculture and modern industry to secure an expansion in cash employment and raise income levels. Thailand's rapid transition from agriculture to industry accelerated over the last two to three years because of the relatively poor performance of agricultural output and exports, particularly of the main crop, rice. Thailand remains one of the world's leading exporters of rice, but the role of rice is declining and, as a share of national exports, its importance has fallen significantly over the last 5-6 years from 11.6 percent in 1985 to less than 5 percent in 1990. At the same time, as indicated in Table 2.1, agricultural commodities as a share of total exports fell by more than half. Over the 20 years from 1970 this share has dropped dramatically from 67.5 percent to 18.5 percent. Table 2.1: REAL AGRICULTURE OUTPUT 1970 1985 1986 1987 1988 1989 1990 As a share of GDP 27.1 19.9 19.1 17.4 16.9 15.6 14.5 As a share of Exports 67.5 38.0 34.3 27.6 26.4 23.6 18.5 Share of rice in Exports 17.0 11.6 8.7 7.5 7.5 8.6 4.7 Source: World Tables 1991, The World Bank, Johns Hopkins Press, May 1991. 2.9 Simple annual variations in climatic phenomena alone cannot explain the declining share of rice in output. The combination of lower than average rainfalls over several years plus increases in the commercial use of water and greater competing demands on capacity may be responsible for the comparatively poorer production performance, especially when associated with serious water shortages in the dry seasor.. Output and productivity, particularly of the main crops, rice, tapioca and maize, have been seriously affected by the inability to irrigate some areas because of low water levels in the Chao Phraya River. Installed facilities for delivering water to the traditional rice bowl of Thailand, therefore, have remained unused, and the problem has been compounded by distributional difficulties. At the same time, the claims on water, part- icularly for household and industrial use in Bangkok, have become increasingly evident and extensive in the Central Region. A certain river flow must be maintained to flush out the salt intrusion in low lying areas. Unfortunately, in the dry season, to meet the increasing demands downstream, the authorities have found it necessary to introduce a system of water use rationing. The Central Region, the most fertile rice area, has also been losing farm land to industries and real estate speculators, some of whom have left the land idle - 11 - which has encouraged pest infestation and crop disease, and this has affected rice yields and output. 2.10 In S.E. Asia, even with few fertilizer inputs and comparatively little irrigation, Thai rice farmers are considered to be relatively high cost producers. Competition from Pakistan and Viet Nam has made it more difficult in recent years for Thai farmers to sell their crops in overseas markets, even with some subsidies to exports. Many have switched part of their cultivated area to the production of higher value vegetables and other cash crops that have a ready market in the cities, especially Bangkok. Much of this more diversified output is not recorded and thus the stagnant yields reported for rice and other staple crops may conceal the more profitable utilization of land for the production of higher income elasticity crops destined for domestic consumption. Tapioca production has not increased because of EC quota restrictions, and because an expected expansion of non-quota sales to the USSR and Eastern Europe has not so far materialized. Maize has had to compete with subsidized US output in the Japanese market, although because it is pre-packed in bags rather than sold in bulk, Thai maize has managed to maintain its profile in smaller markets where access is sometimes difficult. 2.11 At the local level, market cash crops, such as fruits and vegetables, are reported to be expanding rapidly but, to date, these changes are not adequately captured in the national official statistics. Crop diversification certainly has become more common, even in poorer areas like the North East. To improve yields and establish new varieties, however, increased irrigation and fertilizer inputs are required because maintaining adequate water supply is a major problem in many areas. Elsewhere in the hills in the North, cash crops are traditionally rainfed and little or no fertilizer is used (indeed, the use of chemicals in these circumstances could be potentially damaging). Formally, therefore, in terms of the official statistics there has not been any significant increase in productivity, but some improvements have probably taken place. 2.12 Fishing has been at least partially affected by pollution of the Gulf of Thailand arising from the increased concentration of industry in the Central Region and developments along the banks of the Chao Phraya River. The older shrimp farms, which depend heavily on the recycling of good quality saline water to kesp down the incidence of disease and promote growth, have been adversely affec.ted by the lack of a satisfactory supply at this level, and by the shortage of cold storage facilities. Demand remains strong, however, especially from Japan and, more recently, the US. At the same time, because of competition from other countries like China, the price of tiger shrimp has fallen significantly from a high of 180 baht per kilo two to three years ago to around 100 baht in 1990. Depressed prices and a much lower rate of return on capital have discouraged development and reduced the willingness and ability of farmers to invest. Nevertheless, Thailand has surpassed Taiwan as the world's largest producer of black tiger prawns; and prospects for new markets in 1991 and of higher prices seem good. - 12 - Table 2.2: DOMESTIC VALUE ADDED AT 1972 CONSTANT PRICES (Annual percentage change) 1985 1986 1987 1988 1989 /a 1990 /b GDP 3.5 4.9 9.5 13.2 12.0 10.0 Agricultural sector 6.2 0.3 -0.2 10.2 6.3 -4.3 Crop 5.8 -4.5 -4.0 14.4 4.9 -4.7 Paddy 2.4 -5.8 -9.6 16.6 4.3 -12,3 Rubber 14.8 8.3 17.8 5.9 21.0 1.7 Maize 18.9 -19.6 -46.3 94.8 -8.9 -7.3 Tapi-,-a -9.5 -6.2 22.4 12.1 0.1 -12.1 Sugarcane 6.2 -3.6 2.8 13.9 29.2 -7.8 Forestry -3.1 10.5 -4.1 -14.3 -53.1 -31.0 Fishery 3.3 7.0 14.2 4.0 6.5 -1.5 Livestock 4.2 16.9 5.8 5.9 4.7 4.6 Non-agricultural sector 2.9 6.1 11.8 13.9 13.2 12.4 Manufacturing -0.6 10.8 13.3 16.8 14.7 13.8 Mining 3.8 -0.9 7.5 21.3 20.4 17.5 /a Preliminary figures. /b Estimates. Source: Quarterly Bulletin, Bank of Thailand, December 1990. 2.13 Table 2.2 shows the extent to which Thai agriculture has performed poorly in relation to the rest of the economy over the past five years. It remains highly dependent on traditional crops, especially rice, and all, except rubber and livestock declined in 1990. In the past, Thai agriculture supported industrialization in several ways. Increases in agricultural production helped expand national income and government revenues, creating surplus capital for investment. Agriculture also provided cheap direct and indirect inputs, namely, food and labor, for the manufacturing sector. The sector became a source of increasingly diversified exports, initially with traditional products such as rice and rubber, but more recently with crops like maize, tapioca, and sugar. Canned fruit and frozen chicken represent some of the first steps in serious agro-business. Although some food is now imported, Thailand is still a significant food exporter with 42 percent of gross domestic agricultural output being sold overseas. The once expanding agricultural and marine product exports, however, have levelled off and are now decreasing as a share of total exports, being halved from 38 percent in 1985 to 18.5 percent in 1990. Traditional agricultural exports appear to have reached their limit in the 1980s, perhaps not least because some countries that formerly imported large quantities of food, particularly rice, have recently achieved self-sufficiency. Several of these countries now present an increasing threat to traditional basic food exporters like Thailand on the international market. 2.14 Thailand's response has been to encourage further diversification of agricultural products and strengthen marketing efforts. Increases in the - 13 - exports of chicken, shrimp, and canned foods over the past decade suggest that product improvement has been achieved and that this approach has worked. Switching production to higher income elasticity products increases potential sales to hotels and restaurants, expands the range of existing exports, and raises farmers' incomes. The cultivation of different cash crops has helped diversify Thai agriculture and created valuable export items, although many remain small in value compared with the traditional crops. Skillful operations and marketing by Thai agro-businesses have contributed to the increase in Thai agricultural production and exports. However, many of these activities are also dependent on irrrigation, and the availability of water remains a constraint. The limited results of these effortr, as well as of land reform, have so far made only a small contribution to problems of land tenancy, low productivity in agriculture, and massive migration to Thailand's capital city, although progress with land titling might help secure greater success in the future. 2.15 The Thai government is aware of these problems, but it has placed greater emphasis on developing Thailand's urban and industrial infrastructure than on agriculture. New agricultural activities have been assisted, never- theless, by the creation of relatively large plantations (although not on the same scale as those in Malaysia and Indonesia), especially for palm cultivation. More efficient processing is also being developed. Many enterprises have been actively promoted by the Thai Board of Investment. Operations are managed by Thai owned agro-businesses, and some are run as joint ventures with foreign investors. The formation of integrated production and distribution organiza- tions to improve production technology and international marketing has provided a further impetus to development in this area. 2.16 In some areas rural poverty may have become more pervasive, in part aggravated by the out-migration to the towns of farm workers and other landless dependents. However, this does depend on the extent to which those remaining have more land at their disposal, and whether they receive regular remittances from those urban workers who retained a commitment to their rural household base. Non-interventionist government policies in agriculture have kept the price of food relatively low, while incentives for manufactured goods, through the tariff system and other investment support to specific producers have risen. Although the past degree of industrial protection has not been high by international standards, the government has begun to implement policies to liberalize those tariffs protecting the industrial sector. Before then, the process tended to transfer surplus domestic capital from agriculture to the manufacturing sector, and from the villages to the towns. In spite of rapid increases in productivity in manufacturing relative to agriculture, until very recently the government continued to protect import-substituting industrial out- put through high import taxes on competing products. Furthermore, privileged concessions were permitted to some producers importing raw materials and capital equipment. The government also provided help with credit arrangements for business firms. The regulation of competition by restricting the number of companies in any one field has helped in some cases to keep the price of manu- factured goods relatively high. Investment to raise productivity in farming, especially in traditional crops, has tended to suffer as a result. 2.17 Increased investment in agriculture is important because this sector remains the major source of employment in Thailand, accounting for two-thirds of total labor force activity. Although the percentage of employment in agriculture has been declining, the absolute number of people working in this - 14 - sectox is still increasing. But this is unlikely to continue over the next Plan period as the limit to the expansion of cultivable land will restrict the increase in active employment. Furthermore, not all the new workers (migrants as well as new entrants) expected to enter the labor market in the urban centers, will find jobs in non-agricultural sectors. Many who fail to gain paid employment will fall back necessarily on the rural economy for survival or drift into informal activities. It seems unlikely that they will be absorbed effectively into agriculture unless output becomes more diversified, productivity rises, and incomes improve significantly. Consequently, agricultural production will continue to account for less than a sixth of Thailand's gross domestic product while still supporting the bulk of the labor force, and most of the dependent population. C. Manufacturing 2.18 Recent Developments. The present, more diversified, phase in Thai manufacturing reflects the shift in regional investment and trade patterns in recent years, and the relocation of low-cost labor intensive industry to the developing countries of S.E. Asia. The latest manufacturing development owes much of its phenomenal growth to Japanese investors who have opened up new factories in Thailand at the rate of one every three days. Despite the combined adverse impacts of the Iraq war and world recession, the sector is still set to expand rapidly. Exports, other than perhaps ltxury products like jewelry (and, to a lesser extent, motor vehicles) are expicted to grow significantly. A strong world demand backed up by improved domestic purchasing power (from increased employment and higher wages) sr.pports rising output of beverages (especially beer) which grew by about 45 percent in 1990 over a corresponding nine month period in the previous year; steel bars (up 19 percent over the same period); and cement (plus 22 percent). Car and motorcycle sales, especially to domestic markets, have been particularly buoyant over the past three years, increasing over 50 percent and 44 percent respectively, during the first three- quarters of 1990. Textiles, electronic goods, including computer parts and integrated circuits, footwear and leather goods, constitute some of the fastest growing export products, and these were only moderately aff*cted by the oil crisis. Even less affected were pharmaceuticals, vegetable oils, and frozen and processed food items. 2.19 Future Prospects. For the future, the prospects seem particularly bright for food processing, including the well developed broiler industry and expanding vegetable oils sectors; textiles, cars and computers. Thailand's leading industry is textiles in which there has been an almost exponential growth in exports. Most projections within the industry expect exports to rise by some 17 percent in 1991, compared with around 20 percent per annum in both 1989 and 1990, despite increased energy and wage costs and market losses in the Middle East. The outcome in 1992 and beyond, however, is highly dependent on future (Uruguay Round style) GATT agreements, which would intensify competition, if successful, and on possible protectionist policies in the European Community following the single market unification in that year. The industry is labor intensive and employs 30 percent of the workforce in the manufacturing sector. 2.20 Motor vehicle and motor cycle production continues to expand rapidly and should develop further with the construction of new facilities and extensions of existing plants. Toyota's new plant, opened mid-1990, is the largest and most sophisticated in S.E. Asia; and other projects are being - 15 - developed by its competitors in all branches of vehicle assembly. Given the prevailing oil price, sales in 1991 are again expected to be high, rising by 35 percent in the case of cars, and 20 percent for motor cycles, with each branch increasing the local content of its output by significant amounts. 2.21 Expansion in the computer field is constrained by a shortage of trained and skilled personnel and, locally, by telecommunications problems which restrict the sales of Fax, PABX and modem units. On the demand side, according to the suppliers, the slow adoption of computers in the public sector has also held up development, but this should shortly change. Nevertheless, many new companies have set up in the past 5 years, often in association with software vending operations. The Thai computer industry (which increasingly focusses on micro-computer production) has been growing much faster than the economy as a whole and this is expected to continue and even improve from 20 percent per annum to 30 percent in 1993, assuming there is a revival in the world economy. D. Construction 2.22 Some of the signs of economic overheating were most marked in the construction sector where the Gulf crisis has had a dual impact, suppressing demand for real estate and raising building material costs and associated input transportation charges. Prices have risen not only because domestic producers cannot keep up with the rapid pace of the building boom, which has resulted in materials being in short supply, but also because of oil price increases. Most construction materials, especially cement, have a high energy cost component. The problem is aggravated by the official unwillingness to grant new quarrying rights for ecological and environmental reasons. This scarcity is likely to persist through 1991 because of projects in the pipeline, including public sector infrastructural expenditure. This could lead to further imports of basic inputs like cement, which also have risen in price because of uplifts in freight and insurance costs. Higher transportation costs in general affect the industry because all building materials need to be moved by road and oil represents roughly two-fifths of trucking costs. These difficulties were compounded, in an interest sensitive industry, by tighter monetary policy and the higher borrowing rates levied in 1990. 2.23 Overall, construction costs are expected to rise by about 20 percent which could cause problems for some small firms and property developers; particularly those engaged in larger scale speculative ventures that stretch the liquidity and essential financial base of construction enterprises. Nevertheless, the sector grew by over 18 percent in 1990 reflecting mostly the continued strong demand for private development projects in both the manufacturing and services sectors. Though moderate compared with the explosive 30 percent of the previous year, this was well in line with the 21 percent of 1988. Furthermore, with the earmarking of major public infrastructure projects for speedy implementation in the new Development Plan (1992-1996), construction activity should continue at a high level of capacity. In the private sector, provided moods of pessimism do not hold sway, and the banks decide not to call in the huge loans they have extended for real estate purchase, firms which can cope with the material shortages and higher building material costs will survive. But the Building Code, when enforced - particularly in Bangkok - will impose new strict standards (and hence costs) from which, so far, developers have been free. This may lead to a switch out of housing, condominium and hotel building into more commercial construction and factories. - 16 - E. External Markets and Influences 2.24 Trade. Export-oriented industries, established mostly through direct foreign investment, have been the primary engine of growth in Thailand. Although these have grown very rapidly, they are not yet large enough to create enough employment to absorb the whole of the expanding labor firce, including rural migrants. The government continues to encourage exteraal investment because this is seen as crucial to Thailand's future economic development and employment generation, as well as being important for political stability. This foreign investment has fueled the development of the manufacturing sector and has had a major impact on the growth of construction activities. Table 2.3: COMPOSITION OF EXPORTS BY MAIN CATEGORIES (Percentage) 1983 1985 1988 1989 1990 Primary 62.9 57.3 44.1 41.5 35.2 Food 50.4 44.8 34.1 33.6 28.2 Fuels 11.1 11.4 9.6 7.6 6.6 Petroleum 11.1 10.1 8.8 6.8 5.7 Other 1.5 1.2 0.4 0.4 0.4 Manufactures 37.1 42.7 55.9 58.5 64.8 Chemicals 1.1 1.3 1.2 1.3 1.4 Machinery 5.7 8.8 15.8 17.8 22.2 Manufactured goods 17.8 18.5 19.0 18.1 18.3 Other 12.5 14.1 19.8 21.3 22.9 Source: Quarterly Bulletin, Bank of Thailand, July 1990, p. 40 Monthly Bulletin, Bank of Thailand, May 1991, p. 40 2.25 The pattern of exports by end-use (Table 2.3 above) clearly illus- trates the dramatic transformation that has taken place in output structure over the space of less than a decade. There has been a complete reversal of the roles of primary and manufactured exports. Food exports have fallen from more than half of the total in 1983 to less than 30 percent in 1990, while manu- factured goods have risen from 37.1 percent to 64.8 percent of the total over the same period. Predominantly, it if the share of the traditional agricultural crops, together with forestry and mining products, that has fallen fastest (Table 2.4). - 17 - Table 2.4: COMPOSITION OF EXPORTS BY MAJOR ITEM (Percentage) 1970 1985 1989 1990 Agriculture 67.5 38.0 23.6 16.8 Rice 17.0 11.6 8.8 4.7 Tapioca 8.3 7.7 4.7 3.9 Rubber 15.1 7.0 5.1 3.8 Fishing 2.5 5.5 5.5 5.5 Prawns 1.5 1.8 3.1 3.5 Forestry 1.5 0.2 0.1 0.1 Mining 13.9 5.2 1.5 1.2 Tin 11.0 2.9 0.5 0.3 Manufacturing Textiles 0.3 12.2 14.4 14.4 Sugar 0.6 3.2 3.7 3.0 Canned seafood - 3.8 4.0 - Precious stones 0.9 3.3 3.2 3.8 Source: Economic Fact Sheet, NESDB, January 15, 1991. 2.26 The increase in manufacturing-oriented investment reflects the emergence of Thailand as a manufacturing base for multinational firms. In their home countries, these foreign corporations face increasing pressure from overseas governments that have imposed higher tariffs on the goods each firm produces for export because these governments wish to protect their own local industries. In some industrial sectors the desire of countries like Japan to avoid trade wars and by-pass protectionism and quota restrictions have thus become important reasons justifying the relocation of operations to a "developing" country.In Japan and the Asian NICs, furthermore, increases in domestic labor costs, large trade surpluses and rising currency values have led to more difficult international marketing and higher production costs. The need to secure natural resources and to circumvent emerging labor problems has provided the stimulus for these countries to invest in Thailand. The pursuit of closer Asian economic integration is another factor that has encouraged Thailand to welcome these firms and develop manufacturing industries. Such moves have been accompanied by the reorganization of industrial structures and corresponding changes in Thai trade practices. Under the limited industrial development brought about in earlier years by the promotion of import substitution, growth had been more moderate. The opportunity for the production of local components and the capability for selling them was restricted, mostly because of the small size of the domestic mark2t. Within the rapidly growing region, however, new markets emerged and Thailand sought exposure to an expanded range of opportunities. From the early 1980s, Thailand increasingly specialized in different kinds of products and those parts of the production process vertically linked to output in direct investing countries like Japan. Thai production reflects the country's comparative factor endowments, technological capabilities, wage levels, capital availability, and natural resources. All these features have helped broaden the range of products it sells. - 18 - Table 2.5: COMPOSITION OF IMPORTS BY MAIN CATEGORIES (Percentage) 1983 1985 1988 1989 1990 Primary 33.8 34.0 19.7 21.0 20.1 Food 2.7 3.8 4.7 4.5 4.0 Fuels 30.2 29.1 14.3 15.8 15.7 Petroleum 6.1 6.6 6.8 6.8 6.4 Other 0.9 1.1 0.6 0.6 0.7 Manufacturing 66.2 66.0 80.3 79.0 79.6 Chemicals 13.4 14.0 12.6 11.2 10.1 Machinery 28.9 28.1 39.6 37.9 41.2 Manufactured goods 16.5 16.8 21.4 23.0 22.8 Other 7.4 7.1 6.8 7.0 5.4 Source: Quarterly Bulletin, Bank of Thailand, July 1990, p. 40. 2.27 The pattern of end-use indicated for exports is repeated for imports, (Table 2.5) with capital goods and manufactured inputs comprising the main items, in many cases adding value through their subsequent transformation or assembly of inputs and parts into finished goods for sale to overseas markets. In recent years, also, a growing volume of imported inputs of materials and basic metal products have been destined for the construction sector. 2.28 Foreign Investment. Competition in low-cost manufactured goods among Asian countries has pushed multinational companies from countries like Japan and the NICs, searching for less restrictive manufacturing bases, to relocate their more labor-intensive production in Thailand. Foreign companies have brought with them new technologies and improved management techniques which have spilt over into local firms and enhanced domestic production capabilities. Japan has been the major investing country, especially in the export-oriented manufacturing sectors, such as electrical and electronics products, chemicals, and non-metal goods. Annual investment from Japan in current values has risen nearly seven-fold from 2.6 billion baht in 1984 to $17.8 billion in 1989 and, in 1989, Japan's net investment flow comprised 40 percent of the total (Table 2.6). - 19 - Table 2.6t NET FLOWS AND NATIONAL SHARES OF FOREIGN DIRECT INVESTMENT (Millions of Baht) 1979 1984 1989 Amount (Z) Amount (%) Amount (2) Total 1,127.5 100.0 9,643.6 100.0 44,742.3 100.0 Japan 245.9 21.8 2,588.1 26.8 17,840.6 39.9 U.S.A. 226.5 20.1 3,733.2 38.7 5,107.2 11.4 Taiwan 1.9 0.2 45.0 0.5 5,064.9 11.3 Hong Kong 284.9 25.3 351.8 3.6 5,762.4 12.9 Singapore (24.2) -2.1 1,121.3 11.6 2,617.9 5.9 Others 392.5 34.8 1,804.2 18.7 8,349.3 18.7 Source: Bank of Thailand, J.tly 1990. 2.29 The Japanese goverament. through market appraisals and research studies, has implicitly encouraged many Japanese firms to extend their production operations oversea. especially in S.E. Asia. It has publicized the benefits of locating in Thailand and it has persuaded Japanese firms to buy more manufactured goods from domest c sources. It has also encouraged Japanese consumers to purchase Thai ir.orts. Thailand emerged as a significant beneficiary of this more open policy. Thai manufactured products imported by Japan increased by 144 percent in the two years between 1986 and 1988. In 1988, manufactured products accounted for 33 percent of all Japanese imports from Thailand; Thai exports included business machinery parts and bearings, as well as its more traditional and less sophisticated exports. Japan now holds by far the largest stock of foreign capital in the country, followed by Taiwan. 2.30 As shown in Table 2.7, the total stock of Japanese investments in Thailand by mid-1989 had reached $3.5 billion, leading all other foreign investors in Thailand by a wide margin. - 20 - Table 2.7: VALUE OF FOREIGN INVESTMENT IN THAILAND BY COUNTRY (JULY 1989) (US millions) Country Investment Stock Japan 3,537 Taiwan 871 Italy 663 Hong Kong 563 United States 551 Britain 486 Singapore 408 Switzerland 184 South Korea 171 West Germany 125 France 97 Australia 92 Malaysia 71 Netherlands 52 Belgium 31 Canada 9 Sourcet Thailand Board of Investment; and, Ichikawa, Nobuko, Michael A. Cusumano and Karen R. Polenske, "Japanese Investment and Influence in Thai Development." M.I.T., Sloan School, WP No. 3182-90/PPS, July 18, 1990. 2.31 Although there is a widespread feeling that Japan and the other NICs are just transferring vertically integrated manufacturing into Thailand and relying mainly on domestic affiliated parts manufacturers rather than using truly local parts production, there is evidence that some firms are beginning to engage Thai producers for the supply of simpler products. Foreign firms have been teaching domestic suppliers how to upgrade their quality and increase capacity. A more direct transfer of technology through training and human development is thus occurring to supplement that acquired by Thai firms through imports of new capital equipment used in their manufacturing process. 2.32 In the past five years it is clear that the bulk of new net foreign direct investment (FDI) has been in industry (see Table 2.8) and that a not insignificant share has gone into services, mostly hotels and tourism. It is also interesting to note, however, the associated growth of FDI in financial institutions. Given the gestation periods required to get new industries off the ground and new enterprises on their feet, it seems quite likely that much of the foreign investment that has occurred over the past few years will not take full effect until the early 1990s when the new production comes on stream. - 21 - Table 2.8: NET FLOWS OF FOREIGN DIRECT INVESTMENT CLASSIFIED BY BUSINESS (Millions of Baht) 1979 1984 1989 Amount (Z) Amount (Z) Amount (Z) Total 1,127.5 100.0 9,643.6 100.0 44,742.3 100.0 Financial Institutions (546.3) -48.5 156.0 1.6 3,531.4 7.9 Trade 341.3 30.3 1,893.5 19.6 6,934.9 15.5 Construction 293.8 26.1 1,066.2 11.1 3,909.9 8.7 Mining and Quarrying 154.3 13.7 2,787.1 28.9 574.9 1.3 Agriculture 4.5 0.4 67.6 0.7 571.3 1.3 Industry 723.8 64.2 3,167.0 32.8 20,401.1 45.6 Services 156.1 13.8 506.2 5.2 8,567.3 19.1 Others (0.0) -0.0 0.0 0.0 251.5 0.6 Source: Bank of Thailand, July 1990. 2.33 The increasing industrialization and economic integration in the East and Southeast Asia region as a whole constitutes an exogenous factor beyond the control of the Thai government and resident company officials. It is strongly pushing Thailand to expand into new activities in the manufacturing sector. In particular, company efforts in Japan, the NICs, and other S.E. Asian countries, have been geared up to reorganize production systems to take advantage of different capital, labor, technology, and natural resources available in the Asia region, as well as in individual countries. This circumvents trade restrictions that have been bolstered by political protectionism against exports from Japan and the NICs. All these features have helped make Thailand the largest site for new Japanese investment in Southeast Asia and an important processing base for other firms centered in the NICs. D. Employment. Wages and Prices Employment 2.34 Table 2.9 illustrates the steady increase in paid employment over the past five years, particularly in manufacturing. It also underlines the extent to which women, increasingly, have participated in this progress. The economically active population, and those specifically in employment, rose by about a quarter between 1985 and 1990, with the greatest expansion occurring in manufacturing and the services sector. However, because "employed" persons are loosely defined as those who were working at least. one hour during the reference week, the figures may be overstated, particularly for women, many of whom are employed part-time or are engaged in seasonal activities. - 22 - Table 2.9: THAILANDt EMPLOYMENT INDICATORS (in thousands) N change 1985 1986 1987 1988 1989 /a 1990 / 1989-90 Economically active population 28,847 27,647 29,361 30,893 81,677 38,277 5.0 Male 14,428 14,848 15,578 16,138 16,752 17,456 4.2 Female 12,419 12,803 13,783 14,255 14,925 15,821 6.0 Employment 25,863 26,679 27,639 29,464 30,778 32,378 6.2 Male 13,972 14,380 14,905 15,719 16,349 17,155 4.9 Female 11,881 12,299 12,734 13,745 14,429 15,223 5.5 Agriculture, forestry and fishing 17,675 17,813 17,789 19,577 20,255 20,984 3.6 Mining & manufacturing 2,820 2,822 3,261 3,326 3,513 3,804 8.8 Social overhead capital and other services 5,357 6,044 6,599 8,562 7,010 7,590 8.3 Unemployment 996 98 1,722 929 899 900 0.0 Unemployment rate (U) 3.7 8.5 5.9 3.1 2.8 2.7 -4.8 /& Staff estimates. Source: Statistical Handbook of Thailand 1990, p. 80, 61, 68 and 1988, p. 70-71. Wages and Productivity 2.35 Labor productivity in the industrial sector has outstripped wage increases in manufacturing since 1980 so that the wage/productivity index, which may also serve as a proxy for an effective unit labor cost measure, has actually declined since the beginning of the last decade (see Table 2.10). In more recent years, however, wage costs have been increasing, and the index has moved steadily upwards by about 2 points a year. But there is little evidence yet of cost-push inflation or serious labor market disequilibrium. Formal employment and the economically active population continue to increase by around 4.5 percent a year and nominal unemployment remains low and has fallen consistently over the past three years. Reported days lost in labor stoppages are almost negligible and have in fact declined since last year. Apart from renewed concerns about wage levels and employment in public enterprises as a result of eventual privatization and consequential threats of work disruption, the labor market appears remarkably stable and is not, overall, a cause for serious concern in 1991, other than in the area of skill shortages. - 23 - Table 2.10: MANUFACTURING WAGES AND PRODUCTIVITY (1980 - 100) Manufacturing Labor Wage/ Real Manufacturing Wage Index Productivity b Productivity Wage Index /c (1) (2) (1)/(2) 1978 71 96 75 94 1979 82 101 81 98 1980 100 100 100 100 1981 118 104 113 105 1982 122 118 104 103 1983 131 125 105 107 1984 146 135 108 118 1985 155 134 116 122 1986 165 141 118 128 1987 193 158 123 146 1988 233 181 129 169 1989 /a 261 195 134 180 1990 /a 293 210 140 190 /a Staff estimates. /b Industrial output index + Manufacturing employment index. /c Column (1) + Index of Consumer Prices. Source: UNIDO, as of April 17, 1991 and staff estimates. Prices 2.36 Consumer Prices. In the second half of 1990, the CPI rose by 5.9 percent from the corresponding period in 1989. This brought inflation up on an increasing trend to 6.1 for 1990 which, while only marginally higher than the 5.4 percent increase of the previous year, was well above the below 4 percent rise in 1988. The biggest jump occurred in October when the CPI advanced by 2 percent largely due to the official upward adjustment in retail oil prices by 34.1 percent in September. Part of the increase in the CPI may also reflect the growth of domestic demand induced by increased income, particularly non-agricultural income, related to capital gains realized from real estate sales and securities. Capital gains in these sectors not only pushed up prices but also created a wealth effect boosting privat i consumption. 2.37 The pressure on food prices, other than for the staple products where prices have kept low, continues to be strong; food prices rose by 8.2 percent, while the non-food items rose by only 4.7 percent. The prices which increased most sharply were fruits and vegetables, prepared foods, and non-alcoholic beverages. Those in the non-food categories registering substantial price increases included clothing, tobacco, alcohol.- beverages, medical care, and personal services. By region, the CPI for the Bangkok metropolis rose fastest by 6.6 percent compared with only 4.0 percent for the rural Northeast and 3.3 percent for the North. The basic inflationary pressure in 1991 is projected to increase because of higher interest rates and demands for higher wages. The - 24 - implementation of a value added tax, possibly of 10 percent, will also have a one time inflationary effect, though it will be partially balanced by proposed reductions in import duties on final products as well as intermediate goods. Official fears of an escalation of inflation have reinforced tight monetary policy and a conservative fiscal stance is being maintained to contain excessive demand pressures. The overall GDP deflator has kept remarkably stable and is expected to remain between 5 and 6 percent in 1991. Table 2.11: CHANGES IN PRICE INDICES 1985 1986 1987 1988 1989 1990 /a Wholesale prices /b '.0 -0.4 5.9 8.2 4.6 3.5 Consumer prices 2.5 1.8 2.6 3.8 5.4 6.1 Import prices ($) -4.7 -4.2 10.6 12.2 6.1 1.3 Import prices (baht) 9.5 -7.2 8.2 10.4 7.9 0.9 Export prices ($) -10.6 7.5 9.3 16.0 0.1 -0.2 Export prices (baht) 2.7 4.1 6.9 14.1 1.7 -0.7 GDP deflator 0.7 3.3 4.0 7.1 5.2 5.0 /a Provisional in the case of the trade price indices and GDP deflator. /b The Wholesale Prices Index is now known as the Producer Price Index. Source: IFS, April 1991; Department of Business Economics, Ministry of Commerce; staff estimates. 2.38 Producer Prices. Compared with the above 6 percent movement in the CPI, the wholesale prices index increased by only 3.5 percent, and actually decelerated from its 4.6 percent increase in the previous year. Manufactured products registered the highest price increase of 4.8 percent followed by beverages, and agricultural products. Shortages in construction materials and higher oil prices contributed to this increase. The sharp decrease in the index was due to falls in the price of animal feed and lower prices for broken milled rice and rice bran, duties on which were also reduced. Moreover, in the middle of the year, the government announced an average reduction of about 22 percent in the surcharge rate for imported animal feed. Because of the underlying upward trend in intermediate goods prices which is expected to increase sharply in 1991, the PPI is projected to rise faster than the CPI in 1991. 2.39 Export Prices. Since agricultural exports such as rice, maize, coffee beans, and rubber obtained lower prices in the world market in 1990, the Export Price Index declined by 0.6 percent. Minerals and sea salt also registered lower export prices compared with the corresponding period in 1989. The historical basis of the index with reference year weights of 1985, and the use of unit values, however, does not adequately reflect the proper importance of industrial goods which have expanded rapidly since that date, and more recent trends in the export prices of manufactured goods are not comprehensively captured. The index is therefore somewhat misleading and will become increasingly more so with the passage of time and declining importance of traditional agricultural exports. - 25 - III. MONETARY AND FISCAL DEVELOPMENTS 3.1 During 1990, the Government implemented a number of monetary and fiscal adjustments, including certain related "fine tuning" measures, to help sustain economic growth. In particular, various restrictive measures previously kept in place to control economic conditions were abolished or relaxed, including foreign exchange control, the semi-deregulation of oil prices, abolition of the ceiling rates on time deposits of not more than one year, and the lowering of (or exemption from) tariffs and taxes on raw materials and agricultural related items. A. Monetary Policy Changes and Interest Rates 3.2 Monetary policy, which is complicated by the size and potential volatility of foreign capital inflows, is aimed at restraining private credit and stabilizing the growth rate of total money supply. Given the high degree of openness of the Thai capital market, and relatively small share of domestic savings and investment, the money supply is largely endogenous in the short-term and difficult to control, at least in part because the present exchange rate is essentially a 'dirty' float. Some short-term interventions, however, have been effective, as evidenced by the divergence between domestic and international interest rates when the authorities have stepped in to restrain liquidity and avoid overheating. But their impact tends to be temporary. Monetary restric- tions imposed early in 1990 in response to fears of overheating were not very effective. Although the money supply was about a quarter higher in 1990 than in 1989, on a year-end basis, the level of bank lending and money supply were still much higher in the last quarter of 1990 than they were 12 months previously. In the latter half of 1990, however, the rate of expansion of the money supply began to slow down and the policy of higher interest rates and tight liquidity seemed to work better in curtailing credit. Less optimistic external demand features, plus additional physical limits introduced by the authorities, combined with domestic supply bottlenecks, however, were probably equally instrumental in helping to restrain the earlier growth rates in money aggregates. 3.3 The Bank of Thailand was particularly active in 1990 in attempting to curb, through lending ceilings, the rapid rise in liquidity caused mostly by the substantial expansion in commercial bank credit. Loan rates were increased, first, from 15 to 16.5 percent, and later to 19 percent. It also urged the banks to monitor their lending portfolios more closely. The subsequent constraints on liquidity plus obligatory payments by firms to government generated, later in the year, fierce interest rate rivalry among financial institutions as each competed to find new depositors and raise its level of deposits. Simultaneously, there was an increase in the ceiling rate on savings deposit which rose from 7.25 percent to 9 percent in March, with a further rise to 12 percent in November. - 26 - Table 3.1: RATES OF CHANGE OF MONETARY AGGREGATES (Percentage) 1985 1986 1987 1988 1989 1990 Ml /a -3.4 19.3 29.3 12.2 17.6 11.8 M2 /b 10.5 13 0 20.4 18.2 26.3 26.7 M3 /c 10.1 11.6 19.3 17.8 26.0 27.0 Net Domestic Assets Domestic credit A Ld 7.8 8.6 21.3 23.9 26.1 29.1 Private sector credit 11.0 4.2 22.6 29.4 31.3 34.8 Domestic credit B /e 8.4 6.0 17.8 15.6 22.4 24.2 /a M1 = currency plus demand deposits. /b M2 - M1 plus time and savings deposits. /c M3 = M2 plus other financial institution deposits and debenture issues plus commercial bills and CDs. /d Domestic credit A = Domestic credit extended by banking system. /e Domestic credit B = As above plus domestic credit extended by nonbank financial institutions. Source: IFS, June 1991. 3.4 To create higher potential for growth while maintaining monetary stability, the Government has pursued a flexible policy which involves deregulating financial institutions and encouraging more efficiency in the system. In view of this development, the Bank of Thailand has recently abolished the interest rate ceiling on time deposits (see Table 3.2). In moving to a more flexible policy, it subsequently increased the interest rate ceilings on saving deposits and lending to give greater room to commercial banks for interest rate maneuvering. However, the Bank of Thailand continues to advise commercial banks on observing prudence in their lending policies, especially for projects and items with a high consumption component. The authorities recognize the extension of credit, particularly to the real estate sector, appears to have been instrumental in fuelling asset price increases and property speculation. - 27 - Table 8.2: INTEREST RATE STRUCTURE OF FINANCIAL INSTITUTIONS, 199 (percent per annum) Interest Rates Effective Former New date Remarks Bank of Thailand Bank rates for commercial 8.0 12.0 ) 9.5 ) banks ) ) ) November 14 ) April 9 Bank rates for finance 9.0 12.0 ) 9.6 ) companies Discount rates on promissory 9.0 10.6 ) No longer specified notes arising from textiles ) Excluding the penalty exports to the U.S.A. ) June 11 rate on promissory ) notes arising from Penalty rates 5.0 8.5 ) exports of textiles which remained un- Cellings for Commercial Banks changed at 3% p.s. Deposits savings deposit 7.25 12.0 November 28 From 9.0 In March 30 fixed deposit (one year and below) 9.6 floating March 16 From 18.5 on March 16. Loans and overdrafts 15.0 19.0 November 28 The maximum lending rates charged sma II housing - loan borrowers by commercial banks and finance and credit companies remained at 15 and 18% p.a., respectively. Addi- tionally, the small housing-loan bracket was increased from "not exceeding B 400,000' to "not exceeding B 500,000' and the value of assessed property from 'not exceeding B 500,0000 to 'not exceeding B 50,000.' Ceilings for Finance and Credit Fonder Companies Promissory notes 12.5-13.6 18.0 November 28 From 16.0 on March 16 Loans 18.5 21.0 From 19.6 on March 16 3.5 The Bank of Thailand lowered the requirements on government bond holding related to the opening of new bank branches (excluding bonds traded in the repurchase market) from 12 percent of deposits to 10 percent, and then from 10 percent to 8 percent of deposits. Similar requirements on total bond holding were also relaxed. Further, it permitted an increased line of credit (more than double) to commercial banks possessing adequate bond collateral. Commercial banks were also allowed to increase foreign-exchange holdings from 20 percent to 25 percent of capital funds, not exceeding 5 million dollars. - 28 - 3.6 On the international front. Thailand has had no current account restrictions for a number of years. The first stage of capital account liberalization was completed following the country's official acceptance of Article 8 of the Articles of Agreement of the International Monetary Fund (which refers to current account liberalization) when greater autonomy and authority was given to commercial banks in approving foreign exchange transactions, and regulations on certain capital account transactions were lifted or liberalized. Relating to this there have been wide discussions about Thailand's potential to follow the same growth path as Asian NICs and whether it has the essential requirements for an efficient financial system. Certain institutional and financial structural adjustments may be necessary to cope with future challenges, including the development of full open market operations. 3.7 As a strategy to gear the economy towards a more market-oriented and externally focussed course, the Cabinet approved in November 1990 the second stage of exchange control relaxation. Effective April 1991, this will enable market participants to have greater flexibility in arranging capital movements. Other measures in the pipeline include widening the scope of activities of banks and finance and securities companies, removing obsolete laws, and abolishing regulations retaining to barriers to financial institutions' operations. Action to intensify prudential regulation, particularly on the capital adequacy requirement, which is designed to comply with international standards, is being introduced. All these should place dealings on a firm financial footing and ensure continued sound monetary behavior in the future. 3.8 With the substantial increases in private and public infrastructural investment envisaged, mobilizing adequate domestic saving is recognized as a high priority. Domestic savings are necessary to support these new levels of investment and to help reduce excessive reliance on foreign capital. Due to the widening domestic savings-investment gap, the authorities have endeavored to develop the securities market as an institution xith an increasingly important role in mobilizing long term savings. Measures have been implemented both on the demand and the supply side to facilitate and develop trading in the Securities Exchange of Thailand (SET). Policies to stimulate the stock market and to help it function more effectively include a reduction of the loan margin required to buy stock from brokers listed on the SET from 100 percent to 50 percent (to improve stock market liquidity), and allowing finance companies to expand their stock portfolio. Foreign portfolio investment is being promoted through the setting up of the Second Trading Board, or Alien Board, and the establishment of country funds. Internationally recognized organizations, like Thai International Airways, are being encouraged to seek share quotation on the Stock Exchange. Institutional investors have also been given more flexibility to invest their funds in securities. All this has been considerably encouraged by the recent relaxation of exchange controls. Despite some setbacks the Thai stock market's generally sound and, at times, spectacular performance may be attributed to both favorable external factors and timely policy measures, and the authorities are continuing to refine their processes of guiding, signalling, surveillance and warning to ensure the orderly conduct of business. 3.9 In the private sector, the liberalization of the long-term deposit interest rate ceiling in March 1990 led to more competition to mobilize deposits, while the raising of lending rates in November 1990 introduced more balance into the system. The authorities also introduced a policy to broaden - 29 - the range of saving instruments as a high priority and this was accompanied by restraints on excessive private lending. As part of the Bank of Thailand's policy of voluntary persuasion to control private credit expansion, it has asked the banks to scrutinize more carefully the types of loan and amounts of credit being extended to domestic enterprises. 3.10 The priority of monetary policy is to allow continuous expansion while trying to avoid intensifying frictions and over-exertion of resource capacity that could obstruct long-term development. In this regard, interest rate policy will continue to be flexibly pursued to reflect market factors. The government also plans to introduce a secondary bond market to help overcome the shortage in domestic long term savings and to help mop up some of the excess liquidity in the market. 3.11 The government attaches considerable significance to maintaining economic stability and to keeping inflation, the balance of payments and debt under control as priorities over economic growth. Although the Gulf crisis had an unavoidable impact on manufacturing activity, tourism, and the construction industry, slowing down the completion of existing Iuilding and delaying new real estate projects, the economy proved remarkably resilient. Thailand is expected to grow continually into the middle of the 1990s. Real money supply growth, although still substantial, slowed considerably in 1990. The authorities have not found it necessary to impose further significant credit restrictions and lending ceilings additional to those implemented earlier in 1990. The Government will continue to facilitate development, encourage market liberalization, and support private sector enterprise as the main force behind economic growth. It will do this through appropriate interest rate policy and the use of a range of other monetary instruments at its disposal. B. Fiscal Policy 3.12 Thai policymakers are concerned that any underlying financial weaknesses should not jeopardize the country's prosperity. In the public sector, the Government will pursue its present prudent monetary and fiscal policy. Consequently, budgetary expenditure will be contained. The authorities see scope for further rationalization of the tax system to enable them to raise even more revenue and increase tax efficiency if necessary, even though current receipts continue to run at a considerably higher level than budgetary outlays. 3.13 Table 3.3 below shows that not only has an annual budget surplus been achieved over the past three years, but that it has increased significantly over those years. This satisfactory state of affairs is expected to continue into the present 1990/91 fiscal year, despite the temporarily higher prices resulting from the recent oil crisis, and increased public sector pay awards. In 1989/90 the surplus reached over 5 percent of GDP, although it is officially projected (somewhat conservatively) to decline from this record level to around 1 to 2 percent in 1990/91. The surpluses of recent years can be viewed as a direct result of the extra boom-generated revenues from taxation which have not been offset by corresponding increases in current expenditure. The current surplus would permit a 30 percent expansion in government expenditures, but the latest proposed fiscal actions suggest the authorities are more inclined to favor tax reductions over increased social outlays. For the 1991/1992 fiscal year, the Government intends to implement, for the first time in Thailand's history, a balanced budget. Following three years of surplus, however, such a - 30 - balanced budget might be viewed as expansionary rather than contributing to fiscal restraint, even though it partially reflects an expected slowdown of growth. The changes in the last few years from deficit into surplus and to the introduction of a balanced budget, underlines the importance of analyzing governuent actions in the light of the cyclically adjusted fiscal position. This would also ensure that a consistent policy is pursued in relation to the fundamental budgetary situation. Table 3.3: FISCAL DEVELOPMENTS, 1987-90 1982-86 1987 1988 1989 1990 Consolidated Public Sector (in billion baht) Revenue 147.6 192.5 245.6 309.2 395.0 Expenditure 181.7 207.8 220.6 248.3 291.2 Deficit (-)/surplus -34.1 -15.3 25.0 60.9 103.8 Consolidated Public Sector (in Z of GDP) Revenue 15.3 15.4 16.3 17.4 19.3 Expenditure 18.9 16.6 14.6 14.0 14.2 Deficit (-)/surplus -3.5 -1.2 1.7 3.4 5.1 Consolidated Public Sector (annual percentage change) Revenue 16.5 27.6 25.9 27.7 Expenditure 1.9 6.2 12.6 17.2 Source: NESDB, January 15, 1991. 3.14 The budgetary position in 1990/91 is sound with revenues continuing to grow more strongly than expenditures. Indeed, the fiscal out-turn is now projected to be much better than originally expected. A substantial rise in current government expenditure due to an increase in the official salary scale, as well as unexpected expenditures related to natural disasters and other catastrophes, have not undermined a surprisingly good fiscal position. The record national government budget surplus of 103.8 billion Baht in fiscal year 1990 (107.0 billion in CY90) arose from a significant increase in revenue collection that was largely unanticipated. This resulted mainly from four major sources of tax revenues; personal income tax, corporate income tax, excise tax and import tariffs, each of which - reflecting the boom economic conditions - increased by at least 30 percent over 1989. 3.15 Current disbursements rose by much less than current revenues, increasing by only 18 percent. An average 10 percent increase in official wages - Z1 - and salaries, together with expenditure carried over from the previous fiscal year (due to a previously low disbursement rate), were the main reasons for this cost increase. The low disbursement rate occurred mostly because of physical constraints; shortages of construction materials, and the extension of construction contracts by 180 days (a move designed to moderate the demand for resources in this sector). Better management and more streamlined administrative procedures are likely to contain expenditures and to speed up planned capital expenditure outlays in the future. 3.16 Even more than in monetary policy, public fiscal accountability remains conservative. Although revenues will be affected by a slightly lower growth rate and wide-ranging tariff reductions, the intended (but delayed) switch to a value added tax in early 1992 should help keep tax receipts extremely buoyant. The proposed privatization of public assets should also contribute to a substantial increase in public sector receipts. These resources are expected to finance, at least partially, urgently needed infrastructure development. The government is conscious of the need to raise, nevertheless, prices charged by public enterprises, particularly following the increase in domestic fuel prices. It is also aware of the importance of restoring operating surpluses to satisfactory levels, especially in the light of privatization plans. 3.17 Import tariffs were lowered in a move to assist producers and to improve domestic market conditions. Import taxes on machinery and equipment under Customs Tariff Codes 84 and 85 (mostly industrial and agro-industrial machines, including electrical machinery) were reduced from an average of 20 percent to a flat 5 percent in October, 1990. These steps were taken to ensure greater fairness for small industrial investors who can not obtain Board of Investment promotional privileges, and to help firms reduce production costs. The use of new machines and equipment consuming less energy was also promoted. These tax reductions are aimed at eliminating the long-running tax discrimination between large and small-scale manufacturers. 3.18 Despite the large cash surplus, the Government has continued to borrow to sustain the bond market, through making bonds available to those financial institutions required by government statute to hold such securities as capital cover. Part of the borrowing was also as a precautionary measure against future needs. The Government has reduced some of its external and internal debts by prepaying certain domestic and foreign loans, with the desirable consequence of reducing debt interest commitments on the budget account. C. The Exchange Rate 3.19 Good macroeconomic policy and money management have been largely responsible for the recent stability of the real exchange rate and for making the earlier devaluation at the end of 1984 effective. There has been some discussion about the present level of the exchange rate. It is suggested Thailand's currency is undervalued and needs strengthening as a way to control capital inflows and dampen excess demand, especially because the baht has lost ground against key currencies like the U.S. dollar (but only marginally), sterling, and the Deutschmark. The baht's value does not yet float freely but is determined by a weighted basket of currencies, reflecting trade patterns and settlement currencies. In practice, however, since the last devaluation at the - 32 - end of 1984, the baht has been loosely linked to the dollar. This is mainly because a large share of trade and other payments are settled in the U.S. currency, even though formal direct trade with the US represents less than one fifth of its total value. Table 3.4: EXCHANGE RATE DEVELOPMENTS (1985 - 100) Nominal Effective Real Effective Exchange Rate la Exchange Rate /b 1984 110.9 112.5 1985 100.0 100.0 1986 89.8 89.1 1987 85.3 83.9 1988 83.0 81.1 1989 84.5 83.2 1990 84.8 83.9 Ia Trade-weighted average of nominal exchange rates; an increase in the index indicates appreciation. Lb Trade-weighted average of real exchange rates (nominal rates adjusted for differential inflation); an increase in the index indicates appreciation. Source: IMF, International Financial Statistics. 3.20 The growing regional focus of Thailand's trade and the expected development of tourist flows from Japan and Korea (and perhaps, to a lesser extent, Australia and New Zealand) may indicate the desirability of some future review of the underlying determinants of the external value of the baht, possibly involving some loosening of the present close implicit relationship to the U.S. dollar. Whether such a move would lead to an appreciation or depreciation of the baht is not clear but, in present circumstances, any currency change is unlikely to be significant. The prevailing rate favors an improved balance of payments position, which has recently weakened thus strengthening the case against any appreciation. The existing level of the baht should not adversely harm the viability of agricultural production, nor encourage any undesirable excessive importation of consumption goods. - 33 - 3.21 Given the government's general economic philosophy of openness, and assuming the overall thrust of development policy towards greater liberalization is maintained, the continuing careful and conservative monetary and fiscal management would imply that direct intervention in the foreign exchange market is uncalled for at this time. Furthermore, if a proper framework has been put in place, and the external value of the baht accurately represents, as the authorities argue, the actual demand and supply of the currency on the international market, then interference should be unnecessary. In principle, the process of trade and currency settlement, freely negotiated in the market, should determine the appropriate level of the real effective exchange rate. 3.22 Because of the rather sluggish outlook for the world economy, and perspective of slower growth, some have even argued for a flexible downward movement in the present exchange rate to avoid price controls and further interest rate adjustments. The country expects to have a significant current account balance of payments deficit throughout most of the nineties, the size of which will be partially dependent on future oil prices. It seems extremely doubtful that a basic external balance will be achieved in 1996, and this is now reflected in the projections of the seventh national plan. Thailand will also remain a net debtor throughout this period. With the acknowledged uncertainty and volatility of foreign private investment inflows, it could prove injudicious at this stage to rely too heavily on external sources as a means of financing ongoing current deficits. An appropriate exchange rate would be one that ensures a sustainable current account balance of payments position through the nineties wile creating sufficient scope to permit some private debt repayment and continued debt servicing. 3.23 Although international comparisons program (ICP) measures of the purchasing power parity (PPP) rate in 1985 (following the baht's devaluation) indicate that the baht was undervalued against the U.S. dollar, all countries at a similar level of development show the same tendency. (The reasons for this have been well documented. In addition, the dollar's value in 1985 was at a re-ord level against all currencies.) Since 1985, the situation has narrowed in line with changes in the respective rates of domestic inflation between Thailand and the U.S. In recent years, the nominal exchange rate has deviated very little from the real effective exchange rate, despite the 1990 current account deficit. The danger of any currency appreciation is that it will affect the country's competitive trading position and undermine the capacity of some sectors to raise output and productivity. It will encourage an already growing consumer demand for imports, especially of luxury goods, but even also food products. Given that domestic prices are rising, annually, at a very similar level to world inflation rates, and that most wages in Thailand are growing only marginally faster, there seems to be no pressing need at this stage to revise the existing exchange rate. - 34 - IV. THE EXTERNAL ACCOUNT A. The Current Account 4.1 The balance of payments on current account moved deeper into the red during 1990 and the deficit has been growing fast since 1986 (see Tabit 4.1) because of the expanding trade gap. While still covered by substantial inflows of private foreign capital, the current deficit more than doubled between 1989 and 1990. It now represents around 7.3 percent of GDP. This level is historically high and similar to that at the beginning of the last decade when the economy ran into structural difficulties. The payments problem in 1990 was caused as much by a marked decline in the rate of growth of exports as by an increase in imports. This was because of the stagnant sales of traditional crops and the fall in the number of tourists (just at the peak season) as a result of the Gulf War. The level of imports showed an abnormal increase because it was bolstered at the year end by a general cut in tariffs, and other special features unlikely to recur. There was also a slight deterioration in the terms of trade as export prices fell and import prices rose by around 1.0 percent in 1990. The lower export prices, however, will keep Thai manufactured goods competitive in the international market. Some of these issues, and the importance of foreign direct investment in the balance of payments equation, have been discussed already in para. 2.24 above as "External Markets and Influences." 4.2 Despite the tightening of monetary policy through higher interest charges and more restricted credit imposed earlier in the year, the demand for foreign merchandise, which continues to be mostly funded from external sources, remained strong. Exports should be helped in the future by the establishment of a proper export-credit bank with guaranteed insurance backing to replace the increasingly ineffective credit system designed primarily to help small exporters. The merchandise trade account should also benefit from the expected recovery in agricultural exports in 1991. The country enjoys trade surpluses with the USA and European Community, but runs a substantial and growing deficit with Japan, and a somewhat smaller deficit with ASEAN. Table 4.1: BALANCE OF PAYMENTS SUMMARY, 1985-90 (Uss MiIlion) 1985 1986 1987 1988 1989 1990 Ls Current Current Account Balance (1,537 247 365 1,655) (2,455) (5,675) Service Balance (370 (368) 16 184 251 2,697 Transfers (net) 165 225 225 236 243 199 Capital Lgn-term Capital (net) 1 608 55 375 1,210 4 198 3,346 Short-term Capital (net) (90) (216) 654 2,614 2,323 3,462 Errors and Omissions 103 598 248 897 946 878 Overall Balance 81 683 912 2,5668 5,012 2,009 /a Preliminary. Source: Bank of Thailand; IFS, April 1991. - 35 - Exports 4.3 In 1990, export values grew by around 16 percent compared with the previous year. Export promotion and export diversification continue to be important policy objectives. There was a 25 percent growth in -he export value of textile products, but the value of eight principal commodities decreased by 7 percent, due mainly to a sharp drop in exports of rice, rubber, tapioca and tin. Other exports, mostly manufactured products, continued to grow favorably, at around the overall average rate. If weather conditions remain normal, prospects for traditional agricultural exports should improve in 1991. The demand for existing Thai manufactured exports is expected to remain strong and each month, new products are being added to the range of exports for sale. Since no substantial price rises are expected, Thailand's overall export performance in 1991 should be better than in 1990, especially with the further opening up of the Japanese market. Table 4.2 shows a certain structural stability in the pattern of markets and little change in the destination of exports is likely in the short run unless there is some adjustment to the existing exchange rate regime. Table 4.2: DFeTINATION OF EXPORTS (percentage) 1985 1986 1987 1988 1989 1990 /a United States 19.7 18.1 18.6 20.0 21.7 21.9 Japan 13.4 14.2 14.9 16.0 17.0 16.7 Singapore 7.9 8.9 9.0 7.7 7.1 7.1 Others 59.0 58.8 57.5 56.3 54.2 54.2 Total 100.0 100.0 100.0 100.0 100.0 100.0 /a Data of January-September, Direction of Trade Statistics, March 1991. Source: Statistical Handbook of Thailand, 1988 (p. 174) and 1990 (p. 164), and above. Imports 4.4 Import values on an f.o.b. basis meanwhile rose in 1990 by 27.4 percent over 1989 with Japan being the single most important source of supply (Table 4.3). Though considerably higher than the increase in exports, this was, nevertheless, a slightly lower rate of growth than each of the three previous years. Consumer goods and capital items (excluding vehicles) recorded the highest growth, but accounted for 9.0 and 38.1 percent, respectively, of total imports in 1990. Oil imports represented just over 8 percent. The trade balance posted a record deficit, with an increase of 70 percent over 1989, which represented 11.5 percent of GDP. The high import bill reflects the demand for goods needed to raise industrial output levels. It covers those items and facilities used and paid for mostly by foreign firms. In 1991, the growth in import:. should moderate and, with an open trading system, future costs should rise no faster than world prices. Again, only marginal changes are - 36 - expected in the origin of imports except a continuation of the trend to acquire more goods from Japan and the S.E. Asian region. Table 4.3: ORIGIN OF IMPORTS (percentage) 1985 1986 1987 1988 1989 1990 United States 11.3 14.3 12.5 13.6 11.3 11.2 Japan 26.5 26.4 26.0 29.0 30.3 30.4 Singapore 7.5 6.6 7.8 7.4 7.7 8.4 Others 54.7 52.8 53.8 50.0 50.7 50.1 Total 100.0 100.0 100.0 100.0 100.0 100.0 Source: Statistical Handbook of Thailand, 1988 (p. 174) and 1990 (p. 164). Non-Factor Services and Tourism 4.5 The revenue from services increased strongly and the non-merchandise balance displayed a large surplus as income from tourism once again reached a record level in 1990, despite the international political uncertainties and rapid fall off in visitor arrivals at the year end. The positive service balance helped offset the trade deficit, but the current account deficit remained high. 4.6 Tourism revenues have increased in importance as a means of reducing the deficit on the balance of payments, reaching $3.5 billion overall in 1989. Receipts in the service balance have increased more than three-fold since 1985, with tourism accounting for more than half of the foreign exchange earnings and about one-fifth of the income earned from exporting industry. With the cessation of hostilities in the Gulf, the prospects for tourism in 1991 are not as dismal as was earlier anticipated. The number of tourists from the Middle East countries and Eastern Europe will almost certainly decline, but their market share is very small (less than 3 percent in the former case). Japan will continue to be a major source of tourism in the next few years as the government has introduced the "Ten Million Program" to encourage Japanese to visit other countries. New airline links with Japan have recently been opened expanding the potential capacity on this route, and the frequency of flights to and from Europe and Australia has also increased. Currently, in total, 6 million visitors are expected in Thailand in 1991 and these should bring in a similar amount of receipts in billions of dollars. Thailand remains one of the best tourist locations in the region because of its comparative cost advantage and many cultural attractions. Factor Services and Transfers 4.7 In 1990 investment income in the public sector rose to a high level, but labor service income and migrants' transfers declined as short term migrant workers in the Middle East were forced to return home. Most remittances go towards the purchase of land and housing, but to the extent they are also used for vehicles, imports could also have been affected. With the prepayment of some public debt, the corresponding interest service payment component was reduced, but the accrual of - 37 - dividends on foreign private sector capital holdings is a growing liability and likely to lead to much higher outlays on this account in the future. B. The Capital Account 4.8 Net capital movements in 1990 showed a huge surplus, increasing by 40 percent over the previous year. The surplus in the private capital account rose by the highest amount ever as net foreign borrowings more than doubled, prompted by the exemption of withholding tax on foreign loans (at least until February 1990) and also by exchange control deregulation in May. Consequently, despite a large deficit in public capital caused by a huge prepayment of past loans, net capital movements still registered a substantial surplus in total and this more than offset the current account deficit. The overall balance of payments thus remained in significant surplus and international reserves at the year end rose by a third, having previously risen by 36 percent between 1987 and 1988, and by 48 percent betwecn 1988 and 1989 in US dollar terms. Table 4.4: EXTERNAL DEBT DEVELOPMENTS 1985 1986 1987 1988 1989 1990 Ib Total external debt (US$ billion) 17.5 18.6 20.7 21.8 23.5 27.1 Medium- and long-term debt (Z) 75.3 78.9 82.4 75.0 72.8 77.5 Short-term debt (M) 18.3 15.3 12.. 22.0 26.0 21.8 Debt service payments (US$ billion) 3.3 3.7 3.5 4.2 4.3 3.0 Principal repayments (Z) 58.2 63.5 61.4 62.5 61.7 50.9 Interest payment (%) 41.8 36.5 38.6 37.5 38.3 49.1 Debt service ratio /a 35.8 32.9 23.7 20.6 16.3 9.6 Debt/GDP ratio 46.9 44.6 43.2 36.6 34.0 33.8 Growth rate of external debt 17.0 5.9 11.6 5.4 7.5 15.4 /a Exports of goods and non-factor services. /b Projected. Source: World Debt Tables, 1990-91. 4.9 There has been a major shift in financing away from debt, and public debt in particular, towards direct foreign investment. This emphasizes the underlying confidence of private investors to generate sufficient income to secure an adequate return on their shareholders' equity and meet outstanding commercial interest payments which, though low now (see Table 4.4), are likely to grow significantly in coming years. One issue of concern, however, is the extent to which investors, encouraged by recent changes in the tax position and the need to finance working rather than investment capital, have switched from long-term lending to shorter-term credit options. This introduces potential element of insecurity which could prove worrying if external confidence is undermined, although, todate, as discussed earlier in paras. __, there has been no perceptible lessening of foreign investment interest in Thailand. - 38 - V. EMERGING ISSUES 5.1 Thailand's rapid economic growth has provided both opportunities and future challenges. Economic growth can provide the means to tackle deep-seated questions, such as that of poverty, and solve some of the problems growth itself has created, such as environmental damage. The first major issue that confronts the government today is the sustainability of economic growth. This includes measures to preserve incentives for investment, both domestic and foreign; policies to encourage the growth of tourism; strengthening the infrastructure; and the enhancement of technology. The second key issue concerns the distribution of income and wealth, and the elimination of poverty (both individual and regional). The third critical issue is the amelioration of environmental problems, some of which existed even before the recent rapid growth. Within this last category it is possible to include the spread of the AIDS virus as an official concern. A. Sustainability of Economic Growth Problems of Over-heating 5.2 The sustainability of GDP and the maintenance of an acceptable quality of life require a judicious balance of policies directed towards the preservation and rehabilitation of capital, particularly public infrastructure, and a greater focus on regional development and the rural areas. Many believe that the rapid economic growth of the past few years is not sustainable. The continued strong economic demands in 1990, following three years of expansion, were already beginning to create problems, and output was disrupted by the lack of skilled manpower and by materials shortages. In addition, some pressures for wage increases, especially from low wage employees began to emerge. Serious infrastructural bottlenecks affected distribution and supply shortages occurred as producers reached capacity output levels. Since the end of 1990, the rate of growth--though still high, both historically and compared with other countries --has moderated, reducing some pressure points. The Infrastructure 5.3 The Thai authorities are acutely aware of the current infrastructural problems which constrain the country's development potential and raise production costs. They acknowledge the present system is inadequate in providing an efficient economic and social service. Because the recent output growth and industrialization occurred so quickly, existing highway facilities, the telephone system and power supplies were not sufficiently developed to satisfy the new demands of industrial operations and to support the higher level of economic activity in the country. 5.4 The government has, therefore, unveiled a plan to tackle the worsening infrastructure bottlenecks, particularly in the urban areas. Various types of infrastructure and communication systems are being improved or expanded to lessen existing capacity problems. Among the most important decisions taken in 1990 are the development of the Skytrain, the elevated railway (Hopewell Scheme) and road, and the expansion of the country's telecommunications system (CP Telephone). The combined cost of these projects amounts to over 300 billion - 39 - Baht. The construction of Expressway Phase II has already begun and the Laem Chabang commercial port was scheduled to be ready for partial operational use in early 1991. All of these projects have significant economic inter-linkages. They are critical to increasing the efficiency of industrial and commercial activity, and to improving the competitiveness of Thai enterprises. Predict- ably, however, they have long lead-times and efforts to accelerate their pace may prove costly. In retrospect, a more forward-looking approach to infrastructure development, such as followed elsewhere in SE Asia, may have been preferred. 5.5 Future plans for the development of infrastructural facilities in the nineties include, among the more important projects, upgrading Bangkok International Airport and the possible development of a second commercial airport (the submission of development plans for which have been called for) to relieve existing traffic congestion; the speeding up of the present telephone project (and the creation of greater competition in providing telecommunications services to the public by encouraging much stronger private investment involvement); and the promotion of the Laem Chabang Deep-Sea Port Project as an international port equipped with an inland container depot. Electricity and oil prices will also be made free of political decisions. This is linked to greater private participation in power generation to encourage investment and raise production to satisfy the rapidly increasing demand. 5.6 The government wishes to promote basic industries, such as petrochemicals and steel, financed by foreign investment, because it believes these will create jobs and attract advanced manufacturing investments. Heavy industries will require immediate and extensive investment to expand urban roads, water supplies, waste processing and port facilities, and to raise the quality of the infrastructure. The authorities have already moved partially in this direction with the Eastern Seaboard Project initially designed to utilize natural gas in the Bay of Thailand. The government once suspended the project, in part because of high interest rates and slow growth in the Thai economy during the early 1980s, but later it resumed development to meet the requirements of new foreign investors, primarily the Japanese, and to reduce congestion in the port of Bangkok. Major construction projects, alongside renovation and rehabilitation programs, are to be implemented to bring about immediate improvement. 5.7 In the area of public enterprise development, particularly in the transportation and energy sectors, the main emphasis of policy in recent years has been on improving tariff structures and eliminating subsidies in preparation for private divestiture. The Government has adopted a policy of partial privatization of some state enterprises with the wider objective of securing private sector finance for infrastructure development and improving management efficiency. It proposes to float the stock of public enterprises on the Thai Stock Exchange. The participation of the private sector in investment projects and management service contracts by means of granting particular concessions (to carry out specific tasks) will be encouraged in a move to further separate political interests from traditional public enterprise activity. - 40 - Technology Enhancement 5.8 Forward looking enterprises believe a key issue will be how to transfer new technologies to Thailand when the country is facing domestic constraints and strongly competing claims for existing scarce resources. The scope, speed and content of technological enhancement and the associated concern of skills availability are more critical than that of financing, particularly in the context of sectoral policy reforms in agriculture and transportation. An increase in the rate of human and physical investment, through the acquisition of new skills and technologies, should have a signif iant positive effect on the rate of increase in labor productivity and, hence, un the sustainability of income growth. The importance of acquiring appropriate machinery and equipment embodying the latest technology is crucial to this process. This implies keeping capital imports at a high level (for which more domestic financing should be found) to speed up this transfer and improve efficiency. Such machinery imports are mostly funded from private foreign financial transfers, rather than being paid out of operating surpluses. 5.9 Thailand's relatively favorable access to international capital markets depends on political continuity, sound economic policies, and continued business confidence. As the country becomes more exposed to competition from other countries similarly seeking international venture capital to finance their industrialization efforts, funding new technology may become more difficult. Action to restructure government finances and expenditure patterns (particularly on the capital account) may be necessary to encourage new sources of foreign funds and to ensure that sufficient domestic savings exist -- which can be mobilized readily -- to assist in financing further development, and to acquiring foreign technology in areas other than manufacturing. B. wistribution of Income and Wealth 5.10 While there are few recent hard statistics publicly available to indicate whether, at the household or individual level, the income distribution is widening, and corresponding wealth holdings becoming more uneven, there is strong public concern and sonie prima facie evidence that income disparities have grown over the past decade, despite the reduction in poverty. There is an explicit acknowledgement in the new Seventh National Plan that social equity is an issue. Of the three major declared objectives, one is concerned specifically with the pursuit of greater social justice and communal harmony, and the achievement of this goal through a more equitable distribution of incomes and prosperity, especially regions. But the information available is sometimes confusing and ambiguous. 5.11 In terms of factor rewards at the macro level, the position seems quite clear. Estimates of GDP by factor income (Table 5.1) show compensation of employees declining as a share of national income from 38 percent in 1985 to 35 percent in 1989. Unincorporated income and corporate surpluses, on the other hand have been rising. This is consistent with the data in Table 4.2 earlier which shows that, in terms of labor's increasing contribution to output and higher productivity levels, manufacturing wage rates have kept remarkably low. Wage rates, overall, have not grown as fast as GDP. Also the slower real growth in agricultural output, including the fall in production last year, has pushed down the share of rural value added. This has been accompanied by deteriorating rural-urban terms of trade, a global phenomenon, especially for the main - 41 - traditional crop producers. Overall, before tax, gross operating surpluses have increased relative to both wage earnings and farm incomes. In 1988 and 1989, reflecting the share of increased value added accruing to capital, overseas factor income payments of interest and dividends rose much in line with GDP, and grew by 14.4 percent and 11.5 percent respectively. The growth in profits has also helped fuel the demand for land and other marketable assets, raising house prices and enhancing the net worth of capital ownership. Table 5.1: DISTRIBUTION OF THE NATIONAL INCOME AT CURRENT MARKET PRICES (Million of Baht) 1985 Z 1989 (E) z Compensation of Employees 304.2 38 482.6 35 Income from Farms, Professions and other Unincorporated Enterprises received by Households 355.1 44 648.3 47 Income from Property (Rent, Interest and Dividends) received by Households 121.9 15 148.2 11 Savings of Corporation, Income Taxes and Transfers 46.4 6 133.7 10 Net General Government Income from Property and Entrepreneurship -26.2 (-3) -40.2 (-3) National Income 801.4 100 1,372.6 100 Notes: E = Estimates. Source: National Income of Thailand, 1989, NESDB. 5.12 Significantly, the average monthly wage for private employment in the agricultural sector remains about a half of that in the manufacturing sector, and manufacturing wages have not kept pace with national income. On the one hand, changes in property rights might suggest a rise in rural poverty because of the growing share of land tenancy holding as against land ownership. Almost half of the farms ir the Central Region consist of rented land and this percentage is much higher than in either the North and Northeast Regions, or the South. The Northeast provides the major source of immigrants into Bangkok, partly because it is acknowledged to be the poorest area, and partly because it is where, as can be seen from Table 5.2, land tenancy is growing fastest. Although Thai farm statistics exclude non-land holders who are rural residents, the population numbers in this category suggest a shift to land-holding levels that, in some areas, may be inadequate to properly sustain a family. On the - 42 - other hand, the figures can also be interpreted as reflecting the fact that farmers are not selling off their land when moving to the capital, but are subletting their plots and becoming rent earners as absentee landowners. If this is the case, then people who move off the land do so only to gain higher incomes from the urban areas. Their incomes will be supplemented by the additional rents they receive. Those who take up the available farm leases are likely ti be the poorer rural dwellers and farm laborers previously without access to land who can now enhance their standard of living by cultivating cash crops and producing for own consumption. In these circumstances, marked inequalities will be less evident. Table 5.2: FARM LAND RENTED (1975 AND 1986) (rai [1 rai - 0.16 hectare], Z) Land Area Year Rented Land Change (%) Nationwide 1975 13,529,363 320,696,888 (100Z) 1986 19,240,941 +41.6 South 1975 399,059 44,196,992 (18.8) 1986 686,181 +71.9 North 1975 3,408,576 106,027,680 (33.1) 1986 5,928,489 +73.9 Northeast 1975 1,289,577 105,533,963 (32.9) 1986 3,247,668 +251.9 Central 1975 8,495,151 64,923.253 (20.2) 1986 9,378,603 +10.3 Source: Preyaluk, Donavanik (1989), "The Quadripartite System: A New Approach to Land Reform," Bangkok Bank Monthly Review (June), pp. 230-237. 5.13 Although the Thai authorities are on target with the 20-year plan for land titling, efforts begun in the late 1970s to introduce land reform, distribute land to poor farmers, and secure proper ownership title have still proceeded somewhat slower than hoped. Privately owned land targeted for distribution to farmers, which would lead to a reduction in rent payments to landlords, amounted to only 14 percent of total land under tenancy in 1986. In addition, much of the publicly owned land that was distributed merely legalized the existing position of those farmers who had been illegally cultivating that land, and whose incomes, therefore, have not changed radically. Land has not only become scarcer for farmers, but also less rewarding as a soil resource for crop cultivation. Yields appear to have grown only slowly in contrast to total - 43 - output growth. Between 1970 and 1985, cultivated land per capita stayed roughly the same, at 0.38 hectares, because new areas, previously under forestry, were brought into cultilration in line with population growth. Those rural incomes dependent solely on the production of traditional crops have necessarily suffered from the almost stagnant growth in output, low agricultural productivity and declining crop prices over the past few years. But cropping intensity is believed to be up and, more importantly, some substitution of higher remunerated crops, especially in irrigated areas, has taken place. In addition, land reform is being supported through the improvement of land titling and corresponding strengthening of property rights. Careful and detailed nationwide cadastral surveys are being conducted to identify government land and degraded forest areas that could prove suitable for the resettlement of displaced persons, without exacerbating existing environmental problems, causing further damage, or creating new conservation concerns. 5.14 The most powerful determinant of income distribution is regional variation in the distribution of productive assets, including land. Although land reform in Thailand is underway, it has moved slowly and it has not been adequately supported by an agricultural policy that has contributed to a comparatively more egalitarian income distribution. Instead, Thailand's industrial strategy has had a more important influence because it led to the adoption of labor intensive strategies. In these circumstances, income disparities tend to widen as the modern sector expands relative to the traditional rural economy (the Kuznets "inverted-U" effect). The structure of property rights, demographic change and technological progress can constitute balancing forces in the opposite direction, and incentives to labor intensive manufacturing have nevertheless served to promote employment growth and a more equal income distribution. Accompanied by low level entry barriers, simple capital requirements and limited economies of scale, industrial employment has expanded rapidly in recent years. This is in contrast to earlier import substitution policies, which tended to encourage capital intensive industry, and hence a preference for capital returns. It also encouraged the segmentation of labor markets between traditional and modern sectors, and exacerbated differences between skilled and unskilled workers. When displaced by export oriented strategies with wider market opportunities, labor markets responded less restrictively and employment grew, absorbing people from the rural areas into employment. 5.15 The impact of low incomes can be further counterbalanced by official social welfare outlays oriented especially toward providing services to poorer households. But instead of expanding public social expenditures, the large increases in the budget surplus over the past few years have encouraged the authorities to look more favorably on making tax cuts. These, by their nature, tend to benefit those more comfortably placed in society. Recent changes in personal taxation have led to an increase in disposable personal income of those owning capital assets or possessing substantial savings. An exemption of personal income tax has recently been introduced for income earned from interest on a fixed deposit of less than 200,000 Baht. Additional exemption of tax has also been allowed on compensation received from returning immovable properties (such as land and houses) to the State. Since market prices of land and properties have increased rapidly in the last few years, the authorities argued that these statutory asset sales, necessary for the development of roads, government buildings, etc., had become increasingly unfair to property owners. - 44 - 5.16 Table 5.3, based on official household socio-economic survey data, reveals how income disparities between households in different geographical regions have changed jus- between 1986 and 1988. The diffe ntials have widened in almost every asract. Annual household incomes in all other regions (except the Northeast) have declined relatively, and in all cases were less than half that in Bangkok in 1988. The difference is even more marked when average household size (which is lowest in Bangkok) is taken into account, as is borne out by the per capita numbers in Table 5.4. Nevertheless, the evidence is not entirely conclusive because the disparity measures are inffluenced by difference in the inequalities within each of the regions as well as by differences in income between them. Furthermore, the comparisons are complicated by differences in both price levels as well as in price relatives (especially, for example, in housing) between regions and administrative districts. Table 5.3: COMPARISON OF ANNUAL HOUSEHOLD INCOME 1986, 1988 AND 1990 Annual Household Income Percent Disparity Index Region (Baht) Increase (Bangkok = 100) 1986 1988 1986 1988 Whole Kingdom 43,572 49,27z 13.1 - - Greater Bangkok 83,388 94,524 13.4 100 100 Central 48,072 50,640 5.3 58 54 Northern 37,272 40,800 9.5 45 43 Northeastern 30,660 36,804 20.0 37 39 Southern 43,884 47,508 8.3 53 50 Source: Report of the 1988 Household Socio-Economic Survey, National Statistical Office, 1991. - 45 - Table 5.4: AVERAGE ANNUAL INCOME AND EXPENDITURE BY REGION AND AREA, 1988 (Baht) Household Average Annual Income Average Annual Expenditure I* Savings Region and Area Size Household X Per Capita % Household % Per Capita % Whole Kingdom 4.0 49,272 100 12,318 100 49,932 100 12,483 100 - Greater Bangkok 3.5 94,624 192 27,007 219 94,478 189 28,993 216 + Central Region 3.9 50,640 103 12,985 105 51,204 103 13,129 105 - Northern Region 3.7 40,800 83 11,027 90 40,764 82 11,017 88 + Northeastern Reg. 4.5 36,804 75 8,179 86 37,280 75 8,280 68 - Southern Region 4.1 47,608 98 11,687 94 51,048 102 12,451 100 - /a Average annual household expenditure for Thailand in 1988 was distributed as follows: Consumption 91.4 of which: Food A Beverages 38.6 Other items 64.9 Non-Consumption 8.6 Outlays (Taxes, gifts, gambling, etc.) 100.0 Source: Report of the 1988 Household Socio-Economic Survey; NSO, 1991. 5.17 Table 5.4 also shows that only in Greater Bangkok and the Northern Region (of which Chiang Mai is the capital) are household savings positive. The figures reflect the fact that the share of cash income in total income in Bangkok (80 percent) is higher than anywhere else. (See Annex Table A.14 for further details). Relative household consumption reveals a similar pattern of regional differentials. When converted to a per capita basis, the disparities, again, become even more noticeable. This shows up also in a comparison between Greater Bangkok and the Municipal Areas, Sanitary Districts and Villages in descending order of per capita income and expenditure. (See Annex Table A.15). C. The Environment 5.18 Failure to recognize environmental problems and infrastructural bottlenecks poses a serious threat to long term economic growth. The degradation of natural and physical capital is not simply a form of unwanted externality; it is a fundamental element in the equation of overall economic costs and benefits. For income, that is, net national income, to constitute genuine "income" it must be sustainable, which means maintaining GDP while keeping existing natural and physical capital intact as future productive resources. This will not be the case where exhaustible and non-replaceable natural assets are depleted without any concern for future viability, and while gas emissions and solid waste disposal contribute to air and water pollution and acid rain. So far, in Thailand, the individual enterprises and agents which have brought on these degraded conditions have rarely been required to pay for such clean-up costs themselves. The charges are passed on to succeeding generations and the burden is transferred to those who were not responsible for causing the problem. The cost of remedying the resulting environmental dtcerioration implies imposing an ill-defined collective charge on the government, a charge that, eventually, must be borne both directly and indirectly by the community. - 46 - 5.19 Environmental damage is also caused by the progressive destruction and degradation of natural resources and, in turn, it affects the wear and tear of man-made capital that then operates at reduced levels of efficiency. Factors that raise long term growth may thus also increase pressure on the environment. Although more immediately a domestic concern, this may also flow over into wider regional and international issues as industrialization proceeds and undesirable effluent, toxic wastes and gases are encountered by neighboring countries sharing common borders. 5.20 While there may be some disagreement about the causes,1/ the distribution of publicly owned land combined with increases in the rural population and extensive commercial logging have contributed to the destruction of a large part of Thailand's forests, and this has become an issue of immediate domestic concern. Forests which covered 53 percent of the nation in 1961 had been reduced, according to official sources, to perhaps as little as 28 percent in the late 1980s. This is the lowest figure among the S.E. Asian countries, with the exception of heavily urbanized Singapore, and probably the Philippines. The destruction of forests causes various problems: damaged watersheds, degraded resource cover, increased possibilities for flooding and soil erosion, reductions in the quantity and quality of water, as well as potential damage to dependent animals and overall lack of biodiversity. By January 1989, these problems had become so serious that the Thai government officially banned commercial logging. Although this has been difficult to enforce cutting has been dramatically reduced. In 1990, these restrictions were slightly relaxed in order to permit logging in those areas where the damaged wreaked to standing timber by successive typhoons needed to be cleared. (The ban, however, has probably encouraged more rapid deforestation in neighboring Myanmar, Laos and Viet Nam). 5.21 Uninterrupted industrial and urban development is not without its dangers at a more universal level; increased global warming, according to one scenario, could lead to a rise in ocean levels over the next century. While Thailand is unlikely to make a significant contribution to global warming, it has a vested interest in acknowledging its importance because a rise in ambient temperatures would cause severe flooding in the low-lying coastal areas of Thailand, including Bangkok itself. This would lead to a significant, and possibly permanent, loss of economic land. 5.22 Few doubt the urgency and seriousness of Thailand's environmental problems. While there are many complex issues to consider, including a concern about how much of the blame can be apportioned to industrialists rather than to farmers and loggers, or to hill tribes involved in crop substitution (vegetables for opium) and forest clearing for crop development, a more important issue is how government will respond. New agricultural techniques have involved the substitution of traditional and environmentally adapted crops which can be harvested without disturbing the soil, with "slash and burn" cultivation methods. Slash and burn systems alter existing water courses and tend to denude hillsides, especially where associated with the production of vegetables and root crops 1/ Some say it has been the policy of refusing to recognize that much of this land was really privately occupied that has been the problem. Because it was supposedly "public", no one provided support services, titles and incentives for permanent agriculture, so slash-and-burn methods were allowed to spread. - 47 which tend to disturb the soil when lifted from harvesting. New crop production in the hill area seems less important as a cause of permanent damage than the major deforestation that has already taken place. 5.23 Industrialization, and the location of factories, together with the large power projects and energy policies which directly pose health hazards to local inhabitants, raise more important concerns. The structure and composition of production also results in a certain income distribution and pattern of consumption that can give rise to greater pollution and other adverse effects on the environment. These all undermine the quality of life, particularly in urban areas like Bangkok where the problems of air and water pollution and congestion have reached serious levels. The average speed of traffic in Bangkok's central business district, for example, fell to 8 km per hour in 1989 (TDRI) from around 14 km per hour only a few years earlier. Latest estimates put the average speed down to below 5 km per hour in the rush hour periods. 5.24 Reforms, recently introduced, aim to increase environmental protection and improve existing health codes, but while plans for infrastructural projects are to include an assessment of their environmental impact, and the specification of measures to limit any adverse effects that may result, regulations requiring permits for factory build-ng are being simplified or eliminated. In the new plan the main priority will be given to addressing the problems of air pollution (through controls on emissions of S02 and other gases, and restrictions on the lead content of fuel oil); acid rain (better combustion technologies and the installation of pollution control devices); water quality; and the disposal of solid waste (restrictions on the siting of new factories, and investment in new waste water treatment facilities). Taxes or fines on enterprises that damage the environment or fail to install pollution control equipment are also envisaged. 5.25 Air pollution has become one of Thailand's most serious environmental problems, along with water pollution, land degradation and deforestation. The main sources of air pollution are unregulated industries, the energy sector which has been shifting towards cheaper but dirtier fuel sources for power generation, and the transportation sector. In addition, land clearing and solid waste disposal practices involving open burning contribute to smoke (SPM) emissions. Air pollution is considered to represent a significant health hazard for large sections of the Thai population. The Bangkok Metropolitan Region (BMR) is particularly vulnerable because of the high concentration of both people and pollutants (especially sulphur, carbon dioxide, nitrogen oxide and atmospheric lead) within a confined geographical area. Air quality conditions in the BMR already exceed WHO guidelines and the high lead content in gasoline is particularly worrisome. 5.26 On the basis of present trends, Thailand Development Research Institute (TDRI) studies estimate that the concentration of air pollutants will double or, in some cases, quadruple from their already critical levels over the next 10 to 20 years, with unacceptable results for both the national and global environment. Recommended actions to avoid this outcome involve policy changes and, in some cases, additional investments a cting the industrial, energy, transportation and, to a lesser extent, foresti griculture sectors. While any such policy or investment activity necessaril xolves different "trade offs" and a need for delicate balancing, and proposec ?aner alternatives (e.g. hydro power) may have other drawbacks, the most impot -nt areas for action probably concern: (a) the shift of the industry and power sectors towards use of "dirtier" lignite because - 48 - of its lower fuel cost; (b) the need to correct for the present inefficient pattern of energy use which arises from a combination of sub-optimal land use planning, inadequate infrastructure and relatively low energy prices; (c) comprehensive programs to reduce motor vehicle emissions through improved transport infrastructure, vehicle specification and testing, and petroleum reformulation, including the wider use of lead free petrol; and (d) development of economically, socially and environmentally viable programs of reforestation. Detailed action plans for each of these four areas are being prepared for study by the Government. - 49 - VI. ECONOMIC OUTLOOK A. Summary Review 6.1 The basic economic structure of Thailand has changed significantly over the past three decades. In 1960 agriculture was the leading sector, contributing 40 percent of GDP while manufacturing made up only 12.5 percent. By 1981, manufacturing had replaced agriculture as the largest sector. In 1989 the share of manufacturing output in GDP had risen to 26 percent while that of agriculture had declined to 15 percent. By the mid-1990s, agriculture is projected to fall as low as 13 percent of GDP, while manufacturing will increase to 30 percent, becoming increasingly more diversified in terms of both products and market outreach. 6.2 The principal factors influencing this significant transformation have been industrial exports, foreign investment and tourism, all indicating the country's growing economic attraction and international competitiveness. Thailand has been particularly successful in capturing foreign private capital. Capital inflows have been growing much faster than exports and financial linkages have become important to Thailand, though they remains smaller in value than merchandise trade. Both capital flows and foreign travel, however, remain exogenous, though dependent on Thai policy and stability. They could face reversal if there is a fall in external confidence. The government's main priorities will thus continue to be directed towards restraining domestic demand, and encouraging domestic savings, both public and private, through the pursuit of cautious monetary and fiscal policies. Thailand's rapid economic growth has presented new opportunities, both internally and externally. Future progress is best ensured by emphasizing the role of the private sector within a favorable and settled economic climate, and by paying attention to redressing social costs, and enhancing the quality of life and the environment. 6.3 While the nature of international trading conditions has played a significant role, the success of exports can be partly attributed to an attractive exchange rate policy. A 14.7 percent depreciation of the exchange rate in late 1984 (accompanied by a similar decline in the real exchange rate), associated with important structural adjustments in both monetary and fiscal policies, established a sound basis for development and provided a substantial boost to the manufacturing export sector. Thailand has been able to establish a wide range of manufacturing industries with a number of relatively new exports emerging in recent years to increase this diversity. 6.4 In terms of the potential labor force logistics and domestic demand, a sustained policy to reduce population growth over the past three decades has resulted in a change in the population structure. The proportion of people in the prime working age group, the middle age and the elderly has grown larger, while the share of children is lower. The completed family size and the proportion of total dependents are declining with households becoming nuclear families. These changes in population, together with increasing urbanization, cause shifts in the pattern of consumption. The per capita consumption of rice has declined while that of meat (especially poultry products), marine, and dairy products has risen (though separating the tourist consumption component from these income related trends is difficult). Furthermore, the demand for residential housing and automobiles has increased as the process of urbanization has gathered momentum. - 50 - 6.5 Economic expansion has helped to alleviate certain pressing economic and social problems like poverty and unemployment, while removing previous fiscal deficits, but it has created others. The overheating of the economy in 1990 put mild pressure on domestic inflation which was aggravated by the surge in oil prices in the second half of the year. Constraints on factors of production and limits imposed by inadequate infrastructure services, have created shortages and expensive bottlenecks to future development. Input costs have risen and productivity growth curtailed. The problems of income distribution and geographical dispersion of the new economic prosperity have not yet been effectively solved to the benefit of the rural poor, although this issue ranks high in the government's new policy program. 6.6 The liberalization of the money market and exchange rate in May 1990 is likely to promote Thailand's role as a regional financial center and attract investment. It should further provide opportunities to develop the local money market and stock market as sound havens for outside funds and a base to generate more B. Medium Term Prospects; The Economic Outlook of the Seventh Plan Period, 1992-1996 6.7 Despite some internal constraints, Thailand expects to sustain satisfactory growth for the next five years of the Seventh Plan (1992-1996), and to maintain high levels of industrial output throughout the 1990s. The opportunities for export expansion remain plentiful. Thai export products and their markets are becoming more highly diversified and better established as private investment increases and new firms enter into production. This is encouraged by improved prospects for regional trade in Asia and the emerging Indo-China economies, as well as with Eastern 2urope. Furthermore, new opportunities for the expansion of Thailand's industrial production base, particularly in petro-chemicals, engineering, and other basic industries, are emerging. The country is making a serious effort to enhance production efficiency by introducing appropriate production technology and by training new generations of workers in modern work methods. 6.8 Considering the overall opportunities and constraints, the Thai economy looks able to sustain a more moderate 7-8 percent per annum real growth throughout the 1990s, with a projected inflation rate of 5 to 6 percent per year. Due to a tightening of the labor market, real wages will probably rise somewhat faster throughout the 1990s making it vital for manufacturing to follow the earlier lead of other NICs in improving labor productivity and shifting output away from labor intensive products to more capital and technology intensive industries. 6.9 The diversification of export markets bolstered by new investment projects, should ensure that exports will grow by at least 12 to 15 percent annually over the next 10 years. However, the trade balance is expected to stay in deficit throughout the 1990s because imports will necessarily remain high to sustain output growth and tourism. Furthermore, higher prices of petroleum products will raise the import bill while possible increases in interest rates - which are expected, globally, to remain high - will affect the country's debt servicing obligations. 6.10 A GDP growth of 7-8 percent, combined with a low population growth of only 1.2 percent by the mid-90s, should give rise to an increase in per - 51 - capita incomes double that at the turn of the present decade. This economic expansion will be accompanied by a modest agriculture growth rate of 3 percent annually because the traditional crops (rice, rubber, maize and tapioca products) are likely to grow at only a moderate rate due to both supply limitations and changing demand factors. Livestock and fisheries output, however, are expected to resume their rapid development and to grow twice as fast as crop production in line with the shift in domestic consumption patterns and export potential. 6.11 Even with the large new capacities being brought on stream, manufacturing will probably grow less rapidly than it has in the recent past at marginally above 10 percent annually over the next few years. Construction activities are projected to increase at a similar rate, reflecting an expected downturn from the peak demand for buildings and residential construction. Nevertheless, ongoing private investment projects, and increased public sector plans to support infrastructure development, should ensure a high level of building activity for some time to come, and this will have positive repercussions on the rest of the economy. Table 6.1: THAILAND: MEDIUH-TERM PROJECTION 1990 1991 1992 1993 1994 1995 1996 (Percentage change) Real GDP 10.0 9.0 8.9 8.4 8.0 7.8 7.6 Domestic demand 12.4 9.1 7.9 7.2 6.6 7.2 7.3 Inflation 6.6 5.8 5.0 4.4 4.3 4.1 4.4 Export volume 12.3 17.0 15.5 13.8 13.2 11.3 11.2 Import volume 21.6 15.0 13.0 10.4 9.5 9.9 9.5 Terms of trade -1.6 0.6 -0.3 1.0 1.0 0.5 0.0 (In percent of GDP) Investment 34.4 34.4 34.7 34.1 33.3 32.7 32.4 Domestic savings /a 26.9 27.1 28.1 28.4 28.9 28.8 28.8 Foreign savings /b -7.5 -7.2 -6.7 -5.7 -4.4 -3.9 -3.5 (In billions of U.S. dollars) Trade balance -9.2 -10.3 -10.8 -10.8 -10.2 -10.3 -10.7 Current account balance -5.9 -7.0 -7.3 -6.0 -6.0 -6.0 -6.1 Capital inflows 8.1 7.9 8.9 8.9 8.4 8.6 9.0 Balance of payments 2.2 1.8 1.6 1.9 2.2 2.5 2.9 External debt (as percentage of GDP) 35.6 36.5 38.6 39.5 39.3 38.8 38.1 Debt service ratio (in percent) 10.2 10.6 12.2 13.7 13.7 14.0 14.1 /a Including the statistical discrepancy. /b In Thailand, foreign savings closely approximate the current deficit and for 1991 and beyond, they are assumed to be equal. (In principle the series should be shown with a negative sign to indicate the deficit). Source: Bank and Fund Staff estimates. - 52 - 6.12 The development objectives of the next Seventh National Plan, are to bring about a balance between quantitative expansion and quality improvement, and to combine this with social justice. The draft Plan contains three declared objectives: (1) Sustain economic growth rate at an appropriate level while maintaining economic and financial stability. (2) Distribute income and economic prosperity to the regions. (3) Improve the quality of life, preserve the environment and the country's natural resources. Specific qualitative and quantitative targets have been set to ensure growth and stability and to assist policymakers in attaining these objectives. These are defined in terms of a relatively low inflation rate, a low rate for the current account deficit as a share of GDP, and achievement of a current balance on the external account by the last year of the Plan. 6.13 In addition, the Plan defines income distribution targets which specify how the benefits of growth should be spread. Target groups will be identified and special attention will be paid to augmenting incomes of poor agricultural workers, agricultural employees, small-scale self-employed workers in urban areas and low paid private employees. Another aim is to reduce the present income disparities among people in the various geographical regions, and in different occupational groups. Part of the proposed strategy involves the wider dispersion of property and ownership of assets, including the distribution of land holdings to agricultural workers, and the provision of housing for low- income people. 6.14 The Thai authorities have set as their objective more than simply an increase in living standards, but an improvement in the quality of life. Thailand's social performance is, better than many other countries at a similar level of per capita income. Primary school enrollment has risen significantly in the last twenty years, and both the infant mortality rate and under-5 child mortality rate have declined progressively. The corresponding targets for improving the quality of life and environment over the plan period include reducing the population growth rate to 1.2 percent by 1996, the last year of the Seventh Plan, and increasing the transition rate to secondary education level from 45 percent of those who finish primary education to 60 percent, again by the end of the Plan. 6.15 Thailand has passed through the phase of high fertility and high mortality associated with the prevalence of infectious and chronic parasitic diseases characteristic of low income developing countries. Now, there is an increase in non-communicable and degenerative diseases related to social environmental and occupational factors. Personal behavior and hygiene, improvements in food variety and quality (as well as caloric intake) and the changing nature of living and employment conditions have had an influential impact on the nature of health patterns in the country. 6.16 The government intends to pay more attention to securing sustain- ability through improved allocative efficiency of real and financial resources. This is to ensure -- for the sake of future generations -- that continuing - 53 - development takes place without posing serious threats of further damage to the country's existing physical, human and natural capital. In the area of environmental enhancement, specifically, the government intends to improve people's quality of life by reducing pollution levels in the water and air, to achieve lower noise levels, control solid wastes and toxic wastes, and halt further environmental deterioration. Measures are being proposed, therefore, to reduce toxic elements in the air, such as sulphur dioxide, carbon monoxide, nitrogen dioxide; and to lower the lead content in gasoline to a level not harmful to people living in the urban areas. As a result of new regulations, sales of lead free gasoline jumped almost overnight to almost 20 percent of total petrol sales. C. Future Outlook 6.17 Thailand has adjusted quickly to changing international and domestic circumstances. During recent years its growth has outpaced the rest of the world. The economy has not been constrained by a macroeconomic policy environment that distorts the competitive operation of markets and impedes market adjustments. But, as a consequence of an official "hands off" it is now running up against domestic supply and distribution bottlenecks. Official policy opened Thailand to trade and created incentives to produce goods for exports, and the recent steps that have been taken to reduce output and price distortions are important in establishing conditions for sustained economic growth. Furthermore, the implementation of new infrastructural investment will encourage an expansion in output. 6.18 The economy, has developed fast although, not surprisingly, in a slightly untidy way. But it has been plagued by an underdeveloped infrastructure. A way is now being paved by the government, with roads, ports, telecommunications and energy investment, to facilitate further industrial development. Increased investment in education, and vocational training in particular, will also play a pivotal role in promoting industrialization as Thailand grapples with the growing demand for qualified personnel to work new machinery and maintain it. Continued success will rely heavily on the ability of employees to adapt to and quickly master the changing technologies essential to keep the economy ahead. 6.19 Growth will also depend on the capacity on the country to enhance its natural resource development potential. In this context, agriculture, forestry and fishing can make an important contribution to the Thai development, because the sector still accounts for a significant share of exports while providing a livelihood for 64 percent of labor force. The sector thus offers significant potential for addressing poverty concerns through the exploitation of opportunities for crop diversification and development of new markets. Efforts here are already supported by official encouragement of private sector initiatives, but need a clearer definition of property rights. The latter is essential to the implementation of land improvements and the extension of credit. Agriculture can play a key part in a balanced development strategy, relieving urban pressures and ensuring adequate domestic food supplies. It can help preserve the environment and rural resource base through the adoption of more appropriate agricultural practices. However, action needs to be taken to strengthen the efficiency of land and water resource management and to permit a wider diversification of income generating activities in farm areas. This - 54 - will not only ensure sustainability, but also improve the distribution of income on a regional and social basis. 6.20 Sustainability will be achieved not only through more even development but also by securing greater economic efficiency. This will be obtained in part through improving the quality of infrastructural services available to the business community and public as a whole. Efficiency is expected to be enhanced also by a growing private sector involvement in the economy. 6.21 The third major concern is to see that future economic development, if continued at a similar pace to recent years, does not take place at the expense of faster environmental decay. The process is now in hand, through discussions with the Thai government to determine the best and most effective way of incorporating these wider, longer term issues into overall assessments of performance. The challenge facing the authorities is to harness economic progress to resolve pressing social and environmental issues while still trying to overcome supply constraints, alleviate poverty and further improve economic opportunities. Experience suggests that an appropriate institutional framework is in place and that the right priorities have been identified by the Thai authorities to permit a continuation of high economic growth well into the middle of the present decade. - 55 - TABLE A.1: POPULATION AND EMPLOYMENT ('000) Total Total Population Pop. Labor Year (mid-year) 15y+ Force Employed 1985 51683 42085 26847 25853 1986 52654 42876 27647 26679 1987 53605 43650 29361 27639 1988 54536 44408 30393 29464 1989 55448 45151 31677 30778 1990 56340 46951 33015 32151 Growth Rate p.a. (%) 1986 1.9 1.9 3.0 3.2 1987 1.8 1.8 6.2 3.6 1988 1.7 1.7 3.5 6.6 1989 1.7 1.7 4.2 4.5 1990 1.6 4.0 4.2 4.5 Labor Fdrce Participation Rate Unempl. Year Average Male Female Rate 1985 63.8 34.3 29.5 3.7 1986 64.5 34.6 29.9 3.5 1987 67.3 35.7 31.6 5.9 1988 68.4 36.3 32.1 3.1 1989 70.2 37.1 33.1 2.8 1990 70.3 37.0 33.3 2.6 Source: Statistical Handbook of Thailand 1990 and staff estimates. - 56 - Table A.2: THAILAND - KEY ECONOMIC VARIABLES, 1984-90 1984 1985 1986 1987 1988 1989 1990 Incentive Indicators 1. Real Effective Exchange Rate 1.1 Index (1980-100) 107.0 95.0 85.0 80.0 77.0 79.0 79.7 1.2 Annual Change (4) -1.8 -11.2 -10.5 -5.9 -3.8 2.6 0.8 2. Real Interest Rates 2.1 Short-Term Deposit Rate 13.0 13.0 9.8 9.5 9.5 9.5 14.3 2.1 Short-Term Lending Rate 18.8 19.0 17.0 15.0 15.0 15.0 19.0 3. Index of Real Wages 3.1 General Wage Index (1980-100) 3.1 Manufacturing Wage Index (1980-100) 117.8 122.2 127.7 145.6 169.0 179.9 190.4 4. Ratios of Domestic Agricultural Prices to International Prices (4) 4.1 Rice 86.8 100.0 82.9 86.5 88.2 90.1 93.8 4.2 Maize 98.6 100.0 182.0 232.1 133.4 116.0 139.2 4.3 Rubber 93.5 100.0 97.8 96.8 105.2 99.5 92.8 External Trade Indicators 5. Volume Index of Major Exports 5.1 Rice 113.6 100.0 111.4 109.4 125.3 151.2 98.9 5.2 Tapioca 92.7 100.0 89.1 87.6 114.6 138.6 113.8 5.3 Rubber 85.8 100.0 110.3 128.4 135.9 161.2 168.7 6. Export Shares in World Trade (4) 0.4 0.4 0.4 0.5 0.6 0.7 0.8 7. Manufactured Exports 7.1 Real Grwth Rate (go p.a.) 26.4 6.9 32.8 42.7 29.9 27.1 23.5 7.2 Value as Share of Total Exports (4) 35.9 41.0 44.9 52.3 53.7 55.8 61.9 8. Comodity Terms of Trade 8.1 Index (1980*100) 97.8 96.7 108.3 111.5 112.5 108.2 106.0 8.2 Annual change (4) -2.2 -1.1 12.1 2.9 0.9 -3.9 -2.0 09-Oct-91 Page 1 of 2 - 57 - TABLE А.3: SOCIAL INDICATORS OF DEVELOPMENT, 1990 THAILAND хмг Sвл.,.� � isoem. �ro�p � ` ил;г а1 =i3�вr�s 1�йа+ ве�. � 'и�ем�i. пвsг�. аю .го (,w+г) Агiв иевмг гro�г lисол� Алт tova�тlt lseaws GNPpsrлpits(mn•1969) USt 140 960 1�30 340 1�0 . 3.i10 Тавl ЬввиiвН sогтв SЬвм го�)QXr а! baasвЬoidi 9i д inoams �4 .. S й w Ьоаат'v�ь40d�i�Ьoossбo�W. " 313 13 .. .. ;; « SЬи w bottom 20� д boo�sЬoids " б б .. .. » .. Ревw� Absolues роvвпу iооотв: stbsn цц рв� Рент .. .. .. .. .. .. гагвl .. .. .. .. .. .. Рар. ia аЬвоiоо� povaty: � 96 оЕ рор. .. . .. .. .. .. Pгevalanas д malanиid,aa (идк 3) 9i д цs �пwр .. .. ?S.7 .. » .. E7CPElVDT1'URE Food 9LдбDР » 31.4 19.2 .. Supta .. 1Q7 8� .. .. .. Мвв4 fиЬ, mi1k. г8ss+s, sii� • .. .. Р� � paet�, tЬon. meuic tooms Эб бг 3� 13,,�7рΡTi �• 36,7Е8 Faodproduatioe�apira 1974�81s100 7б.S 923 lOR.2i 120.i �9.9 102.9 Shвte at цtцацил т c3DP 96 д айР 31.9 26.9 13.2 , Z3.3 13.2 13.1 DaOy саlагiвwрΡрΡtуΡ alodss PerPanoia 2,13t 2,ц9 2.?�i7 2.412 ?.741 2,9l0 �УР��РР�У i�+P�Peгsm 44 4i 49 58 71 ?7 1�oarlot 9idODP 4.2 4b � .. .. .. Ац�в bouиhoid t(гs pet�ms рв� ЬаоиЬоlд � .. .. .. ., й Fkedinvмemoae:Ьаааоб �iдGDP .. 2.6 3b : » » PWs1 ид рагr 9i д GDP 21 21 �. рвг.вврltв 1ц д ад1 еqадм4и i2.0 ?А9.4 329.б 4QSJ i43.7 1337.7 �dds мг6 в'suaгiauY � д ьоnsлае, :: :: :: :: :: " Тммрогt мд воввв�lаtlоо 9i д ODP 3.0 а.3 .. • Рариlвгiоnрагрвиwцаат рΡ s 433 13S Т4 .. 90 1S Та�а1 говдт � aaarpo�c в9Ф�те�с 9G о� DP :; 43 1�,� .. .. .. РорвLсiеорsтгдврЬаов релап� » 139 S2 » 17 t IIVV1�'TbiEKP IIY 8цМАN СА![1'AL Msd1n1 nп 96 д ODP 4.1 _ 3.3 РориLбоа ри: � psrroas 7,139 Е� 6,294 1.� t.S31 1Д?А ааиs " 4,>:11 1,1 1 713 1, 4 .. 601 ALmaamsed (wдп� maaгбik DPT � д�� .. .. 1�б0 3�.� 63.2 :: Огвl RвЬудвбоа 1ЪвnРУ тв Chiang \C Nan DEMOCRATIC REPUBLIC\ Cranphn 4 h o 1 Po \\~ jnormda 10e,Ky- Nakhon l dcon Tficn- Phanom Sukhthasahon NckhŠn TPh-tsanulok Mukdahon Phekhabun aK on lfi ChaRyaphum a S Nokhon Saw nYos sho tb R Siur et * NU~nP .Ch oo Rhehabur u . NCAMODA rochuap Khiri Khan / -thumphon -10R A~~ VIET THAILAND NAM *Surot Thrini ® PROVINCE CAPITALS ® NATIONAL CAPITAL akO~hon sfi anoT --PRIMARY ROADS Krob -+-- RAILROADS h\o RIVERS Phc*oalung - - INTERNATIONAL BOUNDARIES - >2 ~ ~Songkhla aln (, KILOMETERS Narahiwt 0 100 200 300 6 m 10 200 MILES m A L A Y SI A SEPTEMBER 1991