The vicious economic cycle has begun

The vicious economic cycle has begun

Do not be surprised to see the government constantly coming out with economic good news such as its claims there are more factories opening than closing and more jobs being created. Or that the government is confident the bottom has been reached and a brighter economic outlook is set for next year. It is their job to create hope, while it is also my job to give readers the real economic picture. These pieces of information are accurate but, unfortunately, their stories do not go along with the real numbers. And remember, numbers never lie.

Registration of new factories could exceed closures. But the fact is factories are producing less and less. According to the Bank of Thailand's manufacturing production index, factories in Thailand produced 1.2%, 2.5%, and 4.3% less in the first, second, and third quarters respectively.

Moreover, capacity utilisation of factories has plummeted from 69.9% usage in 2018 to 63.7% in October. The Ministry of Industry could be right in saying there are more new factories opening. But, according to the numbers, there are even more empty factories waiting to be abandoned. Therefore, the hope of more hires taking place will not materialise.

The expectation of a brighter economic future next year will only happen in the government's dreams, as all the lead indicators suggest otherwise.

The first lead indicator to look for is investment. The logic is simple. Investment leads to more production. More production leads to more consumption. More consumption means higher growth. Using Bank of Thailand numbers again, the Private Investment Indicator shrunk by 1.0% in the first quarter, contracted by a further 3.2% in the second quarter, and 3.1% in the recent third quarter. With less and less investment, no one can expect higher economic growth. Even with positive 3.5% investment growth in 2018, we have a bad economic year this year as GDP growth is projected to be less than 2.5%. And with average investment growth of negative 2.4% in the first three quarters of this year, what kind of GDP growth one could expect next year? Certainly not any brighter.

Why do the economic indicators keep falling quarter after quarter? This is called the vicious cycle of economic growth. The cycle is like this...

There are three interconnected markets in an economy: the financial market, product market, and labour market. The financial market provides funds to producers to produce and consumers to consume. When producers get the necessary funds and they are sure consumers have money to buy their products, they produce.

A higher level of production of goods and services results in higher GDP growth. Now the last and most important part of the cycle, the labour market. Naturally, all production of goods and services needs workers. A higher level of production translates into higher incomes for workers. Higher incomes for workers feeds money in the form of savings into the first part of the cycle -- the financial market. With each individual market healthy, the economic cycle runs smoothly and people in that economy live happily.

In modern day economic history, most economic crises happen in the financial market. A prime example is our Tom Yum Kung crisis of 1997. The financial crisis destroyed the whole economic cycle through the interconnection of the three markets, and, at the end, the Thai economy collapsed. The Lehman Brothers crisis of 2008 would have destroyed the US economy, and the world economy as well if the rot had not been stopped.

To save the financial market, the Federal Reserve Board injected 1 trillion US dollars into the market within one year and lowered domestic interest rates from 5% to almost 0%. The tool which saved the US financial market was Quantitative Easing (QE). It had to be implemented three times before the entire cycle or the three markets was saved.

For present day Thailand, the crisis is likely to start in the production market, not in the financial market as in 1997. If you are old enough to remember the 1997 crisis, there was no GDP growth disruption prior to 1997. In fact, Thailand enjoyed 7%-plus GDP growth up to the year of the crisis.

That's because the crisis did not start in the production market, so there was no sign of GDP struggling. Similarly, we are not seeing signs of trouble in the financial sector. Banks are still quite profitable, capital funds are ample, and bad loans still look manageable.

So, the central bank is happy. But there are clear signs of production market struggles as the sector keeps producing fewer goods and services. Manufacturers aren't happy.

All three markets -- financial, product and labour -- are interconnected to form the economic cycle. When one market breaks down, the whole economy collapses. Before the days of financial market development, a crisis -- such as a drought, flood, long winter, or disease -- would hit the product market first. A more recent example of an economic collapse arising from a product market crisis? Venezuela.

If you trust economic data, not stories which paint too rosy a view of things, it is clear the vicious cycle has already begun in the manufacturing sector. Soon production disruption will extend to the farming sector through the current severe drought.

A strong baht will also damage the precious tourist industry. All three sub-sectors -- agricultural, manufacturing, and services -- of the product market would be in crisis. Less production of goods and services means less demand for labour. The labour market in turn will be in crisis resulting from unemployment and less income.

These farmers and workers are consumers. If less money from them goes to the financial sector, the financial market would be short of savings. But that is not a key problem for the financial sector as the sector is already flooded with excess liquidity.

The key problem is a likely rapid deterioration in loan quality. Bad loans will bring about a crisis in the financial sector as in the case of Lehman Brothers.

If the vicious cycle is not stopped in time, you know what will happen. You only have to look at history to find out.

Chartchai Parasuk

Freelance economist

Chartchai Parasuk, PhD, is a freelance economist.

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