1

Investment Cycles, Economic Recoveryand Monetary Policy

Roong Poshyananda MallikamasYunyong Thaicharoen

Daungporn Rodpengsangkaha

2

Investment Activities in Selected Countries

0.4

0.6

0.8

1.0

1.2

1.4

1.697

Q1

97Q

3

98Q

1

98Q

3

99Q

1

99Q

3

00Q

1

00Q

3

01Q

1

01Q

3

02Q

1

02Q

3

03Q

1

Indonesia Korea MalaysiaPhilippines Singapore Thailand

Ratio (1997Q1 = 1.0)

Sources: CEIC and authors’ calculation

3

Investment in Thailand(1988 Prices)

0

10

20

30

4019

52

1957

1962

1967

1972

1977

1982

1987

1992

1997

2002

Private investmentPublic investment

% of GDP

Sources: NESDB and authors’ calculation

4

Motivations of This Research Work

• Will the recovery of output be anemic if private investment remains weak for a long time?

• What factors explain the slow recovery of private investment thus far, and what is the prospect of private investment in the near future?

• What more can we do to foster robust and high-quality private investment growth?

5

Output and Private Investment Cycles

-60

-40

-20

0

20

40

6019

52

1957

1962

1967

1972

1977

1982

1987

1992

1997

2002

-15

-10

-5

0

5

10

15Private investment (LHS)Output cycle (RHS)

T 1955

1957P

T 1961

1969P

1978P

1996P

T 1976

T 1986

T 1998

T 1972

1974P

Percentage deviation from trend

Percentage deviation from trend

Cycle 1 Cycle 2 Cycle 3 Cycle 4 Cycle 5Output cycles

6

Contributions Relative to Output Growth

-0.9 -0.6 -0.3 0.0 0.3 0.6 0.9

1999-2002

Typicalexpansion

Growth Expansions

Growth Recessions

-0.9 -0.6 -0.3 0.0 0.3 0.6 0.9

1997-1998

Typicalrecession

3.8

-4.1

- 4.2 4.2

Stock accumulation and statistical discrepancies

Private investment

Private consumption

Government spending

Net export

Remarks

Typical expansion = Average of 3 expansions: 1966-1969, 1976-1978, and 1987-96

Typical recession = Average of 3 recessions: 1961-1965, 1970-1975, and 1979-86

7

Determinants of Private Investment

1. Returns on investment– Real return on assets– Real GDP– Capacity utilization rate

2. Cost of capital and availability of funds– Relative price of capital– Real MLR– Real private credit growth– Leverage ratio– Interest coverage ratio

3. Expectation and Confidence– Tobin’s q– Volatility of real exchange rate

8

-30

-20

-10

0

10

1995

1996

1997

1998

1999

2000

2001

2002

2003

-30

-20

-10

0

10

Private investment Capacity utilization (RHS)

Private Investment and Capacity Utilization(4-period moving average)

-30

-20

-10

0

10

1995

1996

1997

1998

1999

2000

2001

2002

2003

-30

-20

-10

0

10

Private investment Return on assets (RHS)

Private Investment and Return on Assets(4-period moving average)

%∆ qoq (sa) %∆ qoq (sa)%∆ qoq (sa)%

Returns on InvestmentBoth average and marginal returns are improving

9

-30

-20

-10

0

10

1995

1996

1997

1998

1999

2000

2001

2002

2003

-15

-10

-5

0

5

Private investment Relative price of capital (RHS)

Private Investment and Relative Price of Capital(4-period moving average)

-30

-20

-10

0

10

1995

1996

1997

1998

1999

2000

2001

2002

2003

1

3

5

7

9

Private investment Real MLR (RHS)

Private Investment and Real MLR(4-period moving average)

Cost of CapitalAccommodative monetary policy helps lower the cost of capital

%∆ qoq (sa) %∆ qoq (sa) %∆ qoq (sa) %

10

-30

-20

-10

0

10

20

30

1995

1996

1997

1998

1999

2000

2001

2002

2003

-9

-6

-3

0

3

6

9Private investment Real private credit, add-back (RHS)

-30

-20

-10

0

10

1995

1996

1997

1998

1999

2000

2001

2002

2003

-90

-60

-30

0

30

Private investment Debt-equity ratio (RHS)

Private Investment and Leverage Ratio(4-period moving average)

Private Investment and Credit Availability(4-period moving average)

Availability of FundsFirms’ financial constraints have relaxed due to

a gradual rise in bank credits and lower leverage position

%∆ qoq (sa) %∆ qoq (sa) %∆ qoq (sa) %∆ qoq (sa)

11

-20

-10

0

10

20

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

0

20

40

60

80Private investment Volatility of REER(RHS)

Private Investment and Tobin’s q(4-period moving average)

-20

-10

0

10

20

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

Private investment Tobin's q

Private Investment and REER Volatility

Expectation and ConfidenceBetter expected returns and strengthening business confidence are reflected in rising equity prices and strong external stability

%∆ qoq (sa)%∆ qoq (sa)4-period ma %

12

Determinants of Private Investment: Main Results

Dependent Variable: Growth of “Private Investment / GDP”Explanatory variables:

Constant 6.10(1.91)

Growth of real GDP (-1) 1.41(5.79)

Growth of capacity utilization (-2) 0.79(6.15)

Real MLR (-1) -1.09(-2.47)

Growth of leverage ratio (-1) -0.10(-3.69)

Growth of Tobin’s q (-2) 0.34(3.56)

Dummy 1996Q4 – 1997Q1 19.51(9.77)

Number of observations = 30 Adjusted R2 = 0.90 Durbin-Watson = 1.68

Remarks: Growth is calculated as percentage change from the previous quarter.Numbers in parentheses are t-statistics.

13

Contributions to Growth of Private Investment to GDP

-4.5

-3.0

-1.5

0.0

1.5

3.0

Laggedgrowth of

CAPU

Laggedgrowth of

GDP

Laggedreal MLR

Laggedgrowth ofD/E ratio

Laggedgrowth of

TobinQ

1996 1997 1998 19992000 2001 2002 Q1 2003

Percent

*

* Normalized relative to the effect of average real MLR for the period

14

Responses to 1 S.E. Downward Shock in the Policy Rate

-0.16

-0.12

-0.08

-0.04

0.00

0.04

1 3 5 7 9 11 13 15

Nominal MLR

-0.020

-0.015

-0.010

-0.005

0.000

0.005

1 3 5 7 9 11 13 15

Debt-equity ratio

-0.004

0.000

0.004

0.008

0.012

0.016

1 3 5 7 9 11 13 15

GDPCapacity utilization rate

-0.004

0.000

0.004

0.008

0.012

0.016

1 3 5 7 9 11 13 15

Tobin's q

qtrs qtrs

qtrs qtrs

Easing monetary policy has helped to improve investment fundamentals.Role of Monetary Policy

15

Projected Ranges of Private Investment Determinants Over the Next 4 Quarters

Variable Avg. 94-96

Avg. 97-99

Avg. 00-02 Latest

58.8 67.4

4.8

1.9*

6.7*

1.2*

Share of private investment to GDP 32.6 15.3 13.0 14.8 15.6 - 17.9

18.9

6.3

3.4

4.0

1.2

11.7

56.6

7.8

3.5

-2.5

1.1

-27.7

74.0

7.0

1.7

8.1

1.6

7.6

Range of variable(Avg. over 03Q3-04Q2)

Capacity utilization(excl. liquor, sa)

66 - 72

Real MLR 4.25 - 5.75

D/E ratio of non-financial SET companies (sa)

1.5 - 1.9

GDP (% yoy) 4.0 - 6.0

Tobin’s q (sa) 1.1 - 1.3

Real private investment growth (% yoy)

10.7 - 20.3

* As of 2003Q1

16

Policy Recommendations

Problems Policy Recommendations

Over-investment due to misperception of risks by the private sector

Private cost of capital to reflect risk factors

to the economy

Slow progress in structural reforms

Removal of structural impediments to private

investment growth

Growth mainly from factor input accumulation,

not productivity

Improvement in investment efficiency and marginal productivity of capital

17

Percentage deviation from trend

1st 2nd 3rd 4th 5th 6th 7th 8thNational Development Plans

Sub-optimal decisions, such as over-investment, can be avoided by making private cost of capital reflect risks to the economy.

9th

1995Mexico Crisis

1994SET at peak

1998SET at bottom

1987Interest rate deregulation

1997Exchange rate floatMajor depreciation

1992Political turbulence

2001US terrorist attackAfghan War

1998Russian Crisis

1979Financial crisis

1981Devaluation

1980-1981Second Oil Crisis

1973Collapse of Bretton Woods

1973Political turbulence

1963Adoption of Bretton Woods system

1978Adoption of basket peg

1976Political turbulence

1973First Oil Crisis

1960Founding of OPEC

1952Revaluation

Major Domestic Events

1987Black Monday

1983-1984Financial institutions crisis

1984Devaluation 1991

Financial liberalization

1990Gulf War

Over

-inve

stm

ent

1997Asian Crisis

Major International Events 1986The Plaza Accord

1983Global Debt Crisis

-60

-40

-20

0

20

40

6019

52

1957

1962

1967

1972

1977

1982

1987

1992

1997

2002

18

Appropriate Monetary Policy Framework

Floating Exchange Rate + Inflation Targeting

Private cost of capital kept consistent with true cost of capital

Forward-looking actions

Reduced uncertainties with clear policy framework

Efficient market-based

private investment decisions

19

Investment efficiency can be improved through higher TFP growth …

0

5

10

15

20

25

30

3519

83

1985

1987

1989

1991

1993

1995

1997

1999

2001

-6

-4

-2

0

2

4

6

8

Marginal productivity of capitalRate of return on US direct investmentTFP growth (RHS)

Percent Percent

Sources: US Department of Commerce and authors’ calculation

Selected Measures of Investment Efficiency

20

… especially from better labor skills, greater awareness of IT development, and more R&D spending.

Selected Determinants of TFP Growth*

0

2

4

6

8

10

IT skillsavailability(scale 1-10)

Telecominvestment(% of GDP)

Research &development

(% of GDP)

0

25

50

75

100

125

150

175

Openness totrade

High schoolenrollment(percent)

Computersper 100 people

Thailand

max excluding Singapore

(X+M)/(2*GDP)*100

* Thailand is shown relative to maximum and minimum regional benchmarks of 6 countries: Indonesia, Korea, Malaysia, the Philippines, Singapore and Thailand

Source: IMD World Competitiveness Report, 2003

21

Macroeconomic indicators are already pointing in the right direction, but more structural reforms are needed.

Measures to Remove Current Structural Impediments

Immediate Run Longer Run

Reduction of bureaucracy and corruption

More efficient financial intermediation

More data for policy and business decision-making

Faster progress on corporate debt restructuring

22

Conclusions

• To sustain current output growth, we need a stronger contribution from private investment.

• Barring significant adverse shocks, private investment growth is likely to accelerate in the near future.

• To foster robust and high-quality investment growth in the medium run, we must maintain an appropriate monetary policy framework, raise national competitiveness, and accelerate structural reforms.