Flood-Related Q4 Contraction More Severe Than Expected in Thailand

Worse Shock Than "Great Recession"

The 9.0% year-on-year (y/y) decline in Thailand's GDP during the fourth quarter of 2011 was the deepest since the 1997/98 Asia crisis, when the economy contracted by 13.9% y/y in two consecutive quarters. By contrast, at the height of the 2008/09 global "Great Recession", the economy shrunk by 7.0% (first quarter 2009). Nevertheless, thanks to modest expansion during the January-September period, the economy still eked out marginal 0.1% growth for 2011 as a whole, unlike in 2009, when it contracted by 2.3%.

Mainly a Domestic Story This Time Around

Whereas the fourth-quarter contraction is comparable in magnitude with the 2009 recession, the pattern and composition of growth could not be more different. The 2009 contraction was driven by a collapse in external demand, whereas the current downturn is primarily a domestic story. Nowhere is this more evident than in the divergent performance of foreign trade and private consumption in the two episodes (see Chart 2). Indeed, while export growth turned negative in the fourth quarter of 2011, the decline was fairly small (6.3% y/y) and induced primarily by Thai companies' inability to either complete orders or get the goods to market due to severe disruptions in the supply chain and transportation network. But unlike in 2009, when at one point real exports were down by 21.1% y/y, the underlying external demand was still there. This suggests that the recovery in exports should be much faster this time around. Similarly, imports fared reasonably well during the final quarter. There was, of course, a marked slowdown in growth from 20.1% y/y in the third quarter to just 2.9% y/y in the following quarter, but the mere fact that an outright contraction was avoided is another indication that expectations are in place for a quick turnaround. Since many of these imports are capital goods and intermediate goods, if importers did not have confidence in the demand prospects for their industry, imports would have fallen a lot more.

The flip side of this fairly upbeat trade story is that the damage was much more severe on the domestic side this time around. Real private consumption shrank 3.0% y/y in October-December, already exceeding the steepest decline (2.6%) seen in 2009. This was not unexpected, given the plunge in consumer confidence in the post-flood period. In October 2011, for instance, the economics component of the consumer confidence index fell 9.4 points to 62.8 points—the lowest level since the 11 September 2001 terrorist attacks on New York. Only marginal improvement was seen by January 2012, when the index stood at 64 points. The lingering shock to household finances due to flood-related property losses indicate that the upturn in spending will be fairly protracted. Insurance coverage is limited among Thai households, so even if there is a genuine need for replacement purchases, unless these can be financed through existing savings, there will be many instances where such purchases will have to be delayed due to inability to pay for them at the current time. As such, while there will undoubtedly be an improvement in private spending in coming months, a major surge seems unlikely.

Chart 3

Government Spending Surprises on the Downside, Investment on Upside

During the fourth quarter, real government consumption fell 3.1% y/y. This was the first decline since the second quarter of 2008 and the largest since the first quarter of 2003. It was also surprising, as, given the crisis situation, one would have expected the government to pump up spending to provide emergency relief to the population in the form of emergency food and shelter assistance. But it appears as though whatever increase in such spending categories was recorded during the period, it was more than offset by larger declines in more traditional consumption areas such as regular service provision and regular procurement, etc. In fact, it is possible that transportation disruptions may have also played a role in holding back government spending by preventing procurement orders from being fulfilled.

On the other hand, real fixed investment did better than anticipated. It contracted by 3.6% y/y, having gained 3.3% y/y in the prior three months. But this was nowhere near as bad as the 16.9% y/y drop recorded in the first quarter of 2009. Although investment spending may remain under pressure in the near term as firms struggle to get a clearer view of demand trends and re-establish credit lines, it seems probable that reconstruction spending may begin in earnest by the second half of the year. Another surprising detail in the fourth-quarter data was the increase in stocks. Given that so many firms shut down production for weeks on end following the flooding, one might have expected stocks to be depleted during this period, as firms fulfilled orders until they ran out of inventories of finished products. However, the opposite seems to have happened. This might be a reflection of "just in time" inventory management, in which a firm keeps small quantities of finished product in stock and as soon as shipments of one single component are disrupted, it immediately loses the ability to continue producing. Therefore, the firm actually ends up holding a higher than normal level of parts inventories, with little to no stock of finished products.

Outlook and Implications

While the economic shock delivered by severe floods in the latter part of 2011 was tremendous, the temporary nature of the shock suggests that the recovery will begin more quickly than was the case during the 2008/09 Great Recession. Base effects related to the deeper 2011 contraction on one hand, and somewhat slightly better news from the external front recently on the other, suggest that the IHS Global Insight 2012 Thai growth forecast will be revised up in the March round. Subject to more clarity on Eurozone developments (particularly details on the second Greece bailout and whether or not Greece would be able to avoid a default), the 2012 growth forecast for Thailand could be raised to the 5.5% range from the current 4.1% figure.