Tuesday, March 27, 2007

The Bifurcated Exchange Rate Mystery

We have to accept as fact the comment that one of my readers made (his logon is "Aquanauts Dive Centre & Instructor Training Internships", which isn't really a name, so we'll call him "ADC" for short) regarding what has happened with the Thai exchange rate: That there is one exchange rate inside of Thailand, and one exchange rate outside of Thailand. (If you look at the exchange rate tracker on my blog, you can see this in action: The Coinmill exchange rate currently reads 34.75 (we'll call it 35 for ease of math), and the Yahoo.com exchange rate currently reads 32.5.)

Indeed: There are 2 exchange rates. Can't argue with that. However, this is theoretically impossible.

Think about it this way: I have $1,000. I go to someplace that is offering the 35 baht exchange rate, and from there, I receive 35,000 baht. I take that 35,000 baht and go to the "offshore market", and I sell my 35,000 baht at the 32.5 baht rate and receive $1,075. I repeat that 5 times and I have $1,500. That's $500 for doing nothing more than shuffling money around a few times. I could make millions in a very short period of time with zero risk.

Is this really what happens? I assume not, because otherwise (a) everybody would be doing it, and (b) simple economic impetus through the flow of currency between the two exchange forums would correct the different rates until they achieved parity... which is why I said it is theoretically impossible.

However, as I said: Hard to argue with your own two eyes. There are 2 different exchange rates. A mystery indeed.

I'm hoping that Mr. ADC is still around, or someone with an equal surfeit of knowledge on currency exchange will come along to explain this. I'd really like to know... or I'd really like to know where I can get in on the currency exchange action. I could use a quick million.
UPDATE: Reader Jakal responds.
I am no expert on the exchange rate system. The statement of 2 different exchange rates is correct and all currencies have this. It is not new to Thailand. What is new is Thailand has been manipulating thier onshore rate as compared to the offshore rate thereby causing a large gap between the 2. They do this to protect thier exporters profits and investments.

If it worked as they planned they could control the currency rate in Thailand. The problem is to do this they must keep buying dollars from the world markets to prop up the dollar because it is weak around the world due to the Housing slump and Iraq. Also no matter how many dollars they buy they cant do it forever which is why I see the onshore and offshore rates getting closer to each other. Which will cause it to strengthen even more.

My opinion is that this will lead the Thai economy crashing down in 1 year due to an impossible policy.

Many countries manipulate thier currency rates especially China and US. But they also only go so far to do this. Thailand has gone too far by investing millions. Also making failed policies of business protectionism. I dont wish this to happen but it is inevitable and too late to make corrections to fix it.

The ability to make money by buying onshore and selling offshore is possible. The problem with that is many banking rules inside and outside of Thailand are designed to prevent large profiting by doing that. We are prevented from taking currency out of Thailand through the protectionist system Thailand has set up recently. We are also limited by the amount you can carry on your person to $10000 dollars at least in the US. Lastly it would have to be a pretty large split between the 2 rates to make it profitable due to the fees charged by banking institutions associated with foreign currency exchange around the world.

MY advice is to position your portfolio for the the day the economy crashes if you want to profit. When it happens thier will be great deals to be made for those who have the liquidity to take advantage of the situation. But whatever you do dont keep it in a Thai Bank! Save now and reap the rewards in July 2008 when the currency rates reverse thier current trend. The Baht will be the weakest it has ever been and the dollar will be the strongest around the world again.

Most people will ignore my advise and will regret the opportunity they have missed. To each their own.

UPDATE #2:

Reader Soros came in and left a comment that makes my head hurt with its brilliance. I won't copy and paste it here, because it will make this post far too long... but you're a grownup and can click over to the comments yourself.

6 comments:

Anonymous said...

I am no expert on the exchange rate system. The statement of 2 different exchange rates is correct and all currencies have this. It is not new to Thailand. What is new is Thailand has been manipulating thier onshore rate as compared to the offshore rate thereby causing a large gap between the 2. They do this to protect thier exporters profits and investments. If it worked as they planned they could control the currency rate in Thailand. The problem is to do this they must keep buying dollars from the world markets to prop up the dollar because it is weak around the world due to the Housing slump and Iraq. Also no matter how many dollars they buy they cant do it forever which is why I see the onshore and offshore rates getting closer to each other. Which will cause it to streghten even more. My opinion is that this will lead the Thai economy crashing down in 1 year due to an impossible policy. Many countries manipulate thier currency rates especially China and US. But they also only go so far to do this. Thailand has gone too far by investing millions. Also making failed policies of business protectionism. I dont wish this to happen but it is inevitable and too late to make corrections to fix it. The ability to make money by buying onshore and selling offshore is possible. The problem with that is many banking rules inside and outside of Thailand are designed to prevent large profiting by doing that. We are prevented from taking currency out of Thailand through the protectionist system Thailand has set up recently. We are also limited by the amount you can carry on your person to $10000 dollars at least in the US. Lastly it would have to be a pretty large split between the 2 rates to make it profitable due to the fees charged by banking institutions associated with foreign currency exchange around the world. MY advise is to position your portfolio for the the day the economy crashes if you want to profit. When it happens thier will be great deals to be made for those who have the liquidity to take advantage of the situation. But whatever you do dont keep it in a Thai Bank! Save now and reap the rewards in July 2008 when the currency rates reverse thier current trend. The Baht will be the weakest it has ever been and the dollar will be the strongest around the world again. Most people will ignore my advise and will regret the opportunity they have missed. To each their own. From Jakal

Issarat said...

I hope you are right, the dollar has been sinking against most of the major currecies worldwide for the past few years.
Not much in the US papers about it..they are too busy wondering who Anna Nicole Smith's baby's father is....what a bunch of wankers.

Anonymous said...

While Jakal apparently knows a bit about central bank intervention in the currency markets, the situation he explained above is not what is occurring in Thailand.

While Thailand's central bank has on a regular basis in the past directly intervened in the currency market by buying dollars and selling baht, this became unsustainable late last year. Trade in the baht was in excess of $1 Billion a day and this small country does not have the capital to offset that kind of speculation.

So, what happened 3 months ago was the bank said that any one seeking ot purchase baht (or make any investment that would require purchases of great quanities of baht) would have to keep 305 of the total sum in a Thai bank for 1 year. Early withdrawl carried a 10% penalty.

That meant that if someone wanted to buy $1 million in baht, they'd have to keep $300,000 in a bank and buy only $700,000.

Thus, Jil, what you were suggesting in your post was incorrect and impossible these days. Firstly, you had it backward. You'd be selling baht overseas and then buying it here. Buy 10,000 baht worth of dollars overseas would get you $307. Then take that $307 dollars to Thailand and buy baht. You end up with 10,745 baht. (This of course doesn't take into consideration the separate buy/sell rates.)

That is exactly what was happening before and what the central bank's currency controls were meant to stop. You'd lose 30% of your investment for a year each time you made a transaction.

Where Jakal is wrong is that thre is no direct intervention going in the market by the Thai central bank. While the currency controls are a form of market manipulation, the bifurcation itself was a natural economic result of imposition of the currnecy controls. Thus, it's not directly costing the government anything financially. They are propping up an onshore rate. The market did that itself.

The government has over the past few months eased some of the restrctions and the recent appreciation of the onshore baht is a result of exporters speculating all the controls will be lifted.

What the government is weighing is whether the alleged damage being inflicted on the economy by the controls is better than letting the baht continue to aprpeciate as it did in 2006,when it gained 17%.

My feeling is no. the controls have slowed the appreciation and tehre has yet to be any real proof that the controls are damaging the economy -- other than the losses on the SET the day after the controls were imposed.

For companies that sell and marekt their services overseas in dollars, as mine does, but pay their costs in baht, the onshore rate is a savior.

Having seen what the free market did to asia in 1997, I'm not a true believer in a fully free market. My own personal wish is that the Thai government would simply bit the bullet and do as Malaysia did in 1998 and peg the baht to the dollar.

From a personal economic standpoint, I love the strong baht. I buy dollars every month and send them back to the US and laugh all the way to bank, as my salary is in baht.

As a businessman, i hate it and would love to see a peg at 40 to the dollar.

I doubbt it happens.

-- Soros

Jil Wrinkle said...

Wow Soros... that was a whole lot of brilliance in one place.

Thanks for sharing that.

Issarat said...

are my comments falling on deaf ears?

Jil Wrinkle said...

Not at all Franky. Just didn't have anything to add to what you had to say and well... OK... your comment was brilliant too. ;-)