Sticky goings-on in Teflon Thailand
Financial markets tend to shrug off periodic eruptions in continuing and apparently intractable Thai political conflict. Will this time be different?
There are lots of examples of the Teflon-like ability of financial markets to shrug off worrying political and economic developments. The most conspicuous one right now is Thailand.
A debilitating six-month-long political crisis, which has taken its toll on Southeast Asia's second-largest economy and severely undermined the country's democratic credentials, has entered a more dangerous phase following last week's highly controversial ouster of prime minister Yingluck Shinawatra by Thailand's constitutional court.
A potentially violent showdown looms, between anti-government protesters who are now seeking to topple Yingluck's caretaker successor - Niwatthamrong Boonsongphaisan, her former deputy - and government supporters who accuse the judiciary of staging a coup d'état.
The Thai baht is now trading at the same level against the US dollar as it did at the beginning of this year - and has remained in a tight range of 32 to 33 to the dollar since the start of the crisis.
Yet while the whiff of civil war in Thailand is in the air, investors are taking the [crisis in stride]
Indeed, the US Federal Reserve's decision in May last year to begin scaling back, or "tapering", its asset purchases proved far more damaging to the baht than Thailand's own political conflict.
What's more, the yield on Thailand's benchmark 10-year local currency debt has fallen from 4.2 per cent, just before the eruption of the crisis in late November, to 3.5 per cent. This compares with 4 per cent in Malaysia, 8 per cent in Indonesia and 8.8 per cent in India.
Returns on Thai local currency bonds have risen 4 per cent this year, compared with a rise of 3.6 per cent for JP Morgan's benchmark emerging-markets local currency bond index.
However, the strains are starting to show in Thailand's resilient financial markets.
Thai shares have fallen nearly 4 per cent this month, one of the few equity markets in emerging economies - and the only one in emerging Asia - to register declines. The baht, moreover, has weakened over the past several days.
According to Bank of America Merrill Lynch, which tracks foreign holdings of emerging markets' local-currency bonds, Thailand is the only emerging Asian local debt market in which foreigners have reduced their exposure this year.
The big question is whether Yingluck's ouster is the trigger for a sharper sell-off in Thai assets.
Part of the reason why market reaction to the conflict has been muted is that investors have grown accustomed to Thailand's political crises.
Yingluck is the third prime minister to be overthrown by Thailand's judiciary in an eight-year-long power struggle pitting the country's anti-government Bangkok elite, which is close to Thailand's military, against the pro-government supporters of Yingluck's Pheu Thai party, whose populist policies appeal to the rural poor in the north.
While Yingluck is tainted by the cronyism of her brother, former prime minister Thaksin Shinawatra, who was ousted in a military coup in 2008 but is seen as exerting considerable influence over the current government, her opponents have taken the law into their own hands and refuse to take part in a national election planned for July 20.
The pro-government "red shirts" and the establishment-led "yellow shirts" remain at daggers drawn and are unwilling to resolve their long-standing political differences.
Any form of national reconciliation is, at least for the time being, virtually impossible.
The stand-off is inflicting severe damage on Thailand's already weak economy, which grew by less than 3 per cent last year - the slowest rate in emerging Asia - and is likely to have contracted in the first quarter of this year.
Foreign investment in Thailand has practically ground to a halt, banks have reined in their lending, and consumer confidence has hit a 12-year low.
With scant prospect of a functioning government any time soon and a risk of widespread civil violence, one would expect investor sentiment towards Thailand to deteriorate further.
Yet the fact remains that the bar for a sharp and disorderly sell-off is much higher in Thailand than in other countries experiencing severe political crises. The combination of a crisis-hardened local investment community and an improvement in sentiment towards emerging markets over the past two months is underpinning the resilience of Thailand's financial markets.
Indeed, previous periods of political unrest in Thailand - in 2006, 2008 and 2010 - were not accompanied by market sell-offs. The baht even rose against the US dollar amid the turmoil.
This suggests external factors are likely to keep having a stronger impact on sentiment towards Thailand than domestic ones.
Still, the current bout of turmoil is undermining Thailand's reputation and severely harming the economy. At a time when sentiment towards emerging markets remains fragile, this is not the moment for Thailand to be on the brink of civil war.
Nicholas Spiro is the managing director of Spiro Sovereign Strategy