Not only was the size of the output gap significantly mis-measured – with real-time estimates subsequently revised up by some 3–4 percentage points – but, more importantly, even the sign of the gap was wrong. This example is not just an aberration: large errors are inherent in the concept of the output gap. And worse still, at the critical moments when policymakers need to understand what’s  1  See Potential Output from a euro area perspective (ECB Occasional Paper series No 156, November 2014). BIS central bankers’ speeches  1  happening in the economy – in the build-up to and aftermath of crises – measures of output gap are often at their least dependable. 2 So that poor track record in the run up to the crisis is one reason why I’m sceptical of finetuning. But there’s also a second one: such difficulties are only likely to increase given current trends in the economy and society – and not just in estimating potential output, but in measuring actual output too. 3 We’re living through an era where the nature of production and consumption is changing rapidly. And that has profound implications for our ability to understand the economy – or, at least, our ability to adequately measure what is actually being produced and how efficiently this is achieved. Consider, for example, the difficulties that the digital economy creates for measuring labour input.
This, in my view, is a major challenge for all of us in the financial community. The second major challenge to the Thai economy is how to cope successfully with volatile global financial markets and an appreciating baht. This challenge is the more pressing of the two. Let me explain why. Thailand, like many emerging market economies with a small and shallow financial market, is particularly vulnerable to fast-moving international capital. Such rapid movements of capital flows, if vastly out of line with our ability to absorb it, can have negative impacts on the export or import sectors, depending on the direction of the exchange rate movement. In our case, the recent surge in speculative capital inflows caused a rapid one-way appreciation of the baht relative to regional currencies. The appreciation momentum hardly reflected our economic fundamentals. Left unchecked, it could have presented a clear threat to growth and stability – beginning with export, a current engine of growth, trickling down to the real sector, and eventually harming financial stability. In dealing with currency appreciation, the prevailing wisdom of "letting the market work" has been given a chance. Yet the baht kept rising against almost all major and regional currencies at an alarming speed. Letting such rapid appreciation work itself out could have entailed significant risks to our agriculture sector, which employs nearly 40% of the labor force, and small and medium-sized firms in the labor-intensive manufacturing sector. We recognize that the real sector needs to adjust.