$86B in forex reserves seen excessive, costly, beyond optimal

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The country’s nearly $86-billion foreign exchange reserves, which are projected to rise further due to robust inflow of remittances and portfolio investments, were deemed  excessive, costly and beyond optimal.

This is the opinion of Philippine Institute for Development Studies (PIDS), which said in one of its latest research notes that the economy might be missing out on prudent investment opportunities as it kept more than enough foreign exchange liquidity.

PIDS also said the Bangko Sentral ng Pilipinas (BSP), which manages the gross international reserves (GIR), was incurring huge interest expenses as it continued to build the reserves.

It explained that the central bank’s dollar buying activities—which boosts the GIR—resulted in the infusion of peso liquidity into the economy. Financial institutions that earn from selling dollars to the central bank, in turn, park a significant portion of the proceeds in special deposit accounts (SDA) with the BSP.

The BSP accommodates funds in its SDA facility and pays interests on these to avoid excess liquidity in the economy as this can fuel higher demand and rise in inflation.

SDA funds were estimated at P1.8 trillion and the central bank pays an annual interest rate of 3 percent on it.

PIDS cited three general means to measure whether foreign exchange reserves were either within or beyond optimum levels.

“Based on these three criteria, the foreign exchange reserves of the Philippines have been determined to be higher than the optimal level,” PIDS said in the commentary titled “Rapid Accumulation of Foreign Exchange Reserves: Boon or Bane.”

The first is the ratio of the reserves to the country’s outstanding, short-term foreign currency-denominated debts. According to PIDS, an ideal ratio is 1:1. In the case of the Philippines, its foreign-exchange reserves are about 6 times its short-term external debt.

Second is the ratio of the reserves to total liquidity in the economy measured in terms of M2 (M2 includes currencies in circulation and bank deposits). PIDS said an optimal level of reserves is one that is equivalent to between 5 and 20 percent of M2. However, the country’s foreign-exchange reserves are even slightly higher than M2.

Third is the number of months of import cover. PIDS said a comfortable GIR should cover imports requirements for three to four months. The Philippines’ current foreign exchange reserves, however, can cover one year worth of imports.

“Hence, the BSP should explore measures on how to minimize the costs associated with holding foreign exchange reserves,” PIDS said.

PIDS urged the central bank to study the proposal of pulling some money from the GIR to form a sovereign wealth fund, which will be used for various developmental investments.

“The more elaborate proposal for managing foreign exchange reserves is to establish a sovereign wealth fund such that the strategic focus of using surplus reserves will shift from passive liquidity management to active profit-seeking investment,” PIDS said.

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  • http://www.facebook.com/people/Betz-Chui/100002310507085 Betz Chui

    The government should invest this money on income / job  generating projects. Kong hindi nila kaya – be investors on existing small industries in rural areas so they can expand and generate more employment, profit, and income. Pagawa ng train system around Mindanao…

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