The Bangko Sentral ng Pilipinas (BSP) may be preparing the market for a hike in interest rates to combat price pressures that have started to crop up, as suggested by its “hawkish” tone following its policy stance meeting last week.
Financial giant Citi over the weekend likewise warned that the Philippine economy could exit the so-called “sweet spot” anytime soon, after it greatly benefited from high growth rates and low inflation.
With rising tensions in the Middle East, along with the expected “tapering” of the US Federal Reserve, policymakers in emerging countries like the Philippines may be compelled to hike interest rates.
“The key implication behind the Monetary Board’s (MB) hawkish citation is that oil price pressures remain at the core of upside inflation risk for a net oil importing country with upbeat growth prospects,” Citi said in a research note.
After the MB’s policy meeting last week, when key overnight lending and borrowing rates were kept at their respective record lows of 3.5 and 5.5 percent, BSP Amando M. Tetangco Jr. said the inflation outlook had shifted “slightly toward the upside as oil prices have become more volatile amid ongoing geopolitical tensions in the Middle East.”
Inflation averaged at 2.8 percent at the end of August, slightly lower than the BSP’s full-year target of 3 to 5 percent.
“While the MB’s tone doesn’t signal alarming inflation risk, it may be the start of gradual erosion of the economy’s ‘sweet spot’ of strong growth amid low inflation,” the American giant added.
It said the erosion in its early phase may not necessarily prompt the BSP to respond aggressively.
Over time, however, once the US Fed starts to taper its monthly asset purchase program, Citi said, the BSP may have no choice but to start tightening its monetary policy.
Citi said the BSP’s first move may be a 25-basis-point hike in yields for Special Deposit Accounts (SDA), which currently stand at 2 percent across all maturities.
A hike in SDA rates will prompt most banks to park their funds with the BSP, given the higher yields. As a result, excess cash will be siphoned off from financial circulation and temper demand that may push consumer prices up.
Another risk the BSP faces, Citi said, would be a self-inflicted one. Recent restrictions that ban individual investments from being parked in SDA funds will continue to fuel double-digit growth in the country’s money supply, also known as M3.
The BSP earlier ordered banks to pull out 30 percent of non-pooled SDA funds last July. Because of this development, M3 grew by over 30.1 percent at the end of July—the fastest growth in nearly a decade.
The remaining 70 percent of non-pooled funds would have to be pulled out of SDAs by November.
“Caveat, in our view, would come from exiting SDA monies, beefing up deposits that would revive strong bank lending. Not all of bank lending would fund investments that could render faster consumer-driven growth susceptible to upside inflation risk,” Citi explained.