The Bangko Sentral ng Pilipinas, despite the hefty easing of special deposit account (SDA) rates recently, is seen turning “creatively hawkish” or biased toward monetary tightening as multiple challenges loom over the horizon.
New York-based think tank Global Source said in a recent report that the BSP was facing a policy “quadrilemma” of reducing mounting losses while trying to keep policy independence and manage exchange rate stability and capital flows all at the same time.
The report, dated March 21 and authored by economists Romeo Bernardo and Marie Christine Tang, projected that moving forward, the BSP would likely favor instruments and policies that would limit its losses, including measures that reduce the running losses on its negative carry such as lowering the SDA rate or resorting to using the reserve requirement on bank deposits, which are non-interest bearing, to fund asset purchases.
The SDA is a potent monetary tool created by the BSP to mop up excess liquidity in the system, offering higher-yielding deposit instruments at the central bank that can cascade even to retail investors. About P1.9 trillion of liquidity is currently locked up at the SDA facility.
On the reserve requirement, Global Source said the BSP might either raise the existing reserve requirement ratio or impose such requirement on trust products.
“The risk with bringing the SDA rate even lower is the potential for asset bubbles in the already frothy stock and property markets. Considering that SDA volumes have continued to rise, it is not clear at this point if and by how much the interest rate cuts will whet investors’ risk appetite, especially since bond yields are already dropping in anticipation of more cuts,” the report said.
But it said a safe assumption was that a portion of any SDA withdrawals would be used to fund increased government domestic borrowings. In the case of foreign funds that have circumvented the BSP ban, the report said their exit would contribute to a weaker peso and would be good for the BSP’s books.
“Still, if the lower rates induce banks to lend too aggressively, the BSP may then switch to raising reserve requirements apart from tightening prudential limits further,” the report said.