BSP seen cutting SDA rates by 100 points

A leading economist from Dutch financial giant ING sees the Bangko Sentral ng Pilipinas further slashing the rate on special deposit accounts (SDAs) by as much as 100 basis points more to ward off speculative flows and curb the peso’s appreciation.

The BSP’s policy-making Monetary Board is set to hold a monetary setting meeting this Thursday, during which the market widely expects another 50-point reduction in the rates on SDAs, the mechanism by which the local central bank borrows from the broader market.

Since the BSP’s latest round of SDA rate cuts on March 14, the peso has depreciated by 1.6 percent against the dollar. “This represents a sharp reversal of fortune for the peso,” said Tim Condon, ING chief economist in Asia.

“The BSP’s cumulative 100 basis points of SDA rate cuts this year have discouraged new inflows and caused some of what’s already onshore to decamp, which partly explains the reduced peso-appreciation pressure. Further SDA rate cuts would enhance the process and push up short-term interest rates,” Condon said in his latest “Good MornING Asia” weekly financial markets research report.

The March 14 SDA rate cut to 2.5 percent was noted as a “game-changer” for signaling that the peso was subject to two-way risk.

Condon sees the BSP moving to an interest rate corridor system wide enough “that short-term interest rates are inside” by cutting the SDA rate by another 100 basis points.

“We expect outflows of hot money will tighten liquidity and drive short-term rates into the corridor, which would re-connect market rates to the policy rate,” Condon added.

The recently released 2013 Article IV report of the International Monetary Fund for the Philippines said “market rates have become disconnected from official rates” as abundant liquidity has weakened the BSP’s monetary policy transmission mechanism.

Interest rate corridor systems help the central bank maintain rates at levels consistent with its desired monetary policy stance while also curbing short-term interest rate volatility.

“We think the BSP is moving to a corridor system in which the SDA will be converted into a borrowing facility. The reverse repurchase (RRP or overnight borrowing) facility would be defunct but the rate on the lending facility could be the current RRP rate,” he added.

Condon said the IMF’s prescription for the BSP to “lean against the wind” in the foreign exchange market “makes the peso a one-way bet” for speculators. “In its silence on the use of interest rates— the SDA rate cuts— to curb inflows, the IMF eschews a market-oriented approach and, worst of all, ignores the facts on the ground,” he stressed.