Surprise cut in bank reserve seen to trigger peso weakness

The surprise timing of a one-percentage point reduction by the Bangko Sentral ng Pilipinas (BSP) of the reserve requirement ratio—the first monetary easing of this kind using this policy instrument in six years—is seen as a bearish signal for the peso.

Effective March 2, the reserve requirement or the percentage of bank deposits and deposit substitute liabilities that banks must keep in the BSP vault, will go down to 19 percent from 20 percent. This will inject an additional P90 billion in liquidity to the system.

“The cut in the reserve requirement ratio (RRR) is consistent with our perception of a dovish BSP bias following last week’s statement on policy rates and upwardly revised inflation forecast,” ING Philippines economist Joey Cuyegkeng said in a research note.

“The cut supports the view of greater tolerance toward a weaker currency,” he said.

While the reserve requirement cut will infuse P90 billion into the system, Cuyegkeng noted that higher offerings at the week’s BSP Term Deposit Facility (TDF) auction would take out another P50 billion.

The TDF is a key liquidity-absorption facility, commonly used by the BSP for liquidity management. Due to the BSP’s inability to issue its own debt instruments, the TDF is used as a mechanism to withdraw a large part of the structural liquidity from the financial system to bring market rates closer to the BSP policy rate.

Since the BSP has increased the weekly TDF offerings by P50 billion to P110 billion starting this week from P60 billion last week, the economist noted that the net liquidity infusion would be P40 billion.

“The cut would still be seen as the BSP providing further stimulus to the system by encouraging banks to maintain lending and also to support the government’s financing needs,” Cuyegkeng said.

“We expect the currency to weaken,” he added.

Bank of the Philippine Islands economist Emilio Neri Jr. said the cut in the reserve requirement “may help relieve some of the pressure on borrowing costs of consumers who are hurting from higher energy, transport, tobacco, sugar and sweetened beverage costs.”

For his part, BDO Unibank chief strategist Jonathan Ravelas said the reduction in the reserve requirement was a “welcome move.”

In deciding to reduce the reserve requirement ratios, the Monetary Board reaffirms the BSP’s commitment to “gradually lessen its reliance on reserve requirements for managing liquidity in the financial system.”

The BSP believes it now has ample scope to mitigate the potential liquidity impact of a phased reduction in the reserve requirement via offsetting auction-based monetary operations, referring to the TDFs.

The reduction in the reserve requirement also aims to help mobilize liquidity in support of economic activity as well as capital market development over the medium term.