Monetary tightening likely if inflationary pressures persist

As consumer price pressures remain high, the Bangko Sentral ng Pilipinas (BSP) may turn hawkish later this year to bring back inflation to its targeted level.

This was suggested by a research note from Bank of the Philippine Islands (BPI), which said that the significant upside risks to inflation “might lead to adjustments in monetary policy in the coming months.”

But certain institutions expect the BSP to either keep its interest rates unchanged or even cut interest rates given the country’s anemic economic recovery.

BPI issued the research note after the country’s annual inflation in May came in at 4.5 percent, similar to the print in March and April, and was in line with market expectations.

The BSP’s inflation target range was set at 2 to 4 percent.

“Despite the recent print, we continue to see upside risks that could keep inflation above 4 percent in the coming months. Pork prices have stayed at elevated levels despite the aggressive measures applied by the government,” the research note said.

“Aside from challenges on refrigeration logistics, importing pork from abroad might not address the problem fully since other countries are also experiencing their own ASF (African swine fever) outbreaks. Corn prices, which is also an important input for pork production has also hit multi-year highs.”

BPI added that inflation in other countries had also gone up significantly, noting that in the United States, inflation also exceeded 4 percent in April, while inflation in Mexico and Brazil hovered above 6 percent.

With the Philippines being a net importer of products from abroad, BPI said lofty prices in other countries might spill over to the country, especially now that the government allowed the importation of more pork products.

Currently, global commodities like metals, corn, and wheat are trading at their 10-year high amid expectations of higher demand in major economies while the price of oil has gone up to $68 per barrel, more than 100 percent more than its level a year ago, the research noted.

“To demonstrate its determination to keep core inflation from consistently breaching the headline target, monetary authorities may recalibrate the policy rate later this year to maintain its independence and credibility,” the BPI research said.

The research did not say what form the monetary tightening may take. The BSP typically mops up excess liquidity in the system by raising its key interest rates and increasing the reserve requirement on banks.

“Inflation consistently breaching the 4 percent target can erode the confidence of financial market participants, especially considering the substantial gap between inflation and the policy rate,” the research said.

The research also noted that the impact of high inflation on consumer demand had been significant, as shown by the latest gross domestic product data.

“Aside from high unemployment and restrictions on movement, inflation has prevented consumer demand from recovering much faster. Food consumption growth slowed down from its 5 percent historical average to 2.2 percent in first quarter amid the huge increase in pork prices. A prolonged period of high inflation might exacerbate the weakness in consumer demand further,” it said.

In a separate research, HSBC said that despite challenges to growth, the BSP might keep its policy rate on hold at 2 percent for the remainder of the year.

The research said any additional rate cut was “unlikely to significantly boost domestic demand as long as movement restrictions remain in place and economic uncertainty remains high.”

“Timely containment of the virus, an accelerated pace of vaccination, and ongoing fiscal support are the keys to the Philippines’ economic recovery, in our view,” HSBC said.