THE PHILIPPINE REVIEW OF ECONOMICS THE PHILIPPINE REVIEW OF ECONOMICS Volume LIV No. 2 December 2017 Volume LIV No. 2 December 2017

VolumeVolumeVolumeVolume LVILIVLIVVolume LIV Nos.VolumeNo.No. LIV VolumeNo. 2 2 1LIV Volume No. and2 LIV VolumeNo. 2 LIV2 VolumeNo. 2 LIV VolumeNo. 2 LIV VolumeNo. 2 LIV No. 2 LIV No. 2 LIV No. 2 No. 2 2 ISSNISSNISSN 1655-15161655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516ISSN 1655-1516 1655-1516 June and DecemberDecemberDecemberDecemberDecember 201720192017December 2017December 2017December 2017December 2017December 2017December 2017December 2017 2017 2017 2017 TheTheTheTheTheTheThe PhilippineThePhilippine ThePhilippine ThePhilippine ThePhilippine ThePhilippine Philippine Philippine Philippine Philippine Philippine Philippine ReviewReview Review Review Review Review Review Review Review Review Review Review Volume LIV No. 2 ISSN 1655-1516 ofofofof ofEconomicsEconomics ofEconomics ofEconomics ofEconomics ofEconomics ofEconomics ofEconomics ofEconomics Economics Economics EconomicsDecember 2017 The Philippine Review FESTSCHRIFT FOR RAUL V. FABELLA SPECIALSPECIALSPECIALSPECIAL ISSUEISSUESPECIAL ISSUE INSPECIALIN ISSUE HONORHONOR SPECIALIN ISSUE HONOR SPECIALIN ISSUE HONOR OFSPECIALINOF ISSUE HONOR AMADO SPECIALINAMADOOF ISSUE HONOR SPECIALINAMADOOF ISSUE HONOR SPECIALINAMADOOF A.ISSUEA. HONOR INAMADO OFCASTROCASTRO ISSUEA. HONOR INAMADO OFCASTRO ISSUEA. HONOR INAMADO OFCASTRO A. HONOR INAMADO OFCASTRO A. HONOR AMADO OFCASTRO A. AMADO OFCASTRO A. AMADO OFCASTRO A. AMADO CASTRO A. CASTRO A. CASTRO A. CASTRO Guest Co-editors Emmanuel S. de Dios IssueIssueIssue EditorsEditorsIssue EditorsIssue EditorsIssue EditorsIssue EditorsIssue EditorsIssue EditorsIssue EditorsSarahIssue EditorsIssue EditorsLynneEmmanuelEmmanuel EditorsEmmanuel S. Daway-DucanesEmmanuel EmmanuelS.S. dede EmmanuelS. Dios Diosde EmmanuelS. Diosde EmmanuelS. Diosde EmmanuelS. Diosde EmmanuelS. Diosde EmmanuelS. Diosde EmmanuelS. Diosde S. Diosde S. Diosde S. Diosde Dios Editor-in-ChiefEditor-in-ChiefEditor-in-ChiefEditor-in-ChiefEditor-in-ChiefEditor-in-ChiefofEditor-in-ChiefEditor-in-Chief Editor-in-ChiefEconomicsEditor-in-ChiefEditor-in-ChiefEditor-in-Chief EmmanuelEmmanuelEmmanuelEmmanuel EmmanuelF.F. EsguerraEsguerra EmmanuelF. Esguerra EmmanuelF. Esguerra EmmanuelF. Esguerra EmmanuelF. Esguerra EmmanuelF. Esguerra EmmanuelF. Esguerra EmmanuelF. Esguerra F. Esguerra F. Esguerra F. Esguerra ARTICLES IN THIS ISSUE EMMANUELEMMANUELJOSEPHEMMANUELEMMANUEL J.EMMANUEL CAPUNO S.S.EMMANUEL DEDE S.EMMANUEL DIOSDEDIOS S.EMMANUEL DEDIOS S.EMMANUEL DEDIOS S.EMMANUEL DEDIOS S.EMMANUEL DEDIOS S.EMMANUEL DEDIOS S. DEDIOS S. DEDIOS S. DEDIOS S. DEDIOS DIOS ome reections on theARTICLESARTICLES stateARTICLES oARTICLES ININARTICLES THISTHIS INARTICLES THIS ISSUEINISSUEARTICLES THIS INISSUEARTICLES THIS INISSUEARTICLES THIS INISSUEARTICLES THIS INISSUEARTICLESHal THIS INISSUEARTICLES C. 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Remolona other talesIssue oEditors central an orard Emmanuel S. de Dios RAULRAULRAUL V.V.RAUL FABELLA FABELLAEditor-in-ChiefV.RAUL FABELLAV.RAUL FABELLAV.RAUL FABELLAV.RAUL FABELLAV.RAUL FABELLAV.RAUL FABELLAV.RAULgidance FABELLAV.RAUL FABELLAV. FABELLAV. FABELLA Emmanuel F. Esguerra PhilippinePhilippinePhilippinePhilippine inequalityinequalityPhilippine inequalityPhilippine inequalityPhilippine across acrossinequalityPhilippine acrossinequalityPhilippine acrossinequalityPhilippine acrossinequalityPhilippine acrossinequalityPhilippine Jeffrey Jeffreyacrossinequality Jeffreyacrossinequality G.JeffreyacrossG.inequality Williamson Williamson JeffreyacrossG. Williamson JeffreyacrossG. Williamson JeffreyacrossG. Williamson JeffreyG. Williamson JeffreyG. Williamson JeffreyG. Williamson JeffreyG. Williamson JeffreyG. Williamson G. Williamson G. Williamson HAL CHRISTOPHERHALHALEMMANUELHAL C.C.HAL HILL HILLC.HAL HILLC. HALHILLS. HILLC. DEHAL HILLC. 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Alonzo S. de Dios ManagingManagingManagingManagingManaging EditorEditorManaging EditorManaging EditorManaging EditorManaging EditorManaging EditorManaging EditorManaging EditorA. CastroEditor Editor Editor Managing Editor economics oes ar HONLANIHONLANIHONLANIHONLANI HONLANIRUTHRUTH HONLANIRUTH J.J. HONLANIRUTH RABERABE J. HONLANIRUTH RABE J. HONLANIRUTH RABE J. HONLANIRUTH RABE J. HONLANIRUTH RABE J. HONLANIRUTH RABE J. RUTH RABE J. RUTH RABE J. RUTH RABE J. RABE J.AA RABE jointjointA joint publicationpublicationA joint publicationA joint publicationA joint publicationA ofof joint publicationtheAthe of joint publicationAthe of joint publicationAthe of joint publicationAthe of joint publicationAthe of joint publicationthe of publicationthe of the of the of the of the HONLANI RUTH J. 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EDITOREDITOR-IN-CHIEFIN CHIEF AimsAims and Scope: The Philippine Review of of Economics Economics ((prePRE)) JosephEmmanuel J. Capuno S. de Dios invitesinvites theoretical theoretical and and empirical articles on on economics economics and and UPUP SCHOOL SCHOOL OF OF ECONOMICS ECONOMICS economiceconomic development. development. Papers Papers on onthe thePhilippines, Philippines, Asian Asian and other and EDITORIALEDITORIAL ADVISORY ADVISORY BOARD developingother developing economies economies are especially are especiallywelcome. Book welcome. reviews Book will RaulRaul V. V. Fabella Fabella alsoreviews be considered. will also be considered. UPUP SCHOOL SCHOOL OF OF ECONOMICS ECONOMICS The PRE is published jointly by the UP School of Economics The pre is published jointly by the up School of Economics HalHal Christopher C. Hill Hill and the Philippine Economic Society. Its contents are indexed AUSTRALIANAUSTRALIAN NATIONAL NATIONAL UNIVERSITY UNIVERSITY and the Philippine Economic Society. Its contents are indexed in the Journal of Economic Literature, EconLit, and RePec. Charles Y. Horioka in the Journal of Economic Literature, EconLit, and RePEc. Charles Y. Horioka PRE’s readership includes economists and other social scientists ASIANASIAN GROWTH GROWTH RESEARCH RESEARCH INSTITUTE INSTITUTE pre’s readership includes economists and other social scientists in academe, business, government, and development research (KITAKYUSHU)(KITAKYUSHU) in academe, business, government, and development research institutions. KianKian Guan Guan Lim Lim institutions. SINGAPORE MANAGEMENT UNIVERSITY SINGAPORE MANAGEMENT UNIVERSITY Publication Information: The PRE (ISSN 1655-1516) is a peer- RobertoRoberto S. 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All submissions must include the title of the paper, STUDIES reproduced for personal use but not for mass circulation. To reprint UP SCHOOL OF ECONOMICS author information, an abstract of no more than 150 words, and a an article from PRE, permission from the editor must be sought. ErnestoStella Luz M. PerniaA. Quimbo list of 3–4 keywords. Complete guidelines can be viewed in pre’s UPUP SCHOOL SCHOOL OF OF ECONOMICS ECONOMICS Acknowledgements:website. The PRE gratefully acknowledges the fnancial Stella Luz A. Quimbo support towards its publication provided by the Philippine Center UPMANAGING SCHOOL OF ECONOMICS EDITOR Honlani Ruth J. Rabe forCopyright: Economic The Development Philippine Review (PCED ). of The Economics Review is nonetheless protected MANAGINGUP SCHOOL OF EDITOR ECONOMICS followsby Philippine an independent copyright editorial laws. Articles policy. appearing The articles herein published may Honlani Ruth J. Rabe rebef ectreproduced solely the for editorial personal judgement use but ofnot the for editors mass andcirculation. the views To of UPCOPY SCHOOL EDITOR OF ECONOMICS theirreprint respective an article authors. from PRE, permission from the editor must be Dinna Dayao sought. The Philippine Review of Economics

Vol. LVI Nos. 1 and 2 ISSN 1655-1516 JuneVolumeVol. LVI and Nos.LIV December No. 1 and 2 2 2019 JuneDecember and December 2017 2019 DOI: 10.37907/ERP9102JDISSN 1655-1516

1 Some refections on the state of development economics in Asia 1 SoutheastHal C. Hill Asia in the global economy: aSisira selective Jayasuriya analytical survey 16 TheHal C.monkey Hill in the mirror and other tales of central bank forward guidance 37 EliPhilippine M. Remolona inequality across the twentieth century: slim evidence, but fat questions 28 JeffreyA BSP G.closer Williamson to the people: spreading the benefts of monetary and fnancial stability 61 PhilippineBenjamin E. policy Diokno reforms in infrastructure development: 42 Digita historical ratio and account prosocial behavior: the role of innate aggression inDante public B. goodsCanlas and trust games Jahm Mae E. Guinto 88 CharlotteThe fscal Mayprogram DC. inAmante recent Philippine history: Franzlooking Nicole back andL. Carlos looking forward ArleneBenjamin B. DaroE. Diokno Mariella Jasmin P. Marasigan 100 JosephAmado J.Castro Capuno and gender equity in education Vicente B. Paqueo and Aniceto C. Orbeta 73 A note on cooperative hunting: Holmstrom, Fabella, and the 110 Quality,Dumagat equality of Tanay and recent education reforms EditaOrville A. C. Tan Solon 80 The case against the case for land reform: transaction costs and 138 Non-inclusive growth, the proft motive, and the case for misplaced exogeneity inclusive business Karl L. Jandoc Niceto S. Poblador James A. Roumasset 127 Toward a fairer society: inequality and competition policy in developing Asia Arsenio M. Balisacan 147 Sovereign determination or disguised protectionism?: the vitamin C case Ma. Joy V. Abrenica 173 Recent trends in the gender gap in the labor market in the Philippines Mitzie Irene P. Conchada Dominique Hannah A. Sy Marites M. Tiongco Alfredo R. Paloyo 187 Automation, gigs, and other labor market tales: the Philippines in the Fourth Industrial Revolution Emmanuel F. Esguerra 219 Revisiting the aid-growth nexus in light of the Sachs-Easterly debate Sarah Lynne S. Daway-Ducanes Irene Jo E. Arzadon 236 Public debt and the threat of secession Rhea M. Molato-Gayares 257 What the new institutional economics owes Marx Emmanuel S. de Dios Festschrift for Raul V. Fabella

This special edition of the Philippine Review of Economics honors Dr. Raul V. Fabella in his 70th year and recognizes his invaluable contribution to the economics discipline and profession. This edition comprises 13 articles from his colleagues and several generations of former students inspired or mentored by Dr. Fabella who are themselves making their mark in economics. The broad spectrum of topics covered—agricultural economics, competition policy, contract theory, game theory, history of economic thought, international economics, issues in productivity, growth and development, monetary policy, political economy and rent- seeking, public economics, and the theory of teams—are issues that Dr. Fabella himself has written on or taught his students during his long, productive years as a Professor of Economics at the UP School of Economics, nurturing an “oasis of excellence” in his spheres of infuence, as well as advocated as a roving academic in his later years, endeavoring to engage policymakers and the public in general, in pursuit of welfare-improving changes for a better Philippines. The wide gamut of topics in this issue is a testament to Dr. Fabella’s eclectic intellectual interests yet unwavering devotion to upholding a high standard of academic excellence. As his biographical sketch at the National Academy of Science and Technology summarizes:

Fabella’s very development as a scholar and intellectual leader presents numerous paradoxes: a classicist turned mathematical economist; a rational- choice theorist who derives material and metaphor from both history and physics; a solitary thinker who agonizes over pedagogy; a pure theorist immersed in policy-debate; an inherently shy, private man who must deal with crowds. His career displays to the fullest the range of issues – from the mathematical to the moral – that economists can and must confront if they are to attain to that “cool head and warm heart” that was Marshall’s ideal. A classicist, however, might simply recall Terentius: Homo sum: humani nil a me alienum puto. Indeed, to Dr. Fabella, nothing related to human behavior is outside his interest. At 70 years of age, National Scientist of the National Academy of Science and Technology (Philippines) and Professor Emeritus at the University of the Philippines, he is yet to reach the zenith of his intellectual verve: Fabella the economist is transfguring into Fabella the social scientist – one to whom homo economicus is no longer the norm, but the exception in the vast complexity of human interactions in society. It is thus unlikely that this will be the last festschrift in his honor.

Sarah Lynne S. Daway-Ducanes Emmanuel S. de Dios PRE The Philippine Review of Economics 2019 56(1&2):28-41. DOI: 10.37907/3ERP9102JD

A BSP closer to the people: spreading the benefts of monetary and fnancial stability

Benjamin E. Diokno* Bangko Sentral ng Pilipinas

This article tackles the efforts of the Bangko Sentral ng Pilipinas (BSP) to bring the achievement of its core mandates closer to the Filipino people. It examines the complex operating environment characterized by a narrowing policy space for central banks of advanced economies, the increasing scope of central bank objectives outside traditional monetary policy, greater global connectedness, and the rise of the Fourth Industrial Revolution. Moreover, it outlines the BSP’s policy directions and priorities going forward. More importantly, the article also discusses how, even in a complex operating environment, the benefts of BSP’s delivery of its mandates can be brought closer to the people.

JEL classifcation: E02, E52, E58, E59 Keywords: Bangko Sentral ng Pilipinas, fnancial stability, monetary stability, fnancial inclusion

1. Introduction

“I think the 21st century would be the century of complexity…” - Stephen Hawking

Complexity has become an increasing feature of the global economy as far- reaching forces—ranging from narrowing monetary policy space, increasing interconnectedness, disruptive technologies, inequality, climate change, and rising populist sentiment, among others—exert their impact on markets and economies. These forces have challenged existing economic principles, pushed central bankers into unfamiliar terrain, and altered and complicated the central banking policy landscape.

* Please address all correspondence to [email protected]. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 29

In this age of complexity, central banks need to constantly anticipate new challenges without losing focus on their core mandates. For the Bangko Sentral ng Pilipinas (BSP), this approach is enshrined in its efforts to 1) enhance its capacity to safeguard price and fnancial stability; 2) enhance policy responsiveness and agility; and 3) bring the benefts of macroeconomic and fnancial stability closer to the people through greater fnancial inclusion [Diokno 2019]. The rest of the article is divided into three main parts. The second section examines the challenging operating environment that central banks are currently confronting. It looks at the key forces that contribute to the complexity of the economic landscape as well as their implications on the conduct of monetary and fnancial policy. The third section discusses the BSP’s policy response to these challenges, namely: 1) enhancements in monetary and macroprudential policy; 2) The BSP’s fnancial inclusion initiatives; and 3) landmark reforms such as the National Retail Payments System (NRPS), support of the National ID System, amendments to the BSP charter, and Islamic banking, among others. The fourth section concludes.

2. Complex operating environment

Complexity is increasingly becoming an economic and fnancial reality. In the context of the central bank, this presents key challenges which will infuence the conduct of monetary policy and fnancial regulation. Four of these key challenges are: 1) the narrowing monetary policy space for central banks of advanced economies (AEs); 2) the expansion of the key mandates and objectives of a central banks; 3) increasing global connectedness and uncertainty; and 4) the rise of the Fourth Industrial Revolution.

2.1 Narrowing policy space for central banks of advanced economies

Slower global growth and a decline in core infation in AEs have fueled concerns about potential defationary spirals and the ability of central banks to address them.1 Despite signifcant monetary stimulus, infation in most of these economies remains relatively low (Figure 1). According to Kiley and Roberts [2017], such a scenario could potentially lead to more frequent and costly episodes of Effective Lower Bound (ELB) of nominal interest rates.

1 IMF World Economic Outlook Update [July 2018]. 30 Diokno: A BSP closer to the people

FIGURE 1. Infation targets and actual infation rates

Japan United Kingdom 4 Infation rate Infation rate 3 Interest rate 5 Interest rate

2 4 1 3 0 2 –1 1 –2

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2008 2010 2012 2014 2016 2018 Euro Area United States 5 Infation rate Infation rate Interest rate 5 Interest rate 4 4 3 3 2 2 1 1 0 –1 0 –2 2008 2010 2012 2014 2016 2018 2020 2008 2010 2012 2014 2016 2018 2020

Source: IMF and FRED

Going forward, it can be expected that central banks, especially those in the AEs, would continue to make use of unconventional tools in the conduct of monetary policy. However, these tools are also relatively new and policymakers need to develop a more thorough understanding of their transmission mechanisms and impact on real economic variables.

2.2 Expanding role of central banks

Since the Global Financial Crisis (GFC), central banks’ policy agenda have expanded to include issues that extend beyond the ambit of conventional central banking. Issues such as inequality and climate change, among others, have come to the fore of central bank discussions. Rising inequality, which has been cited as the cause of the rise in populist sentiment across countries, is being increasingly discussed as one of the factors that should be taken into account in policymaking. In fact, central banks are now in the midst of an evolving conversation about what monetary and fnancial policy should do about inequality. From a theoretical perspective, a key question is whether monetary policy has a long-run impact on inequality, aside from what is acknowledged to be its short- run to medium-run effect on economic growth. The potential redistributive aspect of monetary policy has been bolstered by new theoretical developments in the feld of macroeconomics.2 For instance, Heterogenous Agents New Keynesian

2 At the frontline of these developments is the recent introduction of tractable heterogeneous agents in New Keynesian models, or what Kaplan, Moll, and Violante [2018] refer to as HANK models. It should be noted, 2however, At the frontline that HANK of these models developments still have signi is thefcant recent caveats introduction and their fofndings tractable need heterogeneous to be corroborated agents by in actual New empirical evidence. Keynesian models, or what Kaplan, Moll, and Violante [2018] refer to as HANK models. It should be noted, however, that HANK models still have signifcant caveats and their fndings need to be corroborated by actual empirical evidence. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 31

(HANK) models argue that monetary policy can affect households differently, and thus have a distributional effect due to the heterogeneity in households in terms of composition of net asset portfolios, income and consumption preferences and sources of incomes, among others. So far, an examination of the literature and the evidence seems to suggest that monetary policy’s contribution to inequality appears be a modest infuence at best [Amaral 2017]. From an operational perspective, if monetary policy has an infuence on long- run structural issues such as inequality, what kind of tools currently at the disposal of the central bank can realize such infuence? Tinbergen’s rule emphazises that achieving the desired values of a certain number of targets requires policymakers to control an equivalent number of instruments. Accordingly, the presence of multiple policy objectives can overburden monetary policy at the risk of incoherence and loss of credibility. A central bank cannot effectively pursue and achieve multiple goals with only one policy instrument such as a short-term interest rate.

2.3 Increasing interconnectedness

Notwithstanding the recent trade tensions and popular backlash, the world is signifcantly more interconnected now than in previous decades. The advent of technology coupled with advances in supply chain management and global fnancial markets has made the fow of funds, goods, and services extremely fast and effcient. However, this interconnectedness has also caused increases in global spillovers and uncertainties, which continue to affect domestic market performance. Spillovers from the global equity markets (Figure 2) due to major global events such as the global fnancial crisis and defaults in the euro area have been an increasingly key factor in equity market fuctuations [Fernandez et al. 2017]. At the same time, greater international economic interconnectedness over recent decades has been changing infation dynamics. Global commodity price fuctuations increasingly infuence domestic infation even as competition from imports has led to downward pressures on prices. Increased cross-border trade and competition generated by the expansion of global value chains (GVCs) partly explain the increasingly global nature of domestic infation.3

3 International production, trade and investments are increasingly organized within so-called global value chains where the different stages of the production process are located across different countries. With globalization, companies have been motivated to restructure their operations internationally through outsourcing and offshoring of activities 32 Diokno: A BSP closer to the people

FIGURE 2. Global equities spillover index

Source: BSP calculations

Greater interconnectedness and spillovers pose challenges for the conduct of monetary policy in two ways. First, domestic fnancial conditions could become increasingly affected by external shocks. Consequently, policymakers must respond to a broader range of developments. Second, transmission channels of monetary policy could potentially be weakened. For instance, long-term bond yields (i.e. longer-end of the yield curve) are increasingly infuenced by international market developments [Obstfeld 2015].

2.4 The Fourth Industrial Revolution

A discussion of challenges to central banks cannot be complete without discussing the Fourth Industrial Revolution, which is seen to potentially infuence the conduct of monetary and fnancial policy moving forward. Consider, for example, the impact of fnancial technology on the heart of central banking: monetary policy, exchange rate and banking regulation. First is the emergence of digital currencies. There are many forms of digital currencies currently being developed or conceptualized. On the one hand, we have e-money which is a digital payment mechanism for and denominated in fat currency. On the other hand, there are privately issued virtual currencies, which are not denominated in fat currency and have their own units of account. This distinction is important because their impact depends on how these digital currencies are designed. For instance, private virtual currencies such as cryptocurrencies can alter the organic composition and evolution of money supply and affect how the central bank can infuence aggregate demand. First, this could potentially lead to the economy’s fragmentation between those using fat money and those utilising The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 33 digital currency. Second, given the decentralized nature of most cryptocurrencies using Distributed Ledger Technology (DLT), the impact of monetary policy via bank balance sheets and the cost of credit may need appropriate recalibration [Ali, Barrdear, Clews, and Southgate 2014]. Cryptocurrencies may also be used to circumvent exchange rate policies for cross-border transactions, and in the process undermine the exchange rate. These effects combined may impair the central bank’s ability to infuence real activity, result in resource misallocation or price distortion, and threaten price and fnancial stability [IMF Staff Team 2016]. One possible response put forward in the literature is for the central bank to issue its own digital currency often referred to as Central Bank Digital Currency (CBDC). This would allow a central bank to take advantage of benefts offered by a digital currency without relinquishing monetary control to decentralized organizations. Firstly, the effective lower bound of monetary policy may no longer apply [Gnan and Masciandaro 2018]. The central bank could institute a negative nominal interest rate simply by reducing balances on these electronic wallets at a pre-announced rate. In an economy with physical cash, this should, in principle, not be possible since consumers (and frms) always have the alternative of holding physical currency banknotes, a zero-nominal interest rate instrument. In principle, negative nominal interest rates should encourage consumption by making it expensive for households to maintain cash positions. Secondly, by providing competition for bank deposits, the adoption of a CBDC could limit the practice of fractional reserve banking, making for a safer fnancial system, with less scope for impairment in monetary policy transmission [Stevens 2017]. On the other hand, issuance of a digital currency would imply that the general public has the ability to maintain an account with the central bank. This would potentially allow users to have "permission-less" access to central banks which, in turn, could expose central banks to reputational risks such as drug cartels using CBDCs for money laundering. More importantly, too widespread a substitution of bank deposits by CBDC could lead to a signifcant de-funding of the banking sector, with negative spillover effects on credit creation and monetary policy.

3. Navigating complexity

In the face of complexity, the BSP’s response has been three-pronged: 1) remain steadfast in pursuing its core mandates; 2) enhance its policy responsiveness and agility; and 3) implement new approaches towards bringing the benefts of price and fnancial stability closer to the people.

3.1 Remaining focused on core mandates

The strengths of the BSP lie in its legacy of excellence, credibility, and independence in achieving its core mandates of price and fnancial stability conducive to a balanced and sustainable growth of the economy. These mandates shall continue to be the focus by which the BSP formulates its policies. 34 Diokno: A BSP closer to the people

3.1.1. Price stability

In terms of price stability, the BSP reiterates its unwavering commitment to deliver on its primary mandate of price stability. Under an infation-targeting framework, the BSP’s decisive actions have helped usher in a manageable infation environment that is supportive of economic growth. Following the sharp increase in infation in 2018 and the BSP’s decisive action to raise its policy interest rate by a cumulative 175 basis points beginning in May 2018, easing price pressures in 2019 and the benign infation outlook for 2020- 2021 have provided scope for a reduction in policy rates this year to support economic growth and reinforce market confdence. At the time of writing, the Monetary Board decided to keep the policy rate unchanged during its latest meeting on monetary policy on 14 November. This followed a cumulative 75-basis-point cut in the overnight reverse repurchase rate earlier in the year At the same time, the favorable infation environment has allowed the BSP to resume the phased reduction in the reserve requirement ratios (RRRs) that was initiated in 2018. The BSP has announced a cumulative 400-basis-point cut in RRRs thus far in 2019, which will bring down the RRR for universal and commercial banks as well as non-banks with quasi-banking licenses (NBQBs) to 14 percent beginning on 6 December. The RRR reduction is also in line with the BSP’s broader fnancial sector reform agenda to promote a more effcient fnancial system by lowering fnancial intermediation costs. Decisions on the monetary policy stance going forward will remain data dependent. In determining the need for further monetary easing, the BSP will continue to observe how the infation and growth environment is likely to evolve in the coming months. There will also be a consideration of a wider set of economic variables and their dynamics in coming up with assumptions and projections to determine if further adjustments in the monetary policy stance are warranted. Data dependency, guided primarily by the outlook on infation and liquidity conditions, is also the bedrock for future decisions on RRRs. Moreover, the adoption of an Interest Rate Corridor (IRC) framework on 3 June 2016 and its continued enhancement will lead to an increased capacity to guide short-term market interest rates to move closely with the BSP policy rate, and in the process, strengthen the transmission mechanism of monetary policy to the rest of the economy. Furthermore, the IRC could help strengthen the price discovery process and facilitate the effective and effcient pricing of fnancial products in the domestic market.

3.1.2. Financial stability

In the area of fnancial stability, the BSP continues to foster a regulatory environment that is both enabling and responsive to emerging trends and at the same time, effective in managing new risks. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 35

The BSP recently put in place several enhancements to its toolkit of macroprudential instruments. These include the establishment of Counter-Cyclical Buffers (CCyB) and the implementation of the Basel III Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR), among others. These measures are expected to enhance the banking system’s ability to absorb and withstand adverse shocks. For instance, the LCR aims to strengthen the liquidity position of Universal and Commercial banks (U/KBs) by requiring them to hold suffcient High-Quality Liquid Assets (HQLAs) that can be easily converted into cash to service liquidity requirements over a 30-day stress period. Meanwhile, the NSFR aims to promote long-term resilience against liquidity risk requiring banks and Quasi-Banks (QBs) to limit overreliance on short-term funding and promote enhanced assessment of funding risk across all on- and off-balance sheet accounts.

3.1.3. Effcient payments and settlements system

The BSP has worked to establish a safe, reliable, and affordable retail payments system in the country through the National Retail Payments System which was launched in 2015. The BSP and BSP-supervised fnancial institutions (BFSIs), as retail payments industry participants have identifed (2) two key areas at the forefront of the NRPS implementation. The frst is the establishment of a payment system management body (PSMB), now incorporated as Philippine Payments Management, Inc. (PPMI), to organize the governance structure of the retail payment system in the country. Another is the formation of two-priority Automated Clearing Houses (ACHs)4—PesoNet and InstaPay—representing payment streams that could potentially contribute to the shift from cash-based payments to electronic delivery channels and platforms. Since their establishment, PesoNet and InstaPay have increased the availability of a wide range of fnancial products and services to the public.5 The retail payment ecosystem must also have an array of e-payments products and services that can meet the various needs of payers and payees to encourage usage. To take advantage of the latest technological developments, the BSP issued Circular No. 980 dated 06 November 2017 which requires BSFIs to ensure that the retail payment systems that they employ demonstrate sound risk management, and effective and effcient interoperability.

4 ACHs (Automated Clearing Houses) are essentially multilateral agreements among payment system participants governing their clearing and settlement activities. It should be emphasized that an ACH is neither an infrastructure nor a physical network. 5 PesoNet was launched on 8 November 2017 and InstaPay was launched on 23 April 2018 36 Diokno: A BSP closer to the people

3.2. Enhancing policy responsiveness

While relying on the BSP’s strengths is an important strategy for fulflling its mandates, the BSP also strives to make its regulatory policies more responsive to a challenging global environment.

3.2.1. Amendments to the BSP charter

The approval of Republic Act No. 11211 or “An Act Amending Republic Act No. 7653 otherwise known as the ‘New Central Bank Act’ and for Other Purposes” puts the BSP in a strategic position to address new potential risks arising from the fast-evolving fnancial landscape. The charter restores the BSP’s ability to issue debt securities as part of its monetary operations which will give the BSP greater fexibility in the conduct of its monetary operations. The BSP expects that these developments in our monetary operations will also promote capital market development through improved price discovery for money markets and increased supply of safe and liquid assets. Moreover, the amended Charter widens the coverage of institutions under the BSPs supervision to include money service businesses, credit-granting businesses, and payment system operators. This widened coverage will allow the BSP to better respond to potential risks arising from the interconnectedness of its operations with these services.

3.2.2. Foreign exchange policy liberalization

In terms of foreign exchange rate policy, the BSP is also committed to foreign exchange (FX) reforms toward a more organized FX market that supports a fexible and market-determined exchange rate. This includes further liberalising FX rules to reduce the cost of doing business and improving data capture, among others. These reforms will also give investors greater fexibility to manage their investments and cash fows.

3.2.3. Building macroeconomic buffers

The BSP is likewise working on enhancing the domestic economy’s ability to absorb external shocks. In March of 2019, Republic Act 11256 or “An Act to Strengthen the Country’s Gross International Reserves” was signed into law which exempts the sale to the BSP of gold sourced from small-scale mining activities from excise and income taxes. The new law will allow the BSP to build up its Gross International Reserves (GIR) while also supporting small-scale miners. Building up the GIR strengthens the Philippines’ primary buffer against external economic shocks, and combined with prudent macroeconomic management, helps to reduce the cost of foreign funding for the Philippines, through improvements in the country’s sovereign rating. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 37

3.3. Bringing BSP closer to the people

The complexity of today’s challenges more importantly calls for BSP to embark on goals outside the immediate ambit of traditional central banking. This involves bringing the benefts of central bank policies closer to the public through the pursuit of more inclusive policies.

3.3.1. BSP’s fnancial inclusion initiatives

One of the core thrusts that the BSP is spearheading is fnancial inclusion. Building on the gains of its policy initiatives over the years, the BSP is setting its sights on digital innovations. Digital solutions not only present opportunities for cost savings and effciency gains that make the economics of serving the bottom of the pyramid viable but also help to fll the fnancial services needs of unserved and undeserved markets on a broader scale. The BSP’s test-and-learn approach has proven to be a useful tool in promoting development and innovation within the fnancial services industry. Further enhancements to the sandbox approach are being explored to help clearly defne the parameters, timelines, and eligibility criteria in the approval process of new fnancial products to improve transparency and effciency. At present, the BSP is revising the regulations on e-banking/electronic fnancial products and services which shall formalize our test-and-learn approach. Nonetheless, it strives to maintain fexibility to the extent possible in introducing the parameters.

TABLE 1. The BSP’s test-and-learn approach

Phase/Step Brief Description Allow for market to develop and After engaging with FinTech players, we determine if the innovations to take place. proposed innovation presents major regulatory concerns. If none, we allow the market to develop and adopt such innovation. Proceed with fexibility yet with During this phase, the BSP set certain limits or parameters caution. before FinTech players fully market their products and services. Understand operating and As the product or service is being offered in the market, business model. the BSP can have better understanding of the operating/ business models as well as technical considerations. Adopt appropriate regulatory Once the BSP fully understands the operating/business approach. model as well as detailed mechanics of the innovative product/service, appropriate regulations are then issued. Closely monitor developments Lastly, we continue to monitor developments and and related issues. introduce supervisory enhancements, when necessary, to address emerging issues and risks. 38 Diokno: A BSP closer to the people

3.3.2. Economic learning activities

The BSP’s advocacy for fnancial inclusion includes educating the public on the core functions of the BSP and on how to navigate an arguably complex fnancial system for most Filipinos, especially the unbanked. As a testament to its commitment to the promotion of fnancial inclusion, the BSP has launched a series of economic learning activities such as public information campaigns, outreach learning programs, and stand-alone learning sessions. Furthermore, the BSP, through its Knowledge Resource Network, continues to support and partner with local government units and state universities and colleges in improving their libraries to expand the reach of BSP publications, circulars, and strategies in addition to other publications aimed at informing the public to become more fnancially literate.

3.3.3. Regtech and Suptech

The BSP is likewise actively exploring RegTech and SupTech6 solutions to enhance the timeliness and quality of the BSP’s risk-based decision-making. The BSP partnered with R2A, or the RegTech for Regulators Accelerator, a pioneering project that provides technical assistance for fnancial sector regulators to develop and test the next generation of digital supervision tools and techniques (commonly referred to as RegTech solutions). The R2A is fully funded by the United States Agency for International Development (USAID), the Bill and Melinda Gates Foundation (BMGF), and the Omidyar Network. In particular, the BSP is pursuing two RegTech solutions.7 The frst is an API system to connect fnancial service providers to the BSP. This will allow the BSP to obtain better quality data on new fnancial products and services, at a higher frequency and with greater accuracy that can be accessed by supervisors, regulators and analysts for their own customized reports. It also allows for the automation of the submission of periodic reports by supervised fnancial institutions of their daily, weekly, monthly and annual reports to the BSP. These reports are then processed by the BSP manually. The second RegTech solution is an automated complaint-handling system which allows fnancial customers to submit their concerns to BSP via SMS, online messaging services or web portals. These will then be processed automatically. Through this system, customers gain access to the BSP, especially when they feel that their fnancial institutions are unresponsive. Automation will also enhance the analytical capacity of the BSP, create greater accountability for fnancial institutions and amplify the “customer voice” in the policy-making process.

6 RegTech and SupTech refer to the next generation of digital supervision tools and techniques to improve the speed, quality, and comprehensiveness of information supporting targeted and risk-based decision- making by regulators. 7 BSP’s Supervisory Data Centre (SDC) is leading the project on RegTech initiatives of the BSP. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 39

3.3.4. Green fnance

Sustainability is a burgeoning concern for policymakers given the increasing impact of climate change on many aspects of the economy. Kulp and Strauss [2019] observed that the Philippines is highly vulnerable to the changes brought about by climate change. Coastal cities in the country are expected to be affected by rising sea levels by the year 2050 with many other environmental damages expected in other parts of the country. From the BSP’s standpoint, the sustainability issues brought about by the impact of climate change pose signifcant risks to its core mandates of price and fnancial stability. With regard to price stability, climate change can have a potentially signifcant impact on the agricultural sector, including food prices which are a sizable component of the consumer price index. As for fnancial stability, climate change can affect the fnancial system through transition, physical, and liability risks. For instance, the move towards a greener economy could force some sectors to face transition risks such as big shifts in asset values and cost of doing business. Moreover, physical damages from climate-change could potentially lead to sharp increases in insurance claims and consequently, increases in premiums. In response to these growing risks, the BSP has incorporated climate and disaster-related data in the monetary policy analysis forecasting, monitoring, and risk assessment. In addition, the BSP issued various regulations on corporate and risk governance, including stress testing as well as regulatory reliefs provided to banks affected by natural calamities. At the same time, the BSP, together with the Department of Finance, co-chairs a newly formed inter-agency task force that is mandated to facilitate green fnance initiatives.

3.3.5. National ID system

One manner by which the BSP supports fnancial inclusion is through making it easier for Filipinos to have the requirements for new bank accounts or fnancial services. The BSP is currently helping to implement the Philippine ID System together with the Philippine Statistics Authority. Under the agreement, the BSP will produce 116 million pieces of cards over the next three years for the Philippine ID system to be issued to all Philippine citizens and resident aliens registered under the Philippine Identifcation System (PhilSys).8 With PhilSys, a valid government identifcation card may easily be obtained by Filipinos and used in applying for bank accounts and other fnancial services, especially for the unbanked.

8 PhilSys refers to the government’s central identifcation platform for all citizen and resident aliens of the Philippines. 40 Diokno: A BSP closer to the people

3.3.6. Islamic banking

Financial inclusion is also being directed toward meeting the banking needs of our Muslim brothers and sisters. In June 2019, the Senate and the House of Representatives transmitted to Malacañang for signature of President Duterte the Congress-approved bill that seeks to provide a regulatory framework for Islamic banking and fnance in the Philippines. Under House Bill No. 8281 entitled “An act providing for the regulation and organization of Islamic banks”, Islamic banks will be given the powers that are necessary and prudent to carry out the business of a bank in accordance with Shari’ah principles9, in addition to the general powers normally granted to corporations. In line with this, Islamic banks may provide Shari’ah-compliant fnancing contracts and structures and undertake various investments in all transactions allowed by Shari’ah principles. Moreover, an interagency working group10 on Islamic banking and fnance has been formed to develop a detailed regulatory framework for Islamic banking and fnance, among others.

4. Conclusion

Stephen Hawking’s words about complexity above can refer to an emerging operating environment characterized by highly complex interconnected systems such as economies and fnancial markets. For the BSP, the optimal way to respond to complexity is to continue to focus on what central banks do best—achieving its core mandates. The BSP’s core mandates of price stability, fnancial stability, and an effcient payments and settlements system will continue to be the focus in which policies are formulated. At the same time, the BSP continues to work towards making its policies more responsive and attuned to the rapidly evolving economic and fnancial landscape. Lastly, as mentioned previously, the ambit of central banking has slowly widened over the years to other objectives. Towards this end, the BSP has also set its sights on the issue of inclusive growth and integrated this with its traditional objectives. The BSP is working hard to bring central banking activities closer to the people by advancing its fnancial inclusion, fnancial education, and consumer protection agenda to ensure that no one is left behind and the public is given the opportunity to reap the benefts of sustained economic growth. In the long run, central banks’ price and fnancial stability objectives and other socio-economic goals are complementary. By remaining steadfast in safeguarding its mandate, making BSP policies more responsive, and advancing fnancial inclusion, the BSP will be able to spread the benefts of price and fnancial stability and transform itself into a BSP that is closer to the people.

9 Observed in the Islamic banking system, Shari’ah prohibits interest on money lending and on products. Thus, it is also known as “interest-free banking”. 10 This group comprises the BSP, the Asian Development Bank, the Bureau of the Treasury, Department of Finance, Securities and Exchange Commission, Bureau of Internal Revenue, Financial Reporting Standards 9 Observed in the Islamic banking system, Shari’ah prohibits interest on money lending and on products. Council, and the National Commission on Muslim Filipinos. Thus, it is also known as “interest-free banking”. 10 This group comprises the BSP, the Asian Development Bank, the Bureau of the Treasury, Department of Finance, Securities and Exchange Commission, Bureau of Internal Revenue, Financial Reporting Standards Council, and the National Commission on Muslim Filipinos. The Philippine Review of Economics, Vol. LVI Nos. 1 and 2, June and December 2019 41

References

Ali, R., J. R. Barrdear, and J. Southgate [2014] “The economics of digital currencies”, Bank of England Quarterly Bulletin 54(3): 276–86. Amaral, P. [2017] “Monetary policy and inequality”, Economic Commentary No. (Federal Reserve Bank of Cleveland) 2017(1). Diokno, B. [2019] “Beyond conventions channelling the BSP multiplier amid shifting sands”, keynote speech delivered at the Chamber of Thrift Banks Annual Convention, 29 March. Shangri-La Manila, Makati City. Fernandez, J. et. al. [2017] “A measure of Philippine fnancial market spillovers: a variance decomposition approach”, paper presented during the SEACEN meeting of directors of research and monetary, July. Gnan, E., and D. Masciandaro (eds.) [2018] Do we need central bank digital currency? Economics, technology and institutions. SUERF Conference Proceedings Vienna. Kaplan, G. B. Moll, G. Violante [2018] “Monetary policy according to HANK”, American Economic Review 108(3): 697-743. Kiley, M. and J. Roberts [2017] “Monetary policy in a low interest rate world”, Brookings Papers on Economic Activity 48(1):317-396. Kulp, S. A. and B.H. Strauss [2019] “New elevation data triple estimates of global vulnerability to sea-level rise and coastal fooding”, Nature Communications 10(1): 1-12. McCauley, R. [2006] “Understanding monetary policy in Malaysia and Thailand: Objectives, instruments and independence”, in: Bank for International Settlements, Monetary policy in Asia: approaches and implementation (BIS Papers No. 31). Basel. 172-198. IMF Staff Team [2016] “Virtual currencies and beyond: initial considerations”, IMF Staff Discussion Note.16/03. Stevens, A. [2017] “Digital currencies: threats and opportunities for monetary policy”, Economic Review (National Bank of Belgium) 1:80-89. The Philippine Economic Society Founded 1961

2017 OFFICERS AND BOARD OF DIRECTORS BOARD OF TRUSTEES 2019 The Philippine Economic Society (PES) was established PRESIDENT in August 1962 as a nonstock, nonprofit professional PRESIDENTJose Camacho Jr. organization of economists. LawrenceUNIVERSITY OFB. THE Dacuycuy PHILIPPINES LOS BAÑOS DE LA SALLE UNIVERSITY Over the years, the PES has served as one of the strongest VICE PRESIDENT networks of economists in the academe, government, and VICEMajah-Leah PRESIDENT Ravago EmilioUNIVERSITY S. Neri,OF THE Jr. PHILIPPINES DILIMAN business sector. BANK OF THE PHILIPPINE ISLANDS SECRETARY Recognized in the international community of professional SECRETARY Ronald Mendoza economic associations and a founding member of the CharlotteATENEO SCHOOL Justine OF GOVERNMENT Diokno-Sicat PHILIPPINE INSTITUTE FOR DEVELOPMENT Federation of ASEAN Economic Associations (FAEA), the TREASURERSTUDIES PES continuously provides a venue for open and free Emilio Neri Jr. discussions of a wide range of policy issues through its TREASURER BANK OF THE PHILIPPINE ISLANDS Faith Christian Q. Cacnio conferences and symposia. BANGKOMEMBERS SENTRAL NG PILIPINAS Victor Abola Through its journal, the Philippine Review of Economics BOARD MEMBERS UNIVERSITY OF ASIA AND THE PACIFIC (PRE), which is jointly published with the UP School of RafaelitaCristina BautistaM. Aldaba Economics, the Society performs a major role in improving DEPARTMENTATENEO DE MANILA OF TRADE UNIVERSITY AND INDUSTRY the standard of economic research in the country and in Kevin Chua disseminating new research findings. CristinaWORLD BANK M. Bautista ATENEO DE MANILA UNIVERSITY Lawrence Dacuycuy At present the society enjoys the membership of some DE LA SALLE UNIVERSITY Kevin C. Chua 800 economists and professionals from the academe, WORLDLawrence BANK Fernandez government, and private sector. MERALCO Jovi C. Dacanay George Manzano UNIVERSITY OF ASIA AND THE PACIFIC who pays the lifetime membership dues shall be Stella Quimbo RosemariePHILIPPINE COMPETITION G. Edillon COMMISSION granted lifetime membership and shall have the NATIONAL ECONOMIC AND DEVELOPMENT rights, privileges, and responsibilities of a regular AUTHORITY IMMEDIATE PAST PRESIDENT member, except for the payment of the annual RosalinaRosemarie Palanca-Tan Edillon dues. ATENEONATIONAL DE ECONOMIC MANILA UNIVERSIT AND DEVELOPMENTy AUTHORITY Stella Luz A. Quimbo years of age or older who have obtained at least HOUSEPHILIPPINE OF REPRESENTATIVES REVIEW OF ECONOMICS a bachelor’s degree in economics, or who, in the Emmanuel de Dios opinion of the Board of Directors, have shown EDITOR EX-OFFICIO BOARD MEMBERS sufficient familiarity and understanding of the Majah-LeahCOUNCIL OF V.ADVISERS Ravago science of economics to warrant admission to ATENEORomeo DE Bernardo MANILA UNIVERSITY the Society. Candidates who have been accepted IMMEDIATELAZARO, BERNARDO, PAST PES TIUPRESIDENT AND ASSOCIATES shall become members of the Society only upon Raul Fabella payment of annual dues for the current year. EmmanuelUNIVERSITY OF S. THE de PHILIPPINES Dios DILIMAN UNIVERSITY OF THE PHILIPPINES-DILIMAN EDITOR,Cielito PHILIPPINE Habito REVIEW OF ECONOMICS ATENEO DE MANILA UNIVERSITY time college or graduate students majoring in economics. Affiliation for junior membership is Ernest Leung coursed through the Junior Philippine Economic Solita Collas-Monsod Society (JPES). UNIVERSITY OF THE PHILIPPINES DILIMAN Cesar Virata C. VIRATA AND ASSOCIATES For more information, visit: www.phileconsociety.org. THE PHILIPPINE REVIEW OF ECONOMICS Volume LIV No. 2 December 2017

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Volume LVI Nos. 1 and 2 THE PHILIPPINE REVIEW OF ECONOMICS June and December 2019 Volume LIV No. 2 December 2017