0.78 127.7 0.78 4.7 0.77 128.3 ISSN 1655-5104 0.77 129.4 4.3 0.76 0.76 130.5 0.76 131.1 3.9 0.75 0.75 131.6 2.6 0.74 132.2 0.73 0.73 133.3 2.2 0.73 133.8 0.73 0.72 134.8 2.3 0.72 136.2 0.72 2.4 0.72 136.7 INFLATION 0.72 136.8 2.3 INFLATION 0.72 REPORT 0.72 137.1 REPORT 0.71 138.1 2.6 THIRD Quarter 0.72 0.72 138.8 2007 0.71 139.3 2.4 0.71 0.71 139.1 2.7 0.70 139.3 0.70 0.70 139.5 139.6 Bangko Sentral ng Pilipinas 140.0 139.8 139.7 140.0 140.4 141.3 142.4 142.6 142.8
INFLATION REPORT
Third Quarter 2007
Bangko Sentral ng Pilipinas
FOREWORD
he primary objective of monetary policy is to promote a low and stable rate of inflation conducive to a balanced and sustainable economic growth. The adoption T in January 2002 of the inflation targeting framework for monetary policy was aimed at helping fulfill this objective.
One of the key features of inflation targeting is greater transparency, which means greater disclosure and communication by the BSP of its policy actions and decisions. This Inflation Report is published by the BSP as part of its transparency mechanisms under inflation targeting. The objectives of this Inflation Report are: (i) to identify the risks to price stability and discuss their implications for monetary policy; and (ii) to document the rigorous economic analysis behind the conduct of monetary policy and convey to the public the overall thinking behind the BSP’s decisions on monetary policy. The broad aim is to make monetary policy easier for the public to follow and understand and enable them to better monitor the BSP’s commitment to the inflation target, thereby helping both in anchoring inflation expectations and encouraging informed debate on monetary policy issues.
The government’s targets for annual headline inflation under the inflation targeting framework have been set at 4.0-5.0 percent for 2007 and 4.0 percent with a tolerance interval of ± 1.0 percentage point for 2008.
The report is published on a quarterly basis, presenting a survey of the various factors affecting inflation. These include recent price and cost developments, prospects for aggregate demand and output, monetary and financial market conditions, labor market conditions, fiscal developments, and the international environment. A section is devoted to the BSP’s view of the inflation outlook during the policy horizon. This is followed by a discussion of the implications of the assessment of inflation and economic conditions on the monetary policy settings of the BSP. This issue also features a box article on the US subprime mortgage market.
The Monetary Board approved this Inflation Report at its meeting on 25 October 2007.
AM ANDO M . TETANGCO, JR. Governor
October 2007
List of Acronyms, Abbreviations and Symbols
AMCs Asset Management Companies ARMM Autonomous Region of Muslim Mindanao BAS Bureau of Agricultural Statistics BES Business Expectations Survey BI Bureau of Immigration BIR Bureau of Internal Revenue BNM Bank Negara Malaysia BNBs Bank Negara Bills BOC Bureau of Customs BOE Bank of England BOJ Bank of Japan BOK Bank of Korea BOT Bank of Thailand BTr Bureau of the Treasury CalPERS California Public Employees’ Retirement System CAMPI Chamber of Automotive Manufacturers of the Philippines, Inc. CAR Capital Adequacy Ratio CBD Central Business District CCRs Credit Card Receivables CES Consumer Expectations Survey CDS Credit Default Swaps CPI Consumer Price Index DBCC Development Budget Coordinating Committee DCS Depository Corporations Survey ECB European Central Bank ERC Energy Regulatory Commission FBT Food, beverage and tobacco FIREBS Financial institutions, real estate and business services FLW Fuel, light and water FOMC Federal Open Market Committee GDP Gross Domestic Product GNP Gross National Product GRAM Generation Rate Adjustment Mechanism GS Government Securities HICP Harmonized Indices of Consumer Prices ICERA Incremental Currency Exchange Rate Adjustment IMF International Monetary Fund KBs Commercial banks KWH Kilowatt hour LFS Labor Force Survey LPG Liquefied Petroleum Gas LTO Land Transportation Office MAS Monetary Authority of Singapore MEM Multi-Equation Model Meralco Manila Electric Company MISSI Monthly Integrated Survey of Selected Industries MS Monetary Survey MSBs Monetary Stability Bonds
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MT Metric Tons MTP Major Trading Partner NCR National Capital Region NEER Nominal Effective Exchange Rate NFIA Net Factor Income From Abroad NG National Government NIA National Income Accounts NPC National Power Corporation NPLs Non-performing loans NSO National Statistics Office OFs Overseas Filipinos OMOs Open market operations OPEC Organization of Petroleum Exporting Countries PBC People’s Bank of China PMI Purchasing Managers’ Index PSEi Philippine Stock Exchange Composite Index PSS Postal Savings System PSIC Philippine Standard Industrial Classification PTIC Philippine Telecommunications Investment Corporation RDA Reserve Deposit Account REER Real Effective Exchange Rate RM Reserve Money ROP Republic of the Philippines RP Repurchase RRP Reverse Repurchase RVAT Reformed Value Added Tax SEM Single-Equation Model SDA Special Deposit Account TLP Total Loan Portfolio TMA Truck Manufacturers Association TransCo National Transmission Corporation U/KBs Universal/commercial banks VAPI Value of Production Index VOPI Volume of Production Index WESM Wholesale Electricity Spot Market
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THE MONETARY POLICY OF THE BANGKO SENTRAL NG PILIPINAS
The BSP Mandate
The BSP’s main responsibility is to formulate and implement policy in the areas of money, banking and credit, with the primary objective of maintaining stable prices conducive to a balanced and sustainable economic growth in the Philippines. The BSP also aims to promote and preserve monetary stability and the convertibility of the national currency.
Monetary Policy Instrument
The BSP uses the overnight repurchase (RP) rate and reverse repurchase (RRP) rate as the key policy rates to set the monetary policy stance. These two interest rates are typically adjusted in tandem by the Monetary Board.
Policy Target
The BSP uses the Consumer Price Index (CPI) or headline inflation rate which is compiled and released to the public by the National Statistics Office (NSO) as its target for monetary policy. The policy target is set by the Development Budget Coordinating Committee (DBCC)1 in consultation with the BSP. For 2007, the Government’s target for annual headline inflation has been set at 4.0-5.0 percent. For 2008, the inflation target has been set at 4.0 percent with a tolerance interval of ±1.0 percentage point.
BSP’s Explanation Clauses
These refer to the predefined set of acceptable circumstances under which an inflation- targeting central bank may fail to achieve its inflation target. These clauses recognize the fact that there are limits to the effectiveness of monetary policy and that deviations from the inflation target may sometimes occur because of factors beyond the control of the central bank. Under the inflation targeting framework of the BSP, these exemptions include inflation pressures arising from: (a) volatility in the prices of agricultural products; (b) natural calamities or events that affect a major part of the economy; (c) volatility in the prices of oil products; and (d) significant government policy changes that directly affect prices such as changes in the tax structure, incentives and subsidies.
1 The DBCC, created under Executive Order (E.O.) No. 232 dated 14 May 1970, is an inter-agency committee tasked primarily to formulate the National Government's fiscal program. It is composed of the Department of Budget and Management (DBM), National Economic and Development Authority (NEDA), and the Department of F inance (DOF). The BSP sits as a resource agency.
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The Monetary Board
The powers and functions of the BSP, such as the conduct of monetary policy and the supervision over the banking system, are exercised by its Monetary Board, which has seven members appointed by the President of the Philippines. Beginning in July 2006, the Monetary Board meets every six weeks to review and decide on the stance of monetary policy. Prior to July 2006, monetary policy meetings by the Monetary Board were held every four weeks.
Chairman Amando M. Tetangco, Jr.
Members Romulo L. Neri Vicente B. Valdepeñas, Jr. Raul A. Boncan Juanita D. Amatong Nelly F. Villafuerte Alfredo C. Antonio
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The Advisory Committee
The Advisory Committee was established as an integral part of the institutional setting for inflation targeting. It is tasked to deliberate, discuss and make recommendations on monetary policy to the Monetary Board. The Committee meets every six weeks (beginning July 2006) but may also meet in between the regular meetings, whenever it is deemed necessary. Prior to July 2006, the Committee met every four weeks.
Chairman Amando M. Tetangco, Jr. Governor
Members Diwa C. Guinigundo Deputy Governor Monetary Stability Sector
Nestor A. Espenilla, Jr. Deputy Governor Supervision and Examination Sector
Ma. Cyd N. Tuaño-Amador Managing Director Monetary Policy Sub-Sector
Ma. Ramona GDT Santiago Managing Director Treasury Department
Antonio B. Cintura Director Department of Economic Research; 2 Head of Technical Secretariat
2 The Advisory Committee is supported by a Technical Secretariat composed of officers and staff from the Department of Economic Research, Center for Monetary and Financial Policy, and the Treasury Department.
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SCHEDULE OF THE MEETINGS ON MONETARY POLICY AND PUBLICATION OF HIGHLIGHTS FOR 2007-2008
Mtg. No. Advisory Committee 1/ Monetary Board 2/ Publication of Monetary Board Highlights 3/ 2007
1 22 January, Monday 25 January, Thursday 22 February, Thursday
a/ 2 5 March, Monday 8 March, Thursday 4 April, Wednesday
3 16 April, Monday 19 April, Thursday 17 May, Thursday
4 28 May, Monday 31 May, Thursday 28 June, Thursday
5 9 July, Monday 12 July, Thursday 9 August, Thursday
6 20 August, Monday 23 August, Thursday 20 September, Thursday
b/ 7 1 October, Monday 4 October, Thursday 31 October, Wednesday
8 12 November, Monday 15 November, Thursday 13 December, Thursday
9 17 December, Monday 20 December, Thursday 24 January 2008, Thursday
Notes: 1/ Under MB Resolution No. 630, the frequency of meetings of the Advisory Committee and the Monetary Board was set at every six weeks starting July 2006. Prior to this, the Advisory Committee and Monetary Board meetings were held every four weeks. 2/ Monetary Board meetings on monetary policy are held on the Thursday after the latest Advisory Committee meeting. 3/ Under MB Resolution No. 630, the lag in the publication of the highlights of the Monetary Board meetings on monetary policy issues was reduced to four weeks. Prior to this, the highlights were published six weeks after the reference meeting date. a/ The minutes of the meeting will be published a day earlier since 5 April 2007 (the fourth week after the 8 March 2007 meeting) is a legal holiday (Maundy Thursday). b/ The minutes of the meeting will be published a day earlier since 1 November 2007 (the fourth week after the 4 October 2007 meeting) is a legal holiday (All Saints' Day).
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CONTENTS
Overview 1
I. Inflation and Real Sector Developments 3
Prices 3
Aggregate Demand and Supply 14
Labor Market Conditions 24
II. Monetary and Financial Conditions 24
I nterest Rates 24
Financial Market Conditions 27
Banking System 29
Exchange Rate 35
Monetary Aggregates 37
Box Article: The US Subprime Mortgage Market 38
Fiscal Developments 45
III. External Developments 46
IV. Monetary Policy Developments 51
V. Inflation Outlook 53
Inflation Forecasts 53
Risks to the Inflation Outlook 57
Private Sector Economists’ Inflation Forecasts 61
VI. Implications for the Monetary Policy Stance 62
VII. Concluding Remarks 64
Chronology of Monetary Policy Decisions 65
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OVERVIEW
¾ The inflation environment remained benign in Q3 2007 despite increases in the prices of some commodities and services. The headline inflation rate rose slightly during the period reflecting uptrends in the prices of food, energy and educational services. The year- to-date average inflation rate remained at 2.6 percent, well below the average inflation a year ago and the target range for 2007 which is 4-5 percent. Core or underlying inflation, an indicator of the long-term trend in price pressures, also averaged higher in Q3 at 2.9 percent compared to 2.6 percent in the previous quarter. This, however, was still markedly lower than the 5.2 percent core inflation in the same quarter a year ago.
¾ Output growth continued to broadly strengthen, with Q2 2007 GDP accelerating to 7.5 percent from the 7.1 percent registered in Q1 2007. On the demand side, GDP growth was boosted by strong household spending, improving capital investments, and robust government consumption. Likewise, other demand indicators, such as land and rental values, residential and office vacancy rates, sales of commercial vehicles and appliances, energy consumption, as well as employment, showed improvements in Q2. On the supply side, the key driver to growth was services, accounting for more than half of total GDP growth. GDP growth was broad-based as other production sectors contributed to the economic expansion, with industry output surging by 8.0 percent and agriculture expanding by 3.9 percent.
¾ Domestic interest rates in the primary market rose starting in July following the announcement of the higher-than-programmed fiscal deficit for the first semester. Primary market interest rates in Q3, although higher than their levels in Q2, were lower compared to those of the previous year, indicative of continued ample liquidity in the system. Meanwhile, the yield curve shifted downward in Q3 2007 relative to the previous quarter as bond prices recovered after falling in the weeks following 17 August, which was the height of the fallout in the US subprime mortgage sector.
¾ Domestic financial markets remained resilient and have stabilized in the face of rising global risk aversion due in part to the problems in the US subprime mortgage market. Domestic financial markets have recovered by the end of Q3 from their downturn in the days leading to 17 August, when US equities experienced a sharp downturn due to the US subprime mortgage problem. Investor sentiment improved by the end of Q3 on signs of some recovery in global financial markets by September, better fiscal numbers in Q3, and ample liquidity in the financial system. Sustained foreign exchange inflows helped maintain the firmness of the peso, which still registered an appreciation in Q3 amid the rise in risk aversion in August.
¾ The global economy continued to grow in Q2, but growth is expected to slow down in the near term. Growth was mainly supported by buoyant economic activity in emerging markets. However, risks to the global economic outlook have increased recently, mainly because of the subprime mortgage problem in the US. Global financial markets have stabilized after the 18 September 2007 Fed meeting, when the target for the federal funds rate was cut by 50 basis points. Subsequently, global equities have recovered and global credit spreads have narrowed. Meanwhile, the risk of rising global inflationary pressures remained due to increasing resource utilization, capacity constraints, and rising global commodity prices.
1
¾ Domestic liquidity growth continued to decelerate for the fourth consecutive month in August. M3 growth slowed down to 14.9 percent year-on-year in August from 19.4 percent in June 2007. The growth of domestic liquidity was tempered by the fall in net domestic assets, following the policy measures implemented by the BSP in May.
¾ The latest baseline forecast indicates a benign inflation outlook over the policy horizon. The inflation forecast over the policy horizon was lower this quarter compared to the previous period. Lower actual inflation, significant deceleration of liquidity growth for four consecutive months, and the firmer peso accounted for the downward revision in the baseline forecast. Favorable supply of food due to normalizing weather conditions and well- anchored inflation expectations also helped explain the subdued inflation environment.
¾ Risks to the inflation outlook remain, even as they have moderated. The prospect of continued strong capital inflows and the resulting expansion in domestic liquidity continue to pose a risk to the inflation outlook. A resumption of volatility in world oil prices could also pose a threat to inflation. Possible additional wage hikes and increases in utility rates may add pressure to inflation as well. In addition, the uptrend in global non-oil commodity prices could result in higher inflation in 2008.
¾ However, the risks to the inflation outlook are considered to be manageable. The monetary measures implemented in May have moderated the impact of domestic liquidity on inflation. In addition, a firm peso is expected to moderate the impact of higher world oil and global food prices on domestic inflation going forward. The marked improvement in investments during the quarter would also help mitigate any potential overheating in the economy as it would help improve the capacity of the economy to absorb additional demand- side pressures.
¾ On 12 July 2007, the Monetary Board decided to maintain a neutral monetary policy stance by implementing two complementary moves during its policy meeting. The tiering system on placements with the BSP was lifted and the BSP’s key policy interest rates were adjusted to 6.0 percent for the overnight borrowing or reverse repurchase (RRP) rate and 8.0 percent for the overnight lending or repurchase (RP) rate. The Monetary Board considered this policy stance as neutral relative to future inflation and output. It noted data showing the effectiveness of the additional liquidity management measures implemented in early May 2007. Meanwhile, there were indications that the tiering scheme has had a beneficial impact on bank lending to the productive sectors of the economy even as non- bank sources of financing were becoming increasingly available to the corporate sector.
¾ On 23 August 2007, the Monetary Board decided to maintain the BSP’s key policy interest rates at 6.0 percent for the overnight borrowing or reverse repurchase (RRP) rate and 8.0 percent for the overnight lending or repurchase (RP) rate.
[Subsequently, on 4 October, the Monetary Board decided to reduce by 25 basis points the BSP’s key policy interest rates to 5.75 percent for the overnight RRP rate and 7.75 percent for the overnight RP rate. The Monetary Board considered the benign inflation outlook and the moderation of risks to future inflation. In addition, the relatively firm peso provided a buffer against rising global commodity prices, including food and oil, while the impact of strong foreign exchange inflows on domestic liquidity has been mitigated by recent policy measures.]
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I. INFLATION AND REAL SECTOR DEVELOPMENTS
Prices
Headline inflation inches up in Q3 2007, but The inflation environment remained benign in the remains well below the target range. third quarter of 2007 despite uptrends in the prices Headline Inflation of certain food items, energy and educational Quarterly average in percent (2000=100) services. Headline inflation rose slightly compared 12 to the second quarter of 2007 but remained lower compared to the average recorded a year earlier. 10 The year-to-date average inflation rate remained at 8 2.6 percent, well below the average inflation a year ago and the target range of 4-5 percent for 2007. 6
4 Current price pressures have largely been confined to specific CPI items, implying that such pressures 2 Q3: are not broad-based. Measures of underlying 2.5 0 inflation have likewise remained low during the 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 period, reflecting the continuing absence of significant demand-side pressures in the inflation environme nt.
The trend continued to support the BSP’s outlook of a benign inflation environment over the policy horizon. At the same time, the firm peso provided a buffer against potential risks stemming from the supply side in the form of higher food prices and international oil prices, while the impact of strong foreign exchange inflows on domestic liquidity has been mitigated by recent policy measures.
Headline and Core Inflation
Average headline inflation inched up to 2.5 percent Contribution to Quarter-on-Quarter Inflation in the third quarter from 2.4 percent in the second in percent Percentage Contribution to quarter. This, however, was still lower compared to Weight in Item Quarter-on-Quarter Headline Headline CPI the 6.1 percent average inflation posted in the Inflation same period a year ago and below the target Q3 Q2 Q3 2007 2007 2006 range of 4-5 percent for 2007. Core Inflation 81.6 2.16 2.02 4.63 Non-core Items 18.4 0.38 0.33 1.48 Rice 9.4 0.32 0.15 0.18 The slight increase compared to the second Corn 0.9 0.04 0.04 0.04 quarter was due mainly to movements in the prices Fruits and Vegetables 5.3 0.09 0.15 0.52 of food, electricity and educational services. Of the Gas, LPG 1.3 0.03 0.05 0.29 Kerosene 0.3 -0.02 0.00 0.08 2.5 percent average headline inflation rate, food Oil, Gasoline and Diesel 1.3 -0.08 -0.05 0.35 accounted for 1.4 percentage points. Fuel, light Headline Inflation 100.0 2.54 2.35 6.10 and water (FLW), as well as services contributed 0.3 percentage point each. Housing and repairs Source of Basic Data: NSO, BSP contributed 0.2 percentage point.
3
Contribution to Headline Inflation Based on NSO data, the share of both core and (In percent) 9. 0 non-core CPI items to headline inflation increased Food (Rice, Corn, Fruits and Vegetables) 8. 0 in Q3 compared to the preceding quarter. Core Energy related items (Gas, LPG, Kerosene, Oil, Gasoline $ 7. 0 Diesel) items in the CPI increased their contribution to 2.2 Core Inflation
6. 0 percentage points in Q3, higher than their 2.0-
5. 0 percentage-point contribution in Q2. Items that
4. 0 pushed the contribution of core items in Q3 included electricity, education and some food items 3. 0 such as meat, eggs, and dairy products. Moreover, 2. 0 the contribution of non-core CPI items rose slightly 1. 0 to 0.4 percentage point from 0.3 percentage point 0. 0 2003 2004 2005 2006 2007 in the previous quarter following the increase in rice prices.
Both food and non-food items register higher Inflation for food, beverage and tobacco (FBT) inflation rates in the quarter. increased to 2.9 percent in Q3 from 2.7 percent in the previous quarter. Likewise, non-food inflation Headline, Food and Non-food Inflation Quarterly average in percent (2000=100) was higher at 2.2 percent compared to 2.0 percent 14 in the last quarter. 12 10 Relative to year-ago rates, FBT inflation and non- 8 food inflation dropped by 2.3 percentage points 6 and 4.7 percentage points, from 5.2 percent and 4 6.9 percent, respectively. 2 0 -2 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 M Headline Inflation Food Inflation Non-food Inflation
4
Core inflation estimates show mixed trends in Core or underlying inflation, an indicator of the third quarter but remain relatively low. long-term trend in price pressures, displayed mixed trends during the review quarter. The official NSO core inflation measure averaged higher in Q3 at Headline and Core Inflation 2.9 percent compared to 2.6 percent in the Quarterly average in percent (2000=100) previous quarter. This, however, was still markedly 12 way below the 5.2 percent core inflation in the 10 same quarter a year ago.
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6
4
2 Q3: 2.9 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
Headline Inflation Core Inflation
Alternative Core Inflation Measures Meanwhile, alternative measures of core inflation Quarterly averages of year-on-year change estimated by the BSP showed contrasting trends. Using the trimmed mean approach, BSP’s estimate Quarter Trimmed Weighted Net of Volatile of the core inflation for Q3 was higher at 2.3 Items 3/ * Mean 1/ Median 2/ percent compared to 2.2 percent in the previous 2005 6.2 5.6 8.8 quarter whereas the weighted median approach of Q1 6.9 5.9 9.9 Q2 6.4 5.9 9.3 measuring core inflation showed a slight Q3 5.8 5.3 8.1 Q4 5.7 5.2 7.8 deceleration from 2.2 percent in Q2 to 2.1 percent 2006 5.4 5.0 6.9 in Q3. On the other hand, the third alternative Q1 5.9 5.4 8.1 Q2 5.8 5.0 7.6 estimate—net of volatile items—showed no Q3 5.2 5.2 6.7 change in core inflation at 2.5 percent. Q4 4.5 4.2 5.0 2007 2.6 2.4 2.7 Q1 2.9 2.5 3.0 Q2 2.2 2.2 2.5 Q3 2.3 2.1 2.5
1/ The trimmed mean represents the average inflation rate of the (weighted) middle 70 percent in a lowest-to- highest rank ing of year-on-year inflat ion rat es for all CPI compo nent s. 2/ The weight ed m edia n repres ent s the m iddle inf lat ion rat e (corres po nding t o a cumulat ive CPI weight of 50 percent) in a lowest-to-highest ranking of year-on-year inflation rates. 3/ The net of volatile items method excludes the following items: educational services, fruits and vegetables, pers on al services, rent als , rec reational servic es , rice, and c orn. * The series has been recomputed using a new methodology that is aligned with NSO’s method of computing the official core inflation, which re-weights remaining items to comprise 100 percent of the core basket after exc luding no n-co re it em s. The previous meth odol og y ret ain ed t he weights of volat ile items in t he CPI basket while keeping their indices constant at 100.0 from month to month. Source: NSO, BSP estimates
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Looking at the distribution of price changes in the CPI basket, it is useful to determine the proportion of the CPI basket components (at the 4-digit Philippine Standard Industry Classification (PSIC) level) showing inflation rates above a given threshold—in this case the upper end of the 4.0- 5.0 percent target for 2007—to find out whether that proportion has been increasing or decreasing. This would indicate whether pressures on consumer prices are becoming generalized over time.
Data show more CPI items with above-target The number of items with inflation rates greater inflation rates. than the threshold of 5 percent increased to 24 in Q3 from 18 in Q2 but was still lo wer compared to CPI Items with Inflation Above Threshold 63 posted a year earlier. Likewise, these items accounted for a higher proportion of the CPI basket 90 at 16.6 percent compared to 8.9 percent in the 80 previous quarter. This, however, was also lower 70 relative to the 41.6 percent recorded a year ago. 60
50
40 Specifically, there were 15 food items with inflation 30 rates above threshold compared to 8 in the 20 previous quarter. Meanwhile, 9 non-food 10 commodities posted inflation rates higher than the 0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 upper end of the 2007 target in the current quarter 2004 2005 2006 2007 compared to 10 a quarter earlier. Cumulative Weight (in percent) Number of Items Exceeding Threshold Inflation
6
Food Prices
Adverse weather conditions trigger an increase Food inflation, which has been declining steadily for the past five quarters since Q2 2006, reversed in food prices in Q3. its trend in Q3 2007 as all food items—except for fish, fruits and vegetables, miscellaneous food, and Inflation Rates for Selected Food Items beverages—registered higher price increases. Quarterly aver ages in percent (2000=100) 2007 2006 The uptick in food inflation was due largely to the Commodity Q3 Q2 Q1 Q4 Q3 gradual uptrend of retail prices of commercial rice Food, Beverage and Tobacco 2.9 2.7 3.3 4.9 5.2 since the last two weeks of August. Rice Food 2.9 2.6 3.3 4.9 5.2 constitutes 9.36 percent of the CPI basket. The Cereal & Cereal Products 3.5 2.2 2.7 2.9 3.1 recent dry spell experienced in key areas of o/w Rice 3.4 1.6 1.6 1.4 1.9 Corn 4.3 4.1 6.7 9.3 4.9 northern Luzon and Visayas from June 2007 to the Dairy Products 5.5 4.1 4.4 5.5 5.9 first two weeks of August had adversely affected Eggs 7.6 6.3 5.5 6.1 5.5 Fish 2.6 3.3 3.4 5.2 5.6 rice production. The prolonged dry weather Frui ts & Vegetables 1.7 2.8 3.8 8.6 9.9 conditions that resulted in delayed harvests in the Meat 3.1 2.4 2.3 2.9 1.9 affected areas, brought about the tight supply of Misc. Food 1.9 2.3 3.8 6.3 7.8 Beverages 2.9 3.5 5.4 6.0 6.4 palay which, in turn, contributed to the surge in Tob acco 2.4 2.1 2.2 2.8 3.2 domestic rice prices during the quarter. Source of Basic Data: NSO, BSP
Similarly, prices of food products such as dairy, corn and cereal preparations increased during the period, due mainly to higher international food prices brought about by the increasing use of some food items as sources of fuel (e.g., corn, soybean, rapeseed oil), the rising food consumption in emerging markets, and the occurrence of unfavorable weather conditions which have reduced the harvest for some of these food items.
Meanwhile, higher input costs (i.e. vaccine, feeds) and the strong external demand for chicken abroad resulted in higher prices of meat—particularly chicken—and eggs, which rose by 3.1 percent and 7.6 percent, respectively, from the 1.9 percent and 5.5 percent inflation registered in the same period last year. The increase in prices was due partly to the upward trend in the price of feeds (yellow corn and soybean meal) because of the high demand for these items in the global market, reflecting the increasing use of corn and other food products for biofuel production. Meanwhile, the tightness in poultry supply has subsequently affected egg production.
7
Looking ahead, food prices are likely to remain stable, as the Government has implemented measures to ensure the stability of the supply and price of rice during the lean months in Q3. These measures included: strict monitoring of the price movement of commercial rice stocks; increasing rice allocation to retailers who adhere strictly to the rules and regulations of rice trading; and mobile delivery of rice to accredited outlets. In addition, the National Food Authority increased the volume of government rice distributed in Metro Manila and nearby central and southern Luzon to counter the uptrend in commercial rice prices as well as expectations of higher rice prices brought about by the probability of lower palay yield in Q3 following the prolonged dry spell in these areas.
Nonetheless, agricultural output growth is expected to continue, supported by public spending on seed technology and rural infrastructure. Moreover, the risks to the production of hogs due to swine flu have been addressed. However, there remain some downside risks due to the uptrend in the international prices of rice and corn and a La Niña weather incidence which could adversely affect agricultural production.
Non-Food Prices
Likewise, energy costs push up non-food Non-food inflation rose slightly during the quarter, inflation in the third quarter. driven mainly by the uptick in fuel, light and water (FLW), which has been increasing since Q2 2007. FLW inflation, which accounts for 6.95 percent of CPI, was higher at 4.3 percent in Q3 as against 3.3 percent in the previous quarter, but was considerably lower than the 13.7 percent inflation registered in the same period last year.
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The increase in FLW prices was due to the rise in Inflation Rates for Selected Non-Food Items Quarterly averages in percent (2000=100) power rates during the quarter as the Energy Regulatory Commission (ERC), in its 28 June 2007 2007 2006 Commodity decision, allowed Meralco to automatically pass Q3 Q2 Q1 Q4 Q3 on to its customers adjustments in its generation Non-Food Items 2.2 2.0 2.4 4.7 6.9 charges.3 In July 2007, Meralco started reflecting Clothing 2.1 2.5 2.8 3.0 3.1 applicable generation rates—an increase of Housing & Repairs 1.3 1.5 2.2 3.7 3.8 4 Fuel, Light & Water 4.3 3.3 2.4 8.1 13.7 around P1/kwh—in the bills of its customers. Fuel 0.8 3.5 -1.1 5.3 20.5 However, Meralco, using the same automatic rate Light 6.8 2.8 3.8 10.5 10.7 adjustment mechanism, reduced power rates in Water 4.5 5.0 6.9 6.5 7.3 Services 2.1 2.1 2.8 4.9 8.7 August and September. Transpo & Comm. -1.1 -0.5 0.5 4.4 11.7 Miscellaneous 1.4 1.6 2.1 2.6 3.0 Meanwhile, all other sub-components of non-food Source of Basic Data: NSO, BSP items registered declines during the quarter compared to a year ago and the previous quarter, except for services which was steady at 2.1 percent in Q2 and Q3.
Energy Prices International oil prices continue to rise on supply concerns and expectations of higher global International oil prices averaged higher in Q3 on demand for crude oil. expectations of increased global demand for oil Dubai Crude Oil and supply concerns due to the hurricane Quarterly average spot price in US dollars per barrel season. Dubai crude oil reached an average of
75 US$70.08 per barrel, higher by 8.2 percent Q3 US $70.0 8 compared to the previous quarter’s average of 65 US$64.79 per barrel. 55
45
35
25
15
5 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
3 The Department of Energy amended on 21 June 2007 Section 4 (e) of Rule 3 of the Implementing Rules and Regulations of the Electric Power Industry Reform Act (EPIRA), which in effect now excludes GRAM and ICERA adjustments, among others, from the list of adjustments that require prior ERC approval. 4 Source: Meralco-Utility Economics, 30 July 2007.
9
Local pump prices of oil products are higher In the domestic market, average pump prices of during the quarter, reflecting the increase in gasoline products and diesel oil were higher world oil prices. during Q3 relative to the previous quarter. Oil Local Retail Prices of Selected Oil Products companies raised prices three times during the Price in peso s p er liter quarter (28 July, 22 and 29 September) reflecting
51 higher international oil prices. Prices were 46 reduced once in early September, which could be 41 attributed to relatively lower world prices in early 36 August 2007. 31 26 21 16 11 6 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
Premium Gasoline Diesel Oil
Outlook for world prices remains on an The estimated futures price of Dubai crude oil uptrend. sustained its uptrend and remained highly volatile in Q3. While concerns on the US subprime mortgage market weakened the price of oil Spot and Estimated Future Prices of Dubai Crude Oil* Price in US dollars per barrel futures, oil prices rebounded subsequently and
80 as of 28-Sep -07 resumed their uptrend on expectations that world
70 demand for oil would continue as the 18 September cut in the target for the US Federal 60 as of 29-Dec-06 Funds rate was expected to support world 50 as of 4-Jul-07 economic expansion. In addition, the following 40 factors contributed to the continued uptrend in oil
30 prices: 1) tight global oil supply, and 2) the onset of the hurricane season, which affected the 20 outlook for the supply of oil. 10 2000 2001 2002 2003 2004 2005 2006 2007 2008 *Futures price derived using Brent crude futures data.
10
Utility Charges
Power rates seesaw in Q3; register net increase. Power
Notwithstanding the generation rate reductions by the National Power Corporation (NPC) in July 5 with the onset of the wet season, a net increase in retail electricity rates was posted in Q3 following the restoration of the Automatic Generation Rate Adjustment (AGRA) in June.
Nonetheless, the effect of the cut in generation charges was generally felt in the latter part of Q3 2007, as Meralco cut its rates for August and September. Moreover, consumers are expected to benefit from another round of power rate reductions in the last quarter of 2007. Supporting this outlook is the ERC’s decision to grant NPC a provisional authority through the generation rate adjustment mechanism (GRAM) and incremental currency exchange rate adjustment (ICERA) to reduce rates by as much as P0.25/kwh in Luzon, P0.07/kwh in Visayas, and P0.06/kwh in Mindanao starting in October 2007.
Since March 2007, NPC rates have been reduced by P0.60/kwh in Luzon, P0.50/kwh in Visayas, and P0.28/kwh in Mindanao.
5 Prices are lower during the wet season from July to December, as demand usually falls when the rains come due to milder weather conditions and the increased utilization of hydroelectric plants which are cheaper sources of electricity. The Visayas grid, however, did not enjoy the lower generation rate reductions because there are no hydroelectric plants in the region.
11
Government and private sector introduce However, the restoration of the Automatic initiatives to lower electricity rates to boost Generation Rate Adjustment (AGRA), the ERC’s competitiveness in the industries. recent ruling on the alleged ‘price manipulation’ in the WESM, and the approval of Meralco’s distribution charge under the performance-based rate (PBR) application are seen to increase power rates starting in 2008.
On other industry developments, ERC granted Meralco and NPC clearance to implement a Memorandum of Agreement that calls for the provision of preferential generation rates to high load factor industrial customers accredited by the Philippine Economic Zone Authority (PEZA). Moreover, PEZA has already issued the guidelines for the ‘open access’ system in ecozones. Under this system, industrial customers will be connected directly to high- voltage transmission lines, thus reducing the direct cost of power. President Arroyo has also signed Executive Order (EO) No. 661 on 10 September 2007, inviting factories and other heavy power users to put up their operations around the cheaper-rated geothermal power plants.
In a more recent development, Meralco lowered its rates in early October 2007 for the third consecutive month given the lower power charges by suppliers, improved dispatch and a firmer peso. A P0.54/kwh additional reduction was likewise passed on in October as a result of the mandated rate reduction (MRR) from power supply sourced from the NPC. More reductions under the MRR are expected pending NPC’s calculation for the periods not covered in the October computation.
12
Water rates decline in Q3. Water
For Q3, Manila Water Co. Inc. (MWCI) and Maynilad Water Services Inc. (MWSI) implemented another downward adjustment in the Foreign Currency Differential Adjustment (FCDA) component of their basic charge this quarter as a result of the continued increasing strength of the peso against the US dollar. FCDA adjustments of MWCI and MWSI turned negative at P0.37/m3 and P0.44/m3, res pectively. This is the third time this year that the Metropolitan Waterworks and Sewerage System (MWSS) has reduced the FCDA adjustments charged by the Manila water concessionaires.6
However, in a more recent development, the MWSS decided to grant MWCI and MWSI an increase in their water rates for the fourth quarter despite a relatively firm peso. This brings the fourth quarter FCDA rates for MWCI and MWSI to negative P0.23/m3 and P0.17/m3, respectively.
6 The Foreign Currency Differential Adjustment (FCDA) component is subject to quarterly review by the MWSS.
13
Aggregate Demand and Supply
Economic growth surges to 7.5 percent in Q2 GDP growth accelerated to 7.5 percent in Q2 2007. 2007. On the demand side, GDP growth was boosted by strong household spending, improving capital
GDP and GNP Growth Rates investments, and robust government consumption. Annual Growth in Real Terms On the supply side, the key driver to growth was 10 services, accounting for more than half of total GDP 8 growth. GDP growth was broad-based as other 6 production sectors contributed to the economic
4 expansion, with industry output surging by 8.0
2 percent and agriculture expanding by 3.9 percent.
0 The hefty 16.6 percent growth in Net Factor Income
-2 from Abroad (NFIA) pushed up the Q2 growth in Gross National Product (GNP) to 8.3 percent. -4 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 GDP GNP Year-to-date GDP growth was 7.3 percent, higher than the Government’s full-year growth target range * Data for 1995-2003 is based on the old series of the National Income Accounts (NIA) of the NSCB. The quarterly GDP data from Q1 2004-Q1 2007 has been revised of 6.1-6.7 percent. b y the NSCB as of May 2007. The revision involves the addition or re-estimation of s ource subsectors under business process outsourcing (BPOs), manufacturing, and c onstruction. The target for the release of the revised series from 1980-2003 is on December 2007.
Aggregate Demand
Robust consumption spending and improving Expenditures (by major economic sectors) investment boost aggregate demand.
Domestic Demand Personal consumption expenditure (PCE) remained Annual Growth in Real Terms the key driver of aggregate demand, expanding by 30 6.0 percent in Q2 on the back of election-related 25 20 spending and strong inflows of overseas Filipinos’ 15 10 (OF) remittances. Expenditures on food, which 5 comprised over half of total PCE, rose at a steady 0 -5 pace of 6.4 percent. Household spending on -10 -15 beverage, clothing and footwear, and -20 miscellaneous items registered higher growth rates -25 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 relative to the previous year, while expenditures on
Govt. Spending Private Consumption Fixed Investment fuel, light and water increased by 6.0 percent after declining by 2.2 percent a year ago.
14
Economic Performance Growth rate (in percent) Growth in government consumption accelerated to 2007 2006 13.5 percent in Q2, buoyed by public infrastructure Sector Q2 Q1 Q2 and election-related spending. Investments in fixed By expenditure item capital posted a double-digit growth of 10.0 Personal consumption 6.0 5.9 5.4 percent, driven by the 18.9 percent surge in Government Consumption 13.5 9.9 3.3 construction investments. This marked a significant Capital Formation 8.2 6.9 1.5 improvement in fixed capital investment from the Fixed Capital Formation 10.0 8.5 -1.0 year-ago decline of 1.0 percent in Q2 and the Exports 4.2 9.9 21.2 modest increase of 1.4 percent for the whole year Imports -11.2 -2.1 4.0 of 2006.
Source: NSCB
Imports of Goods per BOP Imports Growth rate (in percent)
2007 2006 Based on the Balance of Payments (BOP) data, Commodity Group imports of goods rose by 4.6 percent year-on-year Q2 Q1 Q2 Capital Goods -1.3 11.8 0.0 to US$14.1 billion in Q2 2007, a deceleration from Raw Materials & Intermediate both the levels posted in the previous quarter and 1.0 8.8 10.4 Goods the previous year.7 Except for capital goods, all Mineral Fuels & Lubricant 9.6 -8.8 29.4 Consumer Goods 28.1 -1.0 -4.2 major commodity groups posted year-on-year Total Imports1/ 3.2 5.8 10.0 increases in Q2 with consumer goods imports Conceptual and coverage posting the highest increase of 28.1 percent. adjustments -249.4 240.5 -35.2 Total Imports, BPM5 4.6 7.5 10.5 Mineral fuels and lubricants likewise improved by 9.6 percent from a decline of 8.8 percent in the 1/ Include valuation adjustments to NSO data Source: BSP previous quarter due mainly to higher prices of oil in the international market. For January-June 2007, merchandise imports increased at a slower pace of 4.9 percent compared to 13.0 percent a year ago.
7 Merchandise imports in the quarterly BOP report are quoted in current US dollar prices, while those from the NIA are quoted in constant 1985 peso prices. Imports per BOP are based on BPM5 concept (i.e., excluding from the NSO foreign trade figures those goods that did not involve change in ownership) and reflect among other things: a) upward adjustments on the valuation of consigned raw materials for electronics and garments exports; b) OF remittances in kind; and c) military imports. Based on the Q2 2007 NIA, merchandise imports based on constant 1985 peso prices declined by 12.3 percent in Q2, following a 3.4 percent drop in Q1 and a 4.1 percent increase in Q2 2006. Meanwhile, NSO data for July reflected a 14.3 percent year-on-year growth in total merchandise imports from the 3.8 pe rcent growth in June.
15
Other Demand Indicators
Other indicators of demand showed broad strengthening. Property prices and occupancy rates increased, consumer and business confidence improved, and sales of automobiles, appliances and power continued to grow.
• Based on latest data for Q2 2007 from Colliers International Research, land values rose by 6.8 percent year-on-year for the Makati Central Business District (CBD) and 14.2 percent for Ortigas Center. Quarter-on-quarter, the estimated land values in the Makati and Ortigas CBD as of end-June 2007 were 5.6 percent and 6.7 percent higher relative to the end-March levels. Colliers noted that land values have been appreciating due to increased pricing power of developers in both office and residential segments; impressive take-up in residential pre-sales market; and pre-lease take-up in the office market.8 Colliers expects land values to rise further by 9-10 percent year-on-year in Q2 2008.
*Average Land Va lues, Maka ti CBD and Ortigas Real prices, based on CPI (1991=100) (in pesos per s quare meter) • Office rents in the Makati CBD increased by 300,000 27.8 percent year-on-year to an average of P738/sq.m. and are forecast to rise further by 250,000 Makati Ortigas 11.4 percent to P822/sq.m. by Q2 2008. Rents 200,000 for 3-bedroom condominium units in the same area rose by 20.7 percent year-on-year to 150,000 100,000 P519/sq.m. in Q2 2007 and are seen to rise further by 5.1 percent year-on-year in Q2 2008. 50,000
0
19 9 8 2001 20 0 2 2003 20 0 4 2005 20 0 6 2007
*Base year chosen was the earliest year for which data was available
8 Colliers International The Knowledge Report: Philippine Property Market Overview, July 2007, available at http://www.colliers.com
16
Office and Residential Rental Values • Land values were around 50-60 percent of Real prices, based on CPI (1995=100) their 1997 levels in nominal terms and around (in pesos per square meter per month) one-third of the 1997 levels in real terms. 1,0 00 90 0 While rental values for the same period were 80 0 Off ice rental v alue approaching their peak levels in the 1990s in R esidential rental value 70 0 nominal terms, they remained only about two- 60 0 thirds of their 1997 levels after correcting for 50 0 inflation. 40 0
30 0 20 0 10 0 0 1998 2001 2002 2003 2004 2005 2006 2007
• Colliers also reported that residential rents in Rockwell inched up by 2.3 percent to P622/sq.m. in Q2 2007. For the remainder of 2007, Colliers expects rents to increase further by about 3.0 percent to P639/sq.m. Residential rents in Fort Bonifacio rose by a modest 1.1 percent year-on-year to P559/sq.m. and are expected to increase further by around 4.0 percent to P580/sq.m. by year-end.
• Office and residential vacancy rates in the Makati CBD as of Q2 2007 continued to decline to 3.4 percent and 7.1 percent, respectively. Colliers expects the office vacancy rate to be at 3.7 percent in Q2 2008 due to continued demand for office space by the business process outsourcing (BPO) sector, and the residential vacancy rate to decline to 5.1 percent by Q2 2008 with only a single residential condominium project (the Columns Tower 2 in Makati) slated for completion by end-2007.
17
• Sales of passenger cars in Q3 2007 rose by Sales of Passenger Cars and Commercial Vehicles Year-on-year change in percent 5.3 percent year-on-year, lower than the year- ago growth of 10.2 percent but higher than the 200 previous quarter's 2.4 percent. Cumulative
150 sales for the first three quarters increased by 5.7 percent, higher than the 4.5 percent 100 growth registered in the comparable period 50 last year, which the Chamber of Automotive 0 Manufacturers Association of the Philippines -5 0 (CAMPI) attributed largely to the launch of new
-100 models and the continuous arrival of vehicle 2003 2004 2005 2006 2007 stocks to meet growing demand. Passenger Cars Commercial Vehicles • The year-on-year growth in sales of commercial vehicles for Q3 2007 remained strong at 22.4 percent, though lower than the 24.9 percent increase in Q2 2007. Cumulative sales for the first nine months were 23.5 percent higher than the year-ago level.
• Similarly, sales of trucks and buses for the first two months of Q3 declined slightly by 1.2 percent year-on-year, after increasing by 29.9 percent and 33.8 percent in Q2 2007 and July- August 2006, respectively. However, sales for the first eight months of 2007 surged by 25.8 percent, more than double the year-ago growth of 9.4 percent.
Meralco Power Sales Year-on-year change in percent • Energy sales by Meralco rose at a faster pace
15 of 6.7 percent year-on-year in July compared to 4.6 percent in Q2 2007 and 1.8 percent in the 10 same month in 2006. Sales for the first seven months of 2007 rose at a faster pace of 4.6 5 percent compared to 1.7 percent in the comparable period last year. Meralco attributed 0 this to the growing economy, widening customer base and higher energy -5 consumption, particularly in the commercial
-10 sector. 2000 2001 2002 2003 2004 2005 2006 2007
18
• Appliance sales declined at a slower pace of Appliance Sales 1.5 percent year-on-year in Q3 2007 relative to Year-on-year change in percent the 6.0 percent drop registered in the 30 comparable period last year. It was a downturn 20 relative to the 9.0 percent increase in Q2 2007. 10 However, cumulative sales for the first nine 0 months of 2007 inched up by 5.0 percent after -10 declining by 7.0 percent a year ago. -20 -30
-40
-50
-60 JFMAMJJASONDJFMAMJJAS 2006 2007
Average Capacity Utilization for Manufacturing • Based on the NSO’s Monthly Integrated Survey In percent of Selected Industries (MISSI), average
100 capacity utilization in the manufacturing sector
95 increased slightly in July to 80.3 percent from 90 an average of 80.1 percent in Q2 and 80.2 85 percent in July 2006. 80 75 70 65
60
55
50 2000 2001 2002 2003 2004 2005 2006 2007
Growth in Volume and Value Indices of Manufacturing Production Year-on-year change in percent • The value of production index (VAPI) inched up
30 by 1.4 percent in July following a decline of 3.1 percent in Q2 2007. It was a slowdown from 20 the 2.7 percent growth registered in July 2006. 10 Meanwhile, the volume of production index
0 (VOPI) rose marginally by 0.6 percent in July after declining by 5.1 percent in the previous -10 quarter and by 10.8 percent in the same month -20 last year.
-30 2000 2001 2002 2003 2004 2005 2006 2007 Volume of Production Value of Production
19
• Results of the latest Business Expectations Survey (BES) for Q3 2007 showed that Business Expectations Survey business confidence continued to be buoyant. Index 2007 2006 The overall business confidence index (CI) Q3 Q2 Q1 Q4 Q3 remained at the 40.0 percent mark for the Business Outlook Index fourth consecutive quarter at 40.9 percent, up Current Quarter 40.9 46.4 44.9 49.4 21.7 Next Quarter 53.0 44.7 49.4 37.1 40.9 by 19.2 index points compared to the year-ago level. However, the quarter-on-quarter index Source: BSP fell by 5.5 points, consistent with the perception during the Q2 survey that the Q3 index would be slightly lower compared to Q2. The slightly more cautious business outlook in Q3 2007 relative to the previous quarter was attributed by respondent firms to the following factors: 1) slackening of production for Q3 due to seasonality; 2) possible slowdown in the US economy due to problems in the housing market; 3) competition posed by cheap imports coming from China; 4) increase in crude oil prices; and 5) power and water shortages. For Q4 2007, respondents expected that business activity would surge as the index climbed to 53.0 percent, the highest level since the survey was first conducted in Q2 2001.
• Consumer confidence continued to improve in Consumer Expectations Survey Q3 2007. The nationwide consumer CI for Q3 2007 sustained its improving trend to Index 2007 -23.6 percent from -26.0 percent in Q2. The Q3 Q2 Q1 more upbeat consumer outlook for the current Current Quarter -23.6 -26.0 -33.3 quarter was buoyed by favorable economic Next 3 months 4.1 -6.7 -11.1 conditions, higher family incomes and better Next 12 months 7.9 5.8 0.8 family financial positions. Survey results also showed that more households anticipate better Source: BSP economic and family financial conditions in Q4 as the index turned positive at 4.1 percent. Likewise, the confidence index for the next 12 months increased to 7.9 percent from 5.8 percent in the last quarter.
Notably, the improvement in overall outlook was felt most keenly by low-income consumers (with monthly income of less than P10,000) who anticipated better conditions for Q3 2007.
20
External Demand
Exports grow moderately. Total exports of goods based on the BOP9 increased by 5.0 percent in Q2 2007 to US$12.2 billion as all key commodity groups, except sugar and related products, rose from their year-ago levels. This was, however, a slowdown from the quarter- and year-ago growth of 12.0 percent and 20.0 percent, respectively.10
Exports of mineral and petroleum products posted Exports of Goods per BOP the highest growth rates among the major Growth rate (in percent) commodity groups. Electronics exports, which 2007 2006 accounted for 63.4 percent of total exports of Commodity Group Q2 Q1 Q2 goods, increased at a slower pace of 3.1 percent in Coconut products 9.7 -33.9 -9.3 Q2 from 10.3 percent in Q1 as a result of rapid price attrition experienced in the world electronics market Sugar and Products -16.3 -24.9 -4.0 due to the increasing competition among global Fruits and Vegetables 3.4 2.7 15.6 manufacturers. Other Agro-based products 1.8 9.8 13.8 Forest products 24.1 99.1 -23.9 Mineral products 35.9 84.4 130.2 Petroleum products 44.2 -29.1 61.3 Manufactures 3.3 9.8 15.1 Total Exports, as per NSO 4.2 11.5 19.7 Foreign Trade Statistics Conceptual and coverage 38.4 -12.7 -4.5 adjustments Total Exports, BPM5 5.0 12.0 20.0
Source: BSP
9 Based on BPM5 concept (i.e., excluding from the National Statistics Office (NSO) foreign trade figures those goods that did not involve change in ownership) 10 Based on the Q2 2007 NIA, merchandise export growth based on constant 1985 peso prices decelerated to 5.9 percent in Q2 from 10.7 percent in the previous quarter and 21.7 percent in the previous year.
21
Aggregate Supply
Major production sectors, led by services, boost On the supply side, GDP growth was boosted by output growth in Q2. services, which posted an 8.4 percent increase in Q2 due mainly to gains in transportation, communication and storage (TCS), trade, private services and finance. Growth in communications accelerated on the back of higher revenues from landline, mobile phone and broadband services, while growth in land and air transport improved due to increased patronage of the rail system and aggressive fare promotions by domestic airlines.11 Trade services were buoyed mainly by retail trade, which owed its robust performance to newly-opened malls and supermarkets. Growth in finance remained driven by banks, which posted a more than three-fold increase in growth of value added in Q2. Private services were boosted mainly by the business services sector, particularly the BPO industry. Increased renting and leasing operations of supermalls, shopping centers and offices were reflected in the higher growth of ownership of dwellings and real estate.
11 NSCB Press Release, “Philippine Economy Stronger at 7.5 Percent GDP Growth,” 30 August 2007, available at http://www.nscb.gov.ph
22
Gains from other production sectors also boosted Economic Performance GDP. Industry and agriculture, fishery and forestry Growth rate (in percent) 2007 2006 (AFF) contributed 2.7 percentage points and 0.7 Sector Q2 Q1 Q2 percentage point, respectively, to total output growth in Q2. By industrial origin Agriculture, Fishery & Forestry 3.9 4.1 6.7 Agriculture and Fishery 3.8 4.0 6.9 Agricultural output grew by 3.9 percent in Q2 2007 Forestry 28.2 23.1 -13.6 from 6.7 percent in the same period a year ago. Industry 8.0 6.3 4.4 Growth in AFF, which accounted for 16.6 percent of Mining and quarrying 33.3 13.2 3.3 total GDP, was driven by the fishery, other crops Manufacturing 3.7 4.0 4.2
Construction 21.0 20.0 4.0 and palay subsectors. Palay continued to grow by Electricity, gas and water 5.8 4.4 7.4 4.4 percent in Q2 2007 from 10.3 percent in the Services 8.4 8.8 5.7 previous year, due mainly to wider areas being Transport., Comm., & Storage 9.8 10.5 5.4 planted in Central Luzon, Eastern Visayas, Ilocos Trade 8.4 8.8 5.0 Region and SOCCSKSARGEN; sufficient irrigation Finance 11.8 14.8 10.0 O. Dwellings & real estate 6.3 5.5 5.2 water; and input subsidies from the Department of Private services 8.6 8.4 5.4 Agriculture (DA)-GMA Rice Program which aided Government services 2.8 2.3 4.9 farmers during the cropping period in Q2. Corn, on the other hand, declined by 2.5 percent in Q2 after Source: NSCB posting a strong recovery in the same period last year. The decline was attributed to smaller planted areas in SOCCSKSARGEN, Northern Mindanao Agriculture, Industry and Services Sectors and Zamboanga Peninsula due to less rain in these Annual Growth in Real Terms areas than in the previous quarter. Likewise, the 15 .0 harvesting period for both palay and corn was
10 .0 moved from Q2 to Q1 in Cagayan Valley due to the early cropping phase. Meanwhile, increased fish 5.0 catch from commercial fishing, brought on by 0.0 favorable weather conditions, largely contributed to
-5 .0 the sustained growth of fishery, which posted a 6.1
-10 .0 percent gain during the period.
-15 .0 1995 199 6 19 97 1 998 1999 2000 2001 200 2 20 03 2 004 20052005 2006 2007 Construction, manufacturing, and mining and
Agricultur e Industry Services quarrying were the biggest contributors to industry growth. Mining and quarrying output surged by 33.3 percent due to increased production of coal, nickel, crude oil, natural gas and condensate. Manufacturing continued to expand although at a slower pace of 3.7 percent, led by food, beverages, non-metallic mineral products, metal industries, footwear, wearing apparel, and furniture and fixtures. Construction surged by 21.0 percent in Q2 on the back of the 39.6 percent expansion in public construction.
23
Labor Market Conditions
Unemployment and underemployment rates Based on the preliminary results of the July 2007 decline. Labor Force Survey (LFS), the unemployment rate declined to 7.8 percent in July 2007 from its year- 12 Unemployment Rate ago level of 8.1 percent.
8.5 There were 33.3 million Filipinos employed in July out of approximately 36.2 million Filipinos in the 8.0 labor force. Total employment grew by 1.2 percent
7.5 year-on-year.
7.0 The services sector employed 49.9 percent of the
6.5 total employed population, while agriculture and industry sectors accounted for 34.5 percent and 6.0 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 15.6 percent, respectively. 2 005 2006 2 007 The underemployment rate declined to 22.0 percent in July 2007 from 23.4 percent in the same period last year. Underemployed persons in the agriculture sector accounted for 44.4 percent and the services sector comprised 40.4 percent of the total underemployed.13
II. MONETARY AND FINANCIAL CONDITIONS
Interest Rates
Domestic interest rates increase in the third The Government’s announcement of the higher- quarter. than-programmed fiscal deficit for the first semester drove up the rates of government 91-day T-bill rate, BSP RRP rate and KBs Lending Rate securities in the primary market starting in July. In percent 20 The benchmark 91-day T-bill rate averaged higher
18 at 3.680 percent in Q3 2007 from 2.974 percent in 16 the previous quarter. Similarly, the average yield 14 for the 182-day tenor also surged to 4.776 percent 12 in Q3 2007 from 3.713 percent last quarter, while 10
8 the average rate for the 364-day tenor increased
6 to 5.530 percent from 5.174 percent in Q2 2007. 4 Nevertheless, these rates are still lower compared 2 to those of the previous year. 2000 2001 2002 2003 2004 2005 2006 2007
91-day T-bill rate Overnight RRP Rate
Bank Lending Rate (Low-end)
12 Starting April 2005, the new LFS questionnaire defines the unemployed to “include all persons who were 15 years old and over as of their last birthday and were reported as without work, and currently available for work, seeking work or not seeking work for valid reasons.” 13 Underemployed persons include all employed persons who express the desire to have additional hours of work in their present job or an additional job, or to have a new job with longer working hours. Visibly underemployed persons are those who work for less than 40 hours during the re ference period and want additional hours of work. Invisible underemployment refers to individuals who are working in jobs where their skills are not adequate ly utilized (e.g. nursing graduate working as a bank teller).
24
The average bank lending rates rose to a range of 7.6-7.9 percent in the second quarter, compared to the 7.4-7.5 percent range recorded in the previous quarter.
Yield Curve
Secondary market yield curve generally shifts As of 28 September 2007, the yield curve for downward. government securities in the secondary market generally declined compared to the yields registered at the end of the previous quarter.
Yield of Government Securities in the Secondary Market In percent The yield curve shifted downward as bond prices
12 recovered from lows recorded following 17 August, 11 the height of the fallout in the US subprime 10 mortgage sector. 9 8 7 On the domestic front, yields declined as bond 6 prices rose with improved investor sentiment
Yield in percent in Yield 5 4 following the announcement of good fiscal 3 2 numbers for Q3, lower inflation rates, and higher- 3Mo 6Mo 1Yr 2Yr 3 Yr 4Yr 5Yr 7Yr 10Yr 20Yr 25Yr than-expected GDP growth rate. The cut in the Maturity end Sep 2007 end Jun 2007 target for the federal funds rate and, subsequently, end Mar 2007 markets’ anticipation of a cut in BSP’s policy rates also contributed to the rally in bond prices during the review period.
25
Before- and after-tax interest rate margins Interest Rate Differentials display mixed trends. The negative differentials between domestic and US T-bill rates narrowed during the quarter with the Interest Rate Differentials in basis points decline in the US 90-day T-bill rate. Similarly, the
200 negative differentials between domestic interest 150 rates and US LIBOR generally narrowed during the 100 quarter. Subsequently, these differentials slightly 50
0 widened in the last month of Q3 as the US LIBOR -5 0 increased. -100
-150 -200 The differential between the BSP’s policy interest -250
-300 rate (overnight borrowing or RRP rate) and the -350 target for the US federal funds rate narrowed from Mar 06 Jun 06 Sep 06 Dec 06 Mar 07 Jun 07 Sep 07
9 1-d ay T-bil l vs US 90 -da y T-b ill 91-day T-bill vs US 90-day LIBOR 225 basis points in Q2 to 75 basis points in the 9 1-d ay T-bil l vs US 90 -da y T-b ill 91-day T-bill vs US 90-day LIBOR first two months of Q3 but widened in September to 125 basis points following the 50-basis-point cut
BSP RRP Rate and US Fed Funds Rate in the target for the US federal funds rate. In percent 8 Adjusted for the risk premium—which is measured 7 by the differential between the 10-year Republic of 6 the Philippines (ROP) note and the 10-year US 5 Treasury note—the differential between the BSP’s 4 policy rate and the US federal funds target rate 3 turned negative (-40 basis points) as of 26 2 September 2007 compared to 82 basis points as of 1 end-June 2007. 0 2004 2005 2006 2007
BSP RRP rate US Fed funds rate
Real lending rate increases during the quarter. Real Lending Rate
Average Real Lending Rates: Selected Asian Countries In percent The real lending rate—measured as the difference between the median bank lending rate and In dia 9.43 inflation—rose to 5.5 percent in Q3 from 5.1 Indonesia 7.31 percent in Q2. This was due mainly to the rise in Hong Kong 6. 15
Thailand 5.75 Philippine bank lending rates. Among a sample of
Philippines 5.50 10 Asian countries, the Philippines’ real lending
Malaysia 4. 44 ranked fifth highest. South Korea 4.38 Taiwan 2.64
Singapore 2. 43
Japan 2. 25 024681012
26
Financial Market Conditions
Optimistic market sentiment and ample liquidity Investor sentiment in domestic financial markets continue to fuel demand for equities and continued to be buoyed in Q3 by improved government securities. macroeconomic fundamentals—particularly prudent monetary policies, the favorable fiscal performance and ample liquidity in the financial system—which whetted the appetite for both equities and government debt instruments.
Positive market sentiment continues to drive Stock Market equity prices. Trading in the local bourse advanced in Q3 as the Philippine Stock Exchange Composite Index PSE Composite Index (PSEi) averaged 3,479.8 index points in the second quarter, higher by 11.0 points than last 4,0 00 quarter’s 3,468.8 average PSEi. The PSEi closed 3,5 00 at 3,791.4 on 5 July 2007, the highest so far during
3,0 00 the year. Overall market sentiment was bullish as second quarter output growth remained robust. 2,5 00 Ample liquidity, a firm peso, and the easing of 2,0 00 domestic inflation also helped sustain investor
1,5 00 interest in the market. The stock market is expected to remain strong on expectations that the 1,0 00 country will post its highest growth in more than 500 three decades this year. 2000 2001 2002 2003 2004 2005 2006 2007
27
Government Securities
BTr auctions for GS continue to be The appetite for T-bills remained healthy as oversubscribed. auctions by the Bureau of the Treasury (BTr) continued to attract large volumes of bids in Q3. Oversubscription of T-bill Auctions The NG’s debt securities were oversubscribed as In billion pesos tenders totaled P77.7 billion compared to the 140 P32.0 billion total offering. Oversubscription for the 120 six T-bill auctions during the quarter was higher at
100 P45.7 billion compared to the P37.6 billion posted
80 in the previous quarter. Meanwhile, average monthly oversubscription during the quarter was 60 higher at P7.6 billion compared to P6.3 billion in 40 the previous quarter. 20 0 2000 2001 2002 2003 2004 2005 2006 2007
Sovereign Bonds and CDS Spreads
The difficulties in the US subprime mortgage and The reverberations from the US subprime credit markets affect Philippine soverign and CDS mortgage market meltdown, which caused a sharp spreads. sell-off in credit and equity markets in major markets around the world, were reflected in the widening of Philippine sovereign bond spreads during the quarter. The spreads of ROP 2015 bonds over the benchmark 10-year US Treasury notes and CDS 14 widened significantly in Q3 relative to the previous quarter. The ten-year ROP and CDS spreads in Q3 widened to 186.4 basis points and 162 basis points, respectively, from the 128.6 basis points and 106 basis points recorded in the previous quarter.
Sovereign bond and CDS spreads have since narrowed starting in late August following the Fed’s cuts in both its discount rate and the target for the federal Funds rate in September.
14 A credit default swap (CDS) is a bilateral contract under which two counterparties agree to isolate and separately trade the credit risk of at least one third-party reference entity. Under a credit default swap agreement, a protection buyer pays a periodic fee to a p rotection seller in exchange for a contingent payment by the seller upon a credit event (such as a default or failure to pay) happening in the reference entity. When a credit event is triggered, the protection seller either takes delivery of the defaulted bond fo r the par value (physical settlement) or pays the protection buyer the difference between the par value and recovery value of the bond (cash settlement). Credit default swaps are the most widely traded credit derivative product. The typical term of a credit default swap contract is five years, although being an over-the- counter derivative , credit default swaps of almost any maturity can be traded.
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Banking System
The country’s banking system continued to perform favorably during the period as the sustained implementation of financial sector reforms continued to bear fruit. The improving macroeconomic conditions likewise provided an encouraging environment for banks to further strengthen their balance sheets and improve profitability. Key performance indicators reflected overall soundness as shown by the sustained growth in bank lending and the remarkable improvement in bank asset quality, with NPL ratio nearing pre-crisis level. Likewise, banks remained adequately capitalized in spite of higher loss provisioning levels and stricter alignment of capital requirements with international standards.
Savings Mobilization
The banking system’s deposit liabilities as of end- Banks’ deposit base increases. June 2007 continued to grow robustly, posting an increase of 13.6 percent to P3.6 trillion from its year ago level of P3.2 trillion. Demand and time deposits sustained year-on-year growths at 33.9 percent and 19.3 percent, respectively. Savings deposits, which continued to account for half of the banks’ funding base, similarly increased by 4.7 percent relative to its level a year ago. Compared to the end of the previous quarter, the banking system’s deposit liabilities increased modestly by 0.6 percent.
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Lending Operations
Growth in bank lending continues. Outstanding loans of commercial banks, thrift banks and rural banks (net of reverse repurchase or RRP placements) expanded by 7.5 percent year-on-year in August compared to 4.7 percent in June. This was a marked turnaround from the 0.4 percent decline registered in the same month a year ago.
Most sectors of the economy registered an uptrend in lending growth, led by the transportation, storage and communication sector at 15.4 percent, followed by the construction sector at 11.9 percent, and the community, social and personal services sector at 11.5 percent. Lending to the wholesale and retail trade grew by 4.1 percent. Lending to financial institutions, real estate, and business services posted a modest growth of 6.4 percent, but, net of RRPs, a hefty 21.8 percent growth was recorded by this sector. Meanwhile, agriculture, fisheries and forestry (AFF) exhibited a modest deceleration in lending growth to 5.7 percent. By contrast, lending to mining and quarrying, manufacturing, and electricity, gas and water continued to post declines relative to their levels a year ago.
Gross of banks’ RRP placements with the BSP, bank lending exhibited the same trend, rising by 4.3 percent year-on-year in August from 3.4 percent in July.
Consumer loans increase. Meanwhile, the combined credit card receivables (CCRs) of universal and commercial banks (U/KBs) as well as thrift banks as of end-June 2007 increased by 24.6 percent year-on-year to reach P102.0 billion, and by 5.8 percent compared to the end of the previous quarter’s level of P96.4 billion. The ratio of CCRs to the total loan portfolio (TLP) increased to 5.4 percent from 4.5 percent as of end- June 2006. Of the total CCRs, 13.8 percent was past due, slightly lower than the 14.2 percent recorded at end-March 2007.
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Similarly, U/KBs’ and TBs’ combined auto loans as of end-June 2007 rose by 21.1 percent to P78.9 billion from P65.2 billion in June 2006, and by 5.6 percent from the end-March 2007 level of P74.7 billion. Auto loans accounted for 4.2 percent of TLP and only 4.8 percent of total auto loans were past due.
U/KBs' real estate loans (RELs) declined minimally by 0.6 percent to P192.2 billion from its year-ago level of P193.5 billion but increased by 4.2 percent compared to the previous quarter’s level of P184.5 billion. RELs granted for the construction and development of real estate properties for commercial purposes including infrastructure projects held a vast share of 81.2 percent (or P156.2 billion) of total RELs while the remaining 18.8 percent (or P36.0 billion) was granted for the acquisition of residential units by individual homeowners/borrowers.
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Institutional Developments
Resources of the banking system rise. The total resources of the banking system rose by 9.5 percent to P5.082 trillion as of end-July 2007 from its year-ago level of P4.641 trillion. The increase was due mainly to the rise in banks’ deposits with the BSP and other banks, investments, and loans and discounts. Commercial banks (KBs) continued to account for almost 90 percent of the total resources of the banking system.
Number of banks falls due to mergers and The number of banking institutions (head offices) consolidations but operating network fell further to 858 as of end-June 2007 from the year continues to expand. ago level of 871, reflecting continued consolidations and mergers, as well as the closure of weak banks. The total number of banking institutions was comprised of 38 KBs, 83 TBs and 737 rural banks (RBs). Meanwhile, the number of operating network of the banking system increased to 7,738 as of end- June 2007 from 7,693 at end-June 2006, reflecting mainly the increase in TBs’ and RBs’ branches/agencies. On a quarterly basis, the number of banking institutions declined to 858 as of end-June 2007 from 861 as of end-March 2007.
Asset quality of banks continues to improve. The asset quality of the banking system continued to improve as the non-performing loan (NPL) ratio was lower at 5.6 percent as of end-July 2007 compared to 7.5 percent a year ago. The improvement in the NPL ratio was sustained due to the 20.4 percent drop in the level of NPLs, complemented by the 6.8 percent increase in the amount of the industry’s TLP. NPLs shrunk to P132.7 billion during the period under review from the previous year’s level of P166.8 billion, while TLP reached P2,363.6 billion from P2,212.1 billion.
Meanwhile, the NPL ratio of U/KBs as of end-July 2007 eased further by 2.0 percentage points to 5.2 percent from 7.2 percent a year ago.
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Compared with other countries in the region, the Philippine banking system’s NPL ratio of 5.6 percent as of end-July 2007 was lower than Indonesia’s 6.7 percent, but higher than Malaysia’s 3.6 percent, Thailand’s 4.8 percent, and Korea’s 0.8 percent.15 The lower NPL ratio in Malaysia, Thailand, and Korea could be attributed in part to the creation of publicly-owned asset management companies (AMCs), which purchased the bulk of their NPLs, a strategy not adopted in the Philippines.
The loan exposure of banks was adequately covered as the banking system’s NPL coverage ratio remained high at 76.3 percent as of end-July 2007, reflecting banks’ diligent compliance with the loan-loss provisioning requirements.
Capital adequacy ratio remains higher relative Using the new risk-based framework, banks remained adequately capitalized as of end-March to BSP and international standards. 2007, with the industry’s capital adequacy ratio (CAR) at 17.5 percent on a solo basis and 18.8 percent on a consolidated basis. However, these ratios were lower than the previous year’s levels of 18.0 percent and 19.4 percent on solo and consolidated basis, respectively, but higher than the end-December 2006 CARs of 16.8 percent and 18.1 percent on solo and consolidated basis, respectively. The industry’s CAR continued to exceed the statutory level set by the BSP at 10.0 percent and the Bank for International Settlements’ (BIS) standard at 8.0 percent. This is reflective of the banking system's ability to cover risky assets.
The Philippines’ CAR remains comparatively higher than those of Thailand (12.8 percent), Malaysia (12.9 percent), and Korea (13.0 percent). Indonesia posted the highest CAR in the region at 22.1 percent.16
15 Sources: Various central bank websites. Thailand (KBs, May 2007); Malaysia (KBs, August 2007); Korea (KBs, December 2006); and Indonesia (KBs, May 2007) 16 Sources: Various central bank websites, Thailand (KBs, June 2007); Malaysia (KBs, August 2007); Korea (KBs, March 2007); and Indonesia (KBs, April 2007).
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Placements under the BSP’s SDA facility SDA placements rose by P411.7 billion to P461.4 increase. billion as of end-September 2007 from last year’s level of P49.7 billion. The significant increase in SDAs could be attributed to the recent monetary measures that were implemented on 10 May 2007.17 Meanwhile, the total volume of banks’ placements with the BSP under the RRP window amounted to P206.1 billion as of end-September 2007, lower by P16.4 billion than its year-ago level.
17 For a thorough discussion of the monetary measures implemented on 10 May 2007, please see the section on Mon eta ry Po licy Developmen ts .
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Exchange Rate
The peso continues to appreciate against the US The peso appreciated by 8.9 percent against the dollar. US dollar as of 28 September 2007 vis-à-vis its end-2006 level. On a quarterly basis, the peso appreciated by 2.2 percent to average P45.94/US$1 in Q3 2007 from P46.93/US$1 in the previous quarter.18 The peso proved resilient amid the rise in Daily Peso- US Dollar Rate risk aversion against emerging market assets, P/US$ 60 which was tied to fears of a global credit tightening stemming from banks’ and other financial 55 institutions’ soured exposure to the US subprime mortgage market. Nonetheless, the sustained 50 strength of dollar inflows from OF remittances, export earnings and foreign investments continued 45 end-Sep to boost the peso, which reached a seven-year P45.94/US$
40 high of P44.79/US$1 on 25 July 2007. Moreover, the provision by major central banks of additional 35 liquidity as well as the reduction by the US Federal 2000 2001 2002 2003 2004 2005 2006 2007 Reserve of its discount rate to 5.25 percent along with the target for its federal funds rate by 50 basis points to 4.75 percent to avert possible adverse Changes in Selected Dollar Rates effects on real sector activity, helped tame the growing risk aversion in emerging market assets. Appr./Depr. (-)
Year-to-date 28 Sep 07 29 Jun 07 Most regional currencies tracked an appreciating path, with the exception of the Indonesian rupiah Philippine peso 8.86 6.03 and New Taiwan dollar, which depreciated against Thai baht 12.36 2 .66 the US dollar on a year-to-date basis. Chinese yuan 3.95 2.47 Malaysian ringgit 3.41 2.14 Volatility, as measured by the standard deviation of South Korean won 1.64 0.68 the daily exchange rates, declined to P0.61 in the Singaporean dollar 3.19 0.39 third quarter of 2007 from P0.79 in the second quarter, reflecting less volatility in the peso-dollar New Taiwan dollar -0.22 -0.82 exchange rate during the review quarter compared Indonesian rupiah -1.67 -0.51 to that in the previous quarter. Japanese yen 3.31 -3.56
18 Dollar rates or reciprocal of the peso-dollar (reference) rates were used to compute for the percent changes.
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On a real, trade-weighted basis, the peso lost some external price competitiveness in the third quarter against the basket of currencies of major trading partners (MTPs) as well as against the baskets of currencies of competitor countries in the narrow and broad series. This development, brought about by the combined effects of the nominal appreciation of the peso and the widening price differential across the three currency baskets, translated to an increase of the real effective exchange rate (REER) of the peso by 2.0 percent against the basket of currencies of MTPs and by 3.8 percent and 6.0 percent against the baskets of currencies of the narrow and broad series of competitor countries, respectively.19
In view of the Philippines’ robust macroeconomic fundamentals, which continue to buoy investor confidence in the country, the peso is expected to remain firm for the rest of 2007 despite the risks posed by the tightening of global liquidity conditions, heightened risk aversion for emerging market assets, and volatile oil prices. Robust dollar inflows from OF remittances, portfolio and foreign direct investments as well as exports receipts are seen to further result in a firmer currency.
19 The REER index represented the Nominal Effective Exchange Rate (NEER) index of the peso, adjusted for price diffe rentials with the countries whose currencies comprise the NEER index basket. The NEER index, meanwhile, represented the weighted average exchange rate of the peso vis-à-vis a basket of foreign currencies.
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Monetary Aggregates
Liquidity growth slows down. Domestic liquidity (M3) growth slowed down to
14.9 percent year-on-year in August from 19.4 percent in June 2007.20 The continued slowdown
in liquidity growth is seen to reflect the effect of monetary measures initiated by the BSP in May. Reflective of the strong external payments position, net foreign assets of banks continued to expand. Domestic liquidity growth was, however, tempered by the fall in net domestic assets, which declined by 4.6 percent in August from the growth of 3.8 percent posted in June. The growth of credit to the public sector accelerated to 15.6 percent in August (from 10.5 percent in June), while the growth of credit to the private sector reached 7.3 percent from 6.0 percent in June 2006. The Net Other Items account (which includes SDAs and RRPs), however, showed a large drop following the policy measures implemented by the BSP in May.
Year-on-year growth in reserve money, a narrower measure of monetary aggregates, declined to 58 percent as of end-September from 66 percent as of end-June 2007.21
20 M3 refers to the stock of broad money based on data from the Depository Corporations Survey (DCS). The DCS, which replaced the Monetary Survey (MS) as the basis for measuring domestic liquidity, is an expanded list of surveyed institutions that included the BSP, commercial banks, thrift banks, rural banks, non-stock savings and loan associations and non-banks with quasi-banking functions. 21 Reserve money (RM) is defined as the sum of currency issue net of cash in vaults of the BTr and banks’ reserve balances with the BSP.
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Box Article: THE US SUBPRIME MORTGAGE MARKET
I. Background22
Subprime Mortgages
Subprime mortgages are residential loans that do not conform to the criteria for “prime” mortgages, and thus have a lower expected probability of full repayment based on the borrower’s credit record, debt service-to-income (DTI) ratio, and/or mortgage loan-to-value ratio. These are predominantly securitized in the form of mortgage-backed securities that are enhanced with mechanisms (e.g., credit enhancements, mortgage insurance coverage) to prevent rising default rates to creep into higher-rated collateralized debt obligations (CDO) tranches.23 A number of more sophisticated securitized financing products were in fact found to have been linked to subprime mortgages.
Meanwhile, the growth of the US subprime mortgage market was facilitated by several legal milestones (e.g., state imposition of interest rate caps on housing loans, tax deductible interest on residential mortgages, legal provisions on automatic underwriting and securitization) instituted by the US Government. These milestones collectively made subprime loans a preferred means of financing home improvement and facilitated the substantial expansion in home ownership in the 90s.
What triggered the subprime mortgage market crisis
Subprime lending growth was boosted by highly leveraged lending against a background of rapidly rising house prices and a generally low interest rate environment in 2001-2005. Housing affordability reached a point where a significant portion of borrowers were overstretching their finances by purchasing risky “affordability products,”24 many of which were backed by low-quality assets. In particular, subprime loan approvals were made on the basis of expected collateral appreciation, with less consideration given to the ability of the borrower to make the necessary mortgage payments. Along with the relatively accommodative credit criteria set by some mortgage dealers, borrowers were allowed to make interest payments alone, leaving the principal unpaid and the level of housing equity low. Thus, when the US Fed increased policy rates amid steady housing prices, many overstretched borrowers ended up defaulting on their loan payments as prepayment and refinancing options were not feasible due to inadequate housing equity. The resulting rapid deterioration of 2006 subprime mortgage loans subsequently led to a series of foreclosures.
At the same time, strong market preference for higher-yielding securities (associated with subprime mortgages) in 2005-06 may have led to more liberal underwriting standards. Lending safeguards were relaxed as intermediaries profited primarily from loan volumes rather than from ensuring loan quality.
22 Kiff, J. and P. Mills, July 2007. “Money for Nothing and Checks for Free: Recent Developments in US Subprime Mortgage Markets”. IMF Working Paper No. WP/07188. 23 A defining feature of CDOs is the tranching or splicing of credit risk. The risk of loss on the reference portfolio is divided into tranches of increasing seniority. Losses will first affect the “equity” or “first loss” tranche, next the “mezzanine” tranche, and finally the “senior” and “super-senior” tranches. (“ Gibson, Michael S., Understanding the Risk of Synthetic CDOs”, Federal Reserve Board, July 2004. 24 These products were mostly adjustable-rate mortgages ( ARMs) which combine floating and fixed rates mortgages. About two-thirds of recent ARM originations were “2/28” hybrids, which were effectively two-year fixed-rate mortgage (FRMs) that convert to 28-year ARMs at the end of the second year.
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II. Impact on Global Financial Markets
On financial institutions
The US subprime mortgage crisis affected mostly hedge funds, banks with subprime-specialist subsidiaries, and a number of finance companies. Losses apparently appeared at the end of the securitization chain among the holders of unrated and lower-rated mortgage-backed securities (MBS) and equity and mezzanine tranches of CDOs.25
A number of hedge funds, particularly those specializing in lower-rated subprime asset-backed securities (ABS) and CDOs, reported significant losses in the aftermath of the meltdown. Besieged by withdrawals and margin calls, these hedge funds were forced to liquidate holdings and realize losses. Among those that disclosed their losses were two hedge funds managed by Bear Sterns, a large investment bank heavily exposed to subprime assets. This was followed by reported losses of funds managed by prominent banks (i.e., Swiss bank UBS; German banks IKB Deutsche Industriebank and Sachesen Bank; and French bank BNP Paribas) with similar exposures in the US subprime mortgage market. Meanwhile, in the property finance sector, major residential mortgage lenders (i.e., Countrywide Financial Corporation, Luminent Mortgage, Thornburg Mortgage) struggled with liquidity problems as delinquency rates of borrowers deteriorated.
As the US subprime market corrected in mid-August and market liquidity dried up in the periods following the meltdown, a gradual correction in key markets in Europe ensued---with the impact extending across the Atlantic and East Asian markets.
On major central banks
To temper the effects of the mortgage meltdown, the US Federal Reserve Board immediately put in place a number of policy measures to ease market concerns. First, the Federal Reserve pumped in some US$62 billion of liquidity in the banking system through its open market operations (via repurchase agreements) on 9-10 August to assist home mortgage creditors in coping with short-term liquidity needs.26 This was followed by a 50-basis-point cut in the discount rate to 5.75 percent beginning 17 August. The Fed also lengthened the maturity profile of term financing (from overnight to 30 days) and announced that it will “continue to accept a broad range of collateral for discount window loans, including home mortgages and related assets, while maintaining existing collateral margins.” 27
25 Ibid . 26 Bloomberg, 10 August 2007; Temporary Open Market Operations, FRB,NY 27 US Federal Reserve Press Release, 17 August 2007
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While the Fed’s initial moves resulted in a wave of recovery among major stock markets, credit woes dominated market sentiments in the US. This prompted the Fed to pump in additional liquidity to the banking system to keep credit markets from drying up. For the period 9 August-6 September alone, an estimated US$162 billion worth of funds were injected into the system through the reserve market. Subsequently on 18 September 2007, the Federal Open Market Committee decided to lower its target for the federal funds rate by 50 basis points to 4.75 percent. Discount rates were correspondingly reduced further by 50 basis points to 5.25 percent. The Fed announced that the rate cut was intended to “help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets.”
Since the financial correction, central banks around the world have also taken coordinated efforts to increase liquidity in their respective markets to stabilize foreign exchange rates and prevent contagion from escalating. After the 50-basis-point cut in the Fed rate on 17 August, the European Central Bank (ECB) joined the Bank of Japan and the Reserve Bank of Australia in pumping further cash into their respective financial systems. Meanwhile, the Bank of England lent some US$628 million at its penalty interest rate (6.75%) for the first time in more than a month on 20 August.28
On equities markets
At the height of the meltdown, major stock markets have experienced broad sell-offs and experienced record drops in stock values in years as investors fled the effects of the US subprime mortgage market. Stocks worldwide have shed over 7 percent since hitting record highs in July.29 Asian stock markets experienced heavy sell-offs with dramatic falls of more than 5 percent in some bourses as the fallout in the US credit markets drove investors to unload risky assets and flee to safe havens such as bonds. On 16 August 2007, Korea’s KOSPI led the region’s decline with a 6.9 percent drop in its index followed by the Philippines and Indonesia both shedding around 6 percent. Elsewhere around the region, China, Singapore, Malaysia, Thailand, and Hong Kong posted more than 3 percent losses in their stock market indexes.
Percent Change of Selected Stock Market Index
Monthly Percentage ChangeDaily Percentage Change End-June End-July 14-Aug-07 15-Aug-07 16-Aug-07 17-Aug-07 China Hang Seng Mainland Composite Index 5.52 6.49 0.53 -2.87 -3.29 -1.38 China 'A' Shares Shanghai Stock Exchange Composite Index -7.03 17.02 1.09 -0.06 -2.14 -2.28 China 'A' Shares Shenzhen Composite Index -3.07 21.15 1.46 -0.18 -1.65 -2.27 Japan TOPIX Index (Tokyo Stock Price Index) 1.09 -3.87 0.30 -2.64 -1.67 -5.55 South Korea KOSPI 2.51 10.88 -1.70 - -6.93 -3.19 Singapore Straits Times Index 1.06 -0.02 0.18 -3.35 -3.70 -0.68 Indonesia Jakarta Stock Price Index 2.64 9.79 -1.94 -6.44 -5.94 - Australia Australian Stock Exchange 200 Index -0.61 -2.08 -0.78 -2.96 -1.32 -0.71 Malaysia Kuala Lumpur Stock Exchange Composite Index 0.56 1.43 0.06 -2.83 -3.53 -1.33 New Zealand New Zealand Exchange -1.58 -0.50 -0.11 -1.51 -1.16 -1.61 Philippines Philippine Stock Exchange Composite Index 5.36 -4.36 -0.11 -4.08 -6.01 -1.97 Thailand Bangkok SET Index 5.34 10.68 -1.37 -2.51 -3.00 1.03 Hong Kong Hang Seng Index 5.52 6.49 0.53 -2.87 -3.29 -1.38 US Dow Jones Industrial Average -1.61 -1.47 -1.57 -1.29 -0.12 1.82 Source: Bloomberg
28 “IMF Global Markets Monitor”, 21 August 2007 29 IMF External Relations Department Morn ing Press, 10 August 2007
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Major markets however took a more solid turn following the US Fed rate cut on 18 September. In the US, Wall Street drove to its best one-day performance ever with the S&P closing 2.9 percent higher at 1,519.8 index points. In Europe, the U.K. benchmark FTSE 100 rose 2.1 percent to 6,415.3 while Germany's Dax gained 1.9 percent to 7,716.2 and France's CAC-40 climbed 2.4 percent to 5,682.0. In Asia, Japan's benchmark Nikkei 225 stock index soared by 579.7 points, or 3.7 percent, to close at 16,381.5 points, marking its biggest point gain in more than five years. Hong Kong's Hang Seng index jumped 977.8 points, or 4.0 percent, to 25,554.6. The Korea Composite Stock Price Index rose 64.0 points, or 3.5 percent, and closed at 1,902.7. New Zealand's NZX-50 index rose 54.1 points, or 1.3 percent, to 4,177.7, while Australia's Standard & Poor's (ASX 200) jumped 154.0 points, or 2.5 percent, to 6,362.0.30
On foreign exchange markets
Asian currencies tumbled in August as stocks collapsed and investors cut their exposures to riskier assets. As of 17 August 2007, the Indonesian rupiah took the biggest hit, dropping by 4.8 percent on a year-to-date basis followed by the South Korean won weakening by 2.1 percent and the New Taiwan dollar by 1.3 percent. The Philippine peso, Thai baht, Indian rupee, Malaysian ringgit, and Singaporean dollar likewise depreciated following the continued gains posted during the first half of 2007.
Movements of Selected Asian Currencies Currencies 2002 2003 2004 2005 2006 2007 1 2007 2 2002-2007 2 South Korean Won 9.9 0.2 14.5 2.2 8.7 -2.1 1.4 36.9 Thai Baht 2.8 8.8 1.4 -4.9 13.9 6.1 12.7 34.7 Singaporean Dollar 6.4 2.1 4.2 -2 8.6 0.1 4.9 24.2 Indian Rupee 0.6 5.2 5 -3.5 1.8 6.8 12.4 21.5 Philippine Peso -2.7 -4.2 -1.4 6 8.3 4.7 10.6 16.6 Indonesian Rupiah 16.5 5.4 -9.4 -5.8 9.3 -4.8 -0.7 15.3 Japanese Yen 9.7 10.8 3.9 -13 -1 2.7 2.0 12.4 Malaysian Ringgit 0 0 0 0.5 7.3 0.5 4.3 12.1 Chinese Yuan 0 0 0 2.6 3.4 2.9 3.9 9.9 New Taiwan Dollar 0.9 2.2 6.3 -3.6 0.9 -1.3 -0.3 6.4 1 as of 17 August 2 as of 16 October
Signs of leveraged trades were also seen unwinding, particularly among investors in the yen- financed carry trades. This was prompted by the yen rising to a near-five-month high against the dollar and the euro as investors who had borrowed the low-interest rate currency to buy riskier but higher- yielding assets continued to unwind their positions.
However, with the cut in the target for the US federal funds rate in September, currencies in the region rallied against the US dollar. The Indonesian rupiah and Philippine peso led gains in Asia as the cut in U.S. interest rates eased concerns that the global economy will slow down, boosting demand for riskier assets. All 17 currencies of the region's largest economies, except for Indonesia and the New Taiwan dollar, have recovered against the dollar as of 16 October 2007.
30 Bloomberg, 19 September 2007.
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III. Impact on the Local Financial Markets
In the Philippines, local markets experienced some degree of volatility mainly due to rising risk aversion but subsequently showed signs of gradual easing beginning in September.
Equities and capital market. The local equities market experienced a dramatic decline in share prices as the market’s main composite index dropped by 22.4 percent from a high of 3,791.4 index points on 5 July 2007 to 2,884.3 index points on 17 August 2007. The sustained selling in the PSE saw the bourse lose its accumulated gains in 2007. Correspondingly, returns on equity and dollar- denominated bond exposures of most local UITFs and mutual funds were affected with the degree of impact varying across different funds.
Since then, the market has managed to recover as investor sentiment improved following the cut in the discount rate made by the US Federal Reserve in August. In addition, positive domestic news such as reports of a robust second quarter GDP growth data (7.5 percent) and higher corporate earnings led the PSEi to close the month at 3,365.3 index points.
P h ilip p in e C o m p o s ite In d e x Philippine Composite Index 2005 to SeptemSeptember ber 2007
4,000
3,500
3,000
2,500
Index Points 2,000
1,500 1,000 J-06 M M J S N J-07 M M J S 2005 2006 Period
In September, the local bourse closed at 3,475.8 index points, relatively higher than the previous month’s level. The positive turnaround was due to favorable developments both in the external and domestic sectors, namely: the half-percentage-point cut in the discount rate for the second time in a little over a month; and the higher-than-expected half-percentage-point cut in the target for the US federal funds rate; the fiscal surplus achieved by the National Government for the third consecutive month; the ADB’s growth forecast upgrade for the Philippine GDP, and the possibility of the BSP’s doing a similar move as the US Fed. The resolution of the plunder charges against former President Estrada also provided a welcome relief to investors, further boosting their confidence in the market.
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Exchange rate. The slowdown in capital flows and negative investor sentiment towards emerging markets generally brought down the value of the peso against the US dollar in mid-August. From a high closing rate of P44.79/US$1 on 24 July, the peso depreciated to P46.86/US$1 on 17 August.
The peso continued to trade on the downside in early September to hit a low of P46.94/US$1 on 11 September as the market remained uncertain about the outcome of the Estrada plunder case. Market jitters prompted investors to unload regional currencies and shift away from the perceived riskier assets of emerging markets amid fears of a global credit tightening. But after the 18 September Fed cuts, the peso firmed up again. The continued stream of remittances from OFs as well as dollar earnings from exports also supported the peso. As of 16 October 2007, the peso was traded at P44.34/US$1.
End-Month Closing Peso/USD E x c h a n g e R a te a n d V o la tility 58 0.70 Standard De viation (rhs) Pe so/US$ (lhs)
56 0.60
54 0.50
52 0.40 50 0.30 48 0.20
46 0.10 P 46.999 As of 3 O ct. 2007 44 0.00 JFMAMJJ ASONDJ FMAM J JASONDJFMAM JJA SO 2005 2006 2007
Interest rate spreads. The impact of the August global financial market downturn on the Philippines was felt almost immediately on 17 August following the sharp fall in US equities at the height of the US subprime mortgage problem. However, since the US Federal Reserve’s cut in the discount rate on 18 August and the cut in the target for the federal funds rate on 18 September, sovereign and CDS spreads have narrowed, with the global markets appearing to have largely set aside worries about the credit market. Investors moved back to stocks at the start of the fourth quarter as the market was encouraged that the worst might be over from the August’s credit and stock market turmoil.
Emerging Markets Bonds Index Spread Credit Default Swap of Philippine Sovereign Bond January – 16 October 2007 January – 16 October 2007
250 250 EMBI+ Philippines spread 225 EMBI+ spread 200 200 150 175 100 150 Widening pressure on renewed concerns on US 50 125 subprime m ortgage crisis. 100 0 J FMAMJ J ASO JFMAMJJASO
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With the dissipating credit worries, EMBI+ Philippine spreads, narrowed to 155 basis points on 12 October from a high of 241 basis points on 10 September. Philippine CDS spreads likewise narrowed to 121 basis points on 11 October from a September-peak of 191 basis points. However, widening pressures became apparent on 15 October on renewed concerns that the US subprime mortgage crisis could drag on at least through 2008, which could expose emerging markets to greater risks.
It may also be noted that Philippine banks reported very minimal exposures in structured products such as collateralized debt obligations (CDOs) and credit-linked notes (CLNs), none of which have underlying assets that are credit risky like subprime mortgages in the US.
IV. Overall Assessment
On the whole, the impact on the broader Philippine economy of higher investor risk aversion has been relatively small and largely indirect. To a large extent, this could be attributed to the sound macroeconomic fundamentals of the country (i.e. solid output growth, low inflation, and strong external payments position). Past fiscal and financial sector reforms also contributed in strengthening the economy’s ability to withstand shocks. Notwithstanding the limited effect of the crisis, the BSP stands ready to take pre-emptive measures to bolster confidence amid the uncertainties in the financial market. It will keep the confidence of the financial markets solid behind adherence to macroeconomic prudence and sustained financial sector reforms. The BSP also continues to monitor closely the situation so that threats to the stability of the financial system could be addressed promptly.
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Fiscal Developments
The January-September deficit of the NG reached Fiscal balance continues to improve. P40.0 billion, 25.4 percent lower than the deficit of
National Government Fiscal Performance P50.4 billion incurred during the same period last January-September 2007 year. For the first nine months, revenue collections In billion pesos grew by 13.5 percent to P812.3 billion compared to P715.9 billion for the same period last year. Of this January-September Percent Q1-Q3 2007 Program vs amount, the BIR and the Bureau of Customs (BOC) Change Program Actual (%) contributed P521.9 billion and P153.0 billion, as 2007 2006 their collections grew by 8.6 percent and 4.9 Surplus/(Deficit) -40.0 -50.4 20. 6 -54.0 74. 1 percent, respectively. The Bureau of the Treasury Revenues 812.3 715.9 13. 5 837.0 97. 0 (BTr) also contributed P57.2 billion, while other offices, including the sale from privatization Expenditures 852.3 766.3 11. 2 891.0 95. 7 registered an income of P80.2 billion.
Source: BTR Total disbursements during the same period amounted to P852.3 billion, 11.2 percent higher than the comparable disbursements in 2006. Excluding interest payments, total disbursements increased by 23.0 percent to P629.6 billion. Interest payments declined by 12.5 percent to P222.7 billion.
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III. External Developments
The global economy continues to grow, but The global economy continued to grow in Q2. growth is expected to slow down in the near Growth was mainly supported by buoyant economic term. activity in emerging markets. However, risks to the global economic outlook have increased recently, mainly because of the subprime mortgage problem in the US, indicating a possible slowdown in the near term. Nevertheless, economic prospects in the Euro area and Japan remained positive—as these countries registered modest output growth in Q2— while China and India continued to play increasingly significant roles as drivers of global economic growth. Global financial markets have stabilized after the 18 September 2007 Fed meeting, when the target for the federal funds rate was cut by 50 basis points. Subsequently, global equities have recovered and global credit spreads have narrowed. Meanwhile, the risk of rising global inflationary pressures remained due to increasing resource utilization, capacity constraints, and rising global commodity prices.
The US economy continues its expansion Revised Q2 2007 US GDP indicated that the US despite persistent weakness in the housing economy grew by 3.8 percent, its fastest pace since sector. Q1 2006, despite the persistent weakness in the housing sector. This was brought about by strong business investment, particularly spending on nonresidential structures. These offset the slowdown in consumer spending as well as the decline in residential investments.
However, economic indicators point to downside risks in the near term. The housing slump turned out to be deeper than expected, with recent housing data as well as forward-looking indicators pointing to further declines in the coming months as mortgage disruptions work their way through the housing market. The deeper housing slump coupled with diminished equity wealth effects also suggest weaker consumer spending going forward.
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The consumer confidence index, which recovered in Q2, gave back all its gains in Q3, with the September figure hitting its lowest level in two years. Weaker business conditions, as a result of the subprime mortgage housing market problems, combined with less favorable labor market conditions continue to dampen consumer sentiment and heighten uncertainty and concern. Economic activity in the manufacturing sector was generally stable, but expanded at a slower rate in Q3 compared to the previous quarter.
Meanwhile, the decline in non-farm payroll employment in August prompted the Fed to ease monetary policy settings in its latest meeting in September, to prevent the risks from the subprime mortgage meltdown from spreading to the real economy.
The financial markets stabilized during the week of the Fed meeting on 18 September 2007. In particular, US equities gained, as reflected in the rebound of the S&P 500 while credit spreads generally tightened, and demand for Treasury bills increased. However, signs of distress are still present in other areas, such as the asset-backed commercial paper market. On balance, however, financial conditions seemed to have been relatively calmer in the recent period. As of September 2007, the market was pricing in a steady reduction in the target for the federal funds rate to 4.25 percent by May 2008.31
On the price front, headline and core inflation continued to decline, but consensus forecasts expected core inflation to increase gradually, with tight labor and commodity markets, weak productivity growth, and rising import prices.
Latest economic surveys confirm continued Euro area GDP grew by 0.3 percent in Q2 2007, a favorable outlook for the Euro area. slowdown from the 0.7 percent growth in Q1 2007, as decreases in new investments offset growth in household consumption during the quarter.
31 Lehman Brothers, Weekly Global Economic Monitor
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However, latest survey data for the industrial and services sectors indicated that robust economic activity in the Euro area will continue in Q3 2007. In particular, the latest Purchasing Managers’ Index (PMI) for the manufacturing sector remained well above its historical average in August and thus continued to support the view of positive growth in this sector for the rest of the year. Industrial production and construction have likewise displayed a persistent growth momentum in August, led by the strong economic expansion in Germany. On household spending, Euro area consumer confidence rose further in Q2, nearing its highest level since 2000. This was boosted by the robust labor market conditions in the region, with unemployment rate falling to 6.9 percent in July and August from 7.0 percent in Q2.
Despite the current volatility in financial markets, analysts regard the outlook for the Euro area as favorable, with growth likely to be sustained in the next two years. This is supported by robust labor market conditions, with the unemployment rate falling to a 25-year low. Consequently, expectations of stronger wage growth could follow, boosting household income and consumption growth.32
On the price front, the Harmonized Indices of Consumer Price (HICP) inflation estimate for September was at 2.1 percent, higher than the 1.9 percent increase registered in June. Base effects from the strong increases of energy-related components last year contributed to the decline in the year-on-year headline inflation for the month. Looking ahead, inflation risks remained on the upside, stemming largely from domestic factors, particularly high resource utilization and strong employment growth, which could lead to stronger- than-expected wage growth.
32 August ECB Monthly Bulletin, “www.ecb.int”
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The Japanese economy grows at a modest Japan’s GDP during Q2 2007 expanded at a much pace. slower annualized rate of 0.5 percent from 3.2 percent in Q1 2007. The Q2 performance was supported by the increase in domestic consumption and capital spending, which offset the nil contribution of net exports to GDP.33 However, higher taxes and falling wages may temper Japan’s domestic demand-driven recovery and reduce inflationary pressures. Consumer confidence fell in Q3, suggesting that consumer spending could wane, thus underscoring the need for exporters and manufacturers to fill up the gap to boost Japan’s economic performance. Nonetheless, Japan’s average unemployment rate in July and August was at 3.7 percent, lower than the 3.8 percent in Q2.
With these developments in the domestic economy and the tightening of global liquidity conditions, the Bank of Japan (BOJ) left key policy rates unchanged in its latest meeting on 19 September, with the BOJ Governor highlighting the need “to monitor the state of global financial markets and its potential impact on global growth.”
Economic indicators in emerging Asia signal Emerging Asia continued to expand at a robust continued strong growth. pace in Q3 particularly in China. In China, real GDP growth accelerated to 11.9 percent in Q2, the fastest pace since Q4 1995. The main contribution to growth came from domestic demand and exports. In particular, the trade surplus continued to widen, with the January to August 2007 surplus increasing by 72 percent from the same period a year ago.34 India’s growth momentum also continued, with a more robust Q2 real GDP growth of 9.3 percent from 9.1 percent in Q1. Rapidly accelerating growth has put some strains on these two economies. Although India‘s wholesale price inflation has been on a downtrend, inflationary pressures remained high in both China and India on account of high food and manufacturing inflation as well as rising oil prices.
33 “Japan GDP up by 0.1 percent in 2Q”, www.japaneconomynews.com 34 ECB Monthly Bulletin, October 2007, available at www.ecb.int.
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Overall, prospects are favorable in emerging Asia, underpinned by steady growth from domestic demand and growth from exports. However, the uncertainty in the U.S. economy, as well as sudden shifts in global risk appetite, continued to pose risks to growth in the near term. Meanwhile, inflation remained broadly stable in other large emerging Asian economies but risks to the outlook remained on the upside, brought about by the possibility of further increases in oil prices.
Central banks show differing policy directions. The Fed lowered its target federal funds rate during the third quarter, but the reduction by 50 basis points to 4.75 percent was bigger than expected. This move came as developments in the financial markets increased the uncertainty in the economic outlook. The Fed also approved a further reduction in the discount rate by 50 basis points to 5.25 percent to maintain the stability of the overnight borrowing market.
Meanwhile, the BOJ voted to keep its uncollateralized overnight call rate steady at 0.5 percent during its 4 October 2007 monetary policy meeting, on the premise that the monetary environment should be accommodative to ensure price stability while achieving sustainable growth in the medium to long term. Both the European Central Bank (ECB) Governing Council and the Bank of England's (BOE) Monetary Policy Committee similarly decided to keep their policy settings unchanged in their 4 October 2007 meetings. The ECB’s decision was based on the perceived upside risks in the medium-term outlook for price stability. Against the background of strong fundamentals in the Euro area, the ECB, in its latest monetary policy statement, stated that “…monetary policy stance is still on the accommodative side with, inter alia, money and credit growth vigorous in the Euro area.” Meanwhile, the BOE based its decision on the view that indicators of price pressures remain somewhat elevated against the backdrop of sustained output growth.
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IV. Monetary Policy Developments
BSP maintains a neutral monetary policy The Monetary Board decided to maintain a neutral stance. monetary policy stance by implementing two complementary moves during its policy meeting on 12 July 2007. The tiering system on placements with the BSP was lifted and the BSP’s key policy BSP Policy Interest Rates interest rates were adjusted to 6.0 percent for the In percent overnight borrowing or reverse repurchase (RRP) 18 rate and 8.0 percent for the overnight lending or
16 repurchase (RP) rate. The removal of the tiering scheme and the adjustment in interest rates were 14 also applied to placements in the special deposit 12 acc ount (SDA) facility of the BSP. 10 8 The Monetary Board considered this policy stance 6 as neutral relative to future inflation and output. The 4 Monetary Board believed that the neutral stance of 2000 2001 2002 2003 2004 2005 2006 2007 monetary policy was appropriate given moderate Overnight RRP Rate Overnight RP Rate demand pressures, favorable supply conditions and manageable inflation expectations during the period. Moreover, the Monetary Board considered that neutrality will provide greater flexibility in monetary policy in the absence of clearer direction on potential risks to the inflation outlook, such as liquidity, wage pressures, and oil prices.
During its subsequent policy meeting on 23 August 2007, the Monetary Board decided to maintain the BSP’s key policy interest rates at 6.0 percent for the overnight borrowing or reverse repurchase (RRP) rate and 8.0 percent for the overnight lending or repurchase (RP) rate.
Monetary measures in May were effective in In its assessment of economic conditions, the containing liquidity… Monetary Board noted that recent data suggested that the additional liquidity management measures implemented in early May 2007 have exerted the desired cooling effect on liquidity conditions. Meanwhile, there were indications that the tiering scheme that had been in effect since November 2006 has had a beneficial impact on bank lending to the productive sectors of the economy. At the same time, the Monetary Board observed that the continued broadening of financial markets was an indicator that non-bank sources of financing were becoming increasingly available to the corporate sector, therefore reducing reliance on bank lending.
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…but risks to the inflation outlook remain. Domestic liquidity growth remained a key policy concern during the quarter. Although domestic liquidity growth was observed to be decelerating, a resumption of high liquidity growth could eventually pose risks to inflation. In addition, volatility in oil prices remained a risk to the inflation outlook, due to tight global oil supply, the onset of the hurricane season which was an added threat to supply, and the growing demand for crude oil from China and the US.35 The possibility of additional wage adjustments also provided some upside risks.
The BSP will continue to be closely attentive to domestic price developments and the developments in the global economy. The Board will also remain watchful of any emerging risk to future inflation to ensure stable prices, which is a precondition to robust and durable economic growth.
35 Short-Term Energy and Winter Fuels Outlook, Energy Information Administration (EIA), 9 October 2007 release.
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V. INFLAT IO N OUTLOOK
Inflation Forecasts
Emerging baseline forecast indicates The inflation outlook over the policy horizon was generally benign inflation; but risks to the more benign in this assessment compared to the inflation outlook remain, even as they have previous report. The lower actual inflation coupled moderated. with the significant deceleration of liquidity growth and a firmer peso accounted for the downward revision in the baseline forecast. In addition, a lower path for LIBOR was assumed following the recent cut in the target for the US federal funds rate.36
Favorable supply of food due to normalizing weather conditions and well-anchored inflation expectations also helped explain the subdued inflation environment amid the modest upward trend of demand-side indicators. The current baseline forecast also takes into account the impact of the possible occurrence of the La Niña weather phenomenon during Q4 2007.
Demand Conditions
Demand conditions have shown signs of a continuously broad-based expansion. In particular, economic growth, which posted sustained expansion in Q2 2007, reflected robust personal consumption and the rise in government spending and investments. Increased economic output resulted in improved employment conditions. Furthermore, other demand indicators, such as land and rental values, vacancy rates, sales of commercial vehicles and appliances, energy consumption as well as the employment level, showed improvements in Q3. Meanwhile, the growth of merchandise exports slackened but imports rose.
36 In the Multi-Equation Model, the 90-day LIBOR impacts on the exchange rate via the interest rate parity condition. A reduction in the LIBOR, ceteris paribus, leads to a widening of the differential between the domestic and foreign interest rates. The wider interest rate differential induces an appreciating trend on the exchange rate which, in turn, exerts downward pressure on inflation.
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Supply Conditions
Agricultural production, which is subject to the vagaries of weather conditions, could be a source of food inflation pressures. Current ocean and atmospheric conditions point to an early phase of a weak La Niña phenomenon which could strengthen and persist through the early months of 2008. This may adversely affect agricultural production. However, some indicators relevant to agricultural production appeared to be normalizing. The significant rainfall experienced recently ended the dry spell for most parts of the country, except for isolated areas in northern Luzon and central Visayas. Water levels in dams have normalized, except for those in central Luzon which remained critical.
Agricultural output growth is expected to continue, supported by public spending on seed technology and rural infrastructure. However, global prices of some food items like rice, corn, wheat and dairy in the international market are on the uptrend. The surge in food prices was due in part to rising food consumption in many emerging economies as well as supply bottlenecks arising from unfavorable weather conditions. Prospects of growth in domestic production for rice and corn for the year, although positive, are projected to be lower than a year ago. The Government is currently undertaking administrative measures to help temper inflationary pressures arising from increases in the price of these food items.
Movements in oil prices will also continue to influence future inflation. International spot and futures prices of oil have been rising on expectations of increasing global demand and supply concerns due to the hurricane and winter seasons. However, the appreciation of the peso should continue to exert a moderating impact on the upward pressure exerted by rising oil prices and global food prices on domestic inflation.
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Output Gap Estimates
The balance of demand and supply conditions, as captured by the output gap (or the difference between actual and potential output) provides an indication of potential inflationary pressures in the near term. Inflation tends to rise (fall) when demand for goods and services exert pressure on the economy’s ability to produce goods and services, i.e., when the output gap is positive (negative). Based on the revised GDP data, preliminary estimates yielded an output gap of 4.3 percent in both Q1 and Q2 2007. It represents an increase from the 2.9 percent reading in Q4 2006. The rise in the output gap amid the record high expansion in output in the first half of 2007 could indicate possible demand pressures that may contribute to inflationary pressures.
Inflation expectations
Expectations of future inflation from the results of the BSP’s latest survey among the private sector forecasters were lower for 2007 and 2008 in this Inflation Report compared to the last report. Moreover, results from the latest Consumer Expectations Survey (CES) point to an increasing number of consumers who expect inflation to slow down in the next 12 months. At the same time, based on the Business Expectations Survey (BES), more business executives expect inflation to decelerate in the third quarter but anticipate it to move up in Q4 due to the usual increase in demand during the holiday season.
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The latest baseline forecasts indicate that inflation will continue to be benign over the policy horizon as the risks to the inflation outlook have generally moderated. In the absence of adverse shocks, latest estimate of average inflation is expected to remain well below the 4.0-5.0 percent target range in 2007. For 2008, inflation could settle within the 4.0 percent ± 1.0 percentage point target. The BSP’s forecasts were generated on the following assumptions:
a. The National Government deficit remains unchanged at P63.0 billion in 2007 and a balanced budget in 2008.
b. The headline overnight RRP rate was assumed at 6.0 percent from October 2007 to December 2008.
c. The 91-day T-bill rate was assumed at 3.9 percent for the last three months of the year and 5.0 percent average in 2008.37
d. International crude oil prices are consistent with the latest BSP projections (as of 19 September 2007, based on estimated futures prices) of US$65.83 per barrel for 2007 and US$72.32 per barrel for 2008.
e. The nominal wage rate was assumed to increase by 6.9 percent in 2008.
f. The exchange rate is determined endogenously in the BSP’s Multi-Equation Model through purchasing power parity and interest rate parity relationships.
37 For the BSP’s Multi-Equation Model, the 91-day T-bill rates are determined endogenously.
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Risks to the Inflation Outlook
Prices of international oil remains highly The risks to the inflation outlook over the policy volatile. horizon may be presented graphically through a fan chart. The fan chart depicts the probability of different inflation outcomes based on the central projection (corresponding to the baseline forecast of the BSP) and the risks surrounding the inflation outlook.
The current fan chart depicts a slightly lower and narrower inflation path relative to that of the previous quarter. The central projection is expected to accelerate beginning in the fourth quarter of 2007 and climb steadily until the second quarter of 2008 due to base year effects of low inflation during the first half of 2007. Thereafter, inflation is expected to sustain its levels toward the low-end of the 4.0 percent ± 1.0 percentage point target due to the continued appreciation of the peso, well-anchored inflation expectations, and moderation of liquidity growth. While risks continue to surround the inflation outlook, they have, on balance, moderated as illustrated by the narrower bands above the central projection of the fan chart compared to the fan chart in the previous report. The growth of domestic liquidity decelerated for the fourth consecutive month in August, while weather conditions have normalized, supporting favorable supply of agricultural products. At the same time, the recent wage adjustments are not expected to generate significant inflationary pressures.
Moreover, a firm peso is expected to temper price pressures coming from the rising global commodity prices, including food and oil. Moving forward, the main risks to the inflation outlook relate to the continued high volatility of oil prices, possible additional increases in wages, possible resurgence in liquidity due to sustained capital inflows, rise in global food prices, and dissipation of base year effects.
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Inflation Profile as of the Previous Quarter Latest Inflation Profile Year-on-Year Inflation Year-on-Year Inflation 10 10
9 9
8 8
7 7
6 6
5 5
4 4
3 3
2 2
1 1
0 0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2005 2006 2007 2008 2005 2006 2007 2008 The fan chart shows the probability of various outcomes for inflation over the forecast horizon. The darkest band depicts the central projection, which corresponds to the BSP’s baseline inflation forecast. It covers 25% of the probability. Each successive pair of bands is drawn to cover a further 25% of probability, until 75% of the probability distribution is covered. The bands widen (i.e. “fan out”) as the time frame is extended, indicating increasing uncertainty about outcomes. Prices of international oil remain highly Continued Volatility of Oil Prices volatile. The high volatility of oil prices in the international market remains a major source of possible inflationary pressure in the near term. Developments in the US subprime market weakened the price in the oil futures market but this proved to be short-lived. Subsequently, the price of oil in the international market rebounded to sustain its uptrend despite the decision of OPEC to increase its production. This was due to the tight global oil supply, the onset of hurricane season— which affected the outlook for the supply of oil— falling inventories, and continued strong demand for crude oil from China as well as in the US, following the recent cut in the US federal funds rate. Continuing high demand for oil and low surplus capacity could spur expectations of higher oil prices in the future. However, the potential impact of the recent turmoil in the credit market on US growth could be a mitigating factor which could dampen the future demand for oil.
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Possible additional increases in wages, utility rates and transport fare
The approved and pending petitions for increases in wage and in the cost of living allowance (COLA) may add to inflation pressure. However, the impact is expected to be minimal since the approved wage increases were generally lower than the amount requested in the wage petitions. Approved increases in daily minimum wages in regions IV-A and VI, and approved increase in the COLA in region XII were implemented in October. Four petitions for daily wage adjustments are pending before the regional wage boards. There are also petitions for legislated wage increases for both private and public sector employees.
The pending petition by Meralco and the approved adjustment in the settlement price in the spot market may offset the recent electricity rate reductions and could add to inflation pressures. Possible sources of increase in electricity rates could come from Meralco’s petition to recoup its under-recoveries and adjustment in the spot market’s settlement price.
The water tariff in Metro Manila is expected to increase slightly in the fourth quarter due to the adjustment in the foreign currency differential. However, its inflationary impact is expected to be minimal. The water rate hike to be implemented by Manila Water Company and Maynilad Water Services represented only about 0.1 percent growth year-on-year, and water comprises only 0.85 percent of total CPI.
Tempered growth of liquidity still needs to be closely monitored
Liquidity growth has slowed down significantly but remains important in the assessment of the outlook for inflation. The slowdown in domestic liquidity growth in the last few months reflected the impact of the BSP’s new monetary measures to siphon off excess liquidity. Despite this development, emerging trends in monetary aggregates still need to be closely monitored in line with expectations of sustained foreign exchange inflows.
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Uptrend in global non-oil commodity prices
International rice prices are trending upward due mainly to higher demand from importing countries and limited supply in exporting countries. Similarly, global prices of some food products like dairy, corn, and wheat have risen substantially. This was due to the increasing use of some food items as source of fuel (i.e. corn, soybean, and rapeseed oil) which also affected the prices of non-fuel-related food items, rising food consumption in emerging markets, and the occurrence of unfavorable weather conditions which affected food production adversely. On the other hand, the appreciation of the peso is expected to cushion, in part, the effects on domestic prices of higher prices of non-oil commodities in the international market.
Dissipation of base-year effects
The relatively high inflation rate experienced in 2006 yielded base-year effects which contributed to the slowdown in inflation in 2007. However, the relatively low inflation this year may contribute to some upward base-year effects on inflation in 2008.
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Private Sector Economists’ Inflation Forecasts
Private sector forecasts continue to show Private analysts lowered their inflation forecasts benign inflation outlook. slightly for 2007 in Q3 on evidence of lower food prices in the previous months. This quarter’s mean inflation forecast for 2007 fell further to 2.8 percent Mean Inflation Forecasts by Private Sector Economists/Analysts In percent from 2.9 percent in the last quarter’s survey result.
7.0 Analysts noted that the firm peso arising from
6.5 steady OF remittances and foreign investments will 6.0 continue to moderate prices. Furthermore, stable 5.5 food supply will keep prices from rising. However, 5.0 2007 potential risks to inflation were cited such as strong 4.5 2008
4.0 growth in liquidity, increasing global oil prices and
3.5 possible additional adjustment in wages. 3.0 2.5 2.0 2005 Q 4 20 06 Q 1 2006 Q 2 2006 Q3 2006 Q4 2007 Q1 200 7 Q 2 2 007 Q 3 The mean inflation forecast for 2008 is also lower at 3.8 percent from the 3.9 percent projection in the previous quarter.
Probability Distribution For Analysts' Inflation Forecasts* Based on the probability distribution of respondents’ 2007 and 2008
70 forecasts (from 12 out of 14 respondents), there is a 62.5 percent chance that inflation will be within 2.1- 60 3.0 percent, well below the 4.0-5.0 percent target 50 range in 2007. In 2008, there is a 51.9 percent 40 probability that inflation will settle around the lower 30 bound of the 4.0 percent ±1.0 percentage point 20 target for 2008.
10
0 <0 1.0-2.0 2.1-3.0 3.1-4.0 4.1-5.0 5.1-6.0 6.1-7.0 7.1-8.0 8.1-9.0 9.1-10.0 >10.0
2007 2008 *Probability distribution was computed for probabilities provided by 12 respond ents (Source: BS P Survey)
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Private Sector Forecasts for GDP and Inflation Annual Percent Change Inflation 2007 2008 ATR Kim Eng Securities 3.0 3.5 Bank of America 2.5 3.2 Deutsche Bank 2.8 3.5 Development Bank of Singapore 2.6 3.5 Forecast Pte Ltd (Singapore) 2.9 4.3 HSBC 2.7 4.2 IDEA 2.5 3.6 ING Bank 2.8 4.0 Metrobank 2.8 - Nomura Securities 2.9 3.6 Philippine Equity Partners 2.8 3.9 RCBC 2.7-3.2 (3.0) 4.0-5.0 (4.5) Standard Chartered Bank 3.0 4.5 The Economist Intelligence Unit 2.8 3.4
Median Forecast 2.8 3.6 Mean Forecast 2.8 3.8 High 3.0 4.5 Low 2.5 3.2 Number of observations 14 13
Memo Item: Government Target 4.0-5.0 4.0±1.0
VI. IMPLICATIONS FOR THE MONET ARY POLICY STANCE
The overall conditions for future inflation and Baseline forecasts indicate a more benign inflation output show a benign inflation environment. outlook over the policy horizon. The lower actual inflation coupled with the significant deceleration of liquidity growth and a firmer peso accounted for the downward revision in the baseline forecast. Favorable food supply due to normalizing weather conditions and well-anchored inflation expectations also helped explain the subdued inflation environment amid the modest upward trend of demand-side indicators.
While risks continue to surround the inflation While risks continue to surround the inflation outlook, they have moderated. outlook, they have, on balance, moderated. The growth of domestic liquidity decelerated for the fourth consecutive month in August, while weather conditions have normalized, supporting favorable supply of agricultural products. At the same time, the recent wage adjustments are not expected to generate significant inflationary pressures. Moving forward, the main risks to the inflation outlook relate to the continued high volatility of oil prices, possible additional increases in wages, possible resurgence in liquidity given expectations of sustained strong capital inflows, rise in global food prices, and dissipation of base-year effects.
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Risks to the inflation outlook remain. Despite the remaining risks, latest simulations show that the inflation path is expected to stay within the target over the policy horizon. The inflation outlook is expected to be resilient under various scenarios of foreign exchange inflows and domestic liquidity growth. A firm peso is expected to moderate the impact of higher world oil and global food prices on domestic inflation and the improvement in investments would help improve the capacity of the economy to absorb additional demand-side pressures and mitigate any potential overheating in the economy.
Monetary authorities will continue to be The Monetary Board will continue to monitor global watchful of any emerging risk to future economic growth and the developments in the inflation global financial markets and remain watchful of any emerging risk to future inflation in its assessment of the monetary policy stance.
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VII. CONCLUDING REMARKS
The inflation forecast is lower in this quarter compared to the previous period. Risks to this inflation outlook have significantly moderated. The monetary measures in May have also helped mitigate the impact of the continuing surge in foreign exchange inflows on domestic liquidity growth. Moreover, a relatively firm peso provides a buffer against the potential price pressures from higher prices of oil and food products in the international market.
In view of the favorable inflation readings and the moderation of risks, the Monetary Board decided on 4 October 2007 to reduce by 25 basis points the BSP’s key policy interest rates to 5.75 percent for the overnight borrowing or reverse repurchase (RRP) rate and 7.75 percent for the overnight lending or repurchase (RP) rate.
The problems from the US subprime mortgage sector have yet to be resolved. The effects of the financial correction went beyond the US housing sector and disrupted global financial markets as investors were forced to re-evaluate risks.
Although its effects were felt in the domestic equity and foreign exchange markets at the onset of the correction in August, the net impact of the US subprime mortgage market meltdown on the Philippine economy was minimal, given the strong macroeconomic fundamentals, and relatively small exposure of domestic banks to subprime mortgage- backed securities.
Central banks around the world have implemented coordinated efforts to avert a global financial crisis. For its part, the BSP will remain attentive to the increased risks that could arise from a potential global economic slowdown and the possible lingering effects of the global financial correction in the domestic financial markets.
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Chronology of Monetary Policy Decisions
2000 of the Monetary Board under the inflation- targeting framework. 24 January 2000 14 February 2002 The Monetary Board–the policymaking body of the BSP–adopted in principle the shift to The Monetary Board opted to lower the BSP’s inflation targeting as the BSP's framework for policy rates further by 25 basis points each, conducting monetary policy. bringing the overnight RRP rate to 7.25 percent and the overnight RP rate to 9.5 percent effective 15 February 2002. 2001 The Monetary Board also approved an 26 December 2001 adjustment in tiering scheme for banks’ overnight RRP placements with the BSP as The BSP announced formally the adoption of follows: 7.25 percent for placements of up to inflation targeting as framework for monetary P5 billion, 4.25 percent for the next P5 billion policy beginning January 2002. The BSP also and 1.25 percent for placements in excess of announced the Government’s annual average P10 billion. The tiering scheme also covered inflation targets of 5.0-6.0 percent for 2002 special deposit accounts (SDAs) and would and 4.5-5.5 percent for 2003. be applied on a consolidated basis.
14 March 2002 2002 The Monetary Board decided to reduce BSP’s 17 January 2002 key policy rates by another 25 basis points. The overnight RRP rate was lowered to 7.0 The Monetary Board decided to reduce the percent while the overnight RP rate was overnight RRP and RP rates by 25 basis reduced to 9.25 percent effective 15 March points each to 7.5 percent and 9.75 percent, 2002. res pectively. Correspondingly, the interest rates on Consequently, the Monetary Board also overnight RRP and SDA placements with the adopted a change in the tiering structure for BSP under the tiering scheme were adjusted banks’ overnight RRP placements with the as follows: 7.0 percent for placements of up to BSP as follows: 7.5 percent for the first P5 P5 billion, 4.0 percent for the next P5 billion billion, 4.5 percent for the next P5 billion and and 1.0 percent for placements in excess of 1.5 percent for placements in excess of P10 P10 billion. billion. 11 April, 8 May, 6 June, 4 July, 1 August, The Monetary Board also approved a two- 29 August, 26 September, 23 October, 21 percentage-point reduction to 7.0 percent of November, 19 December 2002 the liquidity reserve requirements on deposits and deposit substitute liabilities, common trust During the monetary policy meetings held for funds and other trust and fiduciary liabilities of the period April-December 2002, the Monetary commercial banks and non-banks with quasi- Board decided to keep the overnight RRP and banking functions. RP rates steady at 7.0 percent and 9.25 percent, respectively. These monetary policy measures took effect on 18 January 2002. Moreover, it could be noted that this decision marks the first action
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2003 effective 5 June 2003. In particular, overnight RRP placements would be subject to the 16 January 2003 following interest rates: 7.0 percent for the first P5 billion, 4.0 percent for additional amounts The Monetary Board voted to keep the BSP’s in excess of P5 billion but below P10 billion policy rates unchanged at 7.0 percent for the and 1.0 percent for amounts in excess of P10 overnight RRP rate and 9.25 percent for the billion. overnight RP rate. 2 July 2003 7 February 2003 The Monetary Board voted to reduce the The BSP announced the Government’s official BSP’s key policy interest rates by 25 basis target for the average annual inflation for 2004 points each to 6.75 percent for the overnight at 4-5 percent. RRP rate and 9.0 percent for the overnight RP rate effective 2 July 2003. 12 February, 13 March 2003 The interest rates on banks’ placements under The Monetary Board kept the BSP’s policy the tiered system were also adjusted as rates unchanged at 7.0 percent for the follows: 6.75 percent for the first P5 billion, overnight RRP rate and 9.25 percent for the 3.75 percent for amounts in excess of P5 overnight RP rate. billion up to P10 billion and 0.75 percent in excess of P10 billion. 19 March 2003 (Special Monetary Board Meeting) 31 July 2003
The Monetary Board decided to lift the three- The Monetary Board left the overnight RRP tiered scheme on banks’ placements with the and RP rates unchanged at 6.75 percent and BSP. Thus, overnight placements under the 9.0 percent, respectively. RRP window would be accepted at a flat rate of 7.0 percent effective 20 March 2003. 28 August 2003
The Monetary Board also raised the liquidity The Monetary Board opted to keep the BSP’s reserve requirement against peso demand, policy rates unchanged at 6.75 percent for the savings, time deposit and deposit liabilities of overnight RRP rate and 9.0 percent for the universal banks and commercial banks by overnight RP rate. one-percentage point to 8.0 percent effective 21 March 2003. The Monetary Board also decided to lift the tiering scheme for banks’ placements with the 10 April, 8 May 2003 BSP. Thus, effective 28 August 2003, overnight RRP transactions with the BSP The Monetary Board maintained the overnight were accepted at a flat rate of 6.75 percent. RRP and RP rates steady at 7.0 percent and 9.25 percent, respectively. 2 October, 23 October, 20 November, 18 December 2003 5 June 2003 The Monetary Board voted unanimously to The Monetary Board decided to leave the leave the BSP’s policy rates unchanged at overnight RRP and RP rates unchanged at 6.75 percent for the overnight RRP rate and 7.0 percent and 9.25 percent, respectively. 9.0 percent for the overnight RP rate.
The Monetary Board also decided to restore the tiering scheme on banks’ placements with the BSP under the RRP and SDA windows
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2004 7 July 2005 15 January 2004 (Special Monetary Board meeting)
The Monetary Board decided to keep The Monetary Board raised the regular and monetary policy settings unchanged. The liquidity reserve requirement ratios by 100 overnight RRP and RP rate were maintained basis points each to 10 percent and 11 at 6.75 percent and 9.0 percent, respectively. percent, respectively, effective 15 July 2005.
5 February 2004 28 July, 25 August 2005 (Special Monetary Board Meeting) The Monetary Board left key policy rates The Monetary Board decided to increase the unchanged at 7.0 percent and 9.25 percent for liquidity reserve requirement for universal the overnight RRP rate and overnight RP rate, banks and commercial banks by two respectively. percentage points to 10 percent effective 6 February 2004. 22 September 2005
12 February, 11 March, 15 April, 6 May, 3 The Monetary Board decided to raise the June, 1 July, 29 July, 26 August, 23 overnight RRP rate and RP rate by 25 basis September, 21 October, 18 November, 16 points to 7.25 percent and 9.5 percent, December 2004 res pectively.
The Monetary Board opted to maintain the key 20 October 2005 rates steady at 6.75 percent and 9.0 percent for the overnight RRP rate and overnight RP The Monetary Board raised the key policy rate, respectively. rates by 25 basis points to 7.5 percent and 9.75 percent for the overnight RRP and RP rates, respectively. 2005
13 January, 10 February, 10 March 2005 17 November, 15 December 2005
The Monetary Board decided to maintain the The key policy rates were left unchanged at BSP’s key overnight RRP and RP rates 7.5 percent and 9.75 percent for the overnight unchanged at 6.75 percent and 9.0 percent, RRP and RP rates, respectively. res pectively.
7 April 2005 2006
The Monetary Board voted unanimously to 12 January, 9 February, 9 March, 6 April, raise the overnight RRP and RP rates by 25 4 May, 1 June, 29 June, 10 August, 21 basis points each to 7.0 percent and 9.25 September 2006 percent, respectively. The Monetary Board decided to maintain the 5 May, 2 June, 30 June 2005 policy rates at 7.5 percent and 9.75 percent for the overnight RRP and RP rates, The Monetary Board decided to keep the res pectively. BSP’s policy interest rates at 7.0 percent for the overnight RRP rate and 9.25 percent for the overnight RP rate.
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2 November c) Allow SDA placements of banks to be deemed as alternative compliance with the The Monetary Board decided to keep policy liquidity floor requirements for government rates unchanged at 7.5 percent and 9.75 deposits. percent for the overnight RRP and RP rates, res pectively. These measures will take effect on 10 May 2007. At the same time, the Monetary Board adopted a tiering system on banks’ aggregate 28 May placements with the BSP under the RRP and SDA windows effective 2 November 2006. In The key policy rates were left unchanged at particular, placements under the said windows 7.5 percent and 9.75 percent for the overnight would be subject to the following interest RRP and RP rates, respectively. The tiering rates: the applicable BSP published rate for system for bank placements under the RRP the first P5 billion, the applicable BSP and SDA windows was also maintained. published rate less 200 basis points for the next P5 billion; and the applicable BSP published rate less 400 basis points for 12 July amounts in excess of P10 billion. The tiering system for bank placements under 14 December the RRP and SDA windows was lifted and the key policy rates were reduced to 6.0 percent The key policy rates were left unchanged at and 8.0 percent for the overnight RRP and RP 7.5 percent and 9.75 percent for the overnight rates, respectively. RRP and RP rates, respectively. The tiering system for bank placements under the RRP and SDA windows was also maintained. 23 August
The key policy rates were left unchanged at 2007 6.0 percent and 8.0 percent for the overnight RRP and RP rates, respectively. 25 January, 8 March
The key policy rates were left unchanged at 7.5 percent and 9.75 percent for the overnight RRP and RP rates, respectively. The tiering system for bank placements under the RRP and SDA windows was also maintained.
16 April
The key policy rates were left unchanged at 7.5 percent and 9.75 percent for the overnight RRP and RP rates, respectively. The tiering system for bank placements under the RRP and SDA windows was also maintained.
The Monetary Board also approved new monetary measures as follows: a) Encourage GSIS, SSS, and other GOCCS to deposit funds with the BSP; b) Allow trust departments of banks to deposit with the BSP; and
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