Despite the rosy projections for economic growth that government economists have been telling investors and businesses, the reality is the Bangko Sentral ng Pilipinas (BSP) may have a bigger influence on the economy’s fate this year and beyond.
There are two things the BSP must do for the economy to surge forward: reduce policy rate settings; and lower the reserve requirement ratio (RRR) of banks.
The reduction of the key policy rate, currently at 6.5 percent, is obviously the most awaited event by stock market investors and businesses, as this will result in the reduction of interest rates offered by banks and financial institutions.
At the start of this year as the country’s inflation rate settled at lower levels compared to 2023, the BSP said a policy rate cut would be possible within the first quarter. However, that did not happen as the inflation rate from February to April increased, or to 3.4 percent in February, 3.7 percent in March, and 3.8 percent in April.
Given that inflation has been on an uptrend in February to April and risks remain for inflation to increase or remain elevated in the next months, BSP Governor Eli Remolona Jr. said that a reduction in policy rates will only be possible starting August.
To recall, the Monetary Board of the BSP in its latest meeting on May 16, 2024 retained the key policy rate at a high 6.5 percent. The Monetary Board’s next meeting is in August.
The latest decision of the Monetary Board means the its target reverse repurchase rate was retained at 6.5 percent, and interest rates on the overnight deposit and lending facilities will also remain at 6 percent and 7 percent, respectively.
“We are actually somewhat less hawkish than before, which means we could ease or cut rates Q3 (third quarter) or Q4 (fourth quarter) this year, so the second half of this year,” Remolona Jr. said in a recent press briefing.
“Yes. Possibly by August this year,” he added.
Being hawkish means the central bank favors a high-interest rate environment.
The BSP said it can initially make a 25-basis point (bps) reduction once Philippine inflation settles at the midrange of the government’s 2- to 4-percent target.
Remolona added that a 50-bps reduction before the year ends is possible, to be delivered in two separate 25-bps cuts.
Despite Philippine inflation increasing in the February-April period, Remolona said the inflation rate for April was better than expected.
“As you know, there was a good number in April, 3.8 percent [inflation]. That was mainly driven by rice inflation. But also, 3.8 percent was better than expected,” he said
Remolona was referring to the high 23.9-percent rice inflation in April, primarily caused by damage to farms by the El Niño. Rice inflation this year was at its highest in March or at 24.4 percent.
REDUCING RESERVE REQUIREMENT
The other move the BSP can make is to reduce further the reserve requirement ratio or RRR of banks, which can result in the release of billions of pesos worth of loans to consumers and businesses.
The RRR refers to the percentage of bank deposits and deposit substitute liabilities that banks cannot extend as loans and must be deposited with the BSP.
"We want to eventually reduce the reserve requirement, but we're trying to figure out the right timing. We will raise it at the Monetary Board meeting at some point soon and that is another thing," Remolona said in early May.
The BSP is considering a reduction of the RRR up to 5 percent from the current 9.5 percent.
The last time the central bank reduced the RRR of universal and commercial banks and non-bank financial institutions with quasi-banking functions was in June last year, slashing it by 250 basis points to 9.5 percent.
Rizal Commercial Banking Corporation chief economist Michael Ricafort said a reduction of the RRR by 1 percentage point on the part of large banks can result in the release of P142 billion infused into the banking system.
This means that a 4.5-percent rate cut in the RRR could potentially add around P639 billion in loans for both consumers and businesses.
"Reserve requirements cuts, if already allowed by well anchored inflation and would not lead to higher inflation at some point in the future, would increase banks’ loanable funds," he said.
Remolona said the current 9.5-percent RRR in the Philippines is still among the highest in Asia, hence the BSP is considering a reduction.
He also said earlier that maintaining a high RRR is a “very old school” measure to control the supply of money, and causes a “distortion in financial intermediation” and “drives a wedge between lending and deposit rates unnecessarily."
However, the BSP governor said that a reduction in the RRR will be preceded by a policy rate cut.
"My sense [is] it won't be on the same meeting but we would like to reduce the reserve requirement by quite a bit because I think it's distorting financial intermediation, but the timing is important," said Remolona.
"We don’t want to do it while we’re still hawkish," he added.
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