No taxation is legal without parliamentary consent. But if the government has other sources of income it can free itself from this control. If war becomes unavoidable, a genuinely democratic government is forced to tell the country the truth. It must say: “We are compelled to fight for our independence. You citizens must carry the burden. You must pay higher taxes and therefore restrict your consumption.” But if the ruling party does not want to imperil its popularity by heavy taxation, it takes recourse to inflation.—Ludwig von Mises
In this issue:
Phisix 7,500: Surprise! Philippine Authorities Signals the Public to Brace for Lower G-R-O-W-T-H!!!
-The Government to the Public: LOWER G-R-O-W-T-H is the Future!
-The BSP’s Foreign Direct Investment Dream
-Slowing Growth Means MORE Taxes, BIGGER DEBT and GREATER Fiscal Imbalance
-The Unseen: How Oligarchs Profit by Shaping the Political Economic Environment
-How Will LOWER G-R-O-W-T-H Impact HOPE based Stock Market
-How Will LOWER G-R-O-W-T-H Impact HOPE based Economy
-Consumer NPLs Soar in 2014!
-Market Prices Hardly Supports 5.2% 1Q GDP Data
Phisix 7,500: Surprise! Philippine Authorities Signals the Public to Brace for Lower G-R-O-W-T-H!!!
The Government to the Public: LOWER G-R-O-W-T-H is the Future!
The government, through their media messenger, looks likely to be engaged in the “conditioning” the public’s mindset to expect ‘lower’ G-R-O-W-T-H.
According to a government representative, the expressed reason for the coming ‘lower’ G-R-O-W-T-H has been due to government “underspending” as consequence of “institutional weakness” and “bureaucratic bottleneck” from “unreasonably strict” auditing by the government’s own auditing agency, the Commission on Audit (COA)[1]
The general idea floated has been that the administration should NOT be responsible for ‘lower’ statistical G-R-O-W-T-H. Instead, the “hot potato” culpability of ‘lower’ statistical G-R-O-W-T-H should be passed on to the realm of politicking, in particular the regulatory roadblocks to political activities as a result of the popular clamor against pork barrel.
In essence, the administration seems to be setting up its own agency, the COA, as the “fall guy”, as well as, popular politics for the telegraphed slowdown.
So when G-R-O-W-T-H exceeds expectations then these signify as ramifications of the administration’s policies. However, when G-R-O-W-T-H falls below expectations, then the administration has nothing to do with it. Talk about self attribution bias in action.
But here’s the rub: Take away the diversionary spin from the political finger pointing has been the admission—which most of all highlights, the government’s agitprop to the public—that the populist high expectation based statistical G-R-O-W-T-H will frustrate!!!
And it’s not just from the administration’s executive department.
In last June 3rd speech, at the General Membership Luncheon Meeting of the American Chamber of Commerce of the Philippines, the Bangko Sentral ng Pilipinas (BSP) chief, Amando Tetangco, Jr. has only reiterated his predilection for deflation risks which he NOW hedges with risks of inflation[2]:
But a prolonged period of cheap oil combined with an already low global inflation environment begets expectations of increased deflationary risk. Such a scenario could render global economic recovery difficult. On the other hand, there is also the risk that oil prices could reverse in the same speed at which they fell. If the reversal is rapid, that could dislodge inflationary expectations”…
Mr. Tetangco’s logic has been mangled by glaring inconsistencies. Early in the speech he observed that falling oil prices has juiced up G-R-O-W-T-H or “a boost to Asia’s overall growth (including that of the Philippines’)”, but backpedaled to say that a sustained oil induced price decline in an environment of “low global inflation” may incite deflation. Nowhere lies in his speech “the law of demand” or “as prices of product decreases, quantity demanded increases”.
As a side note, has sliding oil prices really boosted “overall growth” as so claimed? Then why the statistical 5.2% 1Q GDP 2015 only??? Does the change from 4Q 6.9% or 2014’s 6% to 5.2% translate to G-R-O-W-T-H?
Falling prices will not stop people from consuming oil. Oil’s byproducts signify a basic need. Therefore, lower oil prices, which have been a symptom of an underlying cause, will not on itself trigger deflation.
On the other hand, balance sheet impairments from overleverage will. Curiously, the BSP has been resoundingly silent about credit risks from excessive leverage here and abroad. For the Philippines, credit risks have been assumed away by citing capital ratio statistics and endorsements by credit agencies.
Yet why the fudge? To avoid arousing curiosity that may lead to a chain of reactions that stains the Potemkin imagery?
Aside from deflation, importantly Mr. Tetangco raised two other risks the Philippines G-R-O-W-T-H, namely, “weaker growth prospects in Asia” from the Federal Reserve’s actions that “could trigger higher market volatility, raising the risk of disorderly adjustments” and a China slowdown could have “a knock-on impact on Asia (including the Philippines) through trade, investment and financial linkages with the region”.
In essence, the risks seen by the BSP represents an arbitrage for safety or an escape clause that has been engineered to exonerate the institution when risks transforms into reality.
The BSP seems as already engaged in whitewashing themselves from a prospective economic downturn.
The BSP’s communication has been designed to evade the shortcomings of institutional blindness. The BSP instead sets up the return of volatility and its ramification to blame “market failure”.
But again the BSP chief hardly wants to be the bearer of bad news, so he straddles the fence by providing fuel to the hopes of the high expectations gullible crowd with an appeal to emotion: “it’s too early to abandon our 7–8 percent growth target”.
Why? Because of a pat on the back, “sufficient liquidity, and as domestic credit remains healthy, there are developments that should boost economic performance going forward”. The BSP chief didn’t bring up the issues why bank lending growth has been slowing, why the yield curve has been flattening, why money supply growth has collapsed, and why CPI and various prices in the economic realm has been sharply cascading.
He further speculated that “forthcoming election should boost growth”. Interestingly the BSP chief sees one shot spending as G-R-O-W-T-H.
This demonstrates the obsession to statistical growth metrics relative to putting food on the table.
The BSP opines of more government spending “to mitigate El Niño can push agriculture” as well as, to “ramp up investments in infrastructure”.
Apparently he dismisses or has been unaware about the ongoing wrangling within the government on the institutional hindrances on political spending predicated from populist politics.
The BSP’s Foreign Direct Investment Dream
Again the BSP chief further boasted of the supposed potential ramifications from the BSP’s actions “FDI inflow associated with liberalized entry of foreign banks and their corporate investors should boost manufacturing, construction”.
While liberalization of entry of foreign banks should be welcomed, this has hardly been combined with meaningful liberalization of capital flows and the easing of business conditions from manifold political roadblocks. The asymmetric liberalization of finance focuses on the form (bank entry) rather than the substance (fund flows). This can even work as a roach motel—one can check in, but they can’t check out.
The proof of the pudding is when economic turmoil surfaces, we’ll see if the BSP will reverse all the liberalization via the imposition of more capital controls or if they will pursue liberalization. Liberalization can be time inconsistent--or depend on the conditions at a given moment.
The BSP chief dreams about bank liberalization based FDI. He doesn’t mention of the other major structural disadvantage the Philippine political economy has relative to her neighbors.
In ASEAN, the Philippines have the HIGHEST corporate income taxes and HIGHEST VAT rates (charts from IMF).
Since taxes on income are indirect taxes on investments and savings that create incomes, then the Philippines penalizes capital and savings the most among major ASEAN nations.
How about VAT as consumption tax? Since consumption is funded by income and by savings, and where income growth is an offspring of capital investments, therefore consumption taxes have also been an implicit tax on wealth.
So based solely on the present tax regime, it could construed that the Philippine has the most anti-business climate.
And of course there are other cost and economic factors—like regulations, bureaucracy, infrastructure, electricity costs, access to labor, labor costs, access to markets, size of markets, and etc…--that influences that investments.
But on the tax perspective alone, for project managers, the relative high tax rates translates to high hurdle rates or the minimum rate of return on a project or investment required (Investopedia)
Is it any wonder why Philippines continue to remain at the tail end of FDIs even during the era of carry trade arbitrages from low interest rates?
Yet how will liberalization of banks help if capital flows remain constrained and if the business environment remains heavily regulated?
Will bank liberalization be enough to offset the shortfalls from a high tax regime?
Does the BSP know?
As a side note, I know the Heritage Foundation has pointed to a jump in economic freedom rankings in the Philippines in 2015. The study’s score of the Philippines supposedly improved to 62.2 from about 56 in 2011.
So in 4 years the Heritage Foundation sees the Philippines as moving higher among the ranks of economic freedom. The Philippines now ranks 76th relative to Thailand 75th, Indonesia 105th and Malaysia 31st.
But again there are differences in the headlines and the internal dynamics. Most of the recent gains have been from the perception in the fight against ‘corruption’ and from bank liberalization. This has been complimented by the reduction in state subsidies—which again should be welcomed. But when it comes to trade and investment freedom and regulatory environment where it matters most, the Philippines continue to lag. Again the thrust to emphasize on the form (symbolism) via the headlines has influenced even the rankings done by the Heritage Foundation.
Slowing Growth Means MORE Taxes, BIGGER DEBT and GREATER Fiscal Imbalance
Moreover, what does the grand reverie to boost statistical G-R-O-W-T-H by public spending entail?
To be sure this won’t come for free. There will be financial costs and opportunity costs.
The financial cost would mean more taxes, more public debt (that will be also paid for by taxes) and inflation, as well as, increased financial stability risks.
This is why a growth slowdown will also extrapolate to bigger deficits and more debt, since top line revenues are sensitive to changes in economic conditions whereas political spending growth has been mandated based on political demands anchored on highly optimistic growth projections generated from the subsidies of financial repression policies, the mismatch will translate to fiscal deficits.
So when the effects of such subsidies fade, expect the low public debt façade to unravel as debts from deficits balloon.
Because the opportunity costs will not be visible, they will be ventilated in wide areas of the economy. Such will mean less investments, less jobs, less innovations, less income growth, less wage growth, higher cost of goods, lesser quality of goods, and less chances of improvements in the standards of living of the average constituency.
As the great journalist Henry Hazlitt once explained[3] (bold mine)
In our modern world there is never the same percentage of income tax levied on everybody. The great burden of income taxes is imposed on a minor percentage of the nation’s income; and these income taxes have to be supplemented by taxes of other kinds. These taxes inevitably affect the actions and incentives of those from whom they are taken. When a corporation loses 100 cents of every dollar it loses, and is permitted to keep only 60 cents of every dollar it gains, and when it cannot offset its years of losses against its years of gains, or cannot do so adequately, its policies are affected. It does not expand its operations, or it expands only those attended with a minimum of risk. People who recognize this situation are deterred from starting new enterprises. Thus old employers do not give more employment, or not as much more as they might have; and others decide not to become employers at all. Improved machinery and better-equipped factories come into existence much more slowly than they otherwise would. The result in the long run is that consumers are prevented from getting better and cheaper products, and that real wages are held downThere is a similar effect when personal incomes are taxed 50, 60, 75, and 90 percent. People begin to ask themselves why they should work six, eight, or ten months of the entire year for the government, and only six, four, or two months for themselves and their families. If they lose the whole dollar when they lose, but can keep only a dime of it when they win, they decide that it is foolish to take risks with their capital. In addition, the capital available for risk taking itself shrinks enormously. It is being taxed away before it can be accumulated. In brief, capital to provide new private jobs is first prevented from coming into existence, and the part that does come into existence is then discouraged from starting new enterprises. The government spenders create the very problem of unemployment that they profess to solve
So instead of meaningful reforms to liberalize the economy, the government and the BSP has opted to blow bubbles since 2009 in order to create impressions of G-R-O-W-T-H.
Yet blowing bubbles means the frontloading of demand based on unsound financing foundations at the expense of the future. Debt which implies present consumption will have to be paid in the future.
And that future is now!
Going back to the BSP chief’s growth outlook.
Also Mr Tetangco points at OFW remittances to support domestic consumption. I guess the BSP chief selectively anchors on the March data without seeing the steep 3 months slowdown prior to March.
It’s odd that the BSP chief doesn’t seem to see any sparkle from the private sector to boost real ‘food on the table’ growth.
Instead he seems to see the supply side—that supposedly should support growth—as being almost entirely dependent on political actions to spur economic activities rather than from organic economic forces.
Yet he doesn’t seem to realize that the suppression of organic economic forces via the politicization of voluntary exchanges by the citizenry and the transfer of resources and risks from the productive segments to non-productive segments will mean LESS statistical and real growth overtime.
With a narrowing breathing room for the credit financed statistical G-R-O-W-T-H, such delusions will be exposed as the chickens come home to roost.
So there you have it, the executive branch and the BSP chief have already began their conditioning campaign to dampen the public’s expectations.
In short, statistical G-R-O-W-T-H will be coming down! In central bank lingo, the forward guidance is a much lower G-R-O-W-T-H.
Interestingly, this government does not even seem to believe on their own 1Q 2015 5.2% G-R-O-W-T-H statistics for them to make such gestures!
Or perhaps they just don’t want to jolt the public!
The Unseen: How Oligarchs Profit by Shaping the Political Economic Environment
And the high tax regime can be seen in a protectionist lens: Trade and investment barriers via high taxes benefits corporate entities owned by domestic oligarchs by preventing competition, especially from foreigners.
That’s because oligarchs have the means to hire an army of accountants and tax lawyers for them to avoid taxes legally. But a high tax regime also punishes the less politically connected firms, thus enabling oligarchs to mount a protective moat against domestic and would be external competitors.
Thus, a high tax regime provides politically connected oligarchs with economic rent.
And a high tax regime is also a major reason for the existence of a large informal economy here.
I will further add that the Philippine government has only liberalized restrictions to very select number of industries. Last April 2014, I quoted a World Bank study which noted since 2000 “only large retailers and casinos have experienced reductions in FORs”[4]. FORs stand for Foreign Ownership restrictions.
I also pointed out in late 2013 the government reduced regulatory permits to promote the construction industry which was highlighted by World Bank and IFC’s Doing Business rankings[5].
While any easing on the business environment again should be applauded, the selective liberalization has been in the areas which benefit no other than the interests of oligarchs again.
Think foreign retailers as lessees for shopping malls and for retail spaces of hotels. Think of foreign executives representing foreign owned corporations as customers for their condo projects and clients for their hotels. Think of construction liberalization as easing obstacles for the projects owned by the oligarchy in context of condos, hotels and shopping malls. While their financial intermediation outfits and banking institutions facilitate the credit funding requirements by foreign investors.
In effect, aside from subsidies from the financial repression (zero bound/negative real rates), selective liberalization has been designed to boost the economic interests of the oligarchs.
And again that’s the reason why profits have been skewed towards a few entities by oligarchs. And a lot of these firms constitute the top 15 listed issues at the PSE which has been the object of the rotational pumps which lately hugged the headlines due to a milestone high that had been unshared by most of the other listed companies.
And because the public has been obsessed or fixated only with the headlines, they hardly see how the oligarchy pulls strings behind the scenes to influence the regulatory environment in order to promote their interests.
And worst, the public (including the experts) can’t seem to comprehend of the MAJOR negative repercussions from such redistributive effects in the form of widening inequality, and most importantly, the massive accumulation of imbalances or malinvestments in the form of a titanic bubble which have been seen as G-R-O-W-T-H!
For instance, media lauds the Philippine president’s trip to Japan as hauling P13.5B in investment pledges. One of the cited biggest investors has been a major Japanese retail company that has ALREADY been operating here. So media likes to portray the President as having brought home the proverbial bacon, when in reality, investment plans by the said have already been in place. The Japanese company just wanted to ingratiate herself with the President by giving him headline credit but in return for quid pro quo or possible invisible political economic privileges.
Yet most of the touted investments have been “pledges”. Whether those pledges will become reality or not will hardly be accounted for and will be buried under media’s mountain of misinformation overtime. Wait until the G-R-O-W-T-H slowdown seeps into the headlines and watch those promises turn into…dreams!
And here is further proof that the INVISIBLE tax and redistribution policies via financial repression have signified an ideology by this government from which policies have been shaped: the Trickle-down economics from state-crony capitalism.
In another speech to promote financial inclusion last May, the BSP chief Amando M. Tetangco, Jr lets the proverbial cat out of the bag[6]: (bold mine)
While the trickle-down approach to spread the benefits of development is good, it is not enough; we want to be more proactive.
Get that? The BSP’s tacit subsidies have been designed as a trickle-down policy approach from state (crony) capitalism. Hasn’t Pope Francis been repeatedly denouncing the trickle down economics? But Pope Francis has been dead wrong to attribute inequality from “unfettered markets”. There are NO existing “unfettered” “laissez faire” markets. Current markets have all been “managed” or regulated markets.
In reality, under laissez faire capitalism, there is NO such thing as a top down approach. Instead free market capitalism represents the reverse flow: a BOTTOM-UP dynamic. Why? Because in free markets, consumers ULTIMATELY determine who will be rewarded and who won’t.
As the great Austrian economist Ludwig von Mises lucidly described[7]: (bold mine)
In the capitalistic society, men become rich — directly as the producer of consumers' goods, or indirectly as the producer of raw materials and semiproduced factors of production — by serving consumers in large numbers. This means that men who become rich in the capitalistic society are serving the people. The capitalistic market economy is a democracy in which every penny constitutes a vote. The wealth of the successful businessman is the result of a consumer plebiscite. Wealth, once acquired, can be preserved only by those who keep on earning it anew by satisfying the wishes of consumers.The capitalistic social order, therefore, is an economic democracy in the strictest sense of the word. In the last analysis, all decisions are dependent on the will of the people as consumers. Thus, whenever there is a conflict between consumers' views and those of the business managers, market pressures assure that the views of the consumers win out eventually.
BUT under state capitalism, THE politicians determine which producers get the privileges from economic rent and those who won’t, thus the trickle-down economics! This is the political economic dogma which the BSP, and this government, espouses.
So underneath all the florid headlines have operated an invisible redistribution of wealth mechanism from state-crony capitalism.
How Will LOWER G-R-O-W-T-H Impact HOPE based Stock Market
So if both the executive branch and the BSP have been signaling of a forthcoming slowdown in the trajectory for economic G-R-O-W-T-H, then what will be the implications?
In terms of the stock market, lower statistical G-R-O-W-T-H will diffuse into reported accounting EARNINGs.
Given the nosebleed overvaluations of headline issues, which represent the constituents of the major benchmark that HARDLY offers margin of safety at all, should earnings decline faster than prices then the earnings multiple will explode to the upside!
We seem to be partially witnessing this.
As of June 4th, 16 of the 30 index issues or 53% of benchmark issues manifested improvements in PERs as against 14 or 47% which manifested deterioration relative to the May 28 data.
But again there is more than meets the eye.
Since April 10’s record of 8,127.48, much of the headline issues posted price losses of 5% and above. Thus falling prices should, for the meantime, ease on those lofty PER levels.
But due to the recently adjusted reported earnings—perhaps to include the yearend 2014 eps performance—the PERs of firms belonging to the PSEi have radically been transformed.
So if we combine falling prices with an earnings upgrade then PERs should be lowered significantly. If we combine falling prices with flat earnings then PERs will fall modestly. However if we combine falling prices with an earnings slump then PERs will SOAR!
As I noted above there are 14 issues or 47% of firms from PSEi index where PERs have climbed. These issues should account for falling prices with deterioration in 2014 earnings. Shockingly, FGEN and ICT reveals of PERs (as of June 4) at 534 and 1,381.25 respectively! Yet week on week prices for FGEN only skidded .93% while ICT even soared 3.27%!
And of the 16 issues or 53% that have improved, 6 issues or 20% of index issues have PERs reduced by 10 or less. They are likely representative of the second category: falling prices with flat earnings hence the modest enhancements in PERs.
This leaves only 10 issues whose PERs has dramatically been reduced as revealed by 10% or more in improvements. So many from the 10 issues with formerly 40, 50, 60 PERs have supposedly come down to reflect on immense degree of 2014 earnings growth. For instance, PERs of Globe Telecoms massively improved from 68.46 to only 26.86! JGS with last week PER of 46.28 dropped to just 26.08! Also, Bloombery Resorts reversed from losses or from Negative PER of 78.23 to Positive 24.68.
So we fall back to the same story where 10 or 33% of firms from the PSEi index basket as driving the headlines. This is against 20 or 66% of the benchmark underperforming firms that have been seen as less important issues as to merit the headlines. So from a survivorship bias perspective, many expect record highs even if a majority has been UNDERPERFORMING!
Remember, the above earnings are supposed to reflect on last year’s performance. So if the government’s trajectory of lower G-R-O-W-T-H will come to fruition, then the present 25, 35, 45 PERs will again jump higher, if prices don’t adjust faster than earnings.
Again prices will likely remain “sticky” as the betting public remains captivated by the HOPE that has pillared their uncritical beliefs, as well as, the zest on the speculative spirits. And much of that HOPE depends on the headlines. So index managers have fervently worked for record HIGHs to provide HOPE by masking the real score—the deterioration of price dynamics in the silent majority of PSE listed firms.
However once the headlines will reflect on the downside adjustments then HOPE will dissipate. The process will segue from incrementalism to a panic.
This brings to the Price Earnings Trap which will eventually rear its ugly head and force prices to violently adjust to reflect on the new reality of earnings downgrade.
It will probably take successive if not deep downside earnings announcements to eventually crush the public’s HOPEs. Yet a significant downturn in the economy will raise such a risk.
Yet we have reached a state where headline bullmarket has enthralled many as to fortify their convictions into religion like devoutness. These people will not only disregard information but will censor, mock, ostracize or even harshly reprimand or chastise any opinions that questions the faith. Again significant downturn in the economy will thus crush the zealot like devotion to the supposed invincibility of the Philippine economy-financial assets which has been products of headline manipulation.
And once confidence turns 180 degrees, record overvalued prices will precipitately compress, or pump will become dump!!!
And that’s just the stock market.
How Will LOWER G-R-O-W-T-H Impact HOPE based Economy
And how about the real economy?
In terms of the malinvestments in the economy, lower statistical G-R-O-W-T-H will greatly impact the recent frantic race to build supply side bubble projects like real estate, shopping malls, hotels—which has been mostly funded by the debt.
Even if I grant for this discussion that 1Q 2015 5.2% GDP data is acceptable, the credit intensity or the ratio of debt acquisition relative to estimated output exhibits of the susceptibility of both supply and financial side to credit risk: a slowdown in output will magnify the burdens of servicing debt!
Based on current prices, the published 1Q 2015 5.2% GDP remains heavily dependent on debt. For every percentage of GDP G-R-O-W-T-H for 1Q, for instance, depends on 2.81% of credit growth.
And it’s more than just the headlines. The bubble industries command a far large share of resources articulated via output and debt.
Outside manufacturing, the share of bubble industries to statistical 1Q GDP accounts for 38.91%; specifically construction (5.34%), real estate (10.98%), trade (15.19%) and finance (7.41%). Meanwhile BSP’s account of the banking loan share for the same industries outside manufacturing total 49%; 2.84%, 19.92%, 16% and 19.72% respectively.
So about HALF of BSP loans have been allocated to sectors that account for two-fifths of the statistical economy.
The point is that resource usage and debt acquisition has exhibited intense CONCENTRATION risks. Far too much debt financed malinvestments (as revealed by race to build supply) that will account for the coming credit strains.
Not even so-called profitable firms will be exempt when credit pressures appear.
To learn from recent example, in China a ‘profitable’ duck company has reportedly defaulted on its loans last week. Perhaps the company’s working capital has been heavily tied up with short term money market credit where a liquidity crunch exposed its vulnerability.
From the Financial Times[8]: A profitable Chinese duck processing company has defaulted on its debts after banks refused to roll over its loans — in a sign of lenders’ wariness over refinancings as China’s economy slows. Until recently, Chinese banks have been reluctant to write off big debts, preferring to keep businesses alive by rolling over their loans. But privately owned Zhongao has cited banks’ tighter lending policies as a reason why it lacked the funds to repay Rmb282m ($45m) in principal and interest despite turning a profit last year. It has now defaulted on debt from 13 banks, and warned it may not be able to repay Rmb200m in bonds maturing on June 12.
So profitable firms may not be entirely immune from a liquidity crunch.
And going back to the local arena, the implication is that for as long as credit growth outpaces output or income growth, then eventually credit will become, or may have become, a baggage to real growth as more resources will be funneled into debt servicing
Hence a G-R-O-W-T-H downturn will have a feedback mechanism to the real economy. Highly levered firms will suffer from rising financial costs that will squeeze profits. And profit compression will force firms to be on the defensive by cutting back on expansions, trimming organizational excesses and focus on raising cash for debt payments.
However a pronounced slowdown will accelerate the squeeze which likely would mean asset liquidations (balance sheet contraction) to meet debt obligations.
And if the system has been overleveraged, then frantic race to build bubble projects will see the opposite dynamic, a frenetic race to monetize assets to raise liquidity!
So in both stocks and the real economy the outcome will be the same: erstwhile PUMP will mutate into DUMP!
Yet how much more if 5.2% 1Q GDP has been OVERSTATED?
Consumer NPLs Soar in 2014!
And we seem to have already reached the stage where credit strains have emerged.
This week’s BSP data on 2014 consumer loan growth gives us a clue.
While the BSP continues to heap praise on the banking system by citing capital buffer ratio and NPL statistics for Universal-Commercial and thrift banks, they don’t seem to realize that the numbers they showcase already present itself signs of trouble.
True, banking lending to consumers continue to roar. At the end of 2014 on an annualized basis consumer loans expanded 25.09%! On a quarterly basis the rate of growth was at 6.23%.[9]
But here is what the BSP didn’t tell you. From their own data, Non-Performing loans (NPLs) jumped 12.74% annualized and 3.42% on a quarterly basis. Meanwhile the loan loss reserves have even shrunk by 3.23% and 2.61% respectively.
The reason NPLs have hardly become statistically significant has been because current consumer total loan portfolio (TLP) growth (25.09% year on year) continues to eclipse the rate of NPL growth (12.74% y-o-y). In terms of BSP’s calculation of NPLs: Gross NPL Ratio (Gross NPL to Gross TLP) and Net NPL Ratio (Net NPL to Gross TLP).
Yet those headline aggregate numbers don’t tell of the whole picture.
Total portfolio loan growth has been derived from newly acquired loans during the stated period. However, NPLs have emanated from loans acquired from the past that have gone sour during the abovestated reporting period. The BSP defines non-performing loans in different loan categories based on different periods[10]
So what you have is a ratio that compares the results of aging loans with present (freshly acquired) loans. Thus, the current NPL ratios exhibits credit health in the context of quantitative rather than qualitative conditions. This shows again why politics have been about emphasizing on the form rather than of the substance.
For consumer NPL at 12.74% to rise faster than the statistical output, or household final consumption expenditure (8.2% current) already represents an alarm bell.
The point is that for as long as new loans outpace growth in NPLs then the statistical metric of loan coverage on NPLs will remain depressed even if NPLs have been growing.
And because NPLs have represented ageing loan portfolio performance, any slowdown in new loan growth will magnify NPLs. In addition, because of the furious pace of new loans growth rate, today’s big growth in loans will become tomorrow’s NPLs.
And that’s just from the statistical angle.
From an economic angle, for NPLs to grow in the face of lower growth then this should begin to hurt bank balance sheets which eventually should filter on the headlines.
The great thing is that consumer loans remains a speck to overall loans in the banking system.
However, given the perspective that based World Bank’s findex (financial inclusion index) that bank borrowers constitute only 12% of the population, then this means that the frenetic pace of consumer bank borrowing growth has been concentrated to a few segment of the population.
Again the growing CONCENTRATION also means greater risks on the portfolio of those with access to the formal banking sector. Again this will not be seen in BSP’s statistics because they are aggregated, when loan portfolio risks are individualized and when the dispersion of the loan portfolio has been skewed to the select few.
Yet the BSP ignores all other risks such as off balance sheet loans, or shadow banks or unreported foreign loans.
Those assumed bank reserve buffers are only good enough when there is no turmoil.
The proof of the pudding will always be in the eating. We will know how sturdy or resilient the banking system is, only when they are faced with pressures.
Statistics only works to manage expectations through headlines but they don’t and won’t solve malinvestment as expressed by bank balance sheet imbalances or insolvencies
Statistics in the framework of political economic –financial conditions can be perntinently conveyed by this quote attributed to former US President Abraham Lincoln:
You can fool some of the people all of the time, and all of the people some of the time, but you can't fool ALL of the people ALL of the time
Market Prices Hardly Supports 5.2% 1Q GDP Data
The establishment interprets the economy in the lens of statistical framework where prices have been a sideshow.
Yet pricing system represents a decentralized conveyance of information that coordinates the market process that balances demand and supply.
The Philippines has been reported by the government agency to have grown 5.2% in 1Q 2015.
Nonetheless various prices in the financial markets and the prices in the economy contradict such numbers.
Stock Market Prices.
In the stock market, a narrowing number of issues have been reporting earnings growth outperformance. Meanwhile the spreading of the bears at the broader markets highlights on the growing disappointment in earnings conditions. Despite the recent record highs which have mostly been a product of index manipulation intended for headline management, the growing breadth of bear markets hardly has been supportive of 5.2% 1Q GDP growth.
Treasury Prices.
In the treasury markets, the flattening yield dynamic has been gaining momentum. Recently, the narrowing spreads has even accelerated into yield curve inversions. The flattening yield curve and the recent inversions reveals of intensifying market based credit tightening and could be symptoms of the short term funding pressures from stress in some of the bank’s balance sheet/s.
The successive decline in broad based banking loans may have likely also been symptoms of market based liquidity entropy. Thus, for the past two weeks, the treasury markets have seen increased volatility from what appears as interventions to forcibly steepen the yield curve by mostly a pump on short term securities.
Oddly, recent central bank communications seems increasingly cluttered, or has accounted for as misinterpretations by media, or signifies as desperate attempts to alleviate concerns from pressures building at the core by managing external communications where the result has been conflicting signals.
The BSP lately tinkered with the idea of using a liquidity easing (bailout) tool copied from the US Federal Reserve called Term Auction Facility (TAF). The BSP chief likewise followed up with his deflation risk spiel which he raised last February in this week’s speech. The bottom line is that the BSP chief seems concerned about the deflationary impact from an economic slowdown thus signaling an implied intent to ease despite the repeated public statements to maintain current stance.
But international media attempted to portray the BSP as having caused recent spikes in coupon yields from the soaking of excess cash. Given the market based erosion of liquidity, the BSP will not tighten. So for me, the confused signals from the BSP could be signs of trouble that is being concealed.
Besides last week’s crash in global bond markets are likely to spillover to the region or to the local markets.
Nonetheless, shrinking market liquidity as seen by a downfall in the growth of money supply and falling credit growth doesn’t support a 1Q 2015 5.2% GDP growth.
Philippine Peso
Following the taper tantrum where the BSP have used 6.9% of forex reserves to support the peso from episodes of thrashing, the peso may be headed back to the January 2014 highs at 45.41 to a US Dollar. This comes even as the post market stress has only recovered by 1.8% of the consumed foreign reserves.
June 5 Friday evening, when the US government announced job growth of 280k in May, the USD-Php zoomed to 45.3 before retracing much of the US dollar’s gains.
Should the pressures from the global bond vigilantes remain; the peso can be expected to breach the January 2014 highs.
The pesos’ weakness will likely be accompanied by a crescendo in foreign outflows that may impact financial assets which likewise will trigger a feedback loop between the peso and financial assets, predicated on activities by foreign money.
Also the pesos’ weakness will likely impact the real economy through higher import prices and higher debt servicing costs on foreign debts by both government and by several big companies with substantial exposure on foreign debts.
A sustained weakness in the Peso will escalate and be transmitted to an extension of the slowdown in 1Q GDP.
General Prices
Based on consumer prices there have been LITTLE signs of sprightly consumer spending activities in 4Q 2014, in 1Q 2015 or in the 2Q GDP.
Unless the Philippines has absorbed a barrage of consumer good products from a surge in domestic manufacturing output, or consumer good imports, plunging CPI likewise seem to suggest of a deepening slowdown in consumer demand.
So I don’t know where the NSCB plucked their growth statistical numbers. My guess is that they pulled so many rabbits from the magician’s hat to generate 1Q numbers.
Yet the BSP cites May CPI as “the lowest in 20 years” at 1.6% year on year. This 1.6% CPI growth has been at the lower border of the BSP’s range of forecast.
Since the BSP makes those numbers they can dovetail these numbers to fit their projections.
On a month on month basis, CPI descended by NEGATIVE .1% or a CPI deflation. This month’s deflation accounts for the second contraction in 3 months and fourth shrinkage in eight months.
The above data exhibits why the BSP chief raised anew deflation risks in his latest speech.
The supply side segment of consumer activities or the PSA’s Retail Price index seems to somewhat resonate with the government’s CPI index.
Again there seems hardly any price pressure even when bank loans to the entire supply side industry and to consumers continue to swell but at a much abridged pace from last year.
I have earlier pointed to contracting wholesale prices which persist to plumb to the deflationary area as of March.
These numbers have hardly been supportive of the NSCB’s growth data in 4Q 2014 and in 1Q 2015. The initial numbers don’t point to a recovery in 2Q 2015 either.
The trend of manufacturing input prices (PSA producer’s price survey) still remains in deep red territory. Why? Lack of demand or excess surplus supply or both?
Again manufacturing input prices hasn’t been consistent with the sector’s credit activities and statistical GDP output.
Where has all the money being borrowed from the banks flowed into?
And none of the price data (CPI, retail, and PPI) has been supportive of 4Q 2014 and 1Q 2015 GDP numbers.
Nonetheless, if the price measures represent a thermometer of economic activities, then the past growth numbers have been far from reality and the present conditions looks even worse than the 1Q.
And seeming worsening conditions have been giving the government less statistical rabbits to play around with, so they have embarked on a signaling channel to reduce the public’s high growth expectations.
[1] Inquirer.net Growth seen to continue slowing down June 4, 2015
[2] Amando M Tetangco, Jr Progress and challenges in the Philippine financial system bis.org June 3, 2015 bis.org
[3] Henry Hazlitt CHAPTER 5 Taxes Discourage Production Part Two: The Lesson Applied Economics in One Lesson p 23-24 Mises.org
[5] See Philippine Economy: The Unseen Factors behind the “Doing Business” improvements October 30 2013
[6] Amando M. Tetangco, Jr Acting Together for Financial Inclusion; Speech on the Luzon Regional Consultation on the National Strategy for Financial Inclusion May 20, 2015 BSP.gov.ph
[7] Ludwig von Mises Part 3. PRODUCTION FOR CONSUMPTION Section 2. THE NATURE AND ROLE OF THE MARKET Chapter 3 THE CAUSES OF THE ECONOMIC CRISIS: AN ADDRESS (1931) p.158 Mises.org
[8] Financial Times China duck producer defaults after banks toughen credit stance June 1, 2015
[9] Bangko Sentral ng Pilipinas Banks' Consumer Credit Continues to Grow June 4, 2015
[10] Non-performing loans (NPLs) As defined by the BSP, NPLs refer to past due loan accounts where the principal and/or interest is unpaid for thirty (30) days or more after due date (applicable to loans payable in lump sum and loans payable in quarterly, semi-annual or annual installments), including the outstanding balance of loans payable in monthly installments when three (3) or more installments are in arrears, the outstanding balance of loans payable daily, weekly or semi-monthly installments when the total amount of arrearages reaches ten percent (10percent) of the total loan receivable balance, restructured loans which do not meet the requirements to be treated as performing loans under existing rules and regulations, and all items in litigation. Effective September 2002, NPLs exclude loans classified as Loss in the latest BSP examination which are fully covered by allowance for probable losses and applicable to a bank with no unbooked valuation reserves and other capital adjustments required by the BSP (Circular No. 351)-- Bangko Sentral ng Pilipinas GLOSSARY OF TERMS; Bangko Sentral ng Pilipinas Circular 772: Amendments to Regulations on Non Performing Loans
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