Thus the remedy for the boom is not a higher rate of interest but a lower rate of interest! For that may enable the so-called boom to last. The right remedy for the trade cycle is not to be found in abolishing booms and thus keeping us permanently in a semi-slump; but in abolishing slumps and thus keeping us permanently in a quasi-boom.—John Maynard Keynes
In this issue
Why the Panic USD Borrowing When GIRs are at a Record High? OFW Remittance Plunge to Decade Lows, USD Php’s Massive Falling Wedge
I. Cognitive Dissonance: Panic Borrowing on Huge Reserves?
II. Has the BSP been using Bank FX Deposits to Boost GIRs?
III. BSP’s QE: Peso Issuance Outsprinting Foreign Assets Growth!
IV. Divergences Emerge: Derivative Rates Rise on Firming Peso
V. April’s OFW Remittances Plunge to Decade-Lows, Trade Deficit Remain Despite Collapse in External Trade
VI. BSP’s Operations Significantly Builds on USD Shorts, USD Peso Chart Exhibits Massive Falling Wedge
Why the Panic USD Borrowing When GIRs are at a Record High? OFW Remittance Plunge to Decade Lows, USD Php’s Massive Falling Wedge
The BSP says it has massive Reserves, but then why are they panic borrowing USD?
Have bank’s FX deposits been propping up the BSP’s reserves?
BSP’s balance sheets signal the acceleration of monetary inflation as peso issuance outsprints FX assets growth.
USD Php derivative rates diverge with the USD peso.
Can the economy afford the massive buildup of external borrowings in the face of plunging remittances and trade deficits?
A significant buildup of USD shorts is a tail-risk. The USD Php chart points to a substantial rebound.
I. Cognitive Dissonance: Panic Borrowing on Huge Reserves?
What’s wrong with this picture?
The BSP says it is awash with FX holdings.
From the ABS-CBN (July 15): The Bangko Sentral ng Pilipinas said Wednesday the country's gross international reserves rose to an "all time high" in June. The GIR reached $93.32 billion in end-June, up by $30.5 million from May's $93.29 billion with inflows from the government's foreign currency deposits with the BSP, the central bank said in a statement. "The end-June 2020 GIR level represents an ample external liquidity buffer, which is equivalent to 8.4 months’ worth of imports of goods and payments of services and primary income," the BSP said.
But the National Government has been in a USD borrowing binge!
From the BSP (July 17): The Monetary Board (MB) approved National Government (NG) foreign borrowings in the second quarter of 2020 aggregating US$6,840.995 million, higher by US$3,800.493 million (125 percent) from the second quarter 2019 level of US$3,040.502 million. These consist of: (a) one [1] bond issuance aggregating to US$2,350.000 million; (b) three [3] project loans amounting to US$340.995 million; and (c) six [6] program loans amounting to US$4,150.000 million. These foreign borrowings will fund the NG’s: (a) general financing requirements for 2020 (US$2,350.000 million);(b) programs in response to the COVID-19 pandemic (US$4,450.000 million); and (c) projects in infrastructure development (US$40.995 million)
From the Inquirer (July 2): Foreign borrowings, loans, and grant assistance secured by the Philippines to fight the COVID-19 pandemic amounted to a total of $7.76 billion (over P386 billion) as of July 1, with two-thirds of the proceeds already injected into the budget, the Department of Finance (DOF) said. In a report, the DOF said $7.63 billion in financing from multilateral lenders and bilateral partners were to be spent as budgetary support, of which $5.11 billion had been disbursed to the government.
From the Reuters/Yahoo (July 8): "We are planning to borrow up to 50% of GDP, up from 39% at the end of 2019," Finance Secretary Carlos Dominguez told an economic forum. "We have the capacity to borrow...and we have the capacity to pay these loans in the future," Dominguez said. "
The USD borrowing spree has also infected the banking system!
From the Inquirer (July 7): The country’s leading lender, BDO Unibank, has raised $600 million from the offshore bond market, building up its cash hoard while interest rates are favorable. The fixed rate notes issue has a coupon rate of 2.125 percent per annum and a tenor of 5.5 years, BDO disclosed to the Philippine Stock Exchange on Tuesday.
From the Inquirer (July 7): Ty family-led Metropolitan Bank and Trust Co. has raised $500 million from its first offshore debt market foray in nearly two decades. Metrobank priced its 5.5-year senior notes offering to yield 2.125 percent per annum on Tuesday night, a bookrunner said.
The point is: Why raise USD debt when GIRs are at a record high? Or has it been that USD debt and derivatives have made up most of the recent gains of the GIRs?
Why have banks been also boosting USD holdings? Could it be that the propping up of the GIRs has been from the diversion of FX deposits from the banking system?
II. Has the BSP been using Bank FX Deposits to Boost GIRs?
Figure 1
The banking system’s FX deposit growth rate has been southbound since 2014. This downtrend accelerated in 2019 when FX deposits even suffered two months of mild deflation! (Figure 1, upmost window)
Around the same period, the BSP’s Gross International Reserves grew at 13-14% the fastest rate since 2012. FX deposits increased by 3.45% in May YoY as the GIR grew by 9.42%. The GIR revved up by 9.9% in June.
With the downpour of FX from borrowings of the National Government in the 2Q, the growth rate of external banking operations (Net Foreign Asset’s Other Deposit Corporation or ODC) seems to have decelerated after peaking last January at 77%.
Net Foreign Assets of the Other Deposit Corporations (banks and non-banks) have staged a massive rebound since the USD climaxed last September 2018. (Figure 1 middle and lower pane)
FX operations using the banking system’s foreign currency deposit, again, may have boosted the BSP’s GIRs, thereby helped strengthened the peso, even as the economy has struggled.
III. BSP’s QE: Peso Issuance Outsprinting Foreign Assets Growth!
Much less understood by the public and even by experts is the role played by international assets on the BSP’s domestic currency operations.
Figure 2
Under a de facto USD standard, the boosting of GIRs fundamentally provides the amplitude to the BSP to expand its currency liabilities.
In the past, international assets comprised 80% to 84% of the BSP’s total assets. Last May, despite the 5.71% YoY increase, the % share of FX assets plunged below the 80% threshold to 78.77%, a multi-year low! (Figure 2, upmost window)
In its place, the 115.9% surge in the growth rate of domestic securities and its Php 300 billion repo with the National Government spurred a 32.54% jump in the growth rate of BSP’s currency liabilities. (Figure 2, lowest pane)
Total assets, which expanded by a hefty 14.6% last May, have been supported by its historic QE operations (net claims on central government), which zoomed by 59.6%. (Figure 2, middle window)
On the other hand, with the BSP’s RRR cuts in place, bank reserves (ODC) contracted 18.25% YoY. However, the BSP’s total liabilities, which increased by 14.98%, had mainly been due to currency liabilities, as well as the 6,810% growth spike of the Overnight Deposit Liabilities.
That said, the BSP has boosted the GIRs to accommodate the expansion of domestic currency issuance, which in May, have far have exceeded the growth of BSP’s FX assets, thus, lowering the latter’s threshold share of the BSP assets.
With the BSP issuing more currency than its forex assets, the peso should weaken.
While inflow from the current borrowings and derivatives may continue to support the peso in the interim, the foundations from the BSP operations have started to leak and corrode.
IV. Divergences Emerge: Derivative Rates Rise on Firming Peso
Figure 3
The USD peso has begun to diverge with FX derivative rates of the banking system as measured by the PHIREF. (Figure 3, upper window)
PHIREF or the Philippine Interbank Reference Rate, according to the Banker’s Association of the Philippines, is the implied Peso interest rate derived from done deals in the interbank foreign exchange swap market. The PHIREF is used as the benchmark for the reset value for the peso floating leg of an Interest Rate Swap.
In short, PHIREF rates measures the USD liquidity of the banking system through derivative trades. The rising PHIREF rates, perhaps, tell us why banks are borrowing USDs.
The developing divergence also reveals that the liquidity conditions in the derivative markets barely supports the strength of the peso. Higher peso may be a product of BSP’s interventions, using inflows from NG borrowings.
Low rates worldwide have also allowed the BSP leeway to conduct such operations designed to boost its foreign reserves.
V. April’s OFW Remittances Plunge to Decade-Lows, Trade Deficit Remain Despite Collapse in External Trade
But borrowed dollars would have to be paid.
The BSP would have to pray for continued low rates for it to maintain the current burgeoning FX programs and or that the conventional sources of USD inflows recover soon. Otherwise, a reality check will befall on the pesos’ artificial strength.
How will those liabilities be settled?
The BSP’s OFW remittances reported a milepost plunge last April. Personal remittances contracted by 16.1% year-on-year, a multi-decade low.
It was a historic decline for April’s cash remittances as well. Its 16.2% plunge accounted for the most year-on-year % decline since 2001, while the nominal USD decrease also was the biggest since 1999, in the aftermath of the Asian crisis. After peaking in 2005-2007, the cash remittance trend has been trending south. COVID-19 accelerated this trend. (Figure 3, middle window)
From the GMA (July 10): The Philippines's balance of trade in goods posted a narrower deficit in May as decline in exports is slower than the drop in imports during the period, the Philippine Statistics Authority (PSA) reported Friday. Data from the PSA showed the country’s trade gap stood at $1.865 billion, down 48.9% from a $3.649-billion deficit in May 2019. The narrower deficit resulted from slower exports decline of 38.7% to $3.99 billion compared with import’s 40.6% plunge to $5.85 billion.
Again, with the economy in tatters, where will the NG and the BSP get the USD required to pay for its USD short position through expanded borrowings?
2Q official borrowings, recognized by the BSP at USD 6.84 billion, constituted 36% of the total FX gains of USD 18.6 billion acquired from the GIR’s bottom in October 2018 at USD 74.71 billion to June 2020’s record at USD 93.32 billion.
Besides, should the BSP continue to ramp up the inflationary printing press, it won’t just be the shortage of USD, but higher street inflation, which should also become a concern, whether or not this will be printed in the official CPI.
VI. BSP’s Operations Significantly Builds on USD Shorts, USD Peso Chart Exhibits Massive Falling Wedge
For now, the BSP’s printing press is being offset by huge demand slump as a result of the massive closings of enterprises, surging joblessness, and mounting income losses. But again, because of the morbid dread of the credit deflation, the BSP can be expected to push the printing press’ pedal to the metal.
The GIR is supposed to function as reserves, something like savings or corporate retained earnings. The BSP crow about reserves covering 8.4 months of imports, yet they are borrowing to supposedly finance imports for COVID-19 goods and services, as well as for infrastructure spending.
If they truly have excess USD liquidity, they could have used this, instead of burdening the economy with more debt and increasing its exposure to USD shorts.
But the appearance of strength seems to be the BSP’s priority, which sadly would come at the cost of placing unnecessary risks on the financial system, taxpayers, and the peso holders.
The risk-ON conditions brought about by global central bank’s massive injections have bought the peso bull’s some time. But whatever gains it has brought about is momentary, because not only have these been subject to diminishing returns, but it also builds on balance sheet risks. The policy of abolishing slumps leads to more imbalances escalating the risks of magnified busts.
Figure 4
From a charting perspective, there seems to be a huge falling wedge on the chart of the USD Php, which implies a sharp rebound soon.
I doubt if the coming rebound will merely be a technical matter.
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