The devaluation, say its champions, reduces the burden of debts. This is certainly true. It favors debtors at the expense of creditors. In the eyes of those who still have not learned that under modern conditions the creditors must not be identified with the rich not the debtors with the poor, this is beneficial. The actual effect is that the indebted owners of real estate and farm land and the shareholders of indebted corporations reap gains at the expense of the majority of people whose savings are invested in bonds, debentures, savings-bank deposits, and insurance policies—Ludwig von Mises
In this outlook:
Ka-Boom! USD-Php Smashes Through the Php 50 Barrier!
I. Introduction
II. USD-Php Smashes Through the Php 50 Barrier!
III. Mainstream’s Statistical Doublespeak: Low-Base Boom Equals Recovery!
IV. The Metamorphosis of the USD-Php: From Best to Worst Currency in Asia in a Month!
V. June CPI fell on Monetary Tightening even as BSP Revives QE in May!
VI. The Massive Transformation in the Relationship of the USD-PHP and the PSEi 30
Ka-Boom! USD-Php Smashes Through the Php 50 Barrier!
I. Introduction
The USD-Php rockets to break the Php 50 level to reinforce the stagflationary environment!
Though overbought and likely to draw the BSP’s intervention that should subject the USD Php to some profit-taking ahead, the USD-Php about set for the resumption of its bull market; if history is to repeat.
The mainstream sees the soaring USD as Green Shoots even when economic statistics they cite barely confirm their allegations.
Yes, the strength of the USD is partly a factor of the weak regional currencies. But divergent performance explains the influence of domestic factors.
As expected, the recent tightening by the BSP led to the slowdown of the June CPI. But the BSP resumed QE in May anyway!
The USD-PHP and Philippine stocks have undergone two critical shifts in the last thirteen years in their relational dimensions.
II. USD-Php Smashes Through the Php 50 Barrier!
Figure 1
Last February, this author warned,
To stave-off mounting credit issues plaguing the banking system, the BSP engineered the strength of the peso and lower treasury yields as part of its easing program. Manipulated prices don’t reflect the actual demand and supply conditions of these securities, therefore at the risk of disorderly adjustments.
If I am not mistaken, such tools intended to embellish the macroeconomic picture is about to crumble. The façade is about to wither.
Stagflation Ahoy: BSP Drops ‘Transitory’ Expects High CPI in 2021; Low Rates and Strong Peso Façade at Risk? February 15, 2021
Paraphrasing last week’s headline on the supposed breakthrough by the headline equity index, the USD-Php "smashes through the Php 50 psychological barrier", its best monthly showing since 2013! (Figure 1, upmost pane)
Though stretched and subject to profit-taking, the recent sharp moves of the USD-Php are likely signs of a critical trend reversal; if history is to repeat.
Importantly, this could be symptomatic of economic or financial distress that is yet to surface, resembling the Great Recession of 2007 to 2008 and somehow the Fed’s Taper Tantrum in 2013.
But here is a backstory.
In two waves, the USD-Php rocketed by 23.98% in less than 9-months in 2008!
However, the economy and financial markets responded facilely to the fiscal and monetary actions of authorities because of the generally clean balance sheets of the private and public sectors. Such conditions prompted the USD-Php to surrender almost all of its gains from the Great Recession in 4-years!
But policies are subject to the law of diminishing returns.
In 2013, the Fed’s Taper Tantrum provided a convenient scapegoat that fueled a second bull market in the USD-Php.
At its onset, the USD soared by 7.3% in a month and half.
But the Taper Tantrum concealed and aggravated the genuine reason for the USD-Php bull market: 10 straight months of 30%+++ of money supply growth as exhibited by its benchmark M3.
And since the CPI fiddled with two months of deflation in September (-.4%) and October (-.2%) 2015, the BSP opened the liquidity spigot that sent money supply growth (M3) surging anew through May 2018.
To arrest the surging inflation, the BSP panicked and raised policy rates by 175 bps in just 7 months or from May to November 2018 that squeezed out excess liquidity. Back then, a 'rice crisis' provided a convenient political excuse to the resurgent CPI.
Or, the surge in M3 ended with the BSP’s monetary response.
Both the CPI and the USD tumbled. Its aftermath marked the inception of the bull market of the peso.
In support of the eroding bank lending activities and rising credit delinquencies, the BSP reversed course and eased anew that pushed up M3 in the 2H of 2019.
In addition, the BSP underwrote a historic rescue package for the banking system, accentuated by the over Php 2 trillion liquidity infusion in 2020 or during the pandemic. M3 surged further then climaxed in May 2020. (Figure 1, lower pane)
But unlike its predecessor, the USD-Php failed to respond to the aggregate unparalleled easing or bailout measures of the BSP: The causal and correlative functions seemingly broke.
Until now...
Policies, again, are subject to the law of diminishing marginal returns.
From its pinnacle in May 2020, M3 tumbled to 2012 levels at 4.7% last May 2021.
For now, the USD peso appears to be readjusting for the distortions brought about by BSP FX operations. Operations, which boosted its GIRs through its borrowed reserves program, had been engineered to support systemic FX leverage, improve its monetary standings relative to the implicit USD standard, as well as embellish the macro-picture to assuage.
Again while the USD-Php is overbought, its current actions appear to reaffirm its long-term uptrend.
And to contain the slump, the BSP can be expected to intervene directly either by borrowing MORE/bring back the use of derivatives, or offload its USD holdings when the borrowing access becomes scarce.
III. Mainstream’s Statistical Doublespeak: Low-Base Boom Equals Recovery!
But the mainstream sees a different story.
In near unanimity, they holler that the surging USD is a sign of growth! Green shoots!
From the Philstar (July 9): “Surging demand for dollars amid a spike in imports sank the Philippine peso to its lowest level in more than a year on Friday, with the local unit now back to the P50-level against the greenback.
From the Businessworld (July 9): “THE PESO sank to the P50-per-dollar level on Friday on data showing a continued recovery in imports and as investors awaited the US Federal Reserve’s latest signals on its policy path.”
From the ABS-CBN News (July 8): The Philippine peso's recent depreciation versus the US dollar is cause for concern, the head of the Bangko Sentral ng Pilipinas said on Thursday, even as the country imports more products to deal with local supply problems. BSP Governor Benjamin Diokno said that the peso's performance was determined by supply and market conditions, and that all other currencies "depreciated vis-a-vis the dollar." "That means it is the dollar that is strong, not the peso that is weak," Diokno said.
Two causal angles anchor the plain-vanilla narrative of the consensus: domestic and foreign.
Because imports are supposed to represent domestic demand, economic growth/recovery translates to import expansion. But a trade deficit incurs as imports outgrow exports or when the economy spends more than it produces.
Thus, the USD-Php surge emanates from greater demand for the USD to finance the burgeoning trade deficit!
Oh, hail the supreme deity of macroeconomics: aggregate (indiscriminate) spending!
Figure 2
And as further proof of the supposed improvement in domestic demand, “Factory output surged by 265% in May, says PSA”, reports the Manila Standard (July 8).
Sure, based on the data from the PSA, there has been a surge in percentage terms on exports, imports and factory output. But the reason for this is the low-base effect.
The splendid growth of the April-May data arose from the current 'open' economic conditions against the economy shutdown at the early phase of the experimental rigid lockdown last year, known as the ECQ.
Stripped of the % aspect, the nominal data on imports, deficits, and factory output demonstrates a substantial distance away from their respective heights.
Outside the deviant collapse in April 2020 and the steep bounce in April 2021 or last month, imports remain on a two-year downtrend. (Figure 1, upmost window)
The trade deficit narrowed in May to USD 2.76 billion from the USD 3.084 billion in April and is still more than a third away from the record USD 4.4 billion in October 2018. Moreover, the deficit even shows signs of inflection or narrowing. (Figure 2, second to the highest window)
In the meantime, May's Value of Production Index (VAPI) was still down 21.2% from the August 2018 peak. According to the PSA, despite the so-called boom, factory input prices (PPI) shrank 4.25% in May, much more than the 3.93% in April. (Figure 2, second to the lowest pane)
Further, the contraction in bank loans to the manufacturing sector has even been escalating. Manufacturing loans shrunk by 7.92% in May 2021 YoY, marking the second-largest annual contraction after April’s 9.81% in many years. Starting from August 2019, the credit deflation to the sector represents the twenty-second straight month! (Figure 2, lowest pane)
Price and credit deflation amidst a boom? What have these guys been smoking?
On the other hand, the Markit PMI factory survey tells of a divergent tale moored on the stagflation story.
True, June manufacturing improved slightly, but it comes at the expense of surging input prices, supply bottlenecks, and unemployment.
From the IHS Markit (July 1): Filipino manufacturers signalled a rebound in operating conditions at the end of the second quarter, led by softer declines in output, new orders, and employment, as a well as a renewed expansion in pre-production inventories. That said, the uptick was only marginal as the country continued to face modified and enhanced community quarantine (MECQ) measures following a rise COVID-19 cases. Vendor performance deteriorated further and to the greatest extent for ten months due to port congestions and virus-related restrictions. On the price front, input costs rose with material shortages reportedly the main driver of inflation. That said, the rate of increase eased to a three-month low. Nevertheless, firms sought to pass on part of the burden by raising their selling prices, and did so at the quickest rate in over two-and-a-half years. ..With declines in output and new orders persisting in June, manufacturers remained cautious about adding to their staffing levels. Workforce numbers have now fallen in each month since March 2020, though the latest decline was the softest in three months. Cost saving efforts and voluntary resignations were also cited by respondents as driving the fall in workforce numbers. (bold mine)
Characterized by stagnating output (softer declines), high unemployment (falling workforce), and rising prices (input and output), is this environment not called stagflation?
So how exactly does stagflation transmute into a boom?
Perhaps, through George Orwell’s 1984 doublespeak: “War is peace. Freedom is slavery. Ignorance is strength.”?
A rebound is neither a boom nor a recovery.
IV. The Metamorphosis of the USD-Php: From Best to Worst Currency in Asia in a Month!
Adding gravy to the conventional aura of wisdom, also attributed to the strong USD is the hawkish tilt of the US Federal Reserve.
Figure 3
Though we do not deny that the USD may be some influence on the current actions of the USD-Php, domestic factors, instead of exogenous forces, are likely its principal determinants until time reinforces this supposed renewed correlation.
Up 1.79%, the USD Php was this week’s best performer in the region. To exhibit divergent performance, the USD fell against India’s rupee (-.15%) and Indonesia’s rupiah (-.03%). Or, not all currencies in Asia "depreciated vis-a-vis the dollar" this week. (Figure 3 upmost table)
Although indeed, the USD rose against almost all Asian currencies in a month, the USD registered its best returns against the Philippine peso (+4.97%) and the Thai baht (+4.77%) based on data from Bloomberg. Vietnam’s dong, meanwhile, appreciated by .25% against the USD over the same period, according to the data from investing.com.
The irony is that the peso morphed from the best in Asia (in 2020) to the worst...in a month!
The fact that the Asian currencies posted diverse performance suggests that the appeal to the majority fails. And the fact the peso and the baht were the worst performers indicates domestic issues at hand.
And as major central banks scale back on their emergency measures, primarily through liquidity injections, demand for USD will likely rise. Chart from Yardeni.com. (See figure 3, middle window)
And given the enormity of global external debt, mainly denominated in USD, collateral issues will also be a factor in shaping the role of the USD relative to the global financial system's balance sheet capacity.
According to the Bank for International Settlements, the surge in the outstanding debt of non-government or corporate issuers, mostly in USDs, had mainly emanated from emerging markets. (See figure 3, lowest pane)
Generally speaking, while a tightening policy by global central banks should affect the world economy and financial markets, disparate internal conditions should translate to distinctive effects on individual nations.
The implication is that the transmission mechanism of the mounting risks of a global contagion, or the periphery to the core dynamics, would initially emanate from the marginal emerging market economies or the weakest link, then spread through the most vulnerable chain of advanced economies. Eventually, a crisis is about to embroil most of the world, including the Philippines.
Of course, any signs of weakness will compel central banks to revive easing measures anew. Tolerating pain is out of their dictionary. Instead, they would opt for the blowing of financial bubbles.
Last week, the central bank of China, the PBOC, just shaved its bank reserve requirements.
V. June CPI fell on Monetary Tightening even as BSP Revives QE in May!
Back in April I wrote
Two crucial factors are likely to emerge from the current tightening.
One, slower demand will likely pull down the CPI in the interim. The CPI remains in an uptrend nonetheless. An ascendant CPI has anchored most of the gains of the PSEi 30.
Two, more credit delinquencies should emerge from reduced access to cheap credit.
Bank credit delinquencies, via Net NPLs, began their ascent coincidentally with the surge in the CPI since 2016. Net NPLs accelerated when the BSP raised rates in late 2018 to wring statistical inflation. To be sure, the uptrend in published Net NPLs is two years old! The pandemic has only accelerated its upside spiral. And how about the undeclared ones or NPL skeleton in the closets?
Finally, since speculation from BSP’s free money has inflated its assets, what happens to the cumulative balance sheet of the banking system if deflation should prevail over the Philippine capital markets (fixed-income securities and the equity markets)?
The IMF Warns Of “Systemic Solvency Distress”! Deflationary Forces Emerge as T-Bill Yields Soar! April 25, 2021
From Reuters (July 6): Philippine inflation dropped to the lowest level in six months in June, providing the central bank more leeway to maintain an accommodative monetary policy to support an economy struggling to throw off the impact of the coronavirus pandemic. The Consumer Price Index rose 4.1% from a year earlier, down from 4.5% in May, driven mainly by easing price pressure in the transport index, the Philippine Statistics Authority said on Tuesday.
Figure 4
A principal factor in the setting of USD-Php is the domestic money supply.
In the past, the money supply growth fueled the rise in the CPI and also the USD Php. But because of the BSP’s FX operations, including the current historic bailout policies, the USD Php relationship with it, as mentioned above, appears to have been violated. The current run of the USD-Php appears to correct such imbalance. (Figure 4, upmost left pane)
The 2-year and 6-year uptrends of the headline CPI remain intact, but the CORE CPI broke. (Figure 4, upmost right pane)
After retrenching in April, the BSP revived part of its direct lending to the NG. Despite this, the growth of the M3 plummeted, which indicates a deepening erosion of excess liquidity in the banking system from ballooning credit problems. (Figure 4, middle left pane)
Further, treasury spreads remain unmoved, pointing to the possible wait and see on the effects of the USD on the CPI. Despite a slight tightening, the 10-Year Philippine BVAL yield spreads remain on an uptrend. (Figure 4, middle right pane) Unlike their analysts, institutional traders of domestic treasuries remain biased towards higher inflation! Amazing.
Finally, it is stunning to see the transformation of banks into speculative entities. Bank investments (bonds, currencies, and stocks) surged 20.4% YoY in May, as bank lending (excluding Interbank Loans and repo) continued to contract 3.82%, its sixth straight month. As such, the share of investments to total assets soared to 26.01% in May, a level last seen in 2012. Investments grabbed the share of bank lending, which dropped to 52.65%, a level seen in 2015. (Figure 4, lowest panes)
The historic rescue plus the makeover of the banks into speculative outfits demonstrates how the BSP attempts to heal the banking system. Phenomenal!
VI. The Massive Transformation in the Relationship of the USD-PHP and the PSEi 30
Figure 5
Do you know that the USD-Php’s relationship with the PSEi experienced a massive transformation? (Figure 5, upmost pane)
From 2008 to the close of 2012, both the PSEi and the peso were bid, even by foreigners. Money supply growth fell in this period.
Mainly because of monetary inflation, the second phase occurred. In this stage, the peso fell (USD PHP increased) as the headline equity index ascended from 2013 to 1Q 2018.
By 2017, this relationship stalled. The rising USD-Php persisted as the PSEi 30 plateaued. What followed was a bear market in the PSEi and an eventual milepost recession as the peso transformed into a bull market.
This scenario was diametric to the 2008 to 2012 environment, where the economy, the peso, and the PSEi conjointly experienced a strong rally, an AUTHENTIC boom!
The current climate represents an interesting paradox.
The latest strengthening of the peso has hardly helped in boosting foreign participation. The volume of market (stocks and bonds) activities by foreign entities remain on a downhill since 2013. (Figure 5, middle right pane)
Foreign money barely took advantage of the weakening peso to bolster its holdings of local assets. They remain net sellers even in the period of the strong peso.
Yet, despite the role of foreign money, can the leveraged economy afford higher rates from further weakness in the USD Php?
Priced in the USD, the recent setback of the PSEi 30 may bring about a test of its symmetrical triangle support. (Figure 5, lowest pane)
A falling peso amplifies the weakness of the PSE while the strengthening of the peso partially offsets it.
A stagflationary environment should translate to a higher USD-Php at the expense of the most credit-reliant financial assets. A breakdown from the triangle will confirm and reinforce this dynamic.
And yes, a switch in the mainstream narrative can be expected, focusing on the supposed positives of devaluation: help exports, OFWs, and tourism, as well as reduce debt. Blah blah blah.
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