Debt-Financed Stimulus Forever? The Philippine Government’s Relentless Pursuit of "Upper Middle-Income" Status

 

Deficits are always a spending problem, because receipts are, by nature, cyclical and volatile, while spending becomes untouchable and increased every year—Daniel Lacalle

In this issue

Debt-Financed Stimulus Forever? The Philippine Government’s Relentless Pursuit of "Upper Middle-Income" Status

I. Changes in Tax Collection Schedules Distort Philippine Treasury Data and Highlight Fiscal Cycles; Spending’s Legal Constraints

II. Stimulus Forever? The Quest for "Upper Middle-Income" Status and Credit "A" Rating, Rising Risks of a Fiscal Blowout

III. 10-Month Public Revenue Growth Deviates from PSEi 30’s Activities

IV. Q3 2024: 2nd Highest Revenue to NGDP, Headline GDP Weakens—The Crowding Out Effect?

V. Record 10-Month Expenditure: The Push for "Big Government"

VI. 10-Month Debt Servicing Costs Zoom to All-Time Highs!

VII. Rising Foreign Denominated Debt Payments!

VIII. Despite Slower Increases in Public Debt, Little Sign of the Government Weaning Off Stimulus

IX. Q3 2024: Public Debt to GDP rises to 61.3%

X. Conclusion: The Relentless Pursuit Of "Upper Middle Income" Status Resembles a Futile Obsession 

Debt-Financed Stimulus Forever? The Philippine Government’s Relentless Pursuit of "Upper Middle-Income" Status 

Improvements in the 10-month fiscal balance have fueled the Philippine government’s unrealistic fixation on achieving 'Upper Middle Income' status—here's why. 

I. Changes in Tax Collection Schedules Distort Philippine Treasury Data and Highlight Fiscal Cycles; Spending’s Legal Constraints 

Inquirer.net, November 28: A double-digit revenue growth helped swing the government’s budget position back to a surplus in October, keeping the 10-month fiscal deficit below the 2024 ceiling set by the Marcos administration. The government ran a budget surplus of P6.3 billion in October, a reversal from the P34.4- billion deficit recorded a year ago, figures from the latest cash operations report of the Bureau of the Treasury (BTr) showed. 

Most media outlets barely mention that recent changes in tax collection schedules have distorted the Bureau of the Treasury’s reporting data. 

As noted in September, these adjustments significantly impact the perception of fiscal performance. 

That is to say, since VAT payments are made at the end of each quarter but recorded in the first month of the following quarter, this quarterly revenue cycle inflates reported revenues for January, April, July and October, often resulting in a narrowed deficit or even a surplus for these months. 

Therefore, we should anticipate either a surplus or a narrower deficit this October. (Prudent Investor, October 2024)

Figure 1 

For instance, October’s surplus of Php 6.34 billion underscores how the quarterly revenue cycle boosts collections at the start of every quarter, often leading to either a surplus or a narrowed deficit. Surpluses were observed in January, April, and October this year. (Figure 1, topmost chart) 

However, as the government pushes to meet its year-end 'budget execution' targets in December, a significant spike in the year-end deficit could emerge from the remaining spending balance. 

Based on the budget allocation for 2024 amounting to Php 5.768 trillion, the unspent difference from the ten-month spending of Php 4.73 trillion is Php 1.038 trillion. 

Notably, in contrast to previous years, 2024 has already experienced three months of public spending exceeding Php 500 billion, with December still underway. (Figure 1, middle image) 

On the other hand, this could indicate a potential frontloading of funds to meet year-end targets. 

While spending excesses are constrained by law, the government has consistently exceeded enacted budget allocations since 2019. (Figure 1, lowest diagram) 

Consequently, this trend, shaped by political path dependency, suggests that the remaining Php 1.038 trillion could likely be surpassed. 

According to the Department of Budget and Management (DBM), budget adjustments are permissible under specific conditions: (DBM, 2012) 

1.    Enactment of new laws,

2.    Adjustments to macroeconomic parameters, and

3.    Changes in resource availability. 

These provisions may provide political rationales to justify increases in the allocated budget.

Figure 2

Expenditures, while down from last month, remain within their growth trajectory, while revenues have so far outperformed expectations. (Figure 2, topmost graph)

Despite October’s 22.6% revenue growth contributing to a lower ten-month deficit—down from Php 1.018 trillion in 2023 to Php 963.9 billion—it remains the fourth largest on record.

II. Stimulus Forever? The Quest for "Upper Middle-Income" Status and Credit "A" Rating, Rising Risks of a Fiscal Blowout

What is seldom mentioned by mainstream media is that such deficits serve as "fiscal or automatic stabilizers," ostensibly for contingent or emergency (recession) purposes.

While authorities repeatedly propagate their intent to elevate the economy to "upper middle-income" status and attain a credit "A" rating soon, they fail to disclose that current political-economic conditions are still functioning under or reflect continued reliance on a "stimulus" framework.

In fact, as we keep pointing out, the Bangko Sentral ng Pilipinas (BSP)’s reserve requirement ratio (RRR) and interest rate cuts represent monetary measures, while authorities have ramped up fiscal measures or "Marcos-nomics stimulus" for their political agenda—namely, pre-election spending and a subtle shift toward a war economy, alongside centralization through increased public spending and an enlarged bureaucracy or "Big Government."

Finally, while expenditures adhere to programmed allocations and revenues fluctuate based on economic and financial conditions as well as administrative efforts, they remain inherently volatile.

Any steep economic slowdown or recession would likely compel the government to increase spending, potentially driving the deficit to record levels or beyond.

Unless deliberate efforts are made to curb spending growth, the government’s ongoing centralization of the economy will continue to escalate the risk of a fiscal blowout.

Despite the mainstream's Pollyannaish narrative, the current trajectory presents significant challenges to long-term fiscal stability.

III. 10-Month Public Revenue Growth Deviates from PSEi 30’s Activities

Let us now examine the details.

In October, public revenue surged by 22.6%, driven primarily by a 16.94% growth in tax revenues, with the Bureau of Internal Revenue (BIR) contributing 16.19% and the Bureau of Customs (BOC) 11.5%. Meanwhile, non-tax revenues soared by 87.7%, largely due to revenues from other offices, including "privatization proceeds, fees and charges, and grants."

These activities boosted the 10-month revenue growth from 9.4% in 2023 to 16.8% this year, largely driven by a broad-based increase, largely powered by non-tax revenues.

It is worth noting that, despite reaching a record high in pesos, the BIR’s net income and profit growth significantly softened to 8.3%, the lowest since 2021, remaining consistent with the 9-month growth rate.  This segment accounted for 50% of the BIR’s total intake. (Figure 2, middle pane)

In contrast, sales taxes jumped by 30.6% over the first 10 months, marking the highest growth rate since at least 2017, and represents 30% of the BIR’s total revenues. Sales taxes vaulted by 31.6% in the first 9 months. (Figure 2, lowest chart)

The reason for focusing on the 9-month performance is to compare its growth rate with that of the PSEi 30, allowing for a closer understanding or providing a closer approximation of the BIR's topline performance.

Figure 3

Unfortunately, when using same-year data, the PSEi 30 reported a 9-month revenue growth of 8.1%, the slowest since 2021. This pattern is echoed in its net income growth of 6.8%, which is also the most sluggish rate since 2021. (Figure 3 upper window) 

To put this in perspective, as previously discussed, the 9-month aggregate revenues of the PSEi 30 represent approximately 27.9% of the nominal gross domestic product (NGDP) for the same period. 

IV. Q3 2024: 2nd Highest Revenue to NGDP, Headline GDP Weakens—The Crowding Out Effect? 

In its September disclosure, the Bureau of the Treasury cited changes in the VAT schedule as a key factor boosting tax collections: " The increase in VAT collections in 2024 is partly due to the impact of the change in payment schedule introduced by the TRAIN law provision which allows the tax filers to shift from monthly to quarterly filing of VAT return" (Bureau of Treasury, October 2024) [bold added] 

Once again, the adjustment in VAT schedules played a pivotal role in increasing revenues, helping to reduce the deficit and debt—a topic we discussed in September 2024 (Prudent Investor, September 2024). 

Or, whether by design or as an unintended consequence, a critical factor in the slower deficit has been a shift in government tax collection and accounting procedures. 

But what will happen if, under the same economic conditions or with only slight improvements, the effects of such transient changes wear off? Will the deficit soar again? 

Moreover, it is important to note that all this is occurring while bank credit expansion and public debt are at record highs. 

What will happen to credit and liquidity-fueled demand once household and corporate balance sheets become saturated with leverage? 

It’s also noteworthy that, even as the share of revenue to nominal GDP (NGDP) reached its highest level in Q2 and Q3 of 2024, real GDP continues its downward trend—a dynamic that has persisted since 2016 and reemerged in 2021. (Figure 3, below graph) 

Are these not symptoms of the "crowding-out effect," where the increasing share of government interventions, measured by expenditures, debt, and deficits, translates into diminished savings and capital available for private sector investments? 

V. Record 10-Month Expenditure: The Push for "Big Government" 

But what about expenditures? 

Local Government Unit (LGU) spending surged by 11.97%, and national disbursement growth reached 14.3%, powering an overall increase in October expenditures of 11.1%. Interest payments, on the other hand, fell by 6.1%. The former and the latter two accounted for shares of 18.1%, 66.64%, and 11.9% of the total, respectively.

For the first 10 months of the year, expenditures grew by 11.5%, reaching a record-high Php 4.73 trillion, driven by LGU spending, National disbursements, and interest payments, which posted growth rates of 9.1%, 11.9%, and 23.03%, respectively.

As noted above, these record expenditures are primarily focused on promoting political agendas: pre-elections, a subtle shift towards a war economy, and an emphasis on centralization through infrastructure, welfare, and bureaucratic outlays.

Figure 4

One notable item has played a considerable role: 10-month interest payments not only outperformed other components in terms of growth but also reached a record high in peso terms. (Figure 4, topmost graph) 

Additionally, their share of total expenditures rose to levels last seen in 2009. 

That said, the ratio of expenditures to NGDP remains at 23.98% in Q2 and Q3 and has stayed within the range of 22% to 26%—except for two occasions—since Q2 2020. (Figure 4, middle chart) 

Over the past 18 quarters, this ratio has averaged 23.4%. 

As mentioned above, despite all the hype about achieving "upper middle income" status and attaining a "Class A" credit rating, the Philippines continues to operate under a fiscal stimulus framework, which has only intensified with recent policies which I dubbed as "Marcos-nomics stimulus."

In the timeless words of the distinguished economist Milton Friedman, "Nothing is so permanent as a temporary government program."

Current conditions also validate the "Big Government" theory articulated by the economist Robert Higgs, particularly regarding what he termed "The Ratchet Effect." This concept refers to the "tendency of governments to respond to crises by implementing new policies, regulations, and laws that significantly enhance their powers. These measures are typically presented as temporary solutions to address specific problems. However, in history, these measures often outlast their intended purpose and become a permanent part of the legal landscape." (Matulef, 2023)

The push towards "Big Government" is evident, with approximately a quarter of the statistical economy deriving from direct government expenditures.

This figure does not include the indirect contributions from private sector participation in government activities, such as public-private partnerships (PPPs), suppliers, outsourcing and etc. 

As a caveat, the revenue and expenditure-to-NGDP ratio is derived from public revenue and spending data and nominal GDP—an aggregate measure where government spending is calculated differently—potentially leading to skewed interpretations of its relative size. 

In any case, as the government grows, so too does its demand for resources and finances—all at the expense of the private sector, particularly micro, small, and medium enterprises (MSMEs), as well as the purchasing power of the average Filipinos, represented here as Pedros and Marias. 

While government fiscal health may provide some insights into its size, there are numerous hidden or immeasurable costs associated with its expansion: compliance costs, public sector inefficiencies, regulatory and administrative burdens, policy uncertainty, moral hazard, opportunity costs, reduced incentives for innovation, deadweight losses, productivity costs, economic distortions, social and psychological costs, and more.

VI. 10-Month Debt Servicing Costs Zoom to All-Time Highs!

Rising interest payments represent some of the symptoms of "Big Government."

What’s remarkable is that, in just the first 10 months of 2024, the cost of servicing debt (amortization plus interest) soared to an all-time high of Php 1.86 trillion—16% higher than the previous annual record of Php 1.603 trillion set in 2023. And there are still two months to go! (Figure 4, lowest visual)

Amortization and interest payments exceeded their 2023 annual figures by 25.3% and 1.65%, respectively. 

Notably, amortization payments surged by a staggering 760% in October alone, reaching Php 161.5 billion.

As a result, amortization and interest payments have already surpassed their full-year 2023 totals. However, because the government categorizes amortizations (or principal payments) as financing rather than expenditures, they are not included in the budget.

VII. Rising Foreign Denominated Debt Payments!

There's more to consider.

Figure 5

Payments (amortization + interest) on foreign-denominated debt in the first 10 months of 2024 increased by 52%, reaching a record high. This brought their share of total payments to 21.9%, the highest since 2021. (Figure 5, topmost chart)

Unsurprisingly, the government borrowed USD 2.5 billion in the end of August, likely to refinance existing obligations. Adding to this, authorities reportedly secured another $500 million loan from the Asian Development Bank last week in the name of "climate financing."

Nonetheless, these serve as circumstantial evidence of increased borrowing to fund gaps, reflecting the "synthetic dollar short" position discussed last week.

VIII. Despite Slower Increases in Public Debt, Little Sign of the Government Weaning Off Stimulus

Here’s where mainstream narratives often place emphasis: a slower deficit translates into slower growth in public debt. (Figure 5, middle graph)

In other words, a decrease in financing requirements or a reduction in the rate of increase in public debt decreases the debt/GDP ratio.

Authorities are scheduled to announce public debt data next week.

The apparent gaslighting of fiscal health suggests that authorities are employing tactical measures to improve macroeconomic indicators temporarily. These efforts seem aimed at buying time, likely in the hope that the economy will gain sufficient traction to mask structural weaknesses.

Still, while public debt continues to rise—albeit at a slower pace—bank financing of public debt through net claims on the central government (NCoCG), which began in 2015, appears to have temporarily plateaued. At the same time, the BSP's direct financing of the national government seems to have stalled. (Figure 5, lowest image)

However, none of these emergency measures have reverted to pre-pandemic levels.

The government shows no indication of weaning itself off the stimulus teats.

IX. Q3 2024: Public Debt to GDP rises to 61.3%

Unfortunately, the record savings-investment gap underscores a troubling reality: the GDP is increasingly propped up by debt.

While mainstream narratives highlight the prospect of a lower public debt-to-GDP ratio, they often fail to mention that public debt does not exist in isolation.

In the aftermath of the Asian Financial Crisis, the Philippine economy underwent a cleansing of its balance sheet, which had been marred by years of malinvestment. When the Great Financial Crisis struck in 2007-2008, the Philippine economy rebounded, aided by the national government’s automatic stabilizers and the BSP's easing measures.

However, during that period, the BSP mirrored the Federal Reserve's policy playbook, prompting the private sector to absorb much of the increased borrowing. This reduced the economy’s reliance on deficit-financed government spending and shifted the debt burden from the public to the private sector, enabling a decline in the public debt-to-GDP ratio.

Today, however, this is no longer the case.

Figure 6

Following the pandemic-induced recession, where bank credit expansion slowed, the government stepped in to take the reins, driving public debt-to-GDP to surge. As of Q3, it remained at 61.3%—the second highest level since 2021’s peak of 62.6% and the highest since 2004. 

Currently, despite high-interest rate levels, both public borrowing and universal commercial bank lending have been in full swing—resulting in a systemic leverage ratio (public debt plus universal commercial bank credit) reaching 108.5% of nominal GDP in 2023. 

This means that the government, large corporations, and many households with access to the banking system are increasingly buried in debt.  

In any case, debt is perceived by consensus as a "free lunch," so you hardly ever hear them talk about it. 

X. Conclusion: The Relentless Pursuit Of "Upper Middle Income" Status Resembles a Futile Obsession 

In conclusion, while current fiscal metrics may appear to show surface-level improvements, the government remains addicted to various free-lunch policies characterized by easy money stimulus. 

The government and elites will likely continue to push for a credit-driven savings-investment gap to propel GDP growth, leading to further increases in debt levels and necessitating constant liquidity infusions that heighten inflation risks. 

The establishment tend to overlook the crowding-out effects stemming from government spending (and centralization of the economy), which contribute to embedding of the "twin deficits" that require more foreign financing—ultimately resulting in a structurally weaker economy. 

The relentless pursuit of "upper middle income" status resembles a futile obsession—a "wet dream" driven more by the establishment’s obsession with benchmarks manifesting social signaling than substantive progress. 

For distributional reasons (among many others), the GDP growth narrative does not reflect the true state of the economy. 

Persistent self-rated poverty and hunger, widening inequality, elevated vacancies in the real estate sector, low savings rates, and stagnating productivity are clear indicators that GDP number benefits a select few at the expense of many. This, despite debt levels soaring to historic highs with no signs of slowing. 

Even the Philippine Statistics Authority’s (PSA) per capita consumer and headline GDP trendlines contradict the notion of an imminent economic or credit rating upgrade. 

While having the U.S. as a geopolitical ally could offer some support in the pursuit of cheaper credit through a potential credit upgrade, it is important to acknowledge that actions have consequences—meaning the era of political 'free lunches' are numbered. 

And do authorities genuinely believe they can attain an economic upgrade through mere technical adjustments of tax schedules and dubious accounting practices, akin to the "afternoon delight" and 5-minute "pre-closing pumps" at the PSEi 30? 

Yet because the political elites benefit from it, trends in motion tend to stay in motion, until… 

___

References 

Prudent Investor, September 2024 Fiscal Deficit Highlights the "Marcos-nomics Stimulus"; How Deficit Spending Drives a WEAKER Philippine Peso October 28, 2024 

Department of Budget and Management, THE BUDGETING PROCESS, March 2012, dbm.gov.ph

Bureau of Treasury, September 2024 Budget Deficit at P273.3 Billion Nine-Month Deficit Narrowed to P970.2 Billion, October 24, 2024, treasury.gov.ph

Prudent Investor, Philippine Government’s July Deficit "Narrowed" from Changes in VAT Reporting Schedule, Raised USD 2.5 Billion Plus $500 Million Climate Financing, September 1, 2024

Michael Matulef Beyond Crisis: The Ratchet Effect and the Erosion of Liberty, August 18, 2023, Mises.org

PSEi 30's Weak 9-Month and Q3 Performance Highlights GDP Decline: Symptoms of Crowding-Out and Financial Repression

 

Inflation was created by the wrong monetary policy, and incorrect central bank measures may have lasting negative impacts on the economy. The first effect is evident: governments continue to crowd out the real economy, and families and businesses suffer the entire burden of rate hikes. Maybe the objective was always to increase the size of the public sector at any cost and implement a gradual nationalization of the economy—Daniel Lacalle 

In this issue

PSEi 30's Weak 9-Month and Q3 Performance Highlights GDP Decline: Symptoms of Crowding-Out and Financial Repression

I. Clarifying Our Analytics of the PSEi 30 Data

II. 9-Month 2024 PSEi 30 Performance: Broad-based Slowdown, Sustained Dependence on Borrowing to Generate Growth

III. Dissecting the PSEi 30’s Performance by Category: Debt, Income, Revenues and Cash

IV. Analysis by Sector: Financials and Holding Firms Dominate Growth

V. Analysis by PSEi 30 Member Firms (9-Month)

VI. Conclusion: Underwhelming Performance as Symptoms of Crowding-Out Syndrome, Financial Repression, and Statist Policies

PSEi 30's Weak 9-Month and Q3 Performance Highlights GDP Decline: Symptoms of Crowding-Out and Financial Repression 

The PSEi 30’s lackluster fundamental performance validated the mainstream’s unexpected decline in Q3 GDP, highlighting the persistent effects of crowding out and financial repression. 

I. Clarifying Our Analytics of the PSEi 30 Data 

Two factors must be explained before delving into the 9-month and third-quarter analysis of the performance of PSEi 30 constituent firms. 

First, the definition of data is crucial.  

-Data from the same reporting coverage provides a more accurate comparison, as it reflects the PSEi members during the relevant period. This is referred to here as 1A data.

-Data from a different reporting coverage/period results in an apples-to-oranges comparison due to two factors: periodic updates to PSEi constituents and the exclusion of past data revisions. This is referred to as 1B data.

-Aggregates may be overstated, as they include not only holding companies but also their subsidiaries.

Q3 PSEi 30’s Financial Activities: Defining the Operating Conditions

Next, it is essential to define the operating conditions of the third quarter.

Figure 1

The Philippine Q3 2024 GDP unexpectedly slipped to 5.2%, its lowest level since Q2 2023’s 4.3%, despite systemic leverage hitting an all-time high.  (Figure 1, upper graph)

Public debt and bank credit expansion grew by 11.4%, marking its fastest pace since Q4 2022.

The Bangko Sentral ng Pilipinas (BSP) initiated its "easing cycle" with a 25-basis point rate cut in August, which helped fuel this growth.

Despite reaching the near all-time high employment rate, both headline and core inflation rates fell to 3.2% and 2.6%, respectively, the lowest since Q1 2022. (Figure 1, lower graph)

Figure 2

Marcos-nomics stimulus, channeled through its fiscal aspect, remained vibrant, with public spending growing by 6.4% in Q3, reaching its third-highest level. (Figure 2, upper image)

Once again, despite record leverage, money supply growth, measured by M3, stumbled to its lowest level since Q3 2022.

It was an active period for fiscal and liquidity operations by the banking system and the BSP. As a ratio to GDP, banks' net claims on the central government (NCoCG) reached the third-highest level on record, while the BSP's counterpart dipped to its lowest level since Q3 2022—but still near Q4 2022 record. (Figure 2, lower diagram)

In contrast to the establishment’s "restrictive" narrative, Q3 indicated loose financial conditions, which were further bolstered by the BSP’s rate cut and sustained increases in systemic leverage, supported by BSP and bank liquidity, as well as fiscal operations.

The notion that the BSP’s easing would provide support to the economy not only failed to materialize; consumption fell, as evidenced by the declining trend in the Consumer Price Index (CPI) and the money supply—ironically occurring despite strong liquidity injections.

II. 9-Month 2024 PSEi 30 Performance: Broad-based Slowdown, Sustained Dependence on Borrowing to Generate Growth

These macroeconomic conditions were reflected in the 9-month Key Performance Indicators (KPIs) of the PSEi 30 (1A):

Figure 3

One. The aggregate non-financial debt increased by Php 208 billion, marking the lowest increase since 2020. This figure excludes borrowings of the three largest banks (Figure 3, topmost table) 

Two. The cumulative net income growth of Php 47.17 billion was also the smallest since 2021. 

Three. Revenue expansion, totaling Php 395 billion, was the second lowest since 2021. 

Four. The PSEi 30’s cash reserves shrank by Php 5.27 billion for the second consecutive year, but at a more minimal scale compared to last year. 

These figures indicate that all segments exhibited a slowdown, with net income experiencing the most pronounced decline. 

There’s more. 

Because the non-financial debt-to-net income ratio in 2024 represented the second highest level since 2022, it indicates that corporations borrowed more to generate income (Php 4.4 debt for every peso of net income). (Figure 3, middle graph)

Additionally, they borrowed to address their liquidity shortfall.

However, this data understates the full picture, as it excludes the borrowings of the three largest banks. These banks reported an increase of Php 491 billion in bills payments alone!

III. Dissecting the PSEi 30’s Performance by Category: Debt, Income, Revenues and Cash

Nota Bene: While we rely on the accuracy of these reports, it is worth noting the potential for discrepancies. Past instances, such as PLDT’s 4-year "budget overrun," demonstrate that reporting errors often go overlooked or ignored by both the PSE and government agencies.

Such regulatory lapses could create conditions that encourage misreporting, exemplifying the moral hazard syndrome.

We suspect that some companies may be understating the extent of their leverage by reclassifying it under other liability categories

Debt: In nominal terms, non-financial debt rose by 3.9%, increasing from Php 5.31 trillion to Php 5.52 trillion. This resulted in a slower debt-to-NGDP ratio, which declined from 30.8% in 2023 to 29.25% in 2024 (1B). Again, this excludes bank debt. (Figure 3, lowest window)

Net Income: Published net income expanded by 7.2%, rising from Php 691.2 billion to a record Php 740.93 billion. However, this represented the lowest growth rate since 2021.

Revenues: Despite historic increases in systemic leverage, near full employment and the third-largest public spending on record, revenue grew by an unimpressive 9.4%, reaching a record Php 5.265 trillion.

This also translates to a PSEi 30 revenue-to-NGDP share of 27.9%—the second highest after 2022—indicating that these elite firms contribute more than a quarter of the estimated Nominal GDP. If we include all 284 listed firms, this figure would likely account for approximately two-fifths of NGDP.

This manifests the trickle-down structure of the Philippine political economy, where the prevailing approach prioritizes consolidating wealth and power among politically connected entities through centralization, rather than fostering genuine "inclusiveness" via grassroots entrepreneurship (such as SMEs) or a bottom-up framework.

Lastly, the government reported a headline GDP of 5.2% based on the NGDP of 8.5%. However, revenues of the PSEi 30 grew by only 6.8% suggesting a significant overstatement of the statistical economy. 

IV. Analysis by Sector: Financials and Holding Firms Dominate Growth

Figure 4

Although the holding firms sector posted the smallest percentage growth, it experienced the largest increase in debt, amounting to Php 104.21 billion, followed by the real estate sector with Php 38.62 billion. (Figure 4, upper table)

The financials and holding firm sectors recorded the highest net income growth, with increases of Php 20.327 billion and Php 13.35 billion, respectively, accounting for 43% and 28.3% of the total.

The sector with the highest revenue growth was the holding firm sector, which generated Php 196.653 billion, followed by financials with Php 86.44 billion, representing 49.8% and 22% of the total, respectively.

Meanwhile, the services sector led in cash growth, reporting an increase of Php 21.24 billion. Conversely, the industrial sector experienced the largest cash outflows.

In Q3, holding firms and financials reported the highest net incomes of Php 16.84 billion and Php 7.8 billion, respectively. (Figure 4, lower table)

These two sectors also delivered the strongest revenue growth, with increases of Php 43.36 billion and Php 25.26 billion.

In summary, during the nine-month period and in Q3, the financials and holding sectors dominated net income and revenue growth, while other sectors struggled to keep pace.

V. Analysis by PSEi 30 Member Firms (9-Month)

Figure 5

Broken down into individual categorical activities:

The top firms contributing to non-financial debt increases were San Miguel Corporation (SMC) and Ayala Corporation with increases of Php 63.9 billion and Php 57.6 billion, respectively.

Out of the 27 firms analyzed, 15 posted debt expansion during the period, with SMC accounting for 30% of the total debt growth in pesos.

In the net income growth segment of the PSEi 30, International Container Terminal Services, Inc. (ICT) and the Bank of the Philippine Islands (BPI) were the top performers with Php 9.85 billion and Php 9.441 billion, correspondingly.

On the other hand, DMCI Holdings (DMC) posted the largest decline among the eight firms that reported a decrease in net income growth.

SMC and BPI also led the revenue growth segment. Conversely, DMC reported the largest revenue decrease among the seven firms that experienced revenue declines during the period. Notably, SMC accounted for 30% of total revenue growth in peso terms.

Finally, ICT emerged as the leader in cash reserves growth, while Aboitiz Equity Ventures (AEV) headed the minority of ten issues that saw reductions in cash flows.

Once again, even among the elite firms, only a select few tend to dominate in terms of performance.

Notably, financial giants such as BPI and BDO emerged as some of the most prominent gainers, while non-consumer sectors, including ICT and SMC, led in the net income and revenue segments, respectively.

Interestingly, the underwhelming performance of consumer-focused firms like SM Investments and Ayala Corporation—arguably the most exposed to the local consumer market—highlights the underlying fragility of the sector

VI. Conclusion: Underwhelming Performance as Symptoms of Crowding-Out Syndrome, Financial Repression, and Statist Policies

The Bottom Line: Despite the "Marcos-nomics stimulus," near-record employment levels, and loose financial conditions, the conspicuous signs of weakness among the PSEi 30 member firms not only align with the GDP slowdown observed in Q3 but may also indicate much slower overall growth.

Moreover, this underbelly has exposed the firms’ increasing vulnerability to extensive leveraging.

What is particularly notable is that many of these PSEi 30 firms are linked to political projects that should have enhanced their performance.

Instead, their underwhelming performance could be indicative of the detrimental effects of the crowding-out syndrome—a phenomenon that gradually erodes economic productivity over time—compounded by financial repression and other forms of government interventions (such as the subtle shift to a war economy, increasing centralization and more).

 

PSE Craters as Financials’ Share of the PSEi 30 Hits All-Time Highs; A Growing Mismatch Between Financial Index Performance and Bank Fundamentals

 

History will not be kind to central bankers fixated on financial economy and who created serial speculative booms to sustain the illusion of prosperity. It will also be critical of governments unwilling to address weaknesses, who deflected shifting hard policymaking to independent, unelected and largely unaccountable central banks—Satyajit Das 

In this issue 

PSE Craters as Financials’ Share of the PSEi 30 Hits All-Time Highs; A Growing Mismatch Between Financial Index Performance and Bank Fundamentals

I. PSEi 30 Craters on Signs of Re-Tightening Amid Rising Dollar and Higher UST Yields

II. Despite the Market Carnage: Financials Share of the PSEi 30 Zoom to All-time High!

III. Financialization: The Expanding Role of Banks in Achieving Political Goals

IV. "National Team?" In Q2, Other Financials Corporations Sold, the PSEi 30 Plunged

V. In Q3, Mismatch Between Financial Index-Bank Fundamentals Reached a Blow-off Phase!

VI. Worsening Bank Liquidity Conditions as Cash-to-Deposits Hit Milestone Low

VII. Liquidity and Collateral Crunch? Bank Borrowings, Focused on Bills, Zoomed to Record Highs in September, as Repos also Hit All-time Highs!

VIII. Despite Lower Rates Held to Maturity Assets Near All-time Highs, Record Bank QE

IX. A Snapshot of Q3 and 9-Month Performance of PSE Listed Banks

X. Highlights, Summary and Conclusion

PSE Craters as Financials’ Share of the PSEi 30 Hits All-Time Highs; A Growing Mismatch Between Financial Index Performance and Bank Fundamentals

Even as the PSEi plummeted due to signs of global and local re-tightening, the Financials outperformed, widening the mismatch between share prices and fundamentals. Will a reckoning come soon?

I. PSEi 30 Craters on Signs of Re-Tightening Amid Rising Dollar and Higher UST Yields"

Figure 1

The Sage of Omaha, Warren Buffett, once said, "Only when the tide goes out do you discover who's been swimming naked."

Have the signs of tightening upended the dream of easy money’s "goldilocks" economy, or have they exposed those who have been "swimming naked?"

The surging US dollar index, coupled with rising 10-year Treasury yields—both largely attributed to Trump's policies— has sent global risk assets tumbling. Yet, these developments took shape two months before the US elections. (Figure 1, topmost graph)

This includes the Philippine PSEi 30, which plunged by 4.31%, marking its largest weekly decline in 2024 and the steepest drop since the week of September 30, 2022, when it fell by 8.3%.

As of Thursday, November 14, the headline index broke below the 6,600 level, closing at 6,557.09.

A notable oversold rebound in industrials, led by Meralco (up by 7.78%) and Monde (up by 7.52%), along with financials from BPI (up by 3.7%) and CBC (up by 4.58%), contributed to a low-volume rally of 1.82% on Friday.

Year-to-date, the PSEi 30 is struggling to maintain its narrowing return of 3.5%.

II. Despite the Market Carnage: Financials Share of the PSEi 30 Zoom to All-time High!

The Financial Index, down by only 1.86%, was the least affected in this week’s market carnage. BPI was the only member of the PSEi 30 component to withstand the foreign-driven selloff, while Jollibee ended the week unchanged. (Figure 1, middle pane)

Interestingly, this outperformance has propelled the aggregate free-float market capitalization weighting of the three major banks of the headline index to an all-time high. (Figure 1, lowest chart)

Figure 2

Furthermore, financials accounted for 41.7% of the mainboard's volume on Friday—the third-highest share since October. (Figure 2, topmost diagram)

Meanwhile, October’s cumulative 29.92% accounts for the sector’s highest share since July 2023, which also translates to a 2017 high.

In a related note, the Bangko Sentral ng Pilipinas (BSP) has suspended its free publication of non-BSP-generated data, including PSE data on monthly price-earnings ratios (PER), market capitalization by sector, index data, and volume distribution by sector. This suspension hampers our ability to track critical developments in market internals. (Yes, I wrote them)

The point being, the increasing share of mainboard volume by the financial sector has pillared the rising share of the sector’s market cap share of the PSEi 30.

However, this dynamic also implies growing concentration risk in the stock market.

III. Financialization: The Expanding Role of Banks in Achieving Political Goals

Businessworld, November 13: THE PHILIPPINE banking system’s net profit jumped by 6.4% at end-September as both net interest and non-interest income grew, data from the Bangko Sentral ng Pilipinas (BSP) showed. The combined net income of the banking industry rose to P290 billion in the first nine months of 2024 from P272.6 billion in the same period a year ago.

The PHP 290 billion profit and a 6.4% growth rate represent the Q3 figures year-over-year (YoY).

Continuing from last week’s discussion, the diverging dynamics in the Philippine Stock Exchange (PSE) have also been reflected in the GDP figures. 

Although the financial sector has been on an upward trajectory since the new millennium, its share of the real GDP has rapidly deepened during the BSP’s historic rescue of the sector. 

This was notably influenced by the BSP historic intervention to rescue the sector, which included an unprecedented PHP 2.3 trillion quantitative easing package, historic cuts in official and reserve ratios, as well as unparalleled subsidies and relief measures. 

In line with the rising share of money supply-to-GDP, the financial sector's share of GDP reached its third highest level at 10.8% in Q3. (Figure 2, middle image) 

It even hit an all-time high of 10.9% when considering the 9-month real GDP data. 

While this evolution may be labeled as "financialization," the essential message is clear: BSP policies have led to an economy increasingly immersed (or heavily reliant) in credit and liquidity, primarily channeled through an elite-owned and controlled banking system. 

This deepening dependence comes at the expense of the development of other competing financial conduits, such as capital markets. 

The underlying reason for this is political: the bank-led financial sector serves as the primary non-BSP financier of the government’s deficit spending. 

As a result, the government's calls for improvements in the capital markets appear to be mere lip service. 

However, judging by their "demonstrated preference" in policy choices, it appears that inflating bank shares may serve to camouflage the adverse consequences of this deepening and complex political-economic arrangement. 

IV. "National Team?" In Q2, Other Financials Corporations Sold, the PSEi 30 Plunged

The developments in Other Financial Corporations (OFCs) provide valuable insights. 

In Q2, OFCs eased their holdings of equities.  According to the BSP, "The other financial corporations’ claims on the other sectors dropped as their holdings of equity shares issued by other nonfinancial corporations fell." 

The Non-bank financial institutions and OFCs "includes the private and public insurance companies, other financial institutions that are either affiliates or subsidiaries of the banks that are supervised by the BSP (i.e., investment houses, financing companies, credit card companies, securities dealer/broker and trust institutions), pawnshops, government financial institutions and the rest of private other financial institutions (not regulated by the BSP) that are supervised by the Securities and Exchange Commission (SEC)" (Armas, 2014) 

In the same quarter, OFC claims on the private sector decreased by 0.5% quarter-over-quarter (QoQ), while the PSEi 30 index plunged by 7.1%. (Figure 2, lowest visual) 

My guess is that some of these OFCs are part of what could be considered the Philippine version of the "national team." 

V. In Q3, Mismatch Between Financial Index-Bank Fundamentals Reached a Blow-off Phase!

Nevertheless, the deviation between the fundamentals of banks and their share prices has reached "blow-off" proportions!

Figure 3 

In Q3, the banking system reported a modest growth of 6.4%, slightly higher than Q2’s 4.1%. However, the financial index skyrocketed by 19.4% quarter-over-quarter (QoQ). 

From another angle, 9-month profit growth was up by 5.07%, even as the financial index surged by a stunning 23.4% year-on-year in Q3.

Worst of all, profit trends and the financial index have moved in opposite directions. 

Since profit growth peaked in Q3 2022 and subsequently eased, shares of the seven-member bank stocks (excluding the eighth member: PSE) within the financial index have continued to accelerate. (Figure 3, topmost window) 

Meanwhile, given that universal and commercial banks account for 93.9% of total bank assets, their profit growth largely mirrors the entire banking system. In Q3, profit growth was 7.03%, and on a 9-month basis, it stood at 6%. 

These figures underscore the increasing monopolization of the financial industry by banks validated by the BSP’s Total Financial Resources (TFR) data. 

Total financial resources grew by 10.07% to a record PHP 33.08 trillion. 

The banking sector’s share surged to an all-time high of 83.3%, driven mainly by universal and commercial banks, whose contribution reached a record 78.1%. (Figure 3, middle image) 

So let us get this straight: banks have increased their share of trading activities in the PSE, as well as their slice of both the PSEi 30 and the GDP pie. They now command 83.3% of total financial resources and are continuing to rise. 

This dominance doesn’t even account for their substantial role in the local bond markets, where they act as issuers, intermediaries, and holders. 

Even without the BSP acknowledging this, what we are witnessing is the intensifying risks within the Philippine financial-economic system. 

VI. Worsening Bank Liquidity Conditions as Cash-to-Deposits Hit Milestone Low

Have you ever seen any experts or establishment analysts address the developing contradiction between the banks' reported profits and their liquidity conditions? 

Cash and due from banks, or bank cash reserves, plummeted by 13.6% in September 2024, following a brief 4% rebound in August. This decline brought cash reserves to their lowest level since 2019. (Figure 3, lowest graph) 

To address the emerging liquidity shortfall, the BSP previously reduced the bank reserve requirement ratio (RRR) from 19% to 14%, implemented in seven installments from March 2018 to December 2019. 

Cash reserves saw a temporary spike in 2020 when the BSP injected Php 2.3 trillion into the system, accompanied by an RRR cut from 14% to 12% in April 2020. 

However, facing diminishing returns, cash reserves resumed their downward trend. 

Once again, doing the same thing and expecting different results, the BSP reduced the RRR by a larger margin than in 2020, lowering it from 12% to 9.5% in June 2023. 

Despite these efforts, the challenges within the banking system's cash reserve position have persisted.

Figure 4

Moreover, while the growth in peso deposit rates increased from 6.9% in August to 7.07% in September—the slowest growth rate since July 2023—the BSP’s cash-to-deposit ratio plummeted to 12.44%, its lowest ratio since at least 2013! (Figure 4, topmost and second to the highest graphs) 

Yet, with the record bank credit expansion, why the sluggish growth in deposits? Where did the money flow into? 

Even with the recent decline in inflation rates, have a minority of "banked" households continue to draw from their savings? 

Furthermore, the banks' liquid asset-to-deposit ratio, which includes both cash reserves and financial assets, fell to 50.34%, reverting to levels seen during the BSP's rescue efforts in July 2020. 

Incredible. 

And this is just one facet of the mounting liquidity challenges that banks seem to be facing. 

VII. Liquidity and Collateral Crunch? Bank Borrowings, Focused on Bills, Zoomed to Record Highs in September, as Repos also Hit All-time Highs! 

More eye-catching data emerged last September. 

Bank borrowings—primarily in short-term bills—skyrocketed to an all-time high! Borrowings surged by 49.7%, reaching a record PHP 1.7 trillion, with their share of total liabilities climbing to 7.3%, the highest since 2021. (Figure 4, second to the lowest and lowest charts) 

The liquidity shortfall is most pronounced over the short-term, this is why bank’s bills payable zoomed to unscaled heights.

Figure 5

Not only that, bank short-term repo (repurchase agreements) or RRP (reverse repurchase) operations with the BSP and other banks have also launched into the stratosphere!

With record repo operations, the RRP’s 3.72% share of the bank’s total assets surged to the highest level since at least 2015! (Figure 5, upper image) 

Could this rampant use of repurchase agreements (repos) be underlying growing collateral issues in the financial system? As banks increasingly depend on repos for short-term liquidity, are we witnessing a decline in the quality of collateral or a shortage of high-quality assets available for these transactions? 

These developments likely explain the BSP's abrupt announcement of the latest series of RRR cuts, which took effect last October. 

However, such actions resemble a Hail Mary pass, with RRR ratios now headed toward zero. 

VIII. Despite Lower Rates Held to Maturity Assets Near All-time Highs, Record Bank QE

Another paradox: banks reported that credit delinquencies—across the board—marginally declined in September. (Figure 5, lower diagram) 

If this is true, then higher profits combined with lower non-performing loans (NPLs) should result in more, not less liquidity 

Figure 6

Additionally, the easing of interest rates, as indicated by declining treasury yields, should have reduced banks' held-to-maturity (HTM) assets. As noted repeatedly, HTM assets drain liquidity because they lock up funds. (Figure 6, topmost graph)

Yet, there hasn’t been significant improvement in this area. 

Moreover, since authorities aim to meet year-end spending targets, boost GDP, and finance the upcoming elections, it is expected that the government will ramp up its deficit spending in Q4. 

This increase in public spending will likely lead to a rise in banks' and the financial sector’s net claims on central government (NCoCG), which may translate to higher HTM assets. (Figure 6, middle chart) 

Furthermore, if the current trend of declining inflation reverses, or we experience a third wave of rising inflation, banks might resort to accounting maneuvers to shield themselves from potential mark-to-market losses by shifting these assets into HTMs. 

That is to say, increases in debt-financed government spending and rising inflation rates could therefore result in higher levels of HTM assets.

Above all, banks are not standalone institutions; they have deep exposure to counterparties. As noted last week, 

Led by banks, the financial sector is the most interconnected with the local economy.  Its health is contingent or dependent upon the activities of its non-

financial counterparties. 

Alternatively, the sector’s outgrowth relies on political subsidies and is subject to diminishing returns. 

Yet ultimately, this should reflect on its core operational fundamentals of lending and investing. (Prudent Investor, October 2024) 

The transformational shift in the banking system’s business model—from production and consumption—could be ominous. Part of this shift has been motivated by pandemic-era subsidies and relief measures, as well as a move away from unproductive industry loans. 

As a result, the consumer share of total bank loans (excluding real estate) reached an all-time high of 14.9% in September 2024, while the share of production loans declined to 82.7%. The remaining 2.4% comes from non-resident loans. (Figure 6, lowest image) 

Banks have embraced the government’s belief that spending drives the economy, neglecting the balance sheet health of individuals, as well as the potential misallocations as a result of artificially low rates. 

But what happens to the consumer economy once their balance sheets have been tapped out? 

This should not surprise to our readers, given that the "inverted belly" of the Treasury yield curve has already been signaling these concerns.

IX. A Snapshot of Q3 and 9-Month Performance of PSE Listed Banks

Finally, here is a snapshot of the micro aspects of the financials.

Table 7

The performance of PSE-listed banks indicates that while all-bank profits grew by 14% to Php 226 billion in the first nine months of 2024, bills payable jumped by 79%, or Php 579 billion, reaching Php 1.31 trillion. This increase in bills payable signifies more than double the net profits generated over the same period. The data excludes the small-scale Citystate Savings Bank [PSE: CSB]. [Table 7]

PSEi banks accounted for 84% of the nine-month increase in bills, relative to their 73% share of net income growth. Metrobank [PSE: MBT] represented the most aggressive borrower, with a 61% share. 

We have yet to reconcile the stark divergence between the reported BSP bank performance and the aggregate activities of listed firms. 

Nonetheless, through aggressive lending, banks boosted their top and bottom lines in Q3, positively impacting the nine-month performance. 

Fueled by a 29.7% growth in non-PSEi banks, the net income growth of all banks soared by 22%. 

X. Highlights, Summary and Conclusion 

In the end, we can summarize the banking sector as having the following attributes: (as of September or Q3) 

1. all-time highs in:

-Financial Index

-market cap share of the PSEi 30 (3 biggest banks)

-turnover of financial sector to mainboard volume (near)

-nominal or Philippine peso and % share of total financial resources

-nominal net claims on central government

-nominal Held-to-Maturity assets

-total bank lending in Philippine pesos

-percentage share of consumer bank lending

-nominal bank borrowing (mainly Bills)

-nominal repo operations

- nominal net financial assets

2. Historical lows in:

-cash-to-deposits

-production pie of total bank lending

-reserve requirement ratio

3. Declining trend in:

-cash reserves

-profit growth

-deposit growth

-liquid asset-to-deposit ratio

How is it that the supposedly "profitable" financial institutions, supported by the recent slowdown in non-performing loans, have been accompanied by sustained declines in deposit and savings rates, as well as a massive hemorrhage in liquidity that compelled them to rapidly access short-term financing via bills and repos?

Have profits been overstated? Have NPLs been understated?

To what extent have the BSP’s relief measures and subsidies caused distortions in banks’ reporting of their health conditions?

Why the flagrant disconnect between stock prices and the actual conditions of the banks?

Could the "national team" have been tasked with camouflaging recent developments through a panicked pumping of the sector’s shares?

Does the ongoing shortfall in liquidity portend higher rates ahead?

Given all these factors, what could possibly go wrong?

As we recently pointed out,

To be clear, we aren’t suggesting that CBC and other record-setting bank shares, such as BPI, are a simulacrum of Lehman; rather, we are pointing to the distortive behavior of speculative derbies that may hide impending problems in the sector. (Prudent Investor, October 2024)

____

References 

Satyajit Das, Central banks: The legacy of monetary mandarins, New Indian Express, November 15, 2024 

Jean Christine A. Armas, Other Financial Corporations Survey (OFCS): Framework, Policy Implications and Preliminary Groundwork, BSP-Economic Newsletter, July-August 2014, bsp.gov.ph 

Prudent Investor, Q3 2024 5.2% GDP: Consumers Struggle Amid Financial Loosening, PSEi 30 Deviates from the GDP’s Trajectory, November 10, 2024 

Prudent Investor, Important Insights from the Philippine PSEi 30’s Melt-Up! October 7, 2024