The BSP Extends Credit Card Interest Rate Cap Amidst Another "Aggressive" Hike in Policy Rates

The BSP extended the interest rate caps on credit cards until the end of the year, while hiking policy rates by another 75 bps. How serious are they in trying to curb inflation (via demand)? 

Businessworld, November 16: THE BANGKO SENTRAL ng Pilipinas (BSP) said it will review the current cap on interest rates and other charges imposed by credit card companies in January. This after the Monetary Board agreed last week to maintain the existing ceiling on credit card interest rates and other charges until end of 2022. The BSP kept the maximum interest rate or finance charge on an unpaid outstanding balance of a credit cardholder at 2% per month or 24% a year. It also set the maximum monthly add-on rate on credit card installment loans at 1%. A maximum processing fee of P200 per credit card cash advances was also maintained. 

The BSP's unprecedented response to curb the surge in the CPI has been to hike rates drastically.  This week, it increased policy rates by another 75 bps to 5%, for an aggregate increase of 300 bps (3%) in seven months! 

 

Topping the acme of 4.75% in 2019, the present level of official rates is at a 13-year high! 

 

But keeping the interest rate cap on the credit cards essentially fosters a mismatch between policy rates and the price caps. 

 

The Crowding Out and the Ratchet Effect 

Figure 1 

Aside from filling the chasm from the loss of purchasing power of the peso, the magnified consumer credit card growth represents a textbook response to interest rate caps. (Figure 1, topmost window) 

 

While there have been no supply shortages (yet), its spiking growth rate has vastly increased its share of total outstanding loans in the banking system, "crowding out" production loans. (Figure 1, middle pane)  

 

Universal and commercial bank credit card loans zoomed by 23.84% in Q3 to lift nominal loans to a record. (Figure 1, lowest pane) 

 

The outgrowth of consumption over production lending translates to what mainstream calls "demand pull" inflation.  

 

Yet, such "crowding out" represents another sign that locals are consuming more than they are producing—paid for by credit. 

 

Naturally, the price ceiling induces "excess demand" for credit card use, which, aside from amplifying inflation, reinforces the GDP and tax collections.  

 

Hence, keeping the price caps became a convenient political issue. 

 

The BSP price caps (subsidy) demonstrate how crisis intervention measures embed and skew political benefits to vested interest groups and why emergency mandates become an extended, if not a permanent element, of existing policies.  The great Austrian Economist Robert Higgs described this phenomenon as the "Ratchet effect."  

 

As such, the sustained appeals for the extensions of such price caps. 

 

The Unseen Costs of the BSP’s Price Caps 

 

But the surge in credit cards aggravates the balance sheet leverage of consumers, which in the face of rising rates, means higher delinquency rates moving forward. 

Figure 2 

Non-Performing credit card loans ascended as treasury yields rose in 2018 in response to the escalation of the CPI. (Figure 2, topmost pane)    

 

As a caveat, the prevailing assortment of "relief measures" of the BSP on the banking system have camouflaged bank NPLs, including credit card loans, hence the opacity of NPL data. (The BSP has yet to update its consumer loans data)  

 

Not just the deterioration in credit conditions of consumers but the mismatch between market rates and the price caps translates to an intensifying squeeze in interest rate spreads (margins) for banks.  

With consumer loans representing less than 5% of the outstanding, perhaps the BSP bets that any imbalances from such caps would not be sizeable enough to debilitate the industry. 

 

They seem to have forgotten that rising rates have not only dismantled the pandemic subsidies granted to banks through the deposit expense channel. (Figure 2, middle pane) It should also swell bank funding costs similar to 2018.  (Figure 2, lowest window) 

 

Hence, the mismatches from price controls are likely to aggravate maladjustments in the financial system and the economy.  

 

To ram the point home, the ramifications of massive consumer borrowing from the future to juice up the GDP (and tax collections) should eventually translate to sustained price pressures, lower demand or economic growth, higher credit risks for consumers, and expanded risks to the banking and financial system. 

 

Nevertheless, such interest rate controls should accelerate "excess demand" in Q4, which again should temporarily help boost the GDP and taxes.  It should also abet price pressures in the economy. 

 

PSEi 30: Bear Market Rallies in the Era of Stagflation

 

Preservation of capital is primary. Profits are acutely important but secondary, and, before you make any investment decision, you should first ascertain the risk inherent in that investment vehicle and decide in your own mind what the worst possible outcome could be. Only when you have gone through this type of ‘‘risk reflection,’’ can you make an informed decision of whether the particular investment is right for you. The human condition is to look at ‘‘best case’’ not worst case—Harry D. Schultz 

 

In this issue: 

 

PSEi 30: Bear Market Rallies in the Era of Stagflation 

I. PSEi 30 Oversold Rally: Concentration of Gains on Biggest Market Cap Issues 

II. Contra BSP’s Tightening, Rallying Stock Market Redound to Financial Easing 

III. PSEi 30 Earnings Boom amidst Raging Inflation? 

IV. Relative to the PSEi 30: Banks Outperformed, Property Sector Lagged 

 

PSEi 30: Bear Market Rallies in the Era of Stagflation 

 

Bulls believe that the downcast domestic stock markets should soon rise. They anchor their hopes on a changeover from "transitory" to "peak inflation," which should prompt the BSP to respond with a "pivot."  The other rationalization is that the Philippines will "decouple" from global developments. 

 

The BSP and the PSE fuels such hopes by indicating that the downdraft in the bellwether has made domestic equity assets "cheap."    

 

What's more, while the principal benchmark, the PSEi 30, dropped below the 6,000 level anew last Friday, the performance of the property and bank sectors has diverged, favoring the latter, giving the impression that banks are least affected by spiking interest rates. 

 

I. PSEi 30 Oversold Rally: Concentration of Gains on Biggest Market Cap Issues 

Figure 1 

At the start of last week, a three-day spike pushed returns of the PSEi 30 to 4.13%!   However, the declines of the next two days wiped out about 68% of such gains, so the primary equity bellwether closed the week higher by 1.33%.  

  

Though the weekly average main board volume of Php 4.52 billion showed a 36.1% improvement after skidding to Php  3.32 billion a week ago, a May 2020 low, this gain was more about the base effect. 

 

It would be easy to infer this rally as a reflexive recoil from an oversold market.   But as it happened, the individual performance and the eye-popping mark-the-close developments showcased the concentration of activities, which came at the expense of the PSE universe.  (Figure 1, topmost pane from Technistock)  

  

It was a mixed performance, even for the index components of the PSEi 30, with advancers slightly ahead (16-14).  (Figure 1, middle window) 

 

Gains of Ayala Land (+10.43%) and Ayala Corp (+8.4%) shored up the index as their combined share of weekly trading volume relative to the index increased to 14.16% from 11.6% a week ago. 

 

The determined attempt to push the index higher could have diverted the volume away from the PSE universe, which led to the latter's dismal activities. 

 

Briefly, the index rallied while the broader markets sold off marginally. 

 

Nota Bene:  The skewed distribution of the weights, where the top 5 issues hold a commanding 44% of the aggregate market cap, barely represents the stock market. 

 

II. Contra BSP’s Tightening, Rallying Stock Market Redound to Financial Easing 

 

To contain inflation, the BSP has raised rates at an unprecedented speed and scale.  By raising rates, it targets to curb demand through the 'credit channel,' which means the BSP hopes to drain excess liquidity from the economy. 

  

But instead of hitting its target, a substantial rise in the equity markets extrapolates to an "easing of financial conditions," which may further fuel inflation.  It could encourage bank credit flows toward equity speculation that funnels money supply indirectly to the economy.  

  

Previously, the bull market in the PSEi 30 started with a downtrend in the CPI (2009-2015).  Nonetheless, the aging equity bull market surfed with a rising CPI (2015-18) but climaxed ahead. (Figure 1, lowest pane) 

  

But the BSP can't allow further asset value deterioration because it should affect the financial industry and the economy through the escalating risks of credit deterioration, which will be manifested primarily through liquidity, collateral, and counterparty channels.  And though the BSP prefers to see both conditions (a rising market and a contained CPI), that's their dilemma.   They can't have their cake and eat it too.  

  

And that's not all.  Aside from the addiction to an easy money regime, popular politics is about the free lunch of deficit spending.  Yet, the further the economic turmoil, the greater the demand for political subsidies and various interventions.   

 

Here's an example.  

 

Inquirer.net, October 22: National Economic and Development Authority (Neda) Chief Arsenio Balisacan on Saturday stressed on the importance of shielding the poor from the effects of high inflation by giving them financial aid. “Moving forward, we need to speed up providing financial assistance to the poor [and] most vulnerable groups,” said Balisacan in a press release from the Office of the Press Secretary. 

 

The intensifying use of political controls, exemplified by the lockdowns, and the thrust towards centralization (recent example: the ratification of the SIM card registration), should also add to these accrued imbalances.  

  

As it is, such activities only entrench the structural forces of inflation, which reinforces its long-term uptrend. And yes, the uptrend won’t be linear, which means there will be countercyclical fluctuations. 

 

For these reasons, unless there should be a reversal of the present policies, the economy should endure an era of stagflation fortifying the current bear market cycle. 

 

And yes, markets operate on cycles too. 

 

III. PSEi 30 Earnings Boom amidst Raging Inflation? 

 

Figure 2 

 

The belatedly released BSP-PSE data showed that the PER of the PSEi 30 dropped to 13.93 from a combination of depressed prices on the back of rising earnings! (Figure 2, topmost window) 

 

Even with companies yet to release their report, earnings per share zoomed 29.1% YoY in September and 7.4% MoM.  With this, earnings have recouped to the 2018 levels. (Figure 2, middle window) 

 

Yet when seen from the 2021 eps, even at Friday's close, the average PER remains pricey at 21.07! (Figure 2, lowest window) 

 

The BSP/PSE data barely discloses the calculation for the EPS.  

 

As previouslyshown, firms of the PSEi 30 have grown debt more than eps in Q2. This dynamic is likely to have extended in Q3. 

Figure 3 

Next, with the current inflationary episode, various government data suggest a profit margin squeeze via negative spreads between the CPI and General Wholesale Prices, the CPI and Producers Price Index (PPI), and the Construction Material Retail and Wholesale Prices, which should cover most of the industries. (Figure 3) 

 

The discernible negative spreads reveal that either the CPI is understated or firms reported inflated margins, thereby, the possible overstatement of the eps.  

 

The estimated margin squeeze also partly explains the ballooning debt levels of these firms, which manifest attempts to fill the liquidity gap on their balance sheets.  

 

In any case, the era of stagflation is about to compress margins further, magnify credit and other risk factors and increase pressures on unemployment which should result in economic stagnation.   

 

IV. Relative to the PSEi 30: Banks Outperformed, Property Sector Lagged 

 

Thinning trading volume has served as a crucial factor in the slump of the PSEi 30 and the PSE.   But the distribution of decline and trading volume per sector has not been the same.   

Figure 4 

Relative to the PSEi 30, the foremost gainer has been the financial sector, which gained a foothold and sprang forward since the BSP infused unparalleled liquidity in 2020.  Or, the BSP's rescue of the banking system caused its stocks to outperform.    

 

The financial index has risen along with the 10-year Treasury bond, which provides a seemingly misleading picture that the sector benefits from rising rates.  (Figure 4, topmost pane) 

 

On the other hand, compared to the PSEi 30, the property index signified the laggard among the sectors.  Rising bond yields have magnified its downturn.  (Figure 4, second to the highest pane) 

 

Interestingly, the property sector is the largest bank borrower/client. (Figure 4, second to the lowest pane) 

 

Though its share of bank lending has dropped from a record in August 2022, it was at 4Q 2021 levels.  The sector has accounted for over one-fifth of bank loans.  And this excludes consumer real estate bank loans.  

 

Finally, while the financial sector beat the PSEi 30, it came in the light of lackadaisical volume.  

On the other hand, accompanying the steep descent of the property sector has been a surge in the sector's share of gross traded volume.  (Figure 4, lowest windows) 

 

The market could be misreading the strength of the financial sector, or like the peso, "shadow" institutions have provided a cushion to project "stability." 

Be careful out there.