In any type of activity or business divorced from the direct filter of skin in the game, the great majority of people know the jargon, play the part, and are intimate with the cosmetic details, but are clueless about the subject—Nassim Nicholas Taleb
In this issue
Headline CPI at 40-month Low Diverges with the CORE; Plummeting M2’s Savings Deposits Should Spur the BSP to Relaunch QE Soon
-As Political Statistics, the CPI May Reflect on Political Agenda; Negative Variance Between Headline and CORE CPI Hits Record!
-The Logical Inconsistencies of the CPI Data
-Unrealistic CPI: Consumers on Credit-Financed Spending Spree as Supply Side Remains Lackluster
-Will Stumbling CPI Fuel a Boom in GDP and Stocks?
-Dialing Back on Rice Tariffication; DEFLATION of M2’s Savings Deposits Should Spur the BSP to Relaunch QE!
Headline CPI at 40-month Low Diverges with the CORE CPI; Plummeting M2’s Savings Deposits Should Spur the BSP to Relaunch QE Soon
As Political Statistics, the CPI May Reflect on Political Agenda; Negative Variance Between Headline and CORE CPI Hits Record!
With the roundtrip of the CPI to a 40-month low, political authorities have swiftly claimed credit for it.
Reported the Inquirer (October 4, 2019): One of the loudest cheers at the 0.9 inflation rate in September came from the Bangko Sentral ng Pilipinas (BSP) which had forecast an inflation range of 0.6 to 1.4 percent, nearly hitting the exact mark…In a statement, the BSP said the 0.9 inflation rate was “driven by continued decline in rice prices and electricity rates which offset higher prices of petroleum and selected food products.”
From another Inquirer article (October 4, 2019): Malacañang welcomed Friday the slowest inflation rate in over three years, which the Philippine Statistics Authority (PSA) pegged at 0.9 percent in September, saying that it shows the administration is “delivering results.” “We are elated to hear the Philippine Statistics Authority report that inflation is at its slowest pace in over three years. Despite the criticisms this administration receives, economic indicators show that our government is delivering results,” Communications Secretary Martin Andanar said in a statement.”
The CPI, along with the National Accounts (GDP), represents government constructed statistics that have a significant impact on the financial and political front.
The Philippine Statistics Authority on the Primer on the CPI: “The CPI is most widely used in the calculation of the inflation rate and purchasing power of the peso. It is a major statistical series used for economic analysis and as a monitoring indicator of government economic policy.” (bold added)
Because of the incentives to influence the political environment are inherent in a political organization, and because such statistics are not subject to audit, the CPI may be indirectly constructed to promote policy agendas than for objective reporting.
And since a critical source of government financing emanates from the capital market, which is sensitive to the perception of inflation, the central banks may use the CPI as a “signalling channel” tool designed to influence the marketplace.
This October 7th headline from the Inquirer, “T-bills sold out, but rates fall amid skimpy inflation”, provides a clue.
And for the first time since the Philippine Statistics Authority published CPI under 2012 price methodology, the September data reveals a milestone divergence between the CORE and Headline CPI! (figure 1, upper window)
That is, the free fall of the headline CPI in September was a product of the price deflation in two of its major components, namely Food and Alcoholic Beverage and the Transport CPI!
Figure 1
Comprising the component with the biggest 38.34% pie of the CPI basket, the Food and Non-alcoholic beverages (FNAB) CPI registered a -.94%, a deflation, in September from +.56% in August. (figure 1, middle pane)
Deflation in the Transport CPI, the fourth main constituent of the basket, widened to -.93% in September from -.14% a month ago.
Meanwhile, at 2.74%, the CORE CPI remains adrift, not so distant from its previous peaks of 2013 (3.27% in December 2013) and 2017 (2.89% in March 2017).
In perspective, while the CORE CPI was down by 46.3% from its zenith at 5.1% reached last November 2018, the headline CPI collapsed by 86.3% from its acme at 6.7% reached last September 2018. Put differently, the differentials between the headline and the CORE CPI rates, a negative, hit a landmark. (figure 1, lowest pane)
Such divergence, an anomaly, should put a doubt on the credibility of such data.
The Logical Inconsistencies of the CPI Data
And what an irony, as food prices nose-dived, the Restaurant and Miscellaneous Goods (RMG) CPI had barely been changed! The RMG CPI dropped only to 2.97% in September from 3.16% in August as FNAB plunged to -.94%, a deflationary zone. (figure 2, upmost pane)
Figure 2
The first implication: instead of consuming food at home, households had their meals at restaurants. It stands to reason that the plunging food CPI, in the face of seemingly inelastic Restaurant CPI, must translate to a spike in the restaurant’s profit margins!
Such a gigantic boost on the income statement of publicly listed restaurant chains had barely found support from 1H data. The asymmetry between Food and Restaurant CPI had been a dominant phenomenon this year.
The next inference: Even the expanded demand from the Restaurant industry failed to bolster the overall prices of food indicates! Such represents statistics operating in a void!
Consequently, the marginal decline in the Restaurant CPI, if anywhere accurate, should extrapolate to lower revenues from dampened demand!
Third, the September data exhibits that the emergence of the African Swine Fever (AFS) had a NEGLIGIBLE impact on the nation’s food supply!
While the data supported the official perspective, even authorities recognize that the slack in pig supply would entail a substitution of consumption to other food items. In other words, should the outbreak intensify, the AFS would REDUCE, not just the supply of pigs, but the OVERALL or TOTAL food supply, ceteris paribus!
So UNLESS the supply of the other food items materially improves to sufficiently meet the increased demand from substitution, the AFS would represent a temporary supply shock that would noticeably raise food prices (thereby bring about an increase in supplies)!
Public official maintains a benign outlook of the impact of the AFS on the national pig supply. However, other studies see the risk that the spreading of the AFS could knock off a considerable supply of pigs!
Fourth, in the world of statistics, it is a land of aplenty!!!
So aside from rice (-8.9%) and corn (-4.1%), vegetable prices (-4.7%) likewise suffered from a deflation. So scratch out a veggie diet in September!
And since meat (+2.4%) and fish (+1.2%) prices had tempered inflation in the same period, only fruit prices (+7.9%) saw a spike.
So have households been having a mostly fruit diet at the expense of meat and veggies? Or has the general public been fasting? Or have Martians provided the Philippines with alternative meals?
Logical inconsistencies reveal the inaccuracies from egregious errors, or numerical gymnastics applied by statisticians to arrive at such incredible self-contradicting numbers.
Unrealistic CPI: Consumers on Credit-Financed Spending Spree as Supply Side Remains Lackluster
And it doesn’t stop here.
Developments in the demand and supply spectrum, predicated on credit and liquidity data, don’t seem to fit.
The BSP reported on the Banking System’s August Loan Portfolio: “Loans for production activities—which comprised 87.4 percent of banks’ aggregate loan portfolio, net of RRPs—expanded at a slower pace of 9.0 percent in August from 9.8 percent in the previous month. The growth in production loans was driven primarily by lending to the following sectors: real estate activities (17.7 percent); financial and insurance activities (16.3 percent); electricity, gas, steam and air conditioning supply (11.2 percent), construction (39.2 percent); and wholesale and retail trade, repair of motor vehicles and motorcycle (3.7 percent). Bank lending to other sectors also increased during the month, except those in professional, scientific and technical activities (-38.9 percent) and other community, social and personal activities (-35.9 percent). Meanwhile, loans for household consumption grew by 25.4 percent in August from 23.0 percent in July, due to faster growth in motor vehicle, credit card, and salary-based general purpose consumption loans during the month.
So while the bank loans to the production side of the economy continue to decelerate, consumer borrowing caught fire! (figure 2, middle pane)
Bank lending to the consumer hit an all-time high rate of 25.4%, backed by credit card growth, which zoomed to a historic 26.4% clip! Auto loans rocketed to 28.94% in August! Even payroll loan growth jumped 7.7% from 6.4% from a month ago. (figure 2, lowest pane)
Have consumers been imbibing more leverage to augment, possibly, burgeoning deficiencies in income growth?
Bank lending to the consumer’s auto loans flourished in August, yet vehicle sales growth shrunk by 2.4%. (figure 3, upmost window) Will sales exhibited by the excess credit financing in August appear in a ‘stronger than expected’ data in September?
The only segment that showed an increase in the CPI data — a huge one — was alcoholic beverage and tobacco [ABT] CPI, which vaulted to 14.3% in August from 10.07% in July, a 42.07% spike. The ABT spiral may be due to hoarding in anticipation of the likely imposition of a higher sin tax.
Outside vehicle sales and rice, what undergirded the consumer's booming use of credit card and the improvement in payroll loans? If not for spending, has these been about the settlement of existing loans? Why has the CPI not manifested these? Has the supply side of consumer goods grown at the pace of credit-fueled demand?
Figure 3
Neither domestic production nor imports support the view that the supply side matched consumer demand growth. The PSA’s August data on industrial production reported a 7.8% contraction, its 9th straight month, or a recession! Food manufacturing even crashed by -18% in August, worse than -11.4% in July. (figure 3, middle window)
Meanwhile, import growth shrunk 11.77% in August, according to the PSA, marking the fifth consecutive month of declines!
Downside pressures have afflicted the supply side for months, in response to the softening of previous demand as a consequence of a liquidity crunch. Since the August CPI was 1.7%, September’s .9% could even mean lower numbers! (figure 3, lowest pane)
If the boom in consumer credit has been about spending, why should the CPI sink to such level when the supply has barely been growing?
The CPI is supposed to represent a process, a trend. Therefore, the time lag in the published data of the bank credit and supply side showcases the previous infirmities contributing to the September’s .92% CPI.
Will Stumbling CPI Fuel a Boom in GDP and Stocks?
Falling CPI, it has been popularly held, would automatically translate to boost in the consumer’s spending power that should distill into earnings and GDP.
While this notion embeds some grain of truth, the CPI should reflect on the balance of demand and supply. What has caused the plunge of the CPI? Has it been an avalanche of output? Or has relatively weaker spending, from the productive sector or the households or both, been its cause?
Figure 4
Instead, the current CPI downturn has been a product mostly of demand, as evidenced by the downtrend in the growth of credit in the production sector, which has diffused into money supply growth.
Falling CPI equals a boom in GDP? Even empirical evidence defies this notion! Tumbling CPI translates to a raging PhiSYx? Empirical evidence points to the other direction! (figure 4)
In contrast, in the past, it has been loose money conditions, which drove the CPI higher that has provided a boost not only to the Nominal GDP but also to the stock market with a time lag. When surging CPI reaches a threshold of pain, ventilated through political outcries, that’s when the CPI backfires on the GDP.
To be sure, it is true that real economy inflation has been decelerating, but the CPI has been overstating this.
Dialing Back on Rice Tariffication; DEFLATION of M2’s Savings Deposits Should Spur the BSP to Relaunch QE!
But the CPI should mount a comeback.
First of all, shifting political winds may alter the supply-side conditions.
The record divergence of the Headline and the CORE CPI alludes to the politicization of the rice supply in response to last year’s shortages. Or, the frantic political response has signified a critical source of the so-called deflation in the food CPI, and consequently, the headline CPI.
Cascading rice prices, which have affected farmer's income, nevertheless have prompted the National Government to reckon with a dial back on the shift to tariffs from quotas for rice imports. Rice inventories in September 2019 soared by 57.9% from a year ago, according to the PSA.
And the proposed adjustments on the Tariffication law would come in the form of significant hikes in tariffs and from the likely imposition of non-tariff barriers, through quality restrictions or ‘safeguard duties’.
Once this political change takes hold, then the manna from the deflation of rice prices should reverse.
Next would be the demand component from money supply growth.
From the BSP’s August report on Domestic Liquidity: “Preliminary data show that domestic liquidity (M3) grew by 6.2 percent year-on-year to about ₱11.9 trillion in August 2019, slightly slower than the 6.7-percent growth in July. On a month-on-month seasonally-adjusted basis, M3 increased by 0.3 percent. Demand for credit remained the principal driver of money supply growth. Domestic claims grew by 6.2 percent in August from 5.8 percent (revised) in the previous month. This was due mainly to the sustained growth in credit to the private sector. Loans for production activities continued to be driven by lending to key sectors such as real estate activities; financial and insurance activities; electricity, gas, steam and airconditioning supply; construction; and wholesale and retail trade, repair of motor vehicles and motorcycles. Loans for household consumption increased due to the growth in credit card loans, motor vehicle loans, and salary-based general purpose consumption loans during the month. Meanwhile, net claims on the central government grew by 2.1 percent following a 1.8-percent contraction in July, reflecting the increased borrowings by the National Government.” (bold added)
Because “demand for credit remained the principal driver of money supply growth”, the sinking growth rate of the banking system’s overall portfolio have not only reduced growth in the benchmark M3 money supply but also contributed to the CPI’s crash.
The thing is, WHY has the money supply has been in a slump?
Figure 5
M1: currency outside depository corporations (in circulation) and Transferable Deposits included in broad money
M2: M1+ other deposits in broad money consisting of savings deposits and time deposits, lastly
M3: M2 + securities other than shares included in broad money (deposit substitutes)
The collapse of the savings deposits component of M2 has fundamentally fueled the plummeting M3 rate.
M2’s Savings Deposits shriveled (-) 2.2% in August, the second time after June’s -.6%, representing the biggest contraction of the year! The last time banks suffered from savings deposit deflation, as reflected in the money supply conditions, was over 10-years ago or in February 2009 in the aftermath of the Great Recession!
At any rate, savings deposits deflation signifies more symptoms of the banking system in distress.
But the growth rates of the other M3 components have been headed downhill too.
After its growth pinnacle in April 2016 at 20.2%, cash in circulation has been southbound. It registered a 12% clip in August, a 27-month low, was slightly down than 12.4% rate in July. Needless to say, the growth rate of cash last August has signified a 40.6% crash from its April 2016 apex.
The growth rate of M2’s Time Deposits slipped to 11.7% in August from 13% a month ago, but has rallied from a 5.3% low in September 2018. Time Deposits growth has climaxed at 22.7% rate in September 2017.
In the meantime, the growth rate of M1’s Transferable Deposits growth almost doubled to 8% from 4.8% over the same period. The spike of M1 had been accounted for by Transferable Deposits and not by cash in circulation. According to the BSP’s Glossary: Transferable Deposits Included in Broad Money, Other Resident Sector refers to the “BSP's peso deposit holdings of its employees' provident and housing funds.” So funds from the BSP’s employees had been responsible for such an upside spiral.
And deposit substitutes have signified the only M3 component in a steady uptrend. Following a trough in December 2016, Deposit substitutes (Securities Other Than Shares Included in Broad Money) growth continued to climb higher and has presently been drifting at a 10-year high.
And since ‘Securities Other Than Shares’ represent all types of money market borrowings by banks like promissory notes, repurchase agreements, commercial papers/securities and certificates of assignment/participation with recourse, its surge highlights the financial system’ sharp increase in the use of leverage, including very short-term lending!
So not only have savings deposits flowed into the coffers of the National Government and the banking system, but it has funded many forms of leveraging too amplifying systemic fragility!
With the stumble of M3’s savings deposits into deflation territory, the BSP will likely supercharge its QE, if the RRR cuts would prove to be ineffectual. Liquidity represents the primary risk, as admonished the BSP Governor Ben Diokno in their latest (2018) FSR, “If there are risk issues to raise, it will have to be the prospects of managing liquidity”.*
And history should rhyme. When the headline CPI dropped to deflation in September (-.4%) and October (-.2%) 2015, the BSP revved-up the direct funding (net claims) to the National Government that catapulted the CPI, the GDP and the USD-php.
While current conditions are different compared to 2015, the BSP would surely mount a rescue of the banking system.
As it stands, the steepening of the Philippine treasury curve, suggests a forthcoming revival of the moribund CPI, which most likely will usher the era of stagflation!
Summary and Conclusion
In summary…
As a politically sensitive statistic, the CPI may manifest on the administration’s political agenda than objective reporting.
Several inconsistencies have emerged in the CPI, mainly stemming from the unmatched divergence between the Headline and the CORE as exhibited by logical contradictions.
Besides, the banking system’s loan portfolio and liquidity conditions also reveal its economic flaws. For instance, while the consumer credit growth rate has stormed to unparalleled heights, production loans have fallen to multi-year lows. If consumer credit has been about augmenting spending, why would prices not reflect such a spike on the slack in production?
The mainstream tells the public that lower CPI equals a boost to consumer spending, thereby diffusing into the GDP. While such may hold some grain of truth, this depends on the cause. If a shortfall in demand has prompted for a lower CPI, rather than from a deluge of supply, such would hardly provide support to consumption. At present, constraints in financial liquidity have contributed to the deficiencies in demand.
But like in 2015, CPI’s decline is likely temporary. Politics will likely be its primary cause.
On the supply side, the slump in rice prices, which constituted the gist of the current downturn in the CPI, has also signified a political response to the last year’s crisis. Since there has been a political backlash on the Tariffication Law, authorities have considered taking measures of walking back some of its features. Such actions are likely to put a stall on the current inventory buildup of rice, thus reverse food deflation.
On the demand and monetary side, the contraction in savings deposits has incited the sustained plunge in the money supply conditions. In 2015, when money supply growth pulled the CPI to the deflationary zone, the BSP responded by launching the Philippine version of Quantitative Easing, or the direct financing of the NG through debt monetization. This time with savings deposit under pressure, to jumpstart liquidity and rescue the banking system, aside from RRR cuts, the BSP is likely to recharge QE. The reactivation of QE should re-ignite the CPI upwards.
The domestic treasury market has been signaling the reemergence of inflation through its steepening slope.
