The man in whose power it might be to find out the means of alleviating the sufferings of the poor would have done a far greater deed than the one who contents himself solely with knowing the exact numbers of poor and wealthy people in society—Vilfredo Pareto
In this issue
Adding to the SWS Mangahas’ Critique of Trickle-Down Economics: The Philippine Banking System’s Intrinsic Bias Against SMEs
I. The Disconnect Between Economic Data and Public Sentiment: Adding to the SWS Mangahas’ Critique of Trickle-Down Economics
II. The Trickle-down Policy: The Philippine Banking System’s Intrinsic Bias Against SMEs
III. Banks' Preference for Government Securities Crowds Out the SMEs
IV. How Trickle-Down Policies Gutted the Magna Carta for MSMEs and Stunted Philippine Capital Market Growth
V. How Trickle-Down Policies Amplify Concentration and Contagion Risks
VI. Trickle-Down Policies: How HTMs Exacerbate Balance Sheet Mismatches
VII. Rising Non-Performing Loans: Moving from the Periphery to the Core?
VIII. More Crowding Out: Banks Magnify Borrowing from Savers Focusing on Short-Term Bills
IX. More Impact of the Trickle-Down Effect on Banks: Mark-to-Market Losses
Adding to the SWS Mangahas’ Critique of Trickle-Down Economics: The Philippine Banking System’s Intrinsic Bias Against SMEs
SWS’ Dr. Mahar Mangahas recently highlighted the failure of trickle-down economics by pointing to the disconnect between government data and public sentiment. Bank data on MSME lending reinforces his position.
I. The Disconnect Between Economic Data and Public Sentiment: Adding to the SWS Mangahas’ Critique of Trickle-Down Economics
Figure 1
I believe in rating economic progress by listening to what the people as a whole say about their own progress, rather than by listening to the international banks, big business, politicians, the diplomatic corps, and all others who point to how the aggregate value of production is growing. Counting the number of people who have gotten better off, and comparing it with the number who have gotten worse off, is the oldest survey question in the book. It has now been surveyed 152 times at the national level: annually in 1983-85, semi-annually in 1986-91, and then quarterly since 1992. The finding of more losers than gainers in 126 of those 152 surveys—despite persistent growth in real gross national product per person, coupled with stagnation of real wages—is the clearest proof of the failure of trickle-down economics in the last four decades. (Mangahas, 2024) [Figure 1, topmost quote]
While most don’t realize it, this quote offers a striking opposition or critique of the nation’s adaptive "trickle-down" political-economic framework. Given its dissenting nature, this theme should be unpopular among the establishment.
For starters, we are skeptical of surveys because they are susceptible to manipulation, social desirability bias, or social signaling, rather than reflecting genuine (demonstrated/revealed) preferences. Interestingly, surveys form the basis of much government data.
To illustrate why the CPI is considered the MOST politicized economic data, consider the following example—from the Philippine Statistics Authority (PSA) (bold mine).
CPI allows individuals, businesses, and policymakers to understand inflation trends, make economic decisions, and adjust financial plans accordingly. The CPI is also used to adjust other economic series for price changes. For example, CPI components are used as deflators for most personal consumption expenditures in the calculation of the gross domestic product. Moreover, it serves as a basis to adjust the wages in labor management contracts, as well as pensions and retirement benefits. Increases in wages through collective bargaining agreements use the CPI as one of their bases. (PSA, FAQ)
In short, the CPI is the basis where economic policymakers…make economic decisions…and adjust financial plans…calculate the GDP…adjust wages in labor-management contracts…in CBA (or minimum wages) …and influence the calculation of pensions (mainly SSS and GSIS) and retirement benefits (also other welfare programs as Philhealth, Pagibigm, etc).
And so, the lowering of the CPI (e.g., by rebasing it from 2006 to 2012 to 2018) bloats the GDP, minimizes payouts for pensions and retirements, and distorts labor-management contracts. Most of all, it helps the government access cheaper savings from the public.
Yet, the (quality-of-life) survey referenced by the author reflects public sentiment rather than a discourse on economic theories or statistics.
The crux of the matter is that public sentiment contradicts the landscape authorities aim to achieve, which is far from its desired state.
Ironically, this occurs despite the daily onslaught or barrage of news promoting rosy concepts like achieving "upper middle-class status," a "sound" banking system, "reasonable" inflation, a jump in FDIs, and more.
It demonstrates the blatant disconnect of political economic metrics such as per capita GNP and GDP from grassroots perceptions.
Simply put, GDP does not equate to the economy. A
The disparity between the government figures and sentiment reflects the inequality of economic outcomes.
Or, as much as the CPI does not represent the inflation of the average Juan or Maria, neither does the GDP. Yet, who benefits from it? Cui bono?
Though we opine a different perspective from the author, the question is, why should government spending be considered a cornerstone of prosperity when it diverts and limits the private sector from fulfilling its primary role of satisfying consumer needs and wants?
Does historical (public and private) leveraging and near-record deficit spending, which redistributes income and wealth opportunities to the government and the politically connected, contribute to the goal of achieving "upper middle-class status?"
Based on 2023 (annualized) data, to what extent can the economy sustain this level of debt buildup under the savings-investment gap paradigm? Won't the sheer burden of debt, beyond interest rates, stifle the real economy? What if interest rates rise along with the debt burden? Debt servicing-to-GDP and debt-to-GDP have been way above the 1997-98 Asian Financial Crisis levels. (Figure 1, middle charts and lowest graph)
Is this economic paradigm pursued because it is driven by the "trickle-down" ideology, which posits that (indiscriminate) spending drives the economy, or because it favors the centralization of the economy, benefiting a few?
Yes, the article confirms my priors, but it also suggests that there are others who, in their own ways, share similar perspectives.
On the other hand, although the author's motivations are unclear, it is uncertain whether they are driven by a political bias.
Still, given the harsh realities of the prevailing censorship and disinformation in the incumbent political environment, it is unlikely that "analytical independence" could persist.
II. The Trickle-down Policy: The Philippine Banking System’s Intrinsic Bias Against SMEs
The dispersion of bank credit expansion serves as a prime example of the inefficiencies inherent in the 'trickle-down' economics.
The government's bank lending data provides valuable insights into the reasons behind its flaws.
Businessworld, June 14, 2024: PHILIPPINE BANKS failed to meet the mandated quota for small business loans in the first quarter, data from the Bangko Sentral ng Pilipinas (BSP) showed. Loans extended by the banking industry to micro-, small-, and medium-sized enterprises (MSMEs) amounted to P474.922 billion as of end-March. This made up only 4.41% of their total loan portfolio of P10.77 trillion, well-below the mandated 10% quota. Under Republic Act No. 6977 or the Magna Carta for MSMEs, banks are required to allocate 10% of their total loan portfolio for small businesses. Of this, 8% of loans should be allocated for micro and small enterprises, while 2% should go to medium-sized enterprises. However, banks have long opted to incur penalties for noncompliance instead of taking on the risks associated with lending to small businesses. (bold mine)
How can the government achieve its "upper middle-class status" goal when the backbone of the economy – small and medium-sized enterprises (SMEs) – has diminished access to lower-priced formal credit?
Figure 2
SMEs dominate the economy.
As noted by the DTI in 2022: "The 2022 List of Establishments (LE) of the Philippine Statistics Authority (PSA) recorded a total of 1,109,684 business enterprises operating in the country. Of these, 1,105,143 (99.59%) are MSMEs and 4,541 (0.41%) are large enterprises. Micro enterprises constitute 90.49% (1,004,195) of total establishments, followed by small enterprises at 8.69% (96,464) and medium enterprises at 0.40% (4,484)." (Figure 2, topmost pane)
SMEs also have the largest share of employment.
Again, the DTI stated: "MSMEs generated a total of 5,607,748 jobs or 65.10% of the country’s total employment. Micro enterprises produced the biggest share (32.69%), closely followed by small enterprises (25.35%), while medium enterprises lagged behind at 7.06%. Meanwhile, large enterprises generated a total of 3,006,821 jobs or 34.90% of the country’s overall employment." (Figure 2, middle image)
The lack of access to formal credit leads to informal or shadow lenders, such as family, friends, local money lenders, NGOs, loan sharks, or '5-6' entities, filling the void. This inefficient means of financing results in higher costs for businesses, which in turn reduces the competitiveness of SMEs compared to large firms.
The former president initially campaigned to ban '5-6' lending, which would have further stifled SMEs. Since the policy failed to gain traction, it can be inferred an undeclared policy failure.
The uneven effects of inflation via the Cantillon Effect—that the first recipient of the new supply of money has an arbitrage opportunity of being able to spend money before prices have increased—also pose an obstacle to MSMEs.
In other words, the Bangko Sentral ng Pilipinas' (BSP) inflation targeting policy benefits large firms because they have access to new money from bank credit before prices increase, while SMEs are disadvantaged (as price takers): a reverse Robin Hood syndrome.
The lack of access to formal credit and the Cantillon Effect forge a 'protective moat' that favors large firms over SMEs.
This explains the innate inequality expressed by public sentiment.
It also weighs on the BSP’s other ambition to expand financial inclusion—a politically correct goal or a euphemism for the "war on cash."
Naturally, why would the SME universe enroll, when the formal financial system constrains their access to livelihood credit?
Figure 3
Yes, there may be improvements in many metrics of financial inclusion, but they remain distant from reaching upper middle-class levels.
Participation rates in the banking system by the general populace remain dismal (BSP, Financial Inclusion) (Figure 3, topmost table)
See the inequality at play?
III. Banks' Preference for Government Securities Crowds Out the SMEs
Moreover, why would the formal financial system prefer to follow the BSP's policies rather than repricing credit higher to accommodate the higher risks associated with grassroots collections?
Repricing credit would likely raise the cost of financing government debt. Banks function as intermediaries in raising funds for the government, which represents the bulk of the bond markets.
With a higher cost base, any institutional outlier would risk losing market share in the formal credit market.
Intuitively, the formal financial system would rather pay the penalties associated with missing the 10% government quota than invest in a system that would reflect the higher cost of risks and transactions with SMEs.
The spread between the average bank lending rate and the BSP's overnight repo rate (ON RRP) dropped to its lowest level in February 2023 and has barely bounced back from there. (Figure 3, middle chart)
Therefore, there is hardly any motivation by the formal financial institutions to "go outside the box" or defy the convention.
See how this perpetuates inequality?
IV. How Trickle-Down Policies Gutted the Magna Carta for MSMEs and Stunted Philippine Capital Market Growth
Since banks have failed to adhere to the law and have resorted to a workaround, this translates to the fiasco of the Magna Carta legislation in its entirety.
The restricted constellation of the formal credit system can also be found in the limited exposure to the insurance industry and capital markets. Insurance premiums signify a paltry 1.7% of the GDP. (Figure 3, lowest table)
Figure 4
It is barely understood that it is not the trading platform (G-stocks or other touted online alternatives) that constrains the PSE's volume, but rather the lack of savings or increases in disposable income.
The PSE’s volume woes are equally reflected in the banking system’s cascading cash-to-deposit ratio, which eroded further last April to multi-year lows. (Figure 4, topmost chart)
Why is this the case?
Because the inflationary "trickle-down" policies pose a financial barrier to the general public, they also drain savings and redistribute resources to cronies and the government.
Consequently, the paucity of penetration levels in formal institutions has also been reflected in the capital markets (fixed income and stocks). The lack of volume and breadth also characterizes the Philippine bond market, which is one of the most underdeveloped in Asia. (Figure 4, middle image)
As previously discussed, the BSP seems misguided in thinking that the exclusion of the Philippines from the global market has been due to "foreigners don’t like us."
Everything starts organically: rather, it’s the lack of local depth, which is a function of the failure of "trickle-down" policies.
See how it magnifies the mechanisms of inequality?
V. How Trickle-Down Policies Amplify Concentration and Contagion Risks
But there’s more.
If banks have jettisoned the SMEs, then this means that they’ve been amassing intensive loan exposure on economic agents at the upper hierarchy.
As a result, this has led to an unprecedented buildup of concentration risks.
While the mainstream views the record Total Financial Resource (TFR) and its growth positively, there is little understanding that this asset growth has primarily accrued in universal banks.
Despite April’s TFR slipping from historic March levels, it remains at an all-time high, even as the BSP’s official rates stay at a 17-year high. The rapid expansion of universal bank assets, which now constitute 78.2% of the TFR, has propelled the banking system’s aggregate share to 83.4%. Both their % shares declined in April from the unparalleled levels of March. (Figure 4, lowest graph)
The banking system's exposure to heavily leveraged non-financial firms, such as San Miguel Corporation [PSE: SMC], is concerning. SMC's debt have reached a staggering record high of Php 1.44 trillion in Q1 2024, accounting for a significant 4.6% of the TFR in the same period.
The extent of this exposure raises questions about the potential risks to the financial system. Specifically, how much of the banking system's assets are tied up in SMC's debt? What happens within SMC will affect SMC alone? Really?
VI. Trickle-Down Policies: How HTMs Exacerbate Balance Sheet Mismatches
Figure 5
Banks have been funding the government through net claims on central government (NCoCG), much of which has been concentrated in Held-to-Maturity (HTM) assets.
Once again, the BSP has acknowledged the liquidity-constraining effects of HTMs.
The HTM component continues to be significant. Financial assets classified as HTM continued to increase in 2023. From 45.6 percent of financial assets at the beginning of 2021, its share is now nearly 58.8 percent as of November 2023 data. Taken at face value, this suggests that the banks remain defensive against potential MTM losses created by the higher market yields. Invariably, however, the threat of MTM losses can be mitigated by holding the tradable security to maturity. This though comes at the expense of liquidity. (bold original, italics mine) [BSP, FSR 2023]
HTMs accounted for 55.56% of financial assets last April and 15.7% of the banking system’s total assets. (Figure 5, topmost chart)
Strikingly, the BSP highlighted further concerns in the 2023 Financial Stability Report (FSR), citing the US banking crisis as an example where HTMs created a false illusion of profits while significantly understating risks.
A case to be highlighted is the phenomenon during the pandemic when the sizable allocation to HTM securities buoyed profits but had a significant impact on some banks’ liquidity during the reversal of interest rates, e.g., the case of SVB. While government securities (GS) are indeed High-Quality Liquid Assets, their liquidity can be further qualified depending on the RORO regime. A Risk-Off environment – when there are significant uncertainties and/or with sharp interest rate hikes – can freeze GS trading as banks would prefer safety. Yet, the difficulties may become too acute that they have to liquidate securities, even those classified as being held to their original maturity. There must be a way to assess the market value of the HTM assets during these periods. (italics mine) [BSP, 2023]
The extent of these maladjustments, partly revealed by balance sheet mismatches, determines the level of volatility.
Although the BSP aims to address this issue, they are hindered by the "knowledge problem," which is precisely why such imbalances exist in the first place—resulting from the policies they implement.
Simply, if the BSP can do what it wishes to do, then markets won’t be required—a haughty pipe dream.
VII. Rising Non-Performing Loans: Moving from the Periphery to the Core?
Next, historic credit expansion suggests that credit delinquencies may arise due to excess exposure to unproductive debt.
As previously noted, non-performing loans (NPLs) from credit cards and salary loans have not only increased but accelerated in Q1 2024. The relatively stable performance of motor vehicle and real estate loans has slowed down the overall growth of NPLs in consumer loans.
The total banking sector's fixation with financing unproductive consumer spending opens a Pandora's Box of credit risks. The % shares of consumer loans and production loans are at historic opposite poles! (Figure 5, middle graph)
Yet, problems are mounting at the periphery of the banking system.
Net NPLs have increased significantly in government and commercial banks through April 2024. (Figure 5, lowest graph)
One possible explanation is that government bank lending has been less prudent due to political objectives, which differs from those of the private sector.
Notably, NPLs at commercial banks, the smallest segment, have also been increasing. Foreign banks have also seen a gradual increase in NPLs. However, there was a slight decrease in NPLs at foreign banks in April.
A presumption here is that for these sectors to stay afloat against their largest competitors, the universal banks, commercial and foreign banks lent aggressively, and now the chicken has come home to roost.
What happens when this reaches critical mass?
Could this indicate signs of risks transitioning from the periphery to the core?
VIII. More Crowding Out: Banks Magnify Borrowing from Savers Focusing on Short-Term Bills
As deposit growth has been insufficient to cover the liquidity shortfall from HTMs and NPLs, the Philippine banking system has increased its borrowings from local savers.
Figure 6
Further signs of mounting liquidity deficiency include banks increasingly borrowing from the more expensive capital markets. (Figure 6, topmost chart)
The focus of their financing has been on short-term securities, as evidenced by significant increases in bills payables. (Figure 6, second to the highest image)
So far, though aggregate bank borrowings have risen to near-record highs, the banking system's share of liabilities remains on the lower spectrum.
However, increasing competition among banks, the government, and non-financial firms is likely to put upward pressure on interest rates.
As the giants scramble for financing, this crowding out comes at the expense of SMEs.
Do you see why the inequality persists?
IX. More Impact of the Trickle-Down Effect on Banks: Mark-to-Market Losses
Finally, HTMs, NPLs, and the crowding out are not only the growing sources of the bank's liquidity deficits; mark-to-market losses will compound their problems as well.
In addition to dwindling cash reserves, banks have relied on investments and the revival and acceleration of lending to bolster their assets. (Figure 6, second to the lowest chart)
However, even when 10-year bond yields have been turned sideways, banks' mark-to-market losses have escalated. (Figure 6, lowest diagram)
Therefore, mainstream banks are likely to conserve their resources at the expense of small and medium-sized enterprises (SMEs).
There you have it: a litany of reasons why the Magna Carta for MSMEs failed and the reasons behind the divergence between public sentiment and mainstream statistics.
In essence, when it comes to the interests of the Philippine version of Wall Street versus Main Street, policymakers tend to favor rescuing big money.
The infamous fugitive Willie Sutton famously explained why he robbed banks, "Because that's where the money is."
In the local context, "trickle-down" policies manifest the stark realities of political-economic inequalities, perpetuating income disparities and social exclusion.
____
References:
Mahar Mangahas, Independence from GNP Inquirer.net, June 16, 2024
Philippine Statistics Authority, Frequently Asked Questions, PSA.gov.ph
River Learn, Cantillon Effect, river.com
Bangko Sentral ng Pilipinas, Financial Inclusion in the Philippines Dashboard As of Third Quarter 2023, bsp.gov.ph
FINANCIAL STABILITY COORDINATION COUNCIL, 2023 FINANCIAL STABILITY REPORT, December 2023, (pp. 29 and 31), bsp.gov.ph
