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. 

 

Symptoms of Crony Capitalism: How the BSP’s Zero-Bound Regime Fueled Historic Pumps and Dumps of March

 Free markets depend on truth telling. Prices must reflect the valuations of consumers; interest rates must be reliable guides to entrepreneurs allocating capital across time; and a firm's accounts must reflect the true value of the business. Rather than truth telling, we are becoming an economy of liars. The cause is straightforward: crony capitalism—Gerald P. O'Driscoll Jr. 

Symptoms of Crony Capitalism: How the BSP’s Zero-Bound Regime Fueled Historic Pumps and Dumps of March

 

The Monetary Aspects of Crony Capitalism 

 

Inquirer, March 31: With President Rodrigo Duterte as its chief executive, the Philippines remained among the countries where crony capitalism — where a few favored businessmen close to the government enjoy more economic advantages than others — has been flourishing. The Economist’s latest crony-capitalism index showed that the wealth of billionaires in the Philippines surpassed 10 percent of gross domestic product (GDP) in 2021. As a share to GDP last year, nearly a tenth were wealth generated in sectors regarded as crony-friendly. The Economist defined crony sectors as “a host of industries that are vulnerable to rent-seeking because of their proximity to the state, such as banking, casinos, defense, extractive industries and construction.” 

 

 

Figure 1 

 

Dragged down by -1.47% in March, Q1 returns of the headline index slid to a mere 1.13%. 

 

Rent seeking, according to investopedia.com, is an economic concept that occurs when an entity seeks to gain wealth without any reciprocal contribution of productivity. The term rent in rent seeking is based on the economic definition of “rent,” which is defined as economic wealth obtained through shrewd or potentially manipulative use of resources. 

 

Yet, the PSEi 30 registered an unparalleled frequency of pre-closing pumps (mostly) and dumps (some) in March 2022. (March 3 and 4 pumps not included in the diagram) 

 

In short, manipulating prices shaped or dominated the road to 7,203 last March. 

 

Such incredible scale and frequencies of pumps and dumps signify a massive transformation of the PSE. 

 

How is this related to crony capitalism? 

 

For the mainstream, the visible links to cronyism are the direct economic relations or interactions with the government through (rent-seeking) political projects: "a host of industries that are vulnerable to rent-seeking because of their proximity to the state, such as banking, casinos, defense, extractive industries and construction." 

 

There are invisible channels as well. 

 

Cui bono? 

 

The monetary policies of the central bank are political actions. It is an avenue to redistribute finances via mandates and regulations to the banking and financial industry. 

 

For the BSP, keeping assets elevated serves several policy purposes.  

 

First, it keeps away the dreaded "deflation," which may imperil the banking system.   

 

Next, it also promotes "trickle-down economics," where consumption spending of the wealthy is supposed to get converted into jobs and development. (Tetangco, 2015). Another term for trickle-down is the wealth effect. 

 

Third, through negative "real" rates, such policies implicitly channel the transfers of resources from savers to borrowers, popularly known as Financial Repression.  

  

Fourth, bailing out a distressed financial system can be implemented through such policies.  

 

This premise applies to the current conditions.  

 

Figure 2 

 

For instance, aside from low rates, the record Php 2.2 trillion injections to the financial system bailed out the PSEi 30.  

 

The full market capitalization of the members of the PSEi 30 expanded by Php 3.89 trillion from the nadir of March 2020 to April 1, 2022.  How's that for a bailout? At whose expense? 

 

How Central Bank Policies Engender and Nurtures Cronyism 

 

Zero-bound rates redistribute credit favoring the wealthiest, who may command cheaper rates through the economies of scale.  

 

Owned by the top elites, firms of the PSEi 30 are among the nation’s largest borrowers. 

 

Furthermore, the elites are also the owners of the banking industry. Aside from lending operations, banks are likewise the largest borrowers.  

 

Low borrowing rates enable and facilitate firms of the elites to expand horizontally through acquiring competition or expand vertically through investing in upstream or downstream industries.  

 

Low borrowing rates enable and facilitate the concentration of the industry or lead to monopolization. Instead of expanding through internal means, elite companies go on a merger and acquisition spree for growth. 

 

See Jollibee’s Fantastic Paradigm Shift: From Consumer Value to Aggressive Debt-Financed Pacman Strategy, March 3, 2019 

 

Low borrowing rates enable and facilitate the same firms to buy back shares of their companies to either support or boost share prices. 

 

Higher share prices may increase collateral values, which may be used for more leveraging or swapping of assets for either internal financing or expansion.  

 

The firm with the largest market cap recently acquired an energy firm through a share swap. 

 

Low borrowing rates also encourage high-risk activities, such as excessive speculation, overtrading, misconduct, and fraudulent behavior. 

 

As historian Charles Kindleberger wrote, "The propensities to swindle and be swindled run parallel to the propensity to speculate during a boom. Crashes and panic, with their motto of sauve qui peut, induce still more to cheat in order to save themselves."* 

 

*Charles P. Kindleberger, Chapter 5, The Emergence of Swindles, Manias, Panics and Crashes, Third Edition, p .66 John Wiley and Sons 

 

The takeaway: the political-economic elites acquire wealth through political subsidies also channeled through monetary policies, amplifying their competitive advantage over smaller and less politically connected competitors. 

 

Because such subsidies are hardly about enhancing productivity but securing strategic advantages, firms of the elites seem to qualify as rent-seekers or "crony capitalists." 

 

Crony Capitalism or Economic Fascism are Anti-markets, The Consequences of Distortions 

 

By the way, crony capitalism, also known as economic fascism, is a form of socialism/collectivism.  

 

Wrote economist Richard Ebeling**, (bold added) 

 

What is sometimes called “crony capitalism” is just Pareto’s “bourgeois socialism.” Pareto also understood, in the 1890s, with amazing clarity one of the insights of modern Public Choice theory, that “participatory democracy” of the community as a whole is a theoretical and practical illusion in an complex society. Politics in an unrestrained democracy always becomes a contest among special interest groups capable of gaining concentrated benefits from State intervention and redistribution at the diffused expense of the rest of the society.  

 

**Richard M. Ebeling "Liberal Socialism" — Another False Utopia, August 28, 2017, Mises.org 

 

Unfortunately, political allocations of finances and credit subsidies foster unsustainable systemic imbalances. 

 

As the late great dean of the Austrian school of Economics, Murray Rothbard explained***: 

 

Subsidies prolong the life of inefficient firms and prevent the flexibility of the market from fully satisfying consumer wants. The greater the extent of government subsidy, the more the market is prevented from working, the more resources are frozen in inefficient ways, and the lower will be the standard of living of everyone. Furthermore, the more government intervenes and subsidizes, the more caste conflict will be created in society, for individuals and groups will benefit only at one another’s expense. The more widespread the tax-and-subsidy process, the more people will be induced to abandon production and join the army of those who live coercively off production. Production and living standards will be progressively lowered as energy is diverted from production to politics and as government saddles a dwindling base of production with a growing and more top-heavy burden of the State-privileged. 

 

***Murray N. Rothbard, CHAPTER 12—THE ECONOMICS OF VIOLENT INTERVENTION IN THE MARKET, Man, Economy, and State with Power and Market, p. 942; Ludwig von Mises Institute, Scholar’s Edition   

 

Figure 3 

 

In sum, pumps or dumps, a form of price control, distort the price signals of shares of the publicly listed firms at the PSE, which also affects the indices represented by these.  

 

The skewed distribution of the index, overvalued assets, mounting leverage, and false price signals emitted to the economy that drives economic allocations signifies the massive scale of malinvestments from such distortions. 

 

 

Yours in Liberty, 

 

The Prudent Investor Newsletters 

 

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