Stagflation Part 14: Q2 GDP at 2.3% and Falling — A GDP Built on Suppression and Debt

  

Public choice theory predicts exactly this: concentrated benefits and dispersed costs produce political pressure for expansion. Sovereign credit makes the expansion financially viable. The opacity makes it politically sustainable—Michael Dioguardi

In this issue

Stagflation Part 14: Q2 GDP at 2.3% and Falling — A GDP Built on Suppression and Debt

I. Introduction: The GDP Number Is Not Neutral: When Policy Intervention Becomes the GDP Story

II. From Countercyclical Buffer to Debt Dependence

III. The Credit Boom That Households Aren't Feeling

IV. Net Primary Income: When the External Cushion Starts to Fail

V. Real estate and tourism: the visible cracks behind a still-solid labor market

VI. Electricity's Engineered Strength Versus Transport's Engineered Weakness

VII. Construction: a government-led downward spiral

VIII. Trade: exports without manufacturing depth, and a historic deficit

IX. The external financing loop closes on itself

X. The Two Precarious Trends Beneath the Headline

XI. Confusing Stagflation with an Event Rather Than a Process

XII. Conclusion: GDP Is the Symptom, Not the Diagnosis 

Stagflation Part 14: Q2 GDP at 2.3% and Falling — A GDP Built on Suppression and Debt 

How debt, credit, price suppression and external financing are sustaining growth while weakening adaptive capacity

I. Introduction: The GDP Number Is Not Neutral: When Policy Intervention Becomes the GDP Story 

The Philippine economy grew 2.3% in the second quarter of 2026, down from 2.8% in Q1, bringing first-half growth to 2.6% — the weakest non-pandemic print since Q4 2009. 

The consensus reception treated this as a simple story of "as is, where is": inflation is high, investment is weak, ergo growth slows. What that framing consistently misses is that the 2.3% figure is not a passive reading of an economy left alone. It is the visible residue of a set of policy choices that concentrated benefits on a narrow set of interests while dispersing the costs across consumers, savers, and the fiscal balance sheet — Bastiat's seen and unseen, playing out in real time in the GDP release itself. 

Two suppression mechanisms did the heaviest lifting in keeping the headline number in positive territory at all. 

One. EO 110's emergency interventions in electricity and energy markets, layered on the earlier round of rice and fuel price interventions, suppressed some of the immediate price pass-through directly. 

Two. BSP's regulatory relief cascade — the NPL grace periods, the mark-to-market waiver, the capital reliefs — combined with a soft-peg regime and NDF restrictions, limited the extent to which the exchange rate and bond yields could reprice the oil shock into the real economy. 

These measures did not eliminate the shock; they altered its transmission, absorbing some of its immediate effects and shifting others onto consumers, savers, bank balance sheets, and the fiscal balance sheet. 

The 2.3% print therefore cannot be read as evidence that the underlying economy absorbed the Iran-oil-shock and flood-control-scandal disruptions well. It is the measured outcome after policy intervention had already changed the channels through which those shocks propagated. 

II. From Countercyclical Buffer to Debt Dependence 

The PSA data confirms what our Stagflation Parts 12 and 13 flagged as an emerging pattern: government spending is no longer a countercyclical buffer but a permanent, entrenching share of output.

Figure 1

Government final consumption expenditure grew 8.3% year-on-year in Q2 2026 — decelerating only slightly from 8.7% in Q2 2025 — and its share of real GDP rose to 18.6%, up from 17.5% a year earlier and 16.3% in Q1 2026. 

For the first half, GFCE's constant-price share climbed to 17.4% from 16.8% in 1H 2025—an all time high. (Figure 1, topmost visual) 

The significance is not merely that government consumption is rising, but that an increasing share of economic activity is being allocated through the state rather than through decentralized private demand. And GFCE captures only the direct component: it excludes the broader private-sector activity sustained by government procurement, construction, PPPs, contractors, and supply chains serving government agencies nationwide. The state's effective economic footprint is therefore larger than the GFCE ratio alone suggests—a sign of deepening centralization. 

That expansion in the numerator was financed the way it always is now: through debt. 

The national government's first-half fiscal deficit hit Php 786.8 billion, the largest January–June shortfall on record. Net public borrowing for the half reached Php 1.357 trillion — the second-highest first-half figure on record, trailing only 2021's Php 1.371 trillion, a year defined by pandemic emergency financing. 

The parallel is not comforting: what was once crisis-contingent borrowing has become the ordinary operating mode of the fiscal accounts. National government debt closed June at Php19.07 trillion, and the debt-to-GDP ratio breached 66% — a 22-year high, last seen in the Arroyo-era aftermath of the early-2000s fiscal crisis. (Figure 1, middle graph) 

The nominal debt-growth-versus-GDP-growth gap is the cleaner way to see the mechanism. Nominal debt has grown faster than nominal GDP in every year since 2019; the 1H 2026 gap between nominal debt growth and NGDP/rGDP growth is now at its widest since 2020! 

Public debt is not tracking the economy's expansion — it is outrunning it! (Figure 1, lowest chart) 

Sustained divergence of this kind changes the character of sovereign finance ex ante: as the debt stock grows faster than the income base from which it is ultimately serviced, continued refinancing becomes increasingly central to meeting existing obligations. 

The government may continue to roll over that debt without immediate distress, but the system becomes more exposed to a ‘sudden stop’ in financing or a sharp repricing of risk. In Minskyan terms, that is the sovereign analogue of a shift away from hedge finance and toward a speculative posture — not because default has already occurred, but because continued solvency increasingly depends on the uninterrupted availability of new credit.

III. The Credit Boom That Households Aren't Feeling 

Despite EO 110 subsidies, sector-specific relief, and what the earlier parts of this series have already documented as record consumer and electricity-sector bank lending, household final consumption expenditure grew only 2.8% in Q2 2026 — down from 5.2% a year earlier — while per-capita HFCE growth in real terms slowed to 1.9% for the half, a rate not far from the pandemic-adjacent trough. The deceleration is not evenly spread.

Figure 2

Transport spending within the household basket contracted outright, falling 7.5% year-on-year in Q2, the single largest drag on HFCE growth, a direct product of fare structures that remain administratively restricted even as fuel and operating costs were not similarly controlled for operators. 

Restaurants and hotels (-0.2%) and recreation and culture (-0.8%) also contracted — consumption categories that track discretionary income most closely, and the ones collapsing first. (Figure 2, topmost pane) 

That households are cutting discretionary and mobility spending while credit to the household and electricity sectors keeps expanding at record pace is the seen/unseen split of the credit channel: the lending shows up in bank balance sheets and, through the electricity sector's credit-financed "recovery," in industrial GDP; the squeeze shows up in what households actually do with their own cash flow. 

The aggregate consumption data make that squeeze visible: credit is expanding, but the purchasing power and discretionary spending of households are not keeping pace. (Figure 2, middle chart) 

IV. Net Primary Income: When the External Cushion Starts to Fail 

A quieter but structurally important number in the release: Net Primary Income from the Rest of the World grew just 1.0% year-on-year in Q2 2026, against 31.7% in Q2 2025 — but the more important signal is the deterioration underneath the quarterly number. (Figure 2, lowest image) 

Since its 2023 peak, the growth of the external-income stream has been in a sustained waterfall, with both compensation income and property-income flows seeing their growth rates materially weaken through Q2 2026. This line is the GNI-side counterpart to the remittance-shield thesis developed earlier in this series (Part 7.0): OFW compensation and other primary-income flows have functioned as a standing subsidy that allowed vested domestic interests to defer structural reform. The income stream remains positive, but its growth impulse is rapidly disappearing. 

With that external shield now materially weaker, GNI growth (2.2%) fell below already-weak GDP growth (2.3%), while the external cushion that historically absorbed part of the consequences of domestic policy failures is thinning at precisely the moment domestic demand is weakening. The significance is therefore not that external income has already disappeared, but that a once-reliable source of support is no longer expanding fast enough to offset the deterioration elsewhere in the economy. 

V. Real estate and tourism: the visible cracks behind a still-solid labor market 

Real estate and ownership of dwellings grew only 1.3% in Q2 2026, down sharply from 5.9% a year earlier — the weakest print since Q4 2009 outside the pandemic. 

Accommodation and food service activities similarly decelerated to 1.7% from 6.8%.

Figure 3

Neither figure is disaggregated regionally in the national accounts release, but the Cebu office market offers a live, granular preview of what a real-estate demand air-pocket looks like on the ground: CBRE reported first-half 2026 office demand in Cebu crashed 68.2% year-on-year to 20,200 sq.m., a reversal from 2025's "bull run," with vacancy climbing to 13.9% and expected to reach 18–22% by year-end as AI-driven BPO consolidation and a wave of new supply collide. 

The accommodation-food deceleration is consistent with, and reinforces, the tourism slowdown already noted across Baguio, Boracay, the Hundred Islands, and Eastern Visayas — destinations where softer discretionary household spending (recreation, restaurants and hotels both contracting per the HFCE breakdown above) is now visible in occupancy and footfall. (Figure 3, topmost diagram) 

What makes this genuinely puzzling rather than simply confirmatory is that it sits alongside labor force data that has not (yet) cracked in the same way. 

The dissonance between a resilient headline employment picture and visibly weakening real estate, hospitality, and discretionary consumption sub-sectors is itself a data point: it suggests the labor market is a lagging rather than a leading indicator here, or that "benchmarkism" — embellishing a stable unemployment rate as evidence the economy is fine — risks missing where the stress is actually accumulating. (Figure 3, middle image) 

VI. Electricity's Engineered Strength Versus Transport's Engineered Weakness 

Electricity, steam, water and waste management was the one industry sub-segment that meaningfully accelerated: 4.0% in Q2 2026, up from 0.7% a year earlier, with electricity itself growing 4.5%. This is not simply organic demand recovery. It is the GDP-side signature of the redistribution machinery this series has tracked since Q4 2025: the tacitly officiated SMC-AEV-MER and Prime Infra-FGEN bilateral consolidations, the suspension of real property taxes (RPT) on generation assets, the FIT-ALL-to-GEA-ALL transition, and record bank lending concentrated in the electricity sector, all of which function as implicit and direct bailouts routed through regulated utility balance sheets. (Figure 3, lowest chart) 

Averch-Johnson dynamics apply directly here: regulated firms with an assured allowable return on capital have an incentive to expand the regulated asset base, particularly where the regulatory framework permits those investments to earn an allowed return regardless of whether underlying demand is strong enough to justify them on an unregulated-market basis. That expansion has partly supported measured GDP even as the households ultimately paying for the system see no corresponding improvement in affordability. 

The same investment bias is reinforced by the (Department of Energy) DOE's broader supply-side architecture: the lifting of foreign-ownership restrictions for renewable energy, successive rounds of the Green Energy Auction Program (GEA), fast-tracking mechanisms for priority projects, and planned expansion of transmission and energy-storage infrastructure, all aimed at accelerating renewable capacity toward the government's 35% generation-mix target by 2030. These measures deliberately lower barriers to entry, accelerate project development, and create investable opportunities in the electricity sector. Combined with regulated returns, sector-specific relief, tax concessions, and concentrated credit, they help explain why electricity-related capital formation can remain a source of measured GDP growth even while the household affordability constraint remains unresolved. 

The mirror image is the transport sector, where fare adjustments remain administratively suppressed even as input costs were not. Transport equipment capital formation collapsed 27.2% in nominal and 32.2% in real terms year-on-year in Q2 2026 — the largest single component drag on gross fixed capital formation for durable equipment, alongside HFCE transport's outright contraction. 

One regulated sector was bailed into growth; the adjacent sector, denied the same price-adjustment mechanism, is disinvesting. Both outcomes are administrative rather than market-determined, which is the point: the "growth" and the "decline" are two faces of the same suppression architecture, not independent market signals. 

VII. Construction: a government-led downward spiral

Figure 4

Construction contracted 13.9% year-on-year in Q2 2026 (constant prices, production side) and gross fixed capital formation in construction fell 14.8%, the single largest driver of industry's overall 2.4% decline. General government construction collapsed 32.4% — the flood-control-scandal hangover working through the capital formation accounts a full year after the scandal broke, as officials remain reluctant to greenlight infrastructure disbursement amid ongoing accountability proceedings. Private construction did not step into the gap: financial and non-financial corporations grew a modest 3.8% and households/NPISH just 0.8%, both far too small to offset the public-sector collapse. This is not a diversified construction sector experiencing a public-led correction while private activity compensates; it is a sector where the public sector was effectively the only source of growth, and where withdrawing it exposes how little organic private capital formation exists underneath. (Figure 4, topmost window) 

VIII. Trade: exports without manufacturing depth, and a historic deficit 

The headline expenditure-side bright spot was net exports: exports of goods and services grew 12.2% (goods +17.0%, services +6.9%), comfortably outpacing 5.5% import growth and contributing 1.2 percentage points to GDP. (Figure 4, middle graph) 

But the composition matters. Export growth was overwhelmingly a semiconductor and AI-hardware story — consumer electronics up 230.3%, components/devices up 13.4%, office equipment up 77.6% — while broad-based manufacturing growth (2.6% for the sector overall) remains muted relative to that electronics surge. This is a narrow, AI-cycle-dependent export engine, not a diversified manufacturing recovery. 

Should the AI capex cycle slow — a real possibility given how concentrated the growth in a handful of product lines already is — the one clean bright spot in this release loses its main support. 

Meanwhile, the trade-in-goods deficit for the first half hit $30.81 billion, the widest since PSA's series began in 1991, even as both exports (+13.1%) and imports (+17.8%) posted record first-half nominal levels. (Figure 4, lowest diagram) 

A widening deficit funded by strong headline trade volumes is still a widening deficit: it means the economy's dollar liabilities from imports are growing faster than its dollar receipts from exports, precisely the imbalance that eventually forces itself onto the external accounts. 

IX. The external financing loop closes on itself

Figure 5

That imbalance, plus slowing organic dollar revenue from OFW compensation (per the Net Primary Income data above), means BSP's soft-peg regime and its effort to rebuild gross international reserves via Net Foreign Assets (NFA) accumulation increasingly runs through borrowing rather than organic inflow. (Figure 5, topmost window) 

The July GIR print, released the same week as the GDP data, showed reserves falling to $103.4 billion — an 18-month low — down from $104.74 billion in June, driven by BSP's own FX operations and the national government's drawdowns on foreign-currency deposits to service external debt. The reserve buffer built earlier this year via eurobond and World Bank inflows (documented in Part 13) is now being spent down to meet obligations those same inflows were meant to be seen as covering. (Figure 5, middle graph) 

And as government borrowing accelerates to fund both the fiscal deficit and the electricity-sector and BSP-relief bailouts, the crowding-out is not confined to private investment. It extends into savings. 

CMEPA-assisted flows are channeling household and institutional savings into government securities; banks and elite conglomerates are competing alongside the government itself for a shrinking pool of savings, rather than the government crowding out only private borrowers. 

It is not that bank lending is contracting — this series has already documented that lending continues at a record pace, even as signs of peaking emerge — but that banks are simultaneously amassing government securities as an ever-larger share of their balance sheets, reinforcing the sovereign-bank doom loop already flagged in Parts 11 through 13: banks funding the sovereign, the sovereign's creditworthiness increasingly resting on banks that are themselves increasingly exposed to the sovereign. 

X. The Two Precarious Trends Beneath the Headline 

First, on timing: headline year-on-year GDP growth has been decelerating in trend since Q2 2021 — the quarter immediately following BSP's historic pandemic-era bank rescue measures — with that deceleration visibly accelerating from Q2 2025 onward, when the flood-control scandal surfaced, and again through 2026 as the Iran-oil shock compounded. This is not a one-quarter air pocket; it is a five-year decay curve with two discrete accelerant events layered onto it. (Figure 5, lowest visual) 

Second, on the trend itself: both nominal and real GDP now sit at what should be read as precarious trend support. If either the year-on-year growth trend or the nominal-GDP trend breaks decisively from here, a technical recession moves from a tail risk to a live scenario — not because of a single bad quarter, but because the growth that has been recorded through 2025–2026 has been substantially manufactured through price suppression, debt-financed government consumption, and administratively engineered sectoral wins (electricity) offsetting administratively engineered sectoral losses (transport, construction). Remove the suppression and the debt financing, and the underlying trend has already been decelerating for five years. 

XI. Confusing Stagflation with an Event Rather Than a Process 

The recurring objection to this series is that “stagflation” has a technical definition—a threshold combination of low growth and high inflation, sometimes with high unemployment—and that 2.3% growth with 6.2% inflation may or may not clear that bar depending on which textbook is consulted. This misunderstands what the term is doing analytically.

Figure 6

As I put it recently: stagflation isn't a one-off event or merely a set of statistics. It's a cumulative process. GDP, CPI and employment are symptoms, not causes. The 1970s oil shocks exposed and intensified underlying imbalances that had already been building. (Figure 6, topmost window) 

Applied today, the economy could continue posting positive GDP growth even as shocks generate severe price pressures and distortions, with debt accumulation and policy accommodation allowing the underlying imbalances to persist rather than forcing immediate adjustment. 

The fact that the statistics did not necessarily satisfy the later textbook definition of stagflation at every point does not mean the underlying process was absent. 

By 1983, the accumulated imbalances had produced the combination of recession, inflation and unemployment that made the diagnosis technically unambiguous. 

That is the link between this quarter's headline GDP number and the debt-growth-outpacing-GDP-growth gap documented above. See previous discussion in Part 7 and Part 4. 

Leveraged GDP is fragile in a specific, mechanical sense: it depends on the state's ability to keep borrowing at a pace that outstrips nominal output and on the central bank's ability to keep suppressing the price signals through which the economy would otherwise adapt. The Philippine response today is not simply monetary easing. It is a combination of balance-sheet transfers, administrative controls, and BSP easing and relief measures that suppress or redistribute the signals of stress across the financial system and the real economy. 

Those interventions can buy time, but they do not create adaptive capacity. Market adjustment may be difficult and disruptive, but it forces prices, capital and balance sheets to adjust to underlying conditions. 

Suppression does the opposite: it delays adjustment, redistributes the resulting imbalances and uses borrowed time to keep the existing structure operating. The longer that process continues, the more deeply the economy becomes dependent on the interventions themselves. 

Growth built this way can appear stable until it fails abruptly. 

It can hold—as it has, barely, for several quarters now—until financing conditions tighten or a ‘sudden stop’ occurs, at which point the accumulated imbalance can compress quickly. The current Iran oil shock is only five months old: it is the third wave of the inflation cycle, following the Russia-Ukraine oil shock of 2022 as the second wave. (Figure 6, middle graph) 

The important point is therefore not the latest shock itself, but the structure it has hit. As in the 1970s, an oil shock has been layered onto pre-existing imbalances and met with political responses that suppress adjustment and buy time. 

The result is visible in the record first-half fiscal deficit, the record first-half trade deficit, the second-highest first-half debt level on record, and a strained GIR-BOP position—all against a GDP growth trend that has not merely weakened but has been decelerating for five years, with that deterioration visibly accelerating through 2025 and 2026. (Figure 6, lowest chart) 

That is the significance of the 1983 episode: the crisis did not begin when the statistics finally satisfied every technical criterion. The crisis was the CULMINATION of a process that had been building for years. 

The 2.3% print is not evidence that the process is absent; it is what that process looks like while the economy is still being financed and the underlying adjustment is still being suppressed. 

XII. Conclusion: GDP Is the Symptom, Not the Diagnosis 

None of the individual figures in this release are, by themselves, damning. A quarter of soft growth, the Iran war oil shock, a construction contraction tied to a corruption scandal, a temporary dip in remittance-linked income — any one of these could be read as noise. 

What makes the Q2 print diagnostic rather than incidental is that the mechanisms keeping the headline number positive is the same mechanism this series has been tracking since Part 11: administrative price suppression flattering the deflator, debt-financed government consumption substituting for private demand, and a handful of politically favored sectors (electricity, exports concentrated in AI-linked electronics) carrying industries that are otherwise contracting or stagnant. 

Stagflation is not a reading you take off a single quarter's GDP-and-CPI print. It is what you see when you trace how that print was produced — and 2.3% growth built this way is not evidence the process has stalled. It is evidence the process is still running, and that the bill for running it is still being deferred rather than paid. 

___

Last four stagflation series

-Stagflation Part 13: Record Twin Deficits Signal the Cost of Deferred Adjustment

-Stagflation, Part 12: The Philippines' Balance-Sheet Origins of Inflation

-Stagflation Part 11: The Intervention Ecosystem Behind Moody's and Fitch's Banking Warnings

-Stagflation Part 10: The Politics of Contradiction—Rate Hikes, Liquidity Addiction, and External Constraint Under Balance-Sheet Stress

 

 

Stagflation, Part 12: The Philippines' Balance-Sheet Origins of Inflation

  

What people today call inflation is not inflation, i.e., the increase in the quantity of money and money substitutes, but the general rise in commodity prices and wage rates which is the inevitable consequence of inflation. This semantic innovation is by no means harmless—Ludwig von Mises 

Stagflation, Part 12: The Philippines' Balance-Sheet Origins of Inflation

I. Preamble: Interconnectedness of All Economic Phenomena 

II. Following the Money: The Balance-Sheet Origins of Inflation

IIA. Why This Matters: From External Discipline to Domestic Bailout

IIB. Following the Credit: Electricity and the New Transmission of Liquidity

IIC. When Balance Sheets Become Policy: From Liquidity to Prices

III. Oil Relief, Monetary Inflation, and the Return of Deferred Prices

IIIA. Administrative Suppression Is Not Price Stability

IIIB. The Poor Continue Paying the Highest Inflation Tax

IIIC. Benchmarkism and the Illusion of Labor Absorption

IIID. Wage Mandates and the Intervention Spiral

IV. Conclusion: Inflation Before Prices 

Stagflation, Part 12: The Philippines' Balance-Sheet Origins of Inflation 

Why Consumer Prices Reveal the Consequences, Not the Beginning, of the Process 

I. Preamble: Interconnectedness of All Economic Phenomena 

Economic commentary often treats macroeconomic releases as though they describe separate realities. Bank lending is analyzed independently of inflation. Labor market statistics are discussed apart from monetary policy. Wage adjustments are framed as social policy, while electricity is relegated to industry news. Each release receives its own headline, its own narrative, and then quickly disappears into the next news cycle. 

Yet the economy functions as an interconnected process rather than a collection of isolated indicators. 

As Ludwig von Mises observed, economics "does not allow of any breaking up into special branches." It is concerned with "the interconnectedness of all phenomena of acting and economizing." Economic facts condition one another, and each problem can only be properly understood within a broader system that assigns its due place to every aspect of human action and economic choice. 

Money created through the banking system finances specific borrowers. Credit helps determine which investment projects become financially viable, influencing the allocation of resources, production costs, employment, asset prices, and eventually consumer prices. Monetary developments therefore propagate through the economy sequentially rather than simultaneously. 

The political environment further shapes this process by influencing the prevailing model of economic development. Governments frequently respond to the unintended consequences of earlier interventions with additional interventions. Each successive policy alters incentives, redirects capital toward politically favored sectors, and generates new distortions that invite further intervention, progressively reducing the economy's capacity to adjust through market processes. 

These developments are not isolated events. They represent successive stages of the same underlying process. 

The Philippine economy today provides an instructive example. 

• The BSP's May 2026 universal-commercial banking statistics showed another acceleration in money and credit growth. 
• The June CPI inflation report simultaneously revealed softer headline inflation but broader underlying price pressures. 
• The May labor report appeared to indicate slightly ‘improving’ employment conditions even as business investment remained subdued. 
• Meanwhile, Metro Manila received its ‘historic’ mandated wage increase in years, justified as protection against the rising cost of living. 

Conventional narratives frame these developments as isolated economic events. In reality, they form an interconnected process that reflects the deepening consequences of balance-sheet expansion, politically driven credit allocation, and successive policy interventions. 

The sequence matters because inflation does not begin at supermarket shelves, gasoline stations, or electricity bills. Nor does it begin with the consumer price index. By the time consumer prices visibly accelerate, the underlying monetary and financial adjustments have often been unfolding for a period. Markets respond to underlying conditions. What is seen as inflation is, therefore, a symptom. 

The process begins elsewhere. 

It begins with the expansion of balance sheets. 

II. Following the Money: The Balance-Sheet Origins of Inflation 

One of the recurring shortcomings of contemporary macroeconomic analysis is its tendency to treat inflation primarily as a phenomenon of price changes. 

Policymakers, talking heads, and financial markets closely monitor consumer price indices because they are readily observable, politically salient, and easily communicated. Rising food prices, higher electricity bills, and more expensive transportation become the visible face of inflation. 

Because consumer prices are both politically sensitive and immediately observable, inflation is also commonly framed as a problem originating in markets rather than in monetary or policy decisions. The mechanical focus is on the supply side. Thus, the resulting narrative emphasizes shortages, speculation, supply-chain disruptions, hoarding or price gouging, encouraging corrective political interventions, while the monetary and administrative policies that altered purchasing power and resource allocation receive comparatively little or no scrutiny at all. 

Yet the price changes captured by official statistics describe only one observable manifestation of a much broader monetary and financial process. 

Consumer price indices summarize exchange ratios over a given period; they do not reveal how the purchasing power underlying those transactions was created, allocated, and transmitted throughout the economy. 

Before consumer price indices register sustained inflation, balance sheets have often been expanding for months. Before households pay more at the grocery, someone must first acquire additional purchasing power. Before firms bid more aggressively for labor, raw materials, or imported inputs, someone must first obtain financing that enables such spending. 

Within the financial system, the interaction of savings, credit creation, monetary policy, and bank intermediation determines how purchasing power is created, allocated, and transmitted throughout the economy. 

These financial adjustments reshape resource allocation, investment decisions, production structures, and distribution, eventually influencing employment, incomes, spending patterns, and consumer prices. 

Periods of monetary accommodation magnify the imbalances (excess leverage, credit concentration, politically directed finance, sectoral distortions) that developed in the process. 

Monetary conditions have evolved through successive phases rather than discrete episodes. The BSP's earlier pandemic-era monetary expansion was followed by a period of policy tightening to contain rising inflation. Beginning in the second half of 2024, however, the BSP gradually shifted toward monetary accommodation through successive reductions in policy rates and reserve requirements. Rather than immediately accelerating consumer prices, these measures first affected the financial system by lowering funding costs, intensifying the expansion of banks' capacity to extend credit, increasing system-wide liquidity, and encouraging further balance-sheet expansion. 

These changes in monetary and credit conditions propagated or diffused gradually through the economy. As new purchasing power entered through bank lending and other financial channels, it influenced financing decisions, resource allocation, investment activity, and "aggregate demand" before becoming fully reflected in consumer price measures. 

The BSP's May 2026 Depository Corporations Survey (DCS) illustrates this transmission process. 

Broad money continued to accelerate for a fourth consecutive month.

Figure 1

M3 expanded by 12.8 % year-on-year, following growth of 10.3 % in February, 12.1 %in March, and 12.2 %in April. (Figure 1, topmost pane) 

While the various monetary aggregates have not followed identical trajectories over recent years, the May data point to increasingly broad-based liquidity conditions. 

• Cash in circulation, which had recently trailed the other aggregates in growth, rebounded.
• M1’s growth trend remained robust, sustaining the momentum from its earlier expansion in 2023.
• M2 and M3 growth accelerated in Q2 2025, showing that monetary expansion had become more widely distributed across the financial system rather than concentrated in a single aggregate. 

The significance of these figures lies not merely in their magnitude but in what they reveal about the sources of liquidity. 

The current acceleration in liquidity growth echoes the BSP’s pandemic‑era response. And while the DCS shows that domestic credit remained the principal driver of monetary expansion, the transmission channel has shifted. 

Banks net claims on central government (NCoCG) rose 16.2% to Php 6.4 trillion. (Figure 1, middle image) 

Claims on the public non‑financial sector accelerated even more rapidly, surging 41.2%, coinciding with the DOF’s proposed record remittances of GOCCs to the national government. Are banks financing the GOCC remittances? 

Lending to the private sector also strengthened to 13.2%, though at a more moderate pace. 

The banks’ net claims share of domestic claims stood at 27.1% in May 2026, slightly down from the record 27.6% in May 2024, while claims on the private sector reached 64.23%, sharply lower despite recovering from its interim trough in Q4 2023. Since the pre‑pandemic year 2019, bank net claims on the central government have taken an increasingly larger share of domestic claims—a clear sign that liquidity creation now stems primarily from bank financing of the government. (Figure 1, lowest diagram)

Figure 2

In the meantime, BSP’s net claim on central government (NCoCG) growth doubled in May to Php 662.6 billion, though it remains below pandemic levels. (Figure 2, topmost window) 

In sum, these developments suggest that the recent acceleration in monetary growth has been driven primarily by continued domestic balance-sheet expansion by banks and the government-BSP complex rather than by external sources of liquidity. 

Although the current expansion differs from the pandemic response in both scale and transmission mechanism, its underlying balance-sheet logic is strikingly similar. Liquidity is once again being created through coordinated expansion of public and banking-sector balance sheets—not primarily to finance new productive activity, but to sustain an increasingly leveraged economic structure. 

Unlike 2020, the current process operates largely through the routine mechanisms of government finance, central-bank operations, and bank credit rather than emergency facilities. 

Nevertheless, the recurring liquidity injections exhibit the characteristics of a quasi-bailout whose monetary consequences gradually diffuse through the economy before becoming visible in consumer prices. 

IIA. Why This Matters: From External Discipline to Domestic Bailout 

For many years, discussions of Philippine liquidity focused primarily on external sources of monetary expansion—remittances, export earnings, business process outsourcing receipts, tourism revenues, foreign portfolio flows, foreign direct investment, and movements in the country's international reserves. 

These external inflows undoubtedly influence domestic liquidity conditions. Historically, the accumulation of foreign exchange reserves also imposed an important discipline on domestic monetary expansion, as the BSP's balance sheet remained closely linked to developments in the external sector. 

Over time, however, the growing financing requirements of the domestic economy increasingly shifted the source of monetary accommodation inward. 

Ever since the 1997 Asian crisis, the BSP built up foreign reserves, which held nearly fixed at ~86–87% of assets from 2012 to 2018, culminating in 2019. Pandemic injections of $2.3 trillion cut that share to ~72%, as historic liquidity infusions raised domestic securities to nearly 20% — exposing peso fragility. (Figure 2, middle graph) 

While BSP has since reduced its domestic securities share and rebuilt reserves, banks now carry the burden of financing sovereign liabilities. 

As an aside, strangely, the BSP has yet to publish its monthly updates for 2026 

Consequently, this reinforced the larger role of domestic credit creation in expanding liquidity — a greater reliance on internally generated purchasing power rather than external inflows. 

Equally revealing are developments on the liability side of the banking system. 

Deposit substitutes—including money-market borrowings, promissory notes, and commercial paper—accelerated sharply. After expanding by just over 10 % year-on-year in February, their growth surged to nearly 74 % in April before approaching 95 % in May. Wholesale funding has therefore become an increasingly important source of financing for continued balance-sheet expansion. (Figure 2, lowest chart) 

The changing composition of bank liabilities provides important clues about conditions within the financial system. Rather than merely reflecting a preference for alternative funding structures, the growing reliance on wholesale liabilities suggests that banks theoretically are adapting to funding, regulatory, and balance-sheet constraints while sustaining asset growth. It also reflects the increasingly important role of market-based financing in supporting credit creation when traditional deposit growth alone becomes insufficient. 

That evolution carries important implications. 

Conventional narratives often portray banks as simple intermediaries that collect household savings before lending those funds to borrowers. Modern banking systems operate differently. Through credit expansion, bank lending simultaneously creates deposits, expanding both assets and liabilities on bank balance sheets. 

The composition of those balance sheets, however, is equally important. As a growing share of bank assets becomes concentrated in public-sector claims and other policy-influenced lending, while portions of private-sector credit remain constrained by weaker credit quality and elevated non-performing loans, the organic growth of deposits becomes less sufficient to sustain continued balance-sheet expansion. The sharp increase in wholesale liabilities therefore appears less a voluntary shift in funding strategy than an institutional response to mounting balance-sheet pressures, with banks increasingly relying on market-based funding to support continued liquidity creation. 

Understanding this mechanism fundamentally changes how monetary statistics should be interpreted. 

Liquidity is not merely a passive consequence of economic activity. It is created through identifiable balance-sheet transactions that determine who first receives newly created purchasing power, under what conditions, and for what purposes. 

This is where aggregate monetary statistics become insufficient. 

Headline M3 describes the resulting expansion of liquidity. It does not reveal how that liquidity was created, through whose balance sheet it entered the economy, or which borrowers received the newly created purchasing power. 

Money does not enter the economy uniformly. New purchasing power enters through specific borrowers, particular industries, and identifiable financial channels before gradually spreading throughout the broader economy. Those early recipients acquire the ability to bid for labor, raw materials, imported inputs, financial assets, and productive resources before the nominal incomes of later recipients adjust. Relative prices therefore begin changing well before those adjustments become visible in aggregate price indices. 

Price changes themselves reflect the interaction of supply and demand. Without additional money or credit to finance higher spending, stronger demand in one part of the economy generally requires weaker demand elsewhere. Generalized inflation therefore requires an expansion of purchasing power beyond the mere redistribution of existing income and savings. Even supply shocks initially alter relative prices; they become broader and more persistent only when accommodated by monetary expansion. 

As the late Nobel Laureate economist Milton Friedman reminded us: inflation is always and everywhere a monetary phenomenon — produced only by a more rapid increase in the quantity of money than in output. 

This is why some industries expand more rapidly than others. Certain asset prices appreciate long before consumer prices accelerate. Input costs often rise months before those increases appear in finished goods. The process is neither instantaneous nor evenly distributed. It unfolds according to the channels through which money and credit enter the economy. 

The balance sheet therefore provides the first map of inflation's transmission. 

If the Depository Corporations Survey explains how liquidity is created, the BSP's lending statistics reveal where that newly created purchasing power is increasingly being directed.

That question is particularly revealing in the current Philippine context. 

Aggregate lending growth accelerated during May. Yet the headline figure conceals a more important structural development. The composition of credit—not merely its quantity—provides the more meaningful signal. 

Among all sectors of the economy, one has emerged as the largest destination for new bank financing. 

The electricity sector. 

IIB. Following the Credit: Electricity and the New Transmission of Liquidity 

If the Depository Corporations Survey (DCS) reveals the expansion of monetary and banking-system balance sheets, the BSP's Universal and Commercial (U/C) Bank Lending data reveals how newly created purchasing power is allocated across sectors of the economy. Together, the two datasets provide complementary views of the same process: one identifies the expansion of liquidity within the financial system, while the other shows where credit creation is concentrated. 

The May lending report continued to show a rapid pace of credit expansion. Total outstanding loans of universal and commercial banks accelerated from 11.84 %year-on-year growth in April to 12.62 %in May, extending the recovery in bank lending that followed the BSP's shift toward monetary easing. 

On the surface, these figures suggested improving financial conditions and stronger economic activity. 

Aggregate lending growth, however, reveals only the quantity of credit creation. The more important question is where that credit is being allocated.

Figure 3

Consumer lending, which had been one of the principal drivers of post-pandemic credit expansion, continued to decelerate gradually while remaining elevated. Consumer loans slowed from 19.58 %to 19.03 percent, while credit-card lending eased slightly from 26.57 %to 26.30 percent. (Figure 3, topmost visual) 

Household borrowing therefore remained strong, but it was no longer the dominant source of credit expansion.

Production lending moved in the opposite direction. 

Loans to production activities accelerated from 10.70 %to 11.67 percent, suggesting that banks were directing a larger share of new lending toward business-related activities rather than household consumption. Under normal conditions, such a shift would generally be interpreted as favorable, as productive investment should expand capacity, increase output, and support long-term economic growth. 

The sectoral composition of production lending, however, reveals a more complex picture. 

Among major industries, electricity, gas, steam, and air-conditioning supply recorded the strongest expansion by a wide margin. Outstanding loans to the sector increased by 31.65 % year-on-year, accelerating from 25.83 %in April. (Figure 3, middle image)

More significantly, electricity accounted for the largest absolute increase in bank lending among all industries, adding approximately Php133.3 billion in a single month and roughly Php539.2 billion over the preceding twelve months. 

As a result, the sector's share of total universal and commercial bank loans increased from 12.2 %in May 2025 to 14.5 %by May 2026, reaching its highest level since the BSP began publishing the current series! 

This is not simply another industry experiencing rapid credit growth. 

It represents a significant reallocation of the banking system's balance sheet. 

Balance sheets often reveal structural changes before those changes become visible in national income statistics. Financing patterns, investment decisions, and credit allocation frequently adjust before their consequences appear in GDP, employment, or consumer-price data. Following the money therefore requires examining not only how much credit is created, but also which sectors receive that credit. 

This pattern also reflects broader developments within the Philippine electricity sector. 

Our previous analysis examined how mounting financial pressures within the industry were increasingly addressed through institutional restructuring, financing arrangements, and regulatory adjustments rather than through explicit fiscal appropriations. A series of developments pointed in the same direction: the SMC–Aboitiz Equity Ventures–Meralco (Chromite) Batangas LNG deal, Prime Infrastructure's acquisition of First Gen, the suspension of real-property taxes (RPTs) on power assets, and the introduction of the Government Energy Auction Allowance (GEA-ALL) on top of the existing FIT-ALL mechanism. Although different in form, these measures reflected a broader effort to maintain the financial viability of a strategically important sector while limiting reliance on direct fiscal support. 

The important observation is that the banking system has become an increasingly important channel through which financing reaches the electricity sector. Given that electricity-sector output has remained weak despite rapid credit expansion, the increase in lending raises questions beyond simple investment financing. Electricity GDP has stagnated since Q2 2025 (Figure 3, lowest graph) 

This reflects a quasi‑bailout scheme channeled through refinancing requirements, balance‑sheet restructuring, and regulatory incentives. 

Government‑affiliated private sector balance sheets absorb pressures that would otherwise appear on public accounts. Rather than showing up as fiscal expenditure, burdens are transferred via corporate restructuring and commercial banks, facilitated by regulatory adjustments. The cost does not disappear; it migrates across balance sheets, masking fragility under the guise of restraint. 

In this environment, the boundary between monetary policy, industrial policy, and financial-sector policy becomes increasingly difficult to separate. 

Credit allocation does not require formal central planning to influence economic outcomes. Once liquidity expands within the banking system, institutions respond to incentives, regulations, collateral conditions, risk assessments, and political priorities. The resulting allocation of credit reflects not only private lending decisions but also the broader institutional environment in which those decisions occur. 

This is why following the money requires following the balance sheet rather than the budget alone. 

The modern transmission of policy increasingly operates through credit markets. 

IIC. When Balance Sheets Become Policy: From Liquidity to Prices 

The significance of electricity lending extends beyond a single industry. It illustrates a broader feature of modern monetary transmission: the effects of monetary accommodation depend not only on the quantity of liquidity created, but also on where newly created purchasing power is allocated. 

The May DCS and lending reports reveal two dimensions of the same process. The DCS shows the continued expansion of liquidity through domestic credit creation, while lending data reveal how that purchasing power is distributed across sectors. Credit directed toward different uses—financial assets, real estate, consumption, infrastructure, utilities, or government financing—produces different effects on investment decisions, resource allocation, and relative prices. 

The transmission from monetary expansion to consumer prices is therefore neither immediate nor uniform. Newly created purchasing power enters the economy through specific financial channels, affecting particular borrowers and sectors before broader price effects emerge. 

The May balance-sheet and lending data indicate that these earlier stages of the process remain active. Liquidity continues expanding, domestic credit remains the principal source of monetary growth, and bank lending increasingly reflects sectoral concentrations, including electricity. 

June's inflation report should therefore not be interpreted as an isolated movement in consumer prices. It represents a later stage of a monetary and credit process already visible within the financial system. 

The balance sheet reveals where the process begins. Consumer prices reveal where it eventually appears. 

The significance of electricity lending extends beyond a single industry. It illustrates a broader feature of modern monetary transmission: the effects of monetary accommodation depend not only on the quantity of liquidity created, but also on where newly created purchasing power is allocated. 

III. Oil Relief, Monetary Inflation, and the Return of Deferred Prices 

Having followed the creation of liquidity through the banking system and traced its allocation across the economy's balance sheets, the analysis now moves to where these monetary processes become most visible: consumer prices. 

June's inflation report was widely interpreted as evidence that inflationary pressures were easing. Headline consumer price inflation declined from 6.8 %in May to 6.4 percent in June, reinforcing the view that price pressures were gradually moderating and that recent policy measures were beginning to stabilize conditions. 

The underlying picture, however, was more complex.

Figure 4

The decline in headline inflation was driven primarily by a factor external to domestic monetary conditions: the sharp reduction in global oil prices. West Texas Intermediate crude declined by more than 23 % during June, easing one of the most significant cost pressures affecting households and businesses. (Figure 4, topmost window) 

Transport inflation correspondingly slowed from 16.2 %to 12.8 percent, contributing substantially to the moderation in the overall index. (Figure 4, middle image) 

Had inflation been primarily a fuel-price phenomenon, the decline in headline inflation would have represented a broader improvement. 

The underlying data suggest otherwise. 

Core inflation accelerated from 4.1% to 4.4%, indicating that price pressures were becoming more broadly distributed beyond volatile food and energy components. The breadth of monthly price movements also remained significant: only three of the thirteen major CPI divisions recorded declines, while eight increased and two remained unchanged. 

The decline in headline inflation therefore reflected the offsetting effect of a major temporary component rather than a broad reversal of inflationary pressures. Lower oil prices reduced one important source of cost pressure, but they did not eliminate the monetary and credit conditions that had already influenced other parts of the economy. 

As established in Part I, monetary expansion does not affect all prices simultaneously. Newly created purchasing power enters through specific financial channels, influencing particular borrowers, industries, and production decisions before broader consumer-price effects emerge. 

June's CPI data should therefore not be interpreted as contradicting the monetary process. They illustrate its continuing transmission. 

The BSP's monetary data reinforce this interpretation. Broad money expanded by 12.8% in May, marking the fourth consecutive month of double-digit M3 growth. (Figure 4, lowest chart) 

Such expansion does not mechanically determine a precise monthly inflation outcome; monetary transmission operates through time and through changing economic structures. However, sustained liquidity growth provides the financial conditions through which localized price pressures can become more broadly embedded. 

This distinction is essential because supply conditions and monetary conditions operate differently. 

Supply disruptions can alter relative prices. Higher oil prices increase transportation costs. Poor harvests reduce agricultural supply. Geopolitical conflicts and supply-chain disruptions affect specific markets. 

But relative-price changes alone do not create sustained economy-wide inflation. Without additional purchasing power, higher spending in one category must generally reduce spending elsewhere. A rise in one set of prices is offset by weaker demand in another. 

Generalized inflation requires a mechanism that allows nominal spending to expand across multiple sectors simultaneously. 

That mechanism is provided by monetary and credit expansion. 

The balance sheets examined in Part II explain how that purchasing power entered the economy. 

The CPI data reveal where those monetary effects are becoming visible. 

IIIA. Administrative Suppression Is Not Price Stability 

June's inflation data also illustrate a recurring feature of price management: suppressing visible price increases does not necessarily resolve the conditions producing them. 

When politically sensitive prices rise, policymakers often respond by attempting to manage the observed price outcome directly through administrative measures, subsidies, regulatory interventions, or temporary restrictions. Such measures may provide short-term relief, but they do not eliminate the underlying economic pressures affecting supply, costs, and incentives. 

Rice provides one example.

 

Figure 5 

Despite the continued implementation of the Maximum Suggested Retail Price (MSRP), import liberalization measures, 20 pesos rice rollouts and further policy interventions affecting rice markets, rice inflation remained elevated at close to 15 %in June, only marginally lower than May's 15.6 percent. (Figure 5, upper diagram) 

The persistence of high rice inflation demonstrates the limits of administrative measures as a substitute for resolving underlying supply and cost pressures. A controlled price may temporarily alter the reported price path, but it cannot by itself change the economic conditions determining production, distribution, and availability. 

The irony is, despite this, authorities still propose to extend price caps! 

Electricity provides another important illustration. 

During June, Wholesale Electricity Spot Market (WESM) prices increased by approximately 23 percent, with particularly sharp movements in the Visayas. The development attracted limited public attention despite its potential implications for future consumer prices. 

Earlier in the year, authorities temporarily suspended aspects of WESM pricing under Executive Order No. 110 before subsequently restoring market-based pricing mechanisms. The objective was understandable: electricity prices had become politically sensitive, and temporary intervention offered immediate relief. 

However, prices perform a crucial and indispensable economic function. They transmit information about scarcity, and costs necessary for economic calculation. Administrative intervention can delay that information from appearing in observed prices, but it cannot eliminate the underlying pressures that generated it. 

When market pricing resumes, adjustments may reflect not only current conditions but also costs that accumulated during the period of suppression. What appears to be a sudden price increase may therefore represent deferred price discovery rather than a newly emerging problem. 

The same principle applies beyond electricity. Temporary relief measures introduced during the earlier oil-price shock have since been reversed, restoring excise-tax collections while households continue facing elevated living costs. The sequence demonstrates a recurring policy tension: measures that to supposedly protect consumer gives way to other political priorities. 

Administrative intervention can influence the timing of price adjustments. 

It cannot permanently remove the economic forces requiring those adjustments. 

When underlying pressures are postponed rather than resolved, inflation does not disappear. Its transmission is merely delayed, redistributed, or redirected through other channels. 

IIIB. The Poor Continue Paying the Highest Inflation Tax 

Headline inflation also conceals an important distributional reality. 

Aggregate price indices describe an average household. No household is actually average. 

The BSP and the Philippine Statistics Authority recognize this distinction by publishing separate inflation measures for the Bottom 30 %of income households. These statistics often provide a clearer picture of inflation's social consequences because lower-income households devote a larger share of their budgets to essential goods. 

June's data offered little relief. 

Although the gap between Bottom-30 food inflation and headline food inflation narrowed slightly—from 8.5 percentage points in May to 7.9 percentage points in June—it remained historically elevated or significantly above the inflation spike of 2023. (Figure 4, lower graph) 

This difference matters because persistent inflation does not affect all households equally. 

Higher‑income households generally possess greater ability to adjust through changes in consumption patterns, sustained reductions in savings, or by using accumulated assets to defend against erosion of purchasing power — for example, buying USD or other inflation‑hedging instruments. 

Lower-income households have far fewer margins of adjustment. 

They continue purchasing the same essential goods—rice, food, electricity, and transportation—but those costs represent a much larger share of their available income. Inflation therefore reduces not only purchasing power but also household flexibility and resilience. 

This perspective exposes inflation’s role as inequality’s engine: a regressive tax that punishes the poor while averages mask fragility. 

This distinction is also important when interpreting broader economic classifications and averages. Improvements in aggregate indicators may reflect selective progress, but they do not necessarily capture how households experience changing prices in their daily lives. 

Statistical averages summarize outcomes. 

Ironically, the data defies the conditions that brought upon the upper middle-income country (UMIC) status upgrade. 

That asymmetry becomes even clearer when moving beyond prices and examining the labor market, where businesses must decide whether rising costs can still be absorbed or whether they must adjust employment, investment, and production decisions. 

That said, selective liquidity injections and quasi-bailout dynamics operate as an inflation tax. The redistribution occurs through the unequal transmission of newly created purchasing power: early recipients benefit before prices fully adjust, while households with the least ability to hedge against inflation absorb the greatest loss of purchasing power. Monetary accommodation therefore functions as a regressive transfer mechanism, amplifying inequality and social pressures. 

IIIC. Benchmarkism and the Illusion of Labor Absorption 

The June inflation report reveals where the transmission of monetary expansion becomes visible. The May labor report, by contrast, reveals where its longer-term consequences begin to emerge. 

Official commentary described the May labor statistics as evidence of improving "labor absorption." The phrase itself is revealing. It suggests that employment expands mechanically once workers become available, as though the economy simply absorbs labor whenever conditions permit. 

The reality is different. 

Employment is not an autonomous variable. In a market economy, labor demand is derived demand. Firms do not hire merely because workers are seeking employment. They hire because entrepreneurs, operating under uncertainty, expect that committing resources to expand the enterprise will generate future returns. 

Employment therefore represents the outcome of prior investment decisions. 

Structural capital includes not only physical assets and financial resources, but also the organizational, technological, managerial, and human capital that allow labor to become productive. Workers become more valuable when combined with the complementary capital, processes, and institutions that enable production to occur efficiently. 

A labor market can therefore improve through two very different mechanisms. 

The first involves firms utilizing existing deployed capital: filling vacancies, extending working hours, increasing production within current facilities, or replacing workers who have exited. 

The second involves entrepreneurs committing new capital to expand the productive structure itself: entering new markets, building additional facilities, acquiring new capabilities, and creating new organizational capacity. 

It is the second process that represents the creation of additional productive capacity and therefore determines the economy's longer-term ability to generate sustainable employment growth. 

Labor statistics, however, cannot fully distinguish between these outcomes. A reduction in unemployment or underemployment may indicate improved labor utilization, but it does not necessarily reveal whether firms are undertaking the deeper capital commitments required for sustained economic expansion. 

The broader investment environment provides a more cautious picture.

Figure 6

Foreign direct investment (FDI) has weakened substantially reaching a decade-low level in April. (Figure 6, topmost pane)

While the recent Iran war oil shock may have contributed to this, the broader decline in foreign exposure since 2022 suggests increasing caution among investors considering long-term commitments. 

This pattern is notable given the investment pledges announced during official engagements with geopolitical partners. Announced intentions do not automatically translate into deployed capital. Actual investment decisions ultimately depend on expected returns and hurdle rates, underwritten by institutional conditions, policy stability, and the perceived risks facing capital commitments. 

The divergence between household and business sentiment reflects a similar tension. 

BSP surveys indicate that consumers remain concerned about rising food prices, declining purchasing power, and persistent inflation pressures. Large formal enterprises, by contrast, maintain comparatively stronger expectations regarding sales and operating conditions. (Figure 6, middle left and right images) 

This divergence partly reflects differences in economic position. Large firms generally have greater access to credit, capital markets, export revenues, diversified income streams, and pricing power. Their outlook may therefore reflect stronger balance-sheet capacity or even narrative management aimed at securing financial interests, rather than broad-based improvements in the economy.

Even within business surveys, the signals are mixed. Firms may express confidence regarding near-term operations while remaining cautious about major expansion decisions. Ultimately, investment outcomes—not surveys—determine whether optimism translates into productive capacity. 

The labor statistics themselves also present a more complex picture than headline indicators suggest. 

Compared with April, labor-force participation and unemployment marginally increased 

Compared with May of the previous year, however, employment and labor-force participation remained weaker. 

More importantly, under present high inflation conditions, labor‑market softness reflects entrenched financing costs, balance‑sheet strain, policy uncertainty, volatile prices, and compressed margins. (Figure 6, lowest chart) 

Unlike the post‑pandemic reopening inflation spike, when BSP’s unprecedented injections and fiscal support temporarily fueled pent‑up demand, today’s environment discourages irreversible capital commitments. Employment gains in agriculture, construction, and accommodation may be seasonal or policy‑driven, not evidence of durable expansion. 

These conditions do not naturally encourage the irreversible commitments associated with expanding structural capital. 

The sectoral composition of employment gains reinforces this caution. 

Agriculture recorded the largest employment increase despite recurring weather disruptions and elevated input costs. Construction also expanded, although some of its momentum may reflect continued government infrastructure activity rather than broad-based private investment. Accommodation and food services improved despite tourism in recession in 2025, as well as earlier reported contractions in Baguio, Boracay, Hundred Islands and East Visayas. 

Such movements may represent temporary adjustments, seasonal effects, or sector-specific developments. 

They do not, by themselves, demonstrate a generalized expansion of productive capacity. 

The labor data is another manifestation of benchmarkism. 

Employment, unemployment, and underemployment are valuable indicators. They measure observable outcomes, but they reveal little about the entrepreneurial processes that generate those outcomes. 

They tell us how many people currently have jobs. 

They tell us far less about whether entrepreneurs are committing scarce capital to create the productive capacity required for future employment. 

That unseen process ultimately determines whether current labor conditions represent a durable expansion or merely a temporary improvement within a constrained economic structure.

IIID. Wage Mandates and the Intervention Spiral 

Against this backdrop, the Metro Manila wage board approved a historic Php85 per day increase in mandated wages, the largest adjustment in years. The measure was presented as a response to rising living costs and as protection against inflation. 

The political appeal is understandable. 

The economic challenge is that higher mandated wages do not restore lost purchasing power. They redistribute the burden of reduced real income among employers, consumers, investors, taxpayers, and workers themselves. 

The cost does not disappear because it is mandated. 

Businesses facing higher labor costs must adjust through some combination of lower margins, higher prices, reduced hiring, delayed investment, automation, or restructuring. The ability to absorb these costs differs significantly across firms. 

Large corporations with stronger balance sheets, broader revenue sources, easier access to financing, and greater pricing power may adapt more easily. 

Many MSMEs face a different reality. Operating with thinner margins, limited access to financing, and fewer opportunities to pass costs forward, smaller firms are generally less capable of absorbing mandated increases in labor costs. 

The effects of such policies are therefore not distributed evenly across the economy. Larger enterprises with stronger balance sheets, greater access to capital markets, established supply chains, and greater pricing power are better positioned to adjust. For smaller competitors and potential new entrants, however, higher compliance costs can become additional barriers to expansion. 

This creates an unintended asymmetry. Policies introduced in the name of protecting workers strengthens the position of established firms by increasing the cost of competition, while reducing opportunities for smaller enterprises to grow, train new workers, and create new employment capacity. This creates an implicit protective moat for conglomerates, raising barriers to entry and reinforcing concentration under the guise of worker protection. 

The consequences extend beyond immediate hiring decisions. Firms may respond by reducing entry-level opportunities, favoring experienced workers over new graduates, limiting employee benefits, postponing expansion, increasing automation where feasible, or remaining informal. These adjustments reduce the economy's capacity to develop skills, accumulate enterprise capital, and expand productive output. 

When such interventions occur within an environment of monetary accommodation and expanding liquidity, the adjustment process becomes even more complex. Higher business costs can contribute to higher prices, while weaker investment incentives constrain future supply growth. The result is not simply a labor-market adjustment, but a mechanism through which inflationary pressures and weaker productive capacity can reinforce one another—stagflation. 

Over time, successive interventions can generate a cumulative process in which attempts to offset earlier distortions create new distortions requiring further intervention. 

Mandated wage hikes redistribute costs but do not restore purchasing power. Larger firms adapt; MSMEs struggle. The result is an implicit moat for conglomerates, raising barriers to competition. Within monetary accommodation, higher costs feed inflation while weaker investment erodes capacity — stagflation in motion. Successive interventions spiral into quasi‑bailouts, entrenching centralization, weakening feedback, and deepening rent‑seeking fragility. 

IV. Conclusion: Inflation Before Prices 

As Ludwig von Mises observed, what is commonly called inflation today is more accurately the consequence of inflation rather than inflation itself. The persistent tendency to equate inflation with rising consumer prices shifts attention away from the monetary and financial processes that precede those price movements. 

The Philippine experience illustrates why that distinction matters. 

Balance sheets reveal where purchasing power is created. Bank lending reveals where newly created purchasing power is initially directed. Credit allocation influences investment decisions, resource allocation, relative prices, and production structures long before those adjustments become visible in consumer price statistics. 

By the time inflation appears in the Consumer Price Index, the underlying monetary process has often been unfolding for months. 

Yet the process does not end with liquidity creation. The destination of that liquidity matters. When monetary expansion increasingly operates through the financing of existing financial pressures, politically significant sectors, or heavily leveraged structures, liquidity creation can function as a form of quasi-bailout—shifting adjustment costs across balance sheets rather than allowing those pressures to be fully resolved through market processes. 

The consequence is not merely higher prices. 

It is a gradual weakening of the economy's capacity to adjust. Resources are redirected toward sustaining existing structures rather than expanding productive capacity. Price signals are delayed through administrative interventions. Labor statistics improve without necessarily reflecting stronger capital formation. Businesses face rising costs while investment incentives weaken. 

These developments represent different stages of the same underlying process. 

The BSP's balance-sheet and lending data therefore provide more than a snapshot of current financial conditions. They reveal the evolving structure through which liquidity is created, transmitted, allocated, and ultimately reflected in economic outcomes. June's inflation report, the widening divergence between headline and core inflation, the burden borne by lower-income households, the changing character of employment, and the growing reliance on successive interventions are not isolated developments. They are manifestations of a broader balance-sheet process. 

Understanding inflation therefore requires looking beyond benchmark statistics. Consumer prices summarize observable outcomes. They do not explain how those outcomes came into being. 

Following inflation means following the money. 

It means following balance sheets before price indices, credit allocation before consumer spending, and institutional incentives before policy outcomes. 

Only by understanding that sequence can we understand not only why prices rise, but also why repeated attempts to suppress adjustment can transform monetary accommodation into a self-reinforcing process of weaker investment, distorted allocation, and ultimately stagflation. 

_____

References: (last 3)

Stagflation Part 11: The Intervention Ecosystem Behind Moody's and Fitch's Banking Warnings 

Stagflation Part 10: The Politics of Contradiction—Rate Hikes, Liquidity Addiction, and External Constraint Under Balance-Sheet Stress 

Stagflation Part 9: The Good News Mirage — Statistical Stability Amid Structural Fragility