The Diokno-Led BSP: The Weak Peso is a Net Win, Don’t Fight the BSP, Buy the USD-Php!

Religions die hard. It takes an orgy of evidence to change a person’s mind on a subject that is integral to their moral and ethical structure—Tom Luongo

In this issue

The Diokno-Led BSP: The Weak Peso is a Net Win, Don’t Fight the BSP, Buy the USD-Php!

-The Duterte Administration Embeds into the BSP

-Diokno: Weak Peso is a Net Win!

-Diokno’s Many Statistics Equals Economics Myths; Is the BSP Governor an MMTer?

-Mr. Diokno’s Penchant for the INFLATION TAX!

-The Diokno Led BSP will EASE SOON: Don’t Fight the BSP, Buy the USD-Php! The BSP Independence Myth

The Diokno-Led BSP: The Weak Peso is a Net Win, Don’t Fight the BSP, Buy the USD-Php!

The Duterte Administration Embeds into the BSP

From last week: (bold original)

Needless to say, given that the political economy has been dependent on these twin bubbles (race to build supply and the neo-socialist bubbles) politicians will pressure the monetary authorities to accommodate them.

And such is the reason that the BSP’s remarkable restraint should prove to be fleeting.

January Quantitative Tightening: The BSP Withdraws Record Funding to the National Government, March 3, 2019

The appointment of former Budget Secretary, Benjamin Diokno, as the Governor of the Bangko Sentral ng Pilipinas (BSP) came as a surprise to the public.

The BSP's capture by the administration has been anticipated by us in the above. 

While the BSP hierarchy, some business groups, and bankers welcomed the appointment, some external analysts see this development as heightening the risks of politicization and the potential loss of independence of the central bank. Naturally, theadministration denies this.  

The diametric reactions have been intuitive.  

For the banking system, with the BSP poised to exercise increased control of the industry through the new BSP law, who would dare question such an appointment?

Not content with the BSP law, the central bank even desires to expand its regulatory dragnet over the parent or holding firms of banks! So any expressed opposition from the industry would likely be met by vindictive responses by the regulator! These economic agents would not desire to lose their franchises or be taxed to extinction, or face the risks of nationalization. As such, singing hallelujahs and fawning over the actions of the administration would be the natural response. 

In contrast, with fewer risk exposure to domestic politics, some external commentators had the mettle to call a spade a spade (even benignly).   

Diokno: The Weak Peso is a Net Win!

From Finance, Banking and Money (lardbucket.org)

What exactly is central bank independence (sometimes referred to as autonomy) and why is it important? Independence means just that, independence from the dictates of government, the freedom to conduct monetary policy as central bankers (and not politicians) wish. Why does it matter whether a central bank is independent or not?

From the ABS-CBN: (March 5, 2019) "Price stability is one goal of BSP. Financial stability is the other one. But it's more than that," Diokno said in a text message reply to ABS-CBN News. "BSP’s role is to ensure steady, strong growth. In order to achieve this, monetary policy has to be in sync with fiscal policy," he said

Merriam Webster’s definition of “in sync”: “in a state in which two or more people or things agree with or match one another and work together properly”

This Nikkei Asian Review article describes fittingly what Mr. Diokno wishes to impart: “A rate cut would help reduce financing costs of Duterte's "Build, build, build" program, which aims to spend over 8 trillion pesos on roads, bridges and airports by 2022.”

The BSP’s Objective: “The BSP’s primary objective is to maintain price stability conducive to a balanced and sustainable economic growth. The BSP also aims to promote and preserve monetary stability and the convertibility of the national currency.”

Last year, the erstwhile budget secretary as a rah-rah boy for the weak peso: (Philstar July 10 2018): [bold added] The weakening of the Philippine peso, one of Asia’s worst performing currencies so far this year, is a “net win” for the country, Budget Secretary Benjamin Diokno said Tuesday amid concerns over the local currency’s slump. According to Diokno, the depreciation of the peso is expected to benefit overseas Filipino workers, the business process outsourcing industry and the country’s exports.”

The BSP Chief wants a weak peso!

Diokno’s Many Statistics Equals Economics Myths; Is the BSP Governor an MMTer?

WHERE in the BSP objectives does it state that monetary policies need to be in sync with fiscal policies?

Figure 1

What happens if fiscal policy contravenes or clashes with price stability? The surging fiscal deficit has been accompanied bysoaring CPI for the past two years. (figure 1, upper window)

Which will Mr. Diokno take as THE BSP’s priority in the case of the present conflict?

And has easy money policies reduced the debt burden supporting “build, build and build” and the record fiscal deficit?

Bureau of Treasury’s debt servicing data shows that this claim has been unfounded. It is true that reduced interest rates lower financing costs, on the surface. But there are second-order consequences. That is, lower financing costs raises the stock of debt. In this case, the government has used lower rates to expand debt financing. Total annual debt service (interest plus amortization) surged from Php 490.36 billion in 2017 to Php 776 billion in 2018 or by 58.18% to reach the second highest level over the past 23 years! (figure 1, lower window)

Figure 2

As to the claim that the weak peso boosts OFWs, service or goods exports where is the empirical proof?

Wouldn’t price instability and the consequential loss of purchasing power overwhelm the supposed advantages provided by these?

The trend of OFW remittances continues to sink as the peso fell. OFW remittance growth rate peaked in early 2014 then headed south in the succeeding years. Such downtrend as accurately predicted here, signified OFW’s diminishing marginal returns. So the weak peso hasn’t boosted OFWs as alleged. (figure 2, upper window)

The weak peso has neither boosted goods export nor services export as so claimed.  (figure 2, lower window)

Not only have these assertions been grounded on fallacious theories and assumption, but more importantly, the evidence does not support them.

The great Austrian Economist Ludwig von Mises presciently identified the ideology behind this: [The Causes of Economic Crisis, p.194] (bold added)

Credit expansion not only brings about an inextricable tendency for commodity prices and wage rates to rise it also affects the market rate of interest. As it represents an additional quantity of money offered for loans, it generates a tendency for interest rates to drop below the height they would have reached on a loan market not manipulated by credit expansion. It owes its popularity with quacks and cranks not only to the inflationary rise in prices and wage rates which itengenders, but no less to its short-run effect of lowering interest rates. It is today the main tool of policies aiming at cheap or easy money.

Yet, the new BSP chief subscribes to it.

Dyed in the wool money cranks have been reincarnated today through the Modern Monetary Theory (MMT) which believes that fiscal deficits can be funded freely by the printing press with hardly any costs. And socialist ideologues in the US have used MMTto justify their programs.

Harvard professor Kenneth Rogoff wrote recently at the Project Syndicate to push back on this: “Powell is absolutely right about the deficit idea, which is just nuts. The US is lucky that it can issue debt in dollars, but the printing press is not a panacea. If investors become more reluctant to hold a country’s debt, they probably will not be too thrilled about holding its currency, either. If that country tries to dump a lot of it on the market, inflation will result. Even moving to a centrally planned economy (perhaps the goal for some MMT supporters) would not solve this problem.” (bold mine)

Has the BSP embraced an MMTer as Governor?

Boy, do I miss Mr. Espenilla and Mr. Tetangco! Mr. Diokno’s presence makes his predecessors look like hard money (gold) bugs!

Mr. Diokno’s Penchant for the INFLATION TAX!

At the outset, Mr. Diokno’s inaugural proposition has been to raise the Reserve Requirement Ratio on the banking system. The prospect of the availability of more money triggered a buying orgy on bank stocks. The financial index zoomed by 4.6% to lift the headline index by 2.03% this week.

To fulfill the desire for a regime based on cheap money, Mr. Diokno pushed further for interest rate cuts.

But perhaps due to pressures from some groups, Mr. Diokno reportedly moderated his push for an outright easing stating that he would rather “wait for fresh data to confirm that the inflation rate is indeed on a downtrend before pushing for a reduction in interest rates or bank reserve requirements”

Figure 3

The National Government and the BSP reported February CPI at 3.8%. Statistical inflation peaked in September 2018 at 6.7% and dropped by almost half in February in 5 straight months of decline. Curiously, headline inflation has plunged below the core inflation of 3.9%. (see figure 3, upper window) The growth rate of food and energy prices have dropped faster and far more than the other items in the consumer basket. Have Filipinos been backing off consuming basic goods to spend more on other items?

Though I would doubt the accuracy of the statistical CPI, what has been telling has been that inflation is being weighed down by intensifying tightening of financial conditions. (see figure 3, lower window)

The CPI won’t be the reason for the BSP Governor’s coming action.

Mr. Diokno doesn’t say that the inflation from record public spending represents an INDIRECT TAX.

So he would want to increase such transfers to the political regime.

Hence, Mr. Diokno’s push for cheap money should expedite the financing and resource transfers to from you and me to the Mr. Duterte, his allies, cronies and to Mr. Diokno’s relatives who, reportedly, have been benefiting from the build, build and build.

It’s free lunch for him….at our costs.

The Diokno Led BSP will EASE SOON: Don’t Fight the BSP, Buy the USD-Php! The BSP Independence Myth

Figure 4

With real rates in the POSITIVE, subsidies to the NG has ceased. Money has been tightening. The yield of 1-year treasury notes (PDS) has been higher than the CPI for FOUR straight months through February! (figure 4, upper window)

And tight money wouldn’t be allowed to jeopardize or hamper this regime’s spending and centralization goals. So one can expect that the new BSP governor to undertake easing measures soon!

Free lunch MUST continue for them!

Unfortunately, profound problems in the banking sector will pose an obstacle. The humped or partial inverted curve of BVAL ratesare manifestations of the industry’s dilemma. (figure 4, middle window)

Though yields have come down across the curve, the decline has been uneven.  While inflation expectations have influenced the longer end that has resulted to bigger decreases in yields, however, the shorter end has been marginally off the recent multi-year highs. The short-end should respond to Mr. Diokno’s call for rate cuts.

But it hasn’t.

Yet.

It might not.

In fairness, the BSP has been conducting fiscal operations even prior to this administration. (figure 4, lower window)

The share of BSP monetization to the GDP has been rising since 2015. Such operations have only accelerated in the present administration. The spike in 2013 signifies the BSP’s response to Ben Bernanke’s Taper Tantrum.

Monetization of the NG’s expenditures debunks the notion of the BSP’s independence. The BSP's conduct of fiscal policy through monetization has entwined the central bank with the NG. 

To rescue the banking system, the BSP triggered this nuclear option in 2015.

The appointment of Mr. Diokno had been most likely designed to ensure that the Duterte government would have unfettered access to the peso printing press!

Given the above, the claim that the BSP independence will remain intact is a fiction.

Mr. Diokno’s helm should help the administration centralize the financial industry.

Federalism anyone?

Yet, with emergency stimulus policies all in (interest rates, QE and fiscal stimulus), what would be left for the BSP and the NG to use once the economy falters?

Mr. Diokno’s dogma provides us a clue. Print the peso away!

Says Mr. Diokno, the weak peso is a NET WIN!

Don’t fight the FED BSP!

Buy the USD-Php!

P.S. The BSP will cut the Reserve Requirements Ratio first. That’s my past and present prediction. But that’s hardly about easing. Rather, such would be about releasing regulatory constrained funds to the liquidity-starved banking system…

Attachments area

January Quantitative Tightening: The BSP Withdraws Record Funding to the National Government

In this issue

January Quantitative Tightening: The BSP Withdraws Record Funding to the National Government

-BSP’s QT: Reverses Funding to the National Government by the Largest Amount!

-The BSP’s Possible Intentions

-The Stress Testing of the Economy; Fiscal Deficit Understatement: Customs Collections Jumped on Import Crash?!

-Deficit Financing by Capital Markets? Will the NG-Banking Crowding Out Intensify?

-Will Intensifying Liquidity Strains Benefit the GDP and Stocks?

January Quantitative Tightening: The BSP Withdraws Record Funding to the National Government

BSP’s QT: Reverses Funding to the National Government by the Largest Amount!

The Bangko Sentral ng Pilipinas (BSP) has done the unthinkable! It has withdrawn DIRECT financing to the National Government (NG) by a staggering Php 198.153 billion in January 2019, the largest monthly amount since at least 2002! (figure 1, uppermost window)

The BSP has done the nation a great favor (at least temporarily)

Figure 1

From the BSP’s January Liquidity report: “Growth in net claims on the central government likewise slowed to 4.7 percent in January from 16.4 percent in the previous month.”

January’s stunning pullback was equivalent to 73.9% of 2018’s Php 268.214 billion financial support provided by the BSP to the NG’s aggressive public spending driven record budget deficit! The BSP financed 48.04% of the NG’s 2018s historic fiscal deficit of Php 558.26 billion!

The BSP has intensified the tightening of its monetary policy, not through the interest rate channel, but thru the monetization of the NG's spending. To put it more precisely, the financing of the NG's spend, spend and spend has been rolled back by the BSP! 

As such, the traditional measure of money supply growth, represented by M3, has plummeted to a rate of 7.75%, the lowest level since January 2015! (Figure 1, middle window)

Since 2015, the undulations of M3 and the rate of change of net claims on NG have been rhythmically similar, which are indicative of tight correlations. The tight correlation points to the increased contributions of the BSP’s financing of public spending, through the fiscal deficit, to money supply growth.

Another ramification: With the sharply reduced supply of the peso relative to the USD, naturally, the peso rallied.

The implication is that strengthening of the USD the peso has not only been driven primarily by bank credit expansion, but also by the recent use by the BSP of its emergency arsenal, the monetization of the fiscal deficit.   (see figure 1, lower window)

The BSP’s Possible Intentions

Is this a radical change of stance by the BSP?

Why has the policy of retrenching money supply growth been sustained by the BSP when CPI rates have been crashing? 

Is the BSP concerned that some banks have continued to swamp the public with fantastic rates of loan issuance, thereby amplifying systemic risks?

For instance, gross interest revenues of China Bank and BDO spiked by a breathtaking 32.7% and 29.31%, respectively, almost DOUBLE the industry’s total loan portfolio growth of 15.62% in December 2018 (year on year)! Amidst a slowing economy, such aggressive lending activities won’t result in MORE distressed debts???! Wouldn’t this be a recipe for more Hanjin debacles?

Is the BSP tacitly disciplining the financial system at the same time putting to a stress test the much-touted resiliency of domestic demand?

Is the BSP unwaveringly confident that the capital markets will sufficiently provide, as the principal source of funding, all the requirements of the targeted deficit of Php 575 billion in 2019?

Or has the BSP been operating under the implicit impression that the NG’s deficit target for 2019 (Php 575.6 billion) may face a setback?

Figure 2

Yes, three forces have now aligned to drive financial conditions.

As noted earlier, bank credit expansion has primarily been responsible for the hastening cascade of money supply growth.  That is, aside from January’s BSP’s Quantitative Tightening (QT) AND the escalating shortages of liquidity in the banking/financial system.

The repercussions from the stunning liquidity pullback:

Bank lending dived broadly in January 2019!

Production loan growth skidded from 17.17% in November and 15.83% in December to 15.49% in January.

On the other hand, the banking system’s consumer portfolio hurtled lower, from 13.82% in November and 13.62% in December to 12.74% in January, a 4Q 2015 low!

With the growth rate of cash and consumer credit considerably down, what financed the spending by consumers?  What has been the source of consumers wherewithal? Did they draw from their savings? Did they borrow from the shadow banks?

Though marginally down from 21.06% in December to 20.64% in January, the upper strata of the income class remained extravagant spenders as evidenced by the still brisk growth rate of the credit card peso volume.

According to the BSP led FSR, the more affluent households have higher exposure to more expensive debts (mostly long-term such as vehicle and real estate).  The affluent households continue to build up massive amounts of leverage on their balance sheets.

On the other hand, debt by households with low savings or with thin financial margins “suggest vulnerability to tighter financing conditions and increased likelihood of default”. For the leveraged middle and lower income class, reduced access to credit makes them more vulnerable.

A decline or lower rates of investments as exhibited by the material slowdown in the loans to the industry, most likely, extrapolates to declines in jobs and incomes for workers and reduced profits for entrepreneurs and or business owners.

The sharp fall in the M1 growth rate or cash in circulation (and transferable deposits) translates to the low turnover of cash transactions.

For an economy dependent on cash, the intensifying decrease in the rate of cash growth must herald a substantial slowdown production and consumption activities, thus the real economy.

Such analysis premised on the accuracy of the BSP’s data.

The Stress Testing of the Economy; Fiscal Deficit Understatement: Customs Collections Jumped on Import Crash?!

Election spending has been bandied popularly as providing stimulus to the 2019 GDP.

However, actions by the BSP and the Banking system appear to be countermanding the likelihood of such supposed advantage.

Figure 3

The slowdown in credit has become apparent in vehicle sales.

Backed by the almost halving of credit growth rate, auto or vehicle sales plunged 15.03% in last January. Month on month vehicle sales crashed by 15.83% Auto loans grew by 10.43% in January from 20.33% in the last month of December. With TRAIN’s first year, its impact on vehicle sales must have diminished now.

Is the BSP gambling with the NG’s ability to raise financing for its ambitious public spending programs by choking the financial system’s access to credit?

The National Government’s tax revenues have tracked tightly the conditions of banking loans.

As the growth in total banking loans slowed to 15.26% in January 2019 from 15.65% in December, and 16.89% in November,tax revenue growth slowed to 4.55% in December and 6.12% in November.

BIR collections even contracted by -.27% in December from 7.08% in November!  

January 2019’s bank lending conditions, which was even lower than the previous month, may likewise be reflected on taxes. 

I might add that the NG has understated substantially the published record Php 558.3 deficit in 2018.

The Bureau of Customs registered a sharp 21.21% jump in collections last December, even as the Philippine Statistics Authority or the PSA’s import data showed a -5.17% contraction when converted to the peso (average monthly).

Unless there had been extraneous collection activities, like fines, in December, how can the Bureau of Customs show significant improvements in revenues when imports crashed?! (see figure 3, lower window)

That said, tax revenues would have slowed more if the reported Customs collections had been lower. With the same rate of spending, lesser revenues would widen the fiscal gap. 

Including guarantees and foreign borrowings, public debt grew by a stunning Php 649.5 billion while the BSP added Php 268.55 billion. So the NG raised Php 918.5 billion to fund a Php 558.3 billion deficit?

Could this month’s withdrawal of Php 198.2 billion by the BSP have been about excess funding? Still, the amount raised by the NG in 2018 would be a hefty Php 719.6 billion, Php 161 billion far more than the published record fiscal gap!

Or has the excess been meant as advance financing of the January deficit?

Deficit Financing by Capital Markets? Will the NG-Banking Crowding Out Intensify?

Figure 4

If tax revenues slow by even more from the BSP’s tightening, unless public spending declines, the fiscal gap would widen beyond the NG’s target.

And if the NG will depend on the capital markets for funding, the crowding out effect will reduce further money supply growth in the system. Additionally, relying on the capital market will raise the public’s interest in the speeding rate of the NG’s debt levels.

Of the various categories of government securities, monetary policies have the most influence in the T-Bills which serve as part of the BSP open market operations.

With the steep decline in CPI, ironically, T-Bills haven’t followed the footsteps of their mid and long-end peers. As of this week’s close, 1-month bills (PDS data) raced to fresh multi-year highs!

Of course, the slowdown in bank lending, higher T-Bill rates, falling interest margins and rising NPLs should aggravate the liquidity shortfall and instability in the beleaguered banking system. Banks will continue to COMPETE with the NG for access to savings.

Proof?

From Philstar (February 27): Aboitiz-led Union Bank of the Philippines is raising another P30 billion via the issuance of bonds or commercial papers as part of its debt liability management program and at the same time augment the listed bank’s loan book.

The slowdown in bank lending and abrupt backpedaling of BSP support should have a feedback loop on the real economy.

Will Intensifying Liquidity Strains Benefit the GDP and Stocks?

Figure 5

Like Q4 2018, GDP numbers, like all statistics, can be cooked. But will the slowdown in the real economy be forceful enough for the Philippine government to admit it? (see figure 5, upper window)

On the trading floor, many were dumbfounded by the contradiction seen in published profits of banks and the renewed selloff in bank stocks.

Liquidity drains have hardly benefited the stock market over the long run. (see figure 5, lower window)

I mentioned at the start that the BSP did the nation a favor by its sharp tightening of liquidity by scaling back on QE.

The reason for this is that falling money supply growth translates to the diminishment of the redistribution or diversion of funding and resources towards bubble activities. It allows wealth generators to recover. Unfortunately, bubble sectors will shriek at the loss of funding, which should force into the open losses and credit problems and expose the true state of their unproductivity.  

Needless to say, given that the political economy has been dependent on these twin bubbles (race to build supply and the neo-socialist bubbles) politicians will pressure the monetary authorities to accommodate them.

And such is the reason that the BSP’s remarkable restraint should prove to be fleeting.

As noted above, the BSP funding may be about reducing excess funding, or it may even be about raining down collateral (Treasuries) on the collateral-short financial industry, or the ideal move, to discipline banks from over issuance of loans. 

In the year of the pig, expect the unexpected.

Buy the USD php on dips!