Like every other tax, inflation acts to determine the individual and business policies we are all forced to follow. It discourages all prudence and thrift. It encourages squandering, gambling, reckless waste of all kinds. It often makes it more profitable to speculate than to produce. It tears apart the whole fabric of stable economic relationships. Its inexcusable injustices drive men toward desperate remedies. It plants the seeds of fascism and communism. It leads men to demand totalitarian controls. It ends invariably in bitter disillusion and collapse. —Henry Hazlitt
In this issue
The Consensus Race to Upgrade 2022 GDP, Domestic Demand in the Lens of the TWIN Deficits, Misdirected Capital: Ilocos Norte’s Renewable Energy Sector
I. The Consensus Race to Upgrade 2022 GDP: Opposed by Rising CPI, BSP Rates and Falling Stocks
II. Domestic Demand in the Lens of the TWIN (fiscal and trade) Deficits
III. Example of Misdirected Capital: Ilocos Norte’s Renewable Energy Sector
IV. PSE’s Wide EPS Gap, Diminishing Returns and Slowing Volume, Rising Rates Amidst Escalating Leverage Unsupportive of GDP Forecasts
The Consensus Race to Upgrade 2022 GDP, Domestic Demand in the Lens of the TWIN Deficits, Misdirected Capital: Ilocos Norte’s Renewable Energy Sector
I. The Consensus Race to Upgrade 2022 GDP: Opposed by Rising CPI, BSP Rates and Falling Stocks
The consensus appears to be a race to upgrade the Philippine GDP.
Seen strictly as a statistical metric, even if many suffer from price dislocations affecting consumption and remain unemployed from the pandemic lockdowns, the economy will remain 'strong' because of "domestic demand."
The general idea is that since domestic demand is its driver, it bizarrely consists of consumption independent of savings, investments, production, economic calculation, entrepreneurship, division of labor, and opportunity costs. For them, domestic demand seems a fixture absent any causal factors.
Even more incredible is the perception of its insulation from external forces. It is like a magic shield, which can mechanically ward off evil spirits cast against it.
What's fascinating is that the implicit central premise of this purported growth, but is publicly unstated, comprises the following forces.
First, the base effect: The comparison of transition from a semi-closed to a more open economy.
The next factor is the muted CPI, which as a deflator, magnifies the GDP. That is to say, while people are chasing prices higher but buying fewer goods, the NGDP expands.
Or, the statistical inhibition of the CPI results in the embellishment of the headline GDP. Properly applied, the GDP mistakes inflation for growth.
Again, a combination of factors dampens the CPI: SRPs and price controls, altering the base rates, and the many side-effects of rising prices in the face of political mandates, such as "shrinkflation" (reduction of quality sold), "value deflation" (the lowering of quality of products), and "sneakflation" (the assorted hidden charges tacked into purchase price). (Malmgren, 2022)
Inquirer.net, July 19: Filipinos are starting to see the breakfast staple “pandesal” shrink after prices of key ingredients like wheat, eggs, and flour have risen high enough to threaten the viability of the smaller mom-and-pop bakers. Lucito Chavez, president of Asosasyon ng Panaderong Pilipino (APP), told the Inquirer on Monday that community bakers had to resort to shrinking their serving sizes to keep their operations afloat given the rising input costs, which also include expensive fuel. Aside from this, he said small-scale bakeries were finding it financially challenging to shoulder additional operating expenses such as disinfection and other health-related protocols because of the COVID-19 pandemic.
As repeatedly noted, increases in mandates or regulations increase the cost of compliance, which thereby raises production costs.
Supply-side disruptions are not solely due to imported factors.
And perhaps the food standard issues encountered by a leading food manufacturer that forced a recall of its products abroad could be related to changes in the quality of its ingredients. Otherwise, such food standard issues may be related to non-tariff barriers.
For shrinkflation and value deflation, prices may remain the same, but the quality or quantity of the products deteriorates.
That said, there are many ways to hide price pressures.
Are these signs of economic growth?
The third factor is the sustained spending by the government. Never mind its effects on financing, resource allocation, redistribution, and its contribution to the price pressures on the demand side. The popular halo effect is that public spending is an indispensable element of growth, which has no costs.
It is taboo to question "faith," but doing so shifts the discussion from economics to ontology/metaphysics, if not heuristics.
The point is that even if the quality of life deteriorates because of escalating price pressures, intensifying economic maladjustments, and resource wastages, the GDP is supposed to remain "strong" because it must.
Curiously, the consensus seems blissfully ignorant of history embedded in official data.
The CPI at current levels, the BSP's response, and the stock market's reactions barely support the Panglossian outlook of the echo chamber.
Figure 1
In the two episodes of 2014 and 2018, where the spikes in CPI forced the BSP towards a quasi-tightening by raising official rates, the GDP decelerated. (Figure 1, topmost and middle windows). Besides, the GDP has been in a downtrend since 2013.
Except for the low-base effect, why should it be different this time?
The performance of the PSE and the benchmark PSEi 30 also tell a different story.
And consider this, decades of easy money and the persistent and implacable gaming of the equity index further aggravate the distortions of price signals, which consequently diffuses into the economic backdrop. We are talking of embellished price levels.
That is to say, despite its upside skewness, the recent plunge of the stock market bellwether portends a lower GDP than popularly expected, which puts into the spotlight a likely test of the secondary or 'lower' path of the real GDP. (Figure 1, lowest pane)
But again, the GDP is a government statistic, which most people think is objectively derived and beyond the influences of politics.
For us, however, politically derived statistical numbers sensitive to the affairs of the ruling political regime are prone to reflect the latter's interests.
After all, survival is the primary objective of any political organization.
II. Domestic Demand in the Lens of the TWIN (fiscal and trade) Deficits
Figure 2
The PSA released the external trade data last week.
Because imports swamped export growth, the trade deficit swelled to a fresh high. The consensus experts blame the 2005 high of the USD-Php to it. (Figure 2, topmost pane)
The trade deficit signifies a second-order contributor to the weak peso.
But the more important factor is that the Philippines has both trade and fiscal deficits. Or the twin deficits, which either are at a milestone or adrift at recent highs, tell us that the domestic political economy has been spending more than it earns. (Figure 2, middle pane)
In a macro context, the twin deficits represent the ballyhooed "domestic demand."
The twin deficit phenomenon demonstrates two things: that individuals and foreign trade partners generate surpluses and that the financing of such unparalleled deficits emanates from their savings. Government and corporate entities responsible for these deficits borrow from them.
Unfortunately, as the fiscal deficit streaked to a record, a declining trend of the growth of the bank peso deposits, which includes data from government banks, has been sustained. It shows how easy money has strip-mined people's savings through the inflation tax. It also reveals the corrosive effects of the crowding-out phenomenon by public sector activities at the expense of the private sector, which are manifested partially through slowing bank deposit inflows.
Because of the inadequacy of FX inflows from organic sources, authorities borrow abroad to finance the record trade and fiscal gap and to increase the BSP's net foreign assets/GIRs to support the latter's domestic operations anchored on the USD standard.
But…
Manila Times, July 19: THE Bangko Sentral ng Pilipinas (BSP) said the national government's payment of its external debt led to a $1.57-billion shortfall in the country's balance of payments (BoP) in June.
And oil prices should not be seen as easy culprits for BOP deficits.
During 2007-2008, rampaging oil prices didn't cause deficits in the Balance Of Payments (BOP). The BOP maintained a stunning surplus for nine-straight years from 2005 to 2013, regardless of oil price volatility!
The BoP deficit emerged only in 2014, right after the M3 growth exploded by over 30% for ten consecutive months starting from July 2013. (Figure 2, lowest pane)
And as the global easy money regime evaporates, this exposes the unsustainable debt conditions that served as the pillar for "domestic demand."
Put differently, because the easy money regime anchors the domestic demand, a tight money regime will act as its spoiler.
There is no such thing as a free lunch (forever).
In the meantime, the record trade deficit from the outperformance of imports doesn't automatically translate to an outperforming GDP.
Figure 3
Soaring fuel imports, both in nominal and as a % share of the total, are more about "imported" price inflation than a quantity-driven expansion. On the other hand, the increase in fuel imports comes at the expense of capital goods imports. Again, it is unclear whether the growth in nominal USD imports of capital goods is about quantity or "prices." (Figure 3, topmost panes)
How the heck can this be about growth?
III. Example of Misdirected Capital: Ilocos Norte’s Renewable Energy Sector
A recent article about Ilocos Norte consumers grappling with skyrocketing power rates showcases an example of capital consumption.
Inquirer.net, July 22: The city council on Wednesday launched an inquiry into the high power rates in Ilocos Norte province amid complaints from local consumers. The Ilocos Norte Electric Cooperative (Inec) said higher rates were being collected from local consumers mainly due to the rising prices of coal and gasoline, and the diminishing value of the peso against the dollar.
The kicker, from the same article… (bold mine)
At the city council’s inquiry, Inec general manager Felino Herbert Agdigos said that the cooperative had entered into a 20-year contract with power supplier Masinloc Power Partners Co. Ltd. (MPPCL). The contract was the subject of bidding for a 51-megawatt continuous energy supply.
Agdigos said the renewable energy companies and plants operating in the province had not participated in the bidding because the “windmills, solar [power plants] cannot produce continuously for 24 hours.”
Ilocos Norte hosts renewable energy companies, including wind farms in the towns of Burgos, Bangui and Pagudpud. The province also hosts an expanding solar farm in Currimao town.
Apart from MPPCL, Inec also gets its power supply from the Wholesale Electricity Spot Market and its mini hydropower plant in Pagudpud. The latter could only supply less than 2 percent of the 58-MW capacity requirement in the province, said Agdigos.
Think about the enormous amounts of capital allocated for these solar and wind power plants in Ilocos Norte.
Unfortunately, according to this news, these power plants are not part of the region's baseload power because of inadequacy: these plants "cannot produce continuously for 24 hours."
Hence, it had no bearing in providing supply-side relief in the context of lower prices!
So borne out of easy money, the region's green industry probably serves as a tourist attraction more than the role of the region's supplementary power generators.
And this serves as partial evidence of the direction of credit-financed capital allocation and imports.
That folks represent Europe's (and Global) suicidal ESG-Green model parlayed into the local scene!
Germany's power source distribution represents an example. (Figure 3, middle pane)
Yet, the looming power shortages have forced GREEN Germany to EXTEND its nuclear and RESTORE coal-powered electricity plants (as with Austria and Netherlands).
Because of existing power exigencies: Europe has declared natural gas and nuclear energy GREEN (in some instances)!!!
Do you see how politics works? Definitions and categorizations change when it becomes politically convenient.
The blessing is that the Philippines has previously resisted the allure of going entirely Green.
The share of coal as a source of total power generation represents 58.5%, the highest in years. Renewables account for only 22.4%, which means the Philippines relies on traditional fuels with a 77.6% share as of 2021.
And because of this, the nation has been spared (so far) from rolling power interruptions, despite surging prices from the fallacious embrace of the environmental dogma by global politics.
But don't worry, the Philippines will assimilate the imploding Green energy bubble model.
The BSP will lead and guide the banking industry in its transition through its promotion of discriminatory green finance.
For instance, a domestic bank pledged to stop lending to coal companies in 2033.
Perhaps, a regression to a primitive state of the masses (and not the politicians) could "save" the planet.
IV. PSE’s Wide EPS Gap, Diminishing Returns and Slowing Volume, Rising Rates Amidst Escalating Leverage Unsupportive of GDP Forecasts
Figure 4
I have repeatedly emphasized that "the declining volume of trades at the PSE manifests the shrinking financial liquidity."
Helped by buoyant global markets and pre-closing pumps, the PSE closed higher by 1.1% this week. But volume fell to the lows of May 2020 last Friday, which could signal a relief rally ahead. (Figure 4, upmost pane)
The coming SONA could also be a trigger. But since this is a bear market rally, it would unlikely last.
Nonetheless, the BSP published a sharp decline in the June PER to the upper ceiling of the 2013-2019 range due to the recent fall of the PSEi 30.
Though we are unaware how the BSP/PSE got their PER number, based on the 2021 EPS of the PSE, the average PER was 22.94 as of July 22nd. (Figure 4, middle table and lowest pane)
Despite its fall, stocks are not necessarily cheap. Aside, the quality and the direction of change will also matter.
Yet, the nominal and rate of change growth in the EPS also point to an unremarkable performance.
Figure 5
Due to the low base effect, June eps grew 29.6% YoY, lower than the 43.9% in May. But nominal peso level appears to have hit a wall. (Figure 5, topmost window)
Further, there is an incredible chasm between the present eps and its late 2019 peak. The gap points to the substantial unrecovered deficits from the 2020 recession.
We also understand that companies may embellish their financial statements to appease creditors and shareholders. For this reason, the reported eps may or may not accurately exhibit the current conditions.
But here is the thing.
Monthly returns of the PSEi 30 have been trending lower since 2009, which represents the law of diminishing returns!
As stated earlier, monetary conditions serve as a foundation of the trade volumes and the performance of the PSEi 30.
As evidence, returns of the PSEi and the PSE's volume resonate with the banking system's cash-to-deposit ratio, which has also been in a long-term downtrend (since 2013). (Figure 5, middle and lowest pane)
It tells us that stocks are getting lesser support from the dwindling savings of individuals and institutions.
It also depicts that despite the historic BSP rescue measures, aggregate credit woes afflicting the financial industry continue to siphon liquidity from the financial system.
Worryingly, the sharp rise in rates should drag down the eps of the heavily levered PSEi 30 members.
Or, rising rates in the face of mounting leverage are considerable obstacles to both eps and economic growth.
And when liquidations occur to satisfy liquidity-raising activities, the low-volume market becomes vulnerable to steep downside volatilities.
For instance, two and a half years after the South Korean shipbuilder Hanjin Heavy Industries episode, a consortium of banks led by BDO has declared the flagship company of political favorite Dennis Uy in default this weekend. The firm denies the default.
The extended EPS gap and its slowing expansion, diminishing returns of the PSEi, and the PSE volume and rising rates amidst escalating debt levels of PSE firms are unsupportive of the roseate scenario presented by the institutional groupthink.
Perhaps, handsome deals await the financial institutions that make the most optimistic forecasts?
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Malmgren, Pippa (July 2022) Sneakflation Dr. Pippa's Pen & Podcast Substack.com
