In this issue
Insurance Commission Launches Regulatory Bailout of Pre-Need Firms, The Twin of Unbridled Fiscal Spending is High Inflation, The Coming Stagflation
-Insurance Commission Launches Regulatory Bailout of Pre-Need Firms, A Bailout of a Robust System?
-Philippines and Indonesia Jacks Up Rates, Falling Demand Ain’t Bullish for Stocks or the Economy
-Sustaining Record Spend, Spend and Spend Means Financial Repression thru High Inflation!
-Because of the Price Stickiness from Supply Side Distortions, Inflation will Remain High!
-The Neo-Socialist State’s Path Towards Stagflation: An Environment Where Risks Abound
Insurance Commission Launches Regulatory Bailout of Pre-Need Firms, The Twin of Unbridled Fiscal Spending is High Inflation, The Coming Stagflation
Insurance Commission Launches Regulatory Bailout of Pre-Need Firms, A Bailout of a Robust System?
The National Government via the Insurance Commission (IC) has commenced on bailing out of pre-need firms.
“Amid high inflation, recent interest rate hikes as well as a weaker peso, the Insurance Commission has given pre-need companies relief from financial market volatility. Insurance Commissioner Dennis B. Funa last November 14 issued Circular Letter (CL) No. 2018-58, which provided regulatory relief to the pre-need industry, citing “high volatility” in the domestic financial market.”
At least media covered this. Although of course, the consensus will ignore this by assuming a no bearing development.
When the BSP launched its QE in 2015 to shield the banking system from the former Governor Tetangco’s bugbear of ‘disinflation’, not a single soul has touched on this. Until NOW. That is of course, excepting this lowly analyst.
The underlying reason for this is that the BSP rescue doesn’t fit the mainstream bill of G-R-O-W-T-H! And the other implication is that money printing or QE’s only have benefits. The BSP can do NO wrong!
Though the BSP mimicked its advanced economy peers, such presumptions have been unwarranted. Today’s surging CPI has prompted the BSP to panic!
During the boom days, the BSP looked like a genius. Now the emperor has no clothes!
Back to the bailout.
Regulatory relief means allowing these firms to forego accounting KPI thresholds on risks. Bluntly put, the Insurance Commission (IC) is lowering their risk standards for pre-need firms.
They will put risk blinders on, in the hope of kicking the proverbial can down the road. They hardly realize that via the moral hazard, these actions would foster more risk-taking actions thereby magnifying systemic fragility.
And the fact authorities had to bail out these firms, even via the regulatory channel, means that the system is vulnerable.
Isn’t the real test to robustness, the system’s ability to handle stress? Why then provide relief, of any kind, to a system structured on sound conditions?
The industry’s financial health should prove my point
The Non-Bank Financial Institutions are in a fragile state.
Non-Bank Financial Institutions (NBFI), according to the BSP, are financial institutions that do not have a full banking license but they facilitate bank-related financial services, i.e., investment, risk pooling, contractual savings and market brokering.
Figure 1
Like its banking siblings, the profitability of Non-Bank Quasi-Bank (NBQB) has been in a downtrend since 2013. (figure 1 upper window)
Reminiscent of the 30% money supply blast in 2013-2014, increased incidences of distressed assets have reduced industry’s profitability and more importantly, have spurred a sustained draining of liquidity. (figure 1, middle and lower windows) These numbers are from the 2Q or 1H and have yet to be updated.
So the declared figure for distressed assets may not even be accurate. Cash and due banks peaked in 2015 even when the industry's loan portfolio expanded until reaching its zenith in the 2Q of 2017.
Presently the system’s loan portfolio which shows a declining rate of loan growth has resonated with the ongoing liquidity strains in the system.
A great example of this would be BDO Leasing and Finance [PSE: BLFI] which recorded a topline growth of 2.16% and 3.48% in3Q and in 9-months which helped caused a 43.96% and 39.02% crash in net income growth over the same period.
While leasing firms are different than risk pools or insurance, the industry’s overall financial conditions underscore increased fragility.
And in spite of the BSP bailout of the banks in 2015, liquidity conditions continue to falter.
The point is such regulatory bailouts are being implemented because of increased fragility in the system!
Philippines and Indonesia Jacks Up Rates, Falling Demand Ain’t Bullish for Stocks or the Economy
Philippine stocks, the peso, and bonds rallied strongly after the BSP announced its fifth rate hike of 25 basis points (bps) to an accrued 175 bps in 7 months. Interestingly, Bank Indonesia (BI} raised policy rates for the sixth time this year, last week, with a similar 25 bps for an accrued 175 bps.
It seems that the BSP and the BI have been coordinating their actions. Both the peso (+.46%) and the rupiah (+.45%) rallied strongly. Stock markets benchmarks surged: PhiSYx up 1.64% and the JCI higher by 2.35%. Yields of 10-year Philippine Treasuries dropped to 7.35% from 7.60% a week ago while the Indonesian counterpart also skidded to 8.072% from 8.077% over the same period
Aside from their respective rate hikes, falling US Treasury yields (3.065% from the other week’s 3.186%) and the USD (down .4%) have also influenced risks assets of both ASEAN nations.
Of course, from the domestic perspective, the markets have been ecstatic over the prospects of a turnaround in the stubbornly elevated inflation rates.
With the decline in money supply in place even before the series of rate increases, the BSP's actions are likely to contain inflation by restricting demand on the private sector through the credit channel.
The downturn in bank lending and money supply, said a mainstream expert, should rightly lead to a decline in CPI. But for themthis should be bullish for stocks.
You see, mainstream sees CPI as a mere statistic. They cannot seem to grasp the connection between demand fueled by credit and its effect on real economy prices, production and resource allocation. For them, a lower CPI doesn’t constitute signs of weakness in demand for many parts of the economy dependent on credit. Since demand is static, stocks must rise!
Sustaining Record Spend, Spend and Spend Means Financial Repression thru High Inflation!
And there is further confusion on liquidity, which has been seen as one-size fits all.
If there is anything different then and today, liquidity conditions have not been equal to economic actors.
The National Government’s relentless pursuit of a record fiscal deficit will likely be financed significantly through the BSP’s monetization, which should offset part of slack in liquidity generation by the banking system.
Figure 2
As evidence, the construction material wholesale prices (CMWPI) or the index measuring “the price escalation of construction materials for various government projects” last October was unchanged at 8.0% and remained slightly off the multi-year highs of 8.79% etched last June. The CMWPI has dovetailed with the BSP’s QE. (figure 2, upper window)
And since the BSP has financed about half of the record deficit, the causal relationship of inflation being a product of BSP’s direct funding of “spend, spend, spend” should hold.
So liquidity in the public sector remains plentiful even as the private sector has slowed.
And to emphasize this tells us too where the source of inflation emanates: the government’s unmatched deficit spending.
One can ignore the media blitz about the National Government (NG)’s desire to fight inflation.
In reality, the NG will keep inflation relatively high as part of its financial repression measures designed to capture the private sector’s resources through the monetary channel.
Financial repression, as defined by the Financial Times, is a term used to describe measures sometimes used by governments to boost their coffers and/or reduce debt. These measures include the deliberate attempt to hold down interest rates to below inflation, representing a tax on savers and a transfer of benefits from lenders to borrowers.
That is to say, as part of its financing, record deficit spending can be expected to be accompanied by relatively high inflation
You won’t hear the government admitting that they are taxing you and transferring resources from you to them through inflation. Like the BSP’s QE, these are confined to those in the know. It’s a central banker’s jargon of invisible transfers favoring the government.
The BSP may be panicking over inflation by hiking rates in a dash. (figure 2, lower window)
But truth to be told, even from the statistical perspective, policy rates remain below the CPI which means financial repression measures remains intact! BSP rate of 4.75% minus CPI 6.7% = -1.95%!
So even from the BSP’s perspective, inflation will remain high!
Because of the Price Stickiness from Supply Side Distortions, Inflation will Remain High!
And even from the supply-side one can spot the charade.
Despite blarney about low rice tariffs, the supposed easing by the NG of rice imports and “unimpeded imports”, the Senate's passage of the rice tariff bill reveals that tariffs on rice imports will remain high!
From the Inquirer (November 14, 2018): Under the bill, rice imports from members of the Association of Southeast Asian Nations (Asean) would be charged a tariff of at least 35 percent, while imports from non-Asean countries would get a tariff of 50 percent. The measure is expected to alleviate the impact of the nine-year high inflation and address the country’s rice shortage.
The entire “lowering of taxes and the loosening of import rules to feed the population” spiel had been nothing more than a political kabuki!
After all, a neo-socialist government can’t respect the markets do its functions.
And political measures such as price controls, official increases in prices of utilities and fares, minimum wages and others ensure the stickiness of high prices!
Markets are not allowed to clear from which would reflect on the actual state of demand and supply!
So once the ‘rice crisis’ has passed, another bout of inflation can be expected to provide financing to the leadership’s fetish for unfettered spending!
From rice, the object of inflation will likely move to other basic commodities
So while I expect CPI to fall in the interim, it won’t drop sharply similar to the same scenario as 2015.
Neither can the NG nor the bubble sectors can afford it.
The Neo-Socialist State’s Path Towards Stagflation: An Environment Where Risks Abound
Once inflation has been contained, says mainstream experts, domestic asset prices have nowhere to go but up!
Good luck to them.
But record deficit spending and its consequences function as the proverbial elephant in the room!
And these are not going away. Not until a crisis emerges! That’s unless an epiphany occurs to the leadership.
And there seems no sign or call or demand for restraint whatsoever, whether within the government or from the public for the government to control their extravagance!
In contrast, everyone wants to partake of the elixir from the free lunch of “borrow to spend” to prosperity!
Proof?
From the Inquirer (November 14, 2018): Lawmakers from the Minority bloc asked the government on Wednesday to speed up spending to create more jobs, after a recent survey showed that self-rated unemployment rate increased from 19.7 percent to 22 pecent. The legislators said government expenditures can directly affect employment rate as projects can generate several jobs.
Interestingly aside, a leftist think tank foresees a China debt trap from the administration’s “spend, spend and spend". If there is no China as financier, will spend spend and spend be ok?
Make work jobs don’t come for free. Because they are TAKEN from the productive sectors to subsidize unproductive work, they consume capital.
And we can see capital consumption happening in the economy and even in the marketplace.
Figure 3
Though bonds or long-term Treasuries have rallied partly in the face of expectations for lower inflation, yields of Treasury bills soared to multi-year highs exhibiting escalating tight liquidity conditions!
And rising short-term yields in the face of falling long-term yields or a flattening curve will further squeeze liquidity in the system!
Rising short-term rates signify intensifying competition for access to short term funding.
This brewing competition, particularly between the cash-starved banking system and the National Government will continue to pressure rates upward.
It tells us much of the direction of the use of savings or capital.
Differently put, the record deficit spending continues to crowd out the private sector’s liquidity. So doing, the diversion of capital has mainly been to non-productive use.
Of course, rapid increases in such rates would likely also affect companies reliant on money markets for their working capital through higher financing costs.
And to the banking sector, the flattening of the Treasury curve will mean lesser spreads or decreased interest margins - at higher rate levels
And the higher the price, the lower the quantity demanded for credit.
And declining bank loans means reduced investment and consumption spending, thereby impacting growth and earnings, and consequently, general credit conditions. These are unlikely bullish factors for asset markets.
However, it is interesting to see some banks use magic to defy the law of economics to boost their financial bottom line in the 3Q!
And if economic activities were unevenly affected under a regime of high inflation, so will an environment where relative demand will be constrained and where liquidity remains concentrated towards the government.
That said, stagflation is the outcome of the present path that the NG and its citizenry have opted to ply on. Stagflation is a political-economic environment where risks abound.
