When the Fed injects new base money into the system, it will often be deposited into commercial banks, where it will add to reserves. Under fractional reserve banking, the new reserves give the commercial banks the ability to pyramid new money (as measured by M1, M2, etc.) on the system through the process of granting new loans. Going the other way, when the commercial banks restrict their loan portfolios or the public withdraws base money from the banks, it causes the broader aggregates (M1, M2, etc.) to shrink—Robert P. Murphy
In this issue
BSP’s Massive December 2019 Monetary Stimulus Push Bank’s Cash Reserve to 2.5 Year Highs, Small Growth in Deposits, Banks Morphing into Quasi State Entities?
-Examining the BSP’s Policies in a Holistic Prism, BSP’s QE Rocket Anew in December!
-RRR Cuts: Shades of the Aftermath of the Asian Crisis
-BSP’s QE and RRR Cuts PLUS Bank Borrowing Boosted Cash Reserves, But Slack in Deposit Growth Remains
-Massive Infusions Improved Liquidity in December, NPLs Down Moderately, Investments Decelerate
-As Core Operations Slow, Bank Profits Extend Paper Boom
-The Banking System’s Upcoming Transformation to Quasi-State Controlled Entities
BSP’s Massive December 2019 Monetary Stimulus Push Bank’s Cash Reserve to 2.5 Year Highs, Small Growth in Deposits, Banks Morphing into Quasi State Entities?
Examining the BSP’s Policies in a Holistic Prism, BSP’s QE Rocket Anew in December!
When analyzing the BSP’s policies, my imperative is to look at policies from a holistic perspective. From here, the next question to ask is why?
For instance, why did the BSP undertake a 400 bps RRR reduction program in 2019? And why the need for QEs? Why also, the 75 bps downside adjustments in interbank lending rates? In what comparable period has the BSP engaged the banks in such a manner?
What concerns in the banking system had these policies been designed to address?
Aside from the statistical data, which provided the necessary clues, the BSP's Financial Stability Report corroborated on the issues I raised, by explicitly mentioning challenges in the industry’s liquidity conditions.
Ever since joining the league of central bankers via the Bank for International Settlement, the BSP raised credit issues on the banking system in its last two published reports.
Interestingly, based on the recent assessments, such credit issues had either been dismissed or patently overlooked by US-based Fitch, and Japan-based Rating and Investment Information Inc. (R&I). Is it credit positive to have mounting concentration risks in both GDP and bank credit? Do rising NPLs and shrinking liquidity conditions support the supposed soundness of a banking system?
And as indicated above, exactly what have been the objectives of the recent policies of the BSP? Have the Fitch and the R&I been aware of these? Or, like before the Great Recession, have credit ratings been issued to promote the agenda of these agencies than providing the public with an objective and comprehensive analysis of (national) debt conditions? Or, had their outlook been influenced by prospective revenues from the National Government’s debt issuance business?
Again, why the need this?
Figure 1
Net Claims on Central Government, which the BSP defines as consisting of domestic securities issued by and loans and advances extended to the national government (NG), net of NG deposits jumped by 24.4% in December. In 2019, net claims on the central government expanded by a record Php 466 billion to Php 2.377 trillion or about 12.8% of the GDP, likewise the highest since 2009, the aftermath of the Great Recession! (Figure 1, upmost pane)
In the meantime, with the 200 bps of cuts in the bank’s RRRs in the last two months of 2019, some Php 200 billion of the bank’s money had been freed from reserves.
Aside, the NG’s has ramped up fiscal spending in the last semester of 2019.
Why the need for such massive stimulus if the economy is healthy?
RRR Cuts: Shades of the Aftermath of the Asian Crisis
Why has the BSP been conducting such intense adjustments to the bank's RRRs? And yet, such policy has sparsely been covered by the mainstream accounts. The consensus rationalizes it in the light of operational technicalities, viz., in aid of the corridor system.
Instead of this account, history reveals that RRRs have been used as emergency stabilizers.
Here again is the backstory.
In 1999, the BSP implemented the same degree of cuts. From 16% in February, the RRR had been down to a record low of 12% by July.
A 400 bps reduction was also implemented in the outbreak of the Asian Crisis in 1997.
After peaking in 21% in August, the BSP chopped down RRR rates by 400 bps in three months! The BSP attempted to balance financial conditions by spiking policy rates interest rates. Policy rates rocketed from 13% in mid-June to a shocking 32% in barely a month in July as the Asian crisis unfolded. The sharp rise in rates exhibited the scramble for cash!
By allowing banks to gain access to their cash hoard, the BSP acted to offset such abrupt tightening of financial conditions.
To improve liquidity, the BSP loosened up the RRR in 1999, allowing banks to shore up their cash positions.
The BSP’s current actions, thereby, partly resonates with its 1999 activities of propping up the banking system by simultaneously cutting rates and RRRs.
Moreover, 400 bps RRR cuts occurred only in the years 1997, 1999, and 2019. The tightness of financial conditions had signified the common denominator during such periods. (Figure 1, lowest pane)
But there is a difference: In 1999, banks were healing from the Asian crisis. Today, banks have been reeling subtly from credit stress, which the BSP camouflages as “mismatches”.
Importantly, 2018 and 2019 RRR cuts have been made in response to the flattening of the Treasury curve, which inverted in the 2Q of 2019.
Also, historical data of net claims on the central government during such period hasn’t been available.
BSP’s QE and RRR Cuts PLUS Bank Borrowing Boosted Cash Reserves, But Slack in Deposit Growth Remains
Sure with the shock and awe, nominal peso cash reserves vaulted to an August 2017 high to Php 2.8 trillion or up by 7.08% YoY, last December. (Figure 2, topmost pane)
However, aside from QE, bank borrowing also contributed materially to the spike in cash reserves.
Figure 2
Bills payable dropped 7.5% in December to Php 864.2 billion. Growth of Bonds payable eased from a frantic pace to a record Php 572.2 billion or 111.85%, which was down from 152.7% in November. (Figure 2, middle pane)
Outside profits, the surge in cash reserves has accrued from the BSP’s QE, RRR cuts and aggressive bank borrowings.
The question is: if banks have been sound, why the need for these artificial sources of funding? And what are the future costs of these aggressive measures?
And despite the “shock and awe”, the BSP’s liquidity Key Performance Indicators (KPI) has improved marginally. The easing of the great bond boom has led to the steading of the Liquid assets-to-Deposits ratio. On the other hand, the “shock and awe” have resulted in modest improvements in the cash-to-deposit ratios. (Figure 2, lowest pane)
Well, the reason is simple, while the bank’s cash position improved substantially, deposits, the core source of funding, hasn’t.
Figure 3
While growth in peso deposits boosted total deposits, foreign currency deposits registered a second consecutive month of deflation! (Figure 3, upmost pane)
Growth in total deposit clocked at 7.09% in December, from 6.51% a month ago. Peso deposit growth at 8.6% was higher than 7.9% over the same period. Cuts in RRRs powered mainly the growth of demand deposit to 15.9% from 13.8%, while savings deposits grew a marginal 3.23% from 2.66% a month ago. (Figure 3, middle pane)
Meanwhile, because of the deflation posted by Time Deposits, FX deposits posted a slight decline of -.5% from -.19% in November.
But partly because of the lackluster growth in peso savings deposit, banks have been less inspired to expand lending. Total Loan Portfolio increased by 8.83% in December from 8.13% a month ago. TLP have yet to break its downtrend. (Figure 3, lowest pane)
Freeing up of bank reserves plus the high powered money from QE has been intended to boost money supply growth mainly through bank’s core operations through lending.
Massive Infusions Improved Liquidity in December, NPLs Down Moderately, Investments Decelerate
Figure 4
The surge of liquidity allowed banks to shield credit delinquencies.
M3’s improvement in December to 11.4% from 9.8% in November, mostly from the massive injections from policy, has brought down Net NPLs. After operating in a range of 1.11% to 1.18% in 2019, Net NPLs dropped to 1.06% last December to a January 2019 low. (Figure 4, upper and lower windows)
So even with lackluster growth in lending, the deluge of liquidity from the BSP bought banks more time to hide, if not, statistically manage their credit impairments.
Strikingly, the bank’s secondary source of income, investments, have been slowing too! Investment growth tumbled to 8.33% in December from 11.31% from November. Since bank investment assets consist of financial assets, asset purchases by the BSP must have reduced its growth rate. (Figure 4, lowest pane)
With the lackadaisical pace of lending and investment, total bank asset growth slowed to 8.4% in December to a record Php 18.332 trillion, from 8.8% a month ago.
As Core Operations Slow, Bank Profits Extend Paper Boom
Figure 5
Even with the underperformance of the core business of lending and investments, banks posted a robust paper profit growth of 28.22% in the 4Q, which was slightly off the 3Q’s 30.13%. (Figure 5, upmost pane)
Interest income grew 16.13% in 4Q from 17.3% in the 3Q. Non-interest income expanded 24.1% from 26.55% over the same period. Net interest income accounted for 76% share of operating income, while non-interest income has the remaining 24%.
Even with the profit boom, the BSP’s KPI of return on assets (RoA) and equity (RoE) has improved marginally. RoA was 1.31% in the 4Q compared to 1.3% in the 3Q, while RoE was 10.54% from 10.27%. Figure 5, middle pane)
Bank lending hardly improved last December despite the still booming net interest income. The downtrend in lending has resonated with the decline in interest margins. However, though higher rates improved margins of late, this hasn’t distilled into bank lending growth. Also, the lending slowdown appears to have been influenced by higher lending rates from banks. (Figure 5, lowest pane)
So it appears that the BSP’s “shock and awe” may have been engineered, not only to add liquidity directly to the system but likewise pushdown rates to spur bank lending, thereby helping improve liquidity conditions indirectly.
Nonetheless, there are limits to those RRR cuts. I suspect that the July 1999 low of 12% may serve as a floor.
Though these interventions may achieve its desired short term effects, it will only aggravate imbalances overtime. And by over time, it may not mean a distant future, but soon. The re-flattening of the treasury yield curve has been indicative of the renewed tightening of the financial system that may signal a backlash and further expose the escalating fragility embedded in the banking system.
And it should be interesting to see how a global recession would impact the robust, by econometric standards, the balance sheets of domestic banks. The question of how econometric models, such as stress tests, can capture human emotions to accurately foretell of the scale of impact should be a fascinating aspect.
The Banking System’s Upcoming Transformation to Quasi-State Controlled Entities
Finally, here are more evidence of the increasing centralization of the banking system, which reinforces the thrust towards a neo-socialist state.
From Philstar (January 30): The Bangko Sentral ng Pilipinas (BSP) is set to require a more detailed report from universal and commercial banks controlled by the country’s largest family-owned conglomerates. In a draft circular, BSP Governor Benjamin Diokno said the BSP is seeking to amend the guidelines on reporting of conglomerate structures and material related party transactions under the Manual of Regulations for Banks (MORB). The proposed amendment seeks to require additional information in the conglomerate map.
The BSP’s tentacles will eventually expand to cover holding firms of banks, which imply intrusions to non-bank non-financial operations!
Related to this…
From the Inquirer (January 30): The Bangko Sentral ng Pilipinas has adopted a three-phase corporate governance agenda to promote good corporate governance and prudent risk-taking behavior by financial institutions. Among other key factors, the new rules will call for regulators to assess the reputational risk of bank stakeholders and reward or penalize parties according to their respective risk levels.
Who determines the definition of good corporate governance, and what are the defined levels of prudent risk-taking? Does the BSP not have capital adequacy and other models from which to assess the degree of risk-taking?
Have there not been other regulations, such as AMLA and others, to cover these? Have these not been enough?
Or, is the BSP making an implicit admission that risk-taking by financial institutions have currently gone overboard?
What would consist of reputational risk? Or, who determines the appropriate or necessary levels of the “reputation” metrics?
Has morality now become the ambit of the BSP’s policies?
And to establish the proper reputation, who should the candidates satisfy, the shareholders or the politicians/bureaucrats?
Not only will bureaucrats and political appointees in the name of good governance invade corporate board rooms, but political control will extend to the shaping corporate decisions.
In short, private corporations will morph into quasi-state owned firms!
