S&P sees central bank raising rates this year

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Forecasts inflation at 2.9%, GDP growth at 6.4%

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The Philippine central bank may begin raising its key interest rates this year, Standard & Poor’s (S&P) Global Ratings said, seeing pressure for such move coming mainly from the country’s robust gross domestic product (GDP) growth and rising commodity prices.

The credit rating agency said in a report released Wednesday such growth in the economy and commodity prices has been pushing up inflation from below the 2 percent to 4 percent annual target range set by the Bangko Sentral ng Pilipinas (BSP).

In January alone, the government reported that inflation accelerated to its fastest pace in more than two years, hitting 2.7 percent on the back of higher prices of non-food items.

“New taxes on petrol and luxury goods are also generating further inflation expectations, but given the low starting point, it is not a big concern,” S&P added.

The BSP had estimated that the government-proposed tax reform, which includes higher taxes for fuel and automobile, will add 0.5 percentage point to the inflation rate this year, before adding a further 0.7 percentage point to the 2018 rate. The central bank has an inflation forecast of 3.5 percent for 2017, and 3.1 percent for 2018.

Given this, S&P said: “Inflation is likely to rise significantly this year, and we expect the BSP to begin raising interest rates in response.”

It added that Philippine headline inflation may pick up to 2.9 percent this year from the 1.8 percent average recorded in 2016.

Growth momentum

Strong Philippine GDP growth continues to be driven by solid consumption and investment, S&P said.
“GDP growth of 6 percent to 6.5 percent is still easily achievable for the Philippines. A growing middle class continues to support domestic demand. The weak peso will also contribute via a boost to remittances,” it said.

The credit rating agency forecasts a further 6.4 percent expansion in the Philippine economy this year,
indicating a moderation from the 6.8 percent growth achieved in 2016, and below the 6.5 percent to 7.5 percent official target range of the government for 2017.

“Downside risks to growth include a potential decline in confidence due to global market and/or geopolitical uncertainty, on top of the previous risks related to a sharper-than-expected downturn in China’s growth,” it said.

Similar views

Earlier, German lender Deutsche Bank expressed a similar view, saying that a peso under pressure from a
potential double-deficit in the fiscal and current account balances would be prompts the central bank could not afford to ignore against the backdrop of rising inflation and domestic demand.

Thus, the BSP would have no choice but to adjust its policy tools, particularly its benchmark interest rates, the German bank said.

In its forecast released in January this year, Deutsche Bank said it saw the peso at P49.9:$1 by the end of the first quarter of 2017, before depreciating to P51:$1 in the second quarter. By the end of the year, the Philippine currency could weaken further to P51.7:$1, it said.

Philippine foreign reserves could moderate to $79.8 billion, it said. A deterioration of the current account, which could result in a deficit of $1.4 billion in 2017 as oil prices and domestic demand soar, “could prompt the BSP to tolerate a weaker peso, as of course, dictated by the market.”

Above all, Deutsche Bank said a weak peso would tend to stoke inflation, which has already bottomed out before climbing to a two-year high of 2.6 percent in December.

“We, thus, see inflation sustaining its uptrend in 2017 on the back of higher crude oil prices and a weaker peso,” it said, forecasting a rate of 3.3 percent on average, up from 1.8 percent in 2016.

Fitch-owned BMI Research also expects a likely tightening of monetary policy by the central bank before the end of 2017 as inflationary pressures rise, while it attempts to stem capital outflows amid a more aggressive rate hike cycle in the United States.

Strong Philippine economic growth momentum will allow room for the BSP to prioritize macroeconomic stability over growth, BMI said.

“While we expect the BSP to maintain a neutral monetary stance through the first quarter of 2017, we believe that the central bank will be forced to hike its benchmark RRP [reverse repurchase]rate by 50 bps [basis points]to 3.50 percent before end-2017,” it said in a report in December last year.

ANZ Research had also said the BSP would widen its interest rate corridor by the third quarter of 2017, when inflation is expected to accelerate.

“We expect inflation to remain on an upward trend initially, pushed by annual gains in commodity-related items over the first half of the year. Meanwhile, robust domestic demand, coupled with the government’s push for infrastructure spending, will likely push inflation higher throughout 2017,” ANZ Research economist Eugenia Victorino said in a report nearly two weeks ago.

Liquidity conditions, which have started to normalize after the Christmas and New Year holidays, are an indication of the central bank’s increasing bias to tighten policy rates in the medium term, Victorino pointed out.
“In our view, this is indicative of the rising bias of the central bank to upwardly adjust its interest rates in the medium term. Hence, we maintain our expectations of interest rate hikes by Q3,” she said.

After lowering the RRP rate to 3 percent from 4 percent on May 16 in the runup to adopting an interest rate corridor system on June 3 last year, the central bank has kept its key policy rate unchanged at its first meeting for 2017.

The Monetary Board also held unchanged the corresponding rates for overnight lending and deposit facilities at 3.5 percent and 2.5 percent, respectively. The reserve requirement ratio was also kept steady at 20 percent.

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