By Lee C. Chipongian
Bangko Sentral ng Pilipinas (BSP) Deputy Governor Diwa C. Guinigundo said an untimely lowering of banks’ reserve deposits with the BSP will impede economic growth since it could lead to a weaker peso and impact on inflation outlook.
“As in 2018, the additional liquidity released by the RRR (reserve requirement ratio) reduction resulted in higher FX (foreign exchange) activity and significant weakening of the peso. That also worsened both actual inflation and inflation expectations. This outcome is not impossible to happen again this year,” warned Guinigundo.
He made this comment amid bankers and the markets’ clamor to cut the RRR as soon as possible because of a perceived tightness in liquidity conditions.
“Very few seem to realize that prematurely lowering the RRR could exacerbate monetary conditions and hurt growth even more,” he said. “There is no guarantee that the additional money supply would end up funding economic growth.”
While excess money supply can be siphoned off by the BSP’s weekly term deposit facility (TDF), there is also no guarantee that banks will place funds in BSP. “Yes, we can increase the volume of TDF offerings or issue new BSP debt securities but what guarantee do we have banks will deposit the freed reserves back with the BSP? And why reduce RRR and increase money supply only to get it back through various BSP facilities now at its own expense,” said Guinigundo.
Guinigundo has been consistent in past weeks in saying that liquidity pressures are temporary and transitory. As he has pointed out before, the “tightness” in liquidity was because of the government’s retail treasury bonds which mopped up more than P235 billion and parked this amount with the BSP. “That would be withdrawn and more liquidity would be available in due time. Bank clients have more liquidity demand due to the coming holidays and the tax season. Withdrawal will be necessary but once transactions are paid, the same liquidity would be circulating in the economy. Yes, people are running after the same funds but that is true whether monetary conditions are truly tight or easy,” he explained.
Guinigundo also noted that in reading current domestic liquidity (M3) conditions, it is more appropriate to look at the ratio of M3 or money supply to gross domestic product (GDP). “When we do this, we realize that in 2013 when M3 was growing by about 32 percent, M3 to GDP ratio was only 60 percent. Last year, when M3 expanded by much less at around 9.2 percent, M3 to GDP ratio was 67 percent. In short, we have more liquidity today to accommodate the growth of economic activity than five years ago even if monetary growth is more modest today,” he said.
Also, the high market interest rates that are contributing to the low liquidity should also not come as a surprise, added Guinigundo, after the BSP raised key rates by 175 basis points last year to temper inflation. “The cost of money has to be raised to deal with any demand pressures that could have built up last year. Are we now saying we should reverse policy and risk higher inflation? We have yet to see the full impact of the monetary restraint we instituted last year,” he explained.
Guinigundo said price stability and a firm inflation expectation is a more urgent priority at this time than removing the “tax” on financial intermediation which is what bankers consider the RRR is. “Mitigating financial intermediation is something that can wait. It is not a question of whether RRR would be adjusted, rather the question is when it is desirable to do so. Banks, after all, continue to be more than decently profitable,” he said.
The BSP’s RRR at 18 percent is considered one of the highest levels in the world. The BSP has committed to lower the RRR gradually. Last year, the RRR was reduced twice, in February and in May, by 100 basis points each time and releasing a total of P190 billion into the financial system which eventually found its way back to the BSP via the TDF.