Economists from Japan-based MUFG Bank Ltd. see continued strong peso vis-à-vis the US dollar despite the pandemic-induced economic recession and increasing COVID-19 cases which is the highest in the region.
MUFG analyst Sophia Ng for Global Markets Research forecasts the peso to keep its strength at P48.50:$1 by end-2020 and to maintain its short-term resiliency as Asia’s top performing currency. The peso is expected to remain strong at P49 in the first quarter next year, P49.50 in the second quarter and P50 by the third quarter 2021.
In the meantime, Japan’s biggest bank predict the GDP to contract worse at a negative 6.3 percent for 2020 versus the government’s negative 5.5 percent projection. “In 2021, we’re projecting an economic rebound of 7.2 percent versus the government’s 6.5 percent,” said Ng in an online press briefing.
As for the peso, Ng emphasized the peso’s strength despite the Philippines reporting the highest number of COVID-19 cases within the ASEAN region. The pandemic has led to a weak domestic demand and derailed infrastructure projects which resulted to a “fall in imports” and this in turn “helps to boost current account balances as well as the Philippine peso,” said Ng.
“Looking at the year ahead, we have penciled in a mildly bearish bias for the Philippine peso against the dollar, this is on the assumption of the trade deficit widening again amid a recovery in consumer demand, higher import bill and higher demand for capital goods as the government puts more focus on its infrastructure project again,” said Ng.
Year-to-date the peso is up by 4.6 percent. It is the peso’s largest gain against the US dollar since 2012. “The number one reason behind the Philippine peso strength is the vast improvement in the current account. After four years of deficit, the current account is expected to record a surplus this year,” the analyst said.
As for monetary policy which the Bangko Sentral ng Pilipinas (BSP) has said will remain accommodative for the next two years, Ng said the economic recovery will be gradual because fiscal stimulus is limited with BSP needing to do more to support growth.
MUFG expects the BSP to hold the overnight benchmark rate of 2.25 percent for the rest of the year and to reduce reserve requirement ratio (RRR) by 100 to 200 basis points by the first half of 2020.
“The timing of the next interest rate cut will be partly dependent on the trajectory of M3 (domestic liquidity) growth in the coming months,” noted Ng. “The BSP clearly refrained from cutting rates in the past two meetings due to the slosh of liquidity in the system equivalent to 7.3 percent of GDP which is far higher than the total fiscal stimulus measures at 3.8 percent of GDP.”
“If M3 growth remains elevated until year end, currently at 14.2 percent year-on-year, it is likely to push back the timing of the next rate cut. This puts a higher probability of a 2021 cut when M3 growth starts to moderate. This view applies both to the benchmark overnight reverse repo rate as well as the reserve requirement ratio,” said Ng.
She added, “there is actually a limited scope for the BSP to lower the benchmark overnight repo rate after 175 bps rate cut done so far this year. And this is in part due to the projected levels of inflation … overall this means there’s only a scope for another 25 bps rate cut which should bring it to a new record low of two percent.”
Ng said with the scope of rate cuts limited, debt monetization will become the BSP’s main policy tool to support the economy. Debt monetization is the central bank lending to the government via purchase of state-issued securities.
The BSP has advanced P300 billion to the government in March as first tranche and this has been repaid in September. The BSP again extended P540 billion to the government as loans to finance its budget gap due to COVID-19 expenditures.
Ng said debt monetization has a negative perception as far as the market is concerned but pointed out that since the BSP’s law limits how much it could give as provisional advances, and the second Bayanihan Act while extending the cap, also has a limit on the amount and specifics on when it should be fully paid, she said that the Philippines is “handling” it better than other governments with similar monetary financing.
“The BSP’s holdings of domestic securities have increased (this year) due to qualitative easing and a first tranche of debt monetization in March. However we do not think this will have a significant impact on portfolio flows” or lead to credit rating downgrades, according to Ng.
The debt monetization program requires advances to be repaid after a maximum of six months under the BSP Charter while the second Bayanihan Act also has a limit and that BSP advances can only be accessed within two years of the signing of the law and repaid within the year. “In contrast, debt monetization in the region – most notably Indonesia – has an open-ended debt monetization scheme,” said Ng.