The International Monetary Fund (IMF) recommends that the Philippine central bank implement additional stress testing work such as a more granular macro-scenario evaluation of bank-related financial pressures to mitigate systemic risks coming from the still ongoing pandemic, climate change and other external shocks.

In the IMF’s latest Financial Sector Assessment Program (FSAP) report on the Philippines – released in three parts on Wednesday, June 8 -- two are focused on the macroprudential risk analysis currently being done by the Bangko Sentral ng Pilipinas (BSP) and one report is on climate change stress testing to analyze its impact on the economy and the banking sector.

The FSAP, conducted in the middle part of 2021, highlighted BSP’s policies on ensuring financial stability during Covid times and post-pandemic.

In enhancing systemic risk monitoring, the IMF paid attention to physical risks from climate change since the Philippines is “one of the world’s most vulnerable countries to climate change and natural disasters, especially typhoons.”

The IMF stressed that the government “should conduct more exploratory work to examine the potential impact of climate change with more granular data.”

The IMF’s technical notes on “Bank Stress Test for Climate Change Risks” based on early 2021 data, said it is critical that in assessing for physical risk, an inter- agency collaboration which will include not only BSP and other financial regulators such as the Department of Finance, the Securities and Exchange Commission, the Insurance Commission and the Philippine Deposit Insurance Corp., but also other “non-economic agencies”. These are the Philippine Atmospheric, Geophysical, and Astronomical Services Administration, Department of Energy and the Department of Agriculture.

“Depending on where a severe typhoon hits the Philippines, it could potentially cause a systemic impact,” said the IMF. It noted that most of the population live along the coastline including some areas in Metro Manila where 60 percent of economic activities are happening.

Meantime, the IMF said the country also faces transition risks for its climate change policies. The Philippines has committed under its “Nationally Determined Contribution” to the Paris Agreement, to a projected greenhouse gas emission reduction and avoidance of 75 percent from 2020 to 2030 for agriculture, wastes, industry, transport, and energy sectors.

“The Philippines’ current policies are still short of achieving the goal set by the Paris Agreement. However, they appear to put the country closer to achieving the goal than advanced economies and several large emerging market economies. The cost of transition may be relatively small compared to other economies that are well behind the goal,” noted the IMF. It added that exposures to transition risk are in the coal-based power generation industry and in the licensing policy for new power plants.

“The risks seem to be coming from the power generation sector and the need to rebalance their long-term energy plans to shift from coal-based power plants to renewable sources, which could accompany electricity price increases,” said the IMF

It recommended that the BSP, to improve banking sector data, must increase the “granularity of the exposure data by industries and locations.”

The report added that “strengthening the disclosure requirements could enrich firms’ and financial institutions’ exposures to climate change risks” and “such information would be helpful to identify more micro-level channels of the linkages between climate change and financial stability.”

The other two FSAPs reiterated a lot of its previous recommendations in past reports, such as: the limit on bank dividend distributions amid still high downside risks, and for the BSP to be ready for additional measures to strengthen banks’ capital if the risks materialize to continue providing credit to the economy; and the macroprudential and macro-scenario based stress testing.

The IMF also continues to recommend closing the gap on the database of non-financial corporations or NFCs, to collect more granular data on banks’ credit risk, as well as improvement in household survey data and credit registry to develop borrower-based credit risk indicators. It also suggested monitoring contingent financing plans of large banks and NFCs.

So far, the IMF said the BSP, with DOF and other financial regulators, have had significant progress in terms of macroprudential supervision. The BSP chairs the inter-agency Financial Stability Coordination Council.

Within the BSP, the central bank has its own financial stability unit since 2017 called the Office of Systemic Risk Management or OSRM which reports daily to the central bank governor. The IMF also noted that the Monetary Board likewise has a subcommittee created in 2020 as the Financial Stability Policy Committee or FSPC.

Still, the IMF said that despite the OSRM and the FSPC, a macro-scenario stress testing which is “one of the essential tools for financial stability analysis -- is missing”.

The IMF emphasized that the BSP “should start such an exercise” citing as example its own FSAP.

“A macroprudential bank solvency stress test similar to this FSAP’s work could be implemented with inputs from research (macro scenario), supervision (bank stress test), and OSRM (second round effects and bank-NFC liquidity linkages). However, there is no single best practice about how to organize stress testing work. Several units and sectors could work jointly, or different sections could conduct distinct exercises depending on their objective,” said the IMF.

At the moment, in the absence of a macro-scenario stress testing exercises, the OSRM and the BSP’s supervision sector review and examine NFCs and how they are linked to banks.