Inflation, Maharlika fund once again!

Published January 26, 2023, 12:02 AM

by Diwa C. Guinigundo


Diwa C. Guinigundo

The most useful part of last week’s Davos for global perspective was the wrapping-up session with the heads of the European Central Bank (ECB), International Monetary Fund (IMF), Bank of Japan (BOJ), as well as the finance minister of France and the irrepressible former US treasury secretary Larry Summers. Participants agreed that “it was not all gloom and doom about the world economy.”

This is good news if it comes to pass.

For Wall Street, initial signs that things may start looking up begin with the resiliency of the economies of the US and Europe and continue with China easing on its Covid-19 restrictions. It would also be growth-positive if the deadlock on the $369 billion US subsidy to climate transition is resolved. But there are wild cards in the pandemic and the war in Eastern Europe. They cannot be assumed away.

Following ECB’s remarks, one important way to deal with what was described as “weird, weird year,” is to ensure the appropriate mix of monetary and fiscal policies. Fiscal policy should not make the job of central bankers difficult by being expansionary; monetary policy should remain tight as long as necessary.

This is a confirmation that inflation remains the primary problem of the global economy.

Summers also underscored the possible resurgence of inflation due to the decline in central bank credibility. He must be referring to the experience in both the US and Europe in 2021 where central banks wasted precious time in responding to the more permanent inflation before monetary policy was eased to near zero. With run-away inflation and playing catch up, central banks then swung to the other side, tightening monetary policy in a big way. Interest rates rose to historical highs, while money supply severely shrank.

By then, inflation expectations had gotten out of control and trust in central banks severely dented. Summers reiterated his earlier fear that central banks might do what Nouriel Roubini was also nervous about: central banks wimping out when they start seeing record deep recession as a consequence of prolonged tight monetary policy.

Summers argued that the greatest tragedy for the global economy is the failure of central banks to bring down inflation back to earth. This may happen when monetary authorities begin to relax upon seeing that the month-on-month inflation rates are stabilizing, and the inflation path is reaching an inflection point. Feeling that “exhilaration of relief,” central banks’ commitment against inflation starts wavering and they cop out.

Monetary policymakers should remain vigilant. They should sustain the cycle of tightening until inflation is completely put out.

There is another angle to inflation management. Picking up from Lagarde’s point about fiscal discipline, we recall a study at the IMF last November 2022 about the role of fiscal restraint in helping fight inflation. Accommodative fiscal policy allowed governments to help both households and corporates survive the pandemic and push the economy to recovery.

The Fund clarified that “where inflation is high and persistent, across-the board fiscal support is not warranted.”

For the Philippines, this may not be immediately applicable.

Inflation exceeded the two to four percent target in 2022 at 5.8 percent, and for December 2022, averaged 8.1 percent, the highest since November 2008. The BSP is well justified to continue being hawkish. But fiscal policy cannot afford to immediately pull back because we need to support agriculture and food, health and medicine, education and school rooms, training and facilities. Infrastructure is indispensable because the large infrastructure gap persists.

We may have to live with a relatively high fiscal deficit partly because of the legacy debt due to the pandemic. Nonetheless, our fiscal authorities are correctly programming consistent decline in the fiscal deficit relative to our GDP. From 6.9 percent and 6.1 percent last year and this year, fiscal deficit to GDP ratio is to be reduced to pre-pandemic level of three percent by 2028.

This is well and good without the Maharlika Investment Fund.

As House Bill 6608 and the Senate version reportedly filed by Senator Mark Villar which appear to be one and the same, the most fundamental issues remain. The Philippines has no surplus fund to invest, and the source of funding comes from the Land Bank and the DBP, as well as the dividends of PAGCOR and the BSP.

All the dividends of these public institutions are counted as part of government revenues for funding the national budget. Since their annual dividends will be assigned to the Maharlika fund, then the government will have to cover for the earmarked revenues by borrowing. It is a big question whether the returns to the Maharlika investments could immediately translate into public resources to one, increase agricultural productivity and production to guide food prices down; and two, to help pay down those additional borrowings. It is difficult to imagine how this fund will help us promote growth and fiscal sustainability.

With Maharlika, fiscal policy can only be expansionary all the time with serious inflationary consequences. The BSP should do more tightening against inflation because the Maharlika fund could actually contribute to more inflationary pressures. This is most challenging to the BSP because it will have less resources to do its job of keeping prices stable and helping distressed banks. GFIs’ trouble could trigger contagion and systemic risk across the banking system.

That is effectively tying BSP’s one hand.

The other wild card is the risk of the economy slowing down in 2023, as generally expected by both government and international financial institutions. It would even be more problematic meeting the needs of the most vulnerable to cope with spiraling prices of food, energy and social services.

This is not to mention that high inflation keeps President Bongbong Marcos awake at night!

Indeed, fighting inflation is difficult enough. Fighting inflation with one hand is impossible to win.