The Bangko Sentral ng Pilipinas (BSP) should improve its current liquidity management tools by developing more open market operation (OMO) instruments and other refinements to the overnight reverse repurchase (RRP) facility, according to the International Monetary Fund (IMF).
In a December 2023 IMF Country Report based on its Article IV Consultation last November, the IMF recommends that the BSP do more refinements to its operational framework after it shifted to a variable-rate auction for the overnight RRP facility last September.
“In the future, the BSP could manage banking system liquidity more flexibly by expanding the use of market-based operations like reverse repurchase operations (RRPs),” said the IMF.
The IMF also said this approach “is now viable due to large-scale purchases of government bonds” during the Covid years.
Meanwhile, the IMF cited the BSP's shift to a variable-rate RRP and introduction of a new BSP securities tenor of 56-day to further manage financial system liquidity and “provide a market-determined benchmark for pricing short term instruments.”
“As the BSP is exiting from the extraordinary liquidity support measures introduced during the pandemic and letting maturing treasury securities run-off, its communication of the desired size of its balance sheet in normal times including the use of its portfolio of treasury securities would be helpful,” said the IMF.
The IMF said to further develop OMO, the BSP and the Bureau of the Treasury could collaborate more to improve the securities market.
The banking system currently is awash with liquidity after the BSP on June 30 reduced banks’ reserve requirement (RR) ratios. The IMF said the RR rates were high compared to regional peers and “poses an indirect tax on financial intermediation.”
At the moment, the RR ratios for both banks and non-banks are at single-digit levels. Big banks’ RR ratio is 9.5 percent, reduced from 12 percent before June 30, while digital banks have six percent from eight percent.
Thrift banks’ RR ratios were slashed to a low of two percent from three percent, while rural and cooperative banks have one percent ratio.
In September, the BSP launched the variable-rate RRP auction to discover a formal overnight RRP rate on a daily basis.
Under a variable-rate method, it is more market-determined, and the overnight RRP rate will be useful for price discovery formation. Since the auction will be on a daily basis, the BSP will effectively be releasing an excess liquidity forecast to the banks and other financial institutions.
The result is that a daily overnight RRP rate will support money market activity. The overnight RRP rate is an operational rate compared to the BSP policy rate, now called the Target RRP rate.
Since a variable-rate format for the RRP has a pre-determined offer volume, it is similar with the existing BSP securities facility or the BSP bill auction, and the term deposit facility.
As explained by the BSP, an operational target is a short-term interest rate that central banks can guide on a day-to-day basis using their monetary instruments to reflect the prevailing monetary policy stance.
The changes to the RRP facility is all part of reforms that BSP started in 2016 when it adopted the interest rate corridor (IRC) framework. The IRC is a system to bring short-term market rates closer to the BSP policy rate and ensures a fundamental basis for monetary policy transmission.
The RRP facility is part of BSP’s monetary operations to manage the amount of money circulating in the economy to achieve its inflation target. They do this by selling government securities with a commitment to buy them back at a later date.
As of end-October, the BSP has absorbed P1.809 trillion of excess liquidity from the financial system. Basically, the central bank removes money from banks to park these funds in the BSP’s interest-earning OMO and to influence the underlying demand and supply conditions for central bank money.
Mopping up excess money supply also help reduce inflation which as of end-November, remains above-target at 6.2 percent average versus the government goal of two percent to four percent. To control high inflation, the BSP has increased the policy rate by a cumulative 450 basis points to 6.5 percent.