The Philippine banking industry could look forward to a much lower reserves requirement ratio (RRR) of five percent from the current 9.5 percent for the country’s big banks, effectively reducing the costs to banks for maintaining reserves, and at the same time, increasing funds for lending.

Bangko Sentral ng Pilipinas (BSP) Governor Eli M. Remolona said that “eventually” the RRR will be reduced to five percent, during the course of his six-year term as BSP’s seventh governor.

“(The) ideal is zero,” he told journalists late Tuesday, Aug. 22, in an informal press chat.

In Asia, the Philippines’ RRR is considered one of the highest. Big banks’ RRR was at its peak of 20 percent in 2014, and at the time, it was the highest in the region.

Among Southeast Asian countries, the Philippines still implement the highest RRR compared to Vietnam at three percent, Malaysia at two percent and Thailand with one percent. Outside of ASEAN, China has an RRR of 10.75 percent.

This is not the first time that Remolona has revealed his intention to further reduce the RRR. He reiterated that the timing of when to cut RRR is crucial and not while the BSP is still in a hawkish policy stance amid a still elevated inflation expectations.

For one thing, he said the BSP has to do more research on the structure of money supply and if they still need the reserves requirement to control domestic liquidity.

The BSP has done studies on this and continue to do so to determine if its expanded open market operations is enough for excess liquidity management. Excess money supply in the financial system tend to be inflationary.

As of Aug. 2, data from the BSP showed that its various open market facilities have absorbed about P1.52 trillion of market liquidity, bulk of which were mopped up by the BSP bills, about 38.5 percent or P585 billion.

For now, Remolona said it is unlikely they will cut RRR while they are on a tightening bias, but it is possible to reconsider by end-2023. “Late in the year it might be possible," he said.

An RRR cut is not considered a change in monetary policy stance but is merely an operational adjustment on the part of the BSP.

“It’s not a monetary policy move (RR) but the timing of it should not detract from monetary policy. If we’re tightening we shouldn’t lower the reserves requirement. But that’s my goal, to lower it eventually, when the time is right,” said the BSP chief.

Remolona also reiterated that at the moment, the BSP is in a “hawkish stance” which means “either we pause or we raise” the policy rates. For the past three policy meetings in a row, the BSP stance was on-hold.

“For the time being, that’s where we are,” he added.

Meanwhile, in a commentary dated Aug. 23, HSBC Global Research said they expect the BSP to cut the RRR by 100 basis points (bps) in the fourth quarter this year. This will reduce the ratio from 9.5 percent to 8.5 percent.

HSBC said the fourth quarter is a “window of opportunity” because inflation “will likely bottom out before rising again in 2Q 2024.”

The Hong Kong-based bank said a reduction in late 2023 is a “signal that the central bank's bias has shifted towards providing incremental support to the economy.”

HSBC also noted that an RRR cut will also be good for the exchange market since it will contain currency pressures. In this case, the peso will “react positively”.

“We expect the BSP to neutralise the liquidity impact, which should prevent a sharp drop of front-end swap points and support the PHP's (peso) carry advantage,” said HSBC.

In June this year, the BSP reduced both banks and non-banks’ RRR to single-digit levels to unleash fresh funds into the financial system of as much as P360 billion.

The RRR of the big banks and non-bank financial institutions was reduced by 250 bps, digital banks by 200 bps, and 100 bps for thrift banks, rural and cooperative banks.

All universal and commercial banks’ RRR as well as non-banks with quasi-banking functions is now at 9.5 percent from 12 percent, while digital banks’ RRR is at six percent from eight percent. Thrift banks’ RRR was cut to two percent from three percent, while rural and cooperative banks have an RRR of one percent.

The new ratios will apply to the local currency deposits and deposit substitute liabilities of banks and non-banks, said the BSP.

Basically, changes in RRR have a significant effect on money supply in the banking system.

The last time the BSP reduced the RRR for big banks was March 2020, when Covid-19 was first declared a global pandemic. By August of the same year, the BSP also reduced the RRR of thrift and rural banks by 100 bps.

Since reserve requirements refer to the percentage of bank deposits and deposit substitute liabilities that banks must set aside in deposits with the BSP, these funds cannot be used for lending. Reservable liabilities include demand, savings, time deposit and deposit substitutes.