DOLLARS: THE PROBLEM OF PLENTY By BSP MB Member Ignacio Bunye, speakingout.ph/speakingout.php Too little or too much of anything can be bad. Exposure to too little sun can cause vitamin D deficiency. But too much sun can cause skin cancer. Too little water will kill plants. But too much water (as in floods) can kill not only the plants but also the people and the animals in the affected areas. In a way, this is also true with dollars in relation to the pesos that we hold. Too little dollars, and we will not be able to pay for our imports. We will also have a difficult time paying for our dollar-denominated loans. Too much dollars in relation to the pesos that we hold is also bad. Remember that both dollars and pesos are commodities and their relative values are affected by supply. So if we have more dollars in relation to pesos, the dollars will lose value while the pesos will increase in value. To put it another way, the dollars will weaken while the pesos will strengthen. Is this good or bad? It depends. For dollar earners (like our millions of OFWs), our exporters and the Business Process Outsourcing industry, this will be bad news. Our OFWs will have to send more dollars to compensate for the dollar’s loss in value. Our exporters’ products will be more expensive and, therefore, less competitive. With these developments, our BPOs expect to lose market share. For importers, however, the weakening of the dollar (and the strengthening of the peso) will be good news. Our imports of oil will be less expensive. Eventually, the lower cost of oil imports will also translate into lower electricity cost. Companies with dollar loans are just too glad because they can pay for their dollar obligations more cheaply. Among my classmates, who are in the export business, I usually get nudged to persuade the Bangko Sentral Monetary Board to “do something about the weak dollar.” Others (and I suspect that they are importers), however, are all praises for the BSP for making the peso “one of the best performing currencies in the region.” Caught between these two diametrically opposed demands, from the dollar earners and the dollar spenders, what does the BSP do? Remember that the primary mandate of the BSP is monetary stability and this includes exchange stability. With this as a mandate, the BSP does not target any specific exchange rate. Rather, the BSP allows the dollar-peso exchange rate to seek its own level as determined by market forces. The BSP, however, will try to achieve exchange rate stability by preventing wild and abrupt fluctuations in the exchange rate. What are the present realities? One, OFW dollar remittances continue to rise. Two, interest rates abroad are down and much lower than interest rates in the Philippines. Foreign capital seeking higher yields continue to come in. Three, good economic fundamentals of the Philippines are expected to prevail for 2013. This makes Philippine stocks also more attractive. Half of the trade volume in the stock market, which has risen to an all time high, is now funded by foreign money. Four, the Philippines is on the cusp of investment grade. Given the above-stated conditions, we expect more dollars to come in. The BSP will have to deal with its “problem of plenty.” Last week, we described the problem of too much dollars coming in and the possible adverse effects on a significant segment of our economy, our millions of Overseas Filipinos, our exporters and the BPO sector. We also explained some of the reasons for this heavy influx. So what is the Bangko Sentral ng Pilipinas doing about it? Obviously, doing nothing is not an option. If the BSP were just to stand by, the peso would become so strong – more than our OFWs and their families and our exporters can bear. So the BSP intervenes in the foreign exchange market by buying the excess dollars. This way, the BSP is able to smoothen the volatility in the exchange rate. (In a reverse situation, where the dollar is scarce and the peso depreciates, the BSP sells dollars.) Buying dollars, however, will definitely affect the pesos in circulation. The supply of pesos will increase – an inflationary situation. An oversupply of pesos would drive up local prices, eventually weakening the peso. Consistent with its mandate to keep the inflation rate low and stable, the BSP will now have to remove from circulation some of the pesos that it had earlier released. In BSP lingo, this process is called “sterilization.” The BSP performs “sterilization” (of course, we don’t mean this in the physical sense) by selling government securities or by luring these pesos to the SDA or Special Deposit Account. Mind you. “sterilization” is a very expensive operation. The cost comes in the form of interest expense. Just imagine the BSP paying 3 percent on P1.8 trillion worth of SDAs! What happens to the dollars which the BSP purchased? The dollars eventually form part of the Gross International Reserves which over the last five years has grown to more than 85 billion US dollars. Everybody (at least almost everybody) is hailing the BSP for this terrific achievement of piling up such a huge reserve. Our international reserves by conventional reckoning can pay for more than a year of imports. Our reserves are one and a half times more than our international debts. Hooray for that! But wait a minute. When we reinvest our reserves for example in US treasuries, we only get a fraction of a percent. Compare that to the 3 percent that we are paying on the SDA. Worse, when these dollars are revalued and the peso appreciates, we have fewer pesos than we started with. As Ted Failon would say: You see what I mean? No commercial bank would go into such operation knowing the tremendous cost involved. But the Bangko Sentral is not a commercial bank. The BSP was created for the primary purpose of maintaining price stability. The BSP has its own bottom line, as emphasized in the BSP vision: “..to deliver a high quality of life for all Filipinos.”
Posted on: Thu, 08 Aug 2013 03:46:27 +0000
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