BSP may need to tighten policy further — Deutsche Bank

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By Melissa Luz T. Lopez, Senior Reporter

SUCCEEDING rate hikes may need to be implemented by the Bangko Sentral ng Pilipinas (BSP) over the coming year in order to arrest faster inflation and keep the peso competitive, a global bank said.

Deutsche Bank said the decision of the central bank to raise policy rates by 25 basis points (bp) would not be enough to rein in inflation, noting that overheating risks continue to persist as price pressures escalate.

“Last month’s rate hike seems not to have improved market sentiment, with the currency continuing to depreciate. We expect this to continue, albeit at a slower pace by year-end, and with inflation risks to the upside we expect at least four more rate hikes from BSP this cycle,” bank economist Michael Spencer said in a report published Friday.

The BSP decided to hike rates during their May 10 review as inflation continues to breach the 2-4% target, which they said was a preemptive move to temper inflation expectations among market players.

Inflation has averaged 4.1%, with the May reading clocking a fresh five-year peak at 4.6%.

Deutsche Bank expects the policy rate at four percent by the first quarter of 2019, coming from the current 3.25% level.

However, the German lender said the succeeding announcement of a one percentage point (ppt) cut in bank reserves sent “mixed signals” to market players, as it potentially cancelled out the impact of the BSP’s tightening move.

The central bank trimmed the reserve requirement ratio on big banks to 18% starting June 1, in line with plans to gradually reduce the “ultra-high” reserve regime which is the steepest in Asia.

“[W]hile we understand, and agree with, the justification for cutting the reserve requirement two weeks later, the latter decision has confused some investors by raising questions as to the central bank’s resolve to tighten liquidity,” the report read.

The bank said inflation has picked up by 1.7ppts since late 2017, but has been matched by a modest 25bp rise in benchmark rates. As a result, real interest rates “have fallen to their lowest levels in nearly three years.”

“In that context, the RRR cut added to the sense among investors that the central bank is not trying to tighten policy,” Mr. Spencer added.

The peso also continued with its “mild” depreciation, the global bank added, as it continues to trade at the P52 level versus the greenback.

“Lower rice and fuel prices may indeed help to bring headline inflation back into the target band over the next few quarters. But in our view, rising underlying inflation points to an overheating phenomenon for which tighter monetary or fiscal policy would be appropriate,” Deutsche Bank said.

“We worry that policymakers are acting too slowly to address this,” it added.

BSP Deputy Governor Diwa C. Guinigundo has said that the 25bp increase in rates is “sufficient” to bring inflation back to target by next year, even as they have already conceded to missing the target as 2018 inflation is seen to average 4.6%.