Signs and Wonders


The global economy could not be any worse this year or the next, for what the IMF calls a “unique mix of headwinds” could in fact deteriorate — anything can happen! If Russia further escalates the invasion of Ukraine, or if the US Fed is not convinced that US inflation has peaked, or if the economic scars of the pandemic in China, in supply chains and in the labor market have yet to fully heal, then we have not seen the worst.

The World Economic Outlook says it all when the global growth forecast for 2023 was reduced and about a third of key economies are likely to shrink this year or the next. This is to be expected because by next year, the pandemic-related fiscal support is expected to dissipate while tight financial conditions could harm the people’s access to credit. Latest high-frequency indicators further confirm that indeed, the outlook is not exactly rosy.

We can therefore consider with confidence the latest economic assessments by the economists at the Bangko Sentral ng Pilipinas (BSP), for they appear consistent with the Fund’s fundamental assumptions about the wild cards in evaluating the prospects of the global economy. Those headwinds are quite realistic as a basis for framing the global output growth in the short term. We really need to be mindful of risks.

The BSP, for instance, “sees slower growth until 2024,” as bannered by this broadsheet last Monday. This was traced to, one, the slower external demand and, two, the likely impact of high interest rates as a logical tool for combatting inflation. Since May 2022, the BSP has jacked up its policy rate by 300 basis points (bps), triggering a generalized increase in market rates including the cost of both government and BSP borrowing.

True, the Philippine economy has shown impressive economic recovery in the first three quarters of the year. For this, we have to thank the relaxed protocols for personal mobility, revenge spending, and resumption of face-to-face classes and social activities. Higher investment, return of tourist business and small business activities could further incentivize growth. The BSP also considers the implementation of various legislative initiatives on corporate recovery, tax incentives, and financial institutions to be growth-positive.

What the BSP correctly clarifies for the business community is that this state of affairs may change.

The stubborn inflation for the last 10 months of 2022 forced the BSP to bite the bullet and start tightening. This is now causing some jitters in the real sector. Even credit rating agency Standard & Poor’s (S&P) joined the chorus by expressing some reservation about the impact of restrictive monetary policy on the fiscal outcome and on growth. Without doubt, spiraling inflation is anti-growth, debt levels are bound to increase with limited window for raising funds from public revenues. Responding to it through tight monetary policy imposes collateral impact on credit and liquidity, and ultimately on economic growth.

Given borrowing rates are bound to rise but with a lag, it is expected that the full brunt of the 300-bps increase will influence market behavior sometime next year. Without the strong domestic demand for loans, so far at least, the upward adjustment in market rates could have already destroyed many businesses and households.

But what else should we expect when inflation threatens the steady path of economic growth over time, and the monetary authorities summon the legal tools to fight it off? Even elephants in the room could go crazy.

Because monetary policy works with a long and variable lag, empirical studies validate that before we see perceptible arrest of those sharp uptrends in price movements, we would normally be subject first to a quick and early hit on business activities. This is the essence of moving the monetary lever as a tool of demand management. By restricting strong demand and working against bad inflation expectations, one may succeed in denying fuel to inflation.

But as the latest national income statistics show, the economy was more resilient to withstand those 300 bps of beating. Our fundamentals have tested stronger, many business reserves have been substantial enough to tide them over the pandemic.

Banks even made more than P243 billion for the first three quarters of 2022 alone. Both credit costs for the industry and non-performing loans have remained manageable because most pandemic-related weak loans were either recognized or restructured.

Hence, those red flags on the possible economic slowdown in the next few years are necessary for appropriate adjustment and stabilization, and therefore should not be necessarily alarming. In fact, for the BSP, it was smart for them to hedge their future moves on the US Fed because US interest rates have non-trivial effects on capital flows and exchange rate. As BSP Governor Philip Medalla clarified when asked whether those jumbo rate hikes were over once inflation is comfortably kept within the BSP target, “It’s possible, but it’s early to tell.”

It would be less smart to say otherwise because the BSP also announced the increase in its inflation forecasts for 2022 from 5.6% to 5.8% and for 2023, from 4.1% to 4.3%. Forecast for 2024 is also higher than the mid-point of the target 2-4% at 3.1%. These forecasts should instruct market movers that indeed, it would be too early to rule out a dial back in monetary policy, more hits on the real sector, and the need for higher public borrowing. The BSP’s November monetary policy report should be more than indicative as far as future risks are concerned. The risks to the inflation outlook remain on the upside. What complicates the scenario is the apparent de-anchoring of inflation expectations which have all exceeded the BSP forecasts.

In one respect, S&P was right to be conditional on its take on the possible expansion of corporate and small business default, and this is based on the likelihood of prolonged and sustainably high interest rates.

Again, the BSP’s word on debt payment problems on the firm level should make policymakers more careful in their unequivocal pronouncements as if they had the force of kingly edicts. Based on its stress-test exercise, the BSP recently announced that “more firms in the industrial, services, holdings, property and financial sectors may incur interest coverage ratios (ICR) below the threshold set by the IMF.”

ICR is an indicator of the debt-servicing capacity of firms, computed by dividing their earnings before interest and taxes by their interest expense. Those with low ICRs are more likely to experience liquidity and even solvency problems. These could translate eventually to default as well as reduction in investment and jobs. The obvious implications are on both financial stability and economic growth.

There is breadth in the BSP’s scenario building exercises as they are based on the changes in firms’ earnings, peso depreciation, and the increase in interest rate. With the findings, the BSP monitors the financial health of firms in terms of profitability, debt servicing capacity and leveraging patterns especially in the face of rising interest rates. Industry-wise, the BSP assured the market that the so-called debt-at-risk appears to be manageable. Firms incurred lower share of debt against the total debt of listed firms included in the stress testing.

For these reasons, the cabinet-level Development Budget Coordination Committee may be too hasty in its plan to revise the growth projection for the whole year of 2022 given the impressive three quarters of economic growth. Keeping the target will lend more credence to it, and will allow the full articulation of those upward risks. While revision is by all means plausible, it may not be wise. It may not also be wise to take pride in our fiscal space in terms of our public debt of over P13 trillion to GDP ratio at nearly 64% against other countries’ 100-200%. In the case of Singapore, the proceeds of public borrowings are not spent on the budget deficit but are invested.

What is most important at this point is for the government to ramp up fiscal support to mitigate supply bottlenecks and promote agricultural productivity to prevent further inflation inertia at elevated levels. It looks like the monetary authorities fully realize their mandate of price stability, keeping firm on their monetary tightening stance and never showing any sign of wimping out.

Any evidence of weak business activities should not lead to loss of nerve for it is part of the strategy to ensuring a more sustainable growth path.


Diwa C. Guinigundo is the former deputy governor for the Monetary and Economics Sector, the Bangko Sentral ng Pilipinas (BSP). He served the BSP for 41 years. In 2001-2003, he was alternate executive director at the International Monetary Fund in Washington, DC. He is the senior pastor of the Fullness of Christ International Ministries in Mandaluyong.