BSP keeps key rates steady

The Bangko Sentral ng Pilipinas (BSP) left key interest rates unchanged at decade lows yesterday, but economists said monetary policy could be eased later in the year or early in 2003 due to external risks and soft domestic demand.

The decision to keep rates unchanged had been forecast following the US Federal Reserve’s decision earlier this week to keep its interest rates steady and given subdued domestic inflation. The BSP often follows the US Fed’s moves.

The bank has kept its overnight borrowing rate at a decade-low of seven percent and the lending rate at 9.25 percent for over six months, the longest it has kept rates steady.

But given the risks to global growth and the threat of a US-led attack on Iraq, economists said down the line, the bias would be toward easing.

According to the BSP, the softness in domestic demand and prospects of tame inflation for the rest of the year were the reasons why it kept interest rates steady.

"The Monetary Board believes that inflation is likely to remain tame for the rest of the year...while there are signs of modest improvement in domestic economic activity as reflected in the favorable outturn in output growth and export numbers for the second quarter, other indicators still point to softness in domestic demand," the BSP said.

BSP Deputy Governor Armando Suratos told reporters that inflation in September was likely to be close to the August figure of 2.9 percent year-on-year. The government expects average inflation this year of 4.5 percent to 5.5 percent.

Graham Parry, economist at Lehman Brothers in Tokyo, said while inflation was likely to pick up with the rise in oil prices, price pressures were still relatively benign and the Philippines was likely to place more emphasis on growth.

"I think the central bank would be more focused on the growth outlook and the weak external environment. I think they would retain a bias to ease, sort of following the moves by the US Fed. They are obviously concerned about implications on the exchange rate."

Risks on all sides

Charlie Lay, economist at 4CAST Co. Ltd., agreed, saying that an easing bias remained given downside risks, although he did not see lower rates until around March next year.

"There is nothing stopping the BSP from acting independently from the Fed, but it would appear that like the Fed, the BSP is also reserving its ammunition," he said.

Parry said the central bank may move as early as November, when he expects the U S Fed to cut rates.

While the majority of Wall Street dealers who deal directly with the Fed still expect its rates to remain on hold until well into next year before an eventual rate increase about one-third of the dealers say a rate cut will be made before year’s end, according to a Reuters survey.

The BSP said spare capacity in manufacturing remained relatively high. "Spare capacity in manufacturing remains relatively high at about a quarter of firms’ total output capacity," the BSP said .

The Philippines’ production indices for July released earlier yesterday showed the average capacity utilization rate at 74.6 percent against 75.4 percent in June.

Credit conditions were still weak, despite a slowdown in the contraction of bank lending in July, it added. The central bank has maintained a low interest rate environment in an effort to stimulate increased bank lending.

"The Philippine economy also faces downside risks coming from the external sector such as the uncertainty over the robustness of the global economic recovery as well as the continuing threat of a US-led offensive against Iraq," the BSP said.

Inflation risks included uncertainty over the impact of El Nino on farm output in 2003, the uptrend in world oil prices; adjustments in utility charges and the widening fiscal deficit and exchange rate movements, it said.