A DAY ahead of the Monetary Board’s policy meeting, a former deputy governor of the central bank explained how a potential third straight hike in the key interest rate would influence the behavior of households, manufacturers and businesses in the Philippines.
In a message sent to the BusinessMirror on Wednesday, Former Bangko Sentral ng Pilipinas (BSP) Deputy Governor Diwa C. Guinigundo said that while the immediate effect of another rate hike would be a ‘further tightening of financial conditions,’ the ‘bigger risk’ is allowing inflation expectations to become unanchored, particularly when both this year’s and next year’s inflation are still seen to linger above the central bank’s 2 to 4-percent target range.
Guinigundo said further tightening of financial conditions means borrowing becomes more expensive, credit growth may moderate, and spending and investment could soften.
‘That is the cost of bringing inflation back under control,’ the former central bank deputy governor added.
Households and consumers
For households and consumers, Guinigundo said higher interest rates mean more expensive loans, particularly housing, auto and consumer loans-and potentially higher debt-servicing costs for households with variable-rate borrowing.
His sentiment was echoed by former Socioeconomic Planning Secretary Dante B. Canlas, who said that rising interest rates affect households ‘adversely’ in many ways.
‘Mortgage rates for say houses and cars increase, making it more burdensome to own houses and cars and other debt-financed consumer durables,’ the former director general of the Neda told this newspaper.
As such, Guinigundo said some households may postpone big-ticket purchases.
On the other hand, he said savers and households with deposits may benefit from higher returns.
But more important, Guinigundo emphasized: ‘Successful monetary tightening should eventually help protect households’ purchasing power by bringing inflation down.’
Producers and manufacturers
For producers and manufacturers, the former BSP deputy governor said higher borrowing costs raise the cost of working capital and financing inventories, equipment and expansion.
‘Some firms may therefore defer investment or pass part of the higher financing cost to prices,’ Guinigundo explained.
‘But this is precisely why monetary policy has to be calibrated carefully: the objective is not to suppress productive activity, but to prevent demand and inflation pressures from becoming entrenched,’ added the former central bank deputy governor.
Businesses in general
For businesses generally, Guinigundo said the impact would be mixed.
‘Highly leveraged firms and interest-sensitive sectors such as property, construction and consumer durables would feel the pressure more quickly,’ he explained.
But firms with strong balance sheets and cash positions would be less affected, he added.
For his part, Canlas told this paper: ‘Incentives to invest are dampened by rising interest rates. Real GDP growth is thus negatively affected.’
Balancing act
Over time, Guinigundo explained that a ‘credible anti-inflation stance’ can improve the business environment by reducing uncertainty about future costs, interest rates and purchasing power.
He also pointed out that the response to inflation should be broader.
‘Fiscal authorities, trade authorities and especially the agriculture sector have to address the supply-side sources of inflation, while the BSP focuses on preventing second-round e?ects and keeping inflation expectations anchored,’ added Guinigundo.
Meanwhile, fixing the economy’s growth problem should not rest on the shoulders of monetary policy, he pointed out.
‘If growth is weakening because of supply constraints, high food prices, infrastructure bottlenecks, weak productivity or inadequate investment, lower interest rates cannot by themselves cure those problems,’ the former BSP deputy governor told this newspaper.
While an easy monetary policy may stimulate demand, he said it cannot produce more rice, lower logistics costs or remove structural constraints on production.
‘So I would characterize another rate hike not simply as being ‘bad for growth,” Guinigundo emphasized.
Instead, he described it as a deliberate trade-off: ‘Accept some short-term moderation in demand today to avoid a much more damaging episode of persistent inflation tomorrow.’
Guinigundo said the BSP should be guided by the inflation outlook and expectations, not simply by the desire to support short-term growth.
‘The key issue is credibility. If inflation is still projected to remain above target and there is substantial uncertainty around food, energy, exchange-rate and external price pressures, the BSP should be careful about declaring victory too early,’ Guinigundo said.
‘Weaker growth cannot be cured simply by easier monetary policy; but an unanchoring of inflation expectations can make the eventual cost of restoring price stability much higher,’ he stressed.
The Monetary Board, the highest policy-making body of the BSP, has raised the key interest rate by a total of 50 basis points since the start of the conflict in the Middle East, delivering two separate quarter-point rate hikes at the Monetary Board’s rate-setting meetings held on April 23 and June 18.
These policy actions brought the Target Reverse Repurchase (RRP) Rate to 4.75 percent.