The Bangko Sentral ng Pilipinas on Thursday decided to cut its key interest rate and, at the same time, scrap what it calls its “tiering scheme.” This scheme pays lower yields on large short-term deposits, and was used as a tool earlier this year to cool down the red-hot growth of money circulating in the economy.
Why should personal finance enthusiasts closely follow what the central bank does with its interest rates?
At first blush, articles on monetary policy and interest rates seem to be fit only for bankers’ ears. However, since money supply is one of the most important indicators in the Philippine economy, it has a big impact on financial markets and, eventually, on all our savings and investments.
The impact is not direct, but it is huge. Think of the economy as a big swimming pool, and the water is the amount of money moving around. I’m sure you’ll all agree that there is an ideal level of “liquidity” in the swimming pool. Very low water level is not much fun. Try sloshing around with water only up to your ankles.
Earlier this year, money supply growth reached unprecedented two-digit levels. April’s 26.6 percent money supply growth sent a collective shiver down monetary board members’ spines, I’m sure. That’s the equivalent of the water going over the sides of the pool and drenching the garden.
While Bangko Sentral Governor Amando Tetangco Jr. can hardly complain – the much needed cash was coming from foreign direct investments, foreign buying in the stock market and remittances from overseas Filipino workers – that kind of volume of “liquidity” also posed quite a challenge.
First, too much money chasing the same level of goods could cause prices to go up. This is quite a sticky point for some, but just imagine what a “normal” Filipino will do if he receives an unexpected windfall. He will go shopping, right? That’s a predictable consumer mentality all over the world and not just in the Philippines. If that sudden windfall makes everyone lust for a new refrigerator and there is only one person selling, what you’ve got is a ripe opportunity for him to raise his price. Refrigerator goes to the highest bidder, that’s the way the free market works. That’s inflationary pressure. That’s what the central bank wants to avoid.
So, what can Mr. Central Bank do? Going back to the swimming pool, he’ll go to the pumps to turn down the volume of water going into the pool. In monetary policy, that’s the equivalent of raising interest rates. When BSP raises its key rates, it makes it more attractive for banks to lend their money to the central bank and more painful to borrow money from the central bank. When that happens, the central bank effectively sucks in the liquidity in our economic swimming pool.
Keep in mind however that raising rates affects financial markets. How?
Loan markets. Banks normally respond to an increase in central banks rates by charging more from their customers who are borrowing money. We’re talking of San Miguel’s to Binalot’s loans, and of your home or car loan. Remember the 1997 financial crisis? When the central bank suddenly jacked up its rates in an effort to siphon cash that might be used to speculate on the peso, banks responded by raising their interest rates to a point where companies and individuals could no longer afford to pay their loans. We were just counting each day how many firms were going belly up. It was terrible. That’s an extreme scenario, but you get the idea.
Investments. Second, with interest rates going up, bonds and bank instruments become more attractive than stocks. People also tend to take out their investments in the foreign exchange markets, which can even be riskier than stocks. I know quite a lot of people who made a killing in 1997 by pre-terminating their time deposits so they could take advantage of the higher returns banks were willing to pay for their money.
Economic growth. End result is that consumers and corporations need to pay more to banks in terms of interest. Add to that the bills you need to pay, tuition expenses to prepare for, so you have less money to buy Jack ‘n Jill products, latte, FHM (I can’t believe how many Filipinos buy that magazine), etc. In this context, companies get hit, too. People buy less of their products.
To sum it all up, a rise in interest rates can also cause economic activity to slow down. A drop in interest rates will of course have the opposite effect, and a “neutral policy stance” will keep the status quo.
Now, do you think a slow down in the economy is anywhere near the government’s priorities this year? Nuh-uh. That’s why you’ve been seeing the central bank cooking up creative ways to hammer down money supply.
That’s where the tiering scheme and the arrangements for special deposit accounts (SDA) come in. These schemes simply allowed the central bank to siphon money supply without having to raise interest rates. Pure and simple.
oing back to Daxim Lucas’ article in Philippine Daily Inquirer I linked to above, the central bank’s twin complementary moves of cutting the overnight borrowing rate to 6.00 percent from 7.50 percent and the overnight lending rate to 8.00 percent from 9.75 percent and removal of the tiering scheme will have a zero net effect.
I love hearing from young people what they understand from business news. Here’s a reaction from Wainwright Yu, a new graduate from DLSU.
This makes equity investors (dummy transliteration: people who buy stocks) quite the merrier! When the BSP cuts its interest rates, equity begins to look much more attractive. The PHISIX hit a whole new high, at one point hitting 3,820.55 before closing at 3.786.02, following the BSP’s announcement Thursday.
Aside from that, like the good governor, other experts are saying pretty much the same thing: the effect is neutral, nada, nothing, nil. It’s a pretty quiet monetary policy day out there (economists like calling it *benign*).
Not bad..
Last word
Interest rates affect financial markets, but they are not the only reasons for these markets’ ups and downs. What I have discussed above describe broad interactions that can have many different results. By all means, pay close attention to interest rates movements with an understanding of what that will mean for your stock investments et. al. but remember that a lot of other factors also need to be considered.
How interest rates affect Philippine markets
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[...] probably cuss at our Meralco bill for July. Meralco is charging us P1 more per kilowatt-hour as omski pointed out. Here’s the Philippine Daily Inquirer article on that, [...]----- PING: TITLE: INQUIRER.net Blogs » Science, post-Zubiri blues, interest rates and tech media awards URL: http://inquirerbloggers.net/home/2007/07/15/science-post-zubiri-blues-interest-rates-and-tech-media-awards/ DATE: 07/15/2007 11:05:16 PM IP: 208.97.175.221 [...] Duplito talks about how interest rates affect Philippine markets in Money [...]----- -------- Read More
I always monitor the interest rates, pag mababa ang rate I apply for refinancing of my loans or debt consolidation. It also helps kung mabango rin ang pangalan mo sa mga bangko, that means maganda ang credit standing, you can shop around. Pababaan sila ng patong sa prime rate.
Out of topic question lang po, I emailed Sunlife months ago 'coz i want to invest in Philippine equity..sabi nila di daw pwede kung immigrant, OFW's lang daw.. is this true?
Salve,
Does this include the Meralco rates? I got my July bill with a P300.00 rate increase according to Meralco is because of AGRA or Automatic Generation Rate Adjustment which took effect this July. Imagine my May bill is the same kwh consumption with my July bill but this time it is 300 pesos higher!!!**&&&!!!###
Wow, thanks for your "dummy translations." These things are still something of a mystery to me, but at least the image isn't as muddy as before. Looking forward to learning more from you, Ms. Salve.
Nice. I like this article, Interest Rates 101 or The Id***'s Guide to Interest Rates =)
Omski,
I think it will not apply immediately in your meralco rates. FOREX appreciation could lower your meralco bill because of the exchange rate differential that meralco uses on your bill. BSP rates work immediately mostly on banks and institutions that uses money as business.
Personally, I don't think that the net effect would be really zero, per se. I think the contractionary effects of a lower benchmark interest rate would outweigh the expansionary effects of removing the tiering scheme. Why? Because financial analysts keenly follow the policy rates. The week preceeding the quite monumental BSP meeting (it was almost 2 years since BSP changed its rates) was all about analysts voicing out against BSP's unorthodox and non-transparent monetary tools (read: extended SDAs and tiering). Analysts are quite stumped about these methods because quantifying the effects are beyond their powers. The BSP shifting to its main monetary tool presents a clear-cut direction in its policy - rather neutral, but still more on the contractionary side.
Omski,
Baka naman June bill. Kaka-start pa lang ng July. or Siningil ka na agad for the rest of July?
Ivan,
I also think it is impossible to have a zero net effect per se, just the same as the demand side and the supply side of GDP is actualy never equal (that's what SDs are for). But I think the Monetary Board has taken it as a consideration and so they think the effect is ALMOST nil. Let's take a look at the purpose for this monetary excercise. It is basically about BSP's inflation targetting and BSP's mandate to mantain a stable and low prices. You may ask, "why only now that BSP made such a move?" It's because of the low inflation environment that we have now (Jan-June = 2.6). It is almost certain that they will hit their target for the year (4-5) and even lower. But, remember that changes in policy rates don't translate immediately. It has a lag effect of about 6-18 months (just correct me if I'm wrong I'm not sure about this). So they made this "policy stance—which is neutral relative to future inflation and output—is consistent with the forward-looking orientation of inflation targeting, considering the low actual inflation and, more importantly, the benign inflation outlook over the policy horizon. "
I'm in favor on BSP's stance of not changing its policy rates to very whims of financial analyst (2 years the BSP didn't changed their position). It just shows BSP's independence. They are focus on their job on inflation targetting and they let the market do the rest. That is also the reason why BSP is not dipping its hand on exchange rate. It is true that financial analyst keenly follow the policy rates. This also happens to the rest of central banks worldwide, especially to the Fed. It is a guessing game. They even poll for this event. I think there is a flaw in your argument that "Because financial analysts keenly follow the policy rates, contractionary effects of a lower benchmark interest rate would outweigh the expansionary effects of removing the tiering scheme". I think it is not enough reason that analysts keenly follow the policy rates. I think you should give more support on that. Lasly, on SDAs, the objective for this is to siphon excess liquidity from the economy, the purpose of which is again for inflation targetting and outlook. With SDAs they can stop it abruptly without the large scale effect on the economy because the control is on BSP alone. But if they do something like a policy like requiring banks to do the siphoning and not the BSP then it will be devastating for banks if the BSP will suddenly recall this policy.
Wow...so if interest rates are lowered, it follows that banks would also lower their interest rates...right? So, it is also time for borrowers to structure their loans with banks...so save on interests. Would this lower the interest of my housing loan with PAGIBIG?
PBF,
Thanks for the reply, it is 09Jun-10Jul bill, anyhow, is it just me or people just don't care about this electricity increase anymore as they are used to it already...just like the gas prices..
gcol,
I think this development will lower housing loan rate with pag-ibig. if you have an existing loan i think it is best to inquire at pag-ibig office for more information.
PBF,
Check this out.
http://www.philstar.com/index.php?Headlines&p=49&type=2&sec=24&aid=20070718165
Don't know why it is not in PDI..
Omski,
The link doesn't work. anyway if that's about the AGRA I saw it in the news and Meralco's website. Di ko rin ma gets ang ERC why they allowed this. Isama ba naman ang losses ng MERALCO sa WESM sa babayaran natin? That's unfair, especially sa FirstGen lang naman sila bumibili ng kuryente (FirstGen is part of Lopez's). Kahit anung price pa ipost ng FirstGen bibilhin ng Meralco , syempre para hindi malugi ang Lopez. tapos sa consumers kukuhanin ang losses? eh kaya nga may WESM eh para sa lowest price ka bumili, tsaka in the first place dapat eh sa hindi na pinasali ang FirstGen sa WESM. hay naku naman, sabi nga ni NERI eh yung mga regulatory bodies ay captured ng industry players, sa telecoms lang hindi pero the rest, ewan.
pasensya na Omski got carried away. But with regards to your bill I think we can't do anything about it. But I think there is a clause that if Meralco was proven to be getting more of their AGRA there will also be automatic refund for consumers. This is not good and I can expect inching up of inflation on August.
PBF,
Monopoly kasi ng Meralco ang electric distribution business kaya hawak tayo lahat sa leeg...
Kasama na dyan sa mga losses na yan yung mga illegal connections na koryente sa mga squatters area...we subsidized those people too...
But I did emailed consumer@erc.gov.ph about this and complained, this is all we can do, i hope many consumers will do the same..
Omski,
Oo nga eh, kaya sana eh kalabanin ng aboitiz ang meralco. sana maging katulad ng sa telephone na kapag ayaw mo na, lipat ka sa bayantel, globe, etc. tutal ang transmission naman eh sa gobeyrno (transco) yung distribution na lang ang prob. sayang nga hindi ako nakabili ng Aboitiz shares, pero kahit flat yung opening nila malaki ang paniniwala ko sa potential ng company sa energy sector.
How about now? What's happening to our economy? Why stocks are down?
Our economy? Hanggan hindi tumatahimik ang world economy, wala kang " tayong " economy, it won't stop until USA's problem stop, the buck will stop where it started..bagsak hanggan friday iyan, tapos tingnan na lang friday closing sa USA...millions will be homeless in USA...kapag nag riot duon, mas delikado....negative 1% savings ang mga kano last year, isipin mong mabuti kung anong ibig sabihin niyan, more or less ma de-decipher mo kung bakit ang world economy is down...utang sila ng utang, tapos iyong banko nila and financial arms nila invest sa ibang bansa, tapos ngayon kailngan na nila iyong pera, ikaw ang ALKANSIYA NILA! Basag ka!
Hello, I would like to buy a property. What is the lowest interest rate available in the Philippines today?
High interest rates can be destabilizing for many of us after all who'll want to pay high interest when the price of commodities in the market are shooting up. The stock market reality game is interesting but involves a lot of risks and foreign exchange cases are the worst. It's a very good idea to invest in banks but they should in return also give the investors some decent advantages so that investors do not think of drawing out everything. Interest rates, inflations, political and business decisions all affect the economic system of the country. The need of the hour is to introduce ways through which our country can come up with a sustainable economy.
Crestview real estate
I'm in favor on BSP's stance of not changing its policy rates to very whims of financial analyst (2 years the BSP didn't changed their position).
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So, it is also time for borrowers to structure their loans with banks...so save on interests.
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