Low inflation may lead to further BSP rate cuts

A downward revision of this year’s inflation target of four to five percent will provide the Bangko Sentral ng Pilipinas (BSP) more room to further chuck off its key interest rates, possibly by 50 to 100 basis points.

"If government will downscale this year’s inflation target, then we will have ample room for future cuts in overnight rates. We could cut by 50 to 100 basis points, we can trim it by 50 basis points if inflation is five percent, and by 100 basis points if it’s four percent," said BSP Governor Rafael Buenaventura.

The BSP chief said inflation is widely anticipated to trend down throughout the year but will slightly pick up in the fourth quarter when the expected economic recovery is realized.

Inflation refers to the rate of increase in prices of consumer goods and services.

Previously, Socioeconomic Planning Secretary Dante Canlas said government may consider readjusting downward its full-year inflation target from five to six percent to four to five percent.

Canlas said in a briefing last week that government reviewed its inflation outlook and is contemplating an adjustment.

Canlas said inflation is expected to be more benign than originally forecast because of expectations that food prices will remain stable while crude prices could further soften.

Last week, falling interest rates along with expectations of tame inflation outlook encouraged the Monetary Board (MB), the policymaking body of the BSP to slash its key rates by 25 basis points and cut liquidity reserve requirements of banks by two percentage points.

The BSP brought its overnight borrowing and lending rates to their lowest levels since September 1995 at 7.5 percent and 9.75 percent, respectively. This also brought the cumulative reduction in the central bank’s policy rates to 750 basis points since December last year.

Buenaventura said there is more room for monetary easing in the coming months if leading indicators that the central bank relies on, remain stable.

"If the inflation level remains under control and if nothing unusual happens, there should be further monetary easing," said Buenaventura.

The BSP relies on inflation and other indicators such as the level of business activities in the country, foreign exchange rate, oil and food prices in setting its closely-watched overnight borrowing and lending rates.

On the other hand, the targets on monetary aggregates, including the level of liquidity to be allowed by the central bank to support economic growth targets, are based on the inflation target government has set.

On the other hand, the MB also approved another two percentage point reduction in the liquidity reserve requirement of deposits and deposit substitute liabilities, common trust funds and trust and other fiduciary liabilities of commercial banks and non-banks with quasi-banking functions.

A two-percentage point reduction to 16 percent fro 18 percent, brought back the liquidity reserves to pre-July 2001 level.

This will release about P26 billion into the system from the banks’ vaults and into the productive sectors of the economy as banks are encouraged to hike their lending activities.