‘Defending the peso’ is a proven losing battlefield

I have known Eli Remolona since we were both freshmen scholars in Ateneo. Now, he’s the Governor of the Central Bank and I’m a struggling innkeeper. Nonetheless, I’ve had some experiences he hasn’t had (and no one on our monetary board has had), and I wonder if “defending the peso” is wise as a policy objective. In laypersons’ terms, here are some thoughts to consider.

What is an FX rate? The foreign exchange rate is an across-the-board price setter and adjuster. If the rate drops (the local currency loses value), all imports cost more and some exports are cheaper. Currency under-valuation is sometimes good long-term as it enforces thrift. Over-valuation is rarely good; people import BMWs and local industries become uncompetitive and wither.

However, there is no quantitatively “correct” FX rate. FX rates are a very blunt instrument of economic policy, and slice in many directions. A lower rate is good for some exporters because they can sell more units, but bad for others because they get fewer dollars per unit sold (and due to production or marketing constraints can’t just suddenly sell more). A lower exchange rate should in theory discourage imports, but not if those imports are essential, like rice.

Therefore, most less-developed countries just drift into an exchange rate which looks reasonable. Then they try to hold it steady indefinitely.

This usually works fine. Until the day it doesn’t.

Financial fault-line. A conviction that exchange rates will remain steady forever leads companies and projects to unthinkingly borrow long-term in US dollars, trusting the peso won’t devalue. How has that belief turned out?

In 1961, $1 was worth P2. In the next decades the peso experienced abrupt drops to P4, P6.50, P11, P14, P18, P25. In 1997, due to the Asian Financial Crisis that started in Thailand and wasn’t even our fault, the peso dropped to P40 almost overnight. Any company that borrowed heavily in dollars a few years prior to any of those free-fall drops probably went bust.

Let me claim some credentials related to this subject. I learned something during eight years in Washington at IFC-World-Bank, and learned more while making large profits in currency derivatives for an ungrateful later employer. My Plantation Bay project was financed entirely in pesos in 1995, and finished on budget and ahead of time. We survived the 1997 crisis better than most. For the last 20 years the peso-dollar FX rate has been stable in a range of P50-60. But even with the recent 20 years of stability, the peso has averaged five percent loss of value annually since 1961!!!

Like the Manila Trench Fault, are we past-due for a rupture?

Short memories. We now have an entire generation of bankers and businesspersons who are too young to remember the peso’s 1997-2000 drop from P25 to P50-60. Many of them think that P57=US$1 is guaranteed by God. Sooner or later, they will be proven wrong.

How immediate is the danger? There is no immediate pressure on the peso. Our foreign borrowings, OFW remittances, BPO income and tourism earnings roughly cover our BOP goods deficit of $70 billion (2024). Our CB can “defend” the peso because no one is attacking it.

However, the present world situation includes many wild cards and totally unpredictable factors that should make any dollar borrower lose sleep at night:

• If China attacks Taiwan or North Korea attacks Seoul, all Asian currencies will drop.

• If Iran explodes a nuclear device anywhere, all bets are off on oil prices and OFW remittances.

• Our BPO industry generated $38 billion in 2024, but could evaporate very fast as AI continues to develop. Once an AI can answer hundreds of calls simultaneously with a face and accent tailored to the caller, it will be all over. Loss of the BPO income would force our government to quintuple annual foreign borrowings to $50 billion annually. This is patently impossible, so the peso would drop under the weight of our goods deficit.

• Between quantum computing and AI, it is only a matter of time before Bitcoin’s “uncrackable” public-key encryption is cracked. And soon, organized crime will realize it doesn’t even need fancy computers. Instead, simply identify crypto millionaires and crypto exchange executives who hold the Unlock keys. Mount home or office invasions with guns and garden shears. Five minutes and two fingers later the millionaire or the exchange will have zero assets. Do a few of these and the crypto world will collapse. The weakest link of cryptos is precisely that which they were supposedly created to evade: humans. (See my PhilSTAR articles on crypto since 2017.)

• Once the crypto world collapses, some banks, some governments and some currencies will follow.

Words to the wise government

• Greatly increase scrutiny of foreign borrowings, whether by private companies or government agencies. Put ceilings on companies’ foreign debt exposure. Ask banks and auditors to police those limits.

• Cancel useless projects like the Metro Manila subway, destined to be the most expensive floodwater cistern ever built, as Manila sinks four inches every 10 years. (See PhilSTAR, “The Arithmetic Behind the Metro Manila Subway.”)

• Stay out of crypto.

• Stop talking about “defending” the peso. Start talking about fiscal prudence.

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For Mr. Gonzalez’s full CV, please see plantationbay.com/credentials.as