Food for thought for BSP

IN a recent symposium at the University of the Philippines School of Economics (UPSE), experts turned their attention to the economic contribution of Overseas Filipino Worker remittances and the implications of their huge inflows especially for monetary policy.

The discussion was timely coming near the start of December, which is one of the months we feel the most the presence of OFW remittances, and their power to lift the economy by fueling consumer spending.

In fact, the third-quarter gross domestic product growth would have been more dismal had personal consumption expenditure (PCE), which accounts for two-thirds of the economy, not chipped in to the expansion. Some said we would not have enjoyed growth at all without remittance-led PCE.

To recall, two other sources of growth – external trade and government spending – flagged, with exports registering its biggest drop since the depths of the recent global financial crisis on account of a slowdown in the US and EU markets.

The drop in state spending was more self-inflicted than anything else, having been triggered by the Aquino administration’s singular obsession with eliminating corruption that supposedly crept throughout the bureaucracy during the previous government – something we’ve discussed in this space in the past.

But back to the UPSE forum and to some stylized facts about the OFW phenomenon.

In a presentation on the government’s overseas employment program, the country’s worker migration phenomenon was described as the Philippines’ “economic lifeline.”

The Philippines’ overseas employment program has become a “permanently temporary stop-gap” measure, an oxymoron to be sure, but true nonetheless.

From 36,075 in 1975, deployment has shot up 40 times to 1.47 million last year. During the recent global financial crisis, deployment grew 28 percent, indicating that difficulties abroad have not discouraged Filipinos from leaving their country.

The diaspora has translated to a similar surge in remittances, which have grown from $103 million for the whole of 1975 to $2 billion a month this year.

While the US accounted for the lion’s share of 2010 remittances at $7.86 billion, this reflected not the destination of OFWs but the practice of remittance centers coursing money through correspondent banks in the US before sending them to recipients in the Philippines.

This continuous surge in remittances, along with the inflows of foreign portfolio investments seeking higher returns in riskier emerging assets, has strengthened the value of the peso vis-à-vis the US dollar, hurting exporters and ironically, the OFWs, who had been partly responsible for the foreign exchange inflows.

Worse, the growth in net foreign assets has helped accelerate the growth in the country’s domestic liquidity, thus posing inflation risks.

Driven by its primary mandate of ensuring stable inflation, the Bangko Sentral ng Pilipinas’ response has been to mop up that excess liquidity through instruments such as the Special Deposit Accounts, which offer above-market interest rates.

This process of sterilization is meant to prevent interest rates from dropping further, but comes at the cost of strengthening the value of the peso vis-à-vis the US dollar.

The standard rationale for sterilization is that the BSP doesn’t want the excess liquidity to trigger a faster pickup in domestic prices of goods andservices. Because under its inflation-targeting framework for monetary policy, the BSP should ensure that actual price increases stay within a predetermined forecast band.

But experts during the recent UPSE forum cited studies showing no meaningful relationship between money supply growth and inflation in the Philippines, especially since 2005.

According to the experts gathered at the forum, we can afford to grow the economy faster—thus reduce unemployment and hopefully poverty—without unnecessarily stoking inflation.

Furthermore, they said there was scope to depreciate the peso without unnecessarily triggering faster inflation. The operative concept here is exchange rate pass through, which past studies showed a weaker relationship than earlier feared.

In short, the BSP should allow the peso to depreciate, for doing so would help exporters, thus generating more jobs and addressing poverty.

Now that is food for thought.