Citi sees 50bp rate hike in Philippines by next June

14:12, October 25, 2009      

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American banking giant Citigroup sees the Philippines shifting to a monetary tightening mode by June next year with an initial 50-basis point increase in key policy interest rates to temper rising consumer price pressures.

This is in line with the bank's expectation of larger and earlier interest rate hikes in emerging markets than in the Western part of the globe. Following the recent interest rate hikes in Israel and Australia, Citi said in its Oct. 22 global macroeconomic outlook that "the market is anticipating further rate hikes and even in countries where policy rates are stable, there are signs of a change in body language."

Citi expects that the Bangko Sentral ng Pilipinas' benchmark overnight borrowing rate, currently at 4 percent, would rise by a total of 100 basis points for the full year 2010. In its interest rate calendar, the Philippines was projected to hike the key policy rates by 25 basis points each in September and December next year.

And because emerging markets will likely be hiking earlier and more than the world's three largest economies U.S., Eurozone and Japan Citi said the expectation of wider interest rate differentials could be a factor behind increased foreign exchange flows to emerging markets, creating pressure for exchange rate appreciation.

"A policymaker faced with renewed capital inflows has, essentially, three options: to allow the exchange rate to appreciate; to accumulate reserves; or to impose controls on capital flows," the report said.

Exchange rate appreciation, Citi said, would be uncomfortable for a number of countries but not for the Philippines.

"For India, Indonesia and the Philippines which are less export dependent, facilitating foreign exchange appreciation should be more tolerable, especially as inflation pressure builds and sterilization costs are high," it said.

Inflation rate in the Philippines was projected to average at 3percent this year, before rising to 3.9 percent next year. This is alongside a projected rebound in the country's gross domestic product growth from 1.4 percent this year to 3.3 percent next year.

"In general, policymakers will be happy to see currencies strengthen if that will help solve inflation or balance sheet problems; or if the economy is closed enough so that exports aren't being relied on heavily as an engine of recovery," Citi said.

In the Philippines, the report said heightened urgency to convert the remittance flows and utilize these for household repair and rising inflation risk would likely bode well for BSP accommodation of an end-year peso at 46 to the U.S. dollar.

By the first quarter of 2010, Citi expects the peso to weaken slightly to 47.50 before rebounding to 45.70 against the U.S. dollar by the third quarter of next year.

An impending exit from the monetary easing cycle that was sanctioned by most central banks across the globe to counter the financial crunch triggered by the collapse of Lehman Brothers is seen most evident in Korea, among other Asian markets. Citi noted that measures were taken in Korea during the summer to limit loan-to-value ratios and to extend restrictions on the debt-to-income ratio for households, and it was partly the effect of these measures that has allowed the Korean central bank recently to diminish the market's expectations of a rate hike this year.

In Asia, Citi said Indonesia, Korea and India would likely lead the shift to monetary tightening with likely interest rate hikes of 25, 50 and 25 basis points, respectively, by March next year.

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