The Peso: Quo Vadis?

“When the U.S. sneezes the world catches a cold.”

The Philippine peso ended last week at a historic low of 58.75/USD a breath from the psychologically important level of Php 60/USD. It is a 16% devaluation from the start of the year.

The fall in the peso is due principally to the strength of the dollar rather than a weakness in the peso. Most other currencies are experiencing a similar fate: The euro, the Japanese yen, and the British pound are down over 20%. For the first time in 24 years Japan was forced to intervene to defend the yen. The dollar is not only considered the safest haven currency in a world of growing political tensions, it now also offers some of the richest yields among reserve currencies.

Exchange rates depend on a number of factors – comparative rates of growth, trade deficits, and risk sentiment – but largely on the relative level and speed of changes in interest rates and inflation. The U.S. Federal Reserve just raised its funds rate by 75 basis points for a total of 300 this year, more even than during the financial crisis of 2007/08. There could be some 150 bp still to come by year end bringing the Fed fund to 4.5%. At this level the U.S. stock market could drop by another 10-15%. The Fed is adamant about fighting inflation now running at over 8%, well above its target rate of 2%.

Locally the BSP just raised interest rates by 50 bp to keep up with the U.S. and prevent the peso weakening any further and faster; but this was largely ignored by the market. The BSP is perhaps seen to be, as with many of our economic policies, behind the curve, of being reactive rather than pro-active in anticipating head winds. Four months ago when inflation was below 4% then BSP Governor Ben Diokno predicted the peso would hover between 50-54. Inflation however under reported is now officially over 6% and the peso where it is. Our economic team continues to assure us all is well.

The Philippines faces challenges of its own including corruption, an imbalanced economy and a PHP 13 trillion sovereign debt in a period of rising interest rates and limited fiscal space. The Administration is fighting the first with silence – corruption remained unmentioned in the SONA and the U.N. speech – even as it surfaced at the heart of the President’s Office. The supposedly erring official resigned but was promptly appointed to a similar role but closer to the shadows where he can move unnoticed. The audacity of it all is simply amazing.

On our debt every 1% rise in interest rates adds 130 billion to debt service exceeding the entire budget of the Dept. of Agriculture. At the same time every one peso devaluation I estimate adds PHP 40 billion to our dollar obligations crowding out money badly needed for infrastructure, health, education, agriculture and social welfare.

There are some positives to a weak peso. With $60 billion of annual remittances OFWs and BPOs benefit by Php 60 billion for every one peso devaluation encouraging local consumption. On the other hand a 1% induced inflation erases Php 200 billion from our Php 20 trillion economy. By this measure a one peso devaluation is net positive for the economy as long as it does not trigger more than a 0.25% rise in prices.

What can our authorities do to stem the fall out from a weak peso, higher interest rates and inflation? Historically our Government has relied on fiscal and monetary policies to manage the economy but these are insufficient in scope. They may help determine the level of economic activity but not its direction nor distribution. As a result through the years we have mis-allocated our scarce national resources by encouraging imports versus exports and consumption versus investment especially in critical areas like agriculture and infrastructure where the paybacks are long and the going heavy. We are told economic growth will solve all our problems but growth itself adds pressure on the peso as imports for capital equipment and raw materials widen our trade deficit.

The BSP has an unstated mandate to stabilize the peso by intervening in the market. However it has seemingly abandoned any such pretence. It believes our currency weakness is externally induced so any peso support is a waste of our precious dollar reserves. However if allowed to continue unabated, if speculators believe the BSP will not stem the tide, they could aggressively sell down the peso. This will lead to inflationary and currency expectations which once embedded are hard to reverse. Once the markets believe that inflation and peso weakness are here to stay we could have a self-perpetuating spiral with a weak currency leading to inflation, higher interest rates and slower growth and further devaluation. There could be a run on the currency, foreign portfolio investors will rush to the exits, locals will panic and capital controls may be introduced spooking our dollar creditors. The accompanying social unrest could add to the fuel. It would be ironic if a second Marcos presidency was to repeat the foreign exchange crisis of the first with the then Binondo Central Bank and credit default.

Our economy has suffered by failing to develop a long term strategic plan that focuses on our core competence of a young population and God given geographical beauty. Instead we relied on non-sustainable activities like real estate which offered easy returns and impressive macro-economic growth at the expense of urban density. With the unholy alliance between politics and business we erected tariff walls to protect inefficient industries. We did not invest in R&D in manufacturing and agriculture making us among the weakest economic player in our region. We never learnt to compete globally.

 OFWs and BPOs have kept the country alive but we failed to climb the value chain by improving the education, skills and communications levels of the Filipino. This puts us at risk of being displaced by countries which are sharpening the quality of their workforce. Tourism is a low lying fruit but we never fully supported the sector with the needed infrastructure and environmental protection.

There are tough times ahead whatever our economic managers tell us. And worse could come if blind-sided by a Black Swan such as a world liquidity event.

If the dollar continues its climb, if inflation remains sticky, if interest rates rise unabated, if stock markets dive from recessionary fears, if political tensions tighten, if Europe goes into a winter freeze from an energy crunch, if China re-enters a COVID lockdown, if food and key commodity shortages threaten, if climate change worsens; there could be a crack in the world order and a squeeze on international credit markets similar to the 2008 financial crisis. But more important – and this is where it gets scary – unlike previously this time over extended Central Banks will not be able to offer bail-outs by printing money. 

There are fissions starting to appear in the global financial system. The first victims of a credit crunch and a strong dollar will be emerging market (EM) debt where credit spreads have already widened. Sri Lanka has officially defaulted, flood stricken Pakistan is on the borderline as are Egypt, Argentina, Turkey and some drought plagued African nations. Malaysia has been talked about. In a credit squeeze EM countries will be hard pressed to renew much less access new loans.

The Philippines is still not on the endangered list. The resilience of our OFWs and BPOs, the tenure and composition of our debt and our credit rating have kept us in good stead but this could rapidly change if there was a global collapse and all financial assets other than triple A were sold down. Unable to refinance except possibly at atrocious rates we would be forced to drawdown on our dollar reserves putting further pressure on the peso and on inflation, raise taxes and monetize our debt by printing pesos putting us at risk of hyper inflation.

Where does that leave the peso? Php 60/USD is a short term target. There could be a temporary strengthening in Q4 with the seasonal influx of OFW money but the prospects after that are uncertain. Yeah, keeping some dollars around for a rainy day may be a good idea.

The Unraveling

In a post entitled So Soon, So Soon a few weeks ago I wrote about the travails of our new President so early in the Administration and the existential struggle among the many power factions for the division of spoils and command of the President’s ear. As it turns out the unraveling happened sooner than expected.

Last weekend the Executive Secretary (ES) Atty. Vic Rodriguez, the erstwhile advisor and campaign spokesperson of BBM, resigned from his office citing family reasons specifically “to witness first hand his young family grow”. After numerous years at the right hand of the now President Almighty, Atty. Rodriquez suddenly realized the importance of family and raising kids in the right values.

Vic Rodriguez is reportedly to be replaced by retired SC Chief Justice Lucas Bersamin, one of nine Justices who voted in favor of allowing ex-President Ferdinand Marcos to be buried in the Libingan ng mga Bayani. Justice Bersamin is 73 years old which brings new meaning to the term “injecting new blood” in Government. He joins a number of his peers in the geriatrically challenged Cabinet.

While accepting Atty. Vic’s resignation, in a simultaneous about face the President appointed him as his Chief of Staff sowing confusion in an already muddy affair. The move was reportedly against the advise of Presidential Legal Counsel, Juan Ponce Enrile, who if anything has the wisdom of age. It also ran counter to BBM’s announced intention to streamline his office. JPE felt the mandate of this newly created position was already covered by the Office of the Executive Secretary, the Presidential Management Staff, the Special Assistant to the President (Anton Lagdameo) and the Chief Presidential Legal Counsel (JPE). The incoming ES Bersamin presumably also wanted to know how responsibilities and authority will be shared with the first-of-its-kind PCS since they are almost identical. In the end a compromise was reached where Atty. Vic would have an office and a title but his job description would be curtailed under clear parameters defined by JPE. How this plays out in practice is another matter.

The timing of Atty. Vic’s resignation was propitious coming as it did shortly before the President flew to address the U.N. assembly in New York. This will allow for the noise to dial down before the President returns to answer questions. To his credit BBM responded quickly to mounting opposition to Atty. Vic’s stay in power. Other leaders would have dug in suggesting BBM is listening.

There are varying interpretations to the ES’ resignation but all agree on two things: One, Atty. Vic at 48 did not resign to mentor his kids to become upstanding citizens and, two, that unlike Paul he did not in 79 days have an epiphany on the road to Damascus.

The majority opinion is that Atty. Vic overplayed his hand in defining his office, in crowding out others in the appointment even of second level Government positions and in speaking by the authority of the President. In this matter he could have taken a false clue from his boss who can at times be laid back; to take matter into his hands while forgetting it takes a village to govern. As a result he offended the many power blocs around Malacanang including supporters of the First Lady, Sen. Imee, political and financial donors and the social friends of the President.

It did not help that Atty. Vic seemingly botched some of his assignments. The Senate findings on the recent sugar mess concluded Atty. Vic “was not entirely blameless” in the fiasco. There were rumors of Php 100 million changing hands for key Government positions. There was the appointment and recall of Cristopher Pastrana as General Manager of the Philippines Ports Authority after revelations of possible conflict of interest. One major religious group allegedly complained of not having its slate of recommendees accepted. Key invitations to BBM’s Inaugural were mishandled. There were unconfirmed allegations of numerous foreign bank accounts being opened with new found money. Sen. Imee ranted on national television of the “snake(s)” in the Palace and how he/they were undermining the reputation of her brother. The long knives in the Palace were unhappy with the growing influence of the ES particularly in the appointment of heads of key regulatory agencies where the bread is buttered.

Others believe Atty. Vic’s resignation is just a zarzuela where he would step down as ES but would assume the newly created position of PCS. The ES would take care of official business while the PCS would delve in the Twilight Zone where the real business of governing is done. The office of the Presidential Chief of Staff could in some ways be more powerful than that of the ES as it allows its occupant to roam freely the corridors of power unharnessed by the scrutiny of media, the public and the Legislature. The position carries a Cabinet rank but need not pass Congress’ Committee on Appointments.

It is unclear therefore whether the resignation of Atty. Rodriguez is a phyrric victory for his opponents. There are parallels in the Duterte Administration where ES Medialdea was officially the gate keeper to the President but Bong Go was the de facto presidential chief of staff getting involved where the real power lay. This parsing of duties and responsibilities is possibly more efficient but in fact will lead to confusion and deniability as fingers are pointed in a charade of “he said, she said”. We saw this in the SRA chaos where respected civil servants were thrown under the bus to save those truly at fault. Now more than ever the President will be hardpressed to attract the best and the brightest to Government. Already some recent appointees are reportedly expressing their desire to opt out as soon as the new Government settles in. There are still unfilled vacancies in key positions like Health.

It is debatable whether we have seen the last of Atty. Vic who for everything that is said has many shared experiences with the President and knows, figuratively of course, where, if any, are the bodies buried. As in all struggles power is defined not by one’s office but by the personalities of the parties, one’s closeness to the President and the political strength of those arrayed against you. There are various power blocs in Malacanang not all of whom are in concert with each other but following the dictum that the enemy of your enemy is your friend the various factions united in their opposition to Atty. Vic. Perhaps the latter can reconstitute his alliances but this seems difficult since the forces most adamantly against him are allegedly the President’s family and powerful political contributors. The PCS could still trade on the basis of his calling card but having been called out once there is less room to maneuver.

Which leads us to the question on everybody’s lips namely who will occupy the vacuum created by the exit of Atty. Vic or whether, in fact, there is any vacuum at all.