Wanted: stronger forward guidance
The BSP’s 25-basis-point rate hike last Thursday was a step in the right direction, but the market’s reaction suggests that the message may not have been strong enough. The peso weakened further, while the real policy rate remains negative at about -1.2 percent against July inflation of 6.2 percent. More troubling, the BSP’s own inflation outlook points to continued pressure, with inflation projected at 6.1 percent this year and 5.4 percent next year, well above the 2-4 percent target. The issue, therefore, is not simply whether the BSP raised rates, but whether monetary policy is sufficiently restrictive—and whether its forward guidance is credible enough—to keep inflation expectations firmly anchored.
Weak economic growth should not be allowed to become a reason for prematurely easing monetary policy. With GDP growth at only 2.3 percent and gross capital formation contracting by 9.2 percent, the economy clearly needs stronger momentum. But robust bank lending and money growth suggest that the problem is not simply a shortage of credit or liquidity; confidence, governance, productivity, agriculture and other supply-side constraints are also at work. The October policy meeting will therefore be critical: if inflation remains elevated and the real policy rate negative, a nominal hold could be interpreted as an easing of the real stance. The better policy mix is clear: the BSP must remain sufficiently restrictive in real terms to restore price stability, while at the same time, fiscal, trade, agricultural and other authorities tackle the structural impediments to growth.
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