Stirred, not shaken (Part 1)

Business World
Introspective


Unwanted shocks have hit the Philippine economy since the start of the year, starting with political turmoil in the Middle East and North African (MENA) region that has disturbed world oil markets followed by a destructive earthquake in Japan resulting in a nuclear crisis, the after effects of which continue to pose a risk to the rest of Asia. Upon closer inspection, the impact of these events coupled with domestic inertia leads us to lower our growth forecast for the country from 5.3% to 4.8% this year.

While we have brought down our growth expectations, the central scenario for the economy would remain manageable in our view. We are still expecting oil prices to stabilize by 2012. Thus far, double-digit inflation seems unlikely to set in especially with good harvests helping to keep food inflation down. We also believe that spillovers to domestic economic activity due to disruptions in Japan's production as well as curtailment of Japanese demand will not last for very long especially with a massive reconstruction effort underway.

OPTIMISM DECLINES

The country's national income accounts are set to be released end of the month (May 30) and while growth is widely expected to weaken this year, analysts believe some momentum from last year would still be felt in first- quarter growth numbers. Top indicators from the leading economic indicators index released by the National Statistical Coordination Board suggesting a slowing economy moving forward were the terms-of-trade index, which had a negative relationship with GDP, and the number of new businesses created.
We are similarly starting to get more worried about the threat posed by rising commodities costs, especially of oil, given the impact on net exports, which already showed signs of a slowdown as the electronics business cycle reversed course and will likely to be further weighed down by the Japan nuclear crisis, as well as the relatively high pass-through to domestic prices because of the absence of subsidies. While we find double- digit inflation highly unlikely, the uptick in the CPI would surely be a dampener to consumer and business confidence.

Already, a survey conducted by the Bangko Sentral showed a sharp decline in consumer expectations during the period on account of sustained increases in petroleum prices, more expensive goods and services, and a general increase in household expenses. Growth of remittances in peso terms, meanwhile, continued to be dragged down by the domestic currency appreciation trend, taking further steam out of private consumption which comprises the bulk of GDP (about 80%).

With the national government still exhibiting unusual spending restraint, conspicuously failing to front-load infrastructure spending during the first quarter despite early passage of the budget, and public- private partnerships not expected to make a strong impact for the year at least, we are becoming less and less optimistic that growth of above 5% can be achieved this year. We are thus bringing down our growth forecast for 2011 from 5.3% to 4.8%, though tentatively maintaining projections for 2012 at 5.5%.

FIGHTING INFLATION

After appearing to stabilize in March, inflation re-accelerated to 4.5% in April. Core inflation, which excludes the impact of volatile food and energy items (e.g., rice, gasoline and other fuels), also quickened from 3.5% in March to 3.8% in April. With inflation likely to peak around the fourth quarter, we continue to expect further monetary adjustments before the year ends, via policy rate increases or tweaking the reserve requirements.

Inflation jitters have seemingly subsided in financial markets, with peso bond yields, in particular, seen sliding since March. The benchmark 91-day T-bill dropped to a historical low of 0.57% in the last auction (May 2). Albeit with still greater preference for shorter tenors, bonds have generally rallied owing to the perceived good fiscal picture under the new administration, robust foreign inflows due to interest differentials and consequently high market liquidity. Yields may remain low especially with the rising expectation that the budget deficit will be contained and with only moderate monetary tightening, though inflation could still be a latent risk.

We now see the peso-dollar rate ending year at around P42/$ with support provided by a still positive current account balance, a higher interest differential, and possible appreciation bias by monetary authorities to counter the effect of an escalation in commodities prices.

(To be continued)
This is a summary of the May 12 Global Source Quarterly Report written by Margarita Gonzales, and this columnist. Global Source is a New York-based network of independent analysts whose subscriber base are mostly fund managers and research units of banks.