2019 crystal-ball gazing


A new year is here and with it comes a new hope for unfulfilled dreams of the past year. Without exception, all of us experienced the vagaries of life in 2018. From my perch atop the eagle’s nest, on the economic front, clearly 2018 unexpectedly proved to be a major bust.

It is not a coincidence that in 2018 when the crude oil price jumped to a high of $76 from a low of $42 was when the roof fell in on the government’s inflation projections.

With the Duterte administration’s determined push for the “Build, Build, Build” project and the expected continuing benign interest rate environment coupled with lofty optimism of the beneficial effects of the Tax Reform for Acceleration and Inclusion (TRAIN), most analysts understandably expected a rosy 2018. Inflation though derailed all that optimism as the realities of the inflation surge prompted a corresponding spike in the interest rates, casting aside earlier forecasts.

Inflation rate average for 2018 is now reported at about 5.2 percent after a significant decrease of the month-to-month inflation rate from a high range of about 6 to 6.7 percent during the months of July to October and easing to 6 percent in November. The slowdown was prompted by a drop in world oil price and a surge in the supply of rice. Despite the significant drop, this is still significantly higher compared to last year’s average of 2.9 percent.

This is also way beyond the government’s 2018 target of about 2 to 4 percent.

What to expect in 2019? Not being an economist much less an econometrician, which is the rarified field of the application of statistical methods in the study of economic data, I cannot venture to make an estimate of what the 2019 numbers will be like. Based on my rudimentary understanding, the main factor driving inflation, which we need to clearly watch out for, is the movement of global petroleum prices. It is not a coincidence that in 2018 when the crude oil price jumped to a high of $76 from a low of $42 was when the roof fell in on the government’s inflation projections.

Correspondingly, as the oil price eased to $45 at year’s end, our inflation rate tapered down to its current levels. Other than the oil factor, the rice supply issue also added to the inflation fuel and if we are to parrot the anti-TRAIN pundits, the locomotive stoked the fires.

What drives oil then? Expectations of global economic activity, or lack of it, and political turmoil in turn drive the supply and demand movement of oil. To illustrate, the commonly held explanation of the recent drop in oil prices can be attributed to the burgeoning supply of oil in the United States, now the world’s biggest oil producer overtaking Russia and Saudi Arabia, driven by the expanding production of shale oil. And this is happening amid the threat of a Trump-induced potential global trade meltdown causing the contraction of economic activity in most parts of the world’s largest economies, such as China and the US. If this scenario will continue to be the predominant environment in 2019, my two-centavos’ worth of opinion is that the likelihood of another jump in oil prices is not forthcoming. The big “if,” however, is how the cartel of non-US oil producers like Organization of Petroleum Exporting Countries and Russia will react. If they cut back on production, or more specifically, how much cutback they will do, as what has been their conventional reaction, oil prices are still vulnerable to an upward adjustment. What is holding them back of course from doing a full-blown cutback would be the corresponding loss in their revenues. OK, if oil prices will not ratchet up, where goes 2019 inflation then for us?

The market players… apparently are betting that the short-term scenario… will be sideways, still basically at the current levels.

The conventional thinking is that inflation will probably stay at about the 5 percent level at least until the first half of the year, which is what seems to be the consensus inflation estimate of the market. This however is still a far cry from the government’s sweet spot of anywhere from 2 to 4 percent.

How about the interest rate scenario in 2019? The interest rate benchmark that the market looks at is the overnight reverse repurchase rate (RRP) which is the interest rate that the Bangko Sentral ng Pilipinas (BSP) pays out to the participating banks that have excess liquidity to lend to the BSP on an overnight basis. It is a tool used to manage the market’s liquidity and to set the tone for the direction of the interest rate. The current rate is 4.75 percent.

For perspective, note that this rate was only at 3 percent in May 2018, which had steadily been at that rate since September 2014. Within a period of only six months, however, the BSP adjusted this rate five times indicative of the BSP’s concern over inflation.

And what is the impact of the reverse repurchase rate on the market? If the RRP is the cost of BSP’s borrowing, quite naturally, in turn, the interest rate that the banking system would be paying as they lend and borrow among each other on a short-term basis through the interbank would have to be at a premium over the RRP rate. The prevailing interbank rate is at about 5.19 percent representing a premium of almost 50 basis points. Given this cost of borrowing among banks, the eventual commercial lending rate to borrowers would have to be much higher as the banks’ deposit rates will also have to be adjusted upwards accordingly.

As an example, Bank of the Philippine Islands, which is one of the premier banks in our country, priced its recent P25 billion bond issuance at 6.797 percent which has a maturity of 1.25 years. On the other hand, RCBC, although also a leading name in the banking industry, is indicatively pricing its own bond issuance with a 1.5 years maturity at 7.123 percent. For corporate borrowers, a recent example is the P7 billion short term commercial paper issuance of Phoenix Petroleum Philippines, an oil company controlled by Davao businessman Dennis Uy. Its 180-day paper is priced at 7.0937 percent while its 350-day paper is at 7.4718 percent. For longer tenors, Vista Land, a property group controlled by Manny Villar, is reportedly set to offer long-term bonds at an indicative rate of about 8 percent for five years and 8.25 percent for seven years.

From these moves, the market players, notably the banks which would be the best gauge of interest rate trends, apparently are betting that the short-term scenario, at least for the next year-and-a-half, will be sideways, still basically at the current levels with no discernible downward momentum notwithstanding the recent inflation drop.
Until next week….A Happy New Year to all!

Email me at bing_matoto@yahoo.com.

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