Philippines' central bank wary of speculative flows

BSP’s tightening of control suggests that it may be worried about the strength of the peso, says DBS.

DBS Group Research noted:

The central bank (BSP) has acted to restrict foreign funds from investing into its special deposit account (SDA). Banks will have to submit a certification stating that the funds have come from local origins. Notably, it was reiterated that the SDA is a liquidity management tool and not meant to be an investment instrument for foreign funds.

The PHP has been one of the best performing currencies, climbing 4.3% against the greenback since the beginning of the year. Stable external accounts and a pickup in the economy are key reasons that can be attributed to the peso’s robust performance. A strengthening currency coupled with 4% (pegged to the overnight borrowing rate) interest from the SDA may stoke excessive speculative inflows.

BSP’s tightening of control suggests that it may be worried about the strength of the peso. On a real effective exchange rate basis, the peso is already nearing a 15-year high and there are fears that export competitiveness may be an issue. Moreover, export growth in 2H could face considerable headwinds amid a further slowdown in the developed economies. A reduction of costs could also be a motivation as funds placed in the SDA more than doubled since the beginning of 2010.

Lastly, this soft form of capital control could reduce destabilizing capital flows. Excessive inflows could pose liquidity problems, stoke inflationary pressures and place appreciatory pressure on the currency. However during periods of risk aversion, the reverse could happen very quickly, resulting in destabilizing outflows, tighter liquidity and downward pressure on the currency.