What should be done about the rising Peso?

The peso this week rose to a two and a half year high of 42 Pesos to the US dollar. This was on the back of stellar growth figures over the past two quarters and revised estimates for the coming year. The flow into the country of so-called “hot money” from international investment houses and hedge funds has buoyed the local stock market to all time highs.

The Bangko Sentral reports that international reserves of foreign currency in the country over the past 18 months have grown rapidly at an annualized rate of 25% from $33B to over $44B. It forecasts that reserves will reach $58B next year. Meanwhile the financial system continues to be awash with cash as bank deposits with the central bank have breached the Php900B or $2B mark.

A lot has been written about the adverse effects of the rising power of the peso versus the US dollar on the families of overseas Filipino workers dependent on their remittances and on local exporters whose goods and services become more expensive relative to producers from other countries. Not much has been written about how to utlize the flow of income and wealth from overseas into our country.

Contrary to popular belief, the Philippines is no longer a net borrower of capital (the government’s record in that regard not being very helpful). The nation since 2005 has actually been a net accumulator of capital. Given that our international reserves keep rising and with it the value of our currency, it is high time we do something about it.

Rather than parking reserves overseas in fixed income securities and the like, the Philippine government should create a sovereign wealth fund to actively invest in projects based here and abroad in order to promote rapid development. Simon Johnson describes the rationale for establishing a sovereign wealth fund as follows

When a country, by running a current account surplus, accumulates more reserves than it feels it needs for immediate purposes, it can create a sovereign fund to manage those “extra” resources.

The Philippines would be an anomaly since it does not run current account surpluses (the difference between exports and imports of goods and services). It does however run balance of payments surpluses (the difference between the inflow and outflow of capital from trading and investments) due to the remittances of its overseas workers (consider them an export of services). The size of this is expected to hit $20B next year according to the BSP.

While traditionally, oil and gas exporting countries saw the need for establishing these funds, in order to deal with the “resource curse” of rapidly rising currencies reducing the competitiveness of their other exporting industries, there is nothing that would prevent the country from doing the same.

Singapore and China, both net importers of mineral resources are some of the new players in the region with some $300B and $800B in funds respectively. Australia had about $60B in its Future Fund when it was established. The Philippine monetary authorities need to do more than just engage in minor interventions in the spot market to temper the effects of foreign remittances. For the sake of the broad section of the population that relies on the strength of the dollar, some other forms of policy intervention are needed.

I leave it to you, dear reader, to assess the worthiness of this idea.

Doy Santos aka The Cusp

Doy Santos is an international development consultant who shuttles between Australia and the Philippines. He maintains a blog called The Cusp: A discussion of new thinking, new schools of thought and fresh ideas on public policy (www.thecusponline.org) and tweets as @thecusponline. He holds a Master in Development Economics from the University of the Philippines and an MS in Public Policy from Carnegie Mellon University.

  • For a primer on the “currency wars” that UP nn is talking about, The Economist had this nice piece this week http://www.economist.com/blogs/freeexchange/2010/11/qe2_and_fed

  • UP nn grad

    The item to worry about is “currency wars”.

    Currency-exchange values by start-year-2011 (via plain-good-luck or actual economic-policies) can result in India becoming a much better country than Pilipinas for call-center and similar businesses.

    Pinoy OFW’s won’t be affected. Pinoys-in-Pinas will.

  • Up nn, you actually raise a good point about Japan and Australia. The Japanese until the late 1980s resisted pressure from the IMF as China does now from allowing their currency to appreciate in practice while adopting a flexible exchange rate regime. Subsequently, their economy has struggled to return to the high growth rates experienced since the end of the war.

    As for Australia, it was only fairly recently that the then treasurer Peter Costello allowed the Reserve Bank to gain independence in monetary policy. The Aussie dollar was only allowed to float under his predecessor, the former PM Paul Keating.

    The fact is that Australia’s resource, minerals and agriculture sectors account for a large share of exports. That is why a lot of the skills needed are in industries like construction that feed into the mining sector.

  • Bert

    Thanks, UP n, but my kids are receiving Dirhams, and the Dirhams is permanently pegged at D3.67/USD, so the prospect from that $600 billion infusion is really bleak.

  • UP nn grad

    To corporate-headquarters/USA, the peso-appreciation translates to local wages in Pinas effectively rising by a little bit over 4.5% compared to 5 or 6 months ago. That is HUGE (but US corporations should have covered with currency hedging techniques).

    The good thing is the same 4.5% has happened for India — currency appreciation against USD practically equal to Pinas for the same period. Pinas does better than India, then call-centers can transfer more operations to Pilipinas. Or… jobs can transfer out of Pinas to India.

    The currency wars will affect Pilipinas job market of 2011.

  • UP nn grad

    bert: if a Pinoy-OFW works in Texas or in Vancouver, yup…. both US-dollar and Canadian dollar buys less pesos when compared to 5 or 6 months ago. But for a Pinoy-OFW working in Australia or Japan, no-problemo. In fact, an Australian-dollar buys more Philippine pesos today compared to mid-June-2010. Same with JPY : a Japanese Yen buys more Philippine pesos now compared to mid-June-2010.

  • Bert

    “They warned that the US Federal Reserve’s decision this week to pour $600 billion into the US economy would cause the local currency to appreciate even further against the US dollar.”-from Inquirer.Net, today

    This sure will be more bad news for my kids who are working abroad.

    I hope our government can make hay out of this inevitable predicament that can boost the Philippine economy to a level that will benefit not just those involved in the financial sectors but everybody.

  • LGA

    Pay our debts.

  • It is not just the stock market that is drawing investors in, the bond market saw the first international peso denominated bond float last September with the government raising $1B worth of notes in that issuance or Php44B. So even the gov’t is cashing in on the rising peso betting on its appreciation.

    How can it then turn around and say to the OFW and exporter community that it seeks its best interest at heart? Perhaps that is a bit too harsh. The external environment is certainly not helping with the weakness in the US economy.

    Just imagine at $20B worth of remittances. A rise of 1 peso in the exchange rate leads to a loss of Php20B worth of purchasing power to the recipients of such transfers…Php20B! How many houses could that build or children be put to school? The govt needs to balance its concern for saving on interest repayments with the costs to OFW families from a rising peso.

  • Well, I figure the Philippines is a pot of modest wealth into which a lot of the hard-earned monies from abroad are poured. Now if the government would merely plug the holes of the money gushing out at New York banquets, Paquiao fights, PLDT dividends going to the UK, misappropriations put into Swiss accounts, and other leakages, it seems to me the economy would positively scream upwards, it being thin but very broad.

    The only thing separating the Philippines from wealth is will.

  • UP nn grad

    Now an appreciating peso should encourage Noynoy Administration to accelerate the borrowing from the World Bank, IMF and others for projects that create more jobs for Pinoys-in-Pinas (e.g. labor-intensive highways, irrigation, tree-planting and other infrastructure projects) or to fund building new schools and new clinics/hospitals. Borrow the money now and “bless” the Chiz-Escudero administration (or whoever follows Noynoy in Malacanang) with the problem of how to pay for the loans (but at least, less pesos for the same dollar-repayments).

    Instead of doing a fire-sale on Napocor and other GOCC’s, Noynoy can raise the funds for infrastructure (and for training, high-power rifles, bullet-proof vests for the SAF and metro-Manila SWAT teams) the administration can “buy now/pay-later on installment”.

  • UP nn grad

    As the Cusp has said, the surplus is balance of payments surpluses (the difference between the inflow and outflow of capital from trading and investments) due to the remittances of its overseas workers the size expected to hit $20B next year according to the BSP. BSP has more difficulty manipulating the money because the remittances belongs to the families of the OFW workers (and does not represent tax-collections nor increases in income earned by Danding Cojuango and the investor/oligarchy classes of Pilipinas).

  • I can gauge by the reaction that most of you would prefer to err on the side of caution and support the current policy applied by the Bangko Sentral. There are serious doubts cast on the capacity of government to manage such a fund at least in the near term.

    Others do not see any problem with the Balance of Payments surplus. Some see the rising peso as a good thing. The neo-mercantilist view would argue that having positive trade or payments surpluses is a good thing. A more classic approach sees export and other earnings from abroad as simply a means to make imports possible. And so should it be viewed in my opinion.

    There is nothing virtuous in this accumulation of capital in and of itself. In the past, particularly the 70s we created a debt driven bubble by importing capital from abroad. Today at least, the bubble is being driven by remittances. But unless we find a more productive use for these inflows, we might find ourselves beset by another kind of resource curse.

  • manuelbuencamino

    Because we import oil and rice, a rising peso is good. Because at least a quarter of our population depends on remittances a rising peso is bad. Because our exports might suffer, a rising peso is bad. But then again most of our exports are assembled from imported components. So in the long term maybe a strong peso will force our exporters to make the shift from assemblers to manufacturers whose selling point will be excellent products rather than cheap labor.

    I guess what the monetary authorities have to do is to keep our currency from becoming volatile. A steady movement up or down will give everyone enough time to make necessary adjustments.

    Now what to do with that pile of money with the BSP? Tetangco suggested pre-paying foreign debts.

    As to the US elections. Well, the Americans tea-bagged themselves. And if you know the urban dictionary’s definition of a tea-bagger then you know the Americans will end up breaking their backs.

  • kabayan2010

    I wish it keeps on rising to a point where it reaches parity to the US dollar. No more need to send workers abroad. No more brain drain. No more poverty. But try explaining that to the average person on the street who depends on those US dollars from Saudi Arabia …

  • Cocoy

    Aside from a sovereign wealth fund, the Philippines ought to consider also the creation of a venture capital firm. The idea is similar to In-Q-Tel, which is the VC arm of the CIA. It could be used to invest in technology for use by Philippines or simply to help startup a Philippine silicon valley. In-Q-Tel is publicly funded but privately managed.

  • Bert

    Be careful! Look before you leap! It’s too early to tell what this new administration and its people are going to be. We’ll be watching very closely. Having been burned so many times in the past by government’s failures in fiscal and business management, it should be worth the wait until we are sure we are in good hands. Two years should be good enough.

  • UP nn grad

    watch the blood pressure, Joe Am, but knee-jerk Americans 😐 have spoken; President Obama has gotten a baseball-bat 👿 to the knees about his next steps for USA-domestic and world-issues like how quickly to withdraw from Afghanistan or Global-Warming and similar Al Gore 🙄 issues.

  • Interesting perspective. The Philippines is certainly unique in terms of the cash inflows from its workers abroad, although maybe Mexico also sees the same thing (plus the huge inflow of drug money there). The Philippines also has a lot of foreign residents like me spending their paychecks here as fast as they get wired in.

    The challenge of transferring this positive flow into strategic advantage is a good one. As for the exchange rate itself, just wait it out, patiently, a characteristic Filipinos have, for sure . . .

    We knee-jerk Americans just throw our politicians out . . .