Strong peso seen to cause ‘Dutch disease’

Published by rudy Date posted on January 4, 2008

THE Philippines runs the risk of losing jobs to low-wage countries because of a strong peso, according to an economist from the University of Asia and the Pacific (UA&P).

In a briefing, Victor A. Abola of UA&P’s School of Economics, said the continued rise of the peso against the dollar may hurt the economy in the long run, citing a condition called the “Dutch disease.”

This disease originated in the Netherlands during the 1960s, when the discovery of vast natural gas reserves caused massive foreign exchange inflows, in turn driving up the value of that country’s currency. This currency appreciation led Dutch non-oil exports to lose their competitiveness in foreign markets, thus wiping out jobs in the manufacturing sector.

Abola cited troubling signs of such a disease inflicting the Philippines such as the government’s failure to hit its one-million new jobs target last year, as only 853,000 employment opportunities were created, with about 500,000 generated in the last two quarters of 2007.

The economist said the lower-than-projected job opportunities as well as weaker corporate earnings may prevent the government from meeting its tax collection target. Company profits are likely to fall when inflicted by the Dutch disease as exporters register the healthiest margins, he said.

In addition, the appreciating peso would also curtail the spending of overseas Filipinos and their families, which would dampen consumer spending, which has been the main driver of Philippine economic growth.

Abola noted that consumption spending fell sharply during the third quarter last year and this could spell trouble for the domestic housing sector since overseas Filipinos comprise a large percentage of real estate companies’ clientele.

He said that one company already reported that up to 35 percent of its clients failed to meet payments on time, adding the peso’s appreciation would cause defaults to balloon. This in turn would push the companies’ and banks’ non-performing loans back to Asian crisis levels just when these firms are starting to clean their books.

Abola said the government and the Bangko Sentral ng Pilipinas (BSP) should undertake measures to keep the peso at the 40-to-a-dollar level.

In the same briefing, Roberto Juanchito T. Dispo, First Metro Investment Corp. (FMIC) executive vice-president, said measures the BSP introduced earlier to mop up excess liquidity caused by strong foreign exchange inflows managed to soften inflation by only 0.2 percent.

The FMIC executive is referring to the BSP’s relaxation of its special deposit account (SDA), allowing banks’ trust units and government owned and controlled corporations (GOCCs) to tap this higher interest-earning facility.

In addition to the BSP further reducing interest rates, the government should also prepay its dollar-denominated debts to release its store of foreign currency in its coffers to keep the peso at the 40-to-a-dollar level, Dispo said.

He said the government should also borrow all of its funding requirements from the domestic market. The government already raised its domestic borrowing component to 70 percent this year.

At the Philippine Dealing System, the peso appreciated further due to strong remittance flows, traders said. The local currency closed to a new high of 41.080 against the greenback from Wednesday’s closing price of 41.230.

The BSP expects robust remittance and investment flows this year, justifying its continued resort to measures aimed at siphoning off inflation-causing excess liquidity in the country’s financial system.

BSP Governor Amando M. Tetangco Jr., said the country’s external payments position will remain as the source of strength of the economy.

“Dollar inflows particularly from remittances and foreign investments are likely to remain robust. This should enable us to further build up our cushion of international reserves and continue to provide support to the peso,” Tetangco said in a speech before the members of the Rotary Club of Manila on Thursday.

In May last year, the BSP implemented liquidity management measures to siphon off excess liquidity in the system, which would slow down domestic liquidity growth and keep inflation tame. So far, special deposit accounts (SDA) placements by financial institutions with the BSP increased to P489.07 billion last October, up from P78.02 billion in the same month in 2006.

Inflation averaged 2.7 percent the first 11 months last year, way below the official target of 4 percent to 5 percent.–Likha C. Cuevas-Miel, Manila Times with Maricel E. Burgonio

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