The BSP announced today the publication of the twentieth issue of the quarterly BSP Inflation Report covering the period July-September 2006. The full text of the Inflation Report has been released in electronic format (as a PDF file) on the BSP website (http://www.bsp.gov.ph/monetary/inflation.asp). The full-color printed version will be available by mid-November 2006. The BSP Inflation Report is being published as part of the BSP’s efforts to increase the transparency of monetary policy under inflation targeting and convey to the public the overall thinking and analysis behind the Monetary Board’s decisions on monetary policy.
The following are the highlights of the BSP Inflation Report for the Third Quarter of 2006:
- Price pressures continued to ease in the third quarter as headline and core inflation sustained their decline. Favorable agricultural production pushed down food inflation while the strengthening of the peso and easing in world oil prices helped bring down non-food inflation. Demand-based price pressures, meanwhile, remained limited (as implied by the sustained easing in core inflation) due in part to weak credit activity and uneven improvements in demand conditions.
- Market interest rates generally declined while the peso continued to strengthen. Treasury bill rates eased on the back of continued strong demand for government securities and ample liquidity in the financial system. Nonetheless, the peso continued to strengthen against the US dollar on positive market sentiment owing to improving economic fundamentals, sustained dollar inflows from remittances and investments, and the general strengthening of Asian currencies.
- Global economic activity remained strong in the first half of 2006, aided by strong consumer spending and resilient growth in services. However, recent developments also suggested shifts in the pattern of global activity. Economic growth in the Euro area, Japan and emerging Asia continued to firm up while the United States has shown signs of slowing down. Risks on the global front include the volatility in international oil prices, a disorderly unwinding of global imbalances, and an unexpected tightening of financial markets, particularly in industrial countries where housing markets are seen to be overvalued.
- The monetary policy stance of major central banks remained cautious. The US Federal Open Market Committee (FOMC) ended its two-year campaign of raising interest rates in August as US economic growth moderated. However, the FOMC noted that further policy rate increases may still be needed in the future to address inflation risks. Similarly, the Bank of Japan and Bank of England decided to maintain their policy settings in September. The European Central Bank (ECB) Governing Council likewise decided to maintain its key interest rates in August, but remained of the view that a gradual monetary tightening is needed to help ensure that medium to longer-term inflation expectations remain solidly anchored. For its part, the Monetary Board of the BSP decided to keep policy settings unchanged during the third quarter.
- Current trends in output and inflation remained suggestive of a manageable inflation environment over the policy horizon. Actual inflation has continued to decelerate while demand conditions continue to show uneven growth.
- Latest BSP forecasts show a lower inflation path compared to that as of the second quarter. Average inflation in 2006 is still projected to exceed the Government-announced target of 4.0-5.0 percent, while forecasts for 2007 point to a possible within-target inflation in the absence of further adverse shocks. Inflation is projected to gradually decline further in 2008.
- Nonetheless, the inflation outlook remains susceptible to upside risks coming mainly from cost-push pressures. These pressures stem mainly from the vulnerability of international crude oil prices to supply constraints and geopolitical disruptions. Potential shifts in the public’s inflation expectations thus continue to require monitoring. The possibility of such shifts does not appear to be a pressing concern at the moment, but could become a credible risk in the future if cost pressures escalate more sharply than expected. This assessment applies equally to potential second-round pressures linked to wage-setting behavior. Developments in overall liquidity conditions also merit close monitoring in view of its potential impact on inflation.
- The BSP remains strongly committed to achieving the inflation target for 2007 and addressing the risks to future inflation. Managing the risks to inflation expectations, and from second-round effects, particularly from wage-setting, remains a key policy priority for the BSP. The BSP stands ready to act upon escalating risks to the outlook for inflation and to inflation expectations.
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