At its meeting today, the Monetary Board decided to keep the BSP’s key policy interest rates unchanged at 6.75 percent for the overnight borrowing or reverse repurchase (RRP) rate and 9.0 percent for the overnight lending or repurchase (RP) rate.
In its assessment of the monetary policy stance, the Monetary Board noted that conditions for output and inflation over the policy horizon continue to support the case for maintaining the BSP’s policy interest rates at their current levels. Indications of price pressures across commodity groups from CPI data are outweighed by the presence of relatively high unemployment and moderate credit activity in the economy. Such conditions imply that the current inflation uptrend is originating mainly from the supply side rather than the demand side.
In the absence of clear evidence of demand-side effects of supply shocks or mounting demand-side inflationary pressures, monetary authorities have opted to maintain the present settings for monetary policy. Given the dominant role of supply-side developments in the inflation outlook, inflation can be best mitigated in the near term by appropriate supply-side (or non-monetary) policy measures that would facilitate production, timely importation, distribution and delivery of key commodities. The BSP continues to articulate its support for the use of such measures to address supply bottlenecks and accordingly has made representations with relevant government agencies on the matter.
Nevertheless, the present stance does not mean that monetary action will not be used to counter inflationary pressures in the future. The BSP recognizes the risk of a sustained period of rising oil prices that could lead to economic dislocations in the form of reductions in domestic demand and self-sustaining inflation pressures reinforced by public expectations of persistently high inflation. In this connection, the Monetary Board reiterated that the inflation process continues to be driven by supply factors that are deemed short-lived. Inflation, which is expected to be higher than the 4-5 percent target for 2004 and 2005, is expected to return to the 4-5 percent range in 2006. Monetary action will become necessary when the available evidence begins to point more strongly to the following conditions: (1) emerging demand-side pressures on prices; and (2) inflation pressures that are over and above those generated by ongoing supply shocks. In addition, authorities also recognize the risk of prolonged exchange market pressure caused by narrowing nominal interest differentials, ample liquidity among banks, and negative market sentiment that could feed into inflation and inflation expectations. However, the Monetary Board noted that prevailing interest rate differentials continue to be sizeable. The differentials between Philippine 91-day Treasury bill and the US 90-day T-bill and the 90-day LIBOR (net of withholding tax), for example, are currently more than 400 basis points. These levels of differentials are roughly the same as those observed before the monetary tightening by the US Federal Reserve, since market interest rates have risen during this period.
Given these considerations, the BSP will continue to assess economic and financial developments for indications of potential threats to the inflation target and, when necessary, undertake a measured policy response.