The BSP clarifies that the Government has not changed its inflation target for 2004 at 4-5 percent, even for 2005-2006. The 4-5 percent target represents the level of inflation that the Government wants to achieve to promote consumption spending and business investments in line with the economy’s growth objectives. While this is the desired level of inflation, the BSP recognizes that the nature of the ongoing inflation process is driven largely by supply-side pressures particularly, the sharp uptrend in oil prices, increase in transport and power costs, as well as the constraints on specific food products such as fish and meat.
Given the average inflation for the first nine months of the year at 4.8 percent (1994=100), the outlook on oil prices for the rest of the year and other assumptions on the fiscal sector and economic growth, among others, average inflation for 2004 is forecasted at 5.4 percent. It should be noted that this number is an inflation forecast which is quite different from the inflation target. Recent news articles citing a revision of the inflation target appear to be referring to the inflation forecast. The Government does not revise its inflation target to meet the emerging inflation forecast.
While the latest forecasts show that the average annual inflation is likely to exceed the 4-5 percent target for 2004, the Monetary Board—during the last policy meeting held on 23 September 2004—decided to maintain the BSP’s policy rates at 6.75 percent for the overnight reverse repurchase (RRP) and 9.0 percent for the overnight repurchase (RP) rate since July 2003. This decision was based on the recognition that supply-side factors continue to be the principal source of risks to the inflation outlook. Under these circumstances, the effectiveness of monetary policy through an adjustment in the BSP’s policy rates would only be limited. Supply-side pressures on inflation can best be addressed by non-monetary government measures. To this end, the BSP continues to coordinate closely with various government agencies such as the Department of Agriculture (DA) and Department of Trade and Industry (DTI) to ensure that appropriate measures are undertaken by the Government to address supply bottlenecks and help cushion the impact on consumer prices. At the same time, monetary authorities noted that growth in both liquidity and credit demand remains modest while the unemployment rate continues to be fairly high, indicating the lack of strong demand-driven inflationary pressures that may warrant a change in the monetary policy settings.
It is also important to recognize that the recent month-on-month increases in both the headline and core inflation rates indicate fading, rather than increasing, trend. The specific items that caused core inflation to rise were not previously volatile, and the factors of increase were essentially supply-driven. These are considered transitory, rather than permanent.
The monetary authorities, however, will continue to monitor closely and assess economic and financial developments and stand ready to adjust monetary policy settings under the following circumstances to guard against persistence of inflationary pressures:
- When there is preponderance of strong demand-driven inflationary pressures or second-round order inflationary effects from the ongoing supply shocks; and
- When there is evidence of potential adverse impact on inflation and inflation expectations of possible exchange rate pressures in case of narrowing interest rate differentials that could lead to capital outflows. Recent data, however, show that the peso relative to the US dollar has been relatively stable. Since the beginning of the year, the volatility of the peso, as measured by the standard deviation was estimated at P0.28 as of 7 October 2004, significantly lower than P0.99 cumulative standard deviation in 2003.
The Government inflation targets for 2004-2006 thus remains at 4-5 percent. Going forward, any revision of the target shall be taken up and decided as a consensus by BSP and the members of the Development Budget Coordination Committee (DBCC), an inter-agency body comprising of the National Economic Development Authority (NEDA), Department of Finance (DOF), Department of Budget and Management (DBM) and the Office of the President. This process of setting the inflation target along with the other macroeconomic targets indicates that price stability is a goal shared by the whole Government sector.