The BSP announced today the publication of the 16th issue of the quarterly BSP Inflation Report covering the period October-December 2005. The full text of the Inflation Report was released today in electronic format (as a PDF file) and may be downloaded from the BSP website. A print version will be made available by mid-February 2006. The BSP Inflation Report is being published as part of the BSP’s transparency mechanism under inflation targeting and to convey to the public the overall thinking and analysis behind the BSP’s decisions on monetary policy.
The following are the highlights of the BSP Inflation Report for the Fourth Quarter of 2005:
- Consistent with the BSP’s expectations, inflation slowed further in the fourth quarter due to easing supply-side pressures and generally muted demand-side pressures. The decline in the price of imported oil, the strengthening of the peso against the US dollar, and the onset of the harvest season have provided a stabilizing influence on prices during the quarter. On the demand side, consumption spending continued to slow down based on latest available data for the third quarter. Other indicators such as core inflation, bank lending, and energy, vehicle and appliance sales likewise suggest limited demand-side pressures on prices.
- Nevertheless, the full-year average inflation for 2005 was still higher than the Government-announced target of 5.0-6.0 percent. Price pressures during the year were tied largely to the sharp increase in oil prices and the occurrence of a mild El Niño in the first quarter.
- Domestic liquidity growth decelerated but continued to be strong, driving market interest rates lower. The continued growth in liquidity was driven by strong inflows of foreign exchange from overseas Filipino workers’ remittances as well as from portfolio and direct investments. Ample liquidity and positive market sentiment due to the improving fiscal outlook led to the decline in domestic interest rates and a nominal appreciation of the peso against the US dollar despite narrowing interest rate differentials.
- The global economy’s growth momentum continued, driven by the strong output performance of the services sector and the moderate recovery of manufacturing in most major economies. Generally favorable labor market conditions along with gradual improvements in business and consumer confidence have aided recovery in demand. On the price front, the recent decline in oil prices from their peak level in September has contributed to easing global inflation pressures.
- The monetary policy stance of major central banks during the fourth quarter was largely cautious. The Bank of England and the Bank of Japan kept their monetary policy guidelines unchanged during their December 2005 policy meetings. Meanwhile, the US Federal Open Market Committee (FOMC) raised its target for the federal funds rate by 25 basis points to 4.25 percent on 13 December 2005, noting that further measured policy firming is likely to be needed to keep the risks to the attainment of sustainable economic growth and price stability roughly balanced. The European Central Bank raised its policy rates by 25 basis points to 2.25 percent in the same month, to help keep medium and long-term inflation expectations in the Euro area solidly anchored at levels consistent with price stability.
- For its part, the Monetary Board raised the BSP’s policy rates by 25 basis points in October to 7.5 percent to address the potential risks to inflation. The move was intended to preempt the risks to inflation and inflation expectations, namely, the possible second-round effects from supply-side pressures, the higher-than-target inflation outcome for 2005 and 2006, and the continued presence of excess liquidity in the financial system. In its succeeding policy meetings in November and December, the Monetary Board decided to keep monetary policy settings unchanged, due to evidence of easing inflation pressures and its view that previous monetary tightening measures should be allowed to run their course.
- Looking ahead, favorable developments in demand and supply conditions should provide a stabilizing influence on consumer prices. Demand-based pressures on prices are likely to remain limited in the near term. On the supply-side, price pressures are likely to be held back by recent easing in energy prices, easing food prices due to restored normal weather conditions, and lower domestic prices of imported goods due to the strengthening of the peso.
- Nevertheless, inflation is still expected to remain above target in 2006. Global energy prices may continue to be the dominant source of uncertainty in the outlook for inflation given limited global surplus production capacity. The one-off price adjustments associated with the planned increase in the VAT rate as embodied in the RVAT Law are expected to translate into a short-lived impact on prices.
- In the months ahead, the BSP will remain steadfast in fighting inflation. Monetary policy in the months ahead will continue to be aimed at responding to the second-round effects of cost-push shocks; build-up in demand pressure due to excessive expansion in the money supply; and the inflationary consequences of exchange rate volatility arising from narrowing interest rate differentials. The future policy actions of the BSP will remain focused on helping to steer inflation towards the inflation target.
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