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Fierce peso defense shows 1997 crisis still haunting Philippines

An intense battle to stem currency declines in the face of dollar strength is reminding some emerging markets of the trauma inflicted by the 1997 Asian financial crisis. Just ask authorities in the Philippines. 

Fearing a weaker peso could fuel inflation and spark social unrest, Bangko Sentral ng Pilipinas has unleashed aggressive intervention in recent weeks to prevent it from sliding past 59 against the greenback. As Southeast Asia’s worst performer plunged 11% this year, the government has declared the 60 level as a no-go area. However, forecasts compiled by Bloomberg show some bearish strategists predicting a slump of almost 8% to 62 by June.

The central bank has spent $6.4 billion of its foreign-exchange reserves in the first 10 months of this year to support the peso, according to Exante Data Inc. The amount is equivalent to 5.9% of its end-2021 stockpile. Authorities have also more than doubled the benchmark interest rate this year, and said they will raise it again by 75 basis points at a meeting Thursday.

“The lessons of the Asian financial crisis are still very much in mind in the Philippines,” said Carlo Asuncion, chief economist at Union Bank of the Philippines in Manila. “Officials want to prevent any perception they are lax in managing economic risks, including the risk of a collapsing currency.”

In 1997, after the Thai baht’s devaluation sparked a deep crisis across much of the region, the peso slumped 34% as money managers pulled billions of dollars from Asia. Philippine economic growth cratered in the aftermath, while inflation soared to more than 10%.

We look at the main concerns behind the latest efforts to support the peso:

INFLATION
The biggest worry is cost of living in a country that’s still struggling to reduce extreme poverty. As the nation imports almost all of the oil it needs, a weaker currency hurts local consumers. 

While growth is still holding up for now, inflationary pressure is already building, with the gauge set to exceed the central bank’s target this year for the first time since 2018. 

“Imported inflation remains an ongoing concern for the Philippines given pronounced currency weakness,” said Sonia Zhu, associate economist at Moody’s Analytics in Singapore. The 59-per-dollar level “has perceived importance because it is assumed that a breach will add to existing bearish sentiment and snowball existing currency weakness and volatility,” she said.

Imports increased 25% in January to September from a year ago in dollar terms. Higher purchases of goods from abroad are also pressuring the nation’s current-account balance with officials expecting the gap to widen to a record, equivalent to 5% of gross domestic product this year.

CAPITAL OUTFLOWS
A weaker currency is bad news for overseas investors as it diminishes the value of their assets in dollar terms. A resulting risk is capital outflows, which could, in turn, exert further downward pressure on the peso. 

At the moment, such a danger isn’t elevated, though data show foreign funds offloaded almost $1.2 billion of equities this year, the largest in Southeast Asia.

POLITICAL PRESSURE
The peso’s slide is the biggest economic challenge faced by President Ferdinand Marcos Jr., who won election this year on a campaign promise that included measures to spur an economy recovering from the pandemic. In October, the son of the late dictator said the nation may have to defend the peso.

His father oversaw a period of peso depreciation that brought the currency’s loss to more than 200% from 1970 to 1986, the year he was ousted in a popular uprising.

“At some point, currency weakness becomes political and it appears that the 60 per dollar is a key psychological level,” Union Bank’s Asuncion said.

Central bank Governor Felipe Medalla has commented on political pressure to keep the peso stronger than 60, while Finance Secretary Benjamin Diokno last month signaled the need to safeguard that level.

WHAT’S NEXT
So far, the strategy has worked out well. The peso has rebounded 3% to 57.21 from the record-low 59 per dollar it touched in late September. 

But structural factors, including fiscal and current-account deficits along with elevated inflation will weigh on the peso, said Lavanya Venkateswaran, an economist at Mizuho Bank Ltd. in Singapore. The median forecast in the Bloomberg survey shows the peso will likely end the year at 59.

Raphael Mok, head of Asia country risk at Fitch Solutions in Singapore, doesn’t see 59 as a significant support level. 

“Weak external demand, combined with strong import growth, will see the current-account deficit remain wide, exerting further downside pressures on the peso,” Mok said. — Bloomberg

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