Liquidity

By one estimate, an amount equivalent to 10% of global GDP has been thrown in by governments in various forms of “stimulus” packages intended to refloat economies in the wake of the pandemic.

No one is really sure if the pandemic is on the downturn and if we have seen the full extent of the devastation it has wrought. There are suggestions a second, even deadlier wave of the pandemic might already be in motion. That certainly appears to be the case in the US where an uptick in infections is seen in 19 (largely southern) states.

In the Philippines, there is now debate over whether a much-feared “second wave” of infections is in progress. Last week we saw an uptick in confirmed COVID-19 cases. 

The House of Representatives, until it went on a break, was in the process of putting together a “stimulus” package worth well over a trillion pesos. The Department of Finance has rejected the package as “unfundable.”

Should a second wave of infections materialize, the positive effects of much of the stimulus programs in progress will be negated. But if they were not done at the time they were, the economic devastation might have become even more severe. This includes massive destruction of jobs and a domino effect of bankruptcies. 

The success of stimulus packages is as much a function of their design as it is of timing.  A stimulus package that is designed to save corporations and higher income jobs, such as the one implemented by the US, could lead to the same “liquidity trap” we saw in previous instances where money was pumped into the economy to stave off a recession. Keynes no less, during the Great Depression, noted the phenomenon.

In a recent article, economists Joseph E. Stiglitz and Hamid Rashid warned that massive injections of liquidity into the market while uncertainty over the virus prevails could be largely ineffectual. The money that goes to corporations could end up in capital buffers and those that go to individuals end up in savings accounts as hedges against worsening of economic conditions.

Data from the US indicate that the savings rate increased markedly during the crisis, adding to the drop in consumption demand needed to get the economy going. This is understandable. With the near term uncertain, everyone will tend to hold on to cash. Unfortunately, this helps to deepen the recession.

I suppose that stimulus packages, if they are aimed more at the lower income groups, will help manage consumer demand better. As one goes down the income scale, the portion of the household budget going to food and basic necessities rises. Rather than stowed away, the stimulus money is spent immediately.

The guideline for designing stimulus programs, therefore, is to focus on the poor. It is not only more humane, it also makes better economic sense.

DOSRI

The Citizen’s Charter passed by our Monetary Board recently faces its first major test. 

Last June 2, a town mall developer filed a complaint before the Monetary Board against one of our oldest banking institutions. The complaint alleges that the bank violated its fiduciary responsibilities by engaging in self-dealing to the detriment of the institution’s financial viability. 

Under the terms of the Citizen’s Charter, the Monetary Board has five days to respond to such a complaint. 

Our banking laws contain strict provisions against self-dealing. Self-dealing happens when the bank lends money to borrowers where its senior officers and directors might have an interest in.  DOSRI (for directors, officers, stockholders and related interests) provisions are both plain and strict.

While it is not illegal to give out DOSRI loans, there are strict reportorial requirements. Among these are: a) the loans must have the approval of the bank’s board minus the director with related interest; b) the loan must be fully reported to regulators as DOSRI; and, c) waiver of secrecy of the bank deposits of the borrower.

In this particular case, the complainant alleges that the bank, through its investment subsidiary, acquired majority equity in its retail business on the assurance of credit from the large bank.  The investment corporation had 20% equity in the large bank. Shortly after, the investment company merged with the large bank. 

After the financing deal was secured, directors and officers of the large bank involved themselves in the management and operations of the complainant’s firm. One director arrogated the power to approve disbursement vouchers while another assigned himself co-signatory of the time deposits. 

The matter does not only involve business ethics. The complaint centers on the bank’s non-reporting of the DOSRI transaction to the regulatory authorities. There is violation of the rules here. 

A roughly similar case many years ago led to criminal indictments against bank directors and officers. This one could mature in the same manner as the investigations progress.

Our banking regulations put primacy on prudence. That is the reason why, when the pandemic hits us, our banking system was comparatively stronger than those of other countries.

The manner this complaint is handled by the Monetary Board will be instructive for ordinary banking clients. We all expect our banks to be run with prudence and compliance with the rules. Any slippage in this regard will be harmful to the credibility of all our banks. 

With all the uncertainty wrought by the economic effects of the pandemic, we may expect any number of business failures to happen. As non-performing loans sharply rise, the stability of our banks will be put under great stress. 

Those that have not been prudent in their lending operations could fail.