Money, fiscal and private debt and prices

The COVID-19 lockdown in Luzon was a major economic disruption. It created logistical nightmares that dislocated the ordinary patterns of consumption and production activities in the economy.

Recession under continued price pressures. A consequence of this was the recession. The volume of commerce fell because total expenditure, or demand, fell. Further, the supply of goods was as badly disrupted.

Use of measures to discourage price manipulators under severe penalty and the timely application of fiscal and monetary tools to stabilize demand and supply made it possible to prevent prices from having a highly erratic behavior.

Early in the period, inflation was put under control. To date, the inflation rate has been kept at the same pace as in recent normal year-on-year rate of 2.7 percent ).

Yet the situation was far from normal. Economic activity was mainly down, and the effect on the second quarter-on-quarter GDP growth in 2020 was dramatic, with output falling steeply, at 16.5 percent. Year-on-year growth is now projected to decline 5.5 percent. By such contraction of demand, prices should be soft and falling.

The lockdown caused severe logistical and transport dislocations that tightened supplies of goods and slowed down trade. This contributed to an inevitable inflationary pressure despite the reduction of overall economic activity.

Fiscal, monetary coordination during COVID-19 lockdown. Fiscal and monetary policies functioned in complementary fashion – each in support of the other. BSP actions, initially, were stimulated by different events.

The Bangko Sentral’s monetary policy essentially reacted first to international developments unrelated to COVID-19 events. Like other central banks, they were acting in relation to global cyclical developments.

In early February, the US Fed reversed its announced rise in interest rates and most central banks undertook their own counter-cyclical measures. When US economic signals worsened by March, the US Fed reversed its policies and adopted strong measures to return to a near-zero interest rate policy.

In a series of moves, the BSP adopted measures which tried to narrow the positive Philippine interest rate margin over the US interest rate in order to support external foreign fund inflows into the country and to remain competitive with other developing countries. Such decisions helped to keep domestic fund liquidity within the banking system. This was in synch with the need to ease credit creation in the Philippine economy.

Of course, by this time, the COVID-19 lockdown had begun in the country and the need of the moment was to infuse massive fiscal spending to transfer purchasing power on an economy in lockdown recession. Monetary policy – aside from its counter-cyclical measures in worldwide central banking – was also in tune with the domestic needs in the time of COVID-19 recession.

These monetary actions were similar to those of other smaller central banks in the world following the worsening of global economic signals that emanated from the US economy.

The expansion of fiscal spending to levels unprecedented in history filled the demand during the first few months of the lockdown. Transfers made to the poor and disrupted workers helped to sustain some demand.

Bayanihan spending to overcome COVID-19 impact. Legislators, however, complain that much larger spending is needed for the second phase of the Bayanihan as One Act to support measures to counter the worst effects of the economic lockdown.

But Congress is restrained by the level of resources being made available by the national government. There is just not enough money to spend even though, as an institution, only the government has the capacity to provide assistance.

The main limit to the fiscal branch is the implications how far it can allow the public debt to swell. Earlier decades of fiscal prudence would now give way to massive spending on the basis of falling tax revenues. The impact on the fiscal debt still has to be calculated properly, or else it could unleash deficits that would threaten overall economic health – and prices, too – in the long run.

So far, with the first Bayanihan program, the government was able to transfer resources in the amount of P1.7 trillion, substantially equal to nine percent of the country’s GDP.

This assistance program involved the delivery of support and subsidies for a period of two months during the first lockdown in Luzon and Metro-Manila to Filipino families under a social amelioration program that amounted to P205 billion given to poor and low-income families and another P51 billion to small businesses and provide wage subsidy to their workers.

For the second phase of the Bayanihan To Heal as One Act, the P180 billion stimulus plan includes credit provision of P40 billion in credits to the small and medium scale private sector deeply affected by the economic contraction.

The government, however, is complementing this with projected borrowings to unleash the economic recovery program. Such a program will unleash in the next year a P3 trillion program, one-fourth of which would come from foreign borrowings.

The challenges and limits of monetary policy. The central bank, as the monetary branch of policy-making, will have a challenging year ahead responding to the demands of the economic recovery program.

This it has to do within the context of a challenging international environment of central banks fighting for their own country’s recoveries from the international economic downturn.

From the Philippine side, the main challenge is to make the country come out from the recession, and in an improved position after.

My email is: [email protected]. For archives of previous Crossroads essays, go to: https://www.philstar.com/authors/1336383/gerardo-p-sicat. Visit this site for more information, feedback and commentary: http://econ.upd.edu.p h/gpsicat/