Inflation Inflation: Second Quarter 2009 Second Quarter 2009

BSP INFLATION REPORT
First Second Quarter 2009
INFLATION REPORT
Second Quarter 2009
Press Conference Main Meeting Room, Executive Business Center, BSP 4 August 2009, 2:00 pm
Bangko Sentral ng Pilipinas

Outline 1) Price developments 2) Demand and supply conditions 3) Fiscal developments 4) Monetary, financial and external conditions 5) Monetary policy actions 6) Inflation outlook 7) Implications for monetary policy
2

1. Price Developments
Overall price pressures continued to abate in Q2 as both food and non-food inflation decelerated further
Inflation Rate (2000-based)
(in percent)
Q2 09 Headline 3.2 Q1 09 6.9 Q2 08 9.7
Food 5.6
Food
5.6
11.9
13.8
Headline 3.2 Non-food 0.7
Non-food
0.7
2.2
6.1

Fuel and rice prices (both key determinants of headline inflation) are well below 2008 peak levels
Local Retail Prices of Selected Oil Products
Price in pesos per liter
70 60 50 40 30 20 10 2007 2008
Unleaded Gasoline Diesel Oil Jun 2009 P34.61 Jun 2009 P42.71
2009

Core inflation also decelerated in Q2

By geographical location, sharp declines were recorded in NCR and areas outside NCR
INFLATION RATES BY AREA Q1 2001 - Q2 2009
14.0
12.0
Philippines
10.0
NCR
AONCR
8.0
6.0
4.0
2.0
0.0
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 2001 2002 2003 2004 2005 2006 2007 2008 2009

First Second 2. Developments in Demand and Supply Quarter 2009
Economic activity slowed markedly in Q1

National Income Accounts Growth rates, in percent
GDP and GNP Growth Rates

Annual Growth in Real Terms (%)
10
Sector
Q1 09 4.4 0.4
Q4 08 6.7 2.9
Q1 08 6.4 3.9
2008
2007
9 8 7
Q1 2009
GNP GDP
6.2 3.8
7.5 7.1
4.4 pct
6 5 4 3 2 1 0
2002 2003 2004 2005 2006 2007 2008 2009
0.4 pct
GDP
GNP

First 2. Developments in Demand and Supply Quarter 2009 Second
Private spending growth slowed down in Q1 2009 while exports and capital formation declined
National Income Accounts Growth rates, in percent
Domestic Demand
Annual Growth in Real Terms
30 25 20 15 10 5 0 -5 -10 -15 -20 -25 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Private Consumption Govt. Spending Fixed Investment
Sector
Q1 09
Q4 08
Q1 08
2008
2007
By expenditure item Personal Consumption Government Consumption Capital Formation Exports Imports 0.8 3.8 -16.5 -18.2 -19.2 5.0 2.6 -13.1 -11.5 5.0 5.1 -0.3 -1.7 -7.7 -2.6 4.7 3.2 1.7 -1.9 2.4 5.8 6.6 12.4 5.4 -4.1

On the supply side, industrial output fell because of weak economic activity in key export markets, while services and agriculture posted modest expansions
Agriculture, Industry and Services Sectors
Annual Growth in Real Terms 15.0
National Income Accounts Growth rates, in percent Sector Q1 09 2.1 -2.1 1.4 Q4 08 2.9 5.3 1.3 Q1 08 2.8 2.7 5.2 2008 2007
10.0
5.0
By industrial origin Agriculture 3.2 5.0 3.3 4.8 6.8 8.1
0.0
Industry Services
-5.0
2002
2003
2004
2005
2006
2007
2008
2009
Agriculture
Industry
Services

First Second Across the region, output growth performance Quarter 2009 was mixed, with more open economies experiencing the brunt of the global economic downturn
Q1 2009 GDP Growth of Selected Asian Countries
Source: Bloomberg
10

Various indicators suggest that economic conditions remain challenging through the first half of 2009
In Q2, consumer sentiment remained generally weak; business sentiment however reflected a less negative outlook
CES and BES Diffusion Index Q1 2005 Q2 2009
11

First Exports and imports sustained negativeSecond Quarter 2009 growth rates although the rate of contraction appears to be abating
Exports Earnings and Import Billing Year-on-year Growth January 2006-May 2009
40.0
Imports
30.0
Exports
20.0
10.0
0.0 Mar-06 Apr-06 May-06 Jun-06 Jul-06 Aug-06 Sep-06 Oct-06 Nov-06 Dec-06 Jan-07 Feb-07 Mar-07 Apr-07 May-07 Jun-07 Jul-07 Aug-07 Sep-07 Oct-07 Nov-07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08 May-08 Jun-08 Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jan-06 Feb-06 -10.0 -20.0
-30.0
-31.9 -39.1
-40.0
-50.0
12

Energy sales contracted due to weaker industrial sector consumption

Monthly Meralco Power Sales
Year-on-year change in percent 15 10
5 0
-5 -10
-15
2007
2008
2009
13

Vehicle sales declined [although the automobile industry attributes the drop in sales to inventory problems]
VEHICLE SALES
Quarterly Year-on-Year Growth Q1 2007 - Q2 2009
25.0 20.0 15.0 10.0 5.0 0.0 -5.0 -10.0 -15.0 Q1 Q2 2007 Q3 Q4 Q1 Q2 2008 Q3 Q4 Q1 2009 Q2
14

Average Land Values, Makati CBD and Ortigas Real prices, based on rebased CPI (1991=100) (in pesos per square meter)
120,000
100,000
80,000
Property market continued to show signs of slowdown, but correction is expected to be orderly
increase in land values has moderated rental rates have softened vacancy rateOffice VacancyCBD has Residential and in Makati Rates in Makati CBD(%), Q1 2006 Q1 2009 increased
14 12
office residential
60,000
Makati
40,000
Ortigas
20,000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Office and Residential Rental Values Real prices, based on rebased CPI (1995=100) (in pesos per square meter per month)
700
10
600 Office rental value 500 400 300 200 100 0 2001 2002 2003 2004 2005 2006 2007 2008 2009 Residential rental value
8 6 4 2 -
15

Nonetheless, capacity utilization of manufacturing firms has been rising since February
16

Labor market
Labor conditions improved during the quarter: unemployment and underemployment decline year-on-year Number of unemployed persons decreased by 2.9 percent year-on-year to 2.830 million from 2.914 million
Unemployment and Underemployment Rate
9.0 8.5 8.0 15.0 7.5 10.0 7.0 6.5 6.0 Q1 Q2 2007 Unemployment rate, SA (Left Scale) Q3 Q4 Q1 Q2 2008 Q3 Q4 Q1 2009 Q2 5.0 25.0
20.0
0.0
Underemployment (Right Scale)
17
3. Fiscal Developments
NG fiscal deficit for the first semester of 2009 was lower than the programmed ceiling
National Government Fiscal Performance*
January- June 2009
In billion pesos
January - June 2009 Surplus/(Deficit) Revenues Expenditures -153.4 545.7 699.1 2008 -18.0 570.0 588.0 Growth (%) 752.2 -4.3 18.9 2009 Q1-Q2 Program -155.1 581.4 736.5 % to Q1-Q2 Program 98.9 93.9 94.9
*Totals may not add up due to rounding Source: Bureau of the Treasury
18

4. Monetary, Financial and External Conditions

Governments, central banks, and investors alike continue to watch for signs that will either confirm or negate expectations that the global economic decline is indeed showing signs of bottoming out In Q2, financial markets appeared to be stabilizing
19


Stock market activity was upbeat in Q2 The PSEi averaged 2,310.3 index points, higher by 21.9 percent (q-o-q) Foreign investors turned net buyers in Q2
PSE Composite Index
4,000 3,500 3,000 2,500 2,000 1,500 1,000 500
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
20
10

First Second Quarter 2009 4. Monetary, Financial and External Conditions
Debt spreads narrowed as financial markets show signs of stabilizing

Emerging Markets Bond Index Spread January 2008 30 June 2009
900 800 700 600 500 400 300 200 100 EMBI+ Philippines EMBI+Global
Philippine 5-year Credit Default Swap (CDS) January 2008 30 June 2009
1400 Philippines 1200 1000 800 600 400 200 0 Thailand Indonesia Malaysia
J0 F- 8 0 M 8 -0 A- 8 0 M 8 -0 J- 8 08 J08 A0 S- 8 0 O 8 -0 N- 8 0 D- 8 08 J0 F- 9 0 M 9 -0 A- 9 0 M 9 -0 J- 9 09
J0 F- 8 08 M -0 A- 8 0 M 8 -0 J- 8 0 J- 8 0 A- 8 0 S- 8 0 O 8 -0 N- 8 0 D- 8 08 J0 M 9 -0 A- 9 0 M 9 -0 J- 9 09
21


However, the peso depreciated slightly in Q2 due to the weaker growth outlook, a widening fiscal deficit, possible credit downgrades, and the political noise associated with the proposed constitutional amendments Nonetheless, exchange rate movements turned less volatile
Peso per US Dollar Rate
P/US$ End-period
Average Standard Deviation
2008 2Q 2008 4Q 2009 1Q 2009 2Q
42.98 47.44 47.77 47.88
1.06 0.91 0.62 0.50

22
11

On year-to-date basis, most Asian currencies also depreciated
Changes in Selected Dollar Rates

Appr./Depr. (-) Year-to-date 30 Jun 09* Philippine peso Thai baht (onshore) Chinese yu an Malaysian ringgit South Korean won Sin gaporean dollar New T aiwan dollar Indon esian ru piah Japanese yen Indian Rupee -1.3 2.2 0.0 -1.4 -1.4 -1.1 -1.1 9.2 -5.2 1.8 31 Mar 09** -1.7 -2.1 -0.1 -4.9 -8.9 -5.9 -3.3 -4.1 -7.8 -4.0
Source: Bloomberg, Reuters and PDEX

*As of 4:00 p.m ., 30 June 2009 **As of 4:00 p.m., 31 March 2009
23

On a real, trade-weighted basis, the peso gained external price competitiveness against MTPs and broad and narrow competitors in Q2 2009 compared to Q1 2009
Real Effective Exchange Rate Indices, Q1 2006 Q2 2009
Narrow
Broad
MTPs
* MTP basket includes currencies of US, Japan, the Euro area, and UK. Broad basket includes currencies of Singapore, South Korea, Taiwan, Malaysia, Thailand, Indonesia and Hong Kong while Narrow basket includes currencies of 24 Malaysia, Thailand, and Indonesia.
12
4. Monetary, Financial and External Conditions BSP INFLATION REPORT

Interest rates decreased in Q2 relative to the previous quarters levels as market sentiment turned more favorable and inflation conditions improved
91-day T-bill rate and BSP RRP rate
In percent
8
12
Yield of Government Securities in the Secondary Market

In percent
7
Yield in percent
11 10
6 5 4 3 2 2007
9 8 7 6 5 4 3 2
2008 91-day T-bill rate
2009 Overnight RRP Rate
3Mo
6Mo
1Yr
2Yr
3 Yr
4Yr
5Yr
7Yr
10Yr
20Yr
25Yr
Maturity
end-December 2008
end-March 2009
end-June 2009
25
4. Monetary, Financial and External Conditions BSP INFLATION REPORT

Similarly, bank lending rates continued to decline, indicating partial pass-through of the BSPs policy rate cuts
ACTUAL BANK LENDING RATES
in percent
9.4 9.3 9.2 9.1 9.0 8.9 8.8 8.7 8.6 8.5 8.4 8.3
2-6 Feb 7-8 5-9 Jan 09 4-8 May 15-19 26-30 8-12 9-13 9-13 22-24 12-16 19-23 16-20 23-27 16-20 23-27 13-17 20-24 27-30 11-15 18-22 25-29 8-12 15-19 2-5 Dec 08 2-6 Mar 30 Mar-3 Apr 1-5 Jun 22-26
26
13

Banks' Lending Rates (%) Period Actual 15-19 Dec 2008 30 Mar-3 Apr 7-8 13-17 20-24 27-30 4-8 May 11-15 18-22 25-29 1-5 Jun 8-12 15-19 22-26
* relative to 8-12 Dec levels
Policy rate (%) Onite RRP 5.500 4.750 4.750 4.500 4.500 4.500 4.500 4.500 4.500 4.250 4.250 4.250 4.250 4.250 Total Increase/ Pass-through rate (%) Decrease* (basis points) -50 -125 -125 -150 -150 -150 -150 -150 -150 -175 -175 -175 -175 -175 34.8 25.9 30.1 33.5 38.5 32.0 34.3 40.6 40.7 45.2 47.8 44.2 49.8
27
Total Increase/ Decrease* (basis points) -4 -44 -32 -45 -50 -58 -48 -51 -61 -71 -79 -84 -77 -87
9.232 8.837 8.948 8.821 8.769 8.695 8.792 8.758 8.663 8.559 8.481 8.436 8.499 8.401

Liquidity and bank lending growth continued to hold up

30.0 28.0 26.0 24.0 22.0 20.0 18.0 16.0 14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 -2.0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May
KB Lending = 17.3%
M3 = 15.0 %
28
14
BSP Senior Bank Loan Officers Survey
BSP INFLATION REPORT 4. Monetary, Financial and External Conditions

The banking system remained stable

Banking System Asset Growth (%) 2002 February 2009
7 6 5 4 3 2 1 0
2002
Level (in trillion pesos) % Growth
Banking System Capital Adequacy Ratio(%) December 2003 December 2008

9.4 pct
14 12 10 8 6 4 2 0
20 18 16 14 12
'Dec 'Dec 'Dec 'Dec Mar 2003 2004 2005 2006 2007 Jun Sep 'Dec Mar 2008
P5.8
2003
2004
2005
2006
2007
2008
as of end-Apr 2009
15.5 pct
Jun Sep Dec
Banking System NPL Ratio (%) January 2006-April 2009

20 18 16 14 12 10 8 6 4 2
'Jan 2006 Apr Jul Oct 'Jan 2007 Apr Jul Oct 'Jan 2008 Apr Jul
Growth in Loans: Outstanding Loans of Commercial Banks (%)

January 2008 - May 2009
26 21 16 11 6 1
Oct Jan 2009 Apr
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May 2008 2009
Net of RRps
17.3 10.2
4.2 pct
Gross of RRps
30
15
5. Monetary Policy Actions

In Q2, the Monetary Board (MB) cut policy rates by another 50 basis points (bps), this brings the cumulative reduction to 175 bps in the BSPs key policy rates since December 2008 Motivating the MBs policy actions were:
Baseline forecasts indicated that average inflation will settle within the target ranges in 2009 and 2010 On balance, inflation risks were skewed to the downside given expectations of weaker global and domestic demand conditions and a low probability of a significant near-term recovery in commodity prices However, upside risks remained, and these were linked to the volatility in exchange rates, the movement in world oil prices, possible increases in utility rates, and as the impact of past stimulus measures begin to take effect 31
5. Monetary Policy Actions

In deciding to ease further the key policy rates, the MB considered that:
Accommodative monetary policy will help support demand and minimize the adverse effects from weakening economic and financial conditions An expansionary policy stance, by lifting household and business spending, could support market confidence While there were encouraging signs that the global slowdown may be bottoming out, it was too early to conclude that global economic conditions were clearly moving towards normalcy 32
16

What is the inflation outlook?
33
6. Inflation Outlook
The BSP's latest baseline forecasts indicate inflation would settle at around the middle of the 2009 inflation target range and at the lower bound of the 2010 inflation target range Inflation expectations continue to be wellcontained, supporting the manageable inflation outlook
34
17
The BSPs survey of private economists showed inflation is expected to remain within the target ranges for 2009 and 2010
MEAN INFLATION FORECASTS BY PRIVATE ECONOMISTS/ANALYSTS In percent
7.0 6.5 6.0 5.5
30.0
Probability Distribution For Analysts' Inflation Forecasts*

2009 -2011
60.0
57.7
6.5 6.1
50.0
40.0
36.9 26.6
5.0 4.5 4.0 3.5 3.0 Q4 2007 Q1 2008 Q2 2008 Q3 2008
4.9 4.8 4.6 4.5 4.1 4.2 4.0 4.9
2011
4.8
20.0
4.8
2010
10.0
3.5
2009
0.0
<1
1.0-2.0 2.1-3.0 3.1-4.0 4.1-5.0 5.1-6.0 6.1-7.0 7.1-8.0 8.1-9.0 9.1-10.0 10.1-11 11.1-12 2009 2010 2011
>12
Q4 2008
Q1 2009
Q2 2009
*Probability distributions were averages of those provided by 11 respondents. (Source: BSP Survey)
35
Similarly, the Asia Pacific Consensus (AP) forecasts showed easing inflation expectations
AP Consensus Survey of Inflation Forecasts
Monthly, In percent
10.0 9.0 8.0 7.0 6.0 5.0 4.0 3.0 2.0
2008
2010 4.4
3.6 2009
Jan-07 Aug-07 Sep-07 Dec-07 Jan-08 Aug-08 Sep-08 Dec-08 Feb-07 Mar-07 Jun-07 Nov-07 Feb-08 Mar-08 Jun-08 Nov-08 Jan-09 Jul-07 Oct-07 Jul-08 Oct-08 Feb-09 Mar-09 May-07 May-08 May-09 Jun-09 Apr-07 Apr-08 Apr-09
36
18
Business Expectations Survey (BES) for Q1 2009 also indicated that inflation expectations continued to be manageable
Indices of Expectations from Q1 2009 and Q2 2009 BES: Inflation Rate* In index points Q1 2009 Q2 2009 BES Q1 2009 BES 14.0 Q2 2009 14.1 12.2 Q3 2009 15.0
* The index is calculated as the percentage of firms that answered in the affirmative less the
percentage of firms that answered in the negative. A positive index indicates that most respondents expect inflation to increase.
37
Results of the latest CES for Q2 2009 likewise showed broadly unchanged inflation expectation for the next 12 months: from 8.6 percent in the previous survey to 8.7 percent In terms of the diffusion index, a slightly bigger majority of households nationwide expects increases in the prices of goods and services over the next 12 months: from 46.2 percent in Q1 2009 to 49.3 percent in Q2 2009
38
19
Consistent with the survey results, secondary market yields on government securities declined in Q2 2009, reflecting investors expectations of reduced inflationary pressures
Yield of Government Securities in the Secondary Market
In percent
12 11 10
Yield in percent
9 8 7 6 5 4 3 2 3Mo 6Mo 1Yr 2Yr 3 Yr 4Yr 5Yr 7Yr 10Yr 20Yr 25Yr
Maturity
end-December 2008
end-March 2009
end-June 2009
39
The latest inflation fan chart shows a lower central projection and a risk profile slightly tilted to the downside Average inflation is likely to settle around the middle of the 3.5 percent +/- 1.0 percentage point target range for 2009 and at the lower bound of the 4.5 percent +/- 1.0 percentage point target range for 2010
40
20
Latest central projection indicates a possible bottoming out of inflation in Q3 2009, a gradual rise in the following quarter, and broadly stable inflation in 2010 Downside pressures on prices predominate due to base effects as well as expectations of further weakening of domestic demand conditions and a slower-than-expected global economic recovery, the latter is expected to dampen inflation expectations and imported inflation
41
Nonetheless, the BSP is mindful of upside pressures on prices over the long term; possibility that commodity prices may be reaching the trough as:
Contraction in industrial production may have bottomed out Weakening of the US dollar Impact of stimulus measures done and in pipeline Supply contraction due to tight financing and low prices
Consensus view: With recovery expected to be gradual and weak due to lingering financial market weaknesses, rapid and appreciable rebound in commodity prices seems remote for the near term
42
21

How does our inflation forecast affect our monetary policy stance?
43

7. Implications for Monetary Policy

The continued favorable inflation outlook provides room for policy flexibility With nominal policy interest rates far from the zero bound, the BSP has flexibility in its policy actions
44
22


With the inflation and demand outlook subdued, there could be some scope for monetary policy to balance any trade-off between short-run inflation variability and short-run output variability
[On 9 July 2009, the MB reduced the RRP and RP rates further by 25 basis points to 4.0 and 6.0 percent, respectively.]
45
Going forward, monetary policy will continue to provide support to economic activity to the extent that the inflation outlook would allow The decision to provide additional monetary stimulus will be carefully considered, taking into account the monetary easing measures that have already been implemented since November 2008
46
23
With considerable monetary stimulus already in place, and the implementation of fiscal action already in the pipeline, the BSP believes that prevailing monetary settings are appropriately calibrated to the outlook for inflation and domestic demand The BSP will continue to pay close attention to signs of global demand recovery as well as to a possible build-up in commodity price pressures over the medium term, with a view to undertaking timely action towards a noninflationary recovery in economic activity
47

INFLATION REPORT
Second Quarter 2009
Press Conference Main Meeting Room, Executive Business Center, BSP 4 August 2009, 2:00 pm
Bangko Sentral ng Pilipinas
24

Inflation Inflation: Second Quarter 2009 Second Quarter 2009

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BSP INFLATION REPORT

First Second Quarter 2009

Bangko Sentral ng Pilipinas

BSP INFLATION REPORT

BSP INFLATION REPORT

Headline 3.2 Non-food 0.7

BSP INFLATION REPORT

BSP INFLATION REPORT

Core inflation also decelerated in Q2

BSP INFLATION REPORT

BSP INFLATION REPORT

Economic activity slowed markedly in Q1

GDP and GNP Growth Rates

BSP INFLATION REPORT

BSP INFLATION REPORT

By industrial origin Agriculture 3.2 5.0 3.3 4.8 6.8 8.1

BSP INFLATION REPORT

Q1 2009 GDP Growth of Selected Asian Countries

BSP INFLATION REPORT

BSP INFLATION REPORT

BSP INFLATION REPORT

Energy sales contracted due to weaker industrial sector consumption

BSP INFLATION REPORT

BSP INFLATION REPORT

BSP INFLATION REPORT

BSP INFLATION REPORT

Underemployment (Right Scale)

BSP INFLATION REPORT

First Second Quarter 2009

BSP INFLATION REPORT

4. Monetary, Financial and External Conditions

BSP INFLATION REPORT

4. Monetary, Financial and External Conditions

BSP INFLATION REPORT

Debt spreads narrowed as financial markets show signs of stabilizing

BSP INFLATION REPORT

4. Monetary, Financial and External Conditions

Average Standard Deviation

2008 2Q 2008 4Q 2009 1Q 2009 2Q

42.98 47.44 47.77 47.88

1.06 0.91 0.62 0.50

BSP INFLATION REPORT

On year-to-date basis, most Asian currencies also depreciated

Changes in Selected Dollar Rates

Source: Bloomberg, Reuters and PDEX

BSP INFLATION REPORT

4. Monetary, Financial and External Conditions BSP INFLATION REPORT

Yield of Government Securities in the Secondary Market

2008 91-day T-bill rate

2009 Overnight RRP Rate

4. Monetary, Financial and External Conditions BSP INFLATION REPORT

BSP INFLATION REPORT

BSP INFLATION REPORT

Liquidity and bank lending growth continued to hold up

BSP INFLATION REPORT

BSP Senior Bank Loan Officers Survey

First Second Quarter 2009

BSP INFLATION REPORT 4. Monetary, Financial and External Conditions

The banking system remained stable

Banking System Capital Adequacy Ratio(%) December 2003 December 2008

Banking System NPL Ratio (%) January 2006-April 2009

Growth in Loans: Outstanding Loans of Commercial Banks (%)