Philippines' External Debt Situation

Taking a break from TheEconomizer’s coverage of rising inflation in the Philippines, this post responds to a Forbes.com blog post written by Mr. Jesse Colombo, who is a contributor to Forbes magazine. In that post, entitled “Here's Why The Philippines’ Economic Miracle Is Really A Bubble In Disguise”, Mr. Colombo argued that the Philippines’ recent economic performance, in which the country’s GDP grew—at an average of 7% per year—in some quarters faster than China’s, is traceable to China’s own $586-billion economic stimulus program launched in 2009.

This program, in Mr. Colombo’s telling, “drove a global raw materials boom (and bubble) that benefited commodities exporters such as Australia and emerging market nations.” The resulting bubble also drew air—not to say strength—from the US Federal Reserve’s quantitative easing, which accompanied the fall of short-term US dollar rates to almost zero.

Mr. Colombo argues convincingly and TheEconomizer does not intend to refute him. His post was published on 21 November 2013, and events in the succeeding nine months have proven him to be close to the mark, since the formerly high-flying Philippine economy has seen its year-on-year GDP growth fall to 5.7% in the latest quarter while inflation is creeping up.

However, one of the pieces of evidence he cites in his post (and there are many) is that “[i]nvestors’ insatiable hunger for emerging market debt has caused the Philippines’ external debt to spike in recent years”. Immediately following that line is a column graph showing just such a spike starting in 2011. This chart is irreconcilable to the recent push—well-known to observers and analysts and ordinary newspaper readers alike—by the Philippine government to replace foreign debt with domestic borrowings, including the much-publicized issuance of US dollar bonds in the domestic market almost exactly a year before (in November 2012). Because of this, TheEconomizer proceeded to check publicly available data surrounding the Philippines’ external debt.

Investors’ insatiable hunger for emerging market debt has caused the Philippines’ external debt to spike in recent years:

Source: http://www.forbes.com/sites/jessecolombo/2013/11/21/heres-why-the-philippines-economic-miracle-is-really-a-bubble-in-disguise/

These show that whereas in 1998 and 1999 external borrowings were about 46% and 75%, respectively, of domestic borrowings, by 2007 the figure fell to 36%, before the global financial crisis. In the wake of the financial crisis, external borrowings shot up again, but market conditions soon stabilized that by 2012, at the height of the bubble-causing capital flows already pointed out by Mr. Colombo, foreign borrowing fell to 20% of domestic, and in 2013 fell further to 6%. Granted, there was emerging-market volatility in the summer of 2013 as foreign funds fled from India, which impaired the Philippines’ ability to borrow at a reasonable rate from abroad, but the point that external debt rose starting in 2011 is not backed up by the data. In fact, as a share of domestic borrowing, it was the same as in 2010 and lower than in 2009.

These data can be found on the BSPs website, which is further sourced from the Bureau of the Treasury. The graphs below are drawn to the same scale, for ease of comparison between domestic and foreign borrowings over the past 16 years. The Philippines’ fiscal position has undergone a truly fundamental transformation over this period, and such a description cannot be dismissed as mere hyperbole. From 60% of domestic borrowing in 2001, domestic interest payments fell to 40% in 2011 and 33.7% in 2013, the first and indisputable proof of the enormous, favorable shift in the government’s reputation and credibility in managing the public finances. No longer is government debt issuance seen as the herald of fiscal irresponsibility, but as the sought-after instruments of liquidity, the necessary grease for the national financial machinery. That the fall in borrowing cost was gradual but consistent and that it happened during the years when the government was thought corrupt simply proves that perception most often happens to be at variance with reality. The borrowings themselves show no sign of abating, signifying that a change in presidential administrations portended no fear of deficit spending; rather, the fall in borrowing costs may have even encouraged such spending.

On the other hand, the picture of external interest payments does not reflect this shift in government credibility because of factors unknown to TheEconomizer. But the point here is merely to emphasize that, given the reduction in the government’s cost of borrowing domestically, it is only natural to reach the conclusion that replacing foreign borrowing with domestic borrowing is sound financial practice. Looking at external borrowings at their US dollar value (i.e., without the distortions introduced by the translation to Philippine pesos), one can see that in absolute terms external borrowings in 2013 were lower than 2012, which is lower than 2011, which is lower than 2010. So far, TheEconomizer has found no evidence that external borrowings have been increasing since 2011.

Looking at the source data from the Bureau of the Treasury, one finds a report on outstanding amounts, which does show an increase in debts from foreign sources. In contrast to borrowings which represent flows, the outstanding debt report shows the stock of debt at the end of the reporting period, which in this case is the same as the calendar year. (It is important to note as well that the BTr discloses the exchange rate it used for each year to translate the dollar borrowings into their peso value, which is vital to researchers looking at their data.)

In the years 2010 to 2013, the Philippines’ outstanding foreign bonds were 27, 28, 29, and 28 billion US dollars, respectively, while other direct obligations stood at 19, 20, 19, and 16 billion US dollars. Needless to say, this is the result of the fall in external borrowings in those years. No matter how one looks at the data, it cannot be said that there was an increase in external financing or in the stock of outstanding debt. What can be seen, by contrast, is the increasing confidence of the government to borrow from the capital markets. The year 2003 was significant; before that, bonds took up a proportionally smaller share of foreign debt, and that year it was 50-50; but after that, the greater majority of Philippine foreign debt consisted of foreign bonds, which are subject to all sorts of market forces unlike, say, official assistance from governments and international organizations. In a year such as 2013, when the government issued absolutely no global bonds or “RP bonds” (whatever the BTr means by that), the outstanding debt unsurprisingly fell.

What can also be seen (particularly in this BTr report) is that responsible and prudent management of foreign debt did not start in the last four years or so; in 2008, there was a slight but perceptible drop in the stock of foreign bonds. Even when comparing 2009 vs 2008, when outstanding foreign bonds increased by US$3 billion, and gross external borrowings increased more than 3-and-a-half times from US$1.5 to US$5.4 billion, the amount raised from global bonds was less than in 2005, at US$3,334 million vs US$3,372 million. Today's prudent management of foreign debt, like the reduction in cost of borrowings for domestic debt, is a continuation—as opposed to an innovation—by today's fiscal managers.

In sum, none of the reports of the Bureau of the Treasury offers evidence of a jump in external borrowings or in the stock of outstanding foreign debt. What the data show is the continuously improving external-debt position of the Philippines, which has been going on for the better part of a decade. 


(CORRECTION: An earlier version of this post indicated that the Philippine government domestic US dollar bond was issued in November 2013. This post has been updated to reflect the correct date of November 2012.)

Inflation (Part II)

The previous post referred to inflation trends as indicated by long-tenor government bonds. There is corroborative evidence, however slight, shown by corporate bonds issuance in the first half of the year. The trend in bond yields is unmistakably upward. 

The chart above shows the coupons on Peso-denominated corporate bonds issued in each month up to June 2014. Not included are subordinated bonds issued by banks, and one bond which had a tenor of 1 year only. What is left are either Senior Unsecured or Unsecured bonds, either unrated or rated PRSAaa, and issued in the domestic market. In other words, they share almost the same credit risk profile, and the difference in their yields at issuance (or coupons) preponderantly accounts for market conditions and not individual credits of the issuers. 

What can be seen in evidence is the jump in yields, particularly among 7-year bonds. Whereas in January a 7-year PLDT bond printed below a 5.5-year ABS-CBN paper, by March, a 7-year paper by MNTC was higher by 43bps compared to ITS OWN 5.5-year callable note. The 5-5-year (apparently a favorite among issuers, as this tenor was the most numerous of all issuances this year) line shows month-to-month volatility, but adding a trend line shows a perceptible rise throughout the first six months of the year, led by the San Miguel Brewery issuance in April. 

That there is a jump in corporate bond yields this year can be clearly seen in the charts, and is even more in evidence compared to government bond yields. That this is caused by inflationary concerns is also not in doubt. What is subject to debate is the cause of inflation: is it a product of too-high GDP growth, or is there another factor that analysts have not yet grasped? 

Looking at the chart from the prior post it can be clearly seen that the fall in GDP growth rates coincides with inflation concerns. At first glance, the data do not show that higher economic growth expectations are leading to higher inflation. In addition -- and more important for analysts -- inflation is not “caused by” higher economic growth. Inflation is caused by too much money chasing too few goods, as the saying goes, but it bears emphasis that it is not only “too much money” that needs to be factored in, but also “too few goods”. If there is too much money but there are too few goods, then there would be a problem of inflation. But if there is high money growth that this is matched by a boost in production, then there would be no inflation. Producing more goods -- also known as economic growth -- would not, ipso facto, lead to inflation; in fact, it dampens inflation.

That is the reason why observers and analysts have to look elsewhere for a cause of inflation. One such possible cause will be explored in a succeeding post.

Inflation for July at 4.9%, the highest in nearly three years

Inflation is a self-fulfilling prophecy. If you believe that prices will rise in the near future, you will buy now before they actually do. Multiply this action by countless other economic actors, and you will have artificially shifted the aggregate demand curve rightward by simply moving or “advancing” purchases across time. The end result is higher prices, and, therefore, inflation.

It is to guard against precisely this development that the governor of the central bank consistently, at the risk of not being taken seriously, assures literally everyone he meets and talks to, that his institution will vigorously fight inflation as soon as he detects the merest hint of it.

So it was that on the morning of the 28th of May, 2014, BSP Governor Amando Tetangco Jr. arrived to deliver the opening remarks at the first Philippine Retail Investment Conference organized by the CFA Society of the Philippines. Governor Tetangco has received numerous awards in his career, among them “Central Banker of the Year for Asia-Pacific” in 2012, given by The Banker; 2012 Emerging Markets Central Bank Governor for Asia, given by Euromoney magazine; and an “A” rating from Global Finance magazine, again for 2012. These internationally reputable magazines have cited his “considerable skill” in managing the monetary policy of the Philippines, and it is no mystery: his task consists of emphasizing and repeating to the public that the central bank – under his direction – will never allow inflation to run out of control.

He began by noting the remarkable economic growth exhibited by the Philippines over the past 2 years, averaging 7 percent and never going below 6 percent in a quarter. This growth, he said, is “underpinned by solid anchors” of “low and stable inflation due to credible monetary policy and a sound banking system maintained through responsive regulation,” even  if the man in charge of managing monetary policy and maintaining the soundness of the banking system does say so himself.

But, the Governor said, this rosy economic picture is threatened by the prospect of higher inflation, already visible in the horizon that morning at the end of May. After a volatile 2013 during which bond yields at first fell due to impressive headline GDP growth and then soared due to Fed tapering concerns, there was a noticeable jump in the 20-year and 10-year PDST-F rates from November 2013 to January 2014 on the back of inflationary concerns. Worse than the rise in government-bond yields is that inflation rose even higher: in the month of December 2013, the year-on-year increase in the consumer price index was 4.1%, but the 10-year PDST-F average for that month was only 3.7% and at year end was only 3.8038% (see chart).

What is tipped to cause this staggering negative return? The BSP Governor could point to only one thing, and that is the “potential increases in power rates and higher food prices resulting from an expected El Niño episode in the second half of 2014.” By August, the news was out that the prior month’s inflation was the highest since October 2011. The inflation rate for July 2014 clocked in at 4.9%, near the top end of the BSP’s own estimates, and confirmed the Governor’s diagnosis of elevated “food and non-alcoholic beverages index” prices.

The likeliest cause of these price rises is a fascinating admixture of bureaucratic corruption and economic mismanagement ... and will be explored in the next post.