RRR cuts should be gradual — analysts

By Luisa Maria Jacinta C. Jocson, Reporter

FURTHER CUTS to banks’ reserve requirement ratio (RRR) should be gradual to avoid stoking inflation, analysts said.

“Reducing RRRs to minimal levels over time makes sense to align it with regional peers and make the banking system more competitive,” Nomura Global Markets Research analyst Euben Paracuelles said in an e-mail. “RRR is a tax on financial intermediation.”

“But I don’t think substantial RRR cuts should be rushed. BSP’s gradual approach is appropriate as it allows a recalibration that is consistent with prevailing economic conditions and the inflation outlook,” he added.

The Bangko Sentral ng Pilipinas (BSP) reduced the RRR for universal and commercial banks and nonbank financial institutions with quasi-banking functions by 250 basis points (bps) to 7% from 9.5%, effective last October.

It also cut the RRR for digital banks by 200 bps to 4% and for thrift lenders by 100 bps to 1%. Rural and cooperative banks’ RRR was also slashed by 100 bps to 0%.

“We all need to realize that every reduction in the RR means injecting hundreds of billions of pesos to the system,” GlobalSource Partners country analyst Diwa C. Guinigundo, a former BSP deputy governor, said in a Viber message.

The RRR is the portion of reserves that banks must hold onto to ensure they can meet liabilities in case of sudden withdrawals. When a bank is required to hold a lower reserve ratio, it has more funds to lend to borrowers.

From a high of 20% in 2018, the central bank has since brought down reserve requirements to single-digit levels.

“All up, we are certain the BSP is more than aware of both the liquidity and inflationary implications of excess liquidity in the system which the BSP itself is regularly mopping up through its open market operations window,” Mr. Guinigundo said.

“While it is of secondary importance, there is always a cost to liquidity and inflation management,” he added.

BSP Governor Eli M. Remolona, Jr. has said they are looking to bring down big banks’ RRR to as low as zero before his term ends in 2029. 

He earlier said the country’s reserve requirements are still among the highest in the region.   

“The reduction in RR to almost zero is really meant to establish a level playing field between banks which are subject to mandatory RR and nonbanks which are not,” Mr. Guinigundo said.

He said the assumption is normally that banks are “always and forever liquid.”

“But liquidity could be a risk to banks especially when they are overextended. So, RR is really a regulatory assurance that when a liquidity crunch strikes the system, banks have somewhere to go and draw liquidity from.”

“Effective supervision of banks could indeed make RR superfluous, although this is not always the case even in more developed economies,” he added.

Analysts said further cuts to the RRR could also help prop up economic growth.

“The other side to RR reduction is the possible aim of BSP to further inject liquidity into the system, strengthen the credit transmission of monetary policy and stimulate economic activities,” Mr. Guinigundo said.

“The BSP could be aiming to help promote economic growth now that inflation seems to be behaving well recently.”

The Philippine economy grew by a weaker-than-expected 5.2% in the third quarter, slowing from the revised 6.4% growth in the second quarter and 6% a year ago.

This brought the nine-month gross domestic product average to 5.8%, slightly below the 6-6.5% full-year target.

Meanwhile, latest data from the local statistics agency showed inflation averaged 3.2% in the 11-month period, matching the BSP’s full-year inflation forecast and well within the 2-4% target.

“The key is to channel these liquidity injections from RRR cuts towards bank lending for productivity-enhancing investments such as infrastructure and agriculture modernization,” Mr. Paracuelles said.

“That would boost potential growth but also ease supply-side constraints and hence alleviate inflation pressures,” he added.

Nomura in a recent report said it expects the central bank to deliver a 200-bp cut to big lenders’ RRR by mid-2025. This would bring the ratio to 5%.

“From BSP’s perspective, these cuts are in line with its longer-term goal of reducing the RRR to single-digit levels and helping to further improve the transmission of its policy rate cuts at that point by boosting liquidity conditions,” it said.

Nomura noted the “quicker and more complete” transmission of the BSP’s tools and policies amid its structural reforms.

“The availability of these instruments has allowed BSP to resume RRR cuts… with an estimated liquidity injection of more than 1% of GDP and coinciding with BSP’s rate cuts, thus helping transmission further.”

In a separate report, the International Monetary Fund (IMF) said the reduction in RRR would lead to a “welcome decline in financial intermediation costs and better align reserve requirements with regional peers.”

“Changes in the reserve requirement ratio need to be factored into the overall monetary policy stance and coordinated with any changes in the size of the BSP balance sheet,” it added.