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History of the falling peso

05:30 AM June 15, 2018

Those of my generation would remember how the P2=$1 exchange rate used to be printed on the back of our school notebooks, along with the metric conversion tables and the multiplication table. That’s how fixed it was.

The 1946 US Bell Trade Act fixed it there upon the end of US rule. In the ensuing years, our imports (which lead to dollar outflows) outstripped our exports (source of dollar inflows), and the gap widened through time. As dollars and foreign exchange are subject to the law of supply and demand like any commodity, the price of a dollar would naturally rise in this situation, where demand outstrips supply. But to sustain the artificially fixed exchange rate, the government chose to impose foreign exchange and import controls, rather than let the price of dollars rise (or, equivalently, allow the peso value to fall).


That distortionary policy was to set the future course of the Philippine economy, marked through the succeeding decades by a complex web of offsetting distortions via subsidies, incentives and trade protection for handpicked industries and companies. It also spurred a thriving dollar black market, plus smuggling, bribery and general rent-seeking that have since taken root in Philippine business culture.

President Diosdado Macapagal finally let the peso seek its natural level in the 1960s, which led the peso to lose almost half its value, to P3.90 to the dollar. But the culture of selective controls and protection was ingrained, and more overvaluation of the peso (translation: keeping the exchange rate lower than what market forces would set) was to come. Such overvaluation was later to be blamed for our sluggish export performance relative to our neighbors.

Fast forward to the 1990s, when government eased controls on the foreign exchange market. The exchange rate was about P26-27 to the dollar. Economists lamented how the Bangko Sentral ng Pilipinas (BSP) was managing the level of the exchange rate by influencing dollar supply and demand with monetary policy (i.e., interest rate and money supply tools), overvaluing the peso as it did.

In an 18-month stretch on the eve of the Asian financial crisis, the exchange rate virtually stood still at P26.50. I remember having to explain in a Cabinet meeting why this was not a good thing, with domestic inflation running at 7-8 percent then. The reason: This meant that the real value of the peso was rising at the same rate, rendering Philippine exports even less and less competitive in export markets.

The BSP countered that it was actually forestalling even stronger peso appreciation by buying up much of the excess dollars flooding the country with the surge in confidence in the Ramos economic reforms. When the Asian crisis hit, the exchange rate shot beyond P40 almost overnight. The BSP was later to declare its primary policy focus to be inflation control, rather than influencing the exchange rate, in conformity with major central banks around the world. At the turn of the century and millennium, the exchange rate stood at P44.

Fast forward further to 2005, and the exchange rate hit its all-time high of P56. But it was soon to go back down to P40 in the following years, reflecting global financial forces.

When financial crisis hit the western economies in 2008, investment funds found refuge in the “emerging markets” of the east, boosting foreign exchange supplies faster than we could spend it. Until two years ago, the movements of the peso and our neighbors’ currencies reflected movements of the dollar against the currencies of America’s major trade partners: When the dollar weakened, our currencies strengthened, and vice versa.

In the past two years, however, the peso has been an odd man out. From P42 to the dollar in 2013, the rate has successively risen to P44, P45, P47, P50, and now P53. Our neighbors’ currencies have generally been appreciating, reflecting their healthy export growth up to 25 percent per year. In contrast, our exports have lately dropped, while imports surge to feed growing requirements of domestic production and of the “Build, build, build” program.

There’s good news and bad news in that, but I must leave that for another column.


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