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Governor Benjamin Diokno on BSP Policy and the Philippine Economy
BSP policy has helped the Philippines enter the global COVID crisis in a position of economic strength.
Governor Benjamin Diokno is the current head of the Bangko Sentral ng Pilipinas, or BSP, which is the central bank of the Republic of the Philippines. The Governor joins David on Macro Musings to shed light on the art and science of central banking from an emerging market perspective, as seen through the experience in the Philippines. Specifically, Governor Diokno and David discuss the structure, mandate, and operating system of the BSP, how the BSP has managed to avoid the zero lower bound, the prospects of a Philippine central bank digital currency, and how a flexible exchange rate has helped the BSP hedge against dollar volatility.
Read the full episode transcript:
Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected].
David Beckworth: Governor Diokno, welcome to the show.
Gov. Benjamin Diokno: Thanks for having me. And yes, this is an exciting time, unprecedented health crisis. I mean, just to use in my job, I'm basically a fiscal guy. I've been serving under three presidents as Secretary of Budget and Management. But yeah, these are exciting, exciting times. But in my conversation with the other central bank Governors in the world, I keep saying that there are limits to what monetary policy can do, and it's not the only game in town. I think at this time, our fiscal policy could probably play a better and a more important role in monetary policy.
Beckworth: Yeah. Well, again, thank you for coming on this show. It's real exciting to have a governor of a central bank, someone of your stature, to join us, and also to bring a richer perspective to the show. As our listeners know, we talk a lot about what the Fed's doing, the ECB is doing, occasionally the bank of Japan, but it's nice to get what is it like at a central bank somewhere else, an emerging market. And how do you see the issues that we normally talk about? So I'm just really excited to have you on board and join us on this show today.
Beckworth: Now it's worth noting for our listeners that the governor also has a rich history and experience across three administrations in fiscal policy. He worked for the Finance Ministry, or the OMB equivalent here in the United States. So you have a lot of experience there as well. So you bring, I think, a great perspective to this job as central bank Governor. I'd like to start with the BSP itself, how it's organized, how it operates, for those who don't know. And as I was doing my background reading, I learned there is a Monetary Board and an Advisory Committee, and you're both the governor and you're also the chairman of the Monetary Board. Walk us through: what is the Monetary Board and how's that different than the Advisory Committee, and how do they interact?
Basics of the BSP
Diokno: Now, the Monetary Board is a seven-man committee. It is independent in the sense that only one of the seven members of the Monetary Board is, comes, rather, from the executive department. At the moment he is the Secretary of Finance. And the rest are appointed with fixed tenure, and we are independent in the following sense. We do not go through the commission on appointments. As in your case, like the Fed, they go through the commission on appointment, but in the case of the Philippines, we don't. So it's really an appointment by the president, and the term actually is longer than the term of the president, seven years. And we do not submit a budget to the Congress, which is unlike other central banks. And so we are not, in a way, influenced by the congressmen and the senators. And so we are really independent policy, monetary policy. So I'm the governor, and at the same time, I'm the chairman of that governing body called the Monetary Board.
Beckworth: How often do you meet with the Monetary Board to make decisions for monetary policy?
Diokno: Well, you'll be surprised. Under the law, we have to meet every week.
Diokno: Yes. So it's a full-time job for the members of the Monetary Board, and they cannot accept any other job, either as a professor or in any other job. Private sector, representation, nothing. You have to be full-time board member of that Monetary -
Beckworth: Well, that's interesting. So in theory, you could be setting monetary policy every week, if you wanted to. I know you don't change the rates that often, but in theory, you could be in a situation where you change rates every week. Is that correct?
Diokno: That's correct. Although under our current rules, we meet on policy matters, like setting policy rate, every six weeks. We meet as a group. But there are surprises. On our weekly meeting, we can decide to change the current policies. We can cut reserve requirement every week, anytime. And so there's no limit to what we can do. And we've done that during this crisis. In fact, this crisis, I have already cut interest rate by 200 basis points. So from 4%, it's now down to 2% and there's a requirement... For example, I've been debt authorized by the Monetary Board, by that policy group, to cut the reserve requirement by 400 basis points. To date, I have only cut it by 200 basis points.
Beckworth: Okay. And you have an Advisory Committee, and as I understand it, that's made up of your staff at the central bank. Is that correct?
Diokno: The Advisory Committee are the senior staff of the central bank, Bangko Sentral, and they meet a week before the policy committee meeting. And so they recommend, they make a recommendation. I chair that committee, Advisory Committee, and that is usually the basis for the Monetary Board decision.
Beckworth: Okay. So that's the structure of the central bank. Let's talk about the mandate and the actual inflation target that you have. So first, on the mandate front, I was again doing some reading and I found this Republic Act 7653, and it said that the central bank is to promote price stability conducive to a balanced and sustainable growth of the economy. And I know you also have some emphasis on financial stability too, but I was wondering, does this mean that you have something like a dual mandate, like we have in the US, where we're supposed to be focused both on price stability and full employment? Is that a similar emphasis there?
Diokno: Well, that was the original law which created the central bank, but it was recently amended, a few months before I took over central bank. And I guess that's one of the reasons why I was placed here, because there were many, many changes that need to be implemented. For example, the mandate was broadened to maintain price stability conducive to a balanced and sustainable growth of the economy, and they inserted new work and employment. So in a way, we're following the mandate of the central bank. So that was added, but we interpret our main role, really, as maintaining price stability, and also to solve the global financial crisis. We are very serious about the financial stability mandate of central bank.
We interpret our main role, really, as maintaining price stability, and also to solve the global financial crisis. We are very serious about the financial stability mandate of central bank.
Beckworth: So you oversee the payment system, you oversee banking in the Philippines.
Beckworth: And then you implement your mandate for price stability, and then employment as well. Well, let's talk about your inflation target. So you have an inflation target of 3%, is that correct, with a band around it?
The BSP’s Inflation Target
Diokno: Yes, that's 3% plus or minus 1%. So in fact, our position is that we are shooting for from 2 to 4%, although our mid point is 3%. This was only recently adjusted. Before it's much higher. But we've been very good at this, so we're comfortable with 3% plus or minus one percentage point.
Beckworth: Yeah. I like that range and I kind of wish the Federal Reserve had adopted something similar to that. A range versus... We have an average now, so we'll see if the Fed actually follows through and is able to meet its average over horizon -
Diokno: Yeah, it's basically adjusted to average 2%, right?
Beckworth: Yeah. Now I know probably the outcome in your target may be something similar. Over time, you might average 3%. You go above, you go below, but on average you hit 3%. So maybe over a long horizon, you have similar outcomes, but I do like the idea of having a range to give you flexibility in the short run, so you're not wedded to some precise point estimate or target. Now I read, and I think you alluded to this, that the target can be updated. It's set two years in advance. Is that correct?
Diokno: That's right. Right now, our target for the next, from 2020 to 2022, is 3%, plus or minus 1%. But our midpoint, looking at the numbers right now, will be maybe... This year, it will be around 2.5. We'll hit 2.5. Next year, we'll be around 2.7. And maybe now by 2022, around 2.9. So we did the bands, considering the uncertainty. And we are, of course, right now looking at what we want to do beyond that.
Beckworth: Now the history of inflation targeting, if I understand correctly, it goes back to 2002. Is that when it was adopted first in the Philippines?
Diokno: Correct. So, introducing reforms really takes a while. It started in 2002, and then in December 2006, our inflation target was re-specified from the range to a point target. Now we are on that target, but it used to be, until 2010, for example, our target was four, plus or minus 1%. So it's three to five. Now we're very comfortable with it. We're down to three, plus or minus 1%.
Beckworth: So where do you see it settling down over the long run? So as you take this journey forward over the next few years, what do you see as the ultimate destination for the inflation target?
Diokno: I think an inflation target of, say, maybe 2% would be nice. I think that's globally, that that's accepted. So right now, my term ends in 2023. So by that time, it's still 3% plus or minus 1%.
Beckworth: Okay. I have to ask this question, and all my listeners know I ask this a lot, and it may be something that central banking for the Philippines will never consider, but I just... I'll throw it out there. Have you or your staff ever considered something like a price level target, or even a nominal GDP level target, where you make up for past misses, or will your target effectively do the same thing?
Diokno: Yeah, that's an exciting concept, but knowing how difficult reforms are, having served many presidents in the past, at this time, given my midterm structure limit, this will end in three. I don't want to start a new program. It's an exciting concept, I agree, but there are pros and cons, but I'm not going to start it for this time. What I am focused right now is shifting from a cash-heavy to a cash-light society, or eventually, maybe a cashless society. That excites me. And that appears to be within reach. Because of the pandemic, I think the use of digital payments has accelerated, not only in the Philippines, I think, but globally. So that is my focus at the moment.
What I am focused right now is shifting from a cash-heavy to a cash-light society, or eventually, maybe a cashless society. That excites me. And that appears to be within reach. Because of the pandemic, I think the use of digital payments has accelerated.
Prospects of a Philippine CBDC
Beckworth: So have you been talking about a central bank digital currency or some other form of digital currency? When you say you want to get to a cashless society eventually, how do you see it unfolding? Does central bank play a big part of that story?
Diokno: Yes. In fact, I created a task force to study what's happening. But many countries are not into that at the moment, many central banks. Maybe in the next three years or five years, they will go into that. But I think it's appropriate that we study, or we look at the landscape. And so we are slowly, through research and through networking, moving in that direction of a CBDC. It's no possible way of pushing my goal for having a digital currency. Also, right now, we also changed the structure of banking. We're now encouraging digital banking in the Philippines. We just released guidelines along those lines, and we're accepting now application for a purely digital bank in the Philippines. So given the time horizon, maybe in five years' time, we can have a CBDC in the country.
We just released guidelines along those lines, and we're accepting now application for a purely digital bank in the Philippines. So given the time horizon, maybe in five years' time, we can have a CBDC in the country.
Beckworth: Very interesting. So what do you see as the benefits of going down this path towards a CBDC? Why do it?
Diokno: Well, I look at the whole cost. The biggest item in our budget is the printing of the currency and the minting of coins, right?
Diokno: That's one, but you know, nowadays you don't need coins, or you don't need currency to transact business. And you just need a QR code or a payment system that is... Or using cards. So we can save a lot of money by doing that. And I think we will have a bigger handle of the currency that we issue if we go into that new move with technology.
Beckworth: What about inclusion of the unbanked? I know I read on some of your pages, your bios, that you're really excited and engaged in getting those who are unbanked into the banking system. Do you see central bank digital currency as another way to do that?
Diokno: Also in combination with the shift from hard cash and currency to digital payment. And that plus, actually, the use of digital payment was helped by this pandemic. People don't like face-to-face transactions. So they do digital, and with this CBDC, we can actually... Like what's happening in China. I've been to China. I spent three days in [inaudible] University, and observed what's going on there. You can transact business without using currency, so to me, that's an exciting possibility.
Beckworth: Are there any costs you're concerned about in making the transition to digital currency? I mean, some of the common critiques you hear over here are that there's privacy concerns. Or maybe people who are really poor, it's their way of staying engaged in the system without being known, for whatever reasons. The concern is there's illegal activity using physical cash, but there's also some concern about privacy issues, but where do you see that being in terms of an issue with the Philippines?
Diokno: There are, of course, cybersecurity risks. Could be electronic counterfeiting, data privacy, but the young ones right now, they value privacy less than convenience. If it's convenient to use digital currency, they'll do that. They don't care about the data privacy issue. Right? But I think the bigger threat here will really be a cybersecurity risk. And so I think central banks should prepare for it.
Beckworth: Yeah. Great point. Okay. Well, let's transition into another area that I found really fascinating with the BSP, your central bank, and that is the operating system of your central bank. And this is fascinating to me because, again, listeners of this show will know I've been a champion, a longtime champion, of a corridor operating system. The US used to have one before 2008. After the great financial crisis, that's moved to a floor system. And it's only become more pronounced, going through this pandemic. The Fed's balance sheet has gotten bigger. I pointed to the Bank of Canada. The Bank of Canada has had a corridor operating system as well, but I can now point to the Philippines. I know the Philippines, you have a corridor operating system. So you've got an upper bound with the lending facilities, a lower bound with your deposit facilities, and I understand the target rate in the middle is set by your reverse repo rate. Is that a fair assessment to say that you have a corridor operating system?
BSP’s Corridor Operating System
Diokno: Very good. That's very accurate. We have an upper bound, which is the interest rate on the standing overnight lending facility, and the lower bound represents the interest rate on the standing overnight deposit facility. And in the middle is the interest rate on reverse repurchase facility, which is exactly also the BSP's monetary policy rate. And we're very good at this. We got it within that band for many, many years.
Beckworth: Now, it's great to see central banks like yours still taking this approach, because it's become a lost art, I think, in the US and in Europe. And many central banks see the floor system as an easy way to set interest rates. It's an administrative rate. It's not a market rate, when you have a floor system and you have a big balance sheet. And it's great to see that there are still some central banks still using a corridor system. So do you foresee this being the operating system going forward for Philippines?
Diokno: Yes, it does help us. I think it also promotes the... It's been accepted by analysts in the Philippines. So we will continue to do this. And another development that is fairly recent is that we have been given, again, part of the reforms, we can now float our own instruments.
Diokno: That was taken away from the central bank because of the shock of the... Well, during the Marcos years, during the dictatorial years of regime of Marcos, the central bank has become an extension of the executive department. And there was a new law that was passed, and then they did not give the BSP that right to float its own instrument. It has been recently given to us, and we have now started floating it again in September this year. And so it's fairly successful, and we will make that as a part of the corridor system.
Beckworth: So how long are these securities that you float? Are these overnight securities or longer-term ones?
Diokno: Since we are just starting it, we are floating a 28-day overnight security. Because we don't want this to compete with the treasuries, the Treasury bill, in our initial instruments, which are overnight and seven-day and 14-day instruments.
Beckworth: And you see this as strengthening and complementing your corridor operating system.
Diokno: Yes. It is part of that system.
Beckworth: Very interesting. So something else I observed when I was doing background reading on the BSP and the Philippines economy is that you have never hit the zero lower bound. You've never gone down to zero, which is another reason the Fed, the ECB has gone to these floor systems. It goes hand in hand. You get the zero lower bound, you get a big balance sheet. You by default go to a floor system. So you've been fortunate, I think, and blessed. Had interest rates above zero. You mentioned two and a half percent. You've got positive inflation. So why do you think that you have been spared the fate that has fallen these big economies in the advanced world? Why do we get stuck with the secular stagnation, the zero lower bound, and you've been preserved with a nonzero lower bound environment?
Diokno: Now, that's a good question. You know, the current interest rate is the lowest ever in the history of the country. 2%. And that's in response to the pandemic. At one point during the old central bank, the interest rate went up as high as 50%. 50%, five-zero. And so slowly, we were able to cut it down to maybe around nine, ten, seven. But right now, in response to the pandemic, we have cut that to 2%. And hopefully we won't hit the zero bound. Because that creates a lot of problems for central banks.
Beckworth: Right. It really limits what you can do and the effectiveness and the tools. But what you're saying is you don't see this to be an issue on the horizon.
Diokno: No, we don't. And another thing. I've seen many crises in my lifetime, and whenever there is a crisis, we run out of dollars because we're heavily indebted. And so the peso devalues and so then you need more dollars to pay your debt. But, right, we have the combination of very low interest rates in those cases because you want to protect the peso, you increase interest rates, right?
Diokno: So to reduce the exit of pesos. But right now we have the best of both worlds. We have low interest rate and we have one of the strongest currencies in the world right now. And we have a hefty gross international research around 104 billion US dollars. That's equivalent to 10 months’ worth of imports. And of course you know that the received doctrine is three months' worth of imports is good enough.
Right now we have the best of both worlds. We have low interest rate and we have one of the strongest currencies in the world right now. And we have a hefty gross international research around 104 billion US dollars. That's equivalent to 10 months’ worth of imports.
Beckworth: Well, that's impressive. So you're in a sweet spot now. Very nice place, good place to be in.
Diokno: That's a good way of put -
Beckworth: Yeah. And going back to your mandate, this is also part of your mandate is to manage those foreign reserves. Is that correct?
Diokno: Correct. Correct. So now we have, well, have the luxury of managing a hefty reserve. And of course, there are some elements or some sectors in the economy who are unhappy with the appreciation of the peso. For example, when the peso appreciates, then you hurt the exporters and you hurt the business process outsourcing. And also of course you help a big part of our citizenry, the Filipino workers and their families. Because of the strong currency, the value of their remittances decline. But when you do public policy, you look at what's good for the greatest number. And so in a way, the strong peso also helps us maintain or keep our crisis down. So that's on the good side. And also because of the strong peso, there's a lot of confidence on the economy that we won't have the debt blowout that other countries are now facing. We have a very low debt-to-GDP ratio. Our debt-to-GDP ratio before the crisis was less than 40%. That's the envy of many, both developed and developing countries.
Beckworth: So it sounds like you handled the COVID crisis fairly well.
Diokno: We were in a position of strength when the crisis hit us. And so we have a very long, of course, lockdown period, but I think we're doing well. Of course, the right metric, I think, is the number of deaths per 100,000 population. And the number for the Philippines is seven. I think the number for you guys is something like 75.
Beckworth: Yeah, it's not a pretty picture.
Diokno: So we're doing well. Doing well.
Beckworth: Yeah. Well, in the time I have left, I want to bring up a topic that's also near and dear to my heart, and that is the topic of dollar dominance. So there's been a lot of research, a lot of talk about how the US dollar is both widely used, there are dollar liabilities created outside the US, there's also many countries that either explicitly or implicitly peg their currency to the dollar. So whenever the dollar appreciates, it creates all this pain around the world. It makes it harder for emerging markets. For example, if the Fed tightens and that's the cause of it, or just some other force that causes the dollar to go up, you get this global dollar cycle that really can reach out and cause pain to countries that have behaved well. They've saved up reserves, they've done everything right, and then all of a sudden this dollar force comes and can smother emerging markets. So is this something that you wrestle with? And how do you view it? What do you think of it?
Response to Dollar Dominance
Diokno: Now, of course, the Philippines is dollar-centric. A big part of our transactions, maybe around 90, 95% are in dollars, but we don't see it as a problem. I work in other countries where they are totally dollarized, for example, Cambodia, and I'm sure they're having a hard time right now. But our policy is, we adopt a flexible exchange rate policy, which allow the best US exchange rate to be broadly determined by the market. And we exercise flexibility, and we only intervene for purposes of avoiding excessive volatility. And so we get the benefit from this policy. As I said, right now we have a hefty gross international reserves. And so we don't get bothered by the fluctuation of the US dollar, which is kind of volatile lately.
Our policy is, we adopt a flexible exchange rate policy, which allow the best US exchange rate to be broadly determined by the market. And we exercise flexibility, and we only intervene for purposes of avoiding excessive volatility.
Beckworth: Yeah. It's been coming down from highs, but back in 2014, 2016, when the dollar appreciated over 20%, it caused a lot of pain... It caused problems in China. I know China had a lot of issues already, but it was the catalyst that really caused a mass exodus of capital from China. China had to respond, and other emerging markets did as well. It hit manufacturing in the US, the strong dollar. There was this mini-recession, not really a true recession, but a manufacturing-emerging-market-oil recession during that time, because the dollar strengthened so much. But what you're saying is that you guys are fairly robust to such changes. You're well-insulated from those movements.
Diokno: I think our policy of a flexible exchange rate, we don't intervene, I think that does help us. We learned our lessons in the past, and we get the benefit from our very flexible exchange rate policy. And in fact, we have actually loosened some of the controls that we had in the past. And so it's fairly... It's not a dirty float. It's a real float. And I think it has helped us.
Beckworth: Well in the last few minutes, I know our time is about up, any final words about central banking from your perspective that people in the US may not appreciate, or people in Europe may not appreciate? What is it like to be a central bank governor? When you get up in the morning, when you open the newspaper, the Wall Street Journal, the Financial Times, how is your view different than someone on Wall Street or someone on the Board of Governors in DC?
Diokno: I think your Fed Chairman, Powell, is right that there's a limit to what central bankers can do. So it's not the only game in town. I think there's a role for fiscal policy, and that's how I approached our current problems. We can help, of course. That's part of our responsibility. We are helping the national government during this pandemic that... A big part of this with responsibility of the national government.
Beckworth: Okay. Well, with that, our time is up. Our guest today has been Governor Benjamin Diokno. Governor, thank you so much for coming on the show.
Diokno: Thanks, David, for having me.
Photo by Jay Directo via Getty Images