Angelo Taningco
Economist, Treasury Group

Key points

• Higher global growth forecasts for 2017 and 2018 intact. Q2 GDP growth accelerates for the US, stays relatively strong for China; 2017 GDP growth expected above 2% for US, close to 7% for China

• Inflation remains soft in G3 economies and China during June; may climb in July on rising oil prices. 2017 inflation likely to fall short of central banks’ targets

• Monetary policy settings unchanged in G3 economies; US Fed’s balance sheet normalization expected in September, rate hike in December

• Philippine inflation decelerates in June, projected to edged up to 2.9% yoy in July; 2017 inflation forecast at 3.0% yoy. BSP seen to keep current monetary policy settings for the rest of the year

• Philippine manufacturing expansion improves in May, seen to have moderated in June; Philippine Q2 GDP growth forecast at 6.5% yoy

• Philippine merchandise trade deficit widens in May, expected to persist in June; OF remittances bounce back in May, could post positive growth in June

• FPI for Philippines reverts to net inflows in June, may stay positive in July; FDI net inflows into Philippines surge in April, likely to be sustained

• Philippine BOP posts bigger deficit in June and a surplus in Q2, may remain at deficit in July. 2017 BOP estimated to be in a deficit of $750 million (0.2% of GDP). Philippine GIR falls in June, likely to remain above $80 billion by end-July and end-2017. USD/PHP projected at 50.25 by year-end.

• Philippine fiscal deficit widens in June and H1, likely to be sustained in July, H2. 2017 fiscal deficit forecast at 2.0% of GDP. FY 2018 national budget of P3.767 trillion proposed, expected to be passed by year-end and to fuel 2018 GDP growth

Global Developments

Higher global growth forecasts for 2017 and 2018 remain; faster growth to be driven more by the euro area and China and less by the US than previously expected. The International Monetary Fund (IMF), in its July World Economic Outlook Update, has maintained its global growth forecasts of 3.5% for 2017 and 3.6% for 2018, higher compared to the 2016 growth of 3.2%. The relatively strong global growth expected in 2017 and 2018 will emanate from both advanced economies and emerging market and developing economies (Figure 1).

Figure 1: Global Growth, 2009 – 2018f
(percent change)

 
In particular, global growth for this year and next year will be largely driven by the United States (US), the euro area, China, and Japan, given their relatively heavy weights in global output (Figure 2a). Relative to 2016, GDP growth for 2017 is projected to be more robust in the US, euro area, Japan, and the Association of Southeast Asian Nations (ASEAN)-5-which comprises Indonesia, Malaysia, the Philippines, Thailand, and Vietnam-among others, and steady in China. For 2018, GDP growth is forecasted to moderate in the euro area, China, and Japan; remain steady in the US; and accelerate in ASEAN-5.

Compared to its previous forecasts made in April, the IMF revised upward (downward) its 2017 (2018) growth forecast for emerging market and developing economies (advanced economies). But the IMF now sees its expectations of faster global growth for 2017 and 2018 to be driven more by the euro area and China and to rely less from the United States (US). In particular, the IMF revised upward its 2017 and 2018 GDP growth forecasts for the euro area by 0.2 and 0.1 percentage points, respectively, and for China by 0.1 and 0.2 percentage points, respectively. In contrast, the IMF revised downward its 2017 and 2018 GDP growth forecasts for the US by 0.2 and 0.4 percentage points, respectively (Figure 2b).

Figure 2a: Output Growth, 2016 – 2018f
(percent change)

Figure 2b: IMF’s Growth Forecast Difference from April Forecast, 2017 & 2018
(percentage point change)

 
The IMF has identified risks to its global growth recovery outlook for the medium term, and these include economic policy uncertainties; geopolitical and financial tensions; and protectionism.

Q2 2017 GDP growth accelerates for the US, relatively high for China; 2017 GDP growth expected to be slightly above 2% for US and close to 7% for China. The two biggest economies in the world exhibited relatively fast pace of expansion in Q2 2017, consistent with the story of faster global growth for the year.

US real GDP expanded at an annual rate of 2.6% in Q2 2017, slightly lower than the market forecast of 2.7% but better than its 1.2% growth in Q1 2017 (Figure 3a). The second quarter’s growth drivers were personal consumption expenditures (PCE), nonresidential fixed investment, federal government spending and exports. The higher GDP growth in the second quarter vis-à-vis the first quarter was bolstered by stronger PCE, smaller drop in private inventory investment, and a rebound in federal government spending.

Figure 3a: US Real GDP Growth
Q1 2015 – Q2 2017
(qoq and seasonally adjusted annual rate, %)

 
We expect US GDP growth for the full-year 2017 to be slightly above 2.0%, eclipsing its 2016 rate of 1.5%. Confidence levels of both consumers and businesses remain high, and have been positively contributing to PCE and domestic investment. However, economic policy uncertainties and challenges remain, and these include the gridlock facing the Trump administration’s plan to “repeal and replace Obamacare” in the Senate as well as lack of progress in the administration’s tax reform plan.

China’s economic expansion was again robust in Q2 2017 as its real GDP growth rate of 6.9% year-on-year (yoy) mimicked its first-quarter performance This was slightly above the market’s forecast of 6.8% yoy, and allowed the H1 2017 GDP growth to average 6.9% yoy (Figure 3b). Manufacturing, the biggest sector with a 30% share to GDP, was the biggest growth contributor with its yoy growth rates at 7.1% yoy for Q2 2017 and 7.0% yoy for H1 2017.

We believe China’s GDP growth for the current year will be between 6.5% – 7.0% on the back of sustained strength in manufacturing and domestic demand. One of the concerns, however, facing the country’s growth path is financial stability, which was raised as a policy topic in China’s National Financial Work Conference, a quinquennial event, held on 14-15 July. The event highlighted the importance of promoting financial stability to serve the real economy and contain systemic risks. It has resulted in the creation of a financial stability committee under the State Council.

Figure 3b: China Real GDP Growth
Q1 2015 – Q2 2017
(yoy %)

 
Inflation decelerates further in the US, mixed in the euro area, steady in China and in Japan during June; inflation in G3 economies and China could strengthen in July on rising oil prices. Softening inflation has continued in the United States (US) with the headline consumer price index (CPI) inflation rate falling for the fourth-consecutive month in June, leveling off at 1.6% year-on-year (yoy) from 1.9% yoy in May. With this, we expect headline personal consumption PCE inflation for the month of June to be lower than the CPI inflation rate, i.e., to hover slightly above 1.0% for the month. Meanwhile, US core CPI inflation stood at 1.7% yoy in June, the same print in May. Evidently, US inflation figures have stayed below the Federal Open Market Committee’s (FOMC) 2% inflation target.

In the euro area, the headline Harmonised Indices of Consumer Prices (HICP) inflation rate edged down to 1.3% yoy in June from 1.4% yoy in May, but its core HICP inflation inched up to 1.1% yoy from 0.9% yoy in the same period (Figure 4a). Inflation in the region has continued to be subdued and still falls short from the European Central Bank’s (ECB) inflation target of close to 2%.

Figure 4a: Consumer Price Inflation in US and euro area Jan. 2016 – June 2017
(yoy %)

 
Consumer price inflation was steady in both China and in Japan: the CPI inflation rate for China was 1.5% yoy in June, similar to May, while it was 0.4% yoy in May and April for Japan (Figure 4b). The average CPI inflation rates for H1 2017 were 1.4% and 0.4% for China, and Japan, respectively, both way below the inflation targets of 3% and 2% for the full year. Meanwhile, compared to its previous projections made in April, the BOJ revised downward its core CPI inflation rate median forecasts by 0.3 percentage points to 1.1% yoy for FY 2017, by 0.2 percentage points to 1.5% yoy for FY 2018, and by 0.1 percentage points to 2.3% yoy for FY2019.

Figure 4b: Consumer Price Inflation in China and Japan Jan. 2016 – June 2017
(yoy %)

 
For the month of July, we might see higher inflation compared to June in the G3 economies (US, euro area, Japan) as well as in China on the back of rising oil prices. However, we do not think that the month’s inflation rates will touch nor breach the central banks’ inflation targets.

Monetary policy settings unchanged in the US, euro area, and Japan. US balance sheet normalization expected in September, rate hike in December.

The Federal Open Market Committee (FOMC) decided during its 25-26 July monetary policy meeting to keep the target range of the federal funds rate unchanged, consistent with market expectations. It also stated that it will begin the Federal Reserve’s balance sheet normalization “relatively soon”, which we think will be in September. We also believe that another 25 basis point hike in the federal funds rate will transpire before the year ends, and we think this will probably be in December.

On 20 July, both the European Central Bank’s (ECB) Governing Council and the Bank of Japan’s (BOJ) Policy Board have decided to keep their respective monetary policy settings unchanged, largely due to relatively low inflationary pressures. We think that both central banks will keep their current monetary policy settings unchanged for the rest of the year in light of inflation likely to fall short of their respective targets.

Philippine Developments

Inflation weakens further in June, projected to inch up to 2.9% yoy in July. Consumer price inflation continued its descent in June, as both the headline and core Consumer Price Index (CPI) inflation rates were down by 0.3 percentage points from the previous month at 2.8% yoy and 2.6% yoy, respectively (Figure 5a). The headline CPI inflation print, which was slightly below our 2.9% forecast, had dropped on the basis of slower price increases in seven out of eleven commodity groups that includes food, transport, and utilities. Food, which has about 36% weight in the CPI, recorded lower price inflation of 3.6% yoy in June compared to 3.8% yoy in May. Likewise, transport (8% weight) posted 2.5% yoy price inflation in June, less than its 2.7% yoy in May. But the biggest drop was evident in electricity, gas, and other fuels (7% weight), in which its price inflation dropped to 3.8% yoy in June from 8.0% yoy in May amid Meralco’s electricity rate cuts and fuel price rollbacks.

Figure 5a: Headline and Core CPI Inflation
Jan. 2016 – June 2017
(yoy %)

 
On a quarterly basis, average headline inflation edged down to 3.1% yoy in Q2 2017 from 3.2% yoy in Q1 2017, whereas core inflation rose to 2.9% yoy from 2.7% yoy in the same period (Figure 5b). In the first half of the year, headline and core inflation rates averaged 3.1% yoy and 2.8% yoy, respectively.

Figure 5b: Headline and Core CPI Inflation
Q1 2014 – Q2 2017
(yoy %)

 
For the month of July, we forecast headline inflation at 2.9% yoy based on our observations of stable food price inflation and higher electricity rates and fuel prices. For H2 2017, we project headline inflation to average 2.9% yoy. Against this backdrop, we have revised downward our full-year 2017 headline CPI inflation forecast to 3.0% yoy.

BSP likely to maintain current monetary policy settings. This view, which we think will be the outcome of the next Monetary Board meeting of the Bangko Sentral ng Pilipinas (BSP) scheduled on 10 August, is based on an assessment of inflation remaining manageable with the June CPI inflation rate within the BSP’s inflation target range of 3 percent ± 1 percentage point. We also think the impact of the recent depreciation of the Philippine peso on inflation, a.k.a., exchange rate pass through, is mild, and therefore does not warrant a hike in key interest rates. For the rest of the year, we now think that there would be no increase in key interest rates given our current inflation outlook.

Manufacturing output growth improves in May, seen to have moderated in June. Q2 2017 GDP growth forecast at 6.5% yoy. Manufacturing production grew at a faster pace in May relative to April but was viewed to experience a growth moderation in June. The stronger manufacturing growth in May was based on the higher yoy growth rates in the value and volume of manufacturing output indices (Figure 6). This can be attributed to stronger demand for construction-related products domestically amid a pickup in the government’s infrastructure spending as well as greater demand for export-oriented items. Meanwhile, growth in the sector was seen to have moderated in June given a mom decline in the manufacturing Purchasing Managers’ Index (PMI).

Figure 6: Manufacturing Output Indicators
Jan. 2016 – June 2017

 
Meanwhile, our Q2 2017 GDP growth forecast is pegged at 6.5% yoy. We continue to see strong domestic demand fueled by stable growth in household spending, relatively fast expansion in capital formation, pick up in government spending, and export recovery. In addition, we assessed second-quarter robust performances coming from both industry and services sectors.

Merchandise trade deficit widens, OF remittances bounce back in May; likely to have been sustained in June. The merchandise trade deficit widened 23.0% yoy in May and 3.9% yoy in January-May, with its monthly and cumulative totals at $2.8 billion and $11.0 billion, respectively. Growth of both exports and imports were at double-digit rates for both monthly and cumulative bases, indicating more intense trade activity. Noticeably, the more robust import growth in May was supported by stronger import demand for infrastructure-related materials such as iron and steel and transport equipment and for export-oriented items, specifically electronic parts and components (Figure 7).

Based on the recent trade trends, we expect the trade-in-goods deficit to be bigger in Q2 2017 relative to Q1 2017, and have weighed on the country’s second-quarter economic growth.

Figure 7: Merchandise Trade
Jan. 2016 – May 2017

 
Overseas Filipinos’ (OF) remittance growth reverted to a positive rate in May, with the monthly and cumulative yoy growth rates at 7.1% and 5.2%, respectively (Figure 8). This was an improvement from its previous period’s performance (−5.2% yoy in April, −5.9% yoy in January-April). The OF remittances’ rebound was in line with our expectation, and we expect its positive performance to be sustained in the upcoming months.
We maintain our full-year 2017 OF cash remittance forecasts of $28.6 billion and 6.5% yoy.

Figure 8: OF Personal Remittances
Jan. 2015 – May 2017
(yoy %)

 
FPI reverts to net inflows in June; FDI net inflows surge in April. Foreign portfolio investment (FPI) recorded net inflows of $80 million in June on the back of bigger gross inflows with bulk of the inflows in Philippine Stock Exchange (PSE)-listed securities. This was a reversal from its $24 million net outflow position in May given that the monthly increase in foreign investors’ net investment in PSE-listed securities was bigger than that for foreign investment in government securities (Figure 9).

Figure 9: FPI Net Flows
Jan. 2016 – June 2017
($ million)

 
In H1 2017, FPI posted net outflows of $461 million mainly due to the net outflow level from government securities remaining bigger than the net inflows in PSE-listed securities. We think FPI could record net inflows for the second half of the year. And we believe this would be on the back of positive sentiment towards the domestic macroeconomic environment given expectations of robust economic expansion, manageable inflation, steady key interest rates, and healthy corporate earnings.

Foreign direct investment (FDI) net inflows surged 72% mom to $874 million in April on the back of monthly increases in nonresidents’ net equity placements and net debt investments. Debt was the preferred mode of financing by foreign investors, comprising the bulk (83% share) of total FDI in April (Figure 10). In the first four months of the year, FDI net inflows valued $2.4 billion supported by positive investor sentiment towards a healthy economy. We posit FDI net inflows would be sustained in the subsequent months.

Figure 10: FDI Net Inflows
Jan. 2015 – Apr. 2017
($ million)

 
BOP records bigger deficit in June, surplus in Q2 2017. GIR falls in June, remains adequate. End-2017 USD/PHP forecast at 50.25. The balance of payments (BOP) deficit widened to $569 million in June from $59 million in May. We suspect the BOP deficit’s mom increase in June was probably due to deficits incurred in both the current account and the financial account. On a quarterly basis, however, the BOP shifted to a surplus of $289 million in Q2 2017 from a $994 million deficit in Q1 2017 mainly on the basis of a large surplus in April (Figure 11a). In H1 2017, the BOP posted a $705 million deficit, unlike the first half of the previous year when the BOP had a $634 million surplus.

Figure 11a: Balance of Payments (BOP)
Q1 2015 – Q2 2017
($ million)

 We think the BOP will again post a deficit in July amid sustained trade-in-goods deficit. For the full year-2017, we now expect the BOP to incur a deficit, with our forecast at $750 million, equivalent to 0.2% of projected GDP.

Gross international reserves (GIR) fell by $764 million in June and we can attribute this to the BOP deficit (Figure 11b). Nevertheless, foreign reserves remain highly adequate in terms of meeting import payments or short-term external debt obligations. We continue to project the GIR to end this year at around $81 billion.

Meanwhile, the daily USD/PHP rate has averaged 50.6 in July, higher than its June average of 49.9. Despite this, we maintain our end-2017 forecast at 50.25, as we think that positive domestic news based on solid macroeconomic performance and better economic outlook prospects domestically as well as less optimistic outlook on the US economy and its political environment will support the local currency in the near term.

Figure 11b: BOP and ∆GIR
Jan. 2014 – June 2017
($ million)

Fiscal deficit widens in June, H1 2017, likely to be sustained in July, H2. 2017 fiscal deficit forecast at 2.0% of GDP. A fiscal deficit was recorded for the second-consecutive month in June; its amount was P90.9 billion, bigger than its May level of P33.4 billion due to a mom decrease (increase) in government revenues (expenditures) (Figure 12a). On a yoy basis, the fiscal deficit surged 101% yoy in June on the back of a sharper growth in government expenditures (23% yoy) vis-à-vis government revenues (2% yoy). We think a fiscal deficit will again be posted for the month of July on the basis of sustained growth in government expenditures to be backed up by a pickup in infrastructure and capital outlays.

Figure 12a: Fiscal Indicators
Jan. 2016 – Jun. 2017
(PHP billion)

 In H1 2017, the fiscal deficit was P154.5 billion, 28% bigger than what it was a year ago amid bigger increase in government expenditures (9% yoy) vis-à-vis government revenues (7% yoy). As a share of projected GDP for the first half of 2017, we estimate the fiscal deficit to be at 2.1%, slightly above our full-year forecast of 2.0% and below the government’s 3.0% target for the year.

Under spending-the difference between programmed and actual spending by the government-was only P6 billion in the first half, a far cry from its 2016 level of P96 billion and 2010-2016 average of P164 billion (Figure 12b). We expect the current administration to continue its efforts of minimizing under spending for the rest of the year.

Figure 12b: Government’s Programmed, Actual, and Under Spending, 2010 – H1 2017
(PHP billion)

 FY2018 national budget of P3.767 trillion proposed to Congress, expected to be approved by year-end and to fuel 2018 GDP growth

Philippine president Rodrigo Roa Duterte submitted to Congress the national budget for fiscal year (FY) 2018 on 24 July. The proposed budget amounts to P3.767 trillion (21.6% of GDP), which is 12.4% bigger than the FY 2017 budget. The fiscal deficit is expected to stay at 3% of GDP for FY2018, similar to the current year. Government disbursements are expected to increase by 15.6% to P3.364 trillion next year, of which 84.4% (P2.841 trillion) will be financed by government revenues. Revenue growth for FY 2018 is projected at 17.0%. Government borrowings in FY 2018 are estimated at P888.2 billion, of which 80% will be sourced domestically and 20% externally.

Infrastructure and other capital outlays constitute P956.0 billion or 25.4% of the FY 2018 budget. This is the second-biggest expense item in the budget following personnel services (P1.1 trillion, which is equivalent to 29.4% of the budget). Other expense categories include allocation to local government units (P601 billion, 16% budgetary share); maintenance expenditures (P560.2 billion, 14.9%); debt burden (P370.8 billion, 9.8%) support to government-owned-and-controlled corporations (P170.3 billion, 4.5%).

Meanwhile, the government’s Build, Build, Build program has a budget for next fiscal year of P1.097 trillion (6.3% of GDP), which is 29.5% bigger than its FY 2017 budget. We believe the increased priority of the government on infrastructure development as showcased by a bigger infrastructure budget for 2018 will likely help fuel economic activity for the year. Coupled with buoyant domestic demand and healthy industrial and services production, we think GDP growth in 2018 will be stronger; as such, we penciled in a 2018 GDP growth forecast of 6.8%.

Philippine Economic Forecast Summary

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