Philippines more vulnerable to ‘super’ El Niño, Fed hike

THE PHILIPPINES may emerge as one of the more vulnerable Asian economies once the “super” El Niño hits and the US Federal Reserve tightens, with domestic uncertainties adding weight, MUFG Global Markets Research said.

In a report on Tuesday, MUFG Senior Currency Analyst Michael Wan flagged three risks for the Philippine economy including the potentially worst El Niño episode this year, an impending Fed rate hike and growing local policy uncertainty.

“For Asia FX (foreign exchange) and rates markets, we think there are at least three key risks which will have to be monitored closely, and will be a potential source of differentiation in asset prices moving forward,” Mr. Wan said.

“Certainly in Asia, India, Indonesia, and the Philippines could be more vulnerable when you look at the totality of all three risks combined…” he added.

The Philippine Atmospheric, Geophysical and Astronomical Services Administration (PAGASA) first raised an El Niño alert on April 22, which means “conditions are increasingly favorable for the development of El Niño in the coming months.”

The state weather bureau later reported that the probability of a moderate to severe dry spell casting the country from June until early next year is now at 92%. This is higher than the 79% chance it raised in late April.

Under El Niño conditions, the Philippines will experience drier-than-usual weather conditions, with increased risks of droughts, likely straining the already-struggling agricultural sector.

For Mr. Wan, the looming “super” El Niño could drive inflation even faster as it compounds the impact of high oil prices amid the Middle East war on the cost of local commodities.

Inflation hit an over three-year high of 7.2% in April, as elevated fuel prices made food and utilities costlier. This comes two months since the United States and Israel’s initial attack on Iran devastated major energy infrastructure and disrupted global oil trade via the closure of the Strait of Hormuz.

Meanwhile, Mr. Wan warned against the impact of potential rate increase by the Fed and higher US yields on the peso, though noted that a “hawkish” Fed is not their base case. 

In former Fed Chair Jerome H. Powell’s last policy meeting last month, the central bank kept its benchmark interest rates steady at the 3.5% to 3.75% range.

However, the Fed, now led by its Chair Kevin Warsh, is expected to steer towards the tightening path as markets priced in the US’ hotter-than-expected inflation print in April.

In theory, a Fed hike would strengthen the dollar and, in turn, cause the peso to weaken. 

At the same time, growing uncertainty surrounding domestic policy, which could result in larger capital outflows or lower inflows, may also weigh on the local currency and constrain future policy options, Mr. Wan noted.

The peso has been under pressure since the onset of the Middle conflict on Feb. 28, trading above the P61-a-dollar level from the P58 handle before the war. On May 18 and 19, it plummeted to a historic low finish of P61.75.

As of May 25, the local unit has declined by P3.80 or 6.59% since ending at P57.665 on Feb. 27, according to Bankers Association of the Philippines data. — Katherine K. Chan