SG 6: CENTRAL BANKING DEVELOPMENT AND GROWTH The story of central banking goes back at least to the

seventeenth century, to the founding of the first institution

 Central bank is regarded as an apex financial recognized as a central bank, the Swedish Riksbank.
institution in the banking system. It is considered as Established in 1668 as a joint stock bank, it was chartered to
an integral part of the economic and financial system lend the government funds and to act as a clearing house for
of a nation. commerce. A few decades later (1694), the most famous
 The central bank functions as an independent central bank of the era, the Bank of England, was founded
authority and is responsible for controlling, regulating also as a joint stock company to purchase government debt.
and stabilizing the monetary and banking structure of Other central banks were set up later in Europe for similar
a country. purposes, though some were established to deal with
 A central bank is the term used to describe the monetary disarray. For example, the Banque de France was
authority responsible for policies that affect a established by Napoleon in 1800 to stabilize the currency
country’s supply of money and credit. More after the hyperinflation of paper money during the French
specifically, a central bank uses its tools of Revolution, as well as to aid in government finance. Early
monetary policy—open market operations, discount central banks issued private notes which served as currency,
window lending, changes in reserve requirements—to and they often had a monopoly over such note issue.
affect short-term interest rates and the monetary base
(currency held by the public plus bank reserves) and FEATURES OF CENTRAL BANK
to achieve important policy goals.
 There are three key goals of modern monetary The functions of a central bank can be discussed in detail in
policy. the following lines.
1. The first and most important is price
1. Currency regulator or bank of issue: Central banks
stability or stability in the value of money.
possess the exclusive right to manufacture notes in an
Today this means maintaining a sustained
economy. All the central banks across the world are involved in
low rate of inflation.
issuing notes to the economy. This is one of the most important
2. The second goal is a stable real economy,
functions of the central bank in an economy and due to this the
often interpreted as high employment and
central bank is also known as the bank of issue. Earlier all
high and sustainable economic growth.
the banks were allowed to publish their own notes which
Another way to put it is to say that monetary
resulted in a disorganized economy. To avoid this situation the
policy is expected to smooth the business
government around the world authorized the central banks to
cycle and offset shocks to the economy.
function as the issuer of currency, which resulted in uniformity
3. The third goal is financial stability. This
in circulation and balanced supply of money in the economy.
encompasses an efficient and smoothly
running payments system and the prevention 2. Bank to the government: One of the important functions of
of financial crises. the central bank is to act as the bank to the government. The
central bank accepts deposits and issues funds to the
NATURE OF CENTRAL BANKING
government. It is also involved in making and receiving
The Basic Nature of Central Banking can be enumerated as payments for the government. Central banks also offer short
follows: term loans to the government in order to recover from bad
phases in the economy. In addition to being the bank to the
1. The Central Bank does not aim at profits but aims at government, it acts as an advisor and agent of the government
national welfare. by providing advice to the government in areas of economic
2. The Central Bank does not compete with the member policy, capital market, money market and loans from the
banks. government. In addition to that, the central bank is instrumental
3. The Central Bank has special relationship with in formulation of monetary and fiscal policies that help in
government and with commercial banks. regulation of money in the market and controlling inflation.
4. The Central Bank is generally free from political
influence. 3. Custodian of Cash reserves: It is a practice of the
5. The Central Bank is the apex body of the banking commercial banks of a country to keep a part of their cash
structure of the country. balances in the form of deposits with the central bank. The
6. The Central Bank should have overall control over the commercial banks can draw that balance when the
financial system. requirement for cash is high and pay back the same when
there is less requirement of cash. It is for this reason that the
DEFINITION OF CENTRAL BANKING central bank is regarded as the banker’s bank. Central bank
also plays an important role in the credit creation policy of
A Central Bank is an independent national authority that commercial banks.
conducts monetary policy, regulates banks, and provides
financial services including economic research. Its goals are to
stabilize the nation’s currency, keep unemployment low, and
prevent inflation.

ORIGIN OF CENTRAL BANK

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4. Custodian of International currency: An important function is not as effective as it is in advanced economies. Before
of the central bank is to maintain a minimum balance of foreign moving from monetary to inflation targeting, countries should
currency. The purpose of maintaining such a balance is to develop a framework to enable the central bank to target short-
manage sudden or emergency requirements of foreign term interest rates.
reserves and also to overcome any adverse deficits of balance
of payments. b. Foreign Exchange Regimes and Policies

5. Lender of last resort: The central bank acts as a lender of The choice of a monetary framework is closely linked to the
last resort by providing money to its member banks in times of choice of an exchange rate regime. A country that has a fixed
cash crunch. It performs this function by providing loans exchange rate will have limited scope for an independent
against securities, treasury bills and also by rediscounting bills. monetary policy compared with one that has a more flexible
This is regarded as one of the most crucial functions of the exchange rate. Although some countries do not fix the
central bank wherein it helps in protecting the financial exchange rate, they still try to manage its level, which could
structure of the economy from collapsing. involve a tradeoff with the objective of price stability. A fully
flexible exchange rate regime supports an effective inflation
6. Clearing house for transfer and settlement: Central bank targeting framework.
acts as a clearing house of the commercial banks and helps in
settling of mutual indebtedness of the commercial banks. In a c. Macroprudential Policy
clearing house, the representatives of different banks meet and
The global financial crisis showed that countries need to
settle the inter-bank payments.
contain risks to the financial system as a whole with dedicated
7. Controller of credit: Central banks also function as the financial policies. Many central banks that also have a
controller of credit in the economy. It happens that commercial mandate to promote financial stability have upgraded their
banks create a lot of credit in the economy that increases the financial stability functions, including by establishing
inflation. The central bank controls the way credit creation by macroprudential policy frameworks. Macroprudential policy
commercial banks is done by engaging in open market needs a strong institutional foundation to work effectively.
operations or bringing about a change in the CRR to control Central banks are well placed to conduct macroprudential
the process of credit creation by commercial banks. policy because they have the capacity to analyze systemic risk.
In addition, they are often relatively independent and
8. Protecting depositors’ interests: Central bank also needs autonomous. In many countries, legislators have assigned the
to keep an eye on the functioning of the commercial banks in macroprudential mandate to the central bank or to a dedicated
order to protect the interests of depositors. committee within the central bank.

SERVICES OF CENTRAL BANK THE BANGKO SENTRAL NG PILIPINAS

a. Monetary Policy The Bangko Sentral ng Pilipinas (BSP) is the central bank of
the Republic of the Philippines. It was established on 3 July
A key role of central banks is to conduct monetary policy to 1993 pursuant to the provisions of the 1987 Philippine
achieve price stability (low and stable inflation) and to help Constitution and the New Central Bank Act of 1993. The BSP
manage economic fluctuations. The policy frameworks within took over from the Central Bank of Philippines, which was
which central banks operate have been subject to major established on 3 January 1949, as the country’s central
changes over recent decades. monetary authority. The BSP enjoys fiscal and administrative
autonomy from the National Government in the pursuit of its
Since the late 1980s, inflation targeting has emerged as the
mandated responsibilities.
leading framework for monetary policy. Central banks in
Canada, the euro area, the United Kingdom, New Zealand, VISION
and elsewhere have introduced an explicit inflation target.
Many low-income countries are also making a transition from The BSP aims to be recognized globally as the monetary
targeting a monetary aggregate (a measure of the volume of authority and primary financial system supervisor that supports
money in circulation) to an inflation targeting framework. More a strong economy and promotes a high quality of life for all
recently, amidst growing concern about eroding policy space in Filipinos.
a context of lower equilibrium interest rates and falling inflation
expectations, major central banks have been reviewing their MISSION
monetary policy frameworks.
To promote and maintain price stability, a strong financial
Central banks conduct monetary policy by adjusting the supply system, and a safe and efficient payments and settlements
of money, generally through open market operations. For system conducive to a sustainable and inclusive growth of the
instance, a central bank may reduce the amount of money by economy.
selling government bonds under a “sale and repurchase”
BSP REGIONAL OFFICES AND BRANCHES
agreement, thereby taking in money from commercial banks.
The purpose of such open market operations is to steer short- The BSP has three regional offices performing cash
term interest rates, which in turn influence longer-term rates operations, cash administration, loans and rediscounting, bank
and overall economic activity. In many countries, especially supervision and gold buying operations. These regional offices
low-income countries, the monetary transmission mechanism are located in La Union, Cebu City and Davao City.

2
There are also 18 BSP branches situated in Batac (Ilocos The Bangko Sentral has supervision over the operations of
Norte), Tuguegarao City (Cagayan), Dagupan City banks and exercises such regulatory powers as provided in the
(Pangasinan), Cabanatuan City (Nueva Ecija), Angeles City New Central Bank Act and other pertinent laws over the
(Pampanga), Lucena City (Quezon), Naga City (Camarines operations of finance companies and non-bank financial
Sur), Legazpi City (Albay), Dumaguete City (Negros Oriental), institutions performing quasi-banking functions.
Bacolod City (Negros Occidental), Iloilo City (Iloilo), Kalibo
(Aklan), Tacloban City (Leyte), Cagayan de Oro City (Misamis 5. Payments and Settlements System Oversight
Oriental), Ozamiz City (Misamis Occidental), Cotabato City,
Payment systems are essential to the effective functioning of
General Santos City (South Cotabato) and Zamboanga City
financial systems worldwide. They provide the channels
(Zamboanga del Sur). They perform cash operations, cash
through which funds are transferred among banks and other
administration, and in certain areas, gold buying operations.
institutions to discharge payment obligations arising from
OBJECTIVES AND RESPONSIBILITIES OF THE BSP economic and financial transactions across the entire
economy. An efficient, secure and reliable payment system
Objectives of the BSP reduces the cost of exchanging goods and services, and it is
an essential tool for the effective implementation of monetary
The objectives of the BSP represents its three pillars namely policy, and the smooth functioning of money and capital
price stability, financial stability, and safe and efficient markets. It is this key role played by payment and settlement
payments and settlements system. The primary objective of systems (PSS) in the smooth functioning of an economy in
the Bangko Sentral is to maintain price stability conducive to a general and its financial and monetary system in particular that
balanced and sustainable growth of the economy and gives the central bank (CB) a strong incentive for ensuring that
employment. It shall also promote and maintain monetary an effective, reliable and secure payment and settlement
stability and the convertibility of the peso. system is in place.
The Bangko Sentral shall promote financial stability and closely 6. Currency Management
work with the National Government, including, but not limited
to, the Department of Finance, Securities and Exchange The BSP has the exclusive power and authority to issue the
Commission, the Insurance Commission, and the Philippine national currency. BSP’s notes and coins are issued against,
Deposit Insurance Corporation. and in amounts not exceeding, the assets of the BSP. All notes
and coins issued by the BSP are fully guaranteed by the
The Bangko Sentral shall oversee the payment and settlement government and are considered legal tender for all private and
systems in the Philippines, including critical financial market public debts.
infrastructures, in order to promote sound and prudent
practices consistent with the maintenance of financial stability. 7. Inclusive Finance

Responsibilities of the BSP In line with its strategic mandate to promote broad and
convenient access to high quality financial services and
The different functions of the Bangko Sentral ng Pilipinas consider the interest of the general public, the BSP undertakes
(BSP) includes: various programs and policy initiatives aimed at enhancing
financial inclusion, financial education, and consumer
1. Monetary policy
empowerment.
The primary objective of BSP's monetary policy is to promote a
8. Loans and Credit Operations
low and stable inflation conducive to a balanced and
sustainable economic growth. The adoption of inflation The BSP extends discounts, loans and advances to banking
targeting framework for monetary policy in January 2002 is institutions in order to influence the volume of credit consistent
aimed at achieving this objective. with objective of price stability and maintenance of financial
stability. It also grants loans or advances to banking institutions
2. Monetary Operations
in precarious financial condition or under serious financial
Monetary operations refer to the buying/selling of government pressures, subject to certain conditions.
securities, lending/borrowing against underlying assets as
9. International Reserves Management
collateral, acceptance of fixed-term deposits, foreign exchange
swaps, and the use of other monetary instruments of the The BSP maintains a healthy level of international reserves to
Bangko Sentral aimed at influencing the underlying demand provide liquidity support in times of volatility in the exchange
and supply conditions for central bank money. rate and balance of payments.
3. Systemic Risk Management 10. International Operations
The promotion of “Financial Stability” is a formal mandate that
is uniquely ascribed to the Bangko Sentral ng Pilipinas (BSP).
This is provided for in the amended BSP Charter (Republic Act
No. 11211) which was signed by President Duterte in February
2019.

4. Financial Supervision
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The BSP’s mandate on international operations under the money, in the sense that the value of money remains
purview of the International Operations Department is to stable over time.
support the promotion and maintenance of price stability,  The Hayekian view on the money supply and/or the
external sustainability, and the integrity and value of the competitive private banking led to an ongoing debate
Philippine peso through the effective management of external over this issue
debt, foreign investments and other foreign exchange (FX)
transactions. CENTRAL BANK

11. International Economic Cooperation  Vera Smith (1936), using the position of Walter
Bagehot (1873) that competitive commercial banking
The BSP’s proactive engagement in various regional and was a ‘natural system’, preferred in theory ‘free
international fora significantly contributed to domestic policy banking.
formulation; assured partners through established crisis  The mere existence of a central bank represents a
prevention safety nets; broadened opportunities offered by standing temptation for the monetary authorities to
financial integration and cooperation agreements; and raised change the rules of the game and to debauch the
skills and knowledge through capacity building initiatives. currency.
 A free banking system would be inherently stable and
12. Economic Education
perform satisfactorily, while a central bank in a free-
The BSP’s Economic Education Portal provides the general market economy would represent an undesirable
public a guided access on the BSP’s collection of information intervention into the affairs of the banking industry.
on economic education for them to better understand and
FREE BANKING
appreciate the role of the BSP, as the country’s central bank, in
the Philippine economy. As the portal strategically presents the  Free banking is associated with free trade
BSP’s available learning materials, it aims to develop and  Free banking arises out of a distrust of the
strengthen the public’s knowledge on economic concepts that government’s management of the fiat monetary
could eventually guide them in making sound economic and system. (Political Economy Framework)
financial decisions.
 The major argument against free banking is inflation.
 The idea of free banking did not capture the idea of
policy makers
PPT: CENTRAL BANKING IN THE ASIA-PACIFIC: AN  Central banks were established with a sense of
OVERVIEW urgency (Laidler, 2005).
 The gold standard did not survive beyond WWI
CENTRAL BANK
 The role of monetary policy was not merely to
 Central banks are entrenched as powerful national maintain price stability but was broadened to include
institutions with direct control of monetary policy for output and employment
numerous countries.  The broader role for monetary policy was a welcome
 Some prominent economists, such as Milton relief for policy-makers. From the 1960s and 1970s,
Friedman and Frederick Hayek, opposed other functions were assigned to the central banks,
discretionary monetary policy for economic referred to as ‘central banking functions’.
stabilization (Friedman, 1959a; Hayek, 1933; 1978).
EVOLUTION OF CENTRAL BANKING
MILTON FRIEDMAN
 Central banking originated in Europe in the second
 Friedman (1959a: 6–7) advocated a ‘constant money half of the seventeenth century
supply growth rule’ for price stability, that is, keeping  The Swedish Riksbank was founded in 1664, the
the rate of inflation low and stable, by increasing Bank of England was founded in 1694, the Banque de
money supply in line with the increase in money France was founded in 1800 and the Netherlands
demand from increased output. Bank was founded in 1814. Until such central banks
 Friedman argued for the necessity of a central bank were established, the ‘Royal Treasury’ or a large
because it bears the responsibility of maintaining the commercial bank performed central banking functions
sanctity of financial contracts, the prevention of frauds (Bordo, 2007).
and the working of a monetary system in an uncertain  At the beginning of the twentieth century, there were
world in which information is costly and scarce. only 18 central banks in the world (Capie, 1997). By
1950, there were 59 central banks and, by 2000,
FREDERICK HAYEK there were 174 central banks globally (Cecchetti,
2008).
 Hayek (1978), in contrast, argued for free competition  The original impetus for the establishment in Europe
in the provision of money by competitive commercial of the first central banks came from two sources.
banks.
 First, under the pressure of financing war, the
 He hypothesized that a system of competing private
governments realized that, in exchange for their
monies would be better at providing high-quality support for specific private banks, they could obtain

4
 favorable financial assistance and advantages from 1. Monetary Policy
these banks. 2. Foreign Exchange Regimes and Policies
 Second, the purpose for establishing early central 3. Macroprudential Policy
banks was to unify the note-issuing system, manage
and protect the precious metal reserves of the RESPONSIBILITIES OF THE BSP
country, and improve the payments system. The different functions of the Bangko Sentral ng Pilipinas
 Once the central banking institutions gained the (BSP) includes:
privileged legal position as both the bankers to the
government and having the authority to issue notes, 1. Monetary policy
they assumed the role of bankers’ banks. 2. Monetary Operations
 Their privileged position gained the trust of other 3. Systemic Risk Management
private banks, with respect to holding reserves for 4. Financial Supervision
emergencies. 5. Payments and Settlements System Oversight
 In countries where there were no central banks, 6. Currency Management
quasi-central banking mechanisms were developed. 7. Inclusive Finance
 Some financial institutions became the source of 8. Loans and Credit Operations
emergency funds for the private banks that enabled 9. International Reserves Management
them to economize on their reserve holdings. 10. International Operations
 This overview reveals that although there were 11. International Economic Cooperation
political factors behind the establishment of central 12. Economic Education
banks, the need for, and the emergence of, central
MONETARY POLICY
banking was a natural phenomenon.
 Government interventions created specific central The primary objective of BSP's monetary policy is to promote a
banks, or else endowed pre-existing banks with low and stable inflation conducive to a balanced and
monopoly power to issue notes and any government sustainable economic growth.
banking privileges.
 Central banks’ position as the source of liquidity for The adoption of inflation targeting framework for monetary
the banking system meant that they gradually became policy in January 2002 is aimed at achieving this objective.
increasingly tied both to the health of the banking
INFLATION TARGETING: THE BSP’S APPROACH TO
system and the monetary condition of the economy.
MONETARY POLICY
 This created conflicts between the broader financial
concern of central banks and their commercial Open Market Operations
banking operations.
 Central banks eventually moved out of their  Raising or lowering the overnight reverse repurchase
commercial activities and concentrated on central rate RRP rate (policy rate) or rate at which BSP
banking functions. borrows from banks and eligible financial institutions
using its holdings of government securities as
CENTRAL BANKS IN THE ASIA PACIFIC collateral
 Issuance of BSP securities to absorb excess liquidity
 Central banks in the former British colonies of Asia
from the financial system by locking funds in longer-
were established after their national independence.
term monetary instruments
 These banks have organizational structures and
 Outright sale or purchase of government securities
functions similar to those of the Bank of England.
 Central banks and other financial institutions were Acceptance of Term Deposits
also linked to development initiatives that most Asian
developing countries undertook after their  Offering term deposits to absorb liquidity
independence.
Standing Liquidity Facilities
 Since the 1990s most Asian central banks have
curtailed their developmental activities.  Offering standing liquidity (deposit and lending)
FEATURES OF CENTRAL BANK windows to absorb or provide liquidity at the initiative
of the counterparty
1. Currency regulator or bank of issue
2. Bank to the government Other Liquidity Management Facilities
3. Custodian of Cash reserves  Increasing/decreasing the reserve requirement or
4. Custodian of International currency the percentage of bank deposits and deposit
5. Lender of last resort substitute liabilities that banks must set aside in
6. Clearing house for transfer and settlement deposits with the BSP which they cannot lend out, or
7. Controller of credit where available through reserve-eligible government
8. Protecting depositors’ interests securities
SERVICES OF CENTRAL BANK

5
  Adjusting the rediscount rate on loans extended to implementation of monetary policy, and the smooth
financial institutions on a short-term basis against functioning of money and capital markets.
eligible collateral of banks' borrowers.  It is this key role played by payment and settlement
system (PSS) in the smooth functioning of an
MONETARY OPERATIONS economy in general and its financial and monetary
system in particular that gives the central bank (CB) a
Monetary operations refer to the implementation of monetary
strong incentive for ensuring that an effective, reliable
policy. To ensure that the monetary policy decision is
and secure payment and settlement system is in
transmitted to the financial market and the economy in general,
place.
the BSP uses its suite of monetary instruments to influence the
underlying demand and supply conditions for central bank PAYMENTS AND SETTLEMENTS SYSTEM OVERSIGHT
money.
In the Philippines, the BSP takes the lead in promoting an
Monetary operations refer to the buying/selling of government efficient payments and settlements system by providing:
securities, leading/borrowing against underlying assets as
collateral, acceptance of fixed term deposits, foreign exchange  the necessary infrastructure through the operations of
swaps, and the use of other monetary instruments of the the Peso Real Time Gross Settlement (RTGS)
Bangko Sentral aimed at influencing the underlying demand System or the PhilPaSSplus; and
and supply conditions for central bank money.  a policy and regulatory framework, also known as the
National Retail Payment System or NRPS, to
SYSTEMIC RISK MANAGEMENT
establish a safe, efficient and reliable retail payment
The promotion of “Financial Stability” is a formal mandate that system in the country.
is uniquely ascribed to the Bangko Sentral ng Pilipinas (BSP).
PESO REAL TIME GROSS SETTLEMENT PAYMENT
This is provided for in the amended BSP Charter (Republic Act
SYSTEM
No. 11211) which was signed by President Duterte in February
2019. The PhilPaSSplus is the lone Peso Real-Time Gross
Settlement (RTGS) system in the Philippines, owned and
The objective of “Financial Stability” is to enhance the
operated by the Bangko Sentral ng Pilipinas (BSP) in
resilience of the financial system, in its totality and in its
accordance with its authority under the National Payment
components, from shocks. This is done by managing systemic
Systems Act. An RTGS system provides instant settlement of
risks that could affect the financial system so that finance
payments, transfer instructions, or other obligations individually
continues to be a value proposition to consumers in normal
on a transaction-by-transaction basis.
times while remaining resilient when disruptions do arise. This
is the overarching global norm in financial system oversight. The PhilPaSSplus enables the efficient and low-risk settlement
of large value funds transfers between financial institutions. It
Given its different objective, not all bank-specific vulnerabilities
also facilitates the settlement of fixed income security trades,
are “systemic” just as macroprudential issues cover other
FX trades, and other financial market transactions. By settling
issues beyond banking. And since macroprudential policy
retail payment clearing results, the PhilPaSSplus ensures that
focuses on interlinked risk behaviors, its concern can extend
individuals, businesses and the government can securely send
beyond liquidity or inflation. Welfare consideration, in particular,
and receive money through several channels – check, ATM,
is handled differently in macroprudential policy because
InstaPay and PESONet. It operates daily from 9:00AM to
adverse outcomes have a greater impact on society than when
5:45PM, Mondays through Fridays.
expected outcomes are likely to be buoyant.
NATIONAL PAYMENT SYSTEMS ACT (NPSA)
FINANCIAL SUPERVISION
Republic Act No. 11127, or the National Payment Systems Act
The Bangko Sentral has supervision over the operations of
(NPSA), provides a comprehensive legal and regulatory
banks and exercises such regulatory powers as provided in the
framework which supports the twin objectives of maintaining a
New Central Bank Act and other pertinent laws over the
payment system that is necessary to control systemic risk and
operations of finance companies and non-bank financial
providing an environment conducive to the sustainable growth
institutions performing quasi-banking functions.
of the economy.
PAYMENTS AND SETTLEMENTS SYSTEM OVERSIGHT
A payment system provides the channels through which funds
 Payment systems are essential to the effective are transferred among banks and other institutions to
functioning of financial systems worldwide. discharge payment obligations arising from economic and
financial transactions across the entire economy. An efficient,
 They provide the channels through which funds are
secure and reliable payment system reduces the cost of
transferred among banks and other institutions to
exchanging goods and services. It is an essential tool for the
discharge payment obligations arising from economic
effective implementation of monetary policy, and the smooth
and financial transactions across the entire economy.
functioning of money and capital markets.
 An efficient, secure and reliable payment system
reduces the cost of exchanging goods and services, The NPSA mandates the BSP to oversee payment systems in
and it is an essential tool for the effective the Philippines and exercise supervisory and regulatory

6
powers for the purpose of ensuring the stability and in precarious financial condition or under serious financial
effectiveness of the monetary and financial system. pressures, subject to certain conditions.

CURRENCY MANAGEMENT The BSP's rediscount facilities have two categories, namely
Peso Rediscount Facility and Exporters' Dollar and Yen
 The BSP has the exclusive power and authority to Rediscount Facility, which are administered by the Department
issue the national currency. of Loans and Credit (DLC)
 BSP’s notes and coins are issued against, and in
amounts not exceeding, the assets of the BSP. LOANS AND CREDIT OPERATIONS
 All notes and coins issued by the BSP are fully
Rediscounting
guaranteed by the government and are considered
legal tender for all private and public debts.  Rediscounting is a standing credit facility provided
by the BSP to help banks meet temporary liquidity
THE PHILIPPINE CASH CYCLE
needs by refinancing the loans they extend to their
Production of Currency clients.
 Through the facility, the BSP also makes possible the
Philippine coins and banknotes are mostly produced in the timely delivery of credit to all productive sectors of the
BSP Security Plant Complex (SPC). Over the past four economy.
decades, the SPC has become a world-class producer of  Moreover, rediscounting is one of the monetary tools
quality coins and notes. It has overseen the design, production of the BSP to regulate the level of liquidity in the
and issuance of four generations of legal tender Philippine financial system.
currency  The BSP’s rediscounting is administered by the
Issuance, Distribution and Retirement Department of Loans and Credit.

The Philippine cash cycle involves issuance of new coins and Overdraft Credit Line
notes, distribution to the regions of the country, and retirement  The BSP also makes available an overdraft credit line
of unfit currency. The BSP adopts a Clean Note and Coin
(OCL) to banks participating directly in the clearing
Policy for the effective removal of unfit currency in circulation
operations of the Philippine Clearing House
as a means to maintain the integrity of Philippine banknotes
Corporation to cover shortfalls in the banks’ demand
and coins.
deposit accounts with the BSP arising from clearing
Currency in Circulation operations.
 The BSP imposes a ceiling on the amount of overdraft
The annual volume/value of currency issued is based on a bank may incur due to failure to cover clearing
currency demand that is estimated from a set of economic losses through interbank borrowings and/or
indicators which generally measure the country’s economic repurchase agreements with BSP.
activity. The total amount of banknotes and coins that the BSP  The ceiling is defined as the sum of clean OCL
may issue should not exceed the total assets of the BSP. equivalent to 15% of the bank’s rediscounting line
with BSP and the collateralized OCL that will be
INCLUSIVE FINANCE extended by the BSP.
 Financial inclusion is a state wherein there is effective Emergency Loan
access to a wide range of financial services for all,
especially the vulnerable sectors.  The BSP also extends financial assistance to banking
 Financial inclusion lays the groundwork for institutions in the form of fully secured Emergency
sustainable and equitable national development. Loan as a temporary remedial measure to help
 The goal of financial inclusion does not end in solvent banks overcome their liquidity problems
providing universal access to financial services but in arising from causes beyond their control, pursuant to
ensuring that these services truly enhance the well- Section 84 of R.A. No. 7653, as amended by R.A. No.
being of their users. 11211.
 When people are financially included and realize their  The assistance shall be limited to the amount needed
stake in national prosperity, they are empowered to by the applicant bank to overcome the emergency or
make better, informed choices when it comes to their financial predicament but shall not exceed 50% of its
financial welfare and future. deposits and deposit substitutes and provided that
 In turn, they are able to make sound decisions that any emergency advance should be collateralized by
raise their productivity and standard of living. government securities and other unencumbered first-
class collaterals (primarily real estate).
LOANS AND CREDIT OPERATIONS
INTERNATIONAL RESERVES MANAGEMENT
The BSP extends discounts, loans and advances to banking
institutions in order to influence the volume of credit consistent The BSP maintains a healthy level of international reserves to
with objective of price stability and maintenance of financial provide liquidity support in times of volatility in the exchange
stability. It also grants loans or advances to banking institutions rate and balance of payments.

7
INTERNATIONAL OPERATIONS  Coordinates the TA needs of the BSP with TA
providers on monetary and financial issues, and
 The BSP’s mandate on international operations under provides TA to senior BSP officials attending
the purview of the International Operations international meetings.
Department is to support the promotion and  Coordinates the BSP's hosting of, and participation in,
maintenance of price stability, external sustainability, conferences and meetings with multilateral, regional
and the integrity and value of the Philippine peso and bilateral counterparts.
through the effective management of external debt,
foreign investments and other foreign exchange (FX) The Association of Southeast Asian Nations (ASEAN)+3
transactions. Macroeconomic Research Office (AMRO) is a regional
 Such mandate is supported by the 1987 Philippine macroeconomic surveillance organization that aims to
Constitution and various issuances, regulations and contribute to securing the macroeconomic and financial
laws such as the Foreign Borrowings Act [Republic stability in the ASEAN+3 region. Initially. established as a
Act (R.A.) No. 4860, as amended], the BSP Charter company limited by-guarantee in Singapore in April 2011,
(R.A. No. 7653, as amended by R.A. No. 11211) and AMRO focuses on three core functions: (1)_conducting
the Foreign Investments Act (R.A. No. 7042). macroeconomic surveillance,_(2) supporting the
implementation of the Chiang Mai Initiative Multilateralisation
INTERNATIONAL OPERATIONS (CMIM); and (3)_providing technical assistance to members.
 Foreign Exchange Regulations The Asia-Pacific Economic Cooperation (APEC),comprised
 Approval/Registration of foreign/foreign currency of 21 Member Economies, operates as a cooperative,
loans/borrowings multilateral economic and trade forum. Established in 1989, it
 Registration of foreign investments is committed to reducing barriers to trade and investment
 Monitoring and analysis of external debt and foreign without requiring its members to enter into legally binding
investments obligations. APEC achieves its goals by promoting dialogue
and arriving at decisions on a consensus basis, giving equal
INTERNATIONAL ECONOMIC COOPERATION weight to the views of all members. The APEC Member
Economies report progress towards achieving free and open
International relations and surveillance department
trade and investment goals through Individual Action Plans and
KEY FUNCTIONS Collective Action Plans

INTERNATIONAL & REGIONAL FORUMS The Asian Development Bank (ADB) is committed to
achieving a prosperous, inclusive, resilient, and sustainable
 Engages in international and regional forums Asia and the Pacific, while sustaining its efforts to eradicate
 Formulates and recommends position/ stance on extreme poverty. It assists its members and partners by
global/regional economic, monetary, and financial providing loans, technical assistance, grants, and equity
issues. investments to promote social and economic development.
ADB is currently composed of 68 member countries, 49 of
SURVEILLANCE which are from the Asia and Pacific region.
 Develops and maintains model-based international The Association of the Southeast Asian Nation (ASEAN) is
surveillance tools and frameworks a political and economic organization aimed primarily at
 Identifies emerging topics from global and regional promoting economic growth, active collaboration, mutual
trends assistance, and regional peace and stability among its
 Monitors international developments on monetary and members. ASEAN is currently. composed of ten (10) member
financial cooperation states: Brunei Darussalam, Cambodia, Indonesia, Lao PDR.
Malaysia, Myanmar, Philippines, Singapore, Thailand, and Viet
FINANCIAL SAFETY NETS Nam.
 Facilitates the BSP's/Philippines' participation in The ASEAN+3 Finance Process aims to strengthen policy
global, regional, and bilateral financial safety nets dialogue, coordination, and collaboration on common financial,
POLICY DIALOGUES & NEGOTIATIONS monetary, and fiscal issues. When it was established tho
Process has four components: (i) the Economic Review and
 Facilitates the BSP's active engagement in policy Policy Dialogue (ERPD); (ii) the Chiang Mai Initiative (CMI); (i)
dialogues among monetary authorities and financial the Asian Bond Markets Initiative (ABMI); and (iv) the
sector regulators on recent economic and financial ASEAN+3 Research Group. In the last decade, the
developments components has evolved into three major elements: (a) the
 Facilitates and/or negotiate the BSP’s participation ASEAN+3 Macroeconomic Research Office (AMRO); (b) the
and commitment in various international agreements Chiang Mai Initiative Multilateralisation (CMIM); and (c) the
ABMI. The membership of the ASEAN+3 encompasses the ten
COORDINATION OF TECHNICAL ASSISTANCE (TA) AND ASEAN Member States plus China, Japan and Korea.
EVENTS

8
The BIS is an international organization with headquarters in (3) giving practical help to members through technical
Basel, Switzerland that aims to foster international monetary assistance and trainings. The Philippines is a member of the
and financial cooperation and serves as the bank for Central IMF since 1945 and the BSP Governor serves as the
Banks (CBs). BIS is composed of 62 central banks. The BIS Philippine Governor to the IMF Board of Governors. The
fulfills its mandate by acting as:(1) a forum for discussion and Philippines is represented in the IMF Executive Board though
decision-making among CBs; (2) a centre for economic and the Southeast Asia Voting Group(SEAVG) Constituency
monetary research; (3) a prime counterparty for CBs in their
financial transactions; and (4) agent or trustee in connection The Official Monetary and Financial Institutions Forum
with international financial operations. (OMFIF) is an independent think tank for central banking,
economic policy and public investment, providing a neutral
CEMLA is the association of central banks of Latin America platform for public and private sector engagement worldwide.
and the Caribbean that aims to promote a better understanding Established in 2010, OMFIF focuses on alobal policy and
of monetary and banking matters; help with improving the investment themes relating to centra banks, sovereign funds,
training of central bank staff; conduct research and pension funds, regulators and treasuries, with offices based in
systematize the results; and provide information to members London, Singapore and the United States.
about events of international and regional interest in the areas
of monetary and financial policies. Based in Mexico City, at The SEACEN Centre has envisioned itself to be the regional
present, CEMLA is composed of 51 member institutions, 30 of learning hub for central banks (CBs) in the Asia-Pacific Region.
which are Associate members and the rest are Collaborating It aims to build capacity in central banking and foster
members (11 central banks from other regions and 10 financial networking and collaboration. The SEACEN Centre is
institutions). composed of 19 regular member of CB’s each of which is
represented in the SEACEN Board of Governors. Meanwhile,
EMEAP is a cooperative organization of centra banks and the Centre has an outreach of 16 other CBs which are invited
monetary authorities in the East Asia and Pacific region, with to the Centre's learning programmer.
the primary objective of strengthening cooperation on
monetary and Central banking issues among its members The WB is a global financial institution that aims to reduce the
EMEAP is currently composed of 11 member central banks: share of the global population living in extreme poverty to 3
People's Bank of China; Hong Kong Monetary Authority; Bank percent by 2030 and promote shared prosperity by increasing
Indonesia; Bank of Japan; Bank of Korea; Bank Negara the incomes of the poorest 40 percent of people in every
Malaysia; Reserve Bank of New Zealand; Bangko Sentral ng country. Comprised of 189 member countries, the WB offers
Pilipinas; Monetary Authority of Singapore; and Bank of financing instruments through investment project financing,
Thailand. development policy financing, program-for results, trust funds
and grants, private sector options, customized options and risk.
IIF is a global association of the financial institutions that aims Reimbursable Advisory Services, Economic and management
to support the financial industry in the prudent management of and multiphase programmatic approach. It also offers technical
risks; to develop sound industry practices; and to advocate for Assistance, Sector Work, Business advice and Donor aid
regulatory, financial and economic policies that are in the broad coordination.
interests of its members and foster global financial stability and
sustainable economic growth. IIF has over 450 members from The World Trade Organization (WTO) is the only global
more than 70 countries around the globe. international organization dealing with the rules of trade
between nations. At its heart are the WTO agreements,
The Intergovernmental Group of Twenty-Four on negotiated and signed by the bulk of the world's trading nations
International Monetary Affairs and Development(G-24) is a and ratified in their parliaments. The goal is to ensure that
global forum of 28 members that coordinates the position of trade flows as smoothly, predictably and freely as possible. The
developing countries on monetary and development issues in WTO has over 160 members representing 98 percent of world
the deliberations and decisions of the Bretton Woods trade and over 20 countries are seeking to join the WTO.
Institutions (BWI). In particular, the G-24 focuses on issues on
the agendas of the International Monetary and Financial The SEANZA is composed of 20 member countries: Australia,
Committee (IMFC) an/ MTie Development Committee (DC) ae India, New Zealand, Pakistan, Sri Lanka, Bangladesh, People's
woll a6i other relevant international fora. Member countries Republic of China, Hong Kong, China, Indonesia, Iran, Japan,
include: Algeria; Argentina; Brazil; Colombia; Congo; Cote Republic of Korea, Malaysia, Macau, China, Mongolia, Nepal,
D'ivoire; Ecuador; Egypt; Ethiopia; Gabon; Ghana; Guatemala; Papua New Guinea, Philippines, Singapore, and Thailand.
Haiti; India; Iran; Kenya; Lebanon; Mexico; Morocco; Nigeria; SEANZA was formed to promote cooperation among central
Pakistan; Peru; Philippines; South Africa; Sri Lanka; Syria; banks by-providing intensive and systematic training courses
Trinidad and Tobago; and Venezuela. China attends as a for central bank staffs. Training courses are held biennially with
special. a rotating system of host members.

The IMF is an international organization of 189 member ECONOMIC EDUCATION

countries and its fundamental mission is to ensure the stability
 The BSP’s Economic Education Portal provides the
of the international monetary system. It does so in three ways:
general public a guided access on the BSP’s
(1) keeping track of the global economy and the economies of
collection of information on economic education for
member countries through annual Article IV consultations; (2)
them to better understand and appreciate the role of
lending to countries with balance of payments difficulties; and

9
 the BSP, as the country’s central bank, in the WRITTEN REPORT 6: CENTRAL BANKING IN THE ASIA-
Philippine economy. PACIFIC: AN OVERVIEW
 As the portal strategically presents the BSP’s
available learning materials, it aims to develop and CENTRAL BANKS are entrenched as powerful national
strengthen the public’s knowledge on economic institutions with direct control of monetary policy for numerous
concepts that could eventually guide them in making countries. This is significant because until the late twentieth
sound economic and financial decisions. century, economists debated whether there was need for a
central bank (Laidler, 2005). This debate has been linked to the
WHY DO CENTRAL BANKS PROVIDE ECONOMIC AND issue of whether there is a role for discretionary monetary
FINANCIAL EDUCATION? policy in economic stabilization. Some prominent economists,
such as Milton Friedman and Frederick Hayek, opposed
ECONOMIC AND FINANCIAL EDUCATION discretionary monetary policy for economic stabilization
(Friedman, 1959a; Hayek, 1933; 1978). Following the tradition
 enhance effectiveness of monetary policy
of the gold standard that put a natural limit to the growth of the
 ensure smooth functioning of financial markets money supply, they argued for a rule-based monetary policy in
 support sustainable economic policies a fiat monetary system so that monetary policy can achieve
 promote economic and financial literacy as public price stability and create an environment for rapid economic
good growth (Friedman, 1991). They did not, however, maintain a
 promote financial inclusion common view on whether a central bank is needed once
 build and reputation promote acceptance policies monetary policy is conducted by adopting a policy rule.

FINANCIAL EDUCATION FRIEDMAN (1959A: 6–7) advocated a ‘constant money supply

growth rule’ for price stability, that is, keeping the rate of
 Process of systematic instruction to increase financial inflation low and stable, by increasing money supply in line with
literacy and capability. the increase in money demand from increased output.
FINANCIAL LITERACY Although such a rule may not be optimal, it was considered
necessary for an effective check on the behavior of policy-
 Level of knowledge about financial concepts and makers and to act as a yardstick to ensure accountability of a
principles central bank.

FINANCIAL CAPABILITY Friedman argued for the necessity of a central bank because it
bears the responsibility of maintaining the sanctity of financial
 Application of financial literacy in financial decision contracts, the prevention of frauds and the working of a
making monetary system in an uncertain world in which information is
costly and scarce. The need for a central bank in the USA, in
FINANCIAL HEALTH AS OUR ULTIMATE OBJECTIVE particular, originated from frequent bank failures (Mishkin and
A financially healthy person... Eakins, 2006).

HAYEK (1978), in contrast, argued for free competition in the

 Plans and prioritizes needs over wants
provision of money by competitive commercial banks. He
 Uses a range of financial tools, products and services
hypothesized that a system of competing private monies would
 Manages debts and has economic shocks access to
be better at providing high-quality money, in the sense that the
potential resources
value of money remains stable over time. If citizens of a
 Balances income and expenses country are free to hold alternative monies, then private
 Manages and recovers from financial and economic monies, as Hayek predicted, would outperform central bank
shocks monies in purchasing-power stability and dominate them in
 Builds wealth and maintains reserves popularity. In such a monetary system, there is no need for a
central bank (Selgin, 1988; Selgin and White, 1987). The
INVESTOR RELATIONS GROUP (IRG)
Hayekian view on the money supply and/or the competitive
 The Investor Relations Group (IRG) of the Bangko private banking led to an ongoing debate over this issue. Smith
Sentral ng Pilipinas (BSP, the Central Bank of the (1936), using the position of Bagehot (1873) that competitive
Philippines) was created in July 2001 to raise the commercial banking (with each bank holding its own reserves
Philippine government’s credit profile and promote the of gold) was a ‘natural system’, preferred in theory ‘free
country as a viable investment destination. banking’ (that is, banking freed from the interference of a
 Now under BSP’s Strategic Communication and central bank). She opined that the mere existence of a central
Advocacy, the core of IRG’s mandate is to bank (even if it follows certain rules of conduct) represents a
communicate before an international audience key standing temptation for the monetary authorities to change the
messages on the strengths of the Philippine economy, rules of the game and to debauch the currency. According to
including sound macroeconomic fundamentals, her, a free banking system would be inherently stable and
improved investment climate, game-changing policy perform satisfactorily, while a central bank in a free market
reforms, and long-term economic growth potential. economy would represent an undesirable intervention into the
affairs of the banking industry.

10
In a broad sense, the idea of free banking is concomitant with are then introduced, followed by a discussion on some
the argument for free trade. Following the tradition in institutional and organizational issues in Asian central banking.
international economics that free trade and unhindered
competition are beneficial to an economy, it is argued that the EVOLUTION OF CENTRAL BANKING
banking industry should not be seen as something special that
Central banking originated in Europe in the second half of the
justifies imposition upon private banks of outside controls,
seventeenth century (Collins, 1992a; 1992b; Fischer, 1994).
regulations or supervision. In a free-banking system, central
The Swedish Riksbank was founded in 1664, the Bank of
banks therefore become superfluous.
England was founded in 1694, the Banque de France was
Within a political economy framework, the idea of free banking, founded in 1800 and the Netherlands Bank was founded in
however, arises out of a distrust of the government’s 1814. Until such central banks were established, the ‘Royal
management of the fiat monetary system. Historically, central Treasury’ or a large commercial bank performed central
banks were established in the seventeenth and eighteenth banking functions (Bordo, 2007). Central banking in its present
centuries to provide credits to the government on subsidized form is a recent phenomenon. At the beginning of the twentieth
terms. In turn, governments rewarded the central banks with century, there were only 18 central banks in the world (Capie,
monopoly rights to issue notes (Goodhart, 1988). The major 1997). By 1950, there were 59 central banks and, by 2000,
concern was that under a fiat monetary system, central banks there were 174 central banks globally (Cecchetti, 2008).
(without effective constraints) would have the temptation to
GOODHART (1988) suggests that central banks evolved as a
engineer deflation (J.M. Keynes), or inflation (F.A. Hayek), or
response to the private banks’ inability to cope with recurrent
business cycles.
banking panics, thereby representing a natural evolution. At the
The MAJOR ARGUMENT against free banking is that free early stages of central banking evolution, some prominent
banking could induce inflation because individual banks may private banks (in the course of their businesses) acted as the
have the incentives and opportunities to debase the liabilities government bankers and/or for the ruling elite of the society.
at the expense of an ill-informed public. The proponents of the These banks later graduated into central banks. Smith (1936)
free banking system do not agree with this view. Instead, they argued that central banks evolved essentially as a tool for
argue that central banks, acting as an agent of the raising revenues for the government. She did not, however,
government, have the incentives and opportunities to debase say much about the role of central banks as the lender of last
the liabilities. resort.

LAIDLER (2005) argues that a fully developed free banking BORDO AND REDISH (1987) argue that the origin of the Bank
system would deliver price-level stability, not because any of Canada, for example, was political, as there was no
central agency decreed it, but because the self-interest of economic rationale for its establishment. In the literature on
individual banks operating in a competitive environment would central banking, economists have usually provided both
lead them towards such an outcome. economic and political interpretations for the origins of central
banking.
The idea of free banking, however, did not capture the
imagination of policy-makers in developed or developing The original impetus for the establishment in Europe of the first
countries. Central banks were established in these countries central banks came from TWO SOURCES. First, under the
with a sense of urgency. There were a number of reasons. pressure of financing war, the governments realized that, in
First, the gold standard did not survive beyond the First World exchange for their support for specific private banks, they
War, thus necessitating a reliance on fiat money. Second, the could obtain favorable financial assistance and advantages
role of monetary policy was not merely to maintain price from these banks. Such favoritism (supported by legislation)
stability but was broadened to include output and employment led to the transformation of a private bank into a central bank.
(Laidler, 2005). The Bank of England and a specially established bank such as
the Prussian State Bank are two prime examples (Goodhart,
The broader role for monetary policy was a welcome relief 1988; 1992; Santoni, 1984; Swinburne and Castello-Branco,
for policy-makers. From the 1960s and 1970s, other functions 1991). Second, the purpose for establishing early central
were assigned to the central banks, referred to as ‘central banks was to unify the note-issuing system, manage and
banking functions’. These include note issue and the protect the precious metal reserves of the country, and improve
supervision and regulation of the financial system. Over the the payments system. This was the case for Germany, Italy
years, central banks in most countries have gained the status and Switzerland.1 Prior to this development, the regionalized
of a national institution that instigates monetary and financial note-issuing systems of these countries were costly and
stability (Mizen, 2003). Financial stability is seen as a inefficient. A unified note-issuing system brought economic
requirement for sustained economic growth. Hence central benefits such as economies of scale and increased confidence
banks have been given the responsibility for financial stability, of the public in the note-issuing system. In addition, there were
in conjunction with price stability (Siklos, 2002). political attractions for the establishment of central banks, in
the sense of having the sovereigns’ access to seigniorage
Having established the crucial role of central banks in modern (Swinburne and Castello-Branco, 1991). In Japan, one urgent
economics, the rest of this chapter reviews the evolution of task facing the new government after the Meiji restoration in
central banking and the functions of central banks in a 1868 was to reform the chaotic currency system with
historical context. The major central banks in the Asia-Pacific inconvertible government money and coins, in conjunction with
different kinds of private monies. After unsuccessful reform

11
attempts, the note-issuing system was centralized in the hands commercial banking operations. Central banks eventually
of the Bank of Japan (central bank of Japan), which was moved out of their commercial activities and concentrated on
founded in 1882 (Giannini, 1995). central banking functions. For example, the Bank of England
and the Banque de France undertook this transformation
Once the central banking institutions gained the privileged during the second half of the nineteenth century. Central banks
legal position as both the bankers to the government and established in the twentieth century were set up as entirely
having the authority to issue notes, they assumed the role of new and non-competitive institutions. They followed the
bankers’ banks. Their privileged position gained the trust of traditions of their European forerunners. Where this was not
other private banks, with respect to holding reserves for the case initially, a separate central bank was subsequently
emergencies. Thereafter, individual banks sought, and gained, split-off from its parent organization. In Australia, for example,
the liquidity support from the central banks to meet the Reserve Bank of Australia (central bank of Australia) was
emergencies, especially during financial panics. At the early split-off from the government-owned Commonwealth Bank of
stages there were, however, some problems with the function Australia in1959.
of central banks as lenders of last resort. Early central banks
had public charters, yet were still privately owned with policy A monetary policy function was built into the traditional
independence. This was not compatible with the broader functions of central banks during the first half of the twentieth
responsibility given to central banks. The problem that plagued century. This followed the abandonment of guar- anteed
the Bank of England in the early years was that it placed convertibility of national currencies into gold at the fixed
primary weight in its commercial activities. exchange rate in the wake of the Great Depression. In the
absence of a fixed external value of domestic currency, the
On several occasions, the Bank of England contributed to growth rate of the money supply became the major
financial distress by neglecting its role of providing liquidity determinant of the external value of money. Since then, central
support to other banks. Bagehot (1873) formulated the public banks have assumed the responsibility of maintaining the
responsibility doctrine of the Bank of England in 1873: a value of money (external and internal) on the grounds that they
provision of the lender of last resort support to other banks. have a monopoly over the supply of high-powered money (or
This was the beginning of the central bank’s core function as central bank money) (Swinburne and CastelloBranco, 1991).
the lender of last resort (Bordo, 2007; Gorton and Huang,
2001; Lovell, 1957). Laidler (2004) emphasizes that the FUNCTIONS OF A MODERN CENTRAL BANK
function of the lender of last resort later became part of the
British Monetary Orthodoxy. The evolution of central banking suggests a number of
functions of a modern central bank.
As noted earlier, in countries where there were no central
banks, quasi-central banking mechanisms were developed. The FIRST and foremost is the ISSUING OF CURRENCY
Some financial institutions (because of their dominant position) NOTES, which is the major item on the liability side of the
became the source of emergency funds for the private banks central bank’s balance sheet (Cecchetti, 2008). Currency
that enabled them to economize on their reserve holdings. For notes are the major component of the monetary base or
example, in the USA, the clearing-house associations and high-powered money. They are a highly liquid asset and
some large commercial banks provided these services to therefore used for transaction purposes. Currency notes and
smaller banks. The private Parisian bankers in their own deposits also serve as a store of value, provided that the
initiatives established a separate institution in 1797 to purchasing power of money remains stable in a non-
undertake central banking functions. Three years later the inflationary economy. This was considered by Bagehot (1873)
Banque de France was created with official prompting and as the first order business for the Bank of England. As Laidler
support (Timberlake, 1978; 1984; 1992). (2004: 4) writes, ‘. . . for him [Bagehot], a currency convertible
on demand into one or other of the precious metals −
This overview reveals that although there were political factors preferably gold − was the sine qua non of the monetary
behind the establishment of central banks, the need for, and system, and the preservation of that convertibility was the first
the emergence of, central banking was a natural phenomenon. order of business for the Bank of England’. This function of
Government interventions created specific central banks, or money may be undermined when a central bank performs its
else endowed pre-existing banks with monopoly power to issue SECOND FUNCTION AS THE BANKER OF THE
notes and any government banking privileges. Such GOVERNMENT. As the government’s bank, the central bank
interventions determined the particular form of central banking accepts deposits of the government and manages its debt
arrangements, or which institution should become a central (domestic and external). The central bank also acts as the
bank, rather than whether there should be a central bank as a custodian and manager of the country’s foreign exchange
matter of principle. Activities of central banks expanded reserves.
gradually as new issues emerged. Later, central banks
developed more specialized activities, with which their position The above functions and responsibilities of central banks
became institutionally stronger. are LESS CONTROVERSIAL. Most central banks, however,
remain prepared to finance most (if not all) budget deficits by
Central banks’ position as the source of liquidity for the banking accepting the government’s treasury bills. The treasury bills
system meant that they gradually became increasingly tied enter into the asset side of the central bank’s balance sheet.
both to the health of the banking system and the monetary Therefore, this form of financing of budget deficits is equivalent
condition of the economy. This created conflicts between the to money creation (sometimes called deficit financing), which
broader financial concern of central banks and their appears in the balance sheet as a liability. Financing of budget

12
deficits through money creation is controversial, as the status have confidence in the financial system. To maintain financial
of a central bank as an institution is lowered in the eyes of the stability, the central bank remains responsible for the operation
public. Unless a central bank has the authority to say no to and development of the settlement system. In fact the recent
financing of budget deficits, the government’s privileged financial crises (for example, the late 1990s Asian crises and
access to the central bank for liquidity may lead to excessive the 2008 US subprime mortgage crises) have exposed the
money creation at least in the short run, irrespective of whether problems of payment risks in a deregulated financial system.
the country operates under a fixed or a flexible exchange rate Traditionally, central banks helped commercial banks to
system. Excessive money creation leads to high inflation operate under a net settlement system. One major weakness
or hyperinflation, which undermines the role of money as a of this system is that the interbank settlement risk exposures
store of value. This remains the most controversial aspect of may go unmanaged and even unrecognized. As a result,
central banking in developing countries. In fact, Fry (1992: difficulties facing a financial institution may spread quickly to
325–6) described the process how, until recently, many other institutions through payment defaults. The central bank’s
developing countries used central banks as a source of role in the payment system has therefore become critical in
revenue: maintaining financial stability. Besides such settlement risks,
the financial system in most countries has become vulnerable
In many developing countries, the central bank has served as to both real and monetary shocks. One common lesson from
an important source of government revenue. Indeed, the recent financial crises is that financial instability leads to
central bank in these countries is the goose that lays the monetary instability. This is because central banks are
golden eggs. The free-range goose, conducting conservative required to rescue the troubled banks and other financial
monetary policy with afair degree of independence, produces institutions to avoid any economy-wide meltdown. Central
golden eggs worth less than one percent of GNP [gross banks have therefore become heavily involved in preventing
national product] (Malaysia, Morocco and Thailand). The and managing financial risks and crises that seem inherent and
battery-farm goose, bred specially for intensive egg-laying, can inevitable in a deregulated financial system, especially in
produce golden eggs in the form of an inflation tax yielding five developing countries (Crockett, 2001; Mishkin, 2007a).
to ten percent of GNP (Mexico, Peru and Yugoslavia). The
force-fed goose can produce revenue up to 25 percent of GNP Finally, the research department of a central bank analyses
for a limited period before the inevitable demise of the goose macroeconomic developments in an economy and examines
and collapse of the economy (Chile in the early 1970s). that economy’s vulnerability to both domestic and external
shocks. In the currently deregulated economic environment,
The THIRD FUNCTION of a modern central bank is to SERVE the research function of the central bank is critical for the
AS THE BANKERS’ BANK, which takes the form of a lender conduct of monetary and financial policies. Central banks
of last resort (Bordo, 1989). The central bank provides liquid- publish both current and historical data. Furthermore,
ity to commercial banks to maintain financial stability and/or researchers working in central banks publish papers on
smooth operation of the settlement system. Since opening-up contemporary macroeconomic and monetary issues. Since the
economies in recent years and increasing banking competition, effectiveness of monetary policy is enhanced when the public
commercial banks have become vulnerable to both domestic is informed of economic issues and reasons behind monetary
and external shocks (Claassen, 1985). Central banks remain policy actions, economic research per- forms the role of
ready to meet the emergency needs of commercial banks and communication with the public in general, and financial
other financial institutions that arise from shocks and/or sharp markets in particular (Blinder, 1998; Bodart, 1990). Some
changes in market sentiments. By ensuring that sound banks central banks, such as the Reserve Bank of Australia and the
and financial institutions can continue to operate, central banks Monetary Authority of Singapore, publish educational materials
provide stability to financial systems. Currently this has for both students and the general public.
emerged as an important function of a central bank (Cecchetti,
2008; Goodhart, 1999a; 1999b). This issue is elaborated The above list of functions of a central bank is not exhaustive;
below. nor are all functions equally important. Their importance differs
from country to country, depending on the stages of
Monetary policy was added to the list of central banking development. The tasks of supervising and developing the
functions in the 1950s. By the 1990s this had become the financial system and the payments system are critical for
central bank’s most glamorous function. Until recently developing countries. The lender of last resort function is
monetary policy was usually used to achieve multiple equally important, as it is linked to financial stability and
objectives in developing countries, including economic growth, settlement risks.2 Further, developing countries have
poverty alleviation and amelioration of business cycles difficulties in establishing a balance between the tra- ditional
(Ahmed, 1987; Chandavarkar, 1992; Coates and Khatkhate, central banking and developmental functions of a central bank
1980). The present debate is whether monetary policy should (Ahmed, 1987; Dorrance, 1969). Some developmental
be used to achieve a single objective such as price stability. functions that central banks perform have historical roots.
Chapter 4 reviews this issue in detail.
This can be traced to the way the central banks’ roles and
Central banks are the guardians of modern financial systems. responsibilities were defined when they were established. For
The supervision and development of the financial system has example, even under the gold standard during the early
therefore emerged as an important function of a modern twentieth century, the functions of central banks were thought
central bank. The central bank and/or other regulatory to be wide- ranging. This was authoritatively described by
authorities watch the operations of commercial banks and non- Montagu Norman while giving evidence before the Royal
bank financial institutions to ensure that savers and investors Commission on Indian Currency and Finance (Sayers, 1957).
13
In summing up: central banks remain unique in many respects. The BSP also aims to promote and preserve monetary stability
They carry well- defined, primary and secondary, functions. and convertibility of the Philippine currency, Peso.
Historically, it is the primary function that differentiates central
banks from others, although there is no consensus on the A Monetary Board exercises the powers and functions of the
precise primary function of a central bank. BSP. The Governor is the chairman of the Monetary Board,
with five full-time members from the private sector and one
According to Hawtrey (1932), the lender of last resort was the member from the Cabinet. The Governor is the chief executive
essential characteristic of a central bank, while Smith (1936) of the BSP and remains responsible for the direction and
regarded the monopoly in note issue as the peculiarity of a supervision of Bank’s operations and administration.
central bank. Kisch and Elkin (1928: 72) considered that ‘[a]n
essential function of a Central Bank is the maintenance of the A Deputy Governor heads each of the three operating
stabil- ity of the monetary standard. This involves the control of sectors of the BSP.
the monetary circulation and the Bank therefore should be
These sectors are:
given the right of note issue, and preferably the sole right’. In
the Statute of the Bank for International Settlements (BIS, 1. the monetary stability sector takes charge of the
2003), on the other hand, a central bank is defined as ‘the formulation and implementation of the BSP’s
bank in any country to which has been entrusted the duty monetary policy, including serving banking needs of
of regulating the volume of currency and credit in that all banks through accepting deposits, servicing
country’ (Article 56a). withdrawals and extending credits through
rediscounting facilities;
CENTRAL BANKS IN THE ASIA-PACIFIC3
2. the supervision and examination sector enforces and
This section introduces the major central banks in the Asia- monitors compliance to the banking laws to promote a
Pacific and reviews their key functions and governance. The sound and healthy banking system; and
relationships of central banks with the governments are also 3. the resource management sector serves human,
reviewed in a broad context. Chapter 9 reviews monetary financial and physical resource needs of the BSP.
policy developments in selected countries of the Asia-Pacific.
The primary objective of monetary policy in the
Central banks in the former British colonies of Asia were Philippines is ‘to promote price stability conducive to a
established after their national independence. These banks balanced and sustainable growth of the economy’ (RA 7653).
have organisational structures and functions similar to those of In January 2002 the BSP adopted inflation targeting as the
the Bank of England. Both economic and political factors strategy of monetary policy.
played a role in the establishment of central banks in newly
LEARNING POINTS
independent nations of the region (Davies, 1960).
 A Central Bank is an independent national authority that
Central banks and other financial institutions were also linked conducts monetary policy, regulates banks, and provides
to development initiatives that most Asian developing countries financial services including economic research. Its goals
undertook after their independence. Since the 1990s most are to stabilize the nation’s currency, keep unemployment
Asian central banks have curtailed their developmental low, and prevent inflation.
activities. Some of them have gained autonomy and reputation, ▪ The Central Bank does not aim at profits but aims at national
and have been assigned the responsibility of maintaining welfare, does not compete with the member banks, has special
monetary stability for rapid economic growth. relationship with government and with commercial banks,
generally free from political influence, the apex body of the
The Bangko Sentral ng Pilipinas banking structure of the country, and should have overall
control over the financial system.
The central bank of the Philippines is called the Bangko ▪ The functions of a central bank include currency regulator or
Sentral ng Pilipinas (BSP). Previously known as the Central bank of issue, bank to the government, custodian of cash
Bank of Philippines (CBP), it was established on 3 January reserves, custodian of international currency, lender of last
1949. The policy objectives of the CBP were contained in resort, clearing house for transfer and settlement, controller of
Republic Act (RA) No. 265. This Act guided the CBP in credit, and protecting depositors’ interests.
implementation of responsibilities such as promotion of ▪ The key roles of central banks are to conduct monetary
economic development and the maintenance of internal and policy, foreign exchange regimes and policies, and
external monetary stability. macroprudential policy.
▪ The Bangko Sentral ng Pilipinas (BSP) is the central bank of
The RA No. 265 was amended by the Presidential Decree (PD) the Republic of the Philippines. It was established on 3 July
No. 72 to make the CBP more responsive to changing internal 1993 pursuant to the provisions of the 1987 Philippine
economic conditions. The PD No. 72 emphasized the Constitution and the New Central Bank Act of 1993. The BSP
maintenance of domestic and international monetary stability took over from the Central Bank of Philippines, which was
established on 3 January 1949, as the country’s central
as the primary objective of the CBP. The (renamed) BSP
monetary authority. The BSP enjoys fiscal and administrative
remains committed to promoting and maintaining price stability
autonomy from the National Government in the pursuit of its
and developing a sound financial system for sustainable mandated responsibilities.
growth of the economy. ▪ The objectives of the BSP represents its three pillars namely
price stability, financial stability, and safe and efficient
payments and settlements system.
14
▪ The different functions of the Bangko Sentral ng Pilipinas accordance with sound principles of management. A
(BSP) includes Monetary policy, Monetary Operations, compensation structure, based on job evaluation
Systemic Risk Management, Financial Supervision, Payments studies and wage surveys subject to the Board's
and Settlements System Oversight, Currency Management, approval, shall be instituted as an integral component
Inclusive Finance, Loans and Credit Operations, International of the Bangko Sentral's human resource development
Reserves Management, International Operations, International program. On the recommendation of the Governor,
Economic Cooperation, and Economic Education. appoint, fix the remunerations and other emoluments,
and remove personnel of the Bangko Sentral, subject
SG 7: CENTRAL BANKING AUTHORITY to pertinent civil service laws: Provided, That the
Monetary Board shall have exclusive and final
The Monetary Board exercises the powers and functions of the authority to promote, transfer, assign, or reassign
BSP, such as the conduct of monetary policy and supervision personnel of the Bangko Sentral and these personnel
of the financial system. Its chairman is the BSP Governor, with actions are deemed made in the interest of the
five full-time members from the private sector and one member service and not disciplinary: Provided, further, That
from the Cabinet. And have you ever thought about how banks the Monetary Board may delegate such authority to
know how much money to keep in the bank? How are they the Governor under such guidelines as it may
able to do withdrawals for everyone plus lend out money determine;
without emptying out their vaults and pockets? The answer is: 4. Adopt an annual budget for and authorize such
bank reserves. Bank reserves are something banks and other expenditures by the Bangko Sentral in the interest of
financial institutions are legally required to have available. the effective administration and operations of the
Bangko Sentral in accordance with applicable laws
THE MONETARY BOARD AND ITS POWERS and regulations; and
5. Indemnify its members and other officials of the
The powers and function of Bangko Sentral are exercised by
Bangko Sentral, including personnel of the
its Monetary Board, which has seven members appointed by
departments performing supervision and examination
the President of The Philippines. Under the New Central Bank
functions against all costs and expenses reasonably
Act, one of the government sector members of the Monetary
incurred by such persons in connection with any civil
Board must also be a member of the Cabinet designated by
or criminal action, suit or proceedings to which he
the President.
may be, or is, made a party by reason of the
The New Central Bank Act establishes certain qualifications for performance of his functions or duties, unless he is
the members of the Monetary Board and also prohibits finally adjudged in such action or proceeding to be
members from holding certain positions with other liable for negligence or misconduct.
governmental agencies and private institutions that may give
THE GOVERNOR AND ITS POWER AND DUTIES
rise to conflicts of interest. With the exception of the members
of the Cabinet, the Governor and the other members of the Pursuant to Republic Act No. 7653 (The New Central Bank
Monetary Board serve terms of six years and may only be Act), the Governor shall be the chief executive officer of the
removed for cause. Bangko Sentral. His powers and duties shall be to:
The Monetary Board meets at least once a week. The Board 1. Prepare the agenda for the meetings of the Monetary
may be called to a meeting by the Governor of the Bangko Board and to submit for the consideration of the
Sentral or by two (2) other members of the Board. Usually, the Board the policies and measures that he believes to
Board meets every Thursday but on some occasions, it be necessary to carry out the purposes and
convenes to discuss urgent issues. provisions of said Act;
2. Execute and administer the policies and measures
In the exercise of its authority, the Monetary Board shall:
approved by the Monetary Board;
1. Issue rules and regulations it considers necessary for 3. Direct and supervise the operations and internal
the effective discharge of the responsibilities and administration of the Bangko Sentral. The Governor
exercise of the powers vested upon the Monetary may delegate certain of his administrative
Board and the Bangko Sentral; responsibilities to other officers or may assign specific
2. Direct the management, operations, and tasks or responsibilities to any full-time member of the
administration of the Bangko Sentral, reorganize its Monetary Board without additional remuneration or
personnel, and issue such rules and regulations as it allowance whenever he may deem fit or subject to
may deem necessary or convenient for this purpose. such rules and regulations as the Monetary Board
The a legal units of the Bangko Sentral shall be under may prescribe;
the exclusive supervision and control of the Monetary 4. Appoint and fix the remunerations and other
Board; emoluments of personnel below the rank of a
3. Establish a human resource management system department head in accordance with the position and
which shall govern the selection, hiring, appointment, compensation plans approved by the Monetary
transfer, promotion, or dismissal of all personnel. Board, as well as to impose disciplinary measures
Such system shall aim to establish professionalism upon personnel of the Bangko Sentral, subject to the
and excellence at all levels of the Bangko Sentral in provisions of Section 15(c) of said Act: Provided, that

15
 removal of personnel shall be with the approval of the  Payments and Currency Management Sector
Monetary Board; (PCMS) – mainly responsible for maintaining the
5. Render opinions, decisions, or rulings, which shall be safety and integrity of the Philippine currency and
final and executory until reversed or modified by the ensuring a well-functioning payments and cash
Monetary Board, on matters regarding application or ecosystem that facilitates the economic activity and
enforcement of laws pertaining to institutions supports long-run economic growth.
supervised by the Bangko Sentral and laws pertaining  Regional Operations and Advocacy Sector
to quasi-banks, as well as regulations, policies or (ROAS) - mainly responsible for the management of
instructions issued by the Monetary Board, and the activities related to regional operations, consumer
implementation thereof; and empowerment and advocacy, and communications.
6. Exercise such other powers as may be vested in him
by the Monetary Board.

The Governor of the Bangko Sentral shall be the principal DOMESTIC MONETARY POLICY
representative of the Monetary Board and of the Bangko
Monetary Policy is a process whereby the monetary authority
Sentral and, in such capacity and in accordance with the
attempts to achieve a desired set of economic goals by
instructions of the Monetary Board, he shall be empowered to:
controlling money supply, cost and availability of credit or the
1. Represent the Monetary Board and the Bangko allocation of credit to its various uses. Monetary policies are
Sentral in all dealings with other offices, agencies and formulated by the Monetary Board and implemented by the
instrumentalities of the Government, and all other Central Bank through its various monetary tools.
persons or entities, public or private, whether
A sound monetary policy should be flexible and dynamic. It
domestic, foreign or international;
should be conducive to the changing needs and problems of
2. Sign contracts entered into by the Bangko Sentral,
the economy. But above all, it should promote not only the
notes and securities issued by the Bangko Sentral, all
economic growth of the country but also the social justice of
reports, balance sheets, profit and loss statements,
the credit system. In view of the financial crisis, which the
correspondence, and other documents of the Bangko
country has been experiencing for some years, the policy of
Sentral;
the Central Bank is to stress domestic financial mobilization.
3. Represent the Bangko Sentral, either personally or
Thus, there is a need for bringing about more prudent banking
through counsel, including private counsel, as may be
and greater safety for the funds of the depositing public. In this
authorized by the Monetary Board, in any legal
connection, bank consolidation or merger is being encouraged
proceedings, action or specialized legal studies; and
by the Central Bank. The Central Bank believes that big banks
4. Delegate his power to represent the Bangko Sentral,
are more efficient and stable.
to other officers upon his own responsibility: Provided,
however, that in order to preserve the integrity and the IMPERATIVE OF MONETARY MANAGEMENT
prestige of his office, the Governor of the Bangko
Sentral may choose not to participate in preliminary The abandonment of the Gold Standard and its various
discussions with any multilateral banking or financial modifications gave way to a new era of monetary system; the
institution on any negotiations for the Government birth of managed currency system. The same thing may be
within or outside the Philippines. During the said to occur in the Philippines when the Central Bank Act
negotiations, he may instead be represented by a came into law, establishing in the process of the Central Bank
permanent negotiator. of the Philippines with the responsibility of administering a new
monetary system known as the “managed currency system”.
The Governor is the chief executive officer of the BSP and is This particular system has been more flexible and responsive
required to direct and supervise the operations and internal to the changing needs of the economy.
administration of the BSP. A Deputy Governor heads each of
the BSP'S OPERATING SECTORS AS FOLLOWS: The importance of monetary management is felt if there is an
actual want or absence of it. Thus, the banking sector, in
 Monetary and Economics Sector (MES) - mainly particular the commercial banks with their capacities to create
responsible for the operations/activities related to money, may over extend credits during periods of prosperity or
monetary policy formulation, implementation, and may do the opposite during periods of decline or depression of
assessment. the so-called business cycle.
 Financial Supervision Sector (FSS) - mainly
responsible for the regulation of banks and other BSP The entire provisions of the Central Bank Act may be
supervised financial institutions, as well as the interpreted to have provided the sufficient means of action for
oversight and supervision of financial technology and the Central Bank of the Philippines to achieve the domestic
payment systems. and international objectives of the national monetary policy.
 Corporate Services Sector (CSS) – mainly Specifically, the Monetary Board shall rely on its moral
responsible for the effective management of BSP’s influence, the powers granted to it under the law for the
human, financial, and physical resources to support regulation of money, credit and exchange, and the support and
the BSP’s core functions, including oversight of the cooperation of the Government and its agencies.
operations of the New Clark City – Program
RESERVE REQUIREMENT
Management Office.
16
Commercial bank deposits, coupled with the banks' cash they economy by providing banks with extra reserves, which
keep at the Bangko Sentral ng Pilipinas, are referred to as encourages bank credit availability and lowers interest rates.
bank reserves. In the past, banks were renowned for not
maintaining adequate cash available prior to the usage of bank Banks that retain excessive money on hand miss out on the
reserves. Clients at other banks would worry and withdraw extra interest that may be made by lending it. On the contrary,
their money if one bank collapsed, resulting in a succession of if banks wind up lending out significant amounts and holding
bank runs. Which is why Central Bank was created to provide too little as reserves, then there is a risk of a bank run and the
a more reliable and safe financial system. bank's instant collapse. Previously, the banks made the
determination regarding the amount of reserve money to keep
Consider the following scenario: you enter the bank to take out on hand. However, several of them underestimated the reserve
some money, and the bank clerk notifies you that there is needs and wound up in hot water.
insufficient money on hand to complete your request, thus your
withdrawal is rejected. To ensure that would never occur, bank To address this issue, central banks began to establish reserve
reserves were created. In a way, it might be helpful to think of requirements. Commercial banks are now legally required to
them as piggy banks. They have to keep a certain amount out meet the reserve requirements imposed by the central banks.
of the way and aren't allowed to touch it until they really need
A lower reserve requirement means the BSP is pursuing an
it, the same way if someone is trying to save up for something,
expansionary monetary policy. The lower reserve requirement
they wouldn't take the money out of their piggy bank.
means banks do not need to keep as much cash on hand. This
Reserves can also be used to boost the economy. Assume a gives them more money for consumer and business loans.
financial institution has P100 million in deposits. If the reserve
A higher reserve requirement means the BSP is pursuing a
requirement is only at 3% (P3,000,000), then the financial
contractionary monetary policy. If banks have a higher reserve
institution can lend the remaining P9.7 million for mortgages,
requirement, there will be less money available to lend to
college payments, car payments, etc.
consumers and businesses.
Banks make an income by lending money to the community
However, this money will then provide the banks with a level of
rather than keeping it safe and locked up, which is the reason
protection against possible bank failure should there be an
bank reserves are so crucial. Banks may be enticed to lend
economic downturn or a run on the bank.
more funds than they ought to if reserves are not held.
TYPES OF BANK RESERVES
Bank reserves are a bank's amount they hold in the vault plus
the amount in deposits held at the Bangko Sentral ng Pilipinas. There are two main types of bank reserves: required and
excess.
Reserve Requirement Ratio for Local Currency Deposits in the
Philippines was set by BSP at 12.0 % in November 2022. 1. Required
A variety of factors influence the sum of cash required to be on A bank is obligated to retain specific amounts of cash or bank
standby. For instance, there's a larger demand during the deposits, which are referred to as required reserves. To ensure
holiday season, when shopping and spending are at their the bank's viability, this share is not lent out but rather is placed
peak. Individuals' need for money may also spike unexpectedly in a liquid account. Typically, a commercial bank will store bank
during economic downturns. When banks discover that their reserves physically, for example in a vault. Of the overall
cash reserves are less than the projected financial needs, monetary deposits submitted to the bank, it represents a very
particularly if they are less than the statutory minimum, they tiny sum. Central bank laws require bank reserves to
will usually seek money from other financial institutions with guarantee that a commercial bank has sufficient assets to
excess reserves. settle customer transactions.
Bank Reserves Requirements 2. Excess
Banks lend money to consumers depending on the percentage Excess reserves, also known as secondary reserves, are
of their available cash. In return, the government requires the financial reserves retained by a bank in excess of what
banks to retain a particular number of assets on hand to meet authorities, debtors, or internal systems demand. Excess
any withdrawals. This sum is known as the reserve reserves for commercial banks are assessed against
requirement. Essentially, it's the amount that banks must hold benchmark reserve requirement quantities specified by central
and aren't permitted to lend to anyone. banking regulators.
Imagine a bank has P500 million in deposits, but the reserve Excess reserves provide additional protection for financial
requirement is set at 10%. If this is the case, then the bank can institutions in the case of loan losses or big money withdrawals
lend out P450 million but must keep P50 million on hand. by consumers. This cushion improves the financial system's
security, particularly during times of financial turmoil.
The BSP utilizes reserve requirements like a financial
instrument in this manner. Whenever they increase the Banks generate revenue by accepting consumer deposits and
requirement, then that means they are pulling funds out of the then lending that capital to someone else at a greater rate of
supply of money and boosting the price of credit, or interest interest. They can't lend out all of their funds, though, since
rates. Reducing the reserve requirement injects funds into the they must have cash on hand to cover their expenses and

17
meet consumer withdrawal requests. The BSP instructs banks  The Peso Rediscount Facility interest rates are based
how much capital they must have on hand to meet financial on the latest available BSP overnight lending rate plus
commitments. Every cent kept by banks in excess of this the applicable term premia per Circular No. 964 dated
amount is referred to as excess reserves. 27 June 2017.
 The EDYRF interest rates are based on the 90-day
Excess reserves are not lent by banks to customers or
London Inter-Bank Offered Rate for the last working
businesses. Instead, they hold onto them in case of necessity.
day of the immediately preceding month plus 200
Let's say a bank has P100 million dollars in deposits. In the basis points plus the applicable term premia for loan
case that the reserve ratio is 10%, it must retain a minimum of maturities exceeding 90 days pursuant to Circular No.
P10 million on hand. If the bank has P12 million in reserves, 807 dated 15 August 2013.
P2 million of that is in excess reserves.
STRATEGIC PROGRAMS
BANK RESERVES FORMULA
 Inclusive Financial System
As a regulatory rule, bank reserve regulations are established  Digital Transformation
to ensure that big financial entities have adequate liquid assets  Sustainable Central Banking
to cover withdrawals, liabilities, and the effects of unplanned  Strategic Communication
economic conditions. The reserve ratio may be utilized to
determine the minimal cash reserves, which are typically set as STRATEGIC COMMUNICATION
a predetermined % of a bank's deposits.
 The visual schematic is consistent with the design of
The reserve ratio is multiplied by the full amount of deposits the BSP’s Strategy Map and is an adaptation of
held by a bank to determine its reserves: Simon Sinek’s Golden Circle model of communicating
the “why,” “what,” and “how.”
Reserve Requirement = Reserve Ratio x Total Deposits  It also summarizes and articulates the BSP’s good
communication and engagement practices learned
Bank Reserves Example through decades of experience.
To get a better understanding of how bank reserves work, let's PRESENT OFFICERS OF THE BSP
go through a few examples of calculating the reserve
requirements to see how it all comes together.

a. Imagine a bank has $20 million in deposits and you're

told that the required reserve ratio is 10%. Calculate
the reserve requirement of the bank.
b. If a bank has $100 million in deposits and you know
that the required reserve ratio is 5%, calculate the
reserve requirement of the bank.
c. Imagine a bank has $50 million in deposits and you're
told that the reserve requirement is $10 million.

Calculate the required reserve ratio of the bank.

FUNCTIONS OF BANK RESERVES

Bank reserves have several functions. These include:

 Ensuring enough money is on hand to cover any

customer withdrawal requests.
 Stimulating the economy
 Supporting financial institutions by ensuring they have
extra funding left over after all of the lending they do

REDISCOUNTING

 The BSP extends discounts, loans and advances to

banking institutions in order to influence the volume of
credit in the financial system.
 The rediscounting facility allows a financial institution
to borrow money from the BSP using promissory MOMETARY BOARD
notes and other loan papers of its borrowers as
 BENJAMIN E. DIOKNO- Dr. Diokno is the current
collateral.
Secretary of the Department of Finance (DOF). Prior
 The rediscounting facility has two categories namely, to his appointment as fiscal chief, he served as
Peso Rediscount Facility and Exporters Dollar and
Yen Rediscount Facility (EDYRF).
18
 Governor of the Bangko Sentral ng Pilipinas (BSP)  ELI M. REMOLONA - Eli Remolona brings to the
from 2019 to 2022. table an extensive international policy experience in
 PETER B. FAVILA - As Monetary Board Member central banking. He worked for 14 years at the
(MBM), Peter B. Favila espouses the BSP’s mission Federal Reserve Bank of New York and for 19 years
to contribute to global competitiveness and ensure at the Bank for International Settlements (BIS), the
sustainable economic growth and stability. He brought bank for central banks.Before joining the Bangko
to this role years of experience in the banking and Sentral ng Pilipinas, he served as an Independent
real sectors, financial markets, and international Director of the Bank of the Philippine Islands and the
trade. He was appointed Member of the Monetary Chair of the Risk Management Committee. He was
Board in 2008 as National Government also a Professor of Finance and the Director of
Representative and in 2010 to 2014 as a full-time Central Banking at the Asia School of Business in
member representing the private sector. Presently, he Kuala Lumpur, a collaboration with the MIT Sloan
is serving his second full-time term. School of Management.
 Antonio S. Abacan, Jr. - Prior to his appointment as
Monetary Board Member in July 2017, Dr. Antonio S. GOVERNOR
Abacan, Jr. was the Group Vice Chairman of the
FELIPE M. MEDALLA
Metrobank Group of Companies and Senior Adviser
for Metropolitan Bank & Trust Company (Metrobank) Dr. Felipe Medalla, the current Governor of the Bangko Sentral
and First Metro Investment Corporation. He was also ng Pilipinas, is a seasoned economist and educator whose
concurrent Chairman of the Board of Toyota Financial career spans more than four decades and four
Services, (Phils.) Inc., Sumisho Motor Finance administrations’. Medalla has been a member of the
Corporation, (and Member of the Board of Trustees) policymaking Monetary Board since July 2011, having been
Manila Tytana Colleges, Circa 2000 Homes, Inc., and appointed by former President Benigno Aquino III and
(and President) Manila Medical Services, Inc. (Manila President Rodrigo Duterte in July 2017.
Doctors Hospital). Dr. Abacan was also the Adviser for
Federal Land, Inc. and Toyota Manila Bay Group; and Before joining the Monetary Board, he was a prominent figure
Director of Vivant Corporation. in the academe, having taught at the University of the
 V. BRUCE J. TOLENTINO - Over 36 years of Philippines-School of Economics (UPSE) from 1991 to 2011.
progressively senior-level experience in international He also served as UP vice president of planning and finance
development, governance, development finance and from 1988-1991 before being named dean of the UPSE from
planning of socio-economic projects in Asia, Africa, 1994-1998. In 1998, Dr. Medalla was appointed Secretary of
and Central America. Direct experience in Socio-Economic Planning and Director-General of the National
management of international, large-scale, Economic and Development Authority by then-President
governance/ rural and agricultural development Joseph Estrada. Dr. Medalla was President of the Philippine
programs. Experience under difficult conditions, Economic Society in 1996 and executive director of the
including civil war and cross-cultural/religious Philippine Center for Economic Development from 1994-1998.
contexts. He was Chairman of the Foundation for Economic Freedom, a
 ANITA LINDA R. AQUINO- Monetary Board Member non-governmental organization that is primarily engaged in
Anita Linda R. Aquino’s formidable career in banking public advocacy for fiscal reforms and market-friendly
and finance spans three decades of work in the government policies, from 2002-2011. His research
Philippines and abroad. Prior to her appointment to contribution explores different facets of economic development
the Monetary Board, she served on the board of the and monetary policy, from manufacturing growth, debt
Philippine Deposit Insurance Corporation. She was management, taxation, exchange rate policy, and inflation,
also a Board Adviser to the United Coconut Planters among others.
Bank (UCPB), a Government Financial Institution. Her
Dr. Medalla earned his Ph.D. in Economics from Northwestern
service in the Public Sector includes a stint as the
University in Evanston, Illinois and his M.A. in Economics from
Chief of Staff to the Secretary of Finance of the
the University of the Philippines. A certified public accountant,
Republic of the Philippines.
he graduated cum laude from De La Salle University with an
Her professional portfolio in the Private Sector,
economics-accounting degree.
specifically Banking, includes assignments in treasury
and financial markets in Manila, New York, and DEPUTY GOVERNOR
Singapore. She was Head of Corporate Sales and
Structuring at Citibank, Manila; Regional Trading  FRANCISCO G. DAKILA, JR. - Monetary and
Business Manager for Asia at the Singapore-based Economics Sector
Citicorp Investment Bank Limited; Senior Vice  CHUCHI G. FONACIER - Financial Supervision
President and Head of the Global Distribution and Sector
Advisory Division at Rizal Commercial Banking  MAMERTO E. TANGONAN - Payments and Currency
Corporation; and Executive Director, Head of Management Sector
Financial Markets Sales (Philippines) at Standard  EDUARDO G. BOBIER - Corporate Services Sector
Chartered Bank. She also worked at the Charles A.  BERNADETTE ROMULO-PUYAT - Regional
Dana Foundation in New York. Operations and Advocacy Sector

19
PPT: CENTRAL BANKING AUTHORITY  At the core is the vision, mission and core values –
the elements that define BSP, together with the
BSP VISION & MISSION overall strategy of bringing BSP closer to the people.
BSP Vision Significant changes to BSP’s strategy
The BSP aims to be recognized globally as the monetary BSP’s success in achieving this goal begins with the three
authority and primary financial system supervisor that supports pillars of central banking, the strategy objectives –
a strong economy and promotes a high quality of life for all
Filipinos.  price stability through well managed inflation;
 sound, stable and resilient financial system; and
BSP Mission
 a safe, efficient, and inclusive payments and
To promote and maintain price stability, a strong financial settlements system.
system, and a safe and efficient payments and settlements
These are bolstered and strengthened by the strategic
system conducive to a sustainable and inclusive growth of the
programs of
economy.
 Inclusive Financial System,
BSP CORE VALUES
 Digital Transformation,
 Excellence - Consistently doing our best to master our  Sustainable Central Banking, and
craft, continually improving our competencies, and  Strategic Communication.
learning new things in pursuit of the organizational
goals, comparable to the best practices of other central
banks
RESPONSIBILITY AND PRIMARY OBJECTIVES OF THE
 Patriotism - Selfless commitment to the service of the
BSP
Filipino people and the country
 Integrity- Performing mandate with sincerity, honesty, It shall be the RESPONSIBILITY OF THE BSP:
and uprightness, worthy of respect
 Solidarity- Performing with team spirit; acting and  To provide policy direction in the areas of money,
thinking as one in the pursuit of common goals and banking, and credit;
objectives.  To supervise the operations of the banks and to
 Accountability- Taking full responsibility for one’s or exercise such regulatory and examination powers as
group’s actions provided under Republic Act No. 7653 (The New
Central Bank Act), as amended by Republic Act
The 2020-2023 BSP Strategy Map 11211, and other pertinent laws over the quasi-
banking operations of non-bank financial institutions;
and
 To exercise regulatory and examination powers over
money service businesses, credit granting
businesses, and payment system operators.

Its PRIMARY OBJECTIVE is to maintain price stability

conducive to a balanced and sustainable growth of the
economy and employment.

It shall also:

 Promote and maintain monetary stability and the

convertibility of the peso;
 Promote financial stability and closely work with the
National Government, including, but not limited to, the
Department of Finance, the Securities and Exchange
Commission, the Insurance Commission, and the
Philippine Deposit Insurance Corporation;
SIGNIFICANT CHANGES TO BSP’S STRATEGY  Oversee the payments and settlement systems in the
Philippines, including critical financial market
Significant changes to BSP’s strategy call for a visual redesign
infrastructures, in order to promote sound and prudent
of the strategy map.
practices consistent with the maintenance of financial
 The new strategy map is a circle, implying BSP’s stability; and
overall theme of being stakeholderoutcome focused  Promote broad and convenient access to high quality
to make it more relevant to the Filipino people, and its financial services and consider the interest of the
intent to be a united and highly collaborative general public.
organization.
20
 OFFICE OF THE SECRETARY, MONETARY BOARD

 Provides secretariat services, top-level

technical/advisory assistance and operations support
to the Monetary Board

INTERNAL AUDIT OFFICE

 Provides independent assurance and advice to the

Monetary Board and Senior Management in
promoting an effective governance process and long-
term soundness of the organization
 Assists in accomplishing the Bank’s strategic and
operational objectives.

TECHNOLOGY AND DIGITAL INNOVATION OFFICE

 Responsible for enforcing technology-related security

policies, standards, and procedures.
 Oversees the general operations, projects, plans and
commitments on enterprise architecture, IT
acquisitions and contracts, and IT project
OFFICE OF THE GENERAL COUNSEL AND LEGAL management, governance, and innovation
SERVICES  Formulates policies and develops strategic
frameworks, guidelines, standards, and procedures
 Renders legal advisory services on matters relating to covering the business processes, management
policies, functions, operations, and regulations of the systems and process linkages
BSP
 Prepares and/or reviews: (i) international and local FINANCIAL MARKETS
agreements and (ii) draft legislation, circulars, rules
 Manages the internal reserve portfolios, including
and regulations
gold, aligned with the overall risk and return
 Investigates and prosecutes criminal cases involving
objectives of the BSP
fraud, irregularities, and anomalies committed by
 Oversees the externally-managed portfolios of the
directors/trustees/officers of BSP supervised financial
international reserves, primarily by implementing the
institutions (BSFIs)
External Funds Management Program of the BSP
 Investigates cases involving cybercrimes/cyberattacks
 Implements the Bank’s monetary and foreign
affecting the BSP, BSFIs, and the financial services
exchange policies, which are critical in performing the
industry in general
BSP’s primary mandate
CONSUMER COMPLAINTS RESOLUTION OFFICE  Conducts monitoring, analysis, and reporting on the
developments in both global and local financial
 Provides mediation and adjudication services to markets and economies
financial consumers

21
  Formulates investment and risk policies covering the
management of the international reserves (both gold
and non-gold international reserves) MONETARY POLICY SUB-SECTOR
 Provides banking services to the National Department of Economic Research
Government (NG)
 Principal policy research and technical arm of the
RISK AND COMPLIANCE OFFICE BSP responsible for conducting research and studies
 Develops, recommends, maintains, and amends on monetary policies, macroprudential regulations,
macroeconomic developments, and economic and
frameworks, policies, guidelines, standards, and
financial programs, with the objective of providing
procedures covering risk management (RM),
research-based, timely, and appropriate
business continuity management (BCM), compliance,
recommendations to the Monetary Board on
and information security matters
adjustments in the monetary policy stance and
BSP Research Academy implementation of the inflation targeting framework
 Produces monetary and economic data needed in the
 Responsible for the conduct of central banking formulation and implementation of monetary policy
research, implementation of research support
programs, and external publication of BSP research Department of Economic Statistics
outputs
 Generates, analyzes and reports relevant accurate,
Office of Systemic Risk Management and timely economic, monetary, financial and other
related statistics and reports for the guidance of the
 Designs, periodically updates, and executes a Monetary Board in the formulation and
comprehensive framework for managing systemic implementation of various policies.
risks
INTERNATIONAL MONETARY AFFAIRS AND
Office of Strategy Management SURVEILLANCE SUB-SECTOR

 Takes the lead in the development, execution and International Operations Department
review of the corporate strategy and enterprise project
management processes in the Department of Loans  Undertakes functions that support the promotion and
and Credit maintenance of monetary stability and external
 Extends rediscounts, discounts, loans, and advances sustainability through the enhanced management of
to banks to influence the volume of credit in the external debt, foreign investments and other foreign
banking system; exchange (FX) transactions; and
 Recommends and implements collection and  Reviews, recommends, and implements sound
recovery measures; and policies and regulations on foreign exchange
 Manages the credit portfolio of the BSP. transactions.

International Relations and Surveillance Department

 Undertakes and facilitates the pro-active engagement

of the BSP in international and regional forums, giving
voice and representation, of the Philippines and the
BSP's stance in critical monetary and financial
cooperation issues;
 Represents the BSP in international meetings,
coordinates with other national agencies, within BSP
and with international counterparts, and spearheads
international relations work in the BSP through the
participation in policy dialogues, formulation of
evidence-based positions/recommendations,
negotiations of free trade and cooperation
agreements, and participates in financing
arrangements and contributions; and
 Conducts integrated international surveillance.

22
  Promotes digital innovation in the financial services
industry

FINANCIAL SUPERVISION SUB-SECTOR I

Financial Supervision Departments I – III

 In-charge of the onsite examination of:

o Universal banks and their
subsidiaries/affiliates;
o Commercial banks and their
subsidiaries/affiliates;
o Foreign banks and their
subsidiaries/affiliates; and
o thrift, cooperative, and rural banks
 Maintains the Institutional Overview

FINANCIAL SUPERVISION SUB-SECTOR II

Financial Supervision Departments IV – VI

 In-charge of the onsite examination of:

o Universal banks and their
subsidiaries/affiliates;
o Commercial banks and their
subsidiaries/affiliates;
FSS OPERATIONS SUPPORT DEPARTMENT o Foreign banks and their
subsidiaries/affiliates; and
 Implements internal rules, regulations, and policies of o thrift, cooperative, and rural banks
the BSP Credit Reporting System Unit  Maintains the Institutional Overview
 Leads in the design, development, and maintenance
of a robust credit information system FINANCIAL SUPERVISION SUB-SECTOR III
 Manages the collection, consolidation, and storage of
credit-related information/data obtained from entities Islamic Banking Supervision Group

POLICY AND SPECIALIZED SUPERVISION SUB-SECTOR  Leads BSP’s strategic initiatives and prudential
reforms to implement Islamic banking laws and other
Supervisory Policy and Research Department related laws aimed to strengthen Islamic banking in
the country;
 Develops policies  Conducts the specialized supervision of existing
 Oversees and manages the preparation reports Islamic banks and newly licensed Islamic
Department of Supervisory Analytics Financial Supervision Departments VII – VIII
 Designs and implements strategies, processes,  In-charge of the onsite examination of:
policies, and procedures o Universal banks and their
 Collaborates with various units subsidiaries/affiliates;
o Commercial banks and their
Financial System Integrity Department
subsidiaries/affiliates;
 Ensures that BSFIs comply with anti-money o Foreign banks and their
laundering (AML) and combating the financing of subsidiaries/affiliates; and
terrorism (CFT) laws and regulations o thrift, cooperative, and rural banks and
 Develops AML/CFT supervisory strategies, rules, o government-owned banks
regulations, guidelines  Maintains the Institutional Overview (a document that
represents a continuously updated report of
Capital Markets and Trust Supervision Department examination), handles critical requests of banks and
non-banks that require BSP approval, and supports
 Conducts effective onsite and offsite supervision of
implementation of new supervisory processes and
BSFIs,
concerns
Technology Risk and Innovation Supervision Department
Financial Supervision Department IX
 Conducts Information Technology (IT) supervision of
 Responsible for the supervision and examination of
non-bank financial institutions (NBFIs) spanning
23
 various industries/sectors, which include non-stock of the production units in the Currency and Securities
savings and loan associations, pawnshops, stand- Production Sub-Sector, Department of General
alone NBFIs with quasi-banking functions, money Services, and Office of the Deputy Governor-
service businesses, credit granting businesses, and Payments and Currency Management Sector
stand-alone non-bank credit card issuers and  Banknotes and Securities Production Management
acquirers. Department
 Safeguards and controls the quality of goods
produced, as well as the flow of security papers, inks,
and other raw materials and supplies used in the
production of banknotes and security documents

Banknotes and Securities Printing Department

 Takes charge of the production of Philippine

banknotes, judicial forms, and other security
documents Mint and Refinery Operations Department
 Manufactures currency and commemorative coins,
medals, and decorations
 Safeguards and controls the flow of precious metals
in-process, coin blanks, and dies

PAYMENTS AND CURRENCY DEVELOPMENT SUB-

SECTOR

Payments and Currency Investigation Group

 Conducts intelligence gathering, field operations, and

case build-up in relation to currency counterfeiting
and suspicious operations in payment systems
Payments Supervision and Licensing Department
 Ensures that operators and participants of the NPS,
Department Of General Services including non- bank electronic money issuers (NB-
EMIs) adhere to payments-related policies/regulations
 Provides facilities management, customer relations, and applicable international standards
property and supplies management, and IT systems  Evaluates applications for license/registration of
support services to the departments/offices in the operators of payment system and other payment
Security Plant Complex, as applicable system participants, including NB-EMIs
 Implements policies on environment and occupational
health and safety, and facilitates compliance with Payments Policy and Development Department
environmental laws  Issues policies/regulations and implements a risk
Payments and Settlements Department management system tailor-fitted to the Philippine
payments landscape
 Maintains the efficient and safe settlement of large  Collaborates with domestic and foreign stakeholders
value fund transfers and retail payments clearing in promoting and sustaining the safety, efficiency,
results in support of the smooth function of the reliability, affordability, and inclusivity in the country’s
financial system and the digital transformation payment systems and in driving the country towards
initiative of the BSP digital payments transformation
 Supports the operation of the Personal Equity and
Retirement Account (PERA) Program that is intended Currency Policy and Integrity Department
to boost capital market development in the country  Ensures adequate currency supply through policy
 Leads the development and implementation of issuance and formulation to achieve an efficient and
strategies to ensure sound and secure operation of effective currency management cycle
the BSP-owned Philippine Payments and Settlements  Leads the development of an integrated system on
System (PhilPaSS) and the PERA System
end-to-end
(PERASys)
 currency management information
CURRENCY AND SECURITIES PRODUCTION SUB-  Facilitates the issuance of banknotes and coins from
SECTOR production to distribution
 Promotes currency integrity through examination and
Financial Services Group analysis of mutilated and counterfeit notes
 Implements and maintains an accounting system that
would regulate the operations and financial conditions
24
 Consumer Protection and Market Conduct Office

 Develops and implements the overall strategy to

promote consumer protection and fair market conduct

Economic and Financial Learning Office

 Serves as the BSP’s learning and resource center for

financial and economic matters
 Plans, develops, and implements communication
strategies

REGIONAL OPERATIONS SUB-SECTOR

 Supervises the BSP Regional Offices and Branches

Provident Fund Office

 Administers the Funds, and implements rules and

regulations
 Manages the Funds’ investment portfolio and its
earnings

Security Services Department

STRATEGIC COMMUNICATION SUB-SECTOR
 Responsible for securing the safety of BSP premises
Corporate Affairs Office and personnel

 Provides professional photo/video multimedia New Clark City (NCC) – Program Management Office
services to the BSP’s top management, and
offices/departments  Responsible for the construction of buildings and
 Provides protocol, civic, social, and support facilities at the NCC Complex, as well as the transition
and transfer of operations there at
Communication Office
MANAGEMENT SERVICES SUB-SECTOR
 Serves as a clearinghouse for all press releases,
Incident Management Team Operations Center
messages, and contents to be released
 Plans, develops, and implements the public relations,  Reviews, develops, updates, and implements the
advertising, and information programs Incident Management Plan and Disaster Control
Manual
FINANCIAL INCLUSION AND CONSUMER
EMPOWERMENT SUB-SECTOR Facilities Management and Engineering Department
Financial Inclusion Office  Responsible for the general upkeep of the BSP main
building complex and premises
 Analyzes financial inclusion and consumer
empowerment data to support evidence-based policy Project Development and Management Department
making
 Designs and implements advocacy programs  Provides the necessary architectural and engineering
design services
25
Administrative Services Department Budget Management Department

 Responsible for property control  Serves as technical staff of the BSP Budget
Committee
Asset Management Department  Provides technical assistance in the preparation,
monitoring, and administration of their respective
 Administers, preserves, and disposes properties
budgets; and
acquired or foreclosed by the BSP in payment for
loans secured from the Bank  Performs periodic vetting/evaluation of budget
variance/accountability reports
HUMAN RESOURCE AND ORGANIZATION DEVELOPMENT
(HROD) Financial Accounting Department

Data Management and Analytics Group  Responsible for the accounting, bookkeeping, fund
administration, and disbursement activities of the BSP
 Responsible for enabling digitalization, data
collection, and analytics in the HROD THE BSP'S APPROACH TO MONETARY POLICY

HR Policies and Studies Group  The primary objective of the BSP's monetary policy is
“to promote price stability conducive to a balanced
 Leads and coordinates with other HROD units in the and sustainable growth of the economy” (Republic Act
development of HR policies, guidelines, rules and 7653).
regulations  The adoption of inflation targeting framework of
monetary policy in January 2002 is aimed at
Organization Development Department achieving this objective.
 Inflation targeting is focused mainly on achieving a
 Responsible for enabling organizational effectiveness
low and stable inflation, supportive of the economy’s
 Responsible for leading the development/design and
growth objective.
implementation of policies, standards, procedures,
 To achieve the inflation target, the BSP uses a suite of
and programs
monetary policy instruments in implementing the
Human Resource Management Department desired monetary policy stance, depending on its
assessment of the outlook for inflation.
 Responsible for the management and provision on
employment policies HIGHLIGHTS OF MB MEETINGS ON MONETARY POLICY

Capacity Development Department  During the meeting on monetary policy this

November, the Monetary Board decided to keep the
 Responsible for leading the design and BSP’s Target Reverse Repurchase (RRP) Rate
implementation of policies, programs, and initiatives unchanged at 6.50 percent.
for the development of the BSP’s human capital  Accordingly, the interest rates on the overnight
deposit and lending facilities will be maintained at 6.0
Health and Wellness Department percent and 7.0 percent, respectively.
 The risk-adjusted inflation forecasts remain above the
 Responsible for the health and wellness programs for
target for 2024 at 4.4 percent (from 4.7 percent in the
employees
previous meeting in October) and within the target for
PROCUREMENT MANAGEMENT SUB-SECTOR 2025 at 3.4 percent (from 3.5 percent).
 The BSP survey of external forecasters shows that
Bids and Awards Committee Secretariat and Policy Group inflation expectations for 2024 rose above the target
range in the October 2023 survey and have declined
 Provides secretariat, operational, and administrative to the upper bound of the target in the November
support to the Bids and Awards Committees (BACs survey, while remaining anchored for 2025.
 Conducts procurement-related activities  Looking ahead, the Monetary Board continues to
deem it necessary to keep monetary policy settings
Procurement Management Department I and II
sufficiently tight until a sustained downtrend in
 In-charge of processing of PRs inflation becomes fully evident and inflation
expectations are firmly anchored.
COMPTROLLERSHIP SUB-SECTOR  Guided by incoming data, the BSP remains prepared
to resume monetary policy tightening as necessary to
Oversight and Technical Services Group steer inflation towards a target-consistent path, in line
with its price stability mandate
 Provides oversight function over operating
departments
 Ensures BSP’s proper and timely compliance with tax
laws MONETARY OPERATIONS

26
 1. Open Market Operations issued by the National Government (NG) which can
2. Acceptance of Term Deposits be traded for liquidity purposes.
3. Standing Liquidity Facilities
4. Other Liquidity Management Facilities ACCEPTANCE OF TERM DEPOSITS

 Offering term deposits to absorb liquidity

OPEN MARKET OPERATIONS Term Deposit Facility (TDF)

 Raising or lowering the overnight RRP rate (policy  The TDF is a key liquidity absorption facility,
rate) or rate at which BSP borrows from banks and commonly used by CBs for liquidity management.
eligible financial institutions using its holdings of  Due to the BSP’s inability to issue its own debt
government securities as collateral instruments except in cases of extraordinary
 Issuance of BSP securities to absorb excess liquidity movement in price levels under R.A. 7653, the TDF is
from the financial system by locking funds in longer- tasked to withdraw a large part of the structural
term monetary instruments liquidity surplus from the financial system to bring
 Outright sale or purchase of government securities market rates closer to the BSP policy rate.
 The BSP offers three tenors— 7 days, 14 days and 28
Overnight RRP Facility days—in its weekly term deposit auction. However,
the 28-day TDF has not been offered starting the 14
 Reverse repurchase (RRP) operation refers to the October 2020 TDF auction, reflecting the full
BSP’s monetary policy instrument where the BSP migration of auction volumes to the 28-day BSP Bills.
sells government securities (GS) to participating
entities in the RRP facility with a commitment to buy it STANDING LIQUIDITY FACILITIES
back at a specified future date and at a predetermined
rate.  Offering standing liquidity (deposit and lending)
 For the period 3 June 2016 to 13 July 2023, the windows to absorb or provide liquidity at the initiative
overnight RRP facility was operated using fixed-rate of the counterparty
and fixed-volume auction format. The interest rate
Standing Liquidity Facilities
was fixed at the policy rate of the BSP while the
volume offering was typically fixed at P305 billion. The BSP offers standing liquidity (lending and deposit)
 Starting on 14 July 2023 until 7 September 2023, the windows that help counterparties adjust their liquidity positions
overnight RRP facility was offered using a fixed rate at the end of the day.
full-allotment method.
 Beginning on 8 September 2023, the overnight RRP  These standing overnight facilities are available on
facility is offered using variable-rate tenders, multiple demand to qualified counterparties during BSP
price auction format. Under a variable-rate RRP business hours.
auction format, the BSP announces an offer size  The two standing facilities that form the upper and
based on its forecasts of excess system liquidity. lower bound of the corridor are set at ± 50 basis
points (bps) around the target policy rate (the
Issuance of BSP Securities overnight RRP rate under the IRC structure).

 BSP Securities are monetary instruments issued by OTHER LIQUIDITY MANAGEMENT FACILITIES
the BSP for its monetary policy implementation and
liquidity management operations to steer short-term  Increasing/decreasing the reserve requirement or the
market interest rates towards the policy rate and percentage of bank deposits and deposit substitute
influence liquidity conditions in the financial system. liabilities that banks must set aside in deposits with
 With the passage of Republic Act (R.A.) 11211, the the BSP which they cannot lend out, or where
BSP’s authority to issue its own debt securities as part available through reserve-eligible government
of its instruments for regular monetary operations has securities
been restored  Adjusting the rediscount rate on loans extended to
 The issuance of BSP securities complements the financial institutions on a short-term basis against
other short-term monetary policy tools used by the eligible collateral of banks' borrowers
BSP to manage liquidity in the financial system, such
RESERVE REQUIREMENTS
as, the term deposit facility (TDF), overnight reverse
repurchase (RRP) facility, overnight deposit facility  Reserve requirements refer to the percentage of
(ODF), and overnight lending facility (OLF). bank deposits and deposit substitute liabilities that
 Moreover, the issuance of BSP Securities provides banks must set aside in deposits with the BSP which
the BSP with greater flexibility in managing the they cannot lend out, or where available through
liquidity in the financial system. reserve-eligible government securities.
 BSP Securities will likewise add to the pool of risk-free  Changes in reserve requirements have a significant
assets in the financial system alongside the securities effect on money supply in the banking system,

27
 making them a powerful means of liquidity ▪ Bank reserves are the amount of money banks hold in the
management by the BSP. vault plus the amount in deposits they have at the Bangko
 Reserve requirements are imposed on the peso Sentral ng Pilipinas.
liabilities of universal/commercial banks (UBs/KBs), ▪ The amount of assets that must be kept on hand to meet any
thrift banks (TBs), rural banks (RBs) and cooperative withdrawals is known as a reserve requirement.
▪ There are two main types of bank reserves: required and
banks (Coop Banks), and non-bank financial
excess.
institutions with quasi-banking functions (NBQBs).
▪ Banks generate revenue by accepting consumer deposits
 The existing reserve requirement ratios vary across and then lending that capital to someone else at a greater rate
bank types and liabilities. of interest.
▪ The reserve ratio is multiplied by the full amount of deposits
BANK RESERVES held by a bank to determine its reserves: Reserve
Requirement = Reserve Ratio x Total Deposits
 Bank reserves are a bank's amount they hold in the
▪ Bank reserves have several functions. These include
vault plus the amount in deposits held at the Bangko ensuring enough money is on hand to cover any customer
Sentral ng Pilipinas. withdrawal requests, stimulating the economy, and supporting
 Reserve Requirement Ratio for Local Currency financial institutions by ensuring they have extra funding left
Deposits in the Philippines was set by BSP at 12.0 % over after all of the lending they do.
in November 2022 ▪ Dr. Felipe Medalla is the current Governor of the Bangko
 BSP cuts banks’ reserve requirements starting June Sentral ng Pilipinas
30, 2023
o BSP implements a reduction in the reserve
SG 8: EXCHANGE RATE MANAGEMENT BY THE
requirement ratios (RRRs) by 250 basis
CENTRAL BANK
points (bps) for universal and commercial
banks (U/KBs) and non-bank financial  An exchange rate is how much it costs to
institutions with quasi banking functions exchange one currency for another. Exchange
(NBQBs) rates fluctuate constantly throughout the week as
o 200 bps for digital banks, and currencies are actively traded. This pushes the price
o by 100 bps for thrift banks, rural banks, and up and down, similar to other assets such as gold or
cooperative banks. stocks. The market price of a currency is different
o This measure shall bring the RRRs of U/KBs than the rate you will receive from your bank when
and NBQBs to 9.5 percent, digital banks to you exchange currency.
6.0 percent, thrift banks to 2.0 percent, and  The exchange rates are critical to be employed
rural and cooperative banks to 1.0 percent. because it helps facilitate foreign trades. It
additionally helps the lender make good
LEARNING POINTS investments in the offshore arena. It also helps
▪ The powers and function of Bangko Sentral are exercised by tourists traveling across the globe to determine
its Monetary Board, which has seven members appointed by the cost of travel from domestic countries to
the President of The Philippines. Under the New Central Bank offshore locations. Finally, the exchange rates also
Act, one of the government sector members of the Monetary help indicate how well the domestic country holds
Board must also be a member of the Cabinet designated by the purchasing power concerning the foreign
the President. nations.
▪ Pursuant to Republic Act No. 7653 (The New Central Bank
Act), the Governor shall be the chief executive officer of the WHAT IS EXCHANGE RATE?
Bangko Sentral.
▪ The Governor of the Bangko Sentral shall be the principal  The exchange rate is the price of a unit of foreign
representative of the Monetary Board and of the Bangko currency in terms of the domestic currency. In the
Sentral and, in such capacity and in accordance with the Philippines, for instance, the exchange rate is
instructions of the Monetary Board. conventionally expressed as the value of one US
▪ The Governor is the chief executive officer of the BSP and is dollar in peso equivalent. For example, US$1 =
required to direct and supervise the operations and internal P50.00.
administration of the BSP.  In every exchange rate quotation, therefore, there are
▪ Monetary Policy is a process whereby the monetary authority always two currencies involved.
attempts to achieve a desired set of economic goals by
controlling money supply, cost and availability of credit or the IMPORTANCE OF EXCHANGE RATE
allocation of credit to its various uses.
▪ Monetary policies are formulated by the Monetary Board and The exchange rate is important for several reasons:
implemented by the Central Bank through its various monetary
tools.  It serves as the basic link between the local and the
▪ The abandonment of the Gold Standard and its various overseas market for various goods, services and
modifications gave way to a new era of monetary system; the financial assets. Using the exchange rate, we are able
birth of managed currency system. to compare prices of goods, services, and assets
quoted in different currencies.

28
  Exchange rate movements can affect actual inflation  The country’s economic health plays a role in
as well as expectations about future price determining its exchange rate. If a country has a
movements. Changes in the exchange rate tend to strong economy, people will buy its goods and
directly affect domestic prices of imported goods and services. This results in more international currency
services. A stronger peso lowers the peso prices of being injected into the local economy. On the flip side,
imported goods as well as import‐intensive services things like financial instability or political turmoil can
such as transport, thereby lowering the rate of make international investors nervous and they may
inflation. For instance, an increase in the value of the move their capital to more stable countries.
peso from US$1:P50to US$1:P40 will lower the price
of a $1 per liter gasoline from P50.00 (P50 X $1) to DIFFERENT KINDS OF EXCHANGE RATE
P40.00 (P40X $1).
There are two different kinds of exchange rates to be aware of
 Exchange rate movements can affect the country’s around the world: flexible and fixed exchange rates.
external sector through its impact on foreign trade. An
appreciation of the peso, for instance, could lower the Flexible exchange rates
price competitiveness of our exports versus the
products of those competitor countries whose  Flexible exchange rates, which are used by many
currencies have not changed in value. developed countries, depend on a country’s current
 The exchange rate affects the cost of servicing supply and demand, and “self-correct” based on
(principal and interest payments) on the country’s changes in the economy. With a flexible exchange
foreign debt. A peso appreciation reduces the amount rate, if the demand for a currency is low, its value will
of pesos needed to buy foreign exchange to pay decrease. This makes imported goods more
interest and maturing obligations. expensive and can stimulate the economy as
consumers turn to local goods and services,
FACTORS AFFECTING EXCHANGE RATE generating jobs that contribute to a market correction.
Since this cycle happens often, a flexible exchange
One of the most common questions about exchange rates is rate is always changing.
“why do exchange rates change so frequently?” This is
 When a country has a flexible exchange rate, this also
because they depend on several factors, such as interest
means that the government or central bank doesn’t
rates, money supply, and financial stability.
actively work to keep the exchange rate fixed or
Interest rates regulated. Instead, the forex market influences the
exchange rate. For example, as of February 2021, the
 Interest rates, inflation, and exchange rates are exchange rate was 1 USD to 0.83 EUR, but at the
closely related because they directly influence each end of March 2020, it was about 1 USD to 0.91 EUR.
other. When financial institutions change the interest
rate, this impacts currency values. Higher interest Fixed exchange rates
rates mean that lenders receive a higher return
 Fixed exchange rates are set and maintained by a
compared to other economies, which then motivates
country’s government, resulting in an official
them to spend more money in that country. This leads
exchange rate. This set price is usually determined
to an influx in foreign capital, which causes the
against a major international currency, like the US
exchange rate to increase.
dollar.
 Decreasing interest rates have the opposite effect. As
 For a fixed exchange rate to work, the central bank
interest rates go down, so do exchange rates. In
buys and sells currency on the forex market in return
short, higher interest rates make a country’s currency
for the currency it’s compared against. For example, if
more valuable, which drives investors to exchange
a country fixes their exchange rate equal to 2 USD,
their local currency for the higher-paying one.
they then supply themselves with enough US dollars
Money supply to supply the market with that exchange rate. These
reserves are called foreign reserves and help regulate
 Money supply, or how much cash a country has on market fluctuations, inflation, and deflation, and as a
hand, influences both inflation and exchange rates. result, the country’s exchange rate.
This is the money that the country’s central bank  As of February 2021, countries with a fixed exchange
creates. If there is too much money in circulation, this rate include Saudi Arabia, Belize, Cuba, Hong Kong,
causes inflation. This also means that the country’s Panama, United Arab Emirates, and a few others.
currency isn’t worth as much because there is more of
it. THE COUNTRY’S FOREIGN EXCHANGE POLICY
 When that currency is exchanged internationally, it’s At present, the country's exchange rate policy supports a freely
not worth as much because there’s an excess, floating exchange rate system whereby the Bangko Sentral ng
resulting in a decreasing exchange rate. This is what Pilipinas (BSP) leaves the determination of the exchange rate
economists mean when they talk about how “strong” a to market forces. Under a market‐determined exchange rate
currency is. framework, the BSP does not set the foreign exchange rate but
Financial stability instead allows the value of the peso to be determined by the
supply of and demand for foreign exchange.
29
Under a floating exchange rate system, if more dollars are instantly and without fees, but paying a markup, is a worthwhile
demanded than are offered, the price of the dollar in terms of compromise
the peso will tend to increase; that is, it will cost more pesos to
acquire one dollar. If, on the other hand, more dollars are EXCHANGE RATE FORMULA
offered than are demanded, the value of the dollar in terms of
The exchange rate is defined as the rate based on which two
the peso will tend to decrease; that is, it will cost less pesos to
countries are involved in trade exchange marketable items or
acquire one dollar. In contrast, under a fixed rate system, a
commodities. It is the cost of exchanging one currency for
change in the exchange rate is effected through an official
another currency. Therefore, can calculate the exchange rate
announcement by the central bank.
as per the below-mentioned relationship: –
Thus, the BSP’s participation in the foreign exchange market is
Exchange Rate = Money in Foreign Currency / Money in
limited to tempering sharp fluctuations in the exchange rate.
Domestic Currency
On such occasions of excessive movements, the BSP enters
the market mainly to maintain order and stability. When Additionally, it can also be determined as per the below-
warranted, the BSP also stands ready to provide some liquidity mentioned relationship: –
and ensure that legitimate demands for foreign currency are
satisfied. Exchange Rate = Money in After Exchange / Money Before
Exchange
READING AN EXCHANGE RATE
Here, money after exchange corresponds to foreign currency,
If the USD/CAD currency pair is 1.33, that means it costs 1.33 and the money before an exchange is regarded as domestic
Canadian dollars for 1 U.S. dollar. In USD/CAD, the first currency. The exchange rate is determined by making up pairs
currency listed (USD) always stands for one unit of that between different currencies. The financial institutions or the
currency; the exchange rate shows how much of the second central banks of the respective nations help determine the
currency (CAD) is needed to purchase that one unit of the first currency pairs.
(USD).
Below is an example of the exchange rate equation.
This rate tells you how much it costs to buy one U.S. dollar
using Canadian dollars. To find out how much it costs to buy Example #1
one Canadian dollar using U.S. dollars, use the following
Let us take the example of a trader who wants to invest in the
formula: 1/exchange rate. In this case, 1 / 1.33 = 0.7518. It
exchange-traded funds traded in US markets. The trader has
costs 0.7518 U.S. dollars to buy one Canadian dollar. This
INR 10,000 to invest in the exchange-traded funds traded in
price would be reflected by the CAD/USD pair; notice the
the offshore market. However, the trader lives in India, and 1
position of the currencies has switched.
INR corresponds to 0.014 USD.
CONVERSION SPREAD
Help the trader determine the value of INR investment in terms
When you go to the bank to convert currencies, you most likely of US currency.
won't get the market price that traders get. The bank or
Solution:
currency exchange house will markup the price so they make a
profit, as will credit cards and payment services providers such Use the below-given data to calculate the money after the
as PayPal, when a currency conversion occurs. exchange rate.
If the USD/CAD price is 1.33, the market is saying it costs 1.33 Determine the value of exchange in terms of US dollars as
Canadian dollars to buy 1 U.S. dollar. At the bank though, it displayed: –
may cost 1.37 Canadian dollars. The difference between the
market exchange rate and the exchange rate they charge is The value of exchange in terms of US dollars = 0.014*10,000
their profit. To calculate the percentage discrepancy, take the
difference between the two exchange rates, and divide it by the Value of Exchange in Terms of US dollars will be:-
market exchange rate: 1.37 - 1.33 = 0.04/1.33 = 0.03. Multiply
Money in After Exchange = $140.
by 100 to get the percentage markup: 0.03 x 100 = 3%.
Therefore, the trader would get $140 in USD dollars when he
A markup will also be present if converting U.S. dollars to
approaches a bank or a foreign exchange institution to convert
Canadian dollars. If the CAD/USD exchange rate is 0.75 (see
INR to USD currency.
the section above), then the bank may charge 0.7725. They
are charging you more U.S. dollars than the market rate. Example #2
0.7725 - 0.75 = 0.0225/0.75 = 0.03 x 100 = 3% markup.
Let us take the example of an individual planning a trip from
Banks and currency exchanges compensate themselves for the USA to the European Union. He has a planned budget of
this service. The bank gives you cash, whereas traders in the $5,000. The travel agent informs the traveler that if he
market do not deal in cash. In order to get cash, wire fees and exchanges US dollars to Euro, he will get €4,517.30.
processing or withdrawal fees would be applied to a forex
account in case the investor needs the money physically. For Help the traveler determine the exchange rate between the
most people looking for currency conversion, getting cash USA and the Euro.

30
Solution:

Use the below-given data for the calculation of the exchange  What is the country’s foreign exchange policy?
rate. At present, the country's exchange rate policy supports
a freely floating exchange rate system whereby the Bangko
Determine the exchange rate between US and Euro as Sentral ng Pilipinas (BSP) leaves the determination of the
displayed: – exchange rate to market forces. Under a market‐determined
exchange rate framework, the BSP does not set the foreign
Exchange Rate (€/ $) = € 4,517.30 / $5,000 exchange rate but instead allows the value of the peso to be
determined by the supply of and demand for foreign exchange.
Exchange Rate will be:-
Thus, the BSP’s participation in the foreign exchange market is
Exchange Rate (€/ $) = 0.9034 limited to tempering sharp fluctuations in the exchange rate.
On such occasions of excessive movements, the BSP enters
Therefore, the exchange rate between the US and Euro is the market mainly to maintain order and stability. When
0.9034. Therefore, if the traveler plans to raise the budget, he warranted, the BSP also stands ready to provide some liquidity
can consider the above-calculated exchange rate. and ensure that legitimate demands for foreign currency are
satisfied.
Example #3
 How is foreign exchange traded in the market?
Let us take the example of a trader from the USA to make In the Philippines, banks trade foreign exchange using an
investments in the UK financial market. He has a planned electronic trading platform called the Philippine Dealing
budget of $20,000. The offshore broker informs the trader that and Exchange Corp. (PDEx) through any of the following
if he exchanges US dollars for the British pound, he will get ways: Reuters or Bloomberg dealing, over‐the‐counter, or
£15,479.10 via brokers. The PDEx captures all spot transactions
(which involve the purchase or sale of a foreign currency for
Help the trader determine the exchange rate between the USA immediate delivery, i.e., within one day for US dollars and
and UK. within two days for other convertible currencies), done through
any of these transaction vehicles. When banks trade, either for
Solution: their clients or for their own accounts, they follow a set of
guidelines laid by the BSP (Manual of Regulations on
Use the below-given data for the calculation of the exchange Foreign Exchange Transactions, as amended; Circular 471
rate. dated 24 January 2005; and other applicable BSP
regulations) to ensure orderly trades in the foreign exchange
Determine the exchange rate between US and Euro as
markets.
displayed: –

Exchange Rate (£/ $) = £15,479.10 / $20,000  How does one judge whether the exchange rate is
at an appropriate level or not?
Exchange Rate (£/ $) will be:- One way of judging the appropriate level of the exchange
rate is by looking at the trend in the real effective exchange
Exchange Rate (£/ $) = 0.77 rate (REER) of the peso versus a basket of currencies. This
measure takes into account not only the nominal exchange
Therefore, the exchange rate between the US and the pound is rate movements but also the relative inflation rates among
0.77. Therefore, if the trader plans to raise the budget, he can trading and competing countries. As such, the REER is a more
consider the above-calculated exchange rate comprehensive measure of external price
competitiveness. On 26 March 2013, the BSP released
WRITTEN REPORT 8: EXCHANGE RATE three new indices which measure the nominal and real
effective exchange rates (EER) of the peso relative to the
 How is the exchange rate determined? currencies of the following groups of countries: 1) all major
Under the system of freely floating exchange rates, the trading partners (TPI) of the Philippines covering merchandise
value of the dollar in terms of the peso is determined in the exports and imports;1 2) trading partners in advanced
interbank foreign exchange market (by the forces of supply and countries (TPI‐A);2 and 3) trading
demand just like any commodity or service being sold in the
market). Under a fixed exchange rate system, a par value
rate is set between the peso and the dollar by the central bank.
The par value may be adjusted from time to time.

 How does the exchange rate change?

Under a floating exchange rate system, if more dollars
are demanded than are offered, the price of the dollar in terms
of the peso will tend to increase; that is, it will cost more pesos
to acquire one dollar. If, on the other hand, more dollars are
offered than are demanded, the value of the dollar in terms of
the peso will tend to decrease; that is, it will cost less pesos to
acquire one dollar. In contrast, under a fixed rate system, a
change in the exchange rate is effected through an official
announcement by the central bank.
31
partners in developing countries (TPI ‐D).3 The methodology  If the exchange rate movement threatens to
move inflation rate outside its target range, the
1 The Trading Partners Index (TPI) measures the nominal BSP also uses monetary policy measures,
and real effective exchange rates of the peso across the including adjusting the key policy rates or the
currencies of 14 major trading partners of the Philippines, interest rates it charges for its borrowing and
which includes US, Euro Area, Japan, Australia, China, lending activities. For example, in periods of
Singapore, South Korea, Hong Kong, Malaysia, Taiwan, weakening pressure on the peso, increases in
Indonesia, Saudi Arabia, United Arab Emirates, and interest rates tend to dampen the demand for
Thailand. The major trading partners of the Philippines are dollars. As a result, the depreciation pressure
defined as trading partners which accounted for at least one on the peso eases. However, any such interest
percent share of the total merchandise exports and imports rate action needs to be consistent with the price
of the Philippines for the past five years (2007‐2011). stability objective of the BSP.
2 The TPI‐Advanced measures the effective exchange  The BSP has also combined foreign exchange
rates of the peso across currencies of trading partners in intervention and monetary measures with
advanced countries comprising of the US, Japan, Euro market‐based foreign exchange regulations to
Area, and Australia. ensure stability in the foreign exchange
3 The TPI‐Developing measures the effective exchange market. For example, the BSP has been keeping
rates of the peso across 10 currencies of partner developing FX regulations responsive through the
countries which includes China, Singapore, South Korea, liberalization of FX rules (with appropriate
Hong Kong, Malaysia, Taiwan, Indonesia, Saudi Arabia, safeguards). The BSP likewise continues to have
United Arab Emirates, and Thailand. recourse to measures that can cushion the
impact of sharp peso movements. These include
used for calculating the new indices was also revised as the maintaining a healthy level of foreign exchange
BSP shifted from arithmetic to geometric formulation and reserves as buffer; reviewing and adjusting
from base year to chained indices. macroprudential measures (such as risk weight
Starting 2014, the new indices replaced the old EER for non‐deliverable forwards); and liquidity
indices as the official effective exchange rate indices of the enhancing and management tools such as the
BSP. The new peso EER indices would enable the BSP to US dollar repo facility, exporters’ dollar and yen
gauge more objectively the overall movements in the exchange rediscounting facilities (EDYRF) and the
rate of the peso across currencies. An increase in the indices enhanced guidelines on Currency Risk Protection
means an overall appreciation of the peso and a consequent Program (CRPP).
loss in external price competitiveness against the basket of
currencies, while a decrease translates to a real depreciation RECENT DEVELOPMENTS IN THE EXCHANGE RATE
and a corresponding gain in external price competitiveness.
 How has the exchange rate moved in the first
 How does one measure the volatility of the peso? quarter of 2020 and what were the factors
One way of measuring the volatility of the peso is through behind the movement?
the coefficient of variation (COV), which is the ratio of the The peso appreciated against the US dollar in
standard deviation and the average exchange rate of the Q1 2020. The peso averaged ₱50.83/US$1 in Q1
peso for a given period. A low coefficient of variation 2020, appreciating by 0.39 percent from the Q4 2019
indicates a stable peso while a high coefficient of variation average of ₱51.03/US$1. On a y‐o‐y basis, the peso
reflects a volatile peso. likewise appreciated by 3.02 percent relative to the
₱52.37/US$1 average in Q1 2019. The peso
 What measures are undertaken by the BSP to appreciated in Q1 2020 due partly to the continued
maintain order and stability in the foreign decline in oil prices in the world market and positive
exchange market? market sentiment amid the Fitch Ratings’ credit rating
 The BSP uses three general tools to outlook upgrade for the Philippines in February 2020.
operationalize the exchange rate policy, namely: Policy measures implemented by authorities to
1) participation in the foreign exchange counter the impact of the COVID‐19 on the economy
market; 2) monetary policy measures; and 3) also supported the peso. In January 2020, the peso
foreign exchange regulations. depreciated by 0.14 percent to an average of
 The BSP participates by buying and selling ₱50.84/US$1 from the ₱50.77/US$1 average in
foreign exchange in the foreign exchange December 2019. The peso’s depreciation was due
market to ensure order and temper destabilizing partly to global market risk aversion and safe ‐haven
swings in the exchange rate. It does not set out buying driven by (i) the geopolitical tension between
to reverse the underlying trend of the peso, the US and Iran; and (ii) heightened fears of the
whether it is appreciating or depreciating; rather, potential economic impact of the spread of novel
its objective is to smooth out volatility in the coronavirus from Wuhan, China.
exchange rates. Assume that there is an Meanwhile, in February, the peso appreciated
artificially strong demand for dollars which is slightly by 0.18 percent to an average of
causing the exchange rate to weaken. The BSP ₱50.74/US$1 from the average a month ago. The
can suppress speculation by selling dollars to peso appreciated amid market expectation of a rate
moderate the depreciating trend. If there is an cut by the BSP during its 6 February 2020 monetary
artificially strong supply of dollars relative to policy meeting; optimism over China’s actions
demand in the market, the BSP can soften the towards containing the coronavirus outbreak; and
appreciation of the peso by buying dollars. reduced market uncertainty after the conclusion of the
32
 impeachment proceedings in the US Congress. In level of the peso has the following benefits: (i) a flexible peso is
addition, positive market sentiment over the credit consistent with the BSP’s inflation targeting (IT) framework;
rating outlook upgrade for the Philippines by Fitch and (ii) a flexible peso acts as an automatic stabilizer to restore
Ratings, as well as the release of trade deficit data for macroeconomic balance for a small open economy like the
2019, which narrowed to $37.05 billion from $43.53 Philippines.
billion in 2018, likewise provided support to the peso.
In March, the peso depreciated by 0.31 percent to an POLICY RESPONSES BY THE BSP
average of ₱50.90/US$1 from the average in the  What were the recent foreign exchange
previous month. The peso’s depreciation reflected measures undertaken by the BSP?
continued concerns over the global impact of the  FX Rules Further Liberalized (Feb 2016)
coronavirus disease, which has then spread outside To maintain a safe and sound financial system and a
China and over hints of a possible rate cut by the US stable FX market, the Monetary Board (MB) approved further
Federal Reserve to cushion the impact of the liberalization of the rules governing FX transactions in the
outbreak in the US economy. The imposition of a Philippines. The amendments include: Prior BSP approval is
community quarantine in the National Capital Region no longer required for the borrowings from offshore
(NCR) and, afterwards, the enhanced community sources/FCDUs of banks of the following resident entities:
quarantine covering the entire island of Luzon amid  Purely private sector loans (i.e., without guarantee from
concerns over the spread of COVID‐19 in the country the public sector or banks) that are intended to finance
have likewise added pressure to the peso. On a year‐ energy‐/power‐related projects; and  Private non‐bank
to‐date basis, the peso depreciated slightly against financial institutions engaged in microfinance activities
the US dollar by 0.09 percent to close at where loan proceeds will be used for microfinance lending.
₱50.68/US$1 on 31 March 2020 from the end‐ o Allowing the conversion to FX of pesos arising from
December 2019 closing rate of ₱50.64/US$1.5 disapproved subscriptions of non‐resident investors to stock
rights offering of companies listed at the Philippine Stock
 How did the peso behave on a real trade– Exchange.
weighted basis?  Other procedural/clarificatory amendments to the Manual of
On a real trade‐weighted basis, the peso lost external Regulations on Foreign Exchange Transactions were also
price competitiveness in Q1 2020 against the basket of approved for better guidance of users.
currencies of all trading partners (TPI); trading partners in
advanced (TPI‐A) countries; and trading partners in developing  FX Rules relaxed/ liberalized anew (Jul 2016)
(TPI‐D) countries relative to Q4 2019. This was indicated by As part of continuing efforts to keep regulations
the increase in the real effective exchange rate (REER) index appropriate for the changing needs of the Philippine economy
of the peso by 3.55 percent 5.67 percent, and 2.41 percent, and following the thrust towards greater openness in view of
against the TPI, TPI‐A and TPI‐D baskets, respectively. the country’s increasing integration with global markets, the
Relative to Q1 2019, the peso likewise lost external price MB further liberalized existing regulations governing
competitiveness across currency baskets during the transactions in FX effective 15 September 2016:
review period. This developed following the nominal  Increased the amount of FX that Philippine
appreciation of the peso and the widening inflation differential, residents may purchase from the banking system
resulting in the increase in the REER index of the peso by 5.15 without supporting documentation (other than an
percent, 5.14 percent and 5.17 percent against the TPI, TPI ‐A application to purchase FX) for legitimate
and TPI‐D baskets, respectively. transactions from US$120,000 to US$500,000 (for
individuals) and US$1 million (for corporates). This is
 Has the peso been volatile? to enhance and further facilitate access to FX of both
The volatility of the peso’s daily closing rates (as individuals and corporates for legitimate nontrade
measured by the coefficient of variation) stood at 0.43 percent current account transactions.
in Q1 2020. This was lower than the 0.80 percent registered in  Allowed the deposit by Philippine residents of FX
the previous quarter.8 The volatility of the peso in the review purchased from banks for certain underlying
quarter was lower than the volatility of most currencies in the transactions (such as for travel abroad and payment
region. of certain obligations to non‐residents) into their
Foreign Currency Deposit Unit (FCDU) accounts,
 What is the medium‐term outlook on the peso? prior to outward remittance to the intended non‐
Over the policy horizon, the peso should continue to resident beneficiaries. This is to provide residents
reflect emerging demand and supply conditions in the foreign with greater flexibility in managing their cash flows as
exchange market. Once normal economic conditions resume well as provide greater ease in transacting in FX.
after the country recovers from the current pandemic, the  Lifted the prohibition on the sale of FX by banks
following factors should support liquidity and supply conditions and their forex corporations for resident‐to‐
in the foreign exchange market: inflows from overseas Filipino resident transactions. This is to facilitate payment
(OF) remittances and Business Process Outsourcing (BPO) by residents of obligations to their resident
revenues; and foreign direct investments. Meanwhile, the counterparties and allow further diversification of
ample level of the country’s gross international reserves; the residents’ investments.
country’s firm macroeconomic fundamentals; the credit rating  Lifted prior BSP approval and registration
upgrades that the country earned in recent years are expected requirements for private sector loans to be
to sustain market confidence towards the Philippine financial obtained from FCDUs/Expanded FCDUs of banks.
markets and provide stability to the local currency over the This is in line with the BSP’s thrust to facilitate
medium term. Moving forward, the movement of the peso will access of the private sector to bank financing.
remain market‐driven. Allowing market forces to determine the
33
  Increased the amount of Philippine currency that resources of the banking system. Previously, these
may be brought into/out of the country from loans can only be settled with the borrower’s own FX or
P10,000 to P50,000. This is to provide greater with funds sourced outside the banking system.
convenience to travelers to and from the Philippines
and allow settlement of obligations in jurisdictions (May 2018)
outside the Philippines where the Philippine Peso is  Lifted prior BSP approval on: (a) conversion of foreign
accepted as a currency of settlement. currency loans granted by banks to peso loans; and (b)
transfer of such loans, as well as Real and Other
 Further Amendments to FX Regulations Properties Acquired from banks’ foreign currency deposit
(Sep 2016) unit books to the Regular Banking Unit books.
 The BSP eased rules on foreign exchange flows  Prior BSP approval under certain conditions on the
anew to facilitate entry of significant amounts for transactions was originally put in place to ensure that
foreign banks in the country as they move to banks fully understand the nature and extent of the risks
meet capital requirements. This is intended to align involved. The conditions also ensure that banks have put
regulations with the provisions of R.A. No. 10641, in place appropriate business policies and risk
which allowed the full entry of foreign banks and management systems to manage these transactions.
BSP Circular No. 858 dated 21 November 2014.
 The approved policy changes mainly involve: (a)  Currency Rate Risk Protection Program
inclusion of an express provision that the FX funding for (October 2018)
permanently assigned capital of foreign bank branches  The BSP, on 5 October 2018, issued Circular No.
must be inwardly remitted and converted to pesos at the 1015,
exchange rate prevailing at the time of remittance, which outlines the enhanced guidelines of the
pursuant to the pertinent provisions of the Manual of “Currency Rate Risk Protection Program (CRPP)
Regulations for Banks (MORB); (b) use of a general Facility,” which was first implemented at the wake of
reference to the MORB instead of citing R.A. Nos. 7721 the 1997 Asian Financial Crisis.
and 10641 or the specific provisions of the MORB; and  The CRPP is a non‐deliverable forward (NDF) contract
(c) revision of the definitions of “unimpaired capital of a between the BSP and a universal/commercial bank
local bank”, “unimpaired capital of foreign bank (UKB) in response to the request of bank clients who are
branches” and “unimpaired capital of foreign bank seeking to hedge their borrowings denominated in
subsidiaries” as contained in the MORB. foreign currency to protect them from exchange rate
volatility. Under this facility, parties agree that, on
(Dec 2017) maturity of the forward contract, only the net difference
 Lifted prior BSP approval requirement for private sector between the contracted forward rate and the prevailing
foreign loans as well as foreign currency denominated spot rate shall be settled in pesos.
loans/borrowings from onshore banks (including those in  Under this facility, the eligible obligations are unhedged
the form of bonds/notes/other debt instruments issued foreign currency obligations in amounts of not less than
offshore) that are not guaranteed by the public sector. US$50,000.00 that are current and outstanding as of the
These borrowings will be subject to registration only if date of application, including:
these will be serviced with FX to be purchased from the  BSP‐reported/registered short‐term (ST)
banking system. traderelated loans from eligible banks;
 Streamlined and simplified documentary requirements  BSP‐reported medium/long‐term trade‐related
for applications for: (i) approval of public sector FCDU/RBU loans with payments maturing
foreign/foreign currency loans; and (ii) within 90 days as of date of application;
approval/registration of private sector foreign/foreign  BSP‐reported/registered short‐term trade‐
currency loans. related borrowings of oil companies from
 Replaced the positive list of costs/projects that may be offshore banking units (OBUs); and
funded with foreign/foreign currency loans with a general  US dollar trust receipts, among others.
policy statement (i.e., the purpose must be legitimate, Maximum tenor is 90 days with option to re‐avail.
and not contrary to laws, regulations public order, public The following are some of the regulatory relief
health, public safety, or public policy). encompassed in the CRRP facility:
 Lifted BSP registration for private sector, provided these  Exposures under the CRPP facility shall not be
are duly reported to the BSP: loans that are not subject to NDF position limits;
guaranteed by foreign governments/official export credit  Reduced market risk capital charges shall be
agencies covering importation of freely importable applied for net open positions for NDFs under
commodities under deferred L/Cs or D/A‐O/A this facility; and
arrangements with a term of more than one (1) year; and  UKBs will not need additional derivatives
short‐term loans in the form of export advances from authority since transactions under the CRPP
buyers abroad. are considered generally authorized derivatives
 Lifted the $60,000.00 daily limit on FX sale by depository activities.
banks (AABs) for the balance of peso deposit accounts
of non‐residents.  Further Amendments to FX Regulations (Jan
 Opened temporary window for registration of private 2019)
sector foreign/foreign currency loans. The temporary  Further liberalized rules on inward investment and
window was opened for six months to allow BSP associated derivatives transactions by broadening
registration of the accounts and servicing of the the coverage of inward investment transactions,
outstanding balances on scheduled due dates using FX allowing registration of investments filed beyond
34
 the prescriptive period, expanding the definition of
eligible banks that can register investments on
behalf of BSP, streamlining processes and
simplifying documentary requirements, and  Why not fix the exchange rate? Or adopt a dual or
facilitating sale of FX relating to investments; multiple exchange rate system?
 Further relaxed the rules on outward investments Under a system of fixed exchange rate, the central
and associated derivatives transactions by bank commits to sell or buy any amount of foreign currency in
expanding the coverage of outward investment excess of what is supplied by the market or offered for sale to
transactions and lifting the prior BSP approval keep the official exchange rate at a certain level. For a small
requirement for purchase of FX beyond the open economy such as the Philippines, large capital flows can
threshold amount, subject only to prior notification occur at any time. In times of massive dollar inflows, the
to the BSP; Allowed the submission of supporting monetary authorities must buy the excess dollars to keep the
documents through electronic means for: (a) foreign exchange at the desired level. In so doing, reserves are
registration of private sector foreign accumulated but pesos are released into the system from
loans/borrowings without public sector guarantee; which inflationary pressures could result. Siphoning off excess
(b) registration of inward investments; and (c) sale pesos for example (through the sale of government securities
of FX by banks covering various FX transactions; in the BSP's portfolio) could entail substantial cost to the BSP
and in terms of the difference between the cost of borrowing to pay
 Provided a grace period of one (1) year from for the dollar purchases and the return to the BSP on the
effectivity of the implementing Circular to file foreign exchange purchases. Apart from the fiscal costs of
applications for registration of investments sterilization, the sale of government securities is likely to push
regardless of the date of funding. up interest rates and attract additional foreign capital inflows
into the economy. On the other hand, in times of massive
 Operational relief measures for FX transactions in dollar outflows, monetary authorities must sell dollars to
response to COVID‐19 Pandemic (Mar 2020) accommodate any excess demand. In so doing, reserves are
 On 27 March 2020, the Monetary Board approved drawn down. If the massive outflow is sustained, reserves will
operational relief measures for FX transactions in line diminish. Before this happens, the central bank is forced to
with the declaration of “community quarantine” by the reset the official exchange rate, often opening itself to
Office of the President (OP) amidst the spread of exchange losses. Thus, fixing the exchange rate places a
coronavirus disease 2019 (COVID‐19).9 The following heavy burden on monetary authorities in terms of reserve and
measures are expected to facilitate the public’s liquidity management. A dual or multiple exchange rate system
access to the FX resources of the banking system to is discriminatory and distorts resource allocation. If the
finance legitimate transactions: government sets a high rate for exporters and OFs, it will have
 Relaxation of submissions of reports or to subsidize the difference between market rates and the fixed
applications (i.e., allowing for electronic higher rate. However, this is not feasible since government
submission and digital signature) of foreign revenues are not yet sufficient to cover our annual budget. On
currency loans/borrowings/investments; the other hand, private banks will not be willing to do this as it
 Non‐imposition of monetary penalties for will incur losses in the process of paying higher than prevailing
delayed submission of reports; market exchange rates.
 Waiver of applicable processing fees for
applications covering private sector  Is the current exchange rate policy in line with the
foreign/foreign currency loans/borrowings with inflation targeting approach to monetary policy?
FX obligations due within the period covered by The BSP’s adherence to a flexible or a market‐
the Circular; and determined exchange rate system anchors its commitment to
 Issuance of BSP documents [e.g., Bangko its constitutional mandate to maintain price stability. It is also
Sentral Registration Document (BSRD), consistent with the inflation targeting (IT) framework for
implementing letter] by the International monetary policy which demands disciplined commitment to
Operations Department in electronic form. participate in the foreign exchange market only in well‐defined
These measures are effective for the duration of the circumstances, such as when there is a need to smooth out
declaration of “community quarantine” by the Office of the exchange rate volatility which can threaten our inflation target.
President, or as may be extended by the BSP. The BSP’s participation in the foreign exchange market during
such a situation is compatible with price stabilization since
ISSUES ON FOREIGN EXCHANGE fluctuations in the exchange rate tend to feed directly into
 Why did the BSP adopt a floating rate system? domestic prices of imported goods and services, and indirectly,
The floating exchange rate system was adopted in through the prices of goods and services that use imported
1970 because the government considered that occasional, inputs. The increase in prices of both the imported and import
large fluctuations—typical of the fixed exchange rate system— intensive goods, in turn, leads to demands for wage hikes and
are more costly, destabilizing and disruptive to the economy transport fare adjustments, among other things. Through this
than the more frequent but more gradual changes that may channel, exchange rate movements affect both the actual
occur in a free float. The floating rate system is consistent with inflation and inflation expectations.
the current regime's national strategy of achieving external
competitiveness through efficiency, which is also a central  Why can't the BSP intervene more heavily during
theme of the foreign exchange liberalization efforts. In terms of periods of high peso volatility?
exchange rate policy, such efficiency is injected into the Heavy intervention cannot be sustained for a long
economy by basically leaving exchange rate determination to period of time because it could create problems for monetary
the market forces of supply and demand. policy. To sterilize intervention and mop up excess liquidity, the
35
central bank would have to either raise policy rates and/or activities will increase as it will be less costly and more
undertake open market operations. These policy actions may desirable for foreigners to travel and invest in the Philippines.
not be sustainable because they are costly to central banks. However, peso depreciation can also increase inflationary
 High interest rates required to siphon off liquidity pressures as it would cost more pesos to buy imported
would give countries with fiscal difficulties and/or products and raw materials such as oil and rice.
weak macroeconomic conditions very little room to
maneuver.
 Moreover, raising interest rates is likely to result in a
further increase in foreign capital inflows which may  What is the impact of “currency wars” on global
necessitate more sterilization, resulting in a vicious financial markets? What have been the policy
cycle. On the other hand, unsterilized interventions responses?
may lead to unwarranted monetary expansion and “Currency wars” refer to competitive currency
generate upward pressure on prices. This runs devaluations among countries. An example of this is the
counter to a central bank’s mandate to maintain price situation in which substantial monetary policy easing in many
stability. of the major advanced countries to support their economies
has fueled a downward slide in the value of their currencies,
 What is the view of the BSP regarding the imposition while emerging economies (including many Asian countries)
of capital controls? attempt to arrest the appreciation of their own currencies (e.g.,
Imposing strict capital controls poses more costs than against the US dollar) through a variety of measures. Policy
benefits. responses by emerging economies to cope with the risks
 First, there are administrative difficulties that must be brought about by large and destabilizing capital inflows have
hurdled to implement effectively these restrictions. included exchange rate appreciation, macroprudential
The tax on international transactions should be measures and tighter fiscal policy. However, there are
universally implemented to prevent the creation of tax significant cross‐country differences
arbitrage opportunities. Some difficulties in in the extent of exchange rate flexibility and the scope for
implementing the tax could also arise due to policy responses in some countries receiving large inflows.
advances in technology and the growing Competitive currency devaluations are a “beggar‐thy‐neighbor”
sophistication of financial instruments, which allow policy that can ultimately destabilize the still weak global
investors to circumvent controls and/or taxation. recovery. A sharp depreciation in the value of a major currency
 Second, the imposition of controls hampers the could result in the adoption of protectionist policies by other
efficient allocation of capital across countries. countries in response. This could destabilize global financial
 Finally, the re‐imposition of controls would send markets, pulling asset values away from fundamentals, and
negative signals to investors and adversely affect our eventually hurt businesses and households worldwide.
access to international capital markets and our ability
to attract foreign investments.  Is there a possibility for the establishment of a single
Association of Southeast Asian Nations (ASEAN)
 What are the advantages and disadvantages of a firm currency?
peso? Integration within the Asian region has been
On the one hand, a firm peso confers benefits to the progressing significantly in recent years. This may be observed
economy—the consumers in general (by tempering from the rise in intra‐regional trade and flows of investments
the general rise in the prices of goods and services or within the region. There are also a number of initiatives which
inflation arising from increases in international prices support the greater linkage between economies. These
of imported or import‐based commodities), importers, initiatives include the establishment of free trade agreements,
Filipinos who travel or invest abroad, and those who the Chiang Mai Initiative Multilateralization and various efforts
pay for foreign loans (including the government). to develop the regional bond market. Amidst these initiatives,
Overall, a firm peso: there is also a discussion on the possibility of the region
 Helps dampen inflationary pressures; adopting a single currency and eventually forming a monetary
 Translates to lower debt servicing; union with one central bank for the region. This issue has been
 Enables the BSP to build up international reserves; examined by economic authorities in the region and it has
and been found that the ASEAN is not ready yet to adopt a
 Allows prepayment of foreign exchange obligations. common currency in the near future. This is due to lack of
On the other hand, a firm peso could have some negative macroeconomic convergence, inadequate regional institutional
impact on certain sectors, including some export‐oriented framework, low intra‐regional trade and concerns over the
companies, domestic producers of import substitutes, tourism potential loss of sovereignty over national policymaking.
sector, foreign investors, and creditors who had lent money in Furthermore, more than the economic prerequisites, the
foreign currency, and overseas Filipinos and their families. formation of a common currency area requires political will and
social consensus. At present, these factors need to be
 What are the advantages and disadvantages of peso strengthened. The policymakers in the region are focusing
depreciation? instead on deepening integration through trade liberalization
A weak peso can improve the external price and financial market developments. While the adoption of a
competitiveness of Philippine products, thereby increasing the single currency may be difficult in the near to medium term, its
country’s export earnings. The peso equivalent of OF eventual emergence cannot be discounted.
remittances in foreign currencies will also increase as the peso
depreciation will mean more pesos in exchange of one foreign LEARNING POINTS
currency unit (e.g., US$1). Moreover, tourism and investment ▪ The exchange rate is the price of a unit of foreign currency in
terms of the domestic currency. In the Philippines, for instance,

36
the exchange rate is conventionally expressed as the value of the minister of finance or the head of the central
one US dollar in peso equivalent. For example, US$1 = bank.
P50.00.  Ministerial Committees: The IMF Board of
▪ In every exchange rate quotation, therefore, there are always Governors is advised by two ministerial committees,
two currencies involved. the International Monetary and Financial
▪ Exchange Rate serves as the basic link between the local Committee (IMFC) and the Development
and the overseas market for various goods, services and Committee. The IMFC has 24 members, drawn from
financial asset. the pool of 190 governors. Its structure mirrors that of
▪ Exchange rate movements can affect actual inflation as well the Executive Board and its 24 constituencies. As
as expectations about future price movements. such, the IMFC represents all the member countries
▪ The exchange rate affects the cost of servicing (principal and of the Fund.
interest payments) on the country’s foreign debt.  The Executive Board: The IMF’s 24-member
▪ Factors affecting exchange rate includes interest rates, Executive Board conducts the daily business of the
money supply, and financial stability. IMF and exercises the powers delegated to it by
▪ The two kinds of exchange rate are Flexible Exchange Rates the Board of Governors, as well as those powers
and Fixed Exchange Rates. conferred on it by the Articles of Agreement. With
▪ At present, the country's exchange rate policy supports a the entry into force of the Board Reform
freely floating exchange rate system whereby the Bangko Amendment on January 26, 2016, the all-elected
Sentral ng Pilipinas (BSP) leaves the determination of the Executive Board has been in place since the
exchange rate to market forces. subsequent election took effect on November 1,
▪ The BSP uses three general tools to operationalize the 2016. Previously, the member countries holding the
exchange rate policy, namely: 1) participation in the foreign five largest quotas were each entitled to appoint an
exchange market; 2) monetary policy measures; and 3) foreign Executive Director, while 19 were elected by the
exchange regulations. remaining member countries.
▪ If the USD/CAD currency pair is 1.33, that means it costs
1.33 Canadian dollars for 1 U.S. dollar. In USD/CAD, the first
IMF OBJECTIVES: The IMF has three critical missions:
currency listed (USD) always stands for one unit of that
furthering international monetary cooperation,
currency; the exchange rate shows how much of the second
currency (CAD) is needed to purchase that one unit of the first encouraging the expansion of trade and economic growth,
(USD). and discouraging policies that would harm prosperity. To
▪ Exchange Rate = Money in Foreign Currency / Money in fulfill these missions, IMF member countries work
Domestic Currency collaboratively with each other and with other international
bodies.

SG 9: THE ROLE OF IMF IN CENTRAL BANKING QUOTAS OF IMF MEMBERS

Quotas are the building blocks of the IMF’s financial and
 The International Monetary Fund (IMF) is an governance structure. An individual member country’s quota
international organization that promotes global broadly reflects its relative position in the world economy.
economic growth and financial stability, encourages Quotas are denominated in Special Drawing Rights (SDRs),
international trade, and reduces poverty. The IMF’s the IMF’s unit of account.
The IMF's resources mainly come from the money that
main function is to lend money to countries in financial
countries pay as their capital subscription (quotas) when they
trouble, particularly those that have a balance of payment
become members. Each member of the IMF is assigned a
problem. Its mission is to promote global economic growth quota, based broadly on its relative position in the world
and financial stability, encourage international trade, and economy. Countries can then borrow from this pool when they
reduce poverty around the world. fall into financial difficulty.
 The International Monetary Fund (IMF) works to achieve Quotas play several key roles in the IMF A member's quota
sustainable growth and prosperity for all of its 190 member determines that country’s financial and organizational
countries. It does so by supporting economic policies that relationship with the IMF, including:
promote financial stability and monetary cooperation,  Subscriptions. A member's quota subscription
which are essential to increase productivity, job creation, determines the maximum amount of financial
and economic well-being. The IMF is governed by and resources the member is obliged to provide to the
accountable to its member countries. IMF. A member must pay its subscription in full upon
joining the IMF: up to 25 percent must be paid in
ORGANIZATIONAL STRUCTURE OF IMF SDRs or foreign currencies acceptable to the IMF
(such as the US dollar, the euro, the Chinese
The IMF's mandate and governance have evolved along with renminbi, the Japanese yen, or the British pound
changes in the global economy, allowing the organization to sterling), while the rest is paid in the member's own
retain a central role within the international financial currency.
architecture.  Voting Power. The quota largely determines a
 Board of Governors: The Board of Governors is the member's voting power in IMF decisions. Each IMF
highest decision-making body of the IMF. It member’s votes are comprised of basic votes plus
consists of one governor and one alternate one additional vote for each SDR100,000 of quota.
governor for each member country. The governor The 2008 reforms fixed the number of basic votes at
is appointed by the member country and is usually 5.502 percent of total votes. The current share of
basic votes in total votes represents close to a tripling

37
 of their share prior to the implementation of the 2008 Structural Adjustment Facility (ESAF) is provided in
reforms. the form of low-interest loans and grants under the
 Access to financing. The amount of financing a HIPC (heavily indebted poor countries) debt initiative.
member can obtain from the IMF (its access limit) is
based on its quota. For example, under Stand-By and Regular Facilities
Extended Arrangements, a member can borrow up to 1. Reserve Tranche. A member has a reserve
145 percent of its quota annually and 435 percent tranche position if the IMF’s holdings of its currency in the
cumulatively. However, access may be higher in General Resources Account, excluding those
exceptional circumstances. holdings that reflect the member’s use of IMF
resources, are less than its quota. A member may draw up
The Quota Formula to the full amount of its reserve tranche position at any
A quota formula is used to help assess members’ relative time, subject only to the member’s representation of a
position in the world economy and it can play a role in balance of payments need. A reserve tranche drawing
guiding the distribution of quota increases. The current does not constitute a use of IMF credit and is not
formula was agreed to in 2008. subject to charges or to an expectation or obligation
 IMF Quota Formula to repurchase.
(0.50 * GDP + 0.30 * Openness + 0.15 * Variability + 2. Credit Tranches. IMF credit is subject to different
0.05 * Reserves) conditionality and phasing, depending on whether it is
made available in the first credit “tranche” (or
The IMF's Board of Governors conducts general quota segment) of 25 percent of a member’s quota or in the
reviews quotas at least every five years. The two main upper credit tranches (any segment above 25 percent of
issues addressed in a general review of quotas are the size of quota). For drawings in the first credit tranche, members
an overall quota increase and the distribution of the must demonstrate reasonable efforts to overcome their
balance of payments difficulties.
increase among the members.
3. Stand-By Arrangements. Stand-By Arrangements
 First, a general quota review allows the IMF to assess give members the right to draw up to a specified
the adequacy of quotas both in terms of members’ amount of IMF resources during a prescribed
balance of payments financing needs and in terms of period. Drawings are normally phased on a quarterly basis,
the IMF’s own ability to help meet those needs. with their release conditional upon meeting
 Second, a general review allows for increases in performance criteria and the completion of periodic
members’ quota to reflect changes in their relative reviews. Performance criteria generally cover bank
positions in the world economy. In addition, a member credit, government or public sector borrowing, trade
may request an ad hoc quota adjustment at any time and payments restrictions, foreign borrowing, and
outside of a general review. international reserve levels. These criteria allow both
If the Board of Governors determines that an increase is the member and the IMF to assess progress and may
needed, it considers the amount of increase overall and how to signal the need for further corrective policies. Stand-
distribute it among members. Any changes in quotas requires By Arrangements typically cover a 12–18 month period
approval by 85% of the total voting power and a member’s own (although they can extend up to three years).
quota cannot be changed without its consent. Repayments are to be made within 3¼ to 5 years of
Quotas are denominated in Special Drawing Rights each drawing.
4. Extended Fund Facility (EFF). The EFF provides
(SDRs), the IMF's unit of account. The largest member of
assistance for adjustment programs over longer
the IMF is the United States, with a current quota (as of March periods and with generally larger amounts of financing
2017) of SDR82. 99 billion (about US$118 billion), and the than under Stand-By Arrangements. Extended
smallest member is Tuvalu, with a quota of SDR2. 5 million Arrangements, which normally run for three years
(about US$3.5 million). (and can be extended for a fourth), are designed to rectify
balance of payments difficulties that stem largely from
NORMAL AND SPECIAL FACILITIES OF IMF MEMBERS structural problems and require a longer period of
adjustment. A member requesting an Extended
 The IMF uses its financial resources to help members Arrangement outlines its objectives and policies for
redress balance of payments problems and to help the period of the arrangement and presents a detailed
cushion the impact of adjustment. statement each year of the policies and measures to
 The IMF’s financing is provided through both its be pursued over the next 12 months. The
general resources and its concessional financing phasing and performance criteria are comparable to
facilities, which are administered separately. The those of Stand-By Arrangements, although phasing
extension of IMF credit is subject to Executive Board on a semiannual basis is possible. Repayments are to be
approval and, in most cases, to the member’s made within 4½ to 10 years of each drawing.
commitment to take steps to address the causes of its
payment imbalance. Members using the IMF’s Special Facilities
general resources “purchase” (or draw) other The IMF’s special facilities include the Compensatory
members’ currencies or SDRs with an equivalent and Contingency Financing Facility (CCFF), the
amount of their own currency. Buffer Stock Financing Facility—which has not been used
 The IMF levies charges on these drawings and since 1984—and the Supplemental Reserve Facility
requires that members “repurchase” (or buy back) (SRF).
their own currency from the IMF with other members’ 1. Compensatory and Contingency Financing
currencies or SDRs within a specified time. Facility. The export compensatory element
Concessional financing under the Enhanced
38
 of the CCFF provides timely financing to program is described in a letter of intent, which often has a
members experiencing a temporary shortfall in memorandum of economic and financial policies attached. The
export earnings or an excess in cereal import program’s objectives and policies depend on a country’s
costs, attributable to factors largely beyond the circumstances. But the overarching goal is always to restore or
member’s control. This element of the facility has maintain balance-of-payments viability and macroeconomic
been used particularly by commodity exporters. stability while setting the stage for sustained, high-quality
The contingency element helps members with growth and, in low-income countries, reducing poverty).
IMF arrangements keep their adjustment
programs on track when faced with unexpected LEARNING POINTS
adverse external shocks. The affected variables
could include export earnings, import prices, and  The International Monetary Fund (IMF) works to achieve
international interest rates; workers’ remittances sustainable growth and prosperity for all of its 190 member
and tourism receipts may also be covered if they countries.
are a significant component in the member’s ▪ The IMF's mandate and governance have evolved along with
current account. changes in the global economy, allowing the organization to
2. Buffer Stock Financing Facility. Under this retain a central role within the international financial
facility, the IMF helps finance members’ contributions to architecture.
approved international buffer stocks if the member ▪ The Board of Governors is the highest decision-making body
demonstrates a balance of payments need. No of the IMF.
drawings have been made under this facility for the ▪ The IMF Board of Governors is advised by two ministerial
past 14 years. committees, the International Monetary and Financial
3. Supplemental Reserve Facility (SRF). In Committee (IMFC) and the Development Committee.
December 1997, the Executive Board opened a new ▪ The IMF’s 24-member Executive Board conducts the daily
lending window—the SRF—for member countries business of the IMF and exercises the powers delegated to it
experiencing exceptional balance of payments by the Board of Governors, as well as those powers conferred
problems owing to a large short-term financing need on it by the Articles of Agreement.
resulting from a sudden and disruptive loss of market ▪ The IMF has three critical missions: furthering international
confidence reflected in pressure on the monetary cooperation, encouraging the expansion of trade and
capital account and the member’s reserves. Assistance economic growth, and discouraging policies that would harm
under the SRF is available when there is a prosperity.
reasonable expectation that implementation of strong ▪ Quotas are the building blocks of the IMF’s financial and
adjustment policies and adequate financing will result, in governance structure. An individual member country’s quota
broadly reflects its relative position in the world economy.
a short period, in early correction of the balance of payments
▪ The IMF's resources mainly come from the money that
difficulties. Although resources under IMF facilities are
countries pay as their capital subscription (quotas) when they
available to all members, the SRF is likely to be used become members.
in cases where the magnitude of the outflows ▪ The largest member of the IMF is the United States, with a
may create a risk of contagion that could potentially current quota (as of March 2017) of SDR82. 99 billion (about
threaten the international monetary system. In US$118 billion), and the smallest member is Tuvalu, with a
approving a request for the use of IMF resources quota of SDR2. 5 million (about US$3.5 million).
under the SRF, the IMF takes into account the financing ▪ When a country borrows from the IMF, its government agrees
provided by other creditors. to adjust its economic policies to overcome the problems that
led it to seek financial aid. These policy adjustments are
IMF CONDITIONALITY conditions for IMF loans and serve to ensure that the country
will be able to repay the IMF. This system of conditionality is
When a country borrows from the IMF, its government agrees designed to promote national ownership of strong and effective
to adjust its economic policies to overcome the problems that policies.
led it to seek financial aid. These policy adjustments are
conditions for IMF loans and serve to ensure that the country
will be able to repay the IMF. This system of conditionality is
designed to promote national ownership of strong and effective
policies.

Designing Effective Programs

Conditionality covers the design of IMF-supported programs—
that is, macroeconomic and structural policies—and the
specific tools used to monitor progress toward goals outlined
by the country in cooperation with the IMF. Conditionality helps
countries solve balance-of-payments problems without
resorting to measures that are harmful to national or
international prosperity. At the same time, the measures are
meant to safeguard IMF resources by ensuring that the
country’s balance of payments will be strong enough to permit
it to repay the loan. The member country has primary
responsibility for selecting, designing, and implementing
policies to make the IMF-supported program successful. The

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