Deutsche Bank Says Philippine Economy Will Perform Well in 2013; Warns of ASEAN Overheating

The Philippine economy will likely continue performing well in 2013 on improving external demand, Deutsche Bank's chief economist for Asia-Pacific said Thursday, but warned that the Southeast Asian nation's economy could overheat given that it has been growing faster than its potential in the last three years.

The Philippine central bank, however, could be forced to raise overnight rates three times in 2013 to counter rising inflation, which could help cool the rapid growth, Michael Spencer told reporters at a press conference.

Mr. Spencer said the Philippine economy has grown at a faster clip than its long-run potential of 4.0%-4.5% over the last three years, which puts its gross domestic product level above the full employment potential.

"It has opened [up a] significant positive output gap...and what that implies is it is getting harder to find workers for your shops and factories...and leads to higher cost[s] for business," he said.

Mr. Spencer thinks the Philippines' employment situation--with the latest unemployment rate at 6.8% and underemployment rate at 19.0%--is already tight by the country's standards.

Deutsche Bank forecasts that the Philippines GDP growth rate will reach 5.5% this year and 5.0% in 2014, slower than 2012 mainly due to a higher base of comparison when it estimated growth at 6.3%.

The government is projecting growth of 6%-7% for 2013.

Mr. Spencer is also expecting inflation to accelerate this year due to higher food prices and a growth rate that is beyond its potential, which could prompt the central bank to raise overnight rates by a total of three-quarters of a percentage point in 2013.

This would come after four hikes last year totaling one percentage point. He also expects the central bank to raise rates by a further three-quarters of a percentage point in 2014 before it ends its rate-hiking cycle.

Deutsche Bank forecasts inflation will accelerate to an average 4.6% in 2013 and to 5% in 2014 after averaging 3.2% in 2012.

"We expect inflation to be at the higher end of the central bank's target by the end of this year," said Mr. Spencer, referring to the Bangko Sentral ng Pilipinas' 3%-5% target for 2013.

Mr. Spencer said, however, that if the peso appreciates further, it is possible the central bank wouldn't tighten monetary policy this year. An increase in domestic interest rates without an equal adjustment in the U.S. and other developed economies will further widen the interest rate differential and attract more capital flows. The local currency ended last year at PHP41.05 against the U.S. dollar after finishing at PHP43.84 in 2011.

Sameer Goel, head of Deutsche Bank's Asia rates and currency research, said the bank expects the peso to appreciate to PHP38 against the U.S. dollar by the end of this year and to PHP36.50 at the end of 2014.

Mr. Goel said the relatively high interest rate and the large current account surplus of the Philippines--which averaged 4% of GDP in the last six years and is likely to rise to 4.6% this year and 5% in 2014--are underpinning the strength of the peso.

Although the Philippines' equity market is still performing well in early 2013 following a 33% gain last year, Mr. Spencer warned that the stock market could likely end this year lower as developed markets such as the U.S. and Europe attract more funds due to their recovery, particularly toward end-2013. He said Philippine stocks' valuations are also stretched at this stage after last year's record run of the market.

Many analysts think Philippine stocks are already overvalued. (http://fxn.ws/11idsBC)

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