The BSP Extends Credit Card Interest Rate Cap Amidst Another "Aggressive" Hike in Policy Rates

The BSP extended the interest rate caps on credit cards until the end of the year, while hiking policy rates by another 75 bps. How serious are they in trying to curb inflation (via demand)?

Businessworld, November 16: THE BANGKO SENTRAL ng Pilipinas (BSP) said it will review the current cap on interest rates and other charges imposed by credit card companies in January.  This after the Monetary Board agreed last week to maintain the existing ceiling on credit card interest rates and other charges until end of 2022. The BSP kept the maximum interest rate or finance charge on an unpaid outstanding balance of a credit cardholder at 2% per month or 24% a year. It also set the maximum monthly add-on rate on credit card installment loans at 1%. A maximum processing fee of P200 per credit card cash advances was also maintained.  

The BSP's unprecedented response to curb the surge in the CPI has been to hike rates drastically.  This week, it increased policy rates by another 75 bps to 5%, for an aggregate increase of 300 bps (3%) in seven months! 

 

Topping the acme of 4.75% in 2019, the present level of official rates is at a 13-year high! 

 

But keeping the interest rate cap on the credit cards essentially fosters a mismatch between policy rates and the price caps. 

 

The Crowding Out and the Ratchet Effect 

Figure 1 

 

Aside from filling the chasm from the loss of purchasing power of the peso, the magnified consumer credit card growth represents a textbook response to interest rate caps. (Figure 1, topmost window) 

 

While there have been no supply shortages (yet), its spiking growth rate has vastly increased its share of total outstanding loans in the banking system, "crowding out" production loans. (Figure 1, middle pane)  

 

Universal and commercial bank credit card loans zoomed by 23.84% in Q3 to lift nominal loans to a record. (Figure 1, lowest pane) 

 

The outgrowth of consumption over production lending translates to what mainstream calls "demand pull" inflation.  

 

Yet, such "crowding out" represents another sign that locals are consuming more than they are producing—paid for by credit. 

 

Naturally, the price ceiling induces "excess demand" for credit card use, which, aside from amplifying inflation, reinforces the GDP and tax collections.  

 

Hence, keeping the price caps became a convenient political issue. 

 

The BSP price caps (subsidy) demonstrate how crisis intervention measures embed and skew political benefits to vested interest groups and why emergency mandates become an extended, if not a permanent element, of existing policies.  The great Austrian Economist Robert Higgs described this phenomenon as the "Ratchet effect."  

 

As such, the sustained appeals for the extensions of such price caps. 

 

The Unseen Costs of the BSP’s Price Caps 

 

But the surge in credit cards aggravates the balance sheet leverage of consumers, which in the face of rising rates, means higher delinquency rates moving forward. 

 

Figure 2 

Non-Performing credit card loans ascended as treasury yields rose in 2018 in response to the escalation of the CPI. (Figure 2, topmost pane)    

 

As a caveat, the prevailing assortment of "relief measures" of the BSP on the banking system have camouflaged bank NPLs, including credit card loans, hence the opacity of NPL data. (The BSP has yet to update its consumer loans data)  

 

Not just the deterioration in credit conditions of consumers but the mismatch between market rates and the price caps translates to an intensifying squeeze in interest rate spreads (margins) for banks.  

With consumer loans representing less than 5% of the outstanding, perhaps the BSP bets that any imbalances from such caps would not be sizeable enough to debilitate the industry. 

 

They seem to have forgotten that rising rates have not only dismantled the pandemic subsidies granted to banks through the deposit expense channel. (Figure 2, middle pane) It should also swell bank funding costs similar to 2018.  (Figure 2, lowest window) 

 

Hence, the mismatches from price controls are likely to aggravate maladjustments in the financial system and the economy.  

 

To ram the point home, the ramifications of massive consumer borrowing from the future to juice up the GDP (and tax collections) should eventually translate to sustained price pressures, lower demand or economic growth, higher credit risks for consumers, and expanded risks to the banking and financial system. 

 

Nevertheless, such interest rate controls should accelerate "excess demand" in Q4, which again should temporarily help boost the GDP and taxes.  It should also abet price pressures in the economy.