ADB sees possible decline in output if peso valuation subjected to ‘shock’

A SHOCK that exposes the peso and other regional currencies as overvalued could dent output for the Philippines, Singapore and Thailand, the Asian Development Bank (ADB) said in a report.

Overvaluation of the real exchange rate (RER) for the Philippine currency could lead to substantially lower goods and services produced, the report concluded.

“For Southeast Asian economies such as Indonesia, the Philippines, Singapore, and Thailand, (a real exchange rate) overvaluation shock may lead to a substantial decline in output relative to trend.”

The RER is measured by the nominal exchange rate multiplied by the ratio of prices between two currencies. It compares the value of a country’s goods to that of others.

The ADB report, Real Exchange Rate Misalignment and Business Cycle Fluctuations in Asia and the Pacific, assessed the relationship between inflation and the output gap to RER misalignment.

The report found that overvaluation may lead to lower inflation and short-term interest rates.

“We also find that Asia and the Pacific is highly heterogeneous wherein the output gaps of some economies, particularly those in Southeast Asia, are more susceptible to RER

misalignment shocks,” ADB said.

In several Southeast Asian economies, including the Philippines, overvaluation leads to increasingly low output versus the trend over three to six quarters.

After an overvaluation shock, it takes the Philippines and Singapore about 10 quarters before stabilizing their RER, the report said.

The Philippines, along with Singapore, Thailand, and Vietnam, had stable RER from 1990 to 2018, the report said.

RER overvaluation dampens exports and leads to slower economic growth, the report said.

“Importantly, as the region is becoming more open, one might be concerned that RER shocks may themselves be a source of business cycle fluctuations.” — Jenina P. Ibañez