PHILIPPINE MARKET JITTERS HEIGHTENING

UNCLAS SECTION 01 OF 02 MANILA 003156

SIPDIS

SENSITIVE

STATE FOR EAP/PMBS, EAP/EP, EB/IFD, EB/TPP/BTA/ANA
STATE PASS USTR FOR BWEISEL AND DKATZ
STATE PASS USAID AND OPIC
TREASURY FOR OASIA FOR AJEWELL
USDOJ FOR MCRAWFORD
USDOC FOR 4430/ITA/MAC/DBISBEE

E.O. 12958: N/A
TAGS: ECON EFIN EINV PGOV RP
SUBJECT: PHILIPPINE MARKET JITTERS HEIGHTENING

REF: Manila 3061


1. (SBU) Summary: Despite the Philippine Supreme Court's
July 5 decision to move up the date of a hearing on the
implementation of the recently-passed Expanded Value
Added Tax (EVAT),the country's currency, equities, and
bond markets remain shaky. Markets are showing
increasing signs of strain, as investors appear to be
growing weary of continuing political noise, including
the resignation of President Arroyo's economic team
(septel). Investors also remain concerned about the
potential economic impact of the Supreme Court's July 1
decision to place a Temporary Restraining Order (TRO) on
the implementation of the EVAT and remain worried about
soaring oil prices. The Central Bank announced a hike in
reserve requirements to help temper pressure on the peso.
End Summary.

--------------
EVAT Hearing Moved Up
--------------


2. (SBU) On July 5, the Philippine Supreme Court --
responding to the Government's July 4 petition
immediately to lift the TRO on the implementation of the
amended Expanded Value Added Tax (EVAT) -- voted to move
up the date of the hearing of oral arguments from July 26
to July 14 (reftel). However, the Supreme Court did not
lift the TRO on the law's implementation. The earlier
scheduled hearing date, although welcome, has done little
to appease jittery financial markets that are worried
about record-high international oil and protracted
political controversies.

--------------
Local Currency Continues to Sputter
--------------


3. (U) The local currency slipped to an intra-day low of
PhP56.39/$1 on July 7 (not far off from the PhP56.45/$1
all-time low posted before the May 2004 elections) before
closing at PhP56.28/$1, the peso's weakest closing rate
since mid-December 2004). As of noon on July 8, the
Philippine currency was trading in the PhP56.25-
PhP56.44/$1 range in the interbank market, just shy of
the PhP56.45 historic low seen in the run-up to the May
2004 elections.

--------------
Central Bank Hikes Reserve Requirements
--------------


4. (U) On July 7, the Central Bank announced a two
percentage point increase in banks' required reserve
requirements, from 19% to 21%, effective July 15. The
Central Bank estimates the move to mop up more than PhP30
billion (about $530 million) from the financial system.
In media interviews, Central Bank Governor Amando
Tetangco noted that excess financial system liquidity was
finding its way into the foreign exchange market and
contributing to the peso's weakness, potentially
threatening price stabilization efforts. Regular reserve
requirements will rise from 9% to 10% and "liquidity"
reserve requirements (i.e., reserves that earn market-
based returns) from 10% to 11%.

--------------
Stock Market Investors Increasingly Edgy
--------------


5. (U) The Philippine Stock Price Index (Phisix),which
closed at a six-month low on July 4 (1,815.67) following
five trading days of consecutive declines, edged up
slightly on July 5 to 1,817.02 due to bargain-hunting for
select blue-chip stocks. However, the Phisix closed July
6 at a fresh six-month low of 1,813.04 as investors
cashed in on profits. Bargain hunting again pushed up
the Phisix to 1,847.32 on July 7. At that level, the
Phisix -- touted as Asia's best performer earlier this
year -- was up barely 1.4% from the end of 2004 (after
having climbed to a 5-1/2 year high of 2,166 in March, up
nearly 19% from 2004's closing level). The Phisix opened
weaker on July 8 at 1,839.43 and slipped as far as
1,813.99 before closing at 1,876.28, 1.6% higher than
July 7's close.


6. (SBU) June still saw net foreign purchases in the
stock market despite political jitters, but foreign
investors have since turned net sellers in July, to the
tune of PhP1.3 billion ($23 million) thus far. On July
8, net foreign sales (estimated at PhP129 million)
continued for the sixth consecutive trading day. The
outflows in July are equivalent to about 10% of net
foreign purchases during the first half of the year and
indicate that investors are becoming increasingly
apprehensive about current political and economic
developments.

--------------
Bond Spreads Widen
--------------


6. (U) Spreads for medium- to long-term sovereign bonds
narrowed in May with the passage of the amended EVAT.
Spreads for medium-term debt papers (i.e., those maturing
over next five years) continued to narrow in June despite
political disturbances, while spreads for longer-term
maturities began to widen with the growing political
noise. As of July 7, spreads for government bonds
maturing in 2008 had widened by 5 basis points and for
bonds maturing in 2025 by 23 basis points, however.

--------------
Comment
--------------


7. (SBU) The suspension of the EVAT law created more
uncertainties for financial markets, already shaken by
political disturbances and worries over record-high world
oil prices. For now, international reserves remain
comfortable -- having climbed to an all-time high of
$17.7 billion in June. Although one local
trader/analyst described investors' sentiment as "not yet
panicky, but increasingly wary," the situation remains
volatile. The disbanding of the country's economic team
-- which many had cited as being the strength of the
Administration -- only adds to the current volatility.
The business sector, credit rating agencies, and other
Philippine observers continue to urge a quick resolution
to the current controversy, strongly warning that
protracted uncertainties will deepen negative perception
and increasingly harm the Philippine economy.

Mussomeli