Shooting Stars and Falling Peso

History

I remember a time in 2012 when many big-bank economists predicted that the Philippine peso would remain a shooting star at around P42/$ by year-end. The peso then was a ‘darling’ currency, having nicely recovered from a low of about P49/$ in the wake of the Financial Crisis of 2008. Little did the bank economists know that there would soon be a literal u-turn; the peso shortly began its doldrums to where it is today at P53/$. It hasn’t been a pretty sight for the responsible authorities at the central bank.

Historically, the peso was initially pegged at P2/$, but it would go through a series of devaluations in the 1960s through the 1980s. It strengthened in the post-martial rule era to an uncomfortably overvalued level of P26/$ under the Ramos administration before being hit by the 1997 Asian financial crisis. According to the noted economist Cielito Habito, the peso has since 1998 been subject to market forces, especially the movements in and out by foreign funds in our local capital markets. The peso can be said to have been ‘unwanted’ in 1999-2004 when it fell from P40/$ to $56/$. The peso was again a strengthening currency through most of 2005-2012, punctuated only by a relatively brief downturn in 2008. In a sense, the ‘bad news’ we see today and looking back to 2012-13 is a re-run of the earlier turn-of-the-century episode.

Is it TRAIN only?

A fair amount of blame is laid by some commentators on the recent tax legislation (TRAIN, or Tax Reform for Acceleration and Inclusion act.). That can’t be the whole story, given that we can date the peso’s weakness from 2013. Moreover, it’s not easy to see a link between politics and the fortunes of the peso. Under the Estrada and Arroyo watch, the peso fell and then rose; but under the Aquino administration, it rose and then fell. It is possible that under the Duterte administration, the peso would fall and then rise. Still, it’s also fair to say that the new excise taxes and the run-up of oil prices in the world market have triggered an ‘After you, Alphonse’ effect in the pricing strategies of local oligopolies. That wages do not seem to have kept up with consumer prices is a nascent problem.

There are, to be wary, many stories about currency valuations. Gustav Cassel inspired the theory that a currency will tend to move to equalize the prices of traded goods. This Purchasing Power Parity Theory underlies the Economist magazine’s famous Macdonalds burger indices. It also helps to explain today’s peso fall as attributable to the fact that local inflation is 4.6 percent per annum, while the US inflation rate sits at 2.8 percent.

The balance of payments is a nice accounting way of conjuring up the tea leaves of supply and demand (for currency) to get to the underlying story. Our economic managers do this when they say that the peso is weak because we’re importing more for public infrastructure, we have to pay for more expensive oil, and we see hot money outflows that follow interest-rate differentials or shifting sentiment regarding the export earnings of the local economy.

BSP moves

But the exchange rate is still and also the price of an asset, and the value of a currency today reflects the markets’ best guesses of its future value. The supply of currency is nonetheless under the control of its issuer, the central bank. The issuer knows, more or less, what it wants to do, but is constrained by a need to be fair to the money-holding public. Accordingly, central banks gain credibility when their currencies are stable in the exchange markets, and when domestic inflation is low. The latter consideration has given rise to inflation targeting as good practice, something that the Bangko Sentral has adopted. We can safely guess that today’s BSP will keep a close watch on the money supply to achieve its inflation target of 4 percent (as against the latest data of 4.6 percent).

As to the stability of the peso rate, it also seems safe to believe that the BSP will not intervene to move the peso exchange in any direction, other than to counter unusually ‘wrong’ market sentiment. In other words, the BSP may ‘lean against the wind,’ but only against weak winds. I would guess that in the two months of March and April this year, the BSP did a bit of leaning against the wind.

What to expect

Will the peso then continue to weaken? Yes, if foreign investors keep fleeing, if inflation were to become uncontrolled, or if export trends deteriorate. These are three big ‘Ifs.’ Caveat emptor.

Musing on transactions cost

or how to think about Bitcoin.

In the end, there is no free lunch when we talk about transactions cost.

Consider Bitcoin as a digital equivalent of gold. We don’t know the price of gold a hundred years out because we reckon that price in terms of fiat, and there’s no way we can predict what central banks will do. We could try to measure the value of gold in terms of man-hours, but still that won’t work because we have no idea what technological advances will take place (that’s in the realm of the unknown unknown), or even which fiat currencies will be around to use as a benchmark.

Ergo, we won’t know what the price of Bitcoin will be a century hence. If we don’t know that, then we don’t know what’s the ‘correct’ price of Bitcoin today. This is just a consequence of using a present-value calculation (the uncertainty on the proper discount rate is not even material).

What we do know is that Bitcoin has had a run-up in price because the players behave like a collective Ponzi. Imagine if the Ponzi players got enamored with gold the way they have with Bitcoin. Not so far-fetched, is it?

There is a difference, of course. Gold is a commodity with ‘intrinsic’ value as jewelry. Unless humans suddenly decide gold has no worth at all, the jewelry component will set a floor to the gold price.

Bitcoin, once mined, is just that: a digital bit sitting in a thousand computers. You can’t eat it, wear it, etc. You might argue that it cost a miner $1,000 to get his Bitcoin, but that’s just sunk cost. It doesn’t guarantee a price that the next guy will pay.

But an even greater difference is this. Anyone else can cook up his Bitcoin wannabe. If he succeeds, then you have an ‘alt coin.’ If you cook it up from an existing alt coin, it’s called a fork. Theoretically, you can then have an infinity of forks and alt coins. In practice, you need a society of nuts willing to see a particular alt coin as money. How many in this society? I don’t know, but a good guess is 1 million. With global population at 7.6 billion, we might have 7,600 alt coins. No wonder, every Ponzi-loving geek goes out to try his luck. Lots of suckers out there still.

What this means is a ceiling on the Bitcoin price, analogous with the floor on gold. Where is that ceiling? Only the god of Ponzis knows. Individually, alt coins including Bitcoin will fluctuate according to the vagaries of sentiment. If an alt coin’s underlying ‘consensus’ mechanism, which is human psychology and not a matter of algorithms, gets compromised, that alt coin will crash. Kindleberger wrote the books on manias and crashes, and he would say that all assets are susceptible.

Can Bitcoin have a floor? If you start from zero, and if everybody deserts you, that floor is zero. (How many penny stocks have come to naught?)

Can Bitcoin (or any alt coin) have a stable non-zero equilibrium price? Bitcoin started out billed as an alternative to fiat, and perhaps it may run a very long run equilibrium if, collectively, Bitcoin users are convinced that their Bitcoin is worth a certain (stable) amount of fiat. This would be paradoxical. You end up holding Bitcoin as just another form of fiat. As it is, the transactions cost of using Bitcoin is on par with that of fiat. So, why bother?

Unless, of course, you think you can still play the Ponzi.

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FIXING FACEBOOK and GOOGLE

It shouldn’t be hard.

Back in the early days of email, we worried about spam. Merchants shaped up by agreeing not to sell our addresses. Spam filters also did their thing. Email got fixed.

Today, Facebook and Google will have to agree not to spy on us. And Firefox has rolled out a ‘spy’ filter. VPNs will become standard. Those who spied on us will try not to pay under class actions, but the tort bar will not relent.

This privacy thing cuts both ways.