By Katherine K. Chan, Reporter
HEATED INFLATION has opened pockets of stress in the Philippine retail and micro, small, and medium enterprise (MSME) loan segments, with tightening economic conditions risking asset quality deterioration, Moody’s Ratings said.
In an exclusive interview with BusinessWorld, Moody’s Ratings Assistant Vice-President for Ratings Clarabelle Tan noted that asset quality in the retail and MSME segments has been under pressure even before the Middle East war erupted in late February.
However, soaring prices and a more restrictive monetary policy due to Middle East war-driven shocks have weighed further on borrowers’ repayment capacity.
“Rather than broad-based deterioration, we are seeing pockets of stress, particularly in SME and retail lending,” Ms. Tan said in an e-mail. “Asset quality in these segments was already under pressure before the recent Middle East conflicts, partly reflecting the seasoning of loans following rapid credit growth over the past three years.”
“The recent inflationary pressures stemming from geopolitical developments could add to these strains, given the greater sensitivity of SME and retail borrowers to higher costs. Banks with larger exposures to these segments would therefore be more vulnerable to further asset quality deterioration,” she added.
Based on the latest Bangko Sentral ng Pilipinas (BSP) data, big banks’ outstanding consumer loans to residents rose by an annual 16.2% to P2.084 trillion at end-August, easing from the 17.1% jump in July.
Meanwhile, loans to MSMEs climbed by 5.9% to P572.74 billion in the second quarter from P540.92 billion in the same period last year.
Since the Middle East war broke out in late February, headline inflation has settled above the BSP’s 3% target.
In September, renewed price shocks pushed inflation to a three-and-a-half-year high of 7.2%, matching this year’s peak first recorded in April. This marked the seventh consecutive month that the headline clip breached the BSP’s target, with average inflation so far standing at 5.4%.
Amid this, the central bank has raised its key borrowing costs by a total of 75 basis points (bps) to an over-one year high of 5% as of August.
The BSP is widely expected to tighten anew at its Oct. 22 meeting, with 20 of the 22 analysts polled by BusinessWorld last week pricing in a fourth straight 25-bp rate hike, while two expect a larger 50-bp increase.
For Ms. Tan, rising interest rates could put additional pressure on banks’ asset quality as it affects lending to consumers and MSMEs.
“Higher borrowing costs, together with elevated inflation and slower economic growth, could put further pressure on borrowers’ repayment capacity, particularly in the SME and retail segments,” she said. “Therefore, the extent of profitability gains will depend on the banks’ ability to price their SME or retail loans relative to their risks such that sufficient pre-provision income is generated to absorb any provision losses.”
The banking industry’s gross nonperforming loan ratio steadied month on month at 3.35% in August. However, bad loans grew by 8.4% year on year to P596.299 billion, with banks’ loan book expansion outpacing it with a 13.2% annual growth.
On the other hand, Philippine banks’ net interest margins will likely gain some boost if interest rates remain higher for longer, Ms. Tan added.
“A higher-for-longer interest rate environment could support loan yields, although the impact on margins will depend on how quickly assets reprice relative to funding costs,” she said.
“Banks with stronger deposit franchises and a higher share of low-cost deposits should be better positioned to manage funding pressures. Based on historical trends, most Philippine banks’ net interest margins benefited from interest rate hikes,” she added.
RESILIENT OUTLOOK
Despite persistent pressures, Ms. Tan said domestic lenders could still tap growth opportunities from digitalization and the country’s large infrastructure pipeline.
“There are still meaningful growth opportunities for Philippine financial institutions despite the more challenging backdrop,” she said.
“Household and SME credit penetration remains relatively low, while digitalization is expanding their access to financial services. At the same time, the country’s large infrastructure pipeline could create additional financing opportunities,” she added.
Moody’s Ratings sees the Philippine banking industry staying profitable, although Ms. Tan noted that its standing will depend on the economy’s performance.
“We expect the Philippine banking sector to remain broadly resilient despite a more challenging operating environment,” she said.
“Slower economic growth and higher inflation will weigh on credit demand and lead to a deterioration in asset quality. While we expect banks to remain profitable, higher credit costs will offset any benefits from the expansion into higher yielding retail loans,” she added.
Ms. Tan also warned that government securities’ yields staying elevated could result in larger unrealized losses in fair value through other comprehensive income and further pressure banks’ regulatory capital ratios.
“Looking into 2027, the key will be the pace of economic recovery and whether inflationary pressures ease,” she added.
In June, Moody’s Ratings downgraded its outlook on the Philippine banking sector to “negative” on the back of potentially slower credit growth and weaker asset quality due to the Middle East war.
A negative outlook means Moody’s might downgrade the credit rating of its rated local banks over the next 12 to 18 months.
Moody’s Ratings projects Philippine gross domestic product to grow by 3.6% this year before recovering to 5.3% next year.