Macro Research

8/2/2019 Macro Research

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Macroeconomic Determinant of Banks Lending Rate in the Philippines

In Partial Fulfillment in the Subject

Macroeconomics

Bachelor of Science and Agricultural Economics

Submitted by:

Joriz Klenz Sabete,

Ma. Belinda De Chavez

Mary Joy Palaa

Submitted to:

Prof. Silverio V. Magallon Jr.


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Macroeconomic Determinants ofBanks Lending Rate in the Philippines

By: Joriz Klenz Sabete, Ma. Belinda De Chavez and Mary Joy Palaa

I- IntroductionPrime rate is the term applied in many countries to reference interest rate used

by banks. It is the rate that commercial banks charge to its most creditworthy

customers (Wikipedia). The fund was a formed as an investment medium to participate

in bank loans from lending banks. These funds were a vehicle for banks to expand

their equity or reduce their outstanding loans (Peter De Lio).

The prime rate is the one of the most watch variables in the economy of any

particular country. It is an important index used by banks to set rates on many

consumer loan products, such as real estate, mortgage, credit cards, auto loans and

others. Hence, prime rate gone, credit card rate will soon follow.

The fluctuations of prime rate or banks lending rate are influenced by varieties

of economic factors such as direct and indirect factor and it is a simple matter of

Federal Reserve decisions. Its fluctuations are reflecting in the supply of funds,

available for loans from lenders, and the demand, from barrowers. If the demand for

borrowing is higher than the funds they have available, they can raise their rates or

borrow money from other people by issuing bonds to institutions in the wholesale

market. The trouble is the source of funds is more expensive. Therefore interest rates

go up. If the banks and trust companies have lots of money to lend the consumer will

get special rate discounts and the lenders will be very competitive, keeping rates low 1.

The Philippine lending rates fluctuations result to swift decision concerning the

status of a country. Banko Sentral ng Pilipinas (BSP) lending rate increased seasonally

to 3.2 percent from 2.8 percent as inflation continued to decline while prime rate was

1The Financial Pipeline (http://www.finpipe.com/interest.htm).
http://www.finpipe.com/interest.htmhttp://www.finpipe.com/interest.htmhttp://www.finpipe.com/interest.htmhttp://www.finpipe.com/interest.htm


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on the rise (Chipongian, 2010)2. But eased by 2011 to 2 percent in the third quarter

from 2.5 percent in the second quarter due to reduction in the average nominal bank

lending rate while inflation remained steady (Agcaoili, 2011)3. As well as,

unemployment and rising and falling of prices attributes to the swift decision related

to economic difficulties which contributes to the fluctuation of banks lending rates.

Consequently, this case must be pursued by an immense study too satisfy the

concerns of the economy and the people lying on it.

Objective

The focal point in this study is to determine the effects money supply, to the

occurring fluctuation of banks lending rate. Specifically, this aims to:

To present the trend across time of the variables used, which are:o Banks Lending Rateso Money Supply

Determine the correlation of money supply to interest rate.Scope and Limitation

The study focuses on the effects of the given indicator money supply to banks

lending rate as the predicted variable. The data drawn in this study was a time series

data from 1980-2010 taken from the Philippine statistics. The researcher uses

Ordinary Least Square (OLS) to minimize the sum of Residual Square with correlation

approach. Through this, the behavior of the interest rate in response to the changes

occur by the given variable will be realized.

2Manila Bulletin Publishing Corporation (http://www.mb.com.ph/articles/268064/banks-real-lending-

rate-rising-trend).3 Philstar (http://beta2.philstar.com/business/744951/101258/prime-bank-now-under-receivership).
http://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trendhttp://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trendhttp://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trendhttp://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trendhttp://beta2.philstar.com/business/744951/101258/prime-bank-now-under-receivershiphttp://beta2.philstar.com/business/744951/101258/prime-bank-now-under-receivershiphttp://beta2.philstar.com/business/744951/101258/prime-bank-now-under-receivershiphttp://beta2.philstar.com/business/744951/101258/prime-bank-now-under-receivershiphttp://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trendhttp://www.mb.com.ph/articles/268064/banks-real-lending-rate-rising-trend


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II- Literature Review and Analytical Framework

Theory Base

Base in the Keynesian Theory of liquidity preference framework developed by

John Maynard Keynes determines that the equilibrium or change in the interest rates

depends on the supply and demand for money.

The liquidity preference framework suggests that money supply has a negative

relationship to interest rate. As money supply increases, interest rate decreases with

the same level of money demanded. This aims to increase the aggregate output

(Lombra, 2000). In lowering interest rate more investors will encourage to invest, so

the demand for labor increases. In increase in investment aggregate expenditure

increases and in increase in aggregate expenditure, aggregate output will rise, under

the concept of Aggregate Demand in the Goods and Money Market (Case et al., 2000).

In a basic supply and demand application, given a constant demand for money,

increasing the money supply will invariably lower interest rates because of the

availability of money, more money around means its easy to get and will thus

(borrowers can) command lower interest rates.

Related Studies

There were established studies related in interest rate or banks lending rate.

This could be utilized as references or bases to satisfy the given theory and to expand

the study.

Interest rates movement is given a lot of attention by public because it serves

as a stimulant of when was the right time to go on banks. Fluctuation in the banks

lending rate could positively or negatively affect a particular economy as well as

individuals wealth and debt. It is influence by personal decisions or whether to

consume or to save. Moreover, the prime rate also affects the decision of business

(Angie Arias, pdf, 2005).

Base on the study of Felicia Omowunmi Olokoyo in 1 percent increase of money

supply correspond 0.4 percent reduction to bank lending rate. She found out that due


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to macroeconomic instability changes in money supply has a negative long-run impact

on the lending bank rate in Nigeria. Specifically, banks tend to reduce lending during

periods of high liquidity basically because of possible low return on lending (and

possibly low loan demand) and perhaps have to channel their funds towards

alternative sources of income earning activities and investments.

Furthermore, in the study of Madjed Bader et al. (2010), they found out that

increasing money supply reduces banks lending rate or interest rate and allows

investment to increase. As well as Raj Chetty (2007) found out that in increase in

interest rate causes a reduction on interest rate. Moreover, base on the study of James

E. Gunderson et al. (2007), in rise in interest rate reduces investment that results to

low economic activity then demand for labor in the goods market decreases.

Hence, the related studies on this research support the conceptualization on

this research.

Analytical Framework

This pertains on how money supply affects banks lending ratesfluctuation.

Figure 1. The Conceptual Framework of the Study

Null hypothesis:

Ho1: : Money Supply has no significant relationship to interest rate.

INTEREST

RATE

Money Supply


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III- MethodologyThis study uses correlation analysis to determine the impact of money supply to

interest rate.

Research Design

This research is a causal study which uses time series data analysis of the year

1980-2010. Which tend to explain the effects of investment, price, money supply, and

unemployment rate to banks lending rate and the response of it.

Variable Measurement

Variable Unit Definition

Interest Rate -Percentage -It is also called bankslending rate.

-The interest rate charged by

banks on loans to prime

customers.

Money Supply -Percentage -Money and quasi money

comprise the sum of currency

outside banks, demand

deposits other than those of

the central government, and

the time, savings, and foreign

currency deposits of residentsectors other than the central

government. This definition of

money supply is frequently

called M2.

-it is the percentage annual

growth of money supply.

Source of Data

The data was taken from World Bank4 from year 1981-2010 which are interest rate

and money supply.

4 http://data.worldbank.org/country/philippines


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IV- Result and DiscussionIn this part shows the result and the discussion of the given objectives.

I. Trend Presentation of Macroeconomic VariableIn this section the trend of the different macroeconomic variables are being

presented and interpreted.

Banks Lending Rate

It can be seen from the graph that the trend of banks lending rate is decreasing

from 1980 to 2010. This due increasing investment and money supply. Moreover, it

has the highest lending rate during 1985 with 28.61% and the lowest lending rate

during 2009 with 8.57% because Philippines has decided to cut its interest rate by 25basis points ensure liquidity and boost market confidence amid the global economic

crisis, the Bangko Sentral ng Pilipinas affirmed5.

Source: World Bank, 2012

Figure I- Trend for Banks Lending Rate

5Updated March 05, 2009, 05:30 PM.

Philstar.com.http://www.philstar.com/Article.aspx?articleid=445785

0

5

10

15

20

25

30

35

1975 1980 1985 1990 1995 2000 2005 2010 2015

InterestR

ate

Year
http://www.philstar.com/Article.aspx?articleid=445785http://www.philstar.com/Article.aspx?articleid=445785http://www.philstar.com/Article.aspx?articleid=445785http://www.philstar.com/Article.aspx?articleid=445785


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Trend in Money Supply

Money is used in virtually all economic transactions; it has a powerful effect on

economic activity. In figure 1, it shows the fluctuating trend of money supply in the

Philippines. Philippines experience the maximum of percentage increase money during

1998 with 59.53% and minimum 21.97% in 1980. The cause for an increase of money

supply works both through lowering interest rate which spurs or stimulate

investment, and through putting more money in hands of consumers and vice versa.

During 1980, the economy began to run into difficultly because of the declining

world market for the Philippines exports. It is the under of Pres. Marcos regime and

revive during 1986 in the time of Pres. Corazon Aquino. But in 1988 the economy

again began to encounter difficulties. The trade deficit and the government budget

deficit were a particular concern. But increase the supply of money until 1990 until it

reaches to the peak in the year 1998. Due to rapid developing of subsector that

increases the GNP through the introduced new technologies6.

After the peak on 1998 it comes down to recession to 2006 and rise again until

2010.

Source: World Bank, 2012

Figure II- Trend of Money Supply

6Taken fromhttp://www.economy.com/home/products/databases.asp.

0

10

20

30

40

50

60

70

1975 1980 1985 1990 1995 2000 2005 2010 2015

MoneySupply

Year
http://www.economy.com/home/products/databases.asphttp://www.economy.com/home/products/databases.asphttp://www.economy.com/home/products/databases.asphttp://www.economy.com/home/products/databases.asp


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II. Correlation of Money Supply to Banks Lending RateBase on the correlation matrix, it shows that money supply has a negative

relationship to interest rate. Thus, 66% can be explained of money supply to interest

rate with the .000 significance level. Hence, there are highly correlated.

Paired Correlation

Correlation Significance

INTEREST and MONEYSUPPLY

-.665 .000

V. ConclusionBase on the analysis in the correlation the null hypothesis is being rejected. It

implies that money supply and interest rate has a negative relationship. Money supply

could explain 66% to interest rate. Thus there are highly correlated.

As a final point, as money supply increases, interest rate decreases. This

encourages investors to invest that aims to increase aggregate output and the right

time to lend in banks.

I. Policy RecommendationTo redress the prevailing situation, this study drawn to these recommendations:

Strict implementation of tight monetary fiscal policy to increase moneysupply that aims to decrease interest rate.

Decrease interest rate to encourage investments that to increase theaggregate output in the economy.


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Appendix I

Paired Correlation

N Correlation Significance

Pair 1 INTERESTandMONEYSUPPLY

31 -.665 .000

Descriptive Statistics

N Minimum Maximum MeanStd.

Deviation Variance

INTEREST 31 8.57 28.61 15.0643 5.54725 30.772

MONEYS 31 21.97 59.53 42.0289 13.60293 185.040


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Appendix II

Data in the Model

Obs. Interest Rate Money Supply

1980 14.00 21.97

1981 15.34 22.61

1982 18.12 23.68

1983 19.24 27.92

1984 28.20 25.90

1985 28.61 27.31

1986 17.53 27.38

1987 13.34 26.06

1988 15.92 26.23

1989 19.27 28.79

1990 24.12 31.11

1991 23.07 32.18

1992 19.48 34.24

1993 14.68 38.00

1994 15.06 42.15

1995 14.68 46.85

1996 14.84 50.90

1997 16.28 56.21

1998 16.78 58.90

1999 11.78 59.53

2000 10.91 59.25


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2001 12.40 57.89

2002 9.14 56.77

2003 9.47 55.70

2004 10.08 52.71

2005 10.18 50.99

2006 9.78 52.10

2007 8.69 52.87

2008 8.75 51.99

2009 8.57 52.32

2010 8.70 52.39

Note: Highlighted figures are forecasted data.


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References

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Angie Arias, 2005. Prime Rate in the United States (1980-2003). March 02,

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(http://www.unisa.ac.za/contents/faculties/ems/docs/BMR_info_blurp_407.pdf)

Charles Kahn, George Pennacchi and Ben Sopranzetti; pdf, 2000. Bank Consolidation

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(http://fic.wharton.upenn.edu/fic/papers/01/0114.pdf)

Haavelmo, T. (1960) A Study in the Theory of Investment(Chicago: Chicago

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Haider Ali; pdf, (2011). Effect of the Unemployment Report on Interest Rate Future.

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(http://quantitativebrokers.com/wp-content/uploads/2011/05/nonfarm-4.pdf)

Independent Management Consulting Services Ltd; pdf, 2003. Review of Factors

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(http://beta2.philstar.com/business/744951/101258/prime-bank-now-under-

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Majed Bader and Ahmad and Ahmad Ibrahim Malawi; pdf, 2010. The Impact of

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(http://data.worldbank.org/country/philippines )
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