Finance

The Philippine financial system in the early 1990s was composed of banking institutions and nonbank financial intermediaries, including commercial banks, specialized government banks, thrift and rural banks, offshore banking units, building and loan associations, investment and brokerage houses, and finance companies. The Central Bank and the Securities and Exchange Commission maintained regulatory and supervisory control. The Philippines had a relatively sophisticated banking system however, the level of financial intermediation was low relative to the size of the economy. In the late 1970s and early 1980s, a number of policy reforms were initiated to strengthen the system, but financial crises in 1981 and 1983 short-circuited their full effect. The financial community has undertaken recovery efforts since 1986.

Until the economic crisis of the mid-1980s, the largest commercial bank in the Philippines was the government-owned Philippine National Bank. Created in 1916 to provide agricultural credit for export crops, the Philippine National Bank accounted for 25 percent to 30 percent of commercial bank assets in the 1970s and early 1980s. As the result of the accumulation of nonperforming assets, by 1987 the asset share of the Philippine National Bank had fallen by half. In 1988 there were twenty privately-owned domestic banks and four branches of foreign banks engaged in commercial banking. Since the passage of the General Banking Act of 1948, foreign investment in banking has been limited to 40 percent of domestic bank equity. Total assets of the commercial banking system in 1988 were about P330 billion.

The Philippine government controlled three specialized banks in 1991: the Development Bank of the Philippines, the Land Bank of the Philippines, and the Philippine Amanah Bank. The Development Bank of the Philippines, established in 1946 and initially designed to facilitate postwar rehabilitation, provided long-term finance. It supplied 47 percent of long-term loans and 15 percent of the medium-term loans. More than 70 percent of its loans were allocated to industry. The Land Bank of the Philippines, established in the early 1970s, financed the government land reform program. The Philippine Amanah Bank, organized in the mid-1970s, served Muslims in the southern Philippines. Offshore banking units have been allowed to do business in the Philippines since 1977. Also since 1977, certain domestic banks have been allowed to take foreign-currency deposits and engage in foreign-currency lending.

From its inception in 1948 until 1980, the Central Bank extensively regulated the commercial banking system and engaged in considerable rediscounting activity. Interest rates were set administratively, usually below the market clearing rate. Commercial bank lending tended to be short-term and granted to known, established borrowers. The system had periods of instability with several bank runs and a few failures. In 1980, at the instigation of the World Bank and the IMF, several measures were passed to increase competition in the financial sector, achieve grea 1000 ater efficiency, and increase borrowers' access to loÍÍÍÍÍÍÍÍng-term funds. Large banks with a net worth of at least P500 million could engage in expanded commercial banking, or "unibanking," combining commercial and investment banking activities. In 1988 there were eight unibanks, including the Philippine National Bank. Further liberalization had occurred in 1983 when interest rates shifted from being administered to being market-determined.

Interest-rate ceilings had led to an excess demand for loans and credit rationing. The Malacañang Palace interfered in loan decisions regarding state-owned banks, weakening the quality of bank portfolios. It was argued that a market-determined interest rate would make such behavior less rewarding and more difficult. However, before the interest rate reform could be initiated and before the expanded commercial bank reform had an impact on the banking industry, a series of crises hit the Philippines, throwing the country's financial system into disarray.

The economic and political crisis that occurred in the aftermath of the assassination of Marcos's political rival, Benigno Aquino, resulted in a virtual collapse of much of the banking industry, particularly the smaller institutions. The larger banks suffered substantial losses from the drastic devaluations of the peso between 1983 and 1985. Commercial bank loans increased slightly in 1984, but then fell almost 30 percent in the following two years--from P116 billion to P83 billion--before turning upward again. Inflation during that three-year period was almost 80 percent. The two largest financial intermediaries, the Philippine National Bank and Development Bank of the Philippines, became insolvent, and a number of financial institutions failed, including the three largest investment houses, three commercial banks, the majority of the more than 1,000 rural banks, and the largest savings bank.

The Aquino government undertook a rehabilitation program for the Philippine National Bank and Development Bank of the Philippines. In 1986 nonperforming assets of the two institutions were transferred to the government, reducing the value of the assets of the Philippine National Bank by 67 percent and that of the Development Bank of the Philippines by 87 percent. The relative importance of these two banks in the financial sector diminished dramatically. The domestically owned commercial banking sector, however, became more concentrated. From the mid-1950s to the early 1980s, the five largest private domestic commercial banks accounted for about 35 percent of total assets of the private domestic commercial banks. By 1988 that ratio had risen to around 55 percent. The combined assets of the five private domestic commercial banks, the Philippine National Bank, and the two largest foreign branch banks accounted for two-thirds of total commercial bank assets, up from 56 percent in 1980.

In 1990 the six largest commercial banks earned an estimated P7.9 billion in after-tax profits, an increase of 42 percent over 1989, which in turn was a 32 percent increase over 1988. A 1991 World Bank memorandum noted that the extent of bank profits indicated a "lack of competition" and a "market structure for financial services characterized by oligopoly." Philippine banks had the widest interest rate spread (loan rate minus deposit rate) in Southeast Asia.

Data as of June 1991