Many OFWs complain when they realize the value of the US dollar or other base currencies loses their value against the Philippine peso. Some of them blame the government for allowing it to happen; others attribute this to the corruption and fiscal mismanagement by current officials.
While these reasons may be a factor, there are several other causes of devaluation and appreciation of currencies worldwide. Knowing them should help OFWs understand the dynamics of currency fluctuation and how geopolitical and economic situations dictate their outcome.
Currency constantly fluctuates; this is a phenomenon that is dictated by the financial market and economics. The changes can be big or small based on a number of factors. The Philippine currency also underwent a lot of changes over the decades. Knowing the difference between appreciation and depreciation can help people understand and find solutions for the long term.
Definition of terms
Appreciation
Currency appreciation occurs when a country’s currency increases in value compared to another currency. This means that with the same amount of money, you can buy more of a foreign currency or goods and services from other countries.
If the exchange rate of 1 US dollar (USD) to Philippine peso (PHP) is ₱55, and later it changes to ₱50, this means the peso has appreciated because fewer pesos are needed to buy one US dollar.
Depreciation
Currency depreciation happens when a country’s currency loses value relative to another currency. This means more of the local currency is needed to buy the same amount of a foreign currency.
Conversely, if the exchange rate of 1 USD to PHP moves from ₱50 to ₱55, this indicates that the peso has depreciated because it now takes more pesos to buy one US dollar.
Factors that drive currency appreciation
Strong economic growth
A growing economy attracts foreign investors, increasing demand for the local currency to invest in businesses, bonds, or assets.
When the Philippines experiences strong GDP growth, foreign investors may flock to the country due to favorable economic conditions, increasing demand for the peso. As a result, the peso appreciates in value due to the inflow of foreign capital.
High interest rates
Higher interest rates offer better returns for investors, encouraging them to place money in the country, boosting demand for its currency.
If the Bangko Sentral ng Pilipinas (BSP) raises interest rates, foreign investors looking for higher returns may convert their currencies into pesos to invest in Philippine bonds, leading to peso appreciation.
Increased foreign direct investments
FDI inflows increase the demand for the local currency, as foreign companies must convert their currencies to pesos to do business in the Philippines.
If a major foreign tech company sets up operations in the Philippines, it will need to buy pesos to pay for local expenses, pushing up the demand and value of the peso.
Rising exports and trade surplus
When a country exports more goods and services, foreign buyers need to purchase the local currency to pay for those goods, driving up the currency’s value.
If the Philippines’ exports of electronics and agricultural products increase, foreign buyers will need pesos to complete transactions, leading to an appreciation of the peso.
Government and Central Bank intervention
The central bank can intervene in the foreign exchange market by buying or selling currency to influence the exchange rate. So, if the BSP wants to stabilize the peso, it may use its foreign reserves to purchase pesos, increasing the currency’s value.
Remittances from Overseas Filipino Workers
High remittances cause inflows of foreign currency, which are then converted into pesos, increasing demand for the peso.
During peak seasons like Christmas, OFWs send more money home, which strengthens the peso due to the influx of foreign currencies being exchanged for Philippine peso.
Factors that cause currency depreciation
Economic Slowdown or Recession
A weaker economy leads to lower investor confidence, reducing foreign investments and causing the local currency to lose value.
During the global financial crisis of 2008, many countries, including the Philippines, saw their economies contract, leading to a decline in the value of the peso as investors pulled out their funds.
Lower interest rates
When interest rates are lowered, foreign investors may seek better returns elsewhere, causing an outflow of capital and depreciation of the currency.
If the BSP lowers interest rates to stimulate the economy, the peso may depreciate as foreign investors move their capital to other countries with higher interest rates.
High inflation rates
Inflation erodes purchasing power, causing the currency to lose value as goods and services become more expensive.
If the Philippines experiences a surge in inflation, the peso may lose value as consumers need more pesos to purchase goods and services, leading to depreciation.
Trade deficits and high import dependence
When a country imports more than it exports, it must purchase foreign currency to pay for imports, putting downward pressure on the local currency.
If the Philippines imports more oil and machinery than it exports, there’s increased demand for foreign currencies (e.g., US dollars) to pay for these goods, leading to depreciation of the peso.
Political instability
Political events or uncertainty can undermine investor confidence, causing foreign investors to withdraw their investments, which depreciates the currency.
During political crises, such as the EDSA Revolution or the 2017 Marawi conflict, investors may pull back from the Philippines, causing the peso to weaken.
Global economic trends and external factors
Global events, such as rising commodity prices or economic slowdowns in major economies, can lead to changes in demand for a currency.
If the US Federal Reserve increases interest rates, the US dollar strengthens, and the peso may weaken as capital flows out of the Philippines to seek better returns in the US.
Conclusion
Understanding the factors behind currency fluctuations, such as economic growth, interest rates, inflation, and external influences, is crucial for making informed financial decisions.
By gaining insight into what drives the appreciation and depreciation of the Philippine peso and other currencies, you can better navigate personal investments, business strategies, and savings plans.
Knowledge of these factors not only empowers you to protect your finances but also equips you to share valuable advice with others, helping everyone make sound choices in an unpredictable global economy.