Slower inflation points to rates on hold

Sept inflation rate unexpectedly falls to 10-month low

MANILA, Philippines - The annual inflation rate unexpectedly dropped to a 10-month low in September, extending a run of benign headline figures and strengthening the view that rates could be held at a record low into 2011.

Two days ahead of a central bank policy review, data showed the annual inflation rate fell to 3.5% in September, down from 4% in August and 3.9% in July.

It was the lowest inflation rate since November 2009, and below a median market forecast of 4.1% and a central bank forecast range of 3.6% to 4.5%.

"Alongside softer fuel retain prices and pullback in food costs, strong peso appreciation in the month has mitigated much of imported price pressures," said Radhika Rao, economist at Forecast Pte in Singapore.

"Benign inflation and Fed on hold allows the Philippine policymakers sufficient latitude in terms of policy direction, with rates unchanged on Thursday a near-certainty and status quo expected for rest of 2010 as well."

After the data, yields fell between 3 to 5 basis points across the board. The yield on the benchmark January 2014 bond eased to 4.95% in morning trades from 4.975% on Monday, local traders said.

Strong portfolio and remittances from overseas Filipino workers have propelled the peso to 2-year highs against the dollar, helping keep imported inflation in check.

The Philippines imports most of its oil needs. It is also the world's largest importer of rice.

Ahead of Thursday's policy review, Bangko Sentral ng Pilipinas (BSP) deputy governor Nestor Espenilla said the data gave the central bank flexibility in setting monetary policy.

"Lower September data coupled with still benign inflation forecasts give us considerable leeway," Espenilla said in a mobile text message to Reuters.

In a poll on Monday, 11 of 12 analysts expected the BSP to hold rates at a record low of 4%. Half expected rates to rise by 25 basis points before the end of 2010.

"We are still maintaining the call that we may see the central bank hiking rates by the end of this year," said Simon Wong, an economist at Standard Chartered Bank in Hong Kong.

"The underlying growth remains strong, and also current levels of real interest rate is very low historically, so the central bank is likely to change that because in the long run they need to maintain positive real interest rate for the economy to grow."

The government expects the economy to grow faster than a target of 5% to 6% this year, supported by a recovery in trade and remittances from Filipinos overseas, and then increase to 7% to 8% next year.