UNIVERSITY OF RIZAL SYSTEM

Province of Rizal
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Unit I – CENTRAL BANK AND ITS FUNCTIONS AND OPERATIONS

Module 2 – Central Banking Development and Central Monetary Agency

INTRODUCTION

In the beginning, there were no central banks. Depositing and lending activities
were simple and limited, they were done in the temples of Babylonia. As the time
passed by, production was improved as well as the trade and commerce were
expanded because the rapid technological innovations, the emergence of electronic
based payment system and currencies, and the vast expansion of capital market,
which necessitate the continuous performing role of central bank in delivering stability
in the economy by preserving the value of its currency and maintaining the soundness
of its financial system. Unless stabilization policy in the short term is correctly sorted
out, the probability of growth over the long term may be in doubt.

LEARNING OBJECTIVES

At the end of the semester, the students should be able to:

1. Explain the nature of Central Banking;

2. The objectives of Central Bank;
3. Discuss the origin of Central Banks and its brief history;
4. Familiarize with the BSP’s capitalization, place of business, and corporate
powers;
5. Identify the composition of monetary board;
6. Understand the power and duties of the governor; and
7. Explain the exercise authorities of the Monetary Board

1. The Nature of Central Banking.

Like commercial bank, savings bank or rural bank, Bangko Sentral ng Pilipinas
is also a financial institution, however, BSP has different organizational objectives with
the other financial institutions. BSP is not-profit maximizer and its objectives to pursue
certain socioeconomic goals with concern more on national interest or public welfare,
such as price stability, full employment, and economic growth (Fajardo & Manansala,
2000).

Under Republic Act No. 7653, Article 1 – Section 3, The BSP shall provide
policy directions in the area of money, banking, and credit. It shall have supervision
over the operations of banks and exercise such regulatory powers as provided in this
Act and other pertinent laws over the operations of finance companies and non-bank

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financial institutions performing quasi-banking functions, hereafter referred to as

quasi-banks, and institutions performing similar functions.

The state shall maintain a central monetary authority that shall functions and
operate as an independent and accountable body corporate in the discharge of its
mandated responsibilities concerning money, banking and credit. In line with this
policy, and considering its unique functions and responsibilities, the central monetary
authority established under this Act, while being a government-owned corporation,
shall enjoy fiscal and administrative autonomy.

2. Primary Objectives of the BSP

(1) to maintain price stability conducive to a balance and sustainable growth of

the economy, and
(2) to promote and maintain monetary stability and the convertibility of the
peso.

Monetary stability means price stability. Whenever there is an expansion or

contraction of money supply, there is a fluctuation in the price level. This is not good
for the economy. Production, employment, wage and other economic activity are
affected. When the rate of growth of the money supply is greater than the rate of
production of goods and services, price level increases. This means inflation.

Example. Loans and savings are used for consumption and not for production,
this has inflationary effects. Another printing of money by a central bank creates
inflation. Whenever abnormal movements in the monetary aggregates, in credit, or
in prices endanger the stability of the Phil. economy or other important sectors, the
Monetary Board shall:

1. Take remedial measures that are appropriate and within the powers granted to
the Monetary Board
2. Submit to the President of the Philippines and Congress, and make public, a
detailed report which shall include as follows:
a) Cause of the rise or fall of the money aggregates, credit or prices;
b) The extent to which the changes in the monetary aggregates, credit and
prices have been reflected in the changes in the level of domestic output,
employ, wages, and economic activity in general, and nature and
significance of such changes,
c) Adopted the monetary, fiscal or administrative measures

International Monetary Stability simply means stability of the foreign

exchange rates of
the pesos against foreign currencies. Example. The exchange rate of the Peso is P28
vs. the US $1. Then suddenly exchange rate becomes P20 or P35. The exchange
rate is not stable. Or the international value of the Peso is not stable.

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The BSP shall exercise its powers to preserve the international value of the
peso and to maintain its convertibility to other freely convertible currencies primarily
for current payments for foreign trade and services. To maintain international stability
and convertibility of the Philippine peso, the BSP has to maintain adequate
international reserves to meet any foreseeable net demand on the BSP for foreign
currencies.

The main functions of a central bank are:

(1) It acts as a lender of last resort, and

(2) Controller of money supply.

An example of this is when a country has unfavorable economic conditions or

inefficient bank management may likely cause bank failures. To avoid the closure of
banks, the central bank acts as a lender of last resort. It lends money to distressed
banks, including management assistance. Without the help from the central bank,
banks may not be able to pay back their depositors. This instance, may destroys the
people’s trust and confidence in the banking system, and it eventually pushes the
whole economy backward.

On the other hand, management of money supply is a vital factor in the whole
economy. If money supply is mismanaged, it results to inflation which adversely
affects people and the economy. For example, high prices reduce the quantity
demanded for goods. This is not good for producers or sellers. Their business goes
down. Thus, the objectives of a central bank to achieve full employment, price stability,
and economic growth have not been realized.

Likewise, in a growing economy, the supply of money is the most important

element. It is the entire banking system that can create a multiple expansion of money
supply through its deposit-lending operations. Nevertheless, there is nothing wrong
about an oversupply of money in the economy. But if the rate of production of goods
and services is slower than the rate of increase in money supply – which almost always
happens – then price level rises. In short there is inflation. This is a situation where
there is plenty of money in circulation but only very few goods are available. When
people have more money, they buy more goods and services. Whenever demand for
and supply of goods are not equal, market prices change. Since demand is greater
than supply then prices go up. Such situation is not favorable to the people, especially
to the poor and fixed-income group.

3. A Brief History of the BSP

It was Miguel Cuarderno, the first governor of the Central Bank, who developed
the concept of a central bank in 1933. For thirteen years he conducted an extensive
research on the structures and operations of various central banks in many countries.
However, it was only 1946 that a formal preparation of the organizational of a central
bank started upon instruction of President Manuel Roxas. A joint Philippine-American
Finance Commission was created to study the Philippine currency and banking system

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which recommended the reform of the monetary system, the formation of a central
bank, and the regulation of money and credit supply. Miguel Cuaderno who had the
greatest participation in the creation of a central bank, he chose the charter of the
Central Bank of Guatemala as the model for our Central Bank in view of the similar
social and economic conditions prevailing in said country with our own.

A Central Bank Council was formed in August 1947 to review the report of the
Commission and to prepare the necessary legislation for its implementation. The
following year, President Roxas submitted to Congress a bill “establishing the Central
Bank of the Philippines, defining its powers on the administration of the monetary and
banking system, amending the pertinent provisions of the Administrative Code with
respect to the currency and the Bureau of Banking, and for other purposes.” This bill
was to become Republic Act (RA) No.265, also known as the Central Bank Act. The
Charter of the Central Bank was inaugurated and formally opened on January 3, 1949,
with Miguel Cuaderno as its first Governor.

Bank supervision was introduced during the American Period (1900-1941).

This period was also characterized by the establishment of more banks. In 1900, two
years after the arrival of the Americans in our country, Act. No. 52, passed by the First
Philippine Commission, placed all banks under the Bureau of Treasury. The Insular
Treasurer was authorized to supervise and examine banks and banking activities. In
February 1929, the Bureau of Banking took over the supervision of banks. Said
bureau was under the Department of Finance and was headed by the Bank
Commissioner. With the opening of the Central Bank of the Philippines in 1949, bank
supervision and examination were placed under said premier financial institutions.

Origin of Central Banks

Central banks have developed in two ways: one is through a slow process of
evolution, and the other way is the creation of central banks by governments. The
example of previous is the Bank of England while the latter is the Federal Reserve
System of the US and the BSP. The development of early central banking has been
a gradual process. The first central banks evolved in Europe due to the great need to
safeguard the interest of the banks, and to improve monetary conditions. Such banks
were privately owned and were generally known as banks of issue or as national
banks. In later year, they gradually performed the functions of central banking. The
state granted them the sole right of note issue (issuance of money), and the authority
to act as agent and banker of the government. Here are some brief notes on the oldest
central banker.

Bank of England was organized in 1694 as a joint stock company. It extended

financial assistance to the distressed government of William III. In return the
government granted the Bank of England the privilege of note issue. However, other
banks were also conferred the same privilege. In later years, the Bank of England
enjoyed a partial monopoly of note issue and only its notes were declared by the
government to be legal tender. In addition, its functions gradually expanded as the
banker and agent of the government. Through the years of the bank developed into

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a central bank. It became a model to other countries. It was only in 1935 that the
Bank of England was nationalized by the British Parliament. Said bank has been
considered the oldest real central bank.

The Riskbank of Sweden was established in 1656 as a private bank.

However, it was organized in 1668 as a State bank. It gradually developed into a
central bank using the Bank of England as a model. During the early years, it enjoyed
the sole right of note issue. Such monopoly of note issue was shared by other banks
that were established in later years. It was only in 1830 that Riksbank regained its
monopoly power of note issue.

The Bank of France was created in 1800 mainly from private capital and the
rest from government funds. The founder of said bank was Napoleon Bonaparte. It
was the government’s banker and it had the sole right of note issue. In later years, its
functions expanded and developed into central banking. The government participated
in the operations of the bank through the appointment of the governor and two sub-
governors. In the case of the private stockholders, they were represented by a board
of fifteen regents who were elected by the two hundred biggest stockholders.

The Bank of the Netherlands was founded in 1814 with private capital.
However, the government appointed the president and secretary of the managing
board while the stockholders elected the other members of the managing board and
the board of directors.

The National Bank of Austria was established in 1817 to restore monetary

stability in the country.

The Bank of Norway was established in 1817 with private capital. Its further
development was similar with that of the Riksbank of Sweden. Although it was funded
with a private capital, its top officials were appointed by the king, and the others were
elected by the members of the legislature.

In subsequent years, Denmar, Belguium, Spain, Russia, Germany and

Japan put up their respective central banks. At the end of 1800, almost all countries
in Europe and other parts have organized their own central banks.

During the first decade of 1900 all of the countries in North America, South
America, and Central America had no central banks. Even countries with ancient
civilization like China and India were still without central Banks.

The United States established its central bank only in 1913 during the time of
President Wilson. This was followed by South African Reserve Bank in 1921. In
view of the clearly perceived economic benefits of the central banking, specifically in
the areas of monetary stability, international trade and economic development, many
of those countries without central banks have instituted their own central bank during
the last fifty years since 1921 such China (1928), Iran (1928), Canada (1935), India
(1935), Thailand (1942), Pakistan (1948), Cuba (1950), Korea (1950), Burma (1952),
Indonesia (1953), Israel (1954). and Malaysia (1958).

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4. BSP’s Capitalization, Place of Business, and Corporate Powers

The capital of the BSP shall be Fifty billion pesos (P50,000,000,000), to be fully
subscribed by the Government of the Republic, hereafter referred to as the
Government , Ten billion pesos (P10,000,000,000) of which shall be fully paid for by
the Government upon the effectivity of this Act and the balance to be paid within a
period of two (2) years from the effectivity of this Act in such manner and form as the
Government, through the Secretary of Finance and the Secretary of Budget and
Management, may thereafter determine.

The BSP have its principal place of business in Metro Manila, but may maintain
branches, agencies, and correspondents in such other places as the proper conduct
of its business may require.

The BSP is hereby authorized to adopt, alter, and use a corporate seal which
shall be judicially noticed; to enter into contracts, to lease or own real and personal
property, and to sell or otherwise dispose of the same; to sue and be sued; and
otherwise, to do and perform any and all things that may be necessary or proper to
carry out the purposes of this Act.

The BSP may acquire and hold such assets and incur such liabilities in
connection with its operation authorized by the provisions of this Act, or as are
essential to the proper conduct of such operations.

The BSP may compromise, condone, or release, in whole or in part, any claim
of or settled liability to the BSP, regardless of the amount involved, under such terms
and conditions as may be prescribed by the Monetary Board to protect the interest of
the Bangko Sentral.

5. The Composition of Monetary Board

The powers and functions of the BSP shall be exercised by the BS Monetary
Board, composed of seven (7) members appointed by the President of the Philippines
for a term of six (6) years.

The 7 members are:

1. The Governor of the BS, who shall be the Chairman of the Monetary Board.
The Governor of the BS shall be head of a department and his appointment
shall be subject to confirmation by the Commission on Appointments.
Whenever the Governor is unable to attend a meeting of the Board, he shall
designate a Deputy Governor to act as his alternate: Provided, that in such
event, the Monetary Board shall designate one of its members as acting
Chairman;

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2. A member of the Cabinet to be designated by the President of the Philippines.

Whenever the designated Cabinet Member is unable to attend a meeting of the
Board, he shall designate an undersecretary in his Department to attend as his
alternate; and

3. Five (5) members who shall come from the private sector, all of whom shall
serve full-time: Provided, however, that of the members first appointed under
the provisions of this subsection, three (3) shall have a term of six (6) years,
and the other two (2), three (3) years. No member of the Monetary Board may
be reappointed more than once.

6. Powers and Duties of the Governor

The Governor shall be the chief executive officer of the Bangko Sentral. His
powers and duties shall be to:

1. Prepare the agenda for the meetings of the Monetary Board and to submit for
the consideration of the Board the policies and measures which he believes to
be necessary to carry out the purposes and provisions of this Act;
2. Execute and administer the policies and measures approved by the Monetary
Board;
3. Direct and supervise the operations and internal administration of the Bangko
Sentral. The Governor may delegate certain of his administrative
responsibilities to other officers or may assign specific tasks or responsibilities
to any fulltime member of the Monetary Board without additional remuneration
or allowance whenever he may deem fit or subject to such rules and
regulations as the Monetary Board may prescribe;
4. Appoint and fix the remunerations and other emoluments of personnel below
the rank of a department head in accordance with the position and
compensation plans approved by the Monetary Board, as well as to impose
disciplinary measures upon personnel of the Bangko Sentral, subject to the
provision of Sec. 15 (3) of this Act: Provided, that removal of personnel shall
be with the approval of the Monetary Board;
5. Render opinion, decisions, or rulings, which shall be final and executory until
reversed or modified by the Monetary Board, no matters regarding application
or enforcement of laws pertaining to institutions supervised by the Bangko
Sentral and laws pertaining to quasi banks, as well as regulations, policies or
instruction issued by the Monetary Board, and the implementation thereof;
and
6. Exercise such other powers as may be vested in him by the Monetary Board.

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7. Exercise Authority of the Monetary Board

In the exercise of its authority, the Monetary Board shall:

1. Issue rules and regulations, it considers necessary for the effective discharge
of the responsibilities and exercise of the power vested upon the Monetary
Board and the Bangko Sentral. The rules and regulations issued shall be
reported to the President and the Congress within fifteen (15) days from the
date of their issuance;
2. Direct the management, operations and administrations of the Bangko
Sentral, reorganize its personnel and issue such rules and regulations as it
may deem necessary or convenient for this purpose. The legal units of the
Bangko Sentral shall be under the exclusive supervision and control of the
Monetary Board;
3. Establish a human resource management system which shall govern the
selection, hiring, appointment, transfer, promotion, or dismissal of the
personnel.
4. Adopt an annual budget for and authorize such expenditure by the BS as are
in the interest of the effective administration and operations of the BS in
accordance with applicable laws and regulations; and
5. Indemnify its members and others officials of the BS, including personnel of
the departments performing supervision and examination functions against all
cost and expenses reasonably incurred by such persons.

REFERENCES:

a. Medina, R. G. (2000). Money, credit & banking. Valenzuela City, Mutya

Publishing House.
b. Croushore, D. (2014). Money and banking, Second edition. Ortigas Ave.,
Quezon City: Cengage Learning Asia Pte Ltd (Philippine Branch).
c. Nolledo, M. S. (2004). The new central bank act (Republic Act No. 7653).
Mandaluyong City: National Book Store.
d. Miranda, G. S. (2004). Essential of money, credit and banking. Revised
edition, 2004). San Juan, M.M.: L & G Business House.

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Activity #1

Instruction: Identify the name of central bank and year

organized.
CENTRAL BANK NAMES YEAR EXISTED
1.
2.
3.
4.
5.

Answer to Activity #1

Instruction: Identify the name of central bank and year

organized.
CENTRAL BANK NAMES YEAR EXISTED
1. BSP 1949
2. Bank of England 1694
3. Bank of Sweden 1656
4. Bank of France 1800
5. Bank of Netherland 1814

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SAQ #1

Instruction: Identify the correct answer for each item. Please write your
answer on the second column.
1. It is an organization formed to exercise authority over the
actions of people and provide financial essential services.
2. It is a want that can be satisfied through the mechanism
of the market.
3. An economic system where the major industries are
controlled by the state and production based on the needs.
4. It measures the economy of a country.
5. It is a want subjects to exclusion principle and are
satisfied by the market within the limits of effect demand.
6. It is a monarchial form of government during the early
period.
7. It is the natural consequence of development.
8. It is the period where no public finance was existed.
9. The recipients of income finance by those taxes.
10. A country which has advanced industrial or developed
economies.

ASAQ #1

1 Government
2 Private Wants
3 Socialism
4 GNP
5 Merit wants
6 Barangay
7 Growth
8 Primitive period
9 Payers of Taxes
10 Rich

PREPARED BY: GLORIA P. DE LEON, MBA

Program Head - FM

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