Metro Manila (CNN Philippines, May 19) — The Bangko Sentral ng Pilipinas (BSP) has formally begun its tightening cycle by raising interest rates to 2.25% after a year of keeping them steady, with inflation continuing to heat up as economic recovery picks up speed.

BSP Governor Benjamin Diokno announced Thursday the Monetary Boards decision to hike rates by 25 basis points (bps) effective Friday, May 20. Overnight lending rate was bumped up to 1.75% and deposit rate to 2.75%.

The board last voted for a rate cut in November 2020, with the figure staying at 2% prior to Thursdays meeting. This is the first increase since the series of policy hikes in 2018.

Diokno noted the strong economic rebound in the first quarter of 2022, where growth exceeded market expectations at 8.3% and is on track to hitting the economic teams 7-9% goalposts.

However, prices of basic goods rose 4.9% in April — way above the BSPs 2-4% full-year target band. Inflations running average is 3.7%, still within target but already approaching the upper end.

The Board likewise hiked its inflation forecast for 2022 to 4.6% from the prior 3.7% — citing upside pressures including higher oil prices, continued shortage in local pork and fish supply, along with second-round effects from higher-than-expected minimum wage adjustments in some regions.

Diokno further explained that inflation could likely exceed 5% in the next few months before decelerating within target by mid-2023. Inflation is also seen to average 3.9% next year, higher than the prior 3.3% projection.

Given these considerations, the Monetary Board believes that a timely increase in the BSPs policy interest rate will help arrest further second-round effects and temper the buildup in inflation expectations, the official said, stressing anew the importance of sustained non-monetary interventions to address supply-side factors weighing on inflation.

First of many?

Analysts expect multiple rate hikes for 2022 as the BSP is seen to keep its hawkish stance.

With the economic recovery gaining traction, BSP decided to implement its exit strategy quickly and we expect further normalisation carried out throughout the year, said ING senior economist Nicholas Mapa, who projects rates to rise by 75bps more in 2022.

Capital Economics emerging Asia economist Alex Holmes sees policy rates ending at 2.75% this year compared to the prior 2.50% expectation - but said an aggressive tightening cycle is unlikely.

Whats more, with growth set to slow and inflation likely to fall back to target, we think that the tightening cycle will conclude at the end of this year. In contrast, most other analysts expect the tightening cycle to continue into 2023, said Holmes.

Asked whether this rate hike is the start of several consecutive ones, the BSP chief stressed the pace and timing of further monetary policy actions will always be guided by data.

How will rate hikes affect me?

Banks and lending companies turn to BSP rates as a benchmark for their loan, credit card, and deposit rates.

So simply put: higher rates mean it will cost more to borrow — in turn prompting businesses and consumers alike to spend less and save more. With this, central banks usually hike rates to help curb accelerating inflation too.

However, too little money going around in an economy also slows it down — so there are questions on how rate hikes will impact domestic output. While Diokno said this rate hike has very little effect on gross domestic product, he also gave assurance they will continue evaluating the situation.

We are only just starting the monetary policy tightening cycle so we must weigh all future developments so as not to disrupt the growth momentum while preventing price pressures from becoming further entrenched, he explained.