Page 98 - Special Topic Session (STS) - Volume 4

STS566 Iluminada T. Sicat
case of extraordinary circumstances such as those arising from natural disaster
or system-wide financial bank run. Buffer stocks are maintained for all
denominations of notes and coins, whereas contingency reserves are only for
high denomination banknotes. Recently, the BSP Monetary Board has
integrated the 2 types of prudential reserves into one, and called it simply as
“Buffer stock”, for easier monitoring and to be consistent with the practice of
other central banks. Currency demand forecasts also consider the lifespan of
the banknotes/coins and the need to replace them whenever the quality of
the banknotes and coins are no longer fit for circulation. Notes and coins in
circulation must be of a certain quality, in order to promote easier detection
of the authenticity of the notes, hence enhance the integrity of the currency.
Because the Philippines consists of many islands surrounded by water, climate
is humid, and wet markets exist, the Philippine banknotes, particularly, lower
denominated ones have a shorter lifespan, hence faster replacement of notes
in circulation. Over the years, the BSP has improved the Philippine peso
substrates particularly for lower denomination banknotes in order to lengthen
their lives. The aggregate currency demand in the Philippines is derived by
summing the projections coming from these 3 variables.

Currency demandt = ƒ (growth, mandated buffer, replacement rate)t

To calculate how much banknotes and coins will be ordered, the end-of-
period inventory or the stock on hand is deducted from the projected annual
currency demand.

Currency Order = Demandt – Inventoryt-1

Outcome of the currency forecast exercise indicate that the Philippines will
need an average of about 4-4.5 billion banknotes annually for the next 5 years.
Meanwhile, forecasts on denominational mix are based on historical trend.
Error-correction term is incorporated to adjust for substitution of
denominations due to unavailability of requested denomination. The error-
term also captures change in denominational mix arising from financial
innovations or alternative payment infrastructure.
Regional Currency Distribution. Having forecasted the aggregate demand
for the entire country, the next step is to allocate the regional distribution
6
according to each 23 currency distribution centers of the BSP. ARIMA (auto-
regressive integrated moving average) model using time series data is used

6 Auto-regressive integrated moving average (ARIMA) models are a form of statistical time
series which seek to capture the dynamic stochastic aspect of time-series data through a
lagged variable structure while abstracting from more predictable features in the data (such as
trends and seasonality). Univariate (single vector) ARIMA is a forecasting technique that
projects the future values of a series based entirely on its own inertia. Its main application is in
the area of short-term forecasting requiring at least 40 historical data points.
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