We are now at the start of 2026, coming off a year that began with market jitters over policy shifts in the US and their spillover to the global economy. Last year, there was optimism for the Philippines, which was perceived to be relatively cushioned from a gloomy global outlook. However, conditions deteriorated as the year progressed.
The US government shutdown inflicted some lasting impact on the US economy. That said, as US President Donald Trump’s tariff stance moderated and the US Federal Reserve moved closer to additional policy rate cuts, the outlook for the US has turned more constructive. We may be entering a phase of improved economic conditions in the US and a potentially stronger dollar in 2026.
For the local landscape, weak economic conditions added to the global headwinds. Towards the latter half of the year, the peso has weakened further to historically weak levels as uncertainties outweighed seasonality.
Coming from a year of surprises, we are expecting a better 2026 as both global and domestic economies recover.
US Fed: Just a few cuts away
Following a shallow recession last year, the US economy is expected to recover in 2026, although growth prospects remain moderate amid lingering signs of weak demand and a cooling labor market.
While inflation is expected to remain above the Fed’s target this year, downside risks to the labor market driven by cautious investor and consumer sentiment are likely to keep policy rate reductions on the table.
With current economic conditions bearing on the Fed’s dual mandate, coupled with the Federal Open Market Committee’s (FOMC’s) more dovish set of voting members in 2026, led by a potentially dovish Fed governor replacing Jerome Powell, the Fed is more likely to tolerate slightly elevated inflation levels, if doing so supports additional stimulus for a weakening labor market and the broader economy.
We foresee that the BSP will continue with its easing cycle in 2026 and deliver a cumulative 50 bps worth of policy rate cuts. This will bring the target RRP towards its terminal rate which we project at 4.00% by end-2026, allowing the interest rate differential (IRD) with the Fed to widen to 125 bps.
We forecast that the Fed will continue with its easing cycle into 2026 and deliver a cumulative 100-basis-point (bp) reduction of the Fed Funds Rate (FFR) next year, bringing the target FFR to its terminal rate, which we project will settle at a range of 2.50 – 2.75%, by end-2026.
BSP: More room to ease
With inflation having settled below the Bangko Sentral ng Pilipinas’ (BSP) 2.0%–4.0% target range last year, inflation in 2026 is expected to move back within target, largely driven by base effects.
Within-target inflation, together with still-soft economic activity and subdued consumer and investor sentiment should provide leeway for the BSP to reduce the policy rate further to its terminal rate.
We foresee that the BSP will continue with its easing cycle in 2026 and deliver a cumulative 50 bps worth of policy rate cuts. This would bring the target reverse repurchase (RRP) rate towards its terminal rate, which we project at 4.00% by end-2026, allowing the interest rate differential (IRD) with the Fed to widen to around 125bps.
Philippine fundamentals to gradually normalize
Q3 2025 GDP came in even weaker than expected, surprising markets amid allegations of massive corruption in the Philippines. While markets anticipated a downside bias, the composition of growth surprised investors even more.
Beyond the expected drop in public construction and slow government spending, private consumption growth fell to levels we last saw more than 15 years ago, excluding the contraction during the pandemic. In contrast, exports were more resilient than expected, despite higher tariffs imposed by the US.
For the rest of this year, government spending is expected to remain subdued and consumption still subpar.
Following a fiscal freeze and heightened fiscal prudence this year, government spending is expected to improve next year, supporting economic growth.
As the BSP moves policy rates to neutral in 2026 and the investment environment improves, investment activity is expected to pick up. Private consumption should also improve with anticipated increases in direct cash transfers from the government in lieu of the budget initially allocated for public construction. However, gains will likely be capped by still elevated consumer debt levels and weak sentiment stemming from ongoing government controversies.
Overall, these should allow GDP growth to strengthen this year.
Meanwhile, Philippine inflation in 2026 will likely be a story of demand-side pressure amid rebounding base effects. As the lagged impact of BSP’s monetary easing cycle takes full effect, we expect a pick-up in household consumption. Higher demand-side pressure may nudge commodity prices upward.
Demand-side pressure will manifest in a pickup of inflation figures next year rebounding from low base effects in 2025 when inflation has declined to levels below the lower bound of the BSP’s target range of 2.0%-4.0%. This could be exacerbated by higher import costs associated with higher tariffs and weaker peso moving forward.
With these, we project inflation to tread higher in 2026 compared to an estimate average of 1.7% for full-year 2025. We expect inflation to settle at 3.3% and 3.0% in 2026 and 2027, respectively.
We shifted our outlook for the dollar-peso exchange rate (USD/PHP) to the upside in line with our outlook for a stronger dollar and weaker investor sentiment.
Although resilient exports amid US tariffs will help narrow the current account deficit, it is expected to remain wide. Coupled with an anticipated recovery in dollar strength, driven by stronger growth in the US, these assumptions will continue to weigh on the peso and offset gains from the anticipated wider IRD between the Fed and the BSP next year.
We forecast the USD/PHP to settle at higher levels this year.
Looking ahead, 2026 presents a more constructive backdrop compared with the previous year, supported by easing inflation pressures, a more accommodative policy environment, and improving growth prospects. While challenges persist, particularly on the external and confidence fronts, the Philippine economy appears better positioned to absorb shocks. This sets the stage for a gradual recovery, provided policy support remains consistent, and reforms are effectively implemented.
