MANILA - An increase in the government's foreign borrowings will not have detrimental effects on the country's inflation rate, the Bangko Sentral ng Pilipinas (BSP) said on Friday.

According to BSP Deputy Governor Diwa Guinigundo, the government's plan to issue up to $1.5 billion worth of yen-dominated bonds overseas will not create the kind of foreign exchange inflow that would significantly impact inflation.

He made it clear that the foreign exchange generated by government borrowing goes directly to the BSP and does not make it to the open market. Thus, he said, the additional foreign funds to be raised by the government will not affect exchange rates.

Guinigundo admitted, however, that the liquidity the borrowing would generate might have an incremental effect on domestic money supply. But he said this is being closely monitored by the BSP.

The government has to tap more borrowings to finance its budget deficit as tax revenues continue to dwindle because of the current economic slump.

The BSP reiterated that even with heavy foreign exchange inflows in the past, the country's inflation rate has remained steady. It noted inflation only started to surge when oil and petroleum prices soared to record levels.

Philippine annual inflation eased to an 18-month low of 3.3 percent in May, below market estimates. With food and fuel price pressures easing, some economists said domestic inflation could fall to 0 percent.

The BSP has earlier ruled out the possibility of deflation even with the economy likely going into recession this year. It hinted of further monetary easing down the road.

"At the moment, we see inflation still trending downward, and falling to within target for both 2009 and 2010. While we have reduced our forecasts on inflation, we still don't see a situation of deflation," BSP governor Amando Tetangco said.

"As such, there is room for policy to continue to be accommodative. Our primary mandate is price stability, so monetary policy will continue to be determined by our assessment of the risks to inflation," he added. With a report from ANC Business Nightly