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Keynote speech delivered by Chief Justice Maria Lourdes P. A. Sereno during 2016 Inauguration Meeting and Induction Ceremony of the Financial Executives of the Philippines (FINEX) on 14 January 2016 at the Makati Shangri-La Hotel, Makati City

The Risks From Money Judgments Arising from Rigid Policies: What the Supreme Court Cannot Remedy

Mr. George Chua, Mr. Jaime “Jimmy” Ysmael, to the present and

incumbent officers, directors, trustees, and members of FINEX and FINEX

Foundation, and to your many friends and guests, a very pleasant afternoon to

you all.

In 2001, a report that I co-wrote for the World Bank concluded that

the . . . poor performance [of the judiciary] was perceived as one of the main

disincentives for doing business in the Philippines, and that the difficulty in

settling legal conflicts was the sixth most frequently cited factor affecting

business, with an adverse economic impact equivalent to at least 6% to 11%

of the total investment in the economy. Minimizing these losses from lost

opportunities makes a strong case for judicial reform.

Now from the time I assumed the leadership of the Judiciary, the

Supreme Court has already rolled out various measures precisely designed to

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address these issues. We currently have several case decongestion programs,

a Continuous Trial Project, E-courts, Enterprise Information Systems Plan, and

inter-agency coordination through the Justice Sector Coordinating Council,

among others.

We have also specific projects, designed to make our commercial courts

efficient not only by releasing the rules for financial rehabilitation and

insolvency which are now effective but also by upgrading the capabilities of

our commercial courts so that in fact we make commercial case litigation very

expedient. But I am not here to talk primarily about judicial reform; I have

done that already in two of your previous events, and I thought that it

shouldn’t be that for the third time you will have to bear listening to what we

have been doing.

Now, what I want to share now with you is something I thought that for

my limited experience as a jurist would make sense for economic, especially

financial, managers. You see despite our considerable headway in judicial

reform, there are many problems of justice that by their nature the Judiciary

cannot remedy. And one area I will highlight is the possible unresponsiveness

of one aspect of the financial regulatory system that may not have been

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noticed by the Bangko Sentral ng Pilipinas (BSP), the Department of Finance,

the National Treasury, and the Legislature: this is the aspect of the fixing of

legal interest rates in the Philippines. In other words, has there been enough

thought given to the legal regime of money?

Now under Article 2009 of the 1950 Civil Code, legal interest was

pegged at 6% per annum; and in the absence of stipulation, this rate was

imposed. So if there is no contractual interest this was imposed. But this is

also imposed for delay in making good an obligation to pay money or the

equivalent thereof; this was also imposed for defaults in judgments as well as

the interest that would accumulate on judgments that have already been

rendered final.

Now this fixed rate system was made quasi-flexible in 1973 by Section

1 of Presidential Decree No. (PD) 116. Many think that the importance of this

PD 116 is only to amend the Anti-Usury Law by lifting the ceiling that was

imposed by the statute and allowing the Central Bank to address the same.

But I think what they fail to see is that the power that was given also to the

BSP to affect the magnitude of risks for certain contingent accounts. So let me

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try to be brave here by talking about contingent accounts. Section 1 of the PD

provides:

The rate of interest for the loan or forbearance of any money, goods, or credits and the rate allowed in judgments, in the absence of express contract as to such rate of interest, shall be six per centum per annum or such rate as may be prescribed by the Monetary Board of the Central Bank of the Philippines for that purpose in accordance with the authority hereby granted."

and Section 2 thereof reads:

The Monetary Board is hereby authorized to prescribe the maximum rate or rate

of interest and that’s the usurious ceiling for the loan or renewal thereof or the forbearance of any money, goods or credits, and to change such rate or rates whenever warranted by prevailing economic and social conditions.

In the exercise of the authority herein granted, the Monetary Board may prescribe higher maximum rates for consumer loans or renewals thereof as well as such loans made by pawnshops, finance companies and other similar credit institutions although the rates prescribed for these institutions need not necessarily are uniform.

Now on July 29, 1974, or several months after the presidential decree

was passed, the Monetary Board promulgated in fact Central Bank Circular

No. 416, which increased the rate of legal interest from the statutory rate of

6% to 12% percent per annum. And this 12% rate was to remain unchanged

for 39 years.

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In the 1994 case of Eastern Shipping Lines, Inc. v. Court of Appeals, [GR

No. 97412, July 12, 1994], the Supreme Court sought to clarify the effect of

BSP Circular 416 vis-a-vis PD 116 and several provisions of the Civil Code. And

I will summarize it very briefly: When it comes to a loan or forbearance of

money and the Court interpreted that when an obligation is due and it is

converted to a money claim that is the same legal equivalent of a loan for this

purpose, the interest due should be that which may have been stipulated in

writing, and if it’s not stipulated then from the legal rate of interest and it runs

from the time it is judicially demanded or extrajudicially demanded. And it

falls at 12% per annum. So imagine that for that longest time, if one of the

later provisions even says that when a final money judgment is awarded, that

judgment in itself earns 12%.

As I have earlier said, it was only after 39 years that it was changed to

6% in 2013, and this change was to be reflected by the Supreme Court in the

2014 case of Nacar v. Gallery Frames [GR No.189871, August 13, 2013]. And it

basically said we now have a fixed or flat rate of 6% in accordance with the

BSP regulation from July 1, 2013. So for all those forbearance of money, in fact

even for your pending litigations right now, all your cases where there has be

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delay in payment from 1974 all the way up to 2013, you could expect that the

court will award that kind of forbearance or delayed payment at 12% interest.

And so this situation of quasi-inflexibility in the legal interest rate may

have escaped the attention of some financial managers with respect to how

you handle contingent accounts. Cases are costly. And the predicted costs are

material to lenders and investors who require adequate information to assess

the likelihood, timing, and amount of future losses associated with pending

lawsuits. How does one account for these changes in the company’s balance

sheet? For that matter, how does one deal with escalating losses by reason of

litigation?

As a general rule, our laws on interest pertain to simple interest.

However, Article 2212 of the New Civil Code also provides that interest due

when delayed shall also earn legal interest, leading to a regime of

compounded interest from the time of judicial demand. In this case, therefore,

when an appropriate case is filed, the interest that has been delayed will itself

earn. Money judgments also on top of all of this must be immediately paid

from the time the judgment reaches finality; so as an investment parameter,

you have to reckon the probable time that the case will be pending in court.

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Because the total amount also incurs interest. This rule translates to large

costs for the losing party.

Allow me to illustrate the magnitude of the risks from money

judgments. In one specific case, the trial court fixed just compensation for a

large piece of agricultural land under the voluntary system of agrarian reform.

And because the amount was contested, defendant Land Bank paid only

PhP 411 million and left an unpaid balance of PhP 971 million. After 12 years,

petitioners earned interest on the remaining balance of PhP 971 million in the

total amount of PhP 1, 331,124,223.05.

The same outcome was replicated in another recent famous decision,

which awarded a private entity in the amount of USD 500 million or almost

PhP 24 billion for airport facilities. The full money judgment actually

increased by an additional USD 242 million. In other words, it should just have

been a little more than 260 million because of the 12% legal interest rate set

by the BSP for a greater part of the time that the claim was pending. And until

it is paid, it will also incur further interest. In effect, the government incurred

massive losses on account of delay and perhaps, I don’t know, depending on

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your point of view, from the interest rate set by the government itself. The

judgment debtor is the Republic of the Philippines.

It is important to consider that while judicial reform will eventually

speed up litigation, and this is something I make a personal commitment of,

the results will take time. In the meanwhile, the legal rate of interest set by the

BSP runs. It appears prudent, therefore, for financial managers of both public

and private entities to formulate investment matrices that incorporate

possible litigation losses or gains from legal interest rate imposition. For the

lawyers of a client who has a good chance of winning a lawsuit, delaying the

case might even seem like good advice. This view, though apparently logical

and financially sound, poses a risk for the administration of justice. The

Judiciary’s resources are best applied to expediting, not delaying, litigation

and certainly not for the parties to bet on the outcome of the case. Otherwise,

the incentive to “game” or use the litigation as part of strategic behavior

increases something I strongly frown upon. The Judiciary’s time ought to be

freed up for more socially important matters. It therefore seems especially

advisable for government agencies to consider managing contingency

accounts to cushion the blows of money judgments.

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At this point, isn’t it appropriate to ask: What is the basis for these legal

interest rates? Moreover, why have the rates remained the same?

I understand that there are several market-driven interest rates monitored

and/or regulated by the BSP: the Repurchase Rates, Reverse Repurchase

Rates, Treasury Bill Rates, Interbank Call Loan Rates, Philippine Interbank

Offered Rate, and so on and so forth. According to bank statistics, deposit

interest rates range from 1% to 2%, with 2013 in particular averaging around

0.8% to 2.24%. Bank average lending rates are more volatile, with rates

ranging from 28.6% in 1985, 15.1% in 1994, 8.6% in 2009, and down to 5.5%

in 2014.

In contrast, the legal interest rate prescribed by the BSP remained at

12% for 39 years; and for the past three years, at 6%. I understand that the

BSP policy is to follow market movement. Considering this flexible approach

towards market rates, it might be good to ask why the policy for legal interest

has remained rigid. Considering that the Monetary Board is authorized to

change rates whenever it believes a change is warranted by prevailing social

and economic conditions, why have the legal rates remained static for years?

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Essentially, how does the BSP see legal interest? Is it analogous to

deposit interest rates? Lending rates? Or is it an entirely different specimen

altogether? In the United States, there are clear distinctions between the

default legal rate and interest rate by way of money judgment. Some states

provide for a “legal interest rate,” which governs contractual obligations that

do not stipulate specific terms. State laws also make use of “pre-judgment”

and “post-judgment interest” rates, which are fixed, or pegged at the current

market rates, or anchored upon some other criteria. For example in federal

courts, the rate of interest used in calculating the amount of post-judgment

interest is the weekly average one-year constant maturity Treasury yield as

published by the Federal Reserve System. In the state of Utah, the post-

judgment interest rates are calculated from the date of the entry of judgment

at a rate equal to the weekly average one-year constant maturity Treasury

yield for the calendar week preceding the date of judgment.

Looking at what is being done in other jurisdictions, it may be time to

ask why the local regime insists upon a rigid and almost permanent state of

affairs in the setting of the legal interest rate. The cases previously

mentioned, which from a certain perspective constituted a loss of billions of

public funds, should serve as a sound alarm to the policy leaders involved.

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The Supreme Court fulfils but an adjudicatory function limited by the

Constitution and applicable laws. With respect to the adverse effects of these

rigid monetary policies, the Court may be considered to be “no more than a

prisoner of the circumstances, rather than a source of the problem.” With

judicial legislation forbidden in our jurisdiction, the Court can only adjudicate

by what is written in the law.

It is not for the Chief Justice to give directives today to another entity

regarding the courses of action that should be taken. What I have just shared

is one mechanism regarding legal interest rates, and how it drastically affects

various stakeholders, including the government, and ultimately every

taxpayer. Perhaps this discussion will prove to be relevant.

So I have promised myself, it will be a short speech because the market

is waiting for you. But in closing, allow me to thank FINEX for its work in

judicial reform, for being an ever reliable supporter in our push for

transparency and speed in our actions. Our representatives have already

presented to you what we have been doing in greater detail. I think

Justice [Estela M. Perlas]-Bernabe has already had occasion to touch base

with the business community and you can see that the speed of litigation right

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now is already accelerating. We have chosen already the courts that are very

important to the investor community, especially the courts here in Metro

Manila for training, for expediting of timelines; and we are coming up with

templates even for the forms that need to be taken. I’m trying to dig hard at

the root of our problem; I’m even looking at the substance of contract

enforcement and land disputes. But that is a work in progress, and I

appreciate the fact that FINEX, instead of saying that reform is slow has

actually been saying that they are grateful for what is happening? And I am

encouraged by this kind of positive support.

You understand that reforming the Judiciary requires reforming the

mindset and habits of more than 30,000 employees and reforming the

systems and processes, infrastructures of more than 2,000 courts nationwide.

And for this I am truly honored that the business community sees the

importance of judicial reform in raising the economic prospects in our

country.

This Chief Justice is no less committed to ensuring that the Judiciary is

here, not to serve as an obstacle but to help stabilize for economic progress. So

with that, I know that you are eager also to hear more reports from the

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Supreme Court, but I have already given very detailed reports in my “Ulat ng

Bayan.” And I will be doing again a very detailed report come this August

when I make my national report, but I hope that [it] will come soon when I can

say that on top of our fantastic success stories in our pilot programs where

you had case reduction in Quezon City by as much as 39% and where you

[reduce] litigation time . . . in Quezon City by actually 15%, we can actually

also talk about the 20% reduction [in] all the courts where we have tried

already the decongestion programs.

And I’m ready to be announcing towards the third quarter that we will

already be covering about 25% of all cases nationwide under the electronic

court system. And nobody of course will dispute the efficiencies that will be

generated by such an automated system. Some of you may have heard stories

already that for those courts in Metro Manila, increasingly you already had

automated case management where on the very same moment where an

order is issued orally by the court you will have it printed out and delivered to

the parties right there and then, cutting out at least two months from the snail

mail that we’ll need to intervene if we need to serve the process ourselves. We

also have notification by SMS for those who are covered under the

decongestion practice guidelines. Eventually as we see more and more

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stability in the system, we are going to roll it out nationwide giving priority

first to the cities. And I hope that you can soon come to an agreement with me

that indeed judicial reform has taken root in the Judiciary.

I’m very hopeful that this will be an auspicious time, that a future time

will come that be a very good chance to us for meet up and find out how

indeed each of our institutions have been contributing for the progress of our

country. I’m grateful for all your work in advancing progressive ideas,

including on judicial reform, including on doing business, including on how

court systems impact the work of the Judiciary. And I thank you for always

being by the side of the Chief Justice.

Mabuhay po kayong lahat! And congratulations to the officers, past and

present directors and trustees of FINEX and FINEX Foundation.