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A View from the Philippines Finance and Development Issues Arising from
the Asian Crisis: A View from the PhilippinesBy Marina Fe B. Durano
Visiting Research Associate of the Center of Concern March 15,1999Presented to the Ad Hoc Working Group on Financing for Development. This first of two meetings was conveinged to address the first four elements identified in the "index report" prepared by the Secretariat (A/53/470): (1) Mobilizing domestic resources for development; (2) Mobilizing international private financial flows for development; (3) International financial cooperation for development and; (4) External debt (bilateral, multilateral, and commercial)
Introduction
The financial crisis triggered by the series of devaluations of Asian currencies in May 1997 turned into an economic crisis for the Philippines in 1998. "Philippine real GNP per capita in 1998 has been set back to below the level prevailing in 1981, just as it had regained that level in 1997." Further declines are expected in the coming years. (de Dios, 1999)
It is appropriate then for the United Nations to discuss finance and development issues arising from this crisis since the Philippines can no longer pursue its development goals alone and separate from the world economy.
The weak nature of the Philippine economy was revealed by this crisis. My presentation emphasizes the need for strong and sustained domestic resource mobilization but it will reveal the difficulties of doing so when fundamental economic structures are unable to provide the necessary foundations upon which it can stand.
The development bind that the Philippines finds itself can be described as a weakness in domestic resource mobilization in both the private and public spheres and inadequate access to and use of foreign resources. Any successful attempt to mobilize domestic resources must be done in a global environment characterized by:
Debt cancellation Symmetrical treatment of capital and labor Promotion of greater South-South trade and financial flows Greater equality in international power relations. The succeeding discussion attempts to share the characteristics of the Philippine economy.
Mismatch in Private Savings and Investment
There is a mismatch in savings and investment in that the Philippines has always had a low savings rate at around 21 percent of Gross Domestic Product in 1997 compared with its neighbors that had savings of more than 30 percent. This low rate has been due to the very low deposit interest rates (from 2%-6% p.a.) and is actually negative when inflation rate is accounted for, thus removing any incentive to save.
More importantly, however, is extreme poverty. In 1995, there were 17.6 million (or 25.5% of population) people below the poverty line, which was defined by Ahuja, et.al. (1997) as $1 per day per capita in 1985 prices. Savings, then, are a luxury that the poor cannot afford.
Any savings generated by the private sector was rarely invested in emplovment-genera6ng projects because of the high interest rates on loans and the very attractive interest rates on government securities. For anyone who had the money, why invest in a firm and face union problems when one can buy a treasury bill, sit and watch the money grow?
Government Budget Deficits
Another source of domestic resources would have been those generated by the public sector. The government currently depends on a small tax base of the employed middle class, where collection is easiest. Tax generation is subjected to leakage in terms of evasion and corruption. The value-added tax helped ease administrative problems but can only be described as regressive punishing the poor even more by taxing their consumption. The rich would not mind because they could afford the additional 10 percent. Last April, the crisis made itself felt as the government fell short of its revenue targets by $200 million.
Meanwhile, property taxes and capital gains taxes are poorly implemented. Given the current crisis, a tax system designed to draw heavily on the real estate and financial asset price bubbles would not only help penalize speculative behavior in the non-tradable sector but also increase government revenues. A third advantage would be an implicit redistribution of wealth since the Philippines continues to face problems of land concentration. A property tax that is high enough would discourage land ownership (The tax schedule created must necessarily specify land areas since there is still some advantage to owning land for housing and shelter.)
The External Sector
In an open economy, shortfalls in domestic saving can be made up for by foreign savings in the form of trade surpluses, foreign direct investment, short-term portfolio flows, official development assistance, and public and private external debt. For an economy such as the Philippines, however, trade surpluses are much too rare given the import dependent nature of its industries. Trade liberalization and tariff reductions implemented since the mid-1980s further reduce the price of imported commodities. Lower tariffs feed back into poor revenue generation since customs revenues will have to decline. As the economy grows, demand for capital goods, intermediate products and fuel rises but all these must be sourced from outside the country thus putting a strain on the trade balance and foreign exchange reserves. Exports may grow fast but they too rely on imported components.
Given low savings, poor revenue generation, and import-dependence, it is not any wonder that the Philippines finds itself hungry for foreign capital in whatever form. In 1992, the Philippines lifted many restrictions to foreign exchange inflows and outflows leading to large increases in net foreign investments (from $737 million in 1992 to $1.6 billion 1996) as well as remittances from overseas workers.
In addition to capital market liberalization, macroeconomic incentives were present in the form of an overvalued exchange rate, which was maintained through direct intervention by the Bangko Sentral ng Pilipinas in the foreign exchange market and through open-market operations of government securities. The latter kept the country within IMF monetary ceilings meant to manage inflation.
Things seem to tie up quite nearly as various economic policies converge to keep the country from reaching its development goals. A high interest rate policy encourages the private sector to invest in financial instruments rather than productive capacity; it attracts foreign portfolio funds wanting to cash in on the interest rate differentials; it bouys up the exchange rate by increasing demand for domestic currency. The overvalued exchange rate feeds back into the balance of trade by eroding export competitiveness. The signals are clear to speculators who see heavily taxed foreign exchange reserves due to the unsustainable policy environment.
The IMF
Tight monetary policy and fiscal restraints are the hallmark of an IMF program. The Philippines was in one such program when the crisis hit and exited it in March 1998. However, due to the loss of around $2 billion in reserves while the BSP defended the Philippine peso, the country, had to enter into a "precautionary arrangement" for a standby facility of $1.37 billion.
What does $1.37 billion buy? The Philippines is now committed to producing a budget surplus (during an economic crisis); retaining a policy of complete capital market liberalization (despite the obvious disastrous results of doing so) albeit accompanied by financial sector reforms; and absolution for the foreign financial institutions that practiced overlending. (This last point we shall return to later.)
What is the cost of $1.37 billion? The Philippine government has implemented a 25% mandatory savings program. The impact across some of the social services are:
Loss of 2,567 classrooms affecting 158,265 primary, and secondary public school students; 27% reduction in case findings and treatments in the Malaria Control Program estimated to lead to 29,000 deaths; 90,000 patients will not be treated for tuberculosis resulting in 1.8 million infections; 23.3% reduction for immunization targets,
and the list goes on.Coping Mechanisms
How will the Philippines cope? An inadequate Social Security System and the absence of unemployment insurance surely will not help. Given the fiscal restraints, government will not have funds for safety net programs. Coping will move out of the public sphere and into private lives, that is, Filipinos adversely affected by the crisis will have to rely on the extended family system. The most important source of support will be overseas Filipino workers. Remittances have help counteract the outflow of foreign capital and softened the blow of higher inflation and unemployment. This means, however, that the overseas Filipino workers themselves are feeling the impact of the crisis as they reduce their consumption and draw down on their savings. North America has been the main source of support as remittances have gone down from Hong Kong and Singapore.
The Role of Foreign Financial Institutions
How easy it is to point the finger at the local actors, significant they may be. Crony capitalism, low absorptive capacities, and weak governance are convenient when holders of capital do not wish to be responsible for their role in this game.
The financial systems of the industrialized countries are not exactly without blame. The liberalization of their capital markets in the 1980s and 1990s encouraged financial institutions to identify new lending opportunities and induced financial innovation. At the same time, the policy of liberalization weakened the central banks' transmission mechanisms and, hence, their control on their own domestic credit.
Together with the liberalization was the change in patterns of savings in industrialized countries. Pension funds, life insurance companies, mutual funds and investment trusts were now more important channels of saving than depository institutions. Note that these channels are subject to minor forms of regulations, if they ever are. More importantly, then are not likely to be subject to domestic credit controls (such as reserve requirements) unlike banking institutions. (d'Arista, 1996)
That there is money to go around is clear. The amount of money that is transacted daily, by financial institutions is in the trillions of dollars. The key to avoiding crisis is to match these funds with productive capacity that generate employment and strengthen forward and backward industrial linkages. Therefore, foreign direct investment is almost always favored over portfolio investment. The important objective is to deepen emerging capital markets, implying a long-term view of investment. It is not to wipe them out.
Conclusions
Yes, strong and sustained domestic resource mobilization is the best way to finance development. I would say that economic independence (and political independence) relies on successful domestic resource mobilization. It will free countries from dependence on foreign funds. It will insulate countries from commodity price cycles and financial booms and busts. There is one important prerequisite to sustained domestic resource mobilization - debt cancellation.
Debt cancellation must be emphasized. To ask the poor to save some of the little income that barely feeds their families and then to use those savings to pay for the follies of a corrupt local elite and the irresponsible behavior of foreign lenders is theft of the lowest order. It is an injustice.
We cannot speak of domestic resource mobilization without debt cancellation. Debt cancellation is imperative.
In a highly integrated world, international economic and political relations must achieve greater symmetry. Two of the most important symmetries that must be attained is that between the international mobility of capital and labor and power relations between and among developed and developing countries.
Mainstream economic theory treats capital and labor symmetrically. But reality shows us that this is not the case. Standard trade theory will assume that capital and labor are perfectly mobile, free to move to sectors and countries where they, can find the highest returns. Hence, the arguments for opening up capital markets. We have just shown that the results are disastrous.
On the many occasions that labor has moved across national borders, the host country has only felt benefits (For a detailed discussion, see: Stalker, Peter (1994). The Work of Strangers: A Survey of International Migration. Geneva: International Labor Organization). They not only made up the shortfall in labor (both skilled and unskilled) but they also contributed to the local economy as consumers and investors, taxpayers even. All this happens at the expense of the sending economy that provided the education and training and vet lost productive human resources. Despite such positive effects on the host economy, international labor mobility is severely curtailed.
This asymmetry is not lost upon us. Capital wants freedom of choice without the responsibility. Meanwhile, labor is left responsible for themselves but without rights and without freedoms.
As we work together to build a world economy that promotes equity and development, power relations must be equalized. Developing countries must be able to determine the rules of the game and not just be trained to play it. A stronger voice and more active participation in the ongoing efforts to restructure rules on world finance is needed. Proposals for self-regulation by, financial institutions can only be described as naive and foolish.
In all this, promotion of greater South-South trade and financial flows over the long-term will support efforts to gain greater economic and political independence. Only then will developing countries cease to be hostages of trade and financial patterns that are vestiges of a colonial past.
Thank you for the opportunity - no, the privilege - of speaking to you today. You have extended a privilege to the Filipino people, a people who have suffered from economic and financial policies that are not sustainable for the Philippines or the world at large, a people whose voices must be heard.
References:
Ahuia, Vinod, et. al. (1997). Everyone's Miracle? Resisting Poverty and Inequality in East Asia. Washington, D.C.: World Bank.D'Arista, Jane W. (1996). "International Capital Flows and National Macroeconomic Policies," a paper prepared for the Institute of Economic Research, Otaru University, of Commerce, International Conference in Washington, D.C. on 30 August 1996.
de Dios, Emmanuel, Joselito B. San Jose and Roderika Taduran (1999). "The Economic Crisis and Its Impact on Labour," a paper submitted to OXFAM-UK.
Lim, Joseph (1 998). Social Impact and Response to the Asian Financial Crisis: The Philippine Case. United Nations Development Programme.
Stalker, Peter (1994). The Work of Strangers.- A Survey of International Migration. Geneva: International Labor Organization.
Author's Note: This paper draws heavily from Lim, Joseph (1998). The research assistance provided by Joselito B. San Jose and Mauricio Claudio Lopez-Rivera is appreciated. Discussions with Jo Marie Griesgraber and Emmanuel S. de Dios helped shape this presentation. The author remains responsible for any mistakes found in the paper.
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