Crossroads (Toward Philippine economic and social progress)
Philippine Star, 13 September 2017


A creeping rise in domestic prices has been happening since a year ago, indicative of modest inflationary pressures.

The year-on-year inflation rate in 2016 was 1.8 percent. In August 2017, the comparative number was 3.1 percent. This signals a 1.3 percentage rise in the inflation rate over the previous period.

Two major factors can be cited that contribute to this experience: rising government expenditures relative to the tax income and the peso depreciation.

What the government expects. The rise in prices has been partly expected. Since its assumption to office in mid-2016, the new administration had planned to increase public spending.

It had argued that a rise of the fiscal deficit to three percent of GDP could be tolerated as part of major public spending for infrastructure investments. When it took power, it complained of fiscal underspending and low achievements in public investment.

The government’s budget development committee projections on public spending and deficits are anticipation of the tax reform proposals now pending which will raise revenues substantially.

The tax reform bill is expected to be passed by Congress, but it is being delayed in the Senate. The tax reform allows for a large boon in tax revenues and a restructuring of income and sales taxes. The additional revenues are designed to underwrite the government’s hefty spending program for public infrastructures: Build Build Build!

The Monetary Board, under its new leadership, met recently and made an assessment of the monetary policy landscape with respect to prices. It projects a slight rise in the expected inflation rate to 3.2 percent for this year and 2018, and 3.1 annual inflation rate in 2018.

The inflation targets are at about the mid-range of the two to four percent year on year target set by the government. Accepting these assumptions, the monetary authorities appear sufficiently comfortable for the moment with their policy stance.

Government spending. In 2016, the fiscal deficit was well within a planned expenditure budget, at 0.9 percent of the GDP. Preliminary estimates of the budget deficit in 2017 is 2.2 percent of the GDP.

Budget deficits are, of course, calculated after the expenditures are set against actual revenues earned. Expenditures traditionally get calculated conservatively, so that they are often underestimated.

On the other hand, the revenue yields tend to suffer from optimistic projections by the revenue agencies. They often lag behind targets at the end of the period.

On the realistic front, the demand for government spending, based on the declarations of the executive branch often reek of more spending. The operational requirements of government often put pressure for more expenditure.

For the moment, budget authorities seem to show confidence that additional demands for spending would be covered under the existing budget.

The demands for additional expenditures from the existing budget often get transmitted from presidential pronouncements and actions. The most repeated often deal with raising salaries or declaring bonuses to civil servants: teachers, the police and the military. When implemented, these will raise the overall budget.

The unforeseen breakout of a war in Marawi had left a big trail of destruction and displacements of people requiring additional public expenditures. Military spending has risen unexpectedly and the reconstruction of Marawi itself would require new, unplanned budgetary expense.

One of the biggest new spending program is the law on free tuition for college students in state-supported institutions. State colleges and universities lose their tuition incomes, but will need money to implement free tuition to pay for their upkeep and programs. The actual estimates of new spending is still not fully determined but the impact on the budget of the law would be big.

And then, there is the expected Bangsamoro budget expense tied up with the finance of the structure of that government. The expenditure to be appropriated for the institution will entail a continuing new demand on the budget.

Finally, the discussion with the communist guerillas might have a budget component. There is uncertainty as to whether such spending would be needed at all since the negotiation has been getting nowhere. Any resumption of hostilities could have budgetary impact too.

And then, there are off-budget agencies that have their own fiscal programs. According to budget projections, they raise their funding through their operations. If they fail to generate their resource generations to contribute their profits to the Treasury, the fiscal deficit could rise.

All these pressures on the expenditure budget have implications on the size of the fiscal deficit and on future price expectations.

Peso depreciation. The depreciation of the peso is both a cause and an effect of higher government expenditures. There are other factors that influence the value of the peso.

Other factors include changes in monetary policy in other countries, notably, in the peso’s case, the US. The rise in the Fed interest rate has led to a switch in demand for Philippine assets and has caused net dollar outflows, therefore resulting in the fall in demand for the peso.

Since mid-2016, the peso has depreciated by 13 percent from P45.20 per dollar at the time of the change in administration. The immediate impact of a peso depreciation is to raise the cost of imported goods.

Aside from this, there is a tax element to the anticipated rise in fuel costs. The tax reform raises peso taxes on fuel products. Though imported fuel prices have remained relatively stable, peso depreciation raises the peso costs of fuel in addition.

Fuel imports are part of the domestic spending basket, the depreciation pushes the price of imported goods, and the consumer basket could be affected. The more dependent we are on imported goods, the more the devaluation hurts us.

The peso depreciation makes the dollar prices of Philippine exports cheaper. Thus, the depreciation is an inducement for foreign countries to buy Philippine export products and services.

The incomes derived from exports when converted into pesos help to push domestic expenditure. In this sense, the depreciation may help to spur an inflationary demand especially as it brings in more export incomes.

A peso depreciation also encourages remittances to come in larger volumes if only these refer to OFW remittances. Those who remit money to the country get more pesos for the same dollar.