Crossroads (Toward Philippine economic and social progress)
Philippine Star, 19 September 2018


In the previous column, I referred to the deficits in the balance of trade (earnings from exports over imports) as partly responsible for the understanding of the complex problem of rising prices (inflation), the peso exchange rate, and national economic growth.

Trade imbalances. The Philippines has been chronically experiencing a balance of trade deficit. A developing country often displays this phenomenon in the course of its economic development.

But some more successful countries have used export-driven policies to create trade surpluses that enabled them to pay for their import needs while facilitating the growth of public and private investments and the economy in general.

The surpluses from their export trade helped to build up the learning process in industry, higher productivity, and in accumulating national savings for higher domestic investment.

The Philippine deficit in the balance of trade has lately been rising. In 2015, the trade deficit was $23 billion; in 2016, this imbalance rose to $35.5 billion; but in 2017, this imbalance reached $40.5 billion. Imports are outpacing exports.

Reducing the trade gap. Three elements are keeping this deficit at bay to arrive at a sustainable balance of payments situation: (1) net non-merchandise earnings, luckily, are out-pacing export growth; (2) OFW remittances are continuing their high level; and (3) net foreign investments are positive.

Any resulting rise in overall deficits in international payments means a reduction of the country’s foreign international reserves. Thank goodness these are still at a high, comfortable level.

The international value of the peso will stabilize only if the balance of payments remains in a sound position. This of course is the aim of long term policy.

Rapid rise in the export of BPO (business process operations) services, in addition to earnings from tourism, has narrowed the wide gap in short- term earnings. Again, here, these sectors have played a gap-filling role in reducing the payments deficit.

The non-merchandise trade balance has been in large surplus, thus helping to reduce the deficit in merchandise trade. In 2015, the surplus was $5.4 billion; in 2016, $7.04 billion; and in 2017, $9.25 billion. (In 2017, total exports of non-merchandise trade amounted to $38.9 billion.)

OFW remittances are the strongest neutralizers of the trade deficit. In 2017 alone, total remittances amounted to $31.28 billion.

Net inflows of foreign capital is the final gap-filler of the deficit in the trade balance. If all three are able to fill in the trade gap, the country’s foreign exchange reserves would rise. Otherwise, however, the country’s reserve position could be weakened since that would mean any payments deficiency would result in a drawdown on reserves or in foreign borrowing.

What needs to be done. Even as the country moves forward in getting the right momentum to grow by continuing to pursue the development program (principally the public spending program of investing in the country’s infrastructure), it is important to stabilize the inflationary tendencies.

Price increases should be kept within tolerable limits, as determined by the monetary authorities, that is, along their inflation targets. It is clear that dealing with inflation requires hard trade offs in decision-making: where to cut spending, where to push for more, and where to stimulate economic activity.

In this, monetary and fiscal policy need to closely coordinate in their efforts. To cure inflation means raising the interest rate at a level sufficiently high so that capital does not flee the country. This also serves to modulate overall spending by all sectors of the economy.

Actually, some of these measures are already being taken by both the central bank and by the administration through the reshaping the public spending bill. Part of the anti-inflationary program would require special programs to allow the increase of short run supply.

There is no lack of advocacy for cutting taxes to free spending, especially to roll back the revenue gains of TRAIN 1. Panicky proposals emanating from some elements in Congress are using the populist formula, mainly to look good.

Taking this route would endanger government revenues, forcing either a rise of the fiscal deficit (which accentuates inflationary tendencies) or a drastic cut in government programs, including its investment program). That would not be desirable because it could mean loss of investment efforts. Or loss of revenues could fuel inflationary problems if this leads to higher fiscal deficits.

The nation has suffered enough from the neglect and fall of required infrastructure investments!

Pursue correct economic policies. The economy has not been sufficiently liberalized to enable high quality growth. There remain many restrictions that affect the cost of resources used in production. These affect legitimate, efficiency-seeking enterprises. Many these restrictions are embedded in policies that government itself, including those that originally are found in the political constitutional the nation that requires amendment.

True we have opened the economy to foreign direct investments that locate essentially in export processing zones and in some areas of investments. But the economy is really still highly restricted within the domestic sector.

Some of the measures in TRABAHO, which is the second phase of the tax reform program, might cure some of the incentive problems being discussed. Once it becomes law, the uncertainties being generated by the reform debate will die down, and the country can then focus on attracting the important types of investments, both domestic and foreign. There is need for speed in adopting the said investment reforms.

However, all these would produce few results unless the nation pays attention toward amending the economic restrictions imbedded in the constitution. The constitutional reform agenda should focus on that more than the effort to split the country into many federal states.

From my viewpoint, the most feasible federal system for us is one that creates no more than three competing states in a federal union, together with the Bangsamoro entity. Going beyond is likely to lead to fiscal disaster because of the requirements for new institutions, processes, and administrative and governance traditions. If going by the route of many federal states becomes the chosen mode, it would be better to keep the single unitary state for which we have much more experience.