TRAIN, inflation, and competitiveness

Business World Introspective
By Romeo Bernardo
March 11, 2018


The government’s Tax Reform for Acceleration and Inclusion (TRAIN) began to make an impact on inflation this January and February, with a spike of 3.9% under the revised series. In line with international practice, the consumer price index (CPI) series is rebased periodically by the Philippine Statistics Authority to ensure that the prices in the basket of goods being measured stay relevant and representative.

Though this was not unexpected, Finance Undersecretary Karl Chua explained that other factors were the bigger contributors to inflation than TRAIN. These include higher corn, fish, tobacco, and personal transport prices, all of which grew double digits. Interestingly, the spike in tobacco prices are driven by the success of the government in compelling Mighty,now under Japan Tobacco, Inc. (JTI), to pay the right taxes. The larger part of the increase in oil prices are due to the increase in global crude prices and the peso depreciation.

Allow me to excerpt from a statement presented by the Foundation for Economic Freedom (FEF) at a Senate Hearing in February that puts this price hike in perspective.

“FEF believes that TRAIN has safeguards in place to mitigate any inflationary effects which as estimated by the Department of Finance to result to 0.7 percentage point increase in inflation for 2018 with food prices rising by .03 percentage points and transportation by 0.1 percentage points.
These include:

1. Built-in cash transfer programs in TRAIN which have to be implemented effectively by the Government to benefit the poor;

2. The TRAIN has provisions for reaching informal sectors which currently do not pay income taxes. This broadens the tax base which helps reduce the fiscal deficit and inflationary pressures. Many in the informal sector are not poor, but are exempted by self-election from any income taxation. It is only fair that they pay their share of taxes;

3. It is not accurate to look at TRAIN’s impact solely from the tax side without reference to expected increase in public expenditures for education and health, which are very progressive; and

4. The higher infrastructure spending will likewise have a positive impact on the country’s medium to long term growth path and will lift the poor out of poverty.

Further, over the past long years of significant economic reforms which achieved fiscal consolidation, the restructuring of the central bank, and the creation of an independent central monetary authority, foreign exchange liberalization, and flexible exchange rates, the Philippines today benefits from a monetary policy framework that gives monetary authorities effective tools to pursue inflation targeting to ensure that inflation and inflation expectations are properly anchored.

The Bangko Sentral ng Pilipinas (BSP) has the instruments to anticipate any possible build-up of inflationary pressures from TRAIN beyond what is warranted from current inter-industry structure of the economy.”

Speaking before the Management Association of the Philippines (MAP), BSP Governor Nestor A. Espenilla, Jr., reinforced this message. Correcting the misimpression of some market players that the reduction in the reserve requirements represented an untimely easing in monetary policy, he stressed that the BSP is just executing an operational adjustment, part of phased reduction in our ultra-high reserve requirements with ensuing liquidity to be replaced by open market operations, with neutral effect on monetary policy.

Moreover, he reassured that the inflation impact of TRAIN is expected to be transitory, and that government has enough tools to properly anchor inflationary expectations. I made the observation as the forum moderator that liberalization of the rice trade can do much to lower rice prices, and lessen price volatility induced by government’s monopoly, an advocacy of the FEF. He said that the BSP strongly supports this reform effort.

Moving now to TRAIN 2, allow me to excerpt from a forthcoming letter to the Secretary of Finance from the leadership of MAP.

“The Management Association of the Philippines (MAP) respectfully submits this expression of support for the government’s TRAIN 2 program.

“We agree with the Department of Finance that TRAIN 2, as a package, will help the country become more competitive with the rest of the world by lowering the corporate income taxes from the current 30%, the highest among our ASEAN peers.

“We agree with the need to rationalize and modernize the tax incentive system to make incentives time-bound, performance based, and not excessively complex with far too many different, even overlapping laws, rules, and regulations.

“It is necessary to widen the tax base and enforce better compliance. The relaxation of our bank secrecy laws, coupled with proper safeguards against abuse, is an essential tool in doing that. It will also encourage more to avail of a general tax amnesty, which we support.

“We think that lowering the optional standard deduction (OSD) of 40% to 20% will only make taxpayers revert to the itemized deduction and to avoid paying correct taxes. The 40% should be retained.

“We believe it is important to commit to a definite timeline for the reduction of income tax rates to have predictability that can help decision making on investments and business plans. But we suggest starting in 2019 rather than 2020. Our ASEAN neighbors are contemplating even further reductions in their income tax rates — making this an important step. And, raising the need to go beyond 25% to 20%, even 15% as soon as it can be afforded.”

Romeo L. Bernardo is a Fellow of the Foundation for Economic Freedom and a Governor of the Management Association of the Philippines. He was Finance Undersecretary during the Corazon Aquino and Fidel Ramos administrations.

Wishes for the economy in 2018

Business World Introspective

By Romeo L. Bernardo

January 8, 2018

Happy New Year, dear readers!

We start 2018 on a positive note: My wishes for the economy in January 2017 were largely realized. (To read my wishes last year, please visit http://bit.ly/2017wishes).

1 Passage of Package 1 of TRAIN. Check, after a hard slog.

2 Appointment of a qualified, credible governor for the Bangko Sentral ng Pilipinas, preferably an insider. Check, and with an excellent outcome.

3 Efforts to change the Constitution and shift to federalism would be pursued responsibly, giving time for deeper study, informed debates, and awareness activities. The third, however, is a work in progress. Hopefully, future efforts to pursue extra-constitutionally (via a “revolutionary government” initiative or similar railroad variations) have been shelved for good. (See FEF Press Statement on Talks for a Revolutionary Government: http://bit.ly/FEFRev)
Allow me now to share our wishes for 2018, as posted on Global Source Partners, a subscriber-based network of independent analysts (globalsourcepartners.com). My colleague Christine Tang and I are its Philippine advisors.

Here are my three wishes for the economy in 2018:

1. MUCH MORE ACTIVITY UNDER BUILD-BUILD-BUILD.

The government’s massive P8.1- trillion medium-term infrastructure program has been likened to a battleship that will be hard to stop once it has gathered momentum. The passage of the Tax Reform for Acceleration and Inclusion (TRAIN) Act puts some P80 to P90 billion in new money in the hands of government in 2018 that people expect will largely be used for upgrading and expanding the country’s networks of water, power, road, rail and air/seaports. Government is targeting to increase its investments in infrastructure from 5.4% in 2017 to 7.3% of GDP by 2022, to help ease supply bottlenecks and allow the economy to scale a higher growth path.

However, despite assurances from the Department of Budget and Management of improving disbursement rates overall, the 50% disbursement ratio as of November 2017 of the Department of Transportation leaves much room for improvement.

2. PASSAGE OF PACKAGE 2 OF THE DUTERTE ADMINISTRATION’S COMPREHENSIVE TAX REFORM PROGRAM.

Package 2 seeks to lower the corporate income tax rate (CIT), currently at 30% and higher than the statutory tax rates in most ASEAN economies. To compensate for expected revenue losses, the Finance Department wants to remove a plethora of fiscal incentives that costs government about 1% of GDP annually. The plan is to calibrate CIT cuts so that revenue losses will be roughly offset by revenue gains from removing fiscal incentives. While Package 2 will not be a revenue measure, it is expected to (a) make the economy more competitive and attractive to foreign investments with a lower CIT and (b) widen the tax base with fewer activities given tax incentives.


3. MODERATE INFLATION PRESSURES THAT WILL GIVE THE BSP MORE FREEDOM TO MANAGE DOMESTIC AND EXTERNAL RISKS.


This includes tightening global financial conditions expected to accompany a wider current account deficit. Local prices are expected to rise in 2018 due to higher consumption taxes from the TRAIN Act, adding roughly one percentage point to the headline rate per BSP estimate. One policy response to tame inflation that local economists have long pushed for is freer importation of rice, which account for close to 9% of the CPI basket. Local rice prices have remained elevated in recent years despite softer world prices, an oddity tied to the fact that rice imports are subject to quantitative restrictions (QR). While removing the QR would require a change in law, experts think that with enough political will, government can administratively ease up on imports, e.g., by setting a high, non-binding import volume, and improving the handling of import permits.

Given that wishes are free, I would add two more:

4. FAVORABLE RESOLUTION OF DISPUTES ARISING FROM FAILURES OF THE LAST ADMINISTRATION TO COMPLY WITH LONG-STANDING PPP OBLIGATIONS.

These include:

a) the arbitrary interpretation of MWSS concession agreements with Manila Water and Maynilad. We need to restore a working two-decade old concession model that was broken by the last administration.

b) non-adjustment of toll road tariffs of NLEX, Cavitex, and Star Tollways, and

c) the contractual tax issue with the Malampaya consortium.
If these fester much longer in one venue or another, the current administration’s no-nonsense image will suffer, dampening private investments in needed public goods and services, not to mention wasting public funds to pay for costly international litigation.

5. IMMEDIATE IMPLEMENTATION OF A COMPREHENSIVE PROGRAM TO REHABILITATE MARAWI CITY.

The plan will incorporate the cultural aspects important to the Maranaos such as preservation of heritage and Islamic sites. While reconstruction of infrastructure is critical, such a program should prioritize the provision of services to allow over 200,000 refugees to return to normal life such as education, particularly literacy for the adults and technical training for livelihood and employment as well as loans and capital infusion for the business sector.

Marawi City has become a fertile ground for violent extremism, a justification used for Martial law extension.

Addressing the needs of the population, majority of whom have been displaced for over six months and brought to new lows of poverty, is critical if government is to prevent the spread of extremist sentiment. Business progress in Mindanao and the nation requires peace and stability. Armed conflict is the major roadblock on the road to development. To remove this barrier, not only is the rehabilitation of Marawi essential but the passage of the long-awaited Bangsamoro Basic Law as well.

Devoting government resources and political capital to address this political problem soonest to preserve our economic momentum is non-elective. In contrast, headline news for a change in government to one version or another seems like needless distractions from the economic managers’ agenda of improving our people’s lives.

Finally, allow me to echo a New Year’s toast from Benjamin Franklin. “Be at war with your vice, at peace with your neighbors, and let every new year find you a better man.”


Romeo L. Bernardo is a board director of the Institute for Development and Econometric Analysis. He was undersecretary of Finance during the Corazon Aquino and Fidel Ramos administrations.