Tuesday, June 26, 2007
The impossible trinity
MAP INSIGHTS
Business World
Over the past several months, the market has been following closely the policy pronouncements of the Bangko Sentral ng Pilipinas (BSP), in search of clues to where monetary and exchange rate policy is heading. The BSP has been forthright in expressing its concern over recent surges in capital flows that led to the strengthening of the peso (over 12% appreciation from end-May 2006 to end-May 2007) and the high growth in money supply (26% M3 growth as of April 2007).
Complicating matters, however, is that on top of inflation and the country's export competitiveness, the BSP is also worried about the continued weakness in lending activity, despite massive liquidity in the banking system.
Given multiple policy objectives, the BSP has been putting forward more and more innovative policy tools. For instance, to encourage bank lending, it introduced a tiering scheme on its policy rates in November 2006 such that higher levels of deposits with the BSP earn less interest. On the other hand, rather than removing interest rate tiering in the face of continued high growth in domestic liquidity, it opted, in early May this year, to expand its open market operations to trust entities, allowing these to deposit funds with the BSP using the same interest tiering structure. Most recently, the papers reported that it is toying with the idea of introducing a gold-backed investment instrument, using some of the foreign exchange inflows to import gold.
The BSP's policy dilemma reminds me of an article by the economist Paul Krugman that I read a long time ago. As I recall, he explained the problem using a triangle where each vertex represents policy objectives that are desirable, i.e, monetary policy independence, currency stability, and capital mobility. Each side of the triangle, corresponding to a specific policy regime, is however consistent with only two of the objectives, such that a country's economic managers would have no choice but to give up on one of the objectives.
To illustrate, the side linking policy independence and currency stability (i.e., a fixed exchange rate regime) is not consistent with capital mobility. As the 1997 Asian crisis showed, by practically fixing the exchange rate while allowing free flow of capital, the Philippines and the other crisis-hit countries became vulnerable to severe speculative attacks as soon as markets suspected that the policy regime was not sustainable without an adjustment in the exchange rate.
The side linking currency stability and capital mobility may characterize a Hong Kong-like currency board regime, or a currency union similar to that in Europe, or a return to the gold standard. Countries adopting these policy regimes do not have the flexibility to use monetary policy for stimulating or reining in growth and thus are susceptible to volatile swings in their business cycles.
Finally, the side linking policy independence and capital mobility represents a floating exchange rate regime, which is what the BSP has gradually warmed up to after the Asian crisis. As its recent actions showed, it has been using monetary policy to influence lending activity and thus economic growth. It has repeatedly shunned capital controls similar to what Malaysia did during the Asian crisis and what Thailand recently tried to do, albeit less successfully. In return, it has opted to accept the reality of a more volatile currency.
I think our financial and monetary authorities are doing a deft act of juggling, using various tools, to try to meet these three objectives (four if one factors in its own balance sheet concerns, which textbooks tell us should not be a primary consideration for a central bank) in the face of new unexpected inflows, especially "hot money." They intervene surgically to even out sharp peso appreciations, retire foreign debt with domestic debt to create demand for dollars, and ease up on outward remittance restrictions.
The good thing is that a large part of today's capital flows come from OFW remittances. Unlike hot money, these are not volatile and indeed are likely to be sustainable, considering that (a) "event risk" is minimized given the diversity in terms of type of workers and geographical distribution; (b) higher wages abroad will continue to attract Filipinos to work overseas; and (c) the aging population of industrialized countries provides the potential for a relatively younger Philippine population to fill labor gaps. Thus, we see the BSP allowing peso appreciation to reflect this reality.
The article reflects the personal opinion of the author and does not reflect the official stand of the Management Association of the Philippines. The author is director of Lazaro Bernardo Tiu & Associates and Advisor of Global Source, an international network of independent analysts (www.globalsourcepartners.com).
The impossible trinity
MAP INSIGHTS
Business World
Over the past several months, the market has been following closely the policy pronouncements of the Bangko Sentral ng Pilipinas (BSP), in search of clues to where monetary and exchange rate policy is heading. The BSP has been forthright in expressing its concern over recent surges in capital flows that led to the strengthening of the peso (over 12% appreciation from end-May 2006 to end-May 2007) and the high growth in money supply (26% M3 growth as of April 2007).
Complicating matters, however, is that on top of inflation and the country's export competitiveness, the BSP is also worried about the continued weakness in lending activity, despite massive liquidity in the banking system.
Given multiple policy objectives, the BSP has been putting forward more and more innovative policy tools. For instance, to encourage bank lending, it introduced a tiering scheme on its policy rates in November 2006 such that higher levels of deposits with the BSP earn less interest. On the other hand, rather than removing interest rate tiering in the face of continued high growth in domestic liquidity, it opted, in early May this year, to expand its open market operations to trust entities, allowing these to deposit funds with the BSP using the same interest tiering structure. Most recently, the papers reported that it is toying with the idea of introducing a gold-backed investment instrument, using some of the foreign exchange inflows to import gold.
The BSP's policy dilemma reminds me of an article by the economist Paul Krugman that I read a long time ago. As I recall, he explained the problem using a triangle where each vertex represents policy objectives that are desirable, i.e, monetary policy independence, currency stability, and capital mobility. Each side of the triangle, corresponding to a specific policy regime, is however consistent with only two of the objectives, such that a country's economic managers would have no choice but to give up on one of the objectives.
To illustrate, the side linking policy independence and currency stability (i.e., a fixed exchange rate regime) is not consistent with capital mobility. As the 1997 Asian crisis showed, by practically fixing the exchange rate while allowing free flow of capital, the Philippines and the other crisis-hit countries became vulnerable to severe speculative attacks as soon as markets suspected that the policy regime was not sustainable without an adjustment in the exchange rate.
The side linking currency stability and capital mobility may characterize a Hong Kong-like currency board regime, or a currency union similar to that in Europe, or a return to the gold standard. Countries adopting these policy regimes do not have the flexibility to use monetary policy for stimulating or reining in growth and thus are susceptible to volatile swings in their business cycles.
Finally, the side linking policy independence and capital mobility represents a floating exchange rate regime, which is what the BSP has gradually warmed up to after the Asian crisis. As its recent actions showed, it has been using monetary policy to influence lending activity and thus economic growth. It has repeatedly shunned capital controls similar to what Malaysia did during the Asian crisis and what Thailand recently tried to do, albeit less successfully. In return, it has opted to accept the reality of a more volatile currency.
I think our financial and monetary authorities are doing a deft act of juggling, using various tools, to try to meet these three objectives (four if one factors in its own balance sheet concerns, which textbooks tell us should not be a primary consideration for a central bank) in the face of new unexpected inflows, especially "hot money." They intervene surgically to even out sharp peso appreciations, retire foreign debt with domestic debt to create demand for dollars, and ease up on outward remittance restrictions.
The good thing is that a large part of today's capital flows come from OFW remittances. Unlike hot money, these are not volatile and indeed are likely to be sustainable, considering that (a) "event risk" is minimized given the diversity in terms of type of workers and geographical distribution; (b) higher wages abroad will continue to attract Filipinos to work overseas; and (c) the aging population of industrialized countries provides the potential for a relatively younger Philippine population to fill labor gaps. Thus, we see the BSP allowing peso appreciation to reflect this reality.
The article reflects the personal opinion of the author and does not reflect the official stand of the Management Association of the Philippines. The author is director of Lazaro Bernardo Tiu & Associates and Advisor of Global Source, an international network of independent analysts (www.globalsourcepartners.com).
Tuesday, May 8, 2007
Political economy of reform
THE FINANCIAL EXECUTIVE
Business World
What elements make economic reform, especially difficult ones that involve overcoming vested interests and imposing short-term pain, possible? What is the role of leadership that is well intentioned and acting in the interest of the people? How does leadership sustain the political and social commitment to the growth process? We struggled with these and many other questions in a recent World Bank workshop in D.C., chaired by Nobel laureate and Professor Emeritus at Stanford University Michael Spence.
The workshop brought together economists and practitioners from 20 countries in Asia, Latin America, Africa, and Europe to compare notes on ongoing case studies that attempt to surface lessons from reform experiences under a wide variety of settings - historic, geographical, social, political. This is part of a broader exercise of the 21-member Commission on Growth and Development, likewise chaired by Professor Spence.
My colleague at Lazaro Bernardo Tiu & Associates, Christine Tang, and I were tasked to write and talk about the reform experience during the Ramos years, focusing on successful reform initiatives that had an important impact on Philippine growth performance.
While the reform agenda during the Ramos presidency covered much ground, including such diverse areas as investment promotion, trade liberalization, privatization, fiscal consolidation, environmental protection, and a social agenda, we chose to focus on three discrete reform efforts which were started and completed during the Ramos presidency, and which had a clear measurable impact (benefiting the country to this day). The areas that we thought illustrate well the political economy of reform and the role of leadership are:
a) Telecommunications reform. At that time, Singapore Prime Minister Lee Kuan Yew (and others) reportedly observed that "the Philippines is a country where 98% of the residents are waiting for a telephone line and the other 2% are waiting for a dial tone." Recognizing how this sad situation impeded development, the Ramos administration moved swiftly to opened up the sector to new investors such that now, with the wide use of cellular mobile phones, there is one telephone for every two Filipinos. One of the fastest growing industries in the country - business process outsourcing - would have been completely unimaginable if this reform were not done. It has also allowed "connectivity" among Filipinos everywhere, especially the more than eight million overseas Filipino that are supporting their families-and the country.
b) Oil deregulation. Prior to the reform, deficits in the Oil Price Stabilization Fund (OPSF) were a recurring problem, contributing to fiscal risk and social tensions (whenever government raised domestic pump prices). By deregulating the oil industry, and allowing new entrants and imports to come in, the Ramos administration helped insulate the vulnerable fiscal sector from the vagaries of oil prices, especially the unprecedented escalation in the last several years. Faced with the recent oil price run-up, other countries that have failed to deregulate earlier on were forced, by price pressures, to do so, not surprisingly accompanied by political disturbances.
c) Water privatization. From a water crisis situation where many households were not getting enough or continuous water supply, and many poor households were completely unconnected, the privatization of MWSS distribution (the largest water privatization in the world) has increased water coverage from 67 % of the population to 85% ( reaching outlying poorer communities) , cut non-revenue water (in the east zone) from 61% to 35% and increased average water availability from only 17 hours to 21 hours, while halting the drain of providing for this sector from the budget.
It will take much space to describe how these were done in record time by what started out as a minority presidency. Clearly though, elements of political will, vision, communication and constituency building, and astute timing to take advantage of opportunities, came into play.
Since President Ramos, continuing political turbulence has discouraged the emergence of such vision and the persistence and consistency in the pursuit of economic reforms (save for the expanded VAT, a response to a largely self-created fiscal crisis). We can only hope that as the leadership gains confidence after a credible May election, it will devote its energies, no longer to just political survival, but to leaving a lasting legacy that will drive the country's economic performance in the next decade.
In a situation where a third of the country is in absolute poverty, where job-creating domestic and foreign investments are not happening, and where hundreds of thousands are leaving the country every year in search of a better life, muddling through - made possible by workers remittances - is an unacceptable default option.
Business World
What elements make economic reform, especially difficult ones that involve overcoming vested interests and imposing short-term pain, possible? What is the role of leadership that is well intentioned and acting in the interest of the people? How does leadership sustain the political and social commitment to the growth process? We struggled with these and many other questions in a recent World Bank workshop in D.C., chaired by Nobel laureate and Professor Emeritus at Stanford University Michael Spence.
The workshop brought together economists and practitioners from 20 countries in Asia, Latin America, Africa, and Europe to compare notes on ongoing case studies that attempt to surface lessons from reform experiences under a wide variety of settings - historic, geographical, social, political. This is part of a broader exercise of the 21-member Commission on Growth and Development, likewise chaired by Professor Spence.
My colleague at Lazaro Bernardo Tiu & Associates, Christine Tang, and I were tasked to write and talk about the reform experience during the Ramos years, focusing on successful reform initiatives that had an important impact on Philippine growth performance.
While the reform agenda during the Ramos presidency covered much ground, including such diverse areas as investment promotion, trade liberalization, privatization, fiscal consolidation, environmental protection, and a social agenda, we chose to focus on three discrete reform efforts which were started and completed during the Ramos presidency, and which had a clear measurable impact (benefiting the country to this day). The areas that we thought illustrate well the political economy of reform and the role of leadership are:
a) Telecommunications reform. At that time, Singapore Prime Minister Lee Kuan Yew (and others) reportedly observed that "the Philippines is a country where 98% of the residents are waiting for a telephone line and the other 2% are waiting for a dial tone." Recognizing how this sad situation impeded development, the Ramos administration moved swiftly to opened up the sector to new investors such that now, with the wide use of cellular mobile phones, there is one telephone for every two Filipinos. One of the fastest growing industries in the country - business process outsourcing - would have been completely unimaginable if this reform were not done. It has also allowed "connectivity" among Filipinos everywhere, especially the more than eight million overseas Filipino that are supporting their families-and the country.
b) Oil deregulation. Prior to the reform, deficits in the Oil Price Stabilization Fund (OPSF) were a recurring problem, contributing to fiscal risk and social tensions (whenever government raised domestic pump prices). By deregulating the oil industry, and allowing new entrants and imports to come in, the Ramos administration helped insulate the vulnerable fiscal sector from the vagaries of oil prices, especially the unprecedented escalation in the last several years. Faced with the recent oil price run-up, other countries that have failed to deregulate earlier on were forced, by price pressures, to do so, not surprisingly accompanied by political disturbances.
c) Water privatization. From a water crisis situation where many households were not getting enough or continuous water supply, and many poor households were completely unconnected, the privatization of MWSS distribution (the largest water privatization in the world) has increased water coverage from 67 % of the population to 85% ( reaching outlying poorer communities) , cut non-revenue water (in the east zone) from 61% to 35% and increased average water availability from only 17 hours to 21 hours, while halting the drain of providing for this sector from the budget.
It will take much space to describe how these were done in record time by what started out as a minority presidency. Clearly though, elements of political will, vision, communication and constituency building, and astute timing to take advantage of opportunities, came into play.
Since President Ramos, continuing political turbulence has discouraged the emergence of such vision and the persistence and consistency in the pursuit of economic reforms (save for the expanded VAT, a response to a largely self-created fiscal crisis). We can only hope that as the leadership gains confidence after a credible May election, it will devote its energies, no longer to just political survival, but to leaving a lasting legacy that will drive the country's economic performance in the next decade.
In a situation where a third of the country is in absolute poverty, where job-creating domestic and foreign investments are not happening, and where hundreds of thousands are leaving the country every year in search of a better life, muddling through - made possible by workers remittances - is an unacceptable default option.
Tuesday, March 6, 2007
PERA - here at last
FINANCIAL EXECUTIVE
Business World
After nine long years in the making, the Personal Equity Retirement Account bill or PERA finally sees the light of day. The Capital Market Development Council, more specifically its private-sector member organizations, have long cited the benefits of PERA - tax exempt "savings for retirement" scheme patterned after similar successful ones in many countries, including the IRA in the United States.
Individuals can contribute annually up to P50,000 to such a plan and both the contributions and its interest and dividend yield will also be tax exempt provided the individual does not withdraw it sooner than age 55.
These savings schemes will be portable and properly supervised in a coordinated way by the BSP, SEC, Insurance Commission, PDIC and the BIR. PERA promises to encourage a higher level of savings, and a redirection of such toward longer- term instruments which can aid in improving the currency and maturity profile of public debt and increase the pool of resources available for projects with long recovery period such as infrastructure. It will also prompt the development of savings for retirement, especially needed for OFW's not now mandatorily covered by traditional government-sponsored institutions like the SSS and Pag-ibig.
For this we have to give credit to the father-and-son team of Senator Edgardo J. Angara, as principal architect and chair of the Senate Committee on Banks, Financial Institutions & Currencies, and Congressman Juan Edgardo M. Angara. Other senators who supported this measure are Senators Osmena, Recto, Magsaysay, Roxas and Senate President Villar. In the House of Representatives, we also have to thank Congressmen Exequiel B. Javier, Jaime C. Lopez and Herminio G. Teves.
Credit Information System Act (CISA)
Meanwhile, pending before both houses of Congress is a proposal to establish a Credit Information System which lays the basis for the collection, maintenance and distribution of credit information as well as the establishment of a Central Credit Information Corporation. The policy objectives of the bill are: (1) to establish a comprehensive and centralized credit information system in order to improve the overall availability of credit particularly to small borrowers; (2) to lower the cost of credit to responsible borrowers; and (3) to reduce excessive dependence on collateral to secure credit facilities. Underlying these objectives is the principle that the backbone of an efficiently functioning credit market rests on a reliable and accurate credit information base.
The Central Credit Information Corporation will be established as a corporate entity under the Corporation Code, with Bangko Sentral ng Pilipinas (BSP) owning up to 40% of the corporation and the rest to be held by credit-industry-related associations. The corporation will get its information from compulsory submitting entities, such as banks, their affiliates and subsidiaries as well as other credit providers that will be identified by the MB. Under the principle of reciprocity, this credit information database may be tapped or accessed by those who submitted the information - i.e., banks, their affiliates and subsidiaries. On the other hand, Special Accessing Entities like private credit bureaus and private credit rating agencies can access the database with the conformity of the borrower, and provide value-added service to their subscribers.
Borrowers are likewise allowed access to their credit information from the corporation, the Submitting Entities and Special Accessing Entities, so that they could verify the accuracy of their information. Other entities can access information from the system only upon prior consent of the borrower.
There are different models of credit information registries in other countries. Both public and private registries can be found in developed and emerging market economies. Both models rely on reciprocity or mutual information exchange, whereby the supplier of information has access to the rest of the database available in the credit bureau. It is expected that the extensive use of credit information and credit ratings will create interest in the local capital markets, e.g., for corporate bonds, as institutional investors rely on credit ratings in making investment decisions.
But more than this, small borrowers with good credit record but have no properties to put up as collaterals for their bank loans, can borrow from banks on the basis of their sound credit record. The establishment of such a system promises to do more for SMEs where the binding constraint for lending is not money but information than all of the sometimes expensive publicly funded programs for lending to SME's.
We earnestly hope that our legislators will move this vital piece of legislation during the precious few days of the resumed 14th Congress in June.
Business World
After nine long years in the making, the Personal Equity Retirement Account bill or PERA finally sees the light of day. The Capital Market Development Council, more specifically its private-sector member organizations, have long cited the benefits of PERA - tax exempt "savings for retirement" scheme patterned after similar successful ones in many countries, including the IRA in the United States.
Individuals can contribute annually up to P50,000 to such a plan and both the contributions and its interest and dividend yield will also be tax exempt provided the individual does not withdraw it sooner than age 55.
These savings schemes will be portable and properly supervised in a coordinated way by the BSP, SEC, Insurance Commission, PDIC and the BIR. PERA promises to encourage a higher level of savings, and a redirection of such toward longer- term instruments which can aid in improving the currency and maturity profile of public debt and increase the pool of resources available for projects with long recovery period such as infrastructure. It will also prompt the development of savings for retirement, especially needed for OFW's not now mandatorily covered by traditional government-sponsored institutions like the SSS and Pag-ibig.
For this we have to give credit to the father-and-son team of Senator Edgardo J. Angara, as principal architect and chair of the Senate Committee on Banks, Financial Institutions & Currencies, and Congressman Juan Edgardo M. Angara. Other senators who supported this measure are Senators Osmena, Recto, Magsaysay, Roxas and Senate President Villar. In the House of Representatives, we also have to thank Congressmen Exequiel B. Javier, Jaime C. Lopez and Herminio G. Teves.
Credit Information System Act (CISA)
Meanwhile, pending before both houses of Congress is a proposal to establish a Credit Information System which lays the basis for the collection, maintenance and distribution of credit information as well as the establishment of a Central Credit Information Corporation. The policy objectives of the bill are: (1) to establish a comprehensive and centralized credit information system in order to improve the overall availability of credit particularly to small borrowers; (2) to lower the cost of credit to responsible borrowers; and (3) to reduce excessive dependence on collateral to secure credit facilities. Underlying these objectives is the principle that the backbone of an efficiently functioning credit market rests on a reliable and accurate credit information base.
The Central Credit Information Corporation will be established as a corporate entity under the Corporation Code, with Bangko Sentral ng Pilipinas (BSP) owning up to 40% of the corporation and the rest to be held by credit-industry-related associations. The corporation will get its information from compulsory submitting entities, such as banks, their affiliates and subsidiaries as well as other credit providers that will be identified by the MB. Under the principle of reciprocity, this credit information database may be tapped or accessed by those who submitted the information - i.e., banks, their affiliates and subsidiaries. On the other hand, Special Accessing Entities like private credit bureaus and private credit rating agencies can access the database with the conformity of the borrower, and provide value-added service to their subscribers.
Borrowers are likewise allowed access to their credit information from the corporation, the Submitting Entities and Special Accessing Entities, so that they could verify the accuracy of their information. Other entities can access information from the system only upon prior consent of the borrower.
There are different models of credit information registries in other countries. Both public and private registries can be found in developed and emerging market economies. Both models rely on reciprocity or mutual information exchange, whereby the supplier of information has access to the rest of the database available in the credit bureau. It is expected that the extensive use of credit information and credit ratings will create interest in the local capital markets, e.g., for corporate bonds, as institutional investors rely on credit ratings in making investment decisions.
But more than this, small borrowers with good credit record but have no properties to put up as collaterals for their bank loans, can borrow from banks on the basis of their sound credit record. The establishment of such a system promises to do more for SMEs where the binding constraint for lending is not money but information than all of the sometimes expensive publicly funded programs for lending to SME's.
We earnestly hope that our legislators will move this vital piece of legislation during the precious few days of the resumed 14th Congress in June.
Tuesday, January 9, 2007
Despite politics
THE FINANCIAL EXECUTIVE
Business World
Macroeconomic trends over the past several months leave much to look forward to - the domestic economy has continued to grow despite the political turbulence in the early part of the year, financial markets, supported by strong capital inflows, have behaved positively, inflation rates have eased, and most importantly, the government has delivered on its promise to raise revenues and reduce its budget deficit, earning last month a stable outlook report from Moody's.
On the average, analysts predict economic growth of 4.9-5.8% in 2007. Household consumption, backed by remittances and aided by election spending, is expected to continue to underpin growth. Exports are expected to continue growing, albeit tempered by expected slower growth in advanced economies. Some election-related public infrastructure spending may also be expected. Policy-wise, the risk of going off course with respect to government's fiscal consolidation program is small as long as professional economic managers stay in charge, while monetary policy can be more flexible with the inflation rate prospectively sliding down to the 4-5% target, barring further supply shocks.
The challenge for 2007 is to transform reviving confidence into real investments, starting with sectors that have, for a while now, been expected to jump-start a fresh wave of capital accumulation - power, mining, build-operate-transfer infrastructure projects. Perhaps a demonstration of resolve to remove obstacles to doing business is required to attract the critical mass of investments needed to sustain higher growth and create jobs for the growing labor force. These obstacles are well documented in numerous studies, including those of the World Bank, and principally include, aside from macroeconomic instability, issues related to governance, i.e., corruption, voice and accountability, rule of law, as well as poor infrastructure services.
To help the course of restoring confidence eroded over the years, we can do with more examples of well- articulated and transparently executed policies and projects like the highly credible Maynilad bidding (reverting to original design of water distribution being in private sector hands) and the successful PNOC-EDC initial public offering. The opening of the NAIA Terminal 3 facility early in the year and progress in government's power privatization program can have a high immediate impact.
The positive trends notwithstanding, 2007 is an election year and the first six months will likely be lost to politics. Indeed, a highly likely scenario for 2007 would see the economy taking the backseat to politicking. The period through midyear would see investors sidelined, observing the turn of events from the elections. The greater risk to sustaining growth, however, is the administration abandoning sound economic policies (e.g., microfinance) or misspending hard-earned money on dubious expenditures (e.g., fertilizers) just to win votes.
We can nonetheless expect economic growth to proceed on momentum obtained from consumer spending and continuing exports (electronics, tourism and business process outsourcing services). Downside risks from the external sector include a sharper-than-expected slowdown in advanced economies (lowering export demand), a reversal of current trends in oil prices (stoking inflation), and global financial market volatility (complicating monetary and fiscal management).
Should election results convince the market of political and policy stability going forward, 2007 may see the economy back in the driver's seat. Should outstanding issues remain unsettled after the elections, however, the economy can be expected to continue muddling along over the medium term.
Being an optimist, I am confident that the economy's strong short-term fundamentals will continue to hold - despite porcine politics in the Year of the Pig.
Business World
Macroeconomic trends over the past several months leave much to look forward to - the domestic economy has continued to grow despite the political turbulence in the early part of the year, financial markets, supported by strong capital inflows, have behaved positively, inflation rates have eased, and most importantly, the government has delivered on its promise to raise revenues and reduce its budget deficit, earning last month a stable outlook report from Moody's.
On the average, analysts predict economic growth of 4.9-5.8% in 2007. Household consumption, backed by remittances and aided by election spending, is expected to continue to underpin growth. Exports are expected to continue growing, albeit tempered by expected slower growth in advanced economies. Some election-related public infrastructure spending may also be expected. Policy-wise, the risk of going off course with respect to government's fiscal consolidation program is small as long as professional economic managers stay in charge, while monetary policy can be more flexible with the inflation rate prospectively sliding down to the 4-5% target, barring further supply shocks.
The challenge for 2007 is to transform reviving confidence into real investments, starting with sectors that have, for a while now, been expected to jump-start a fresh wave of capital accumulation - power, mining, build-operate-transfer infrastructure projects. Perhaps a demonstration of resolve to remove obstacles to doing business is required to attract the critical mass of investments needed to sustain higher growth and create jobs for the growing labor force. These obstacles are well documented in numerous studies, including those of the World Bank, and principally include, aside from macroeconomic instability, issues related to governance, i.e., corruption, voice and accountability, rule of law, as well as poor infrastructure services.
To help the course of restoring confidence eroded over the years, we can do with more examples of well- articulated and transparently executed policies and projects like the highly credible Maynilad bidding (reverting to original design of water distribution being in private sector hands) and the successful PNOC-EDC initial public offering. The opening of the NAIA Terminal 3 facility early in the year and progress in government's power privatization program can have a high immediate impact.
The positive trends notwithstanding, 2007 is an election year and the first six months will likely be lost to politics. Indeed, a highly likely scenario for 2007 would see the economy taking the backseat to politicking. The period through midyear would see investors sidelined, observing the turn of events from the elections. The greater risk to sustaining growth, however, is the administration abandoning sound economic policies (e.g., microfinance) or misspending hard-earned money on dubious expenditures (e.g., fertilizers) just to win votes.
We can nonetheless expect economic growth to proceed on momentum obtained from consumer spending and continuing exports (electronics, tourism and business process outsourcing services). Downside risks from the external sector include a sharper-than-expected slowdown in advanced economies (lowering export demand), a reversal of current trends in oil prices (stoking inflation), and global financial market volatility (complicating monetary and fiscal management).
Should election results convince the market of political and policy stability going forward, 2007 may see the economy back in the driver's seat. Should outstanding issues remain unsettled after the elections, however, the economy can be expected to continue muddling along over the medium term.
Being an optimist, I am confident that the economy's strong short-term fundamentals will continue to hold - despite porcine politics in the Year of the Pig.
Tuesday, September 12, 2006
Undoing what is right
THE FINANCIAL EXECUTIVE
Business World
Should government fund and run credit programs targeted at underdeveloped sectors that have difficulty accessing credit? In 1999, after decades of failed experiments with various types and modes of directing subsidized credit to individuals or groups in the agricultural and microenterprise sectors, government, through Executive Order No. 138, finally said no and stopped its nonfinancial agencies from continuing to grant loans to target sectors.
Instead, under EO 138, government was to focus on putting in place a policy environment conducive to private sector participation through the adoption of market-oriented financial policies. Even government financial institutions were supposed to concentrate more on wholesale lending, leaving retail lending to private financial institutions.
The lessons - huge and hidden fiscal costs from subsidized interest rates, poor repayment rates given beneficiaries' dole-out mentality, high administrative costs, unsatisfactory outreach with the poor continuing to lack access to credit despite the proliferation of government credit programs, distortive impact on financial markets given subsidized interest rates offered under the programs - had finally hit home.
Or so everybody thought.
Two days before the seventh anniversary of EO 138, President Arroyo signed EO 558 repealing EO 138. The move caught everyone, including officials in the Department of Finance, by surprise. The timing was ominous. With just nine months to go before the 2007 local elections, EO 558 gave government back an off-budget, high visibility tool that can easily be used to win votes. It demonstrated once again this administration's readiness to sacrifice long-term development goals to secure its hold on power.
Indeed, there is no rationale for repealing EO 138. EO 558 certainly does not provide one and the Palace's defense - to enable government agencies to supply credit in poor areas not reached by financial institutions - has been shown time and again to be ineffective in combating poverty (better for government to focus on support and capability building services to help the poor become bankable). Thus, in one stroke of a pen, the President simply undid all the work that successive administrations since the time of President Aquino had put into the effort - the Aquino administration made it a policy to abolish direct lending by government nonfinancial agencies; the Ramos administration created the National Credit Council to rationalize all directed credit programs; the Estrada administration articulated in EO 138 government's policy on directed credit programs.
In fact, EO 138 was part of a package of measures that included the Social Reform and Poverty Alleviation Act, Agriculture and Fisheries Modernization Act, the General Banking Law of 2000 and the Barangay Micro Business Enterprise Act, to help improve the policy environment for microfinance.
And EO 138 was working, too. More and more, private financial institutions were extending credit to microentrepreneurs. In recent speeches, BSP Gov. Say Tetangco noted that from about 55 banks claiming to do microfinance before 2000, there are 193 private financial institutions, with a portfolio of P3.3 billion and an outreach of over 600,000 beneficiaries, engaged in microfinance operations today.
Thus, by repealing EO 138 and paving the way for government to reenter the financial market as direct subsidized credit providers, the President is not only risking its hard-won fiscal battle, it is telling private financial institutions to get out of the microfinance business, since after all, they are constrained by market realities and will not be able to compete with the subsidized interest rates that government charges.
However, government does not have that much money to meet the huge demand for micro-credit. Moreover, with its limited funding and poor track record in microfinance, it will likely take only a few loan cycles for its funds to dry up. Sadly, without the clear policy rules provided under EO 138, private sector players cannot be expected to jump right back in knowing that government can anytime render their business models unviable. In the end, small entrepreneurs' lack of access to credit will come back to haunt the economy.
President Arroyo needs to do what is right and withdraw EO 558.
Business World
Should government fund and run credit programs targeted at underdeveloped sectors that have difficulty accessing credit? In 1999, after decades of failed experiments with various types and modes of directing subsidized credit to individuals or groups in the agricultural and microenterprise sectors, government, through Executive Order No. 138, finally said no and stopped its nonfinancial agencies from continuing to grant loans to target sectors.
Instead, under EO 138, government was to focus on putting in place a policy environment conducive to private sector participation through the adoption of market-oriented financial policies. Even government financial institutions were supposed to concentrate more on wholesale lending, leaving retail lending to private financial institutions.
The lessons - huge and hidden fiscal costs from subsidized interest rates, poor repayment rates given beneficiaries' dole-out mentality, high administrative costs, unsatisfactory outreach with the poor continuing to lack access to credit despite the proliferation of government credit programs, distortive impact on financial markets given subsidized interest rates offered under the programs - had finally hit home.
Or so everybody thought.
Two days before the seventh anniversary of EO 138, President Arroyo signed EO 558 repealing EO 138. The move caught everyone, including officials in the Department of Finance, by surprise. The timing was ominous. With just nine months to go before the 2007 local elections, EO 558 gave government back an off-budget, high visibility tool that can easily be used to win votes. It demonstrated once again this administration's readiness to sacrifice long-term development goals to secure its hold on power.
Indeed, there is no rationale for repealing EO 138. EO 558 certainly does not provide one and the Palace's defense - to enable government agencies to supply credit in poor areas not reached by financial institutions - has been shown time and again to be ineffective in combating poverty (better for government to focus on support and capability building services to help the poor become bankable). Thus, in one stroke of a pen, the President simply undid all the work that successive administrations since the time of President Aquino had put into the effort - the Aquino administration made it a policy to abolish direct lending by government nonfinancial agencies; the Ramos administration created the National Credit Council to rationalize all directed credit programs; the Estrada administration articulated in EO 138 government's policy on directed credit programs.
In fact, EO 138 was part of a package of measures that included the Social Reform and Poverty Alleviation Act, Agriculture and Fisheries Modernization Act, the General Banking Law of 2000 and the Barangay Micro Business Enterprise Act, to help improve the policy environment for microfinance.
And EO 138 was working, too. More and more, private financial institutions were extending credit to microentrepreneurs. In recent speeches, BSP Gov. Say Tetangco noted that from about 55 banks claiming to do microfinance before 2000, there are 193 private financial institutions, with a portfolio of P3.3 billion and an outreach of over 600,000 beneficiaries, engaged in microfinance operations today.
Thus, by repealing EO 138 and paving the way for government to reenter the financial market as direct subsidized credit providers, the President is not only risking its hard-won fiscal battle, it is telling private financial institutions to get out of the microfinance business, since after all, they are constrained by market realities and will not be able to compete with the subsidized interest rates that government charges.
However, government does not have that much money to meet the huge demand for micro-credit. Moreover, with its limited funding and poor track record in microfinance, it will likely take only a few loan cycles for its funds to dry up. Sadly, without the clear policy rules provided under EO 138, private sector players cannot be expected to jump right back in knowing that government can anytime render their business models unviable. In the end, small entrepreneurs' lack of access to credit will come back to haunt the economy.
President Arroyo needs to do what is right and withdraw EO 558.
Friday, January 20, 2006
Musings on the year of the (she) dog
THE FINANCIAL EXECUTIVE
Business World
Going into the new year last year, one of the foremost concerns of analysts in business and academic circles was the prospect of a debt crisis as continued poor revenue effort constrained government's ability to rein in its rising debt ratio. While there remained a lot of hope given remittance-driven domestic economic growth, the fear then was of an event-triggered fiscal blowup, with government unable to refinance its maturing obligations and forced to default on its foreign currency-denominated debt, a large chunk of which was held by domestic banks.
2005 came and went and thanks to excellent fiscal, debt and monetary management and the passage at last of the EVAT law, there was no debt crisis; but as expected, the economy just muddled through. A welcome development was that despite the "Hello Garci" political storm and "Hyatt 10" resignations, yields on government dollar debt papers, a.k.a. RoPs, remained steady. In fact, even before the EVAT was finally implemented in November, some investment houses were giving an "overweight" recommendation on Philippine government credit.
A lot of the interest in RoPs (and other emerging market debt for that matter) was attributed to "liquidity" in global financial markets. What was not evident, however, was who these investors were. Apparently, as discussed in the latest issue of the IMF's Global Financial Stability Report and reported in a recent issue of The Economist, there has been an increase in the size and importance of institutional investors such as pension funds (according to The Economist, these institutional investors invested some $7.3 billion in emerging markets in the first half of 2005, 74% more than the comparable period in 2004).
As pointed out in the IMF report, what is significant about this development is that given these funds' long-term orientation, they are less likely to just up and leave on market noise and thus, may have a stabilizing effect on the market. Moreover, with a more sophisticated investor base able to distinguish between idiosyncratic and systemic events, there is less risk of contagion similar to the 1997 Asian crisis. This development, coupled with the earlier observation that domestic investors, who have greater appetite for Philippine risk, hold some two-fifths of Philippine government securities through the banking system, makes the prospect of an abrupt market shutdown unlikely over the short-term.
Still, there is nothing to stop these institutional investors from gradually reducing their exposure to the Philippines if economic fundamentals fail to improve materially over time and especially when compared with progress in other emerging markets.
Entering 2006, the fact that global financial markets remain liquid, or that government is expecting to improve its tax collection with EVAT, or that local financial markets appear bullish as seen in the gains in local stock and bond markets and the strengthening of the peso, should not be taken to mean that "the runway is clear and takeoff is at hand." Behind these headlines are stories of doctors turning to nursing to better provide for their families, of weak dollar demand because of declining fixed investments (due in turn to the political problems and high oil prices), of the rise in portfolio investments (encouraged by the passage of the EVAT) which, nonetheless can flow the other way any time.
In the end, all we're seeing may just be a break from the endless battles that this presidency has had to engage in and will likely continue to have to face if it is not able to get its act together and plan out steps to quickly revive investments. In this regard, well thought-out pro-poor spending - say on education, water and key infrastructure - would certainly make more sense than doling out government "savings" in food subsidies similar to the short-lived Kadiwa program in the '80s.
After all, risks to global growth remain (e.g., from oil prices, interest rate hikes) and the Philippines needs to work on strengthening its economic fundamentals to have enough cushion against any negative shocks.
The year of the dog is expected to bring good fortune. Lady Fortune, however, is known for her fickle moods.
Business World
Going into the new year last year, one of the foremost concerns of analysts in business and academic circles was the prospect of a debt crisis as continued poor revenue effort constrained government's ability to rein in its rising debt ratio. While there remained a lot of hope given remittance-driven domestic economic growth, the fear then was of an event-triggered fiscal blowup, with government unable to refinance its maturing obligations and forced to default on its foreign currency-denominated debt, a large chunk of which was held by domestic banks.
2005 came and went and thanks to excellent fiscal, debt and monetary management and the passage at last of the EVAT law, there was no debt crisis; but as expected, the economy just muddled through. A welcome development was that despite the "Hello Garci" political storm and "Hyatt 10" resignations, yields on government dollar debt papers, a.k.a. RoPs, remained steady. In fact, even before the EVAT was finally implemented in November, some investment houses were giving an "overweight" recommendation on Philippine government credit.
A lot of the interest in RoPs (and other emerging market debt for that matter) was attributed to "liquidity" in global financial markets. What was not evident, however, was who these investors were. Apparently, as discussed in the latest issue of the IMF's Global Financial Stability Report and reported in a recent issue of The Economist, there has been an increase in the size and importance of institutional investors such as pension funds (according to The Economist, these institutional investors invested some $7.3 billion in emerging markets in the first half of 2005, 74% more than the comparable period in 2004).
As pointed out in the IMF report, what is significant about this development is that given these funds' long-term orientation, they are less likely to just up and leave on market noise and thus, may have a stabilizing effect on the market. Moreover, with a more sophisticated investor base able to distinguish between idiosyncratic and systemic events, there is less risk of contagion similar to the 1997 Asian crisis. This development, coupled with the earlier observation that domestic investors, who have greater appetite for Philippine risk, hold some two-fifths of Philippine government securities through the banking system, makes the prospect of an abrupt market shutdown unlikely over the short-term.
Still, there is nothing to stop these institutional investors from gradually reducing their exposure to the Philippines if economic fundamentals fail to improve materially over time and especially when compared with progress in other emerging markets.
Entering 2006, the fact that global financial markets remain liquid, or that government is expecting to improve its tax collection with EVAT, or that local financial markets appear bullish as seen in the gains in local stock and bond markets and the strengthening of the peso, should not be taken to mean that "the runway is clear and takeoff is at hand." Behind these headlines are stories of doctors turning to nursing to better provide for their families, of weak dollar demand because of declining fixed investments (due in turn to the political problems and high oil prices), of the rise in portfolio investments (encouraged by the passage of the EVAT) which, nonetheless can flow the other way any time.
In the end, all we're seeing may just be a break from the endless battles that this presidency has had to engage in and will likely continue to have to face if it is not able to get its act together and plan out steps to quickly revive investments. In this regard, well thought-out pro-poor spending - say on education, water and key infrastructure - would certainly make more sense than doling out government "savings" in food subsidies similar to the short-lived Kadiwa program in the '80s.
After all, risks to global growth remain (e.g., from oil prices, interest rate hikes) and the Philippines needs to work on strengthening its economic fundamentals to have enough cushion against any negative shocks.
The year of the dog is expected to bring good fortune. Lady Fortune, however, is known for her fickle moods.
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