Philippines: The Philippine Conundrum


Hal Hill

What ails the Philippines? Why does this country, with so much talent among its almost 90 million people, and which had such a promising beginning at Independence almost 60 years ago, run into trouble so frequently?

Its per capita income was once ahead of almost all of East Asia, but is now among the lowest. The term 'cronyism', an art perfected under the 20-year rule of Ferdinand Marcos, originated there. It has replaced Thailand as the country where the possibility of military coups is a regular at dinner party conversations. Its public debt problems are daunting. In the lawless South-west, the long-running insurgency continues unabated.

The administration of President Arroyo, which came to power in controversial circumstances in 2001, promising so much, is now preoccupied with surviving the so-called 'Hello Garci' affair (in which the president is alleged to have interfered with the count during last year's presidential election).

The country's fiscal situation is very serious. About 40 per cent of revenue goes on interest payments, and a further 30 per cent on salaries. The government has very little room to move, and key public services remain chronically under-funded. With its anaemic revenue effort, the government has become highly expert at continually compressing expenditure, but at the cost of long-term development needs.

For example, the country spends about half the East Asian average (as a percentage of GDP) on infrastructure. Political uncertainty also deters potential private sector providers. Public servants have not had a pay rise for several years, resulting in a further erosion of their already meagre compensation. Not surprisingly, the country's well-qualified public sector nurses, academics and teachers are increasingly looking abroad.

Moreover, even these precarious fiscal equations conceal additional vulnerabilities. The country would be hit hard by significant increases in global interest rates, or a loss of confidence in the peso (the latter since about half the public debt is dollar-denominated). And the country has had a worrying tradition of contingent liabilities - unfunded public sector obligations - being revealed at times of fiscal stress.

And yet there is much that is positive about the country. Its academic community is still arguably the best in Southeast Asia outside Singapore. Its civil society is noisy, but at its best world class. It has some excellent think tanks. Its press is free and very good in parts. For all the imperfections, democracy is deep-rooted and it more or less works.

Moreover, the economy is holding up quite well under the political strains. It has recorded positive growth almost continuously for the past 12 years, and is currently growing at around 5.3 per cent, comparable to the ex-China East Asian average. Remittances from the eight million or so Filipinos abroad are now estimated to be running at about US$15 billion per year, equivalent to almost half the country's merchandise exports.

The floating exchange rate regime, adopted in the wake of the Asian economic crisis, is working well. It helps discipline political excess and, as the peso slides in response to political tensions, it boosts competitiveness.

The country has now run a current account surplus for seven consecutive years, which is unprecedented in Philippine history. It reflects a combination of success and failure: moderate growth, strong remittances and a reluctance in international capital markets to lend to the Philippines. The result is that the country is unlikely to experience a balance of payments crisis for the foreseeable future, unless there is a serious fiscal cum political crisis.

Congress has finally agreed to pass some major tax reforms, which will avert the fiscal crisis, at least for the next couple of years. It seems likely that a major constitutional change will make economic policy a good deal easier. The mining sector, essentially shut down for the past two decades by NGO activists, has a new lease of life.

There are in reality two economies. One, where Filipino talent is able to demonstrate its skills at home, and increasingly abroad, is thriving. The other, where this talent is stifled by patronage politics and a demoralized bureaucracy, is under-performing. In the former 'enclaves of success', able to operate independently of government interference, or requiring little by way of complementary public facilities, the Philippines is highly competitive. Examples include manufacturing in export processing zones, and a wide array of service activities in areas as diverse as IT, call centres and medical support.

Where to from here? Strong and durable economic development will require at least the following:

First, a resolution of the fiscal crisis, through a substantial increase in government revenue. That is: a Congress willing to assume its responsibilities and pass crucial fiscal measures; major reform of the tax code (eg, the country has one of the highest corporate tax rates in East Asia but one of the lowest collection rates); and inculcating a culture of tax compliance and honest collection.

Second, given the complexity and fluidity of Philippine politics, measures which insulate the business world from political machinations - the much discussed 'firewall' between economics and politics - are needed. For example, the independent central bank provisions are generally working well. The decentralization arrangements introduced in 1992 are beginning to encourage competition among local governments. In addition to the fiscal measures, much more is needed, especially in regulatory reform.

Third, the debilitating conflicts in Mindanao, and elsewhere, need to be resolved. The recently released Philippine Human Development Report documents the terrible social impacts of the conflict, especially in the localities known as the Autonomous Region of Muslim Mindanao.

Fourth, the military needs to be kept in the barracks. The longer the conflict in Mindanao continues, the longer the military is woefully under-funded, and the longer the current political impasse persists (and with it, superficially, the pretext for intervention, to 'restore order'), the less likely it is that restless and ambitious sections of the military can be restrained.

This is not an impossibly ambitious agenda. The presidency of Fidel Ramos, from 1992 to 1998, delivered on much of it, and the country prospered as a result.

WATCHPOINT: Current political uncertainties will not make implementation of a reform agenda any easier.


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