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Vol. XIII

No. 5

September-October 1995

ISSN 0115-9097

The Philippines in AFTA: Opportunities

he flow of historical events has made the question of whether the Philippines should or should not participate in the ASEAN Free Trade Area (AFTA) moot and academic. Since January 1993, the Philippines has been participating in the region’s expanded trade arising from the creation of AFTA. This is as it should be. Theory is long and experience is even longer and both indicate that participating in free trade areas yields more benefits to a country than staying out. Although there is not enough empirical material yet to allow us to judge whether Philippine participation in AFTA has been beneficial or not to the economy, one can say that AFTA’s impact on the country will be by Gonzalo M. Jurado decidedly favorable. It is further expected that the positive results of participation will overwhelm the negative consequences. Of course, the negative consequences themselves will not be unimportant. These should be anticipated. Programs to mitigate or reverse such negative effects must therefore be in place alongside measures that promote maximization of gains from the new arrangement. If the Asia-Pacific Economic Cooperation (APEC) forum carries on its program of trade and investment liberalization, then more benefits will be obtained due to the broadened arena. In that event, the boundaries of liberal economic interaction among ASEAN countries will extend to the Pacific rim. The limits of liberal economic interaction will be pushed even further if the General Agreement on Tariffs and Trade (GATT) as forged at the end of the Uruguay Round is ratified by all trading countries. Participants in regional arrangements, such as the Philippines in AFTA, will increase their benefits by trading and investing not just within the regional bloc but in other parts of the world economy as well. As a consequence, the pertinent issues that now require attention in the Philippines are: G What industries in the Philippine economy will be favored by AFTA?

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and

Challenges

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Editor's Note The ASEAN Free Trade Area (AFTA) is the first circle in the ever widening concentric circles that eventually lead to world trade liberalization. The second circle is the Asia-Pacific Economic Cooperation (APEC), a trade bloc encompassing the major economies fringing the Pacific basin. The last circle is the World Trade Organization (WTO) which seeks global trade in a spirit of free trade. Dr. Gonzalo Jurado, Senior Visiting Research Fellow at the PIDS, in his article for this DRN issue on AFTA's challenge to the Philippines, argues that the era of protectionism is gone and it is time for Filipino businessmen and entrepreneurs to stand up to the challenge of economic competition and product excellence. The globalization of trade means more foreign investments. But more investments will be made only if the available infrastructure are in place. The Local Government Code of 1991 which devolved the financing of local infrastructure projects to local governments is therefore very timely. In this regard, PIDS Research Fellow Gilberto Llanto believes that a municipal credit system should be in place to address the problem of funding. In his brief notes, he cites the current municipal credit system in the country and how it can be further improved. Finally, also in this issue, Dr. Celia Reyes, PIDS Research Fellow, provides us with a forecast of inflation rates for the coming year.

What's Inside 2 4 6 10

Some notes on a municipal credit system Living with inflation Inflation forecasts for 1996 Health care financing reforms


DEVELOPMENT RESEARCH NEWS

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he Municipal Development Fund (MDF) -administered by the Bureau of Local Government Finance of the Department of Finance -- is the channeling mechanism of foreign loans and grants to local government units (LGUs). It was established in 1984 as a revolving fund, to make it self-sustaining. Loan repayments accumulate to the MDF for relending to LGUs. The MDF has been the sole source of long term finance for LGU projects and it now faces an increase in demand for capital funds following the enactment of the Local Government Code of 1991. With the devolution of expanded powers and responsibilities to the LGUs comes an increased awareness of and demand for long term financing for many local development projects. The purpose of this note is, first, to discuss the recent developments in the MDF in the context of the flexibility in credit finance sourcing that the Local Government Code has vested on LGUs and the interest among the multilateral institutions to provide long term loans to LGUs. Its second purpose is to analyze the impact of the devolution on the design, implementation and financing of projects.

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and regulations of the Bangko Sentral ng Pilipinas. Before the 1991 Code, LGU credit finance was governed by the provisions of Presidential Decree 752 which, among others, enjoined them to borrow from government financial institutions subject to the approval of the Department of Finance. This restriction has been lifted by the 1991 Code. However, LGUs still cannot directly source their capital funds from foreign creditors. The 1991 Code

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1995

loans to the LGUs in the 1980s but their general experience in this respect was not encouraging. Recently, the Land Bank of the Philippines (LBP) and the Philippine National Bank (PNB) have announced new credit windows for LGUs. However, the funding available in these GFIs, together with the MDF funds (the lending capacity of the operating municipal credit system) is far below the large demand for capital funds at the local level.

Some Notes on a Municipal Credit System for the Philippines

The municipal development fund This is the critical hour to assess the Municipal Development Fund and its role in providing LGUs access to long term financing. The 1991 Local Government Code has opened wider opportunities for LGUs to tap private sector financing for their development projects. The LGUs can now source their capital funds not only from the government financial institutions but, more importantly, from private financial institutions without need for approval by the Department of Finance. They may also tap the capital market through bond flotation subject to rules

by Gilberto M. Llanto*

provides for a system of relending to LGUs by the President of the Philippines or his duly authorized representative. The system of relending mentioned by the 1991 Code is in operational terms done through the Municipal Development Fund. Unless the government creates another channeling mechanism, it will be the MDF which shall continue to operate as a conduit for foreign loans and grants to LGUs (under the 1991 Code, the LGUs can source foreign grants directly).

Limitations of available credit sources At present, the municipal credit system in the country is undeveloped. While the bigger LGUs have been able to borrow from government financial institutions, for the most part, the MDF remains the only source of infrastructure and other long term loans. Government financial institutions (GFIs) tried to grant

In short, the lending capacity of the MDF and other GFIs, which have expressed interest in LGU lending, is quite limited. For one, the GFIs have other competing loan programs. Moreover, even if in 1993 the MDF provided loans to 61 cities and municipalities, it still continues to face a huge demand for credit from 75 provinces, 60 cities and over 1,500 municipalities to date. The MDF’s present lending capacity would not be able to meet the requirements of these LGUs. The principal constraint is the limitation imposed by the budgetary process of the national government on the MDF’s capacity to increase its loan exposure to LGUs. Each department of the national government observes a budgetary ceiling and the MDF, which is operated through the Department of Finance, is not an exception. This *PIDS Research Fellow.


DEVELOPMENT RESEARCH NEWS

therefore constrains MDF’s capacity to lend to LGUs. Besides, the level loan proceeds generated from foreign sources under the MDF are scrutinized and ultimately decided upon by the House of Representatives and the Senate. Because of the limitation imposed by the budgetary ceiling, the national government created a new account (outside the account of any department) called the Allocation for Local Government Units (ALGU) which absorbs the capital outlay component of MDF. The personnel component remains with MDF. This approach is a convenient way to get around the budgetary ceiling on the MDF. However, it still faces the probable budget cuts wielded by Congress. Because of this, the constraint to the MDF’s lending capacity remains. In fact, for 1994, the national government submitted a budget of almost a billion pesos for ALGU but Congress appropriated only P400 million. Multilateral institutions have worked with the MDF and considered it as a viable relending facility for LGUs. The MDF, through its policy governing board, has in fact taken steps to institute market-oriented loan terms and conditions. For instance, the MDF lending rate is set at 2 percent above the weighted average interest rate on 61-90 day time deposit rate. However, there is an increasing recognition that the aforementioned budgetary constraints, including the provision in the 1991 Local Government Code on relending of foreign loans, limit the access of LGUs to long term financing and the capacity of foreign creditors to grant LGU loans. The raging question now among the multilateral institutions is the conduit arrangement for foreign loans. The challenge at the moment is how to bridge the gap between the huge demand for capital funds and the willingness of multilateral institutions to make loans to LGUs within the limitations imposed by the 1991 Code and the influence of the budgetary process on the amounts that could be appropriated for MDF.

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Private sector financing and municipal credit The role of private sector financing in the municipal credit system should also be considered. The 1991 Code intends, and in fact, encourages the LGUs to participate in the mainstream activities of the private financial market. Bond issuance, buildoperate-transfer schemes, deferred payment schemes, and credit finance from private credit markets are all sanctioned under the 1991 Code. The objective is for LGUs to tap other sources of financing whose lending size and capacity far exceed that of the MDF. These may include commercial banks, institutional investors and the general public control funds which seek the greatest alternative return. However, the present municipal credit system is devoid of a credit and financial policy framework vis-a-vis these alternative sources of loanable funds. The structure and policies of the existing municipal credit system do not seem to coincide with the overall development of the financial sector. More accurately, it is not clear how the present municipal credit system will operate vis-a-vis private commercial banks and private institutional investors. It is thus not clear how MDF will function in the private financial system. What is apparent is the dichotomy that exists between the present government-dominated municipal credit system and the larger, more extensive private financial system which has the potential of providing LGU loans. The dichotomy exists because of the lack of a coherent and consistent policy framework which defines the role of the MDF, the GFIs, the private financial institutions and the multilateral institutions vis-a-vis the LGUs. Governments have a penchant for creating institutions and credit programs to address particular concerns or target particular beneficiaries. These credit programs, credit windows and credit institutions which are usually

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1995

funded from the proceeds of foreign loans and grants, operate with concessional or, in some instances, near-market terms and conditions, side by side with private financial institutions which are nevertheless encouraged to lend to those target groups. In many instances, governments mandate loan quotas for banks to fulfill in an attempt to make them lend directly to the target groups.

A policy framework for LGU lending The LGUs represent a potential target group for both economic and political reasons. Before the government could create various governmentsponsored credit programs and other interventions in the financial market in favor of the LGUs (which could potentially undermine the very interests of the targeted groups either because of misallocation of resources or even the failure to reach the intended beneficiaries), it needs to work out the credit and financial policy framework for LGU lending consistent with the overall market-orientation thrusts of economic policy. What is needed is a thorough review and reexamination of the MDF and the nascent municipal credit system. This should take into account the role of the private financial institutions in LGU credit market, the MDF’s and the GFI’s relationship with these private sector institutions and the catalytic role of multilateral institutions. One motivation for this exercise is the cognizance of the fact that public sector resources are quite limited; they face competing demand by other equally meritorious users. Given these constraints on the national government, public sector financing of all LGU projects, either through the MDF or GFIs, is thus neither advisable nor feasible.

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Service through Research Support Philippines 2000


DEVELOPMENT RESEARCH NEWS

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he first s e v e n months of 1995 saw manageable inflation rates hovering between 5 and 6 percent. In August, however, inflation rose to 8.1 percent. In September, it soared to 11.3 percent. These rates are evidently higher than government’s inflation target of 6.5 percent for the year. What happened?

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1995

Inflation tops surveys

Living with

Surveys conducted by the Social Weather Stations reveal that Filipinos consider high prices of commodities as the country’s gravest problem. This should not come as a surprise since similar opinion polls in other countries, particularly in the US, also show that people react very sharply to inflation, ranking it as a graver problem than unemployment.

Inflation

Price shocks, a bloated money supply and inflationary expectations Economists explain inflation as a result of several factors. One , a growth in the money supply exceeding the demand for money leads to inflation. Thus, when government resolves chronic budget deficits through money creation, it impacts negatively on consumers who will have to bear the resulting increase in the prices of goods. Two , disturbances in commodity markets such as in rice affect general price levels leading to higher prices. The government, for example, explained the high inflation for August and September as a direct result of the rice shortage and the ensuing increase in rice prices. Three , inflation also arises from inflationary expectations. Hence, the proposed increase in oil prices which has been played up in the media since mid-1995 has induced traders and retailers to stock up on basic commodities thereby driving their prices up due to artificial shortages.

Inflation trends From a historical perspective, inflation was highest in the country in 1984 (47.1 percent), 1985 (23.4 percent), 1991 (18.7 percent), and 1981 (17.8 percent). The years 1984 and 1985 are associated with the Marcos govern-

ment’s crisis of political leadership. Those years saw public clamor for political change whose culmination was the 1986 people power movement. Not surprisingly, “political shocks” affected the economy, driving prices up as a result of the abnormal situation. In a sense, the Philippine economy was at the brink of joining the ranks of the banana republics in 1984 and 1985. Inflation in Latin America hovered between 25 and 30 percent in this same period. In 1986, however, something unusual happened. There was a deflation, which means that the purchasing power of the peso increased (at a minimal 0.4 percent). Perhaps one should be very thankful for not experiencing the crisis that gripped Mexico when its peso collapsed in 1994. The liquidity crisis sent stocks skidding in Latin American countries and dominoed on emerging markets worldwide. Chile meanwhile experienced inflation rates of 1,000 percent immediately after the Allende government was toppled by a military coup in 1973. Nearer at home, permanently stable prices of goods are hallmarks of the consumer markets in Singapore, Taiwan and Malaysia. Inflation rate in Singapore was an average 4.2 percent between 1973 and 1990. In Taiwan, it was 4.3 percent in 1980-1990. In Malaysia, it was 5.1 percent from 19731990. From 1973 to 1990, the Philippines saw an average 14.3 inflation rate. The figure was slightly nudged by Indonesia's 15.8 percent inflation rate average for the same period.

Inflation and unemployment: the tradeoff Inflation and unemployment are the twin bane of modern societies. But low inflation in conjunction with a low unemployment rate is not possible. A.W. Phillips, a Briton, validated empirically the tradeoff between the two in 1958. From then on, policymakers have been aware that a low unemployment rate can only be achieved by sacrificing low inflation targets. Government walks a fine line when it decides to take positive action against both inflation and unemployment. It cannot do both since policy action works this way: When government wants to lower the level of unemployment, it stimulates aggregate demand. However, stimulating aggregate demand leads to the point

Average Inflation Rate: 1973-1990 (In percent) Indonesia Philippines Korea Hongkong Thailand Malaysia Taiwan* Singapore *1980-1990

15.8 14.3 12.8 8.7 7.0 5.1 4.3 4.2


DEVELOPMENT RESEARCH NEWS

where the economy overheats leading to inflation. To cure inflation, government can tighten its fiscal and monetary policy. But tightening it too much can lead to a recession, which leads to unemployment. Simply put, policies aimed at reducing inflation inadvertently lead to higher unemployment and policies which seek to contain unemployment ultimately leads to higher inflation rates. Hence, government must do a balancing act. Inflation targets at zero rate may not be socially desirable because of the tradeoff in terms of increased unemployment and vice versa.

1995 Inflation Rate (In percent) January February March April May June July August September October November

6.2 4.9 5.6 6.2 6.8 7.2 7.4 8.1 11.3 11.0 11.0

Source: National Statistics Office.

Inflation and poverty: the connection Economists have verified the intimate connection between inflation and poverty. Mahar Mangahas of the Social Weather Stations found out that there was a very high self-rated poverty level in 1985 which was also a high inflation year. There was relief from inflation in 1986-1987 and people rated themselves less poor in those years. Meanwhile, Ponciano Intal of the PIDS has also noted the relationship between the inflation rate and the Gini ratio (a measure of income inequality). From 1985 to 1988 when growth was

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high and inflation was low, there was an improvement in income distribution and a substantial reduction in poverty incidence. Thereafter until 1991 when growth was low coupled with a rising inflation rate, there was a sharp deterioration in income distribution and a sharp increase in the Gini ratio. This suggests that low growth and high inflation really tend to hurt the poor the most. Inflation affects both rich and poor but mostly the poor. This has led economists to suggest that government should measure the effect of inflation on various income classes. It would not be surprising to find out that the upper classes are only marginally affected by inflation. It is the bottom 30 to 50 percent of the population which surely have to bear the brunt of inflation. The 1991 Family Income and Expenditures Survey of the National Statistics Office showed that, on the average, more than half of all incomes are spent on food items. Common people are therefore more prone to price shocks in basic commodities.

Coping with inflation Those who own the major factors of production such as land, capital, and managerial skill can easily cope with inflation. A manufacturer, for instance, especially if he enjoys oligopolistic power, can increase the selling price of his goods. But an ordinary wage earner cannot simply come to work one morning and tell his employer that he has increased his wage rate to account for inflation. It is the trade unions which assume the role of wage negotiator. Well and good if there is a union, but what of unorganized workers? The most evident inflation coping mechanisms for ordinary people are wage adjustments. The current system of adjusting wages is negotiated through the wage boards that are in place in each region of the country. The wage board is composed of representatives from government,

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1995

Annual Inflation Rate (In percent) 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994

17.8 8.6 5.3 47.1 23.4 -0.4 3.0 8.9 12.2 14.2 18.7 8.9 7.6 9.0

Source: National Statistics Office.

management and labor. This group convenes and presents the pros and cons of a wage increase after which it either votes for or turns down a wage increase and by how much if it opts for the first. In the absence of wage adjustments or in the face of inadequate wage increases, ordinary workers can simply tighten their belts and make do without -- a very hard option considering that Filipinos have a time preference for present consumption. Others can moonlight (which can affect productivity in their fulltime job). Still, others can depend on that allencompassing Filipino institution: the extended family.

Indexing Indexing is a mechanism for periodic adjustments in the nominal value of contracts in line with movements in a specified price index. The escalator clause in wage contracts is one example. Care should be exercised in implementing this social mechanism. In the case of Latin America, the

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DEVELOPMENT RESEARCH NEWS

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September-October

1995

Inflation Forecasts for 1996 by Celia M. Reyes*

he Philippines has been able to bring down inflation to single digit for the past three years and hopes to keep it that way. However, recent developments seem to threaten the 6.5 percent inflation target. Some of the developments include the widening oil price stabilization fund deficit, rice and sugar shortages, and the clamor for a wage hike should petroleum prices be increased. Rice accounts for 12.8 percent of the consumption basket; sugar, 2 percent; liquified petroleum

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Table 1. Consumer Price Index and Inflation Rate in the Philippines (1988 = 100) CPI 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 January February March April May June July August September October

Inflation Rate

43.1 46.8 49.3 72.5 89.5 89.1 91.8 100.0 112.2 128.1 152.0 165.6 178.2 194.3

17.8 8.6 5.3 47.1 23.4 -0.4 3.0 8.9 12.2 14.2 18.7 8.9 7.6 9.0

199.6 200.4 201.2 202.8 205.2 207.7 209.8 213.8 220.4 219.7

6.2 4.9 5.6 6.2 6.8 7.2 7.4 8.1 11.3 11.0

gas, 0.5 percent; kerosene, 0.5 percent; electricity, 1.9 percent; and transportation, 3.4 percent. However, since petroleum products are inputs to almost all sectors, they actually account for more than the combined 6.3 percent. Most of the basic commodities experienced a tenfold increase in their prices from 1981 to 1995. The prices were first indexed using 1988 prices before dividing by the consumer price index for the national capital region. Relative to the consumer price index (CPI), however, many of these commodities had a decline in their real prices. Only power and water rates show increases in their real prices over the fourteen year period. The trends in the consumer price index and inflation rates from 1981 to October 1995 are shown in Table 1.

Forecasting inflation A short-term forecasting model for inflation is estimated by incorporating cost-push and demandpull factors. Some of the cost-push factors include wages as proxied by legislated minimum wage, interest rates as proxied by the 91-day treasury bill rate, prices of petroleum products and prices of nonfuel imports as proxied by the implicit price deflator for nonfuel imports. The ratio of total liquidity to GNP is included to capture the effects of excess liquidity. Monthly data from January 1981 to March 1995 are used in the estimation. The equation is shown in Table 2. All the variables have the expected positive signs. Except for interest rates, all the variables significantly affect the movements in the consumer price index.

Inflation forecasts for 1996, as shown in Table 3, are based on petroleum product price and wage adjustment levels. Assuming that oil price and wages remain unchanged (baseline scenario), the expected inflation rate for 1996 is 7.37 percent with the CPI at 226.72. However, price adjustments in January 1996 will lead to an inflation rate of at least 9.24 percent.

Dependent on oil prices The possibility of an increase in the price of petroleum products in the near future has contributed to rising inflationary expectations. Thus, even without any increase, prices of some commodities have gone up in anticipation of an actual increase. This could explain why the observed CPI (213.8) for August 1995 is much higher than the projected CPI (211.0). Moreover, the recent rice and sugar shortages contributed to the higher inflation rate.

Possible scenarios Should the government decide to postpone price adjustments until January 1996, given the problems brought about by the current rice shortage, several scenarios may be considered. Under Scenario 1 where prices of petroleum products are adjusted by P0.27 per liter and minimum wages are increased by P20 per day, the inflation rate is expected to jump to 9.24 percent for 1996.

*PIDS Research Fellow.


DEVELOPMENT RESEARCH NEWS

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1995

Table 2

January February March April May June July August September October November December GNP TL TBILL IPINF WAGE WPP

GNP

TL

TBILL

IPINF

WAGE

WPP

196,558 196,558 196,558 199,645 199,645 199,645 200,948 200,948 200,948 235,895 235,895 235,895

605,154 626,577 638,382 656,761 635,023 645,882 657,702 674,145 699,897 705,776 739,794 798,978

10.18 11.11 13.80 14.86 14.24 13.61 11.40 9.28 9.50 10.00 10.50 11.00

177.550 177.550 177.550 194.218 194.218 194.218 204.099 204.099 204.099 214.304 214.304 214.304

145.00 145.00 145.00 145.00 145.00 145.00 145.00 145.00 145.00 145.00 145.00 145.00

5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344 5.5344

= = = = = =

Gross National Product Total Liquidity (in billion pesos) 91-day Treasury Bill Rate Implicit Price Index for Imports of Nonfuels (1988 = 100) Legislated Daily Minimum Wage Rate for the National Capital Region Wholesale Posted Price

In Scenario 2, oil prices are increased by P0.50 per liter and minimum wages by P20. Inflation then goes up to 9.52 percent in 1996. The last scenario considers the case of a P0.60 per liter increase in petroleum prices and a wage hike of P20 per day. As expected, this causes the biggest increase in consumer prices among the three scenarios, with an inflation rate of 9.64 percent.

Still high The simulations indicate that in order to minimize the inflationary impact, the increase in petroleum product prices should be kept to a minimum. It is assumed that the method chosen for financing the Oil Price Stabilization Fund (OPSF) deficit to afford the lower oil price adjustment will not lead to higher inflation. What will bring down inflation rate? GNP growth higher than 6 percent, lower interest rates and lower import prices may curtail the increase in prices and may even bring down

prices but the downward rigidity of prices of most commodities may prevent the attainment of the targetted inflation rate. Likewise, deferment of price adjustments may defer the inflationary impact. This is true only if the inflationary expectations are not significant. Thus, if there is no plan to

implement oil price adjustments within the next months, the government should make an announcement. This will serve to dampen inflationary expectations. However, once the government makes an announcement that there will be no price increase, it should not backtrack or it will serve to fuel inflationary expectations. DRN

Table 3. Impact of Oil Price and Wage Increases Scenario

Inflation Rate 1995 1996

Average CPI 1995 1996

Baseline: No oil price and wage increase

8.68

7.37

211.16

226.72

Scenario 1:

Price adjustments in January 1996 P0.27/liter increase in petroleum product prices P20 increase in minimum wage

8.67

9.24

211.16

230.68

Scenario 2:

Price adjustments in January 1996 P0.50/liter increase in petroleum product prices P20 increase in minimum wage

8.68

9.52

211.16

231.27

Scenario 3:

Price adjustments in January 1996 P0.60/liter increase in petroleum product prices P20 increase in minimum wage

8.68

9.64

211.16

231.52


DEVELOPMENT RESEARCH NEWS

Some Notes on Municipal... EPage 3

Devolution and credit financing: impact on projects The development projects typically submitted for financing are long-gestating and lumpy investments which require relatively substantial credit finance that takes a number of years to repay. However, there are some elements of devolution brought about by the implementation of the 1991 Local Government Code which have some bearing on the design, implementation and financing of projects.

Political exigencies and need for checks and balance First , local political realities will affect design, implementation and financing in a number of ways. The LGU executive’s leadership and the managerial and technical qualities of the local bureaucracy will determine the success or failure of a development project. In the Philippine political culture and especially in the local scene, much is expected of the leader in terms of the leadership he can show, the commitment he can extract from those who work with him, and the incentive structure he can create for sustained implementation of governance programs. Part of this commitment and cooperation must be extracted from the local sanggunian which is tasked with appropriating money for the LGU, and in the case at hand, providing for the local counterpart fund. The lender will naturally make a thorough assessment of the local leadership and the commitment and local resources that would be given to ensure a project's success. On the other hand, another political reality is the frequency of local elections. The local officials are elected every three years and it is only natural for local executives to submit for funding projects that have visible

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impact but limited (three years) time dimension. This particular stance would distort preferences in the LGU, producing projects of limited duration but with high visibility and impact, at the expense of long-gestating but more useful projects. For these reasons, it is necessary to work for the development and availability of a professional cadre of local bureaucrats who would sustain and maintain local projects far beyond their immediate project life. The natural check to the short time horizon of elected officials -- both the executive and the local councils ( sanggunians ) -would be the nongovernment organizations (NGOs) and people's organizations (POs) which have been mandated by the 1991 Code to be members of the local councils (according to the Code, at least 25 percent of the local councils must be NGOs or POs). Of course, the reality is that everyone is a self-interested agent. The NGOs and POs are also driven by both self-interest and community interest. However, there is a certain degree of transparency and a set of self-checking mechanisms among NGOs and POs which would tend to minimize selfinterest action. It would be crucial for these NGO s and POs to instill a certain level of awareness in the local communities where the LGU is allocating resources for a particular project. A community watch spearheaded by genuine NGOs could offset the negative impact of local politics. It is important to make the distinction between genuine and not-so-genuine NGOs and POs. A discussion of the parameters to distinguish one from the other is beyond the scope of this note but certainly, it is an interesting topic.

Heterogeneity of LGUs Second , the LGUs have varying degrees of executive, managerial and technical expertise and financial capabilities to implement projects. The LGUs can be broadly classified into three groups:

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1995

G the first group is composed of the larger and financially capable cities and provinces. They are more progressive, have immediate access to private financing and would not need grants; G the second group consists of medium-sized cities, municipalities and provinces which have a lot of potential for local development but would require some assistance to secure access to formal credit; and G the third group comprises primarily fifth and sixth class municipalities and provinces which do not meet creditworthiness criteria and are obvious candidates for grants or other forms of financial assistance. The heterogeneity of LGUs will affect the type of projects and the financing approach that will be undertaken. The first and second groups of LGUs would be able to access the domestic private sector and foreign sources. For the third group, however, there is a need for a more creative combination of credit finance and grants to address their demand for capital. This is to say that local capacity building (learning by doing) approaches to the implementation and maintenance of funded projects are important considerations in project appraisal. Given the magnitude of devolved responsibilities, the LGUs must devote time and resources to build up local capability to implement and maintain projects. To build their credit worthiness, the LGUs must also show their commitment to fiscal responsibility, indicated by prudent spending and vigorous local revenue mobilization.

Sincerity in carrying out reforms Third , a consideration of the ability of the LGUs to raise revenues and the acceptability of cost recovery via user charges or fees paid by


DEVELOPMENT RESEARCH NEWS

beneficiaries of a given project must figure prominently in the design, implementation and maintenance of projects. A commitment to improve revenue mobilization will be necessary in order to assure creditors that the LGU would be able to service the debt and maintain the project for which funding is being asked. The 1991 Code provides an expanded set of taxing powers and responsibilities, but the reluctance to use the taxation power more vigorously will constrain the capacity to provide public goods and services, service the debt, maintain projects, and discharge a host of other LGU responsibilities. More importantly, a reluctance to raise more local revenues will adversely affect the viability of nonrevenue generating projects. The LGUs have much to gain from the imposition of user charges. Cost recovery techniques will have to be increasingly used in many LGUs which seek to provide adequate public goods and services. This gives creditors the assurance that the LGUs would have the means to service the debt. The LGUs have to educate their constituency on the advantages created by user fees and to show more resolve in imposing them given the tendency among users of public goods and services to shirk from the obligation to pay for the cost of those goods and services. Adequate revenue mobilization and the adoption of cost recovery techniques would enhance the creditworthiness of LGUs and minimize LGU credit risks. This would help clear the way for private sector financing of LGU projects.

The question of sustainability Fourth , it is also important to emphasize the need not only for expertise to implement projects but more importantly, the need to maintain projects well beyond the project life. Maintenance of projects is a known weakness of the government. There is scant attention paid to maintaining capital equipment and infrastructure,

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and it happens that expensive capital projects deteriorate for lack of proper maintenance. It would be a total loss of borrowed resources to neglect maintenance. To assure proper maintenance, the project should require a commitment by the LGU to devote resources for appropriate project maintenance.

The question of credit and interest rate risks Fifth and finally, serious attention must be given to address the credit and

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1995

granted Cebu City a loan of P50 million for a seven year term at 16 percent interest with a city-owned real property as collateral. Another instrument is the use of LGU deposits as loan collateral to reduce credit risks. At present, PNB is using this to reach LGUs. However, there is a need to liberalize the policy on LGU deposits. For instance, the Commission on Audit (COA) has issued Circular 92-382 which favors the use of GFIs as depository institutions and limits the LGUs’ use of

Local government units will be able to access both domestic private sectors and foreign sources to address their demand for capital depending on their expertise and financial capabilities to implement and maintain projects.

interest rate risks in LGU lending. One way to reduce the credit risk is to withhold at the Department of Budget and Management (DBM) the internal revenue allotments (IRAs) for LGUs which are delinquent in loan repayments. The MDF experience with this approach shows that it is an effective device to ensure loan repayment. Under present rules, the IRAs could not be “intercepted� at source without the consent of the LGUs but certainly, an arrangement for an IRA intercept could be worked out with the LGUs concerned. The downside of this approach is the possibility that lenders will be less careful in screening loan applications from LGUs because of the security provided by the IRA intercept. A functioning municipal credit system would have to identify other creative means to reduce credit risks. One approach is to secure loans with real property collateral. The PNB

the deposit facilities of private banks. This policy should be reviewed. The volatility of domestic interest rates is the source of interest rate risk and has constrained the development of a long-term credit market. Variable interest rates have therefore been used by lenders to compensate for the interest rate risk. On the other hand, given the longgestating and lumpy nature of public investments, the LGUs are wary about the implications of the interest rate risk on their capacity to repay a long-term loan. Both borrowers and lenders are affected by the interest rate risk and it is hard to see how they can efficiently transact unless this is adequately addressed. Some view the creation of an interest rate stabilization fund in the MDF as a necessary transitional mechanism to shield LGU borrowers from the volatility of interest rates.

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DEVELOPMENT RESEARCH NEWS

e, at the NEDA, have often been accused by our detractors that while we have projected a healthy picture of the country’s economy for the last few years with gross national product (GNP) up and inflation at manageable levels, we have failed to address the basic question of how this translates to a better quality of life for the common man on the street. Today, we shall try to provide the answer to that question, with particular reference to the issue of health care needs.

W

Quality over quantity of development A sustainable health care program is essential to the overall development scheme. I remember it was once said that during the decade of the eighties, the concept of development was primarily defined in terms of political and economic concepts. It was only in the late eighties and early nineties that social concerns began to surface as the more prevalent issues. Today, the term development is more people-oriented, properly defined within a social context that emphasizes the qualitative changes in the people’s lives over the quantitative change of the country’s GNP. For our part, human development is a core component of the mediumterm Philippine Development Plan or MTPDP. It is also the organizing principle behind the president’s social reform agenda which outlines the specific strategies to address people’s welfare in the areas of health, education, nutrition, sanitation and housing. We believe it is only with the

*Excerpted from the keynote address delivered during the PIDS-DOH policy workshop on "Baseline Research for Health Care Financing Reforms," September 28, 1995, The Manila Hotel. **Secretary of Socioeconomic Planning and Director-General, National Economic and Development Authority.

10

proper investment in human development that political and economic development could be guaranteed and sustained.

September-October

1995

Health Care

Health care for the masses How can we provide quality, effective and accessible health care services that are affordable, equitable and sustainable in the long run? Ask anyone who has ever been hospitalized and he will tell you that the most practical thing to avail of nowadays, aside from an educational plan, is a health insurance plan. Over the last few years, the cost of hospitalization has more than doubled and while technology has enabled modern medicine to alleviate the illnesses of more people today, such technology does not come cheap. Thus, for the average Filipino, health care is usually given the lowest priority in the family budget. His best bet is prayer. His second best bet is to rely on the generosity of free clinics which have very limited resources and even less capability to treat cases other than the common cold and other minor injuries.

"We are not investing enough in our health care needs," stated Secretary Cielito Habito.

by Cielito F. Habito**

You are no doubt aware of the two key principles of the MTPDP: people empowerment and global competitiveness. By people empowerment, we envision a people who enjoy the same benefits and opportunities, regardless of social status, that enable them to take direction of their own lives. While this is our goal, the idea of an empowered citizenry shall remain untenable for as long as basic health care services remain outside the reach of the majority. It is therefore our responsibility to come up with an adequate health care program and ensure that this program is within reach of the lowest income brackets.

An effective health care policy As a general policy, health care packages usually have five broad objectives: G to deliver quality, effective and accessible health care services G to offer an affordable, equitable and sustainable financial plan G to provide incentives for cost containment in the delivery of health services G to enhance organizational efficiency within the health sector and G to allow for informed choice among the key participants in the health system -- beneficiaries, funders and providers. Our problem is to determine the effectiveness of the government’s health care program in meeting its objectives and how it can be further improved to meet future demands.


DEVELOPMENT RESEARCH NEWS

11

Financing Reforms* Based on the literature on health care financing, an effective health policy program should cover the following areas: G coverage of beneficiaries of health care financing schemes G type of benefits conferred to the beneficiaries G level of contribution required by beneficiaries, government and other sectors G payment schemes and disbursement procedures to be applied to the providers G management, administration and information systems to be adopted by health care financing institutions involved G measures to enhance and improve the performance of the health care providers G roles of public and private sectors in the delivery and financing of the health care services and G the implementation strategy, including legislative initiatives required for effective implementation. These are the areas that we need to address today.

Baseline policy research study on health Four years ago, a research project was launched by the Department of Health and the Philippine Institute for Development Studies. The project was meant to formulate a core policy reform package that would make our country’s health care financing more efficient and equitable. Today, the findings of this baseline study will be presented in the hope that such information shall enable us to draw up a more

comprehensive social insurance package with appropriate recovery schemes. We also hope to create a better regulatory environment to monitor and ensure that the additional resources generated by these reforms do not go to waste. In providing us with a framework to deal with this problem, we can already assess the strengths and weaknesses of the current health financing program in the Philippines. Later on, the recommendations based on this baseline study can help us decide on the best options in formulating a health care financial program beneficial to all sectors.

Underinvesting in health care I would like to take up at this point the question of budgetary allocation. This is usually the most crucial element in any undertaking. Simply put, we are not investing enough in our health care needs. The national level for health expenditures in the Philippines is still much lower than other developing countries in Asia. How much additional spending should be made for health care and other activities would depend on how efficient current resources are being allocated.

Underutilizing present health financing mechanisms The second thing I would like us to closely examine is the focus of our service. We need to design a health financing program that can benefit and be accessible to the rural population in remote provinces where health care facilities are scarce. At present, there is relatively a wide range of financing

September-October

1995

mechanisms available to fund the health sector. These include taxation, compulsory health insurance through salary deduction schemes, private health insurance, and paying on a perservice basis. This makes the Philippine health sector one of the most diversely financed among developing countries. However, despite the variety in the availability of health care financial programs, most of these schemes are still heavily underutilized and out of reach of the greater majority. For one thing, public provision of health services financed by taxes tend to be highly inequitable because the effective tax rates are regressive. Statistics show that in 1990, the Medicare I program -- a compulsory insurance scheme for all public and private sector wage earners, non-owner employees and their dependents -covered a mere 38 percent of the population, or some 20 percent of the labor force. This small segment of the population presently covered by Medicare represents those who are more likely to be economically better off vis-a-vis the rest of the population. Employed persons who are not members of the Medicare program are likely to be concentrated in the agriculture and service sectors (which account for the bulk of the country’s labor force) .

Need to explore alternative health packages Lastly, we also wish to explore other alternative financing schemes to supplement existing programs. What are some alternative sources of financing that could help provide for additional resources required to set up a core policy reform package? How might alternative financing schemes be developed and organized to supplement efforts of the new system implied by the policy reform package? In generating additional resources, some alternative programs

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DEVELOPMENT RESEARCH NEWS

The Philippines in AFTA ... EPage 1 G What

industries will be prejudiced? G What policies and programs need to be put in place so that the economy can maximize its gains or minimize its losses from participation in the free trade area?

Trade in the context of GATT

12

world economy is greater in the framework of regional free trade areas than in the context of worldwide tariff liberalization. Under GATT, trading countries bind themselves not to exceed ceiling rates for tariffs over a wide range of industrial products. They also agree to “tariffy” all nontariff barriers and bind all resulting tariffs at lower levels for agricultural products. Along with these bindings, all country groups and regions offer to reduce tariff rates on a large portion of industrial and agricultural product tariff lines. With respect to services, these will also be covered by the most favored nation clause. AFTA is less comprehensive in coverage but is much more specific on the goods covered and the time frame involved. Under a recent decision of the region’s economic ministers, the reduction of tariffs on goods originating from ASEAN countries shall be accomplished within ten years instead of the original 15. As envisioned by the economic ministers, there will be two schemes under AFTA -- the normal track and the fast track. Under AFTA’s normal track, tariff rates above 20 percent shall go down to 20 percent by January 1, 1998 and subsequently to 0-5 percent by January 1, 2003, while tariff rates of 20 percent

September-October

1995

and below shall go down to 0-5 percent by January 1, 2000. On the other hand, under the fast track scheme, tariff rates above 20 percent shall go down to 0-5 percent by January 1, 2000 while rates at 20 percent and below shall go down to 0-5 percent by January 1, 1998. In addition, products currently excluded from the Common Effective Preferential Tariff (CEPT) shall be transferred to the included list over a period of five years at 20 percent annually starting January 1, 1995. By January 1, 2000, all products shall have been under CEPT coverage. The tariff reduction for certain groups of products will also be accelerated. Quantitative restrictions affecting these products will be removed. All nontariff barriers will also be dismantled within a period of five years. As a moderately small player in the world economy, the Philippines cannot take up the burden of global production and consumption optimization. It must concern itself with the more modest problem of optimizing its own production and consumption in the AFTA context. All the same, it is clear that for the prospective gains from AFTA to become even more substantial than they may be at this time, the lowering of tariffs and the abolition of nontariff

Whatever might be their positive effects on the individual member countries, regional groupings are not the most efficient mechanism for achieving production and consumption optimum as far as the world as a whole is concerned. This is because regional groupings can still coexist with trade and investment restrictions in the rest of the global economy. Only a steady and ever widening removal of these restrictions throughout the world economy will lead toward that optimum. The first-best solution, from the viewpoint of both the world as a whole and individual countries, is the globalization and acceleration of the trade and investment liberalization envisioned under GATT. A trading arrangement in which all participating countries reduce trade Table 1. ASEAN, Basic Indicators barriers is superior to one in which a number of GNP per Capita regional free trade areas Country Population Area Dollar Average Annual aim separately for an (million (000 (1990) Growth Rate optimum within their own mid-1991) sq.km.) (1965-90) boundaries. In the first instance, both individual countries and the world Brunei 0.3 6 * as a whole attain their Indonesia 178.2 1,905 570 4.5 production and conMalaysia 17.9 300 2,320 4.0 sumption optimum; in the Singapore 3.0 1 11,160 6.5 latter case, it is only Thailand 55.8 513 1,120 1.1 individual countries Philippines 61.5 300 730 1.3 which attain their optimum and not the Total ASEAN 316.7 3,049 16,200 20.7 global economy as a whole. The likelihood of Source: Asian Development Bank, Key Indicators, 1992. * Estimated by the World Bank to be in the high income range. trade diversion in the

GDP Million Average Annual Dollar Growth Rate (1990)

(1980-90)

107,290 42,400 34,600 80,170 43,860

5.5 5.4 5.2 7.6 0.9

308,320

4.9


DEVELOPMENT RESEARCH NEWS

barriers among AFTA member countries should be made faster than is currently scheduled. Moreover, the coverage of this tariff and nontariff reduction and elimination should be made more comprehensive than that defined under GATT.

The ASEAN region With a population of 317 million in 1991, the ASEAN region provides a market that is five times larger than the Philippine market. It has a gross domestic product (GDP) of some $308 billion with an average annual growth rate of about 5 percent, making the region one of the most dynamic in the world (Table 1). Philippine trade with the region nevertheless remains miniscule. Over the 1981-1991 period, Philippine exports to the region amounted only to an average of slightly over 7 percent of the country’s total exports. Imports from the region were likewise relatively small, averaging 8-9 percent of total Philippine imports from the world (Table 2). Given the foregoing percentages, it is not likely that the expansion of Philippine trade with ASEAN neighbors (no matter how rapid) will have a decisive impact on total Philippine trade, at least in the immediate term. Are Philippine industries competitive in ASEAN? A comparative study of the tariff rates of five ASEAN countries shows that Philippine tariff rates are at midpoint between the high rates of Indonesia and the low rates of Malaysia and Singapore. This suggests that when Philippine exports are sold in ASEAN markets, they generally pay higher tariff rates than what ASEAN exports pay in the Philippines. The implication is that these Philippine exports, in succeeding to penetrate ASEAN markets notwithstanding their handicap, are relatively more competitive than ASEAN exports to the Philippines. On the import side, Philippine industries which source their imports

13

September-October

1995

Table 2. Philippine Exports and Imports (million U.S. dollars) 1981

1982

1985

1987

1990

1991

415.5 3.3 153.6 104.1 129.2 25.3 5,305.2 5,720.7

363.2 4.5 55.0 177.8 111.6 14.4 4,656.5 5,019.8

530.7 0.4 18.3 173.8 250.1 88.1 4,088.6 4,614.0

507.2 0.4 65.4 119.2 196.6 125.6 5,190.7 5,696.1

584.8 1.0 60.9 126.8 239.6 156.1 7,483.3 8,068.0

616.5 1.0 41.9 123.3 229.5 220.8 7,995.5 8,612.0

7.3

7.3

11.4

9.0

7.3

7.2

659.4 121.1 224.4 177.6 109.7 26.7 7,797.1 8,477.3

587.4 77.7 142.9 118.7 218.4 29.7 7,646.3 8,262.5

754.0 14.6 184.7 369.7 134.5 50.5 4,574.1 5,351.4

687.4 51.4 89.3 267.9 232.2 46.6 6,277.1 6,936.8

1,187.7 109.8 181.6 272.5 486.7 137.2 11,853.2 13,041.0

1,021.2 95.4 162.2 214.1 455.3 94.2 1,784.9 2,806.0

8.0

7.5

14.6

10.0

Exports Total ASEAN Brunei Indonesia Malaysia Singapore Thailand Other Countries Total World Total ASEAN as % of Total World

Imports Total ASEAN Brunei Indonesia Malaysia Singapore Thailand Other Countries Total World Total ASEAN as % of Total World Sources:

9.0

8.2

For 1981-91 Import and Export data -- the National Statistics Office; for 1981 Import and Export data and 1980-89 Total World Data -- UN-ESCAP Statistical Yearbook for Asia and the Pacific, 1991; and for 1990-91 Total World Data -- Asian Development Bank, Key Indicators of Developing Asian and Pacific Countries, 1992.

from ASEAN are paying higher tariffs than what ASEAN importers are paying in the Philippines. That these Philippine industries have nevertheless remained viable is a testimony to their basic competitiveness. Data on effective protection rates (EPRs) of Philippine industries, however, show another dimension of the situation. EPRs are generally lower for export-oriented industries than for domestically-oriented industries, implying that in addition to the handicap they endure in foreign markets, Philippine exports are penalized in their own home market. That EPRs in general are now much lower than they were a decade ago as a result of the series of tariff reductions carried out by the government in the last ten years does not mean that export disincentives have altogether disappeared. It simply means that the need to equalize EPRs among

industries has been recognized. The EPRs are supposed to be progressively lowered to improve the chances of Philippine exports in foreign market. The fear of some Philippine industries of losing out in the economic competition with their ASEAN neighbors has little basis in fact. Even the nervousness exhibited by domestically-focused industries seems to be more intense than can be justified by the reality. Still, it is correct to say that some Philippine industries are competitive and some are not. Those that have been exporting to ASEAN countries will become even more competitive now that tariffs are beginning to be lowered. With AFTA, these industries will be confronted with a vastly expanded market. On the other hand, those which are domestically focused will be confronted with the

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DEVELOPMENT RESEARCH NEWS

The Philippines in AFTA ... EPage 13 competition of foreign exporters and face a potentially-constricted domestic market.

Prospects for Philippine exports Elasticity of Philippine exports to ASEAN. A sizeable potential market awaits Philippine exports to ASEAN. Table 3 shows that between 1981 and 1991, the elasticity of Philippine exports with respect to the ASEAN-4 (Indonesia, Malaysia, Singapore and Thailand) GDP is slightly more than 1. This means that a one percent increase in the ASEAN-4

14

The foregoing elasticity estimate is of course based on tariff-ridden foreign prices for Philippine exports. Once tariffs in these countries are dismantled, markets in these countries are expected to widen for the same level of real output, enhancing opportunities for growth of Philippine exports. Apart from the matter of elasticity, the annual growth rate of Philippine exports to the ASEAN-4 in the 1981-91 period ranged from a negative 34 percent to a positive 46 percent. The figures indicate that the fluctuation over the years has been wide; they also signify that the upper bound of the possible growth rate of Philippine exports to the ASEAN-4 can be very high.

Repeating past or improving present performance. Growth rate Growth rate Elasticity Another way to of Philippine exports of GDP of Philippine exports size up the to ASEAN-4* of ASEAN-4* with respect market potential (percent) (percent) to GDP of ASEAN-4 of Philippine exports to its 1981 9.0 16.0 0.56 ASEAN neigh1982 -12.0 5.0 -2.40 bors is to classify 1983 -2.0 -2.0 1.00 these exports into 1984 46.0 4.0 11.00 three groups: 1985 3.0 1.0 3.00 Group A which 1986 -34.0 -6.0 5.67 1987 44.0 4.0 10.00 c o n s t i t u t e s 1988 -3.0 8.0 -0.17 exports that have 1989 8.0 15.0 0.53 grown steadily in 1990 10.0 15.0 0.67 the last ten years; 1991 5.0 12.0 0.42 Group B which refers to exports Average 6.7 6.5 1.03 that have de* Counting only Indonesia, Malaysia, Singapore and Thailand. No data available clined after for Brunei. reaching a peak; and Group C GDP gives rise to a one percent increase which includes exports that have in Philippine exports to the ASEAN-4. remained unchanged or have declined A low figure indeed. However, if the over time. expected increase of ASEAN-4’s GDP Table 4 shows the classification of an average annual rate of 6-8 percent of Philippine exports vis-a-vis the in the next several years is taken into ASEAN-4. account, then Philippine exports to With respect to Indonesia, all these countries can be expected to rise Philippine exports (with the exception by more or less the same percentage. of food and food preparations) have

Table 3. Elasticity of Philippine Exports to GDP of ASEAN-4

September-October

1995

either increased steadily or decreased after reaching a peak (Table 4a). With respect to Malaysia, the story is the same. All Philippine exports except food and food preparations have either grown steadily or decreased after reaching a peak (Table 4b). With respect to Singapore, the exceptions to the expansion are inedible crude materials and animal and vegetable oils and fats. The rest of Philippine exports have either increased steadily or decreased after reaching a peak (Table 4c). With regard to Thailand, all Philippine exports have either increased steadily or declined after reaching a peak. The only exception are exports of animal and vegetable oils and fats (Table 4d). Finally, with respect to Brunei, all Philippine exports have either increased steadily or declined after reaching a peak. There are two exceptions to this: exports of inedible crude materials and miscellaneous commodities which have tended toward zero (Table 4e). If Group A exports can only maintain the average growth rate of 10 percent which has characterized their performance in the last few years and if Group B exports can only return to their previous peak or grow by the same rate as those in Group A, total Philippine exports to ASEAN neighbors will expand by an average annual rate of between 60 and 80 percent.

Impact on domesticallyoriented industries More intense competition from a b r o a d . By classification, all industries not enumerated in the exporter’s list are domestically-oriented. Prominent among these are the agricultural sector (particularly food crops), the livestock industry, and the fisheries group. Various subsectors within manufacturing (particularly those in the food and food preparation industry) and perhaps those in the inedible crude materials group also fall under this classification. These industries will face


DEVELOPMENT RESEARCH NEWS

broader competition in the domestic market as an aftermath of AFTA. Domestically-oriented industries consist of two types: those which do not need domestic tariff protection to survive, and those whose survival depends on the continuation of domestic tariff protection. With respect to the first type, AFTA will merely mean the loss of the redistributive effect of protection but not the impairment of their economic viability. It is with respect to the second type of industries that the consequences of AFTA can be unsettling. The second type of industries can of course acknowledge their fate passively and allow imports to take up their share of the domestic market, in which case the economy would have lost that much domestic output and domestic factors (capital and labor) would have lost their employment and incomes. This is, of course, precisely the kind of response that neither the industries themselves nor the national community may be willing to accept. Accepting the challenge. The more socially preferable course of action for noncompetitive domestically-oriented industries will be to take on the challenge of AFTA. This can be done by uncovering the causes of lack of international competitiveness and implementing measures to overcome them. One major cause of this lack of international competitiveness is low productivity which is in turn the result of technological backwardness. Another cause is the attitude of dependence of leaders in these industries on government protection. Needless to say, these industry heads have reached their present position of leadership under the mantle of a protected environment in the last three decades. With regard to the first source of lack of global competitiveness, a number of factors underpin this technological backwardness. For one, the private sector has never had any significant participation in the nation’s

15

September-October

1995

Table 4a. Index of Philippine Exports to Indonesia (In percent) 1981 1982 1985 1. 2. 3. 4. 5. 6. 7. 8. 9.

Food and food preparations Beverages and tobacco Crude materials, inedible Mineral fuels, lubricant and related materials Chemicals Manufactured goods Machinery and transport equipment Miscellaneous manufactures Commodities Total

100

1987

1990

Classification 1991 198191

100 21 100 136 100 5

0 69 17

18 53 2,314

1 929 53

2 1,196 145

C A B

100 114 100 143

513 30

989 34

-1,792 66

1,187 19

B B

100 157 100 396 100 222

28 149 10

118 157 19

211 386 38

321 263 39

A B B

12

43

40

27

36

Source: National Statistics Office. Note: A - Commodities that increased steadily. B - Commodities that increased to a peak then decreased. C - Commodities that decreased or did not change.

Table 4b. Index of Philippine Exports to Malaysia (In percent) 1981 1982 1985 1. 2. 3. 4.

Food and food preparations Beverages and tobacco Crude materials, inedible Mineral fuels, lubricant and related materials 5. Animal and vegetable oils and fats 6. Chemicals 7. Manufactured goods 8. Machinery and transport equipment 9. Miscellaneous manufactures 10.Commodities Total

100 100 100

70 100 4

12 400 77

100

33

100 100 100

50 125 74

100 100 100

703 1,329 134 91 181 164

100

171

1987

1990

Classification 1991 198191

16 100 59

48 620 374

45 C 2,800 A 701 A

756 13,613

3,244

4,092 B

225 28,925 82,500 137,125 B 266 323 313 381 A 131 52 161 248 A

167

2,700 66 44

400 101 109

373 B 149 A 92 B

115

122

118

Source: National Statistics Office. Note: A - Commodities that increased steadily. B - Commodities that increased to a peak then decreased. C - Commodities that decreased or did not change.

R&D program. Of total R&D expenditures in 1979, only 16 percent came from the private sector. In 1984, it spent only 19 percent. The number of R&D people in the private sector was similarly small, representing 16 percent of the total in 1982 and 10 percent in 1987. For another, the sector has been slow in appreciating the inventions and discoveries of the Department of

Science and Technology (DOST). Many of these new technologies remain unutilized to this date. Finally, it is clear that the capital goods imports availed of in the past years by the private sector under various investment schemes have not given the industries access to any technology resembling cutting edge. Notwithstanding the billions of

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DEVELOPMENT RESEARCH NEWS

16

The Philippines in AFTA ... EPage 15 dollars that went into the tax-free importation of power generating machines, office equipment, electrical machinery and telecommunications

equipment, the industries remain in technological limbo today. The managerial leadership of the domestically-oriented private sector is also partly responsible for the sector’s lack of daring and innovativeness. Many of these leaders cut their managerial teeth in the sheltered

Table 4c. Index of Philippine Exports to Singapore (In percent) 1981 1982 1985 1. 2. 3. 4.

Food and food preparations Beverages and tobacco Crude materials, inedible Mineral fuels, lubricant and related materials 5. Animal and vegetable oils and fats 6. Chemicals 7. Manufactured goods 8. Machinery and transport equipment 9. Miscellaneous manufactures 10.Commodities Total

1987

Classification 1991 198191

1990

100 100 100

129 212 86

185 71 34

120 93 94

95 1,530 55

93 B 2,282 A 114 C

100

612

409

594

815

2,163 A

100 100 100

17 93 73

3 47 66

11 65 83

11 189 204

5 C 210 A 240 A

100 100 100

53 84 107

308 50 313

497 69 178

340 85 255

420 B 303 A 163 B

100

86

194

152

185

178

Source: National Statistics Office. Note: A - Commodities that increased steadily. B - Commodities that increased to a peak then decreased. C - Commodities that decreased or did not change.

Table 4d. Index of Philippine Exports to Thailand (In percent) 1981 1982 1985 1. 2. 3. 4.

Food and food preparations Beverages and tobacco Crude materials, inedible Mineral fuels, lubricant and related materials 5. Animal and vegetable oils and fats 6. Chemicals 7. Manufactured goods 8. Machinery and transport equipment 9. Miscellaneous manufactures 10.Commodities Total

1987

Classification 1991 198191

1990

100 100 100

89 135 54

679 200 179

402 140 142

504 100 432

501 B 85 B 440 A

100

12

6

178

9

21 B

100 100 100

1 51 24

0 422 126

0 707 93

3 1,459 172

8 C 1,303 B 169 B

100 100 100

195 127 70

90 171 708

63 179 973

957 203 930

961 A 243 A 1,671 A

100

57

348

499

618

Source: National Statistics Office. Note: A - Commodities that increased steadily. B - Commodities that increased to a peak then decreased. C - Commodities that decreased or did not change.

872

September-October

1995

environment of the 1960s and 1970s. In those decades, they had to develop political abilities as well as business acumen in order to ensure the growth and viability of their business enterprise. That home-focused entities are now "terrorized" by the prospect of coming into contact with foreign enterprises in a liberalized market is an indication of how debilitating the psychological impact of this orientation can be. These problems cry for attention as the country enters into the more intensely competitive environment of a free trade area.

Agenda for action Policy reforms at the macro level. To strengthen the Philippine economy’s capability for enhancing the benefits that can be gained from AFTA, policy reforms at the macro level and modernization measures at the enterprise level need to be put in place. Policies at the macro level refer specifically to fiscal and monetary policies. On fiscal matters, the state budget is a measure of the government’s ability not just to carry out its basic functions of governing and regulating but also to influence the level of economic activity. The government’s consump-tion of goods and services stimulate producers to higher levels of output while government investments lay down the foundations of future growth. A budget deficit circumscribes the government’s ability to carry out these important functions. Overcoming a budget deficit and meeting the demands of expanded infrastructure and social overhead facilities require actions on both sides of the budget. On the revenue side, there is need for enhancement of tax collection and pursuit of new tax measures. These actions may be resisted by some sectors in the economy but their implementation is necessary to beef up government’s capacity to meet its responsibilities. In this respect, the immediate implementation of the


DEVELOPMENT RESEARCH NEWS

expanded value added tax law becomes a necessity. On the expenditure side of the budget, there is need to increase the allocations for infrastructural and social overhead capital. The supply of energy, electricity and telecommunication services are indispensable to public and private investment. Well- educated and trained human resources are sine qua non to the competitiveness of industry and to a high quality of life in the community. In the monetary field, there is need to pay close attention to the money supply for purposes of price stabilization. While it is true that some degree of inflation is inevitable in the course of growth, or that indeed, it is necessary in order to spur growth, it is nevertheless even more correct to say that inflation can become a brake to growth when the rise in the cost of inputs squeeze out margins of profits. Inflation can also be destabilizing as the consuming public may carry out mass actions to express their resistance. These two policy areas -- fiscal and monetary -- are of course related. So long as a budget deficit exists, the government will find it irresistible to borrow from the public or from the Central Bank. In the first instance, it will have to raise the interest rate which will lead to a dampening of investment while the second instance will mean printing more money which will then generate inflation. Both courses of action must be resisted so as not to upset the investment and production calculations of industries. The rate of savings must also be raised. The stabilization of prices and the improvement of taxation measures will help achieve this aim but the contribution of foreign investments will be critical. Foreign investment augments both domestic savings and domestic investment at the same time thereby broadening the extent of development and speeding up its pace. Attracting foreign investment, there-fore, must be made an integral part of macro policy.

17

September-October

1995

Table 4e. Index of Philippine Exports to Brunei (In percent) 1981 1982 1985 1. 2. 3. 4.

Food and food preparations Beverages and tobacco Crude materials, inedible Mineral fuels, lubricant and related materials 5. Animal and vegetable oils and fats 6. Chemicals 7. Manufactured goods 8. Machinery and transport equipment 9. Miscellaneous manufactures 10.Commodities Total

100 100 100

94 278 46 29 354 1

100 100 100 100

-

1987

1990

317 49 5

850 234 0

-

-

-

Classification 1991 198191 1,250 A 276 A 1 C -

2,114 571 85 7

286 6

43 14

157 B 14 B

100 12,186 271 100 993 407 100 65 17

600 287 14

1,314 2,100 2

2,143 B 1,767 B 2 C

9

14

100

230

8

16

Source: National Statistics Office. Note: A - Commodities that increased steadily. B - Commodities that increased to a peak then decreased. C - Commodities that decreased or did not change.

The foreign exchange rate will also be a relevant policy concern. The rate should be determined by the foreign exchange market but monetary and foreign exchange policy must be brought in to prevent sharp fluctuations. Devaluation as a means of encouraging exports and compressing imports must not be ruled out either. Policy reforms at the enterprise l e v e l . Reform at the enterprise level must address two concerns: the technological deficiencies of many industries and the attitudinal limitations of some sectors in the industry’s leadership. Domestic industries can upgrade their technology either through indigenous efforts or through transfers from foreign sources. To pursue the first alternative, they will have to put in more resources into R&D as well as make more active use of the many (as of yet) untested techniques developed by national engineers and sci-entists, including those from DOST. On the other hand, they can source modern technologies by importing new or best-practice

The ASEAN Free Trade Area The ASEAN Free Trade Area or AFTA had its objectives set during the fourth ASEAN Summit in Singapore in January 1992. The free trade area set for itself the abolition of tariff, quantitative restrictions, and other nontariff barriers among member-countries. The Association of Southeast Asian Nations (ASEAN) is composed of Indonesia, Malaysia, Singapore, Thailand, Brunei Darussalam and the Philippines. Under the agreement, ASEAN will bring tariffs down to 0 to 5 percent over the next fifteen years. Although primarily involved with trade, AFTA also covers cooperation in standards harmonization, reciprocal recognition of tests and certification of products, removal of barriers to foreign investments, macroeconomic consultations, rules for fair competition and promotion of venture capital. equipment from abroad or teaming up with direct foreign investments and joint ventures or linking up with these entities through various forms of licensing, franchising, marketing and technical service arrangements.

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DEVELOPMENT RESEARCH NEWS

Living with Inflation EPage 5 automatic adjustment of fixed incomes such as pensions during times of high inflation had a negative effect on the economy. A self-fulfilling mechanism was unleashed by built-in social indexing wherein expectations of increased prices fed on itself eventually causing higher rates of inflation.

Solutions to inflation Although the National Economic and Development Authority (NEDA) claims that inflation has been on the decline in the past 25 years, what consumers would really like to see are stable prices especially of basic goods - rice, sugar, meat, fish, transportation fare, to name the most basic. Nobody wants to live under the shadow of uncertainty. Is the creeping inflation that Filipinos are experiencing permanent or temporary? NEDA believes it to be temporary. The culprits: intimation of oil price increases and the artificial shortages of rice causing abnormal shocks in the price system. Persistent talks of a rice cartel have led people to ask whether government has appropriate policies to deal with this market structure. Government’s policy in case of distortions in the market has never been through price control as in the centrally-planned economies. Price control is a very short term solution that is resorted to in preventing major disasters into festering. It leads to disappearance in supplies and proliferation of the black market. Government's more positive response is to assure that supply lines are kept open. In the face of disasters, however, government must be prepared to provide relief goods and make sure the market functions. From a macro perspective, inflation can be reined if government narrows down the consolidated public sector deficit (CPSD), with a view of eventually balancing it. The CPSD

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The consumer price index The inflation rate is actually the rate of change in the consumer price index (CPI) measured on a year-on-year or month-on-month basis. So, what is the consumer price index? Popularized by the United States Department of Labor and adopted by almost all countries to quantify relative changes in the cost of living, the consumer price index is a measure of the change in the retail prices of goods and services weighted by the consumption pattern of the population. In other words, the CPI measures the changes in the average price level of goods and services that most people buy for their day-to-day consumption. The CPI is composed of a combined sample market basket cutting across income classes and regions. The samples are collected at various strategic points. Weights are given to the items in the market basket based on their relative importance to the typical household. Samples are collected on a weekly basis for food and fortnightly for nonfood items. The current base year of the index is 1988. The market basket used in the construction of the 1988 CPI for all income households is the combined baskets of the bottom 30 percent and upper 70 percent income groups and varies from region to region. Based on the results of the latest Family Income and Expenditures Survey, food is given the greatest weight in the CPI at 58.47 percent. This is followed by housing and repair (13.30 percent), services (10.90 percent), fuel, light and water (5.36 percent), and clothing (4.35 percent). consists of the outstanding debts of the national government, governmentowned and controlled corporations and some special accounts including the oil price stabilization fund (OPSF). The growth in money supply should always be consistent with the

demand for real cash balances. Reforms aimed at ensuring a low inflation regime should be continued. This includes import liberalization, lifting of the remaining tariffs on agricultural commodities, tariff reduction, deregulation, and privatization. DRN

Some Notes on Municipal... EPage 9 However, it must be emphasized that this is at best a temporary solution because to make a loan viable for both borrower and lender, all the costs associated with a loan must be accounted for. The danger is that the stabilization fund could deteriorate into a mechanism to provide credit subsidies and to shield the inefficient from the discipline imposed by the market. The best approach would be to

maintain sound fundamentals which will take away a lot of uncertainty and volatility in the economy. The bottomline, however, is that the viability of the LGU and the project for which financing is being sought will take care of the problems of risks. No amount of fancy financial engineering can make an unviable LGU and its project viable. DRN


DEVELOPMENT RESEARCH NEWS

The Philippines in AFTA ... EPage 17 Obviously, this problem has to be dealt with directly. Philippine industries must accelerate access to foreign technology via machinery for products in the matured portion of the product cycle. They must welcome foreign investments, joint ventures and other forms of foreign licensing. At the same time, they must shoulder the increasing load of R&D programs, particularly those that relate to applied research and experimental development. More than anybody else, they should know what they need to stay ahead of the competition. The private sector’s managerial leadership in general must be acknowledged for its historic contribution in building up the country’s industrial structure from the ground up and can now retire in a blaze of glory. In its place, a new legion of young and academically well-trained managers, unafraid of new ideas and willing to test out innovations, must be installed. This crop of leaders will be worthy successors to the pioneer group and will be most qualified to provide leadership to the private sector in the liberalized environment of trade in ASEAN.

Health Care Financing... EPage 11 include the setting up of communitybased financing programs, and the solicitation and maximization of the involvement of the private sector. Community financing may be defined as voluntary contributions made by individuals, families, or community groups to support the cost of health care services, particularly primary health care. The concept behind community financing is to organize people into a self-sufficient organization in the tradition of economic cooperatives in

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The government, clearly, has a critical role to play in this technological modernization of the private sector and the changing of the guards. The government should continue to provide the lead in R&D in fundamental research. It should also disseminate the efforts of the private sector in applied research or experimental development and should devote more resources to modernize institutions of higher learning, particularly laboratory facilities. Specifically, the government should accelerate the installation of cutting edge machinery and equipment in the electronic, electrical, mechanical, civil, chemical and other physical laboratories of the universities and the computerization of these institutions’ facilities. To achieve this, the government must extend to the universities all necessary assistance and incentives. Financial support should be made available to educate and train high level scientific and managerial manpower as called for in the programs of DOST. Government should also broaden and intensify its educational program at the lower levels as mandated in the Constitution. The determined implementation of these reforms will enable the Philippine economy to exploit the

opportunities for growth and development in AFTA and will permit the economy to maximize its gains and minimize its losses from the new trading framework. DRN

order to help them meet their basic health care needs. There is still a need to assess and finetune the following areas in community financing: utilization patterns of health services, the ability and willingness of community members to voluntarily contribute finances for health activities, and the role and involvement of nongovernment organizations (NGOs) in setting up such a system. The second option, soliciting and maximizing the involvement of the private sector, is vital in view of the following gains. By substituting private resources for currently used public resources, government can reallocate its public resources to areas of greater

priority (rural areas). The added resources that will be provided by the private sector will likewise expand the total amount of resources devoted to health care services. Lastly, the private sector may be counted on to exert some influence in securing the necessary reforms to improve the efficiency of public services.

References Asian Development Bank. Key Indicators of Developing Member Asia and Pacific Countries, various years. Azarcon, Chulia. "Tariff Liberalization Update: Issues and Concerns." Typescript. Quezon City: Philippine Tariff Commission, 1991. David, Cristina, Eliseo Ponce and Ponciano Intal, Jr. “Organizing for Results: The Philippine Agricultural Sector.” In Emmanuel de Dios and Associates Poverty, Growth and the Fiscal Crisis. Makati: Philippine Institute for Development Studies, 1993. de Dios, Emmanuel. "Technology Transfer by Transnational Corporations with Special Reference to Export Processing Zones and Science Parks (the Philippines)." Draft Copy. Quezon City: University of the Philippines, 1992. Jurado, Gonzalo. “Industrial and Trade Policy for Poverty Eradication” in de Dios and Associates, op cit. Medalla, Erlinda. "An Assessment of Trade and Industrial and Trade Policy, 1986-1988." PIDS Working Paper Series No. 90-07. Makati: Philippine Institute for Development Studies, 1990. National Statistical Coordination Board. Philippine Statistical Yearbook. Makati, 1993. National Statistics Office. Statistical series, various years. Computer printouts. Tariff Commission. Tariff Profiles of ASEAN, 1985. United Nations Economic and Social Commission for Asia and the Pacific. Statistical Indicators of Asia-Pacific Countries. Bangkok, 1992. World Bank. World Development Report. Washington, D.C., 1992.

The time to initiate reforms is now One of the expected outputs of this workshop is to design a viable planning model for an improved health care financing package. It is high time

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Philippine Institute for Development Studies NEDA sa Makati Building 106 Amorsolo Street, Legaspi Village 1229 Makati City, Philippines

Health Care Financing... EPage 19 we reform the health care service in this country to make it more responsive to the needs of the greater majority. As an economic manager, I have the firsthand experience to tell you that initiating reforms is not the easiest thing to do. In fact, people seem to have a particular aversion to the term "reform." I will give you an example. Over the past few years, we have been trying to improve the country’s economic performance through policy reforms. Despite the criticism of various sectors which want us to remain enclosed in a protectionist policy, we instituted macro reforms that liberalized trade and pulled down tariff walls. They said we are killing business; we said we are promoting competition. Today, just two years later, we find ourselves on the fast track with GNP figures improving every quarter and inflation levels within manageable levels. As we have always maintained, the initial reforms we have set were the foundation builders. They were difficult to set at first, but they were necessary to achieve what we have gained today. Today, we begin the same

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process but this time focusing on the health sector. I certainly hope the degree of success we achieved in setting the country on the road to economic recovery will be your experience as w e l l . DRN

Vol. XIII No. 5

September-October

1995

Editorial Board Dr. Ponciano S. Intal, Jr. President Dr. Mario B. Lamberte Vice-President

DEVELOPMENT RESEARCH NEWS is a bi-monthly publication of the PHILIPPINE INSTITUTE FOR DEVELOPMENT STUDIES (PIDS). It highlights the findings and recommendations of PIDS research projects and important

policy issues discussed during PIDS seminars.

PIDS is a nonstock, nonprofit government research institution engaged in long-term, policy-oriented research. This publication is part of the Institute's program to disseminate information to promote the use of research findings. The views and opinions expressed here are those of the authors and do not necessarily reflect those of the Institute. Inquiries regarding any of the studies contained in this publication, or any of the PIDS papers, as well as suggestions or comments are welcome. Please address all correspondence and inquiries to: Research Information Staff Philippine Institute for Development Studies Room 304, NEDA sa Makati Building, 106 Amorsolo Street, Legaspi Village 1229 Makati City, Philippines Telephone Numbers 892-4059 and 893-5705; Telefax Numbers (632) 893-9589 and 816-1091 Re-entered as second class mail at the Makati Central Post Office on April 27, 1987. Annual subscription rates are: P90.00 for local subscribers; and US$16.00 for foreign subscribers. All rates are inclusive of mailing and handling costs. Prices may change without prior notice.

Ms. Jennifer P.T. Liguton Director for Research Information Mr. Mario C. Feranil Director for Project Services and Development Ms. Andrea S. Agcaoili Director for Operations and Finance Atty. Roque A. Sorioso Legal Consultant

Staff Jennifer P.T. Liguton Editor-in-Chief Wilbert R. San Pedro Issue Editor Corazon P. Desuasido, Ma. Lourdes M. Salcedo, and Genna E. Manaog Contributing Editors Valentina V. Tolentino and Rossana P. Cleofas Exchange Delia S.Romero, Galicano A. Godes, Necita Z. Aquino and Federico D. Ulzame Circulation and Subscription Jane C. Alcantara Lay-out and Design

Living with Inflation  

2 Some notes on a 4 Living with inflation 6 Inflation forecasts 10 Health care financing by Gonzalo M. Jurado September-October 1995 ISSN 01...

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