This Selected Issues paper analyzes the factors behind the relatively strong performance of the Philippines in recent years (1990s) as well as the remaining reform agenda. The paper highlights that the Philippines has received considerable attention in recent years as it “emerged” in the early 1990s from a long period of slow growth and economic imbalances, and then managed to escape the “Asian crisis” relatively unscathed. The paper examines the public finances for the Philippines. It also analyzes the monetary sector, external sector, and the banking sector reforms.


This Selected Issues paper analyzes the factors behind the relatively strong performance of the Philippines in recent years (1990s) as well as the remaining reform agenda. The paper highlights that the Philippines has received considerable attention in recent years as it “emerged” in the early 1990s from a long period of slow growth and economic imbalances, and then managed to escape the “Asian crisis” relatively unscathed. The paper examines the public finances for the Philippines. It also analyzes the monetary sector, external sector, and the banking sector reforms.

I. Overview1

1. The Philippines has received considerable attention in recent years as it “emerged” in the early 1990s from a long period of slow growth and economic imbalances, and then managed to escape the “Asian crisis” relatively unscathed. This suggests that the reforms under way since the late 1980s, and intensified in the 1990s, have paid off, and are continuing to bear fruit with the help of skillful crisis management through the recent turbulence. By the same token, the pressure of recent shocks has put the spotlight on the remaining structural weaknesses that need to be addressed for sustained rapid growth and development. The Philippines’ recent experience may contain valuable lessons for emerging economies’ efforts at crisis prevention and crisis management, as well as for the country’s own policy choices at the threshold of the next decade. This paper describes this experience, focussing on the factors behind the relatively strong performance in recent years as well as the remaining reform agenda.


2. The economic situation in the Philippines deteriorated sharply in the 1980s, Roiled by economic policy mistakes, external shocks, natural disasters, and political instability, the economy suffered two setbacks that left real per capita income at the end of the decade about 7 percent lower than at the start. This performance contrasted sharply with that of other countries in the region, which resulted in the latter being called “Asian tiger” economies while the Philippines was often labeled the “sick man of Asia.”

3. The first half of the 1980s witnessed the collapse of the Marcos regime and the growth strategy pursued since the mid-1970s. Although growth averaged over 6 percent during 1975–80, it was accompanied by a large buildup of external debt, much of it to fund an expansion of the public sector. Easy credit encouraged excessive borrowing by private firms, and protectionist industrial and trade policies caused investment to increase mainly in import-substitution and nontradeable activities, undermining competitiveness. Serious governance problems, often characterized as “crony capitalism,” exacerbated the vulnerabilities. A series of external shocks in the early 1980s2 exposed these weaknesses and, compounded by domestic events,3 led to a major crisis with default on external obligations, widespread failure” of domestic banks and corporations, and a deep recession.

4. While the economy remained on a rocky path during the second half of the 1980s, this period witnessed important changes that paved the way for fundamental improvement in the 1990s. After growth bounced back during 1986–89 under a new government, the recovery faltered in 1990–91 under a string of natural disasters,4 external shocks, and renewed political instability. The setback was compounded by policy slippages, including a sharp widening of the fiscal deficit, lax monetary policy, and real currency appreciation, leading to a sharp increase in the current account deficit, a jump in inflation, and a near-balance of payments crisis in 1991. The repeat “boom-and-bust” cycle also reflected structural constraints including high import-dependence and a shallow domestic capital market. At the same time, however, the change in government in 1986 ushered in a new, democratic, and open political regime that, although initially plagued by instability, set the stage for the political stability achieved in the 1990s. The Aquino government also initiated outward-looking and market-oriented reforms that, although implemented only partially and not without setbacks, signaled a shift in policy direction on which the comprehensive reforms of the 1990s would build.

1990–96: Reforms bear fruit

5. The 1990s have witnessed impressive economic progress in the Philippines, reflecting sound economic policies in a more favorable external environment and greater political stability. By 1996, growth had accelerated to around 6 percent; inflation was down to 5 percent; and the external position had strengthened with rapid export growth and rising reserves. The new government led by President Ramos (1992–98) embraced a comprehensive reform strategy aimed at further opening up the economy, reducing macroeconomic imbalances, and addressing other structural rigidities. Under this program, supported since 1994 by an extended arrangement (EFF) from the IMF, the fiscal deficit was brought down sharply, privatization was accelerated, and the central bank was recapitalized under a new statute. A number of important sectors were opened to new competition (including banking, telecommunications, domestic shipping, and the oil sector), and limits on foreign participation were liberalized in various sectors. Quantitative import restrictions were removed (except for rice), and the average import tariff is now around 10 percent, one-third the level of the mid-1980s.

6. Notwithstanding the progress made, some barriers to sustained rapid growth proved difficult to uproot, and the Philippines’ arrival as a successful emerging market economy entailed new vulnerabilities. The lingering structural problems included low domestic savings; limited progress in addressing long-standing public sector issues such as weak tax collection, and civil service and local government reforms; weaknesses in the banking sector; and the continued high incidence of poverty. Many of these problems reflected the legacy of the past as unequal income distribution, past heavy regulation of the economy, and the degradation of governance under the Marcos regime created powerful interest groups resisting the reform efforts designed to level the playing field. The acceleration of growth, investment, and capital inflows experienced in the mid-1990s masked these shortcomings, but also heightened the economy’s vulnerability to the eventual shift in market sentiment. The de facto pegging of the peso to the U.S. dollar in late 1995 added to the risks by encouraging rapid growth of short-term capital inflows.

7. Thus, on the eve of the Asian crisis, the Philippine economy was vulnerable, albeit less so than the most heavily affected neighboring countries. By mid-1997, the peso had appreciated by over 25 percent in real effective terms since 1993 (nearly 40 percent since 1990), and the external current account deficit had widened to over 5 percent of GNP (with a trade deficit of about 13 percent). Large external borrowing in 1996, especially by banks, had raised foreign currency debt exposures, including on short-term debt which, at around $10 billion, was about equal the level of usable gross official reserves. Private sector credit had expanded very rapidly during 1995–96, including a significant rise in credit to real estate and consumption. While these developments had increased the economy’s vulnerability, the Philippines was less susceptible to a sudden downturn than most other East Asian economies. In particular, the period of rapid credit expansion and debt accumulation in the Philippines was much shorter than elsewhere, resulting in lower levels of corporate leverage; major banks were well capitalized; and the structural and political reforms under way since the mid-1980s had created a more open, market-oriented, and competitive system that was able to resist the type of systemic collapse witnessed elsewhere. Both government and the private sector had significant experience with crisis management, and a flexible policy response to the unfolding crisis was facilitated by the close policy dialogue under the existing arrangement with the IMF.

1997–99: Crisis management

8. From early 1997, economic conditions deteriorated as the regional downturn interacted with the country’s own vulnerabilities. A decline in capital inflows and a slowdown in manufacturing output combined with sharp falls in the stock market and mounting pressures on the peso. The authorities initially responded by tightening monetary policy and by intervention to maintain the de facto peg of the peso. When this stance became unsustainable in the aftermath of the float of the Thai baht, the peso was floated on July 11, accompanied by a strengthening of fiscal, monetary, and structural policies. The new program was supported by augmentation and extension of the EFF (scheduled to expire in mid-1997), followed by a new two-year stand-by arrangement in early 1998.

9. The authorities’ strategy focused initially on stabilizing the situation through relatively tight monetary and fiscal policies; as stabilization took hold, the stance shifted gradually toward supporting recovery. The program also comprised a set of key structural reforms to underpin stabilization and medium-term growth prospects. Monetary policy during this period would “lean against” pressures in the exchange market by raising interest rates, without, however, attempting aggressively to resist market forces. Likewise, the Bangko Sentral would intervene in the exchange market to provide liquidity and restore calm during periods of extreme volatility, but refrain from large-scale intervention to defend any particular level of the rate. As the peso began to stabilize during the second half of 1998, interest rates were brought down, very cautiously at first in view of the still unsettled external environment and the relatively high rate of inflation. The monetary stance became more fully supportive of recovery in early 1999 as the turnaround in the balance of payments was firmly established and inflationary pressures abated. Fiscal policy was also adapted gradually to the slowdown in output and the associated revenue shortfall: from a pre-crisis target for 1998 of a fiscal surplus of 1 percent of GNP, the program was revised several times to an eventual deficit target of 3 percent of GNP. Structural reforms under the program, in addition to completing the agenda of the Ramos administration (oil deregulation, tax reform, and continued trade liberalization), focused on strengthening the banking sector and improving tax administration, both key to the stabilization and medium-term growth objectives.

10. Financial markets remained volatile for the next year or so, reflecting both external and domestic developments. Several waves of external shocks put further pressure on the peso and equity prices. The collapse of the Korean and Indonesian economies brought the peso to a low of

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46 per U.S. dollar in January 1998 (a 44 percent depreciation from mid-1997). After a brief recovery in early 1998, the deterioration in Japan coupled with uncertainties over the policies of the newly elected Estrada government caused a new downturn over the summer that culminated in the emerging market crisis in September5 (with the stock market index falling below 1,200, compared with the high of over 3,400 in January 1997). Since then, however, financial markets have strengthened continually, with equity prices up more than two-fold; peso appreciation and a large increase in official reserves; and interest rates declining to below precrisis levels.

11. Economic activity began to stall in the second half of 1997, followed by a slight recession in 1998. After growing by 5.2 percent in 1997,6 real GDP dropped by 0.5 percent in 1998, weighed down by a severe drought that reduced agricultural output by over 6 percent. Industry also declined (by 1.7 percent), while services remained relatively buoyant (growing by 3–5 percent). On the demand side, growth was supported by continued strong export growth (20 percent in volume terms) which was one of the key factors distinguishing the Philippines’ adjustment experience from that of its neighbors. Private investment, however, fell sharply, and unemployment rose to over 10 percent. Reflecting the impact of peso depreciation and a drought-related increase in food prices, inflation reached 10.4 percent by year-end. In the external accounts, 1998 witnessed a dramatic turnaround in the current account, to a surplus of nearly 2 percent of GNP, on the strength of continued export growth while imports fell sharply.

12. Following the upturn in financial markets, the real economy also bottomed out in early 1999. Led by a recovery in agriculture, first-quarter real GDP grew by 1.2 percent, and by the second quarter there was evidence of bottoming out in other sectors as well. Thus, on balance, the Philippine economy has been able to weather the regional crisis better than most of its neighbors, reflecting more favorable starting conditions as well the pragmatic implementation of sound economic policies. That this has been achieved during a period of political transition7 testifies to the resilience of the Philippine economy and the consensus for sound economic policies.

Remaining challenges

13. While policies pursued over the past decade have had major positive results, events over the past two years have highlighted that much remains to be done. The task is not only to restore the momentum of growth and investor confidence of the mid-1990s, but also to sustain it through policies that prevent a return to the boom-bust cycles of the past while ensuring the Philippines’ full and competitive participation in the global marketplace. Against this background, and considering the policy agenda into the next decade, two aspects stand out. First, to deal with the still quite pervasive legacy of the past, such as low savings, widespread poverty, accommodation of rent-seeking activities, and a weak public sector. And second, to successfully manage the new challenges of globalization, allowing the country to fully partake of the benefits of integration while minimizing the associated risks of excessive leverage, currency overvaluation, and sudden capital flow reversals. In particular, this agenda includes:

  • maintaining prudent macroeconomic policies, with emphasis on avoiding fundamental inconsistencies that risk disruptive shifts in capital flows;

  • raising domestic savings and investment from the current unsustainably low levels;

  • further leveling the playing field through domestic and external liberalization, as well as effective programs to assist the poor and to enhance the opportunities of the disadvantaged;

  • streamlining and strengthening the public sector, a traditional “Achilles heel” of the economy;

  • further strengthening prudential, supervisory, and debt resolution frameworks in the financial and corporate sectors (including paidential-based management of foreign currency risk); and

  • improving further the investment climate, including by strengthening governance and “economic security.”

14. In a wider sense, successful implementation of this agenda will need to be embedded in a continuous strengthening of Philippine democracy and its institutions, to overcome elements of stagnation such as a weak judicial system; corruption in public administration; concentration of control over economic resources, the media, and the political process; and rapid population growth.

* * * * *

15. The chapters that follow cover a range of topics, reviewing the issues that have arisen as the Philippines has progressed from a major crisis case in the 1980s to a successful emerging market in the 1990s. Chapter II examines the evolution of output growth and the factors that have contributed to its acceleration in the 1990s, as well as the remaining structural barriers to sustained rapid growth. Chapter III reviews fiscal developments and the various reforms that have been implemented to put the public finances on a sounder footing, and discusses the remaining weaknesses in public sector management which have been brought to the fore by the recent economic slowdown. Chapter IV considers the conduct of monetary policy, describing inter alia the evolution of the central bank from an institution with limited independence, a weak balance sheet, and underdeveloped instruments of monetary control to a modern, independent, and financially sound “Bangko Sentral.” Chapter V describes external sector developments and prospects, reviewing the structural transformation that has occurred, and is still under way, in the external accounts; the section also evaluates external competitiveness from a variety of angles, and looks at the medium-term outlook and the related policy issues. Chapter VI reviews the development of the banking sector in the Philippines, describing how it has “emerged” as an increasingly sophisticated market in the 1990s while outlining the reform challenges that remain. A final chapter discusses social issues, reviewing in particular the impact on poverty of accelerating growth in the 1990s.


Prepared by Markus Rodlauer.


Including the second oil price shock, a hike in world interest rates, recession in industrialized countries, and the Latin American debt crisis.


A financial scandal in 1981 and the assassination of Ninoy Aquino in 1983.


Including a major earthquake, drought, and a volcanic disaster.


Following the introduction of capital controls in Malaysia and Russia’s default on part of its government debt.


On a seasonally adjusted quarter-to-quarter basis, real GDP growth decelerated sharply in the second half of 1997 (to an annual rate of 1½ percent).


Presidential and legislative elections were held in May 1998, and President Estrada, his government, and a new Congress took office in July.