Philippines: Staff Report for the 2016 Article IV Consultation
Author: International Monetary Fund. Asia and Pacific Dept
Publication Date:
26 Sep 2016
eISBN:
9781475541076
Language:
English
Keywords:
ISCR; CR; government; break; IMF staff projection; debt; monetary policy transmission; Bangko Sentral ng Pilipinas; output gap; short-term debt; bank credit; long-term debt; Public investment and public-private partnerships (PPP); Global
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This 2016 Article IV Consultation highlights that the Philippine economy has continued to perform strongly. Real GDP regained strength from a slowdown in mid-2015 to record a robust 5.9 percent growth rate in 2015 and 6.9 percent in the first half of 2016. Both consumption and investment grew rapidly, while net exports were held back by weak external demand. Job creation was also strong: the unemployment rate declined to 6.3 percent in 2015 and 6.0 percent in the first half of 2016. The outlook for the Philippine economy remains favorable despite external headwinds. Real GDP growth is expected at 6.4 percent in 2016 and 6.7 percent in 2017 on continued robust domestic demand and a modest recovery in exports.

Abstract

This 2016 Article IV Consultation highlights that the Philippine economy has continued to perform strongly. Real GDP regained strength from a slowdown in mid-2015 to record a robust 5.9 percent growth rate in 2015 and 6.9 percent in the first half of 2016. Both consumption and investment grew rapidly, while net exports were held back by weak external demand. Job creation was also strong: the unemployment rate declined to 6.3 percent in 2015 and 6.0 percent in the first half of 2016. The outlook for the Philippine economy remains favorable despite external headwinds. Real GDP growth is expected at 6.4 percent in 2016 and 6.7 percent in 2017 on continued robust domestic demand and a modest recovery in exports.

Context

1. The Philippine economy has performed well during the past several years and the strong macro fundamentals provide a solid foundation to meet the remaining challenges. Sound macroeconomic policies have delivered solid economic growth and reduced unemployment, low inflation, and financial stability as well as a strong fiscal position. However, underemployment and poverty rates have remained stubbornly high. Inequality remains among the highest in the region. Competition has been limited including by restrictions on foreign direct investment and by regulatory behavior.

A01ufig1

Philippines: Improvements in Economic Fundamentals

(In percent of GDP, unless otherwise indicated)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: Philippines authorities; and IMF staff estimates.
A01ufig2

Philippines: Poverty and Underemployment Rates

(In percent)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: Philippine authorities; and IMF staff estimates.1/ Data for 2015 is first semester estimate.2/ Data for 2009 and 2012 exclude the province of Leyte.

2. Poor infrastructure has constrained private investment and job creation, and residual excess liquidity from capital inflows following the Global Financial Crisis impede monetary policy transmission. The 2015 Article IV consultation called for increasing public infrastructure and social spending, financed by raising government revenues, to help reap the Philippines’ demographic dividend and lay the foundation for sustainable growth, along with structural reforms to increase competitiveness. Public infrastructure investment has accelerated recently but remains constrained by limited government revenue collection and incomplete public financial management (PFM) reforms, along with slow spending processes. BSP initiated an upgrade of their Interest Rate Corridor (IRC) system to improve monetary policy transmission.

A01ufig3

Overall Quality of Infrastructure, 2015-16

(Scale, 1-7; higher score indicates better infrastructure quality)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: World Economic Forum; and IMF staff estimates.

3. Rodrigo Duterte, Mayor of the Philippines’ third largest city Davao, was inaugurated as the new president in June, with a ten-point economic policy agenda calling for continuing prudent economic policies and a more ambitious inclusive growth and structural reform strategy. While primarily focusing on law and order, President Duterte tapped into a desire for change among a large part of the population to tackle the high levels of poverty and inequality that persists especially in rural areas despite years of robust economic growth. The President’s ten-point plan (Box 1) includes: accelerating infrastructure investment; raising competitiveness by relaxing constitutional restrictions on foreign direct investment; ensuring security of land tenure; strengthening the education system; implementing a comprehensive tax policy reform, modernizing tax collection agencies; and improving social welfare programs. The mission discussed the ten-point agenda with the new administration and provided a number of policy options to consider, as elaborated below.

Philippines: President Duterte’s Ten-Point Socioeconomic Agenda

  • Promoting law and order.

  • Continuing and maintaining current macroeconomic policies, including fiscal, monetary, and trade policies;

  • Instituting progressive tax reform and more effective tax collection while indexing taxes to inflation, in line with the plan to submit to congress a tax reform package by September;

  • Increasing competitiveness and the ease of doing business, drawing upon successful models used to attract business to local cities such as Davao, as well as pursuing the relaxation of the constitutional restrictions on foreign ownership, except with regard to land ownership, in order to attract foreign direct investment;

  • Accelerating annual infrastructure spending to account for at least 5 percent of GDP, with public-private partnership projects playing a key role;

  • Promoting rural and value chain development towards increasing agricultural and rural enterprise productivity and rural tourism;

  • Ensuring security of land tenure to encourage investment and address bottlenecks in land management and titling agencies;

  • Investing in human capital development, including health and education systems, as well as matching skills and training to meet the demands of businesses and the private sector;

  • Promoting science, technology, and the creative arts to enhance innovation and creative capacity towards self-sustaining and inclusive development;

  • Improving social protection programs, including the government’s conditional cash transfer program, in order to protect the poor against instability and economic shocks; and

  • Strengthening the implementation of the Responsible Parenthood and Reproductive Health Law to enable, especially, poor couples to make informed choices on financial and family planning.

Recent Developments, Outlook, and Risks

Macroeconomic developments remain favorable and the financial system is sound and stable, although there are risks. Economic growth continues to be strong as robust domestic demand offsets continued weak external demand. Inflation has been below the target band, reflecting low food and oil prices, but is expected to rise to the middle of the band in 2017. The fiscal and external positions are strong. Risks remain tilted to the downside including from global financial volatility.

A. Recent Developments

4. Growth and inflation. Real GDP regained strength from a slowdown in mid-2015 to record a robust 5.9 percent growth rate in 2015 and 6.9 percent in the first half of 2016. Both consumption and investment have grown rapidly, while net exports have been held back by weak external demand. Real GDP growth is projected at 6.4 percent in 2016 and 6.7 percent in 2017 on continued robust private domestic demand and higher public spending. Exports would recover only modestly, although worker remittances and receipts from Business Process Outsourcing would help cushion the impact of the weak external environment. The output gap is expected to remain near zero in 2016–17. Amid strong economic activity, inflation fell below the target band (3±1 percent) in 2015 and the first seven months of 2016 due to lower food and fuel prices, but is expected to return to within the target range later this year and in 2017 as commodity prices stabilize and strong economic activity continues.

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Contribution to GDP Growth

(In percent year on year)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: Haver Data Analytics; and IMF staff estimates.

Philippines: Output Gap Estimates Under Different Models

(In percent)

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Using IMF, WP/15/79 priors for EM countries in Appendix Table B2.

Using a specification with both real credit growth and real equity price growth with one lag.

5. Fiscal developments. The national government budget deficit reached 1.4 percent of GDP in 2015 based on IMF staff definition, below the 2 percent medium-term target because of slow budget execution early in the year. Budget execution improved thereafter reflecting enhanced public finance and procurement management, making the 2 percent deficit target attainable in 2016. This would imply a fiscal stimulus of 0.6 percent of GDP in 2016. Indeed, there are upside risks coming from better than anticipated budget execution and a higher deficit this year. The new administration plans to increase the deficit target to 3 percent of GDP starting in 2017, to raise infrastructure and social spending, implying a fiscal stimulus of 1 percent of GDP in 2017.

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National Government Balance

(In percent of GDP)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: Philippine authorities; and IMF staff estimates.

6. Macro-financial issues. Following the global financial crisis, the Philippines received sizeable inflows, both from remittances and portfolio investment, resulting in a buildup of reserves and persistent excess liquidity, and market interest rates have often been below the floor of the BSP’s IRC. These factors have kept effective borrowing costs at historic lows and fueled credit growth alongside real estate price inflation, albeit within a reasonable range. BSP’s macroprudential policies in 2014 on real estate lending and tightening of lending standards more generally moderated bank credit growth from 20 percent in 2014 to 13.6 percent in 2015. However, there has been some rekindling as credit grew by 17.6 percent in June 2016 (y/y), with credit to construction and real estate growing above 20 percent. This, and the rapid increase in corporate leverage, warrant close monitoring by the BSP.12 Financial intermediation by nonbank financial institutions, which are not regulated by the BSP, remains small but has grown rapidly in recent years. The Philippines’ stock of bank credit, at 39 percent of GDP in 2015, remains lower than in other emerging market economies, mainly reflecting still low access of households to formal financial institutions, suggesting a need for further financial deepening and inclusion. Capital flows and the exchange rate have not been significantly affected by recent bouts of global financial volatility compared to neighboring countries.

Philippines: Credit Developments

Credit growth has rekindled in 2016 after slowing in 2015. While most indicators suggest that credit growth remains below typical cutoffs for credit booms, the mixed signals provided by available indicators and the composition of credit growth across sectors warrant careful monitoring. The output gap remains near zero even when financial variables are considered in the estimation.

Credit growth has picked up in 2016. Credit growth moderated from 20 percent in 2014 to 13.6 percent in 2015 following the BSP’s decision to tighten monetary policy and raise bank reserve requirements in 2014. However, credit growth has rekindled to 17.6 percent in June 2016, especially for services (18.1 percent) and industry (17.5 percent). Moreover, credit growth for construction and real estate remained above 20 percent in June 2016, warranting close monitoring of credit developments for these sectors.

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Contributions to Banks Loans Growth

(In percent)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Source: IMF staff estimates.
A01ufig7

Bank Credit Growth by Economic Sector

(In percent)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Source: IMF staff estimates.

Credit growth remains below credit boom levels according to most but not all indicators. Staff updated last year’s estimates of credit booms.1 The approach of Mendoza and Terrones (2008), which looks at deviations of real credit per capita from trend, shows that credit growth remains in line with trend. The approach of Dell’Ariccia and others (2012), which looks at deviations of the credit-to-GDP ratio from a backward looking trend, also find no evidence of credit booms, with the growth differential between credit and GDP remaining below the 10 percent cutoff. However, the approach in Chapter 3 of the IMF’s Global Financial Stability Report of September 2011, shows that the increase in the credit-to-GDP ratio remains just below the 3 percent threshold for early warning of credit booms. Similarly, the approach of Drehmann and others (2010), which looks at deviations of the credit-to-GDP ratio from a Hodrick-Prescott trend with a high smoothing parameter, finds that the credit-to-GDP ratio barely exceeds the 10 percent of GDP cutoff in 2016.

A01ufig8

Change in the Credit-to-GDP Ratio

(In percent)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Source: IMF staff estimates.
A01ufig9

Credit Neutral Output Gap

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Source: IMF staff estimates.

Financial variables contain useful information about the business cycle position. Expansions coinciding with rapid credit and asset price growth are stronger, while recessions coinciding with credit and asset price busts are longer and deeper. Staff updated last year’s estimates of the output gap using the BIS approach that integrates financial variables (real credit and stock prices) into a broader measure of the output gap. The results indicate that the output gap in the Philippines in 2016–17 is near zero, although slightly positive, consistent with the recent pickup in credit growth.

1/ Chapter 2, Philippines—Selected Issues (IMF Country Report No 15/247).
A01ufig10

Bank Credit Growth and Credit to GDP

(In percent of four quarter rolling GDP)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: CEIC Data Company Ltd; and IMF staff estimates.
A01ufig11

Philippines: Residential Real Estate Price Index

(In percent year-on-year)

Citation: IMF Staff Country Reports 2016, 309; 10.5089/9781475541076.002.A001

Sources: Bangko Sentral ng Pilipinas (BSP).

7. External sector. The current account surplus fell to 2.9 percent of GDP in 2015 despite the large drop in fuel imports (by 1.3 percent of GDP), reflecting a deceleration in remittances, a decline in exports, and a large increase in imports of capital and intermediate goods. The current account surplus is projected to fall further in 2016–17 due to higher commodity prices and infrastructure related imports. The peso depreciated vis-à-vis the U.S. dollar in 2015 but by less than other regional currencies, and it has been stable in 2016. International reserves have remained broadly unchanged since 2012 at around US$80 billion (or 231 percent of the Fund’s reserve adequacy metric) and external debt declined to 27 percent of GDP in 2015.

B. Outlook and Risks

8. Outlook. Tables 1–8 present the staff baseline scenario with real GDP growth in the 6–7 percent range. Private credit growth is consistent with a normal pace of financial development over the medium term, remaining below estimated credit boom thresholds. This scenario assumes that the authorities implement fiscal and structural policies already committed (see Box 3), including the proposed new fiscal framework with a central government budget deficit of 3 percent of GDP in the medium term. The baseline does not include new tax policy measures being formulated, and thus the revenue-to-GDP ratio is likely to remain broadly unchanged at around 15½ percent of GDP alongside public investment at about 5 percent of GDP, which is still lower than most countries in the region.

Table 1.

Philippines: Selected Economic Indicators, 2011–17

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Sources: Philippine authorities; World Bank; and IMF staff projections.

Fund definition. Excludes privatization receipts and includes deficit from restructuring of the previous central bank (Central Bank-Board of Liquidators).

Includes the national government, 14 government-owned enterprises, social security institutions, and local governments.

Universal and Commercial Banks. The latest observation is June 2016 (year-on-year).

Secondary market rate. The latest observation in July 2016.

In BPM6. An increase in either assets or liabilities is always positive and a decrease is always negative. Net investment is assets minus liabilities.

Includes external debt not registered with the central bank, and private capital lease agreements.

In percent of exports of goods and nonfactor services.

Reserves as a percent of short-term debt (including medium- and long-term debt due in the following year).

Average January-June 2016.

Table 2.

Philippines: National Government Cash Accounts, 2011–17

(In billions of pesos, unless otherwise indicated)

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Sources: Philippine authorities; and IMF staff projections.

Projections include possible gains from tax administrative measures for 2015 and 2016.

Includes other percentage taxes, documentary stamp tax, and noncash collections. Noncash collections are also reflected as tax expenditures under current expenditures.

Includes privatization receipts as revenue and excludes the operations of the Central Bank-Board of Liquidators (CB-BOL).

Table 3.

Philippines: National Government Cash Accounts, 2011–17

(In percent of GDP, unless otherwise indicated)

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Sources: Philippine authorities; and IMF staff projections.

Projections include possible gains from tax administrative measures for 2013 and 2014.

Includes other percentage taxes, documentary stamp tax, and noncash collections. Noncash collections are also reflected as tax expenditures under current expenditures.

Includes privatization receipts as revenue and excludes the operations of the Central Bank-Board of Liquidators (CB-BOL).

Excludes privatization receipts from revenue.

Consolidated (net of national government debt held by the sinking fund) and excluding contingent/guaranteed debt.

Nonfinancial public sector includes the national government, CB-BOL, 14 monitored government-owned enterprises, social security institutions, and local governments. Debt is consolidated (net of intra-nonfinancial public sector holdings of debt).

Defined as the deficit, plus amortization of medium- and long-term debt, plus the stock of short-term debt at the end of the last period.

Table 4.

Philippines: General Government Operations, 2011–17 1/

(In percent of GDP)

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Sources: Philippine authorities; and IMF staff projections.

Based on GFSM2001. General government includes the national government, social security institutions, and local governments.

National government only. The expense item related to SSIs and local governments are not separately available and are included in the amount for expense not elsewhere classified.

Table 5.

Philippines: Depository Corporation Survey, 2011–17 1/

(End of period, in billions of pesos, unless otherwise indicated)

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Source: IMF, International Financial Statistics, and IMF staff projections.

It includes the Bangko Sentral ng Pilipinas (BSP), the accounts of the Central Government arising from its holdings of transactions with the International Monetary Fund, and Other Depository Corporations such as universal and commercial banks, thrift banks, rural banks, non-stock savings and loan associations and non-banks with quasi-banking functions.

Table 6.

Philippines: Balance of Payments, 2011–2017 1/

(In billions of U.S. dollars)

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Sources: Philippine authorities; and Fund staff projections.

In BPM6.

An increase in either assets or liabilities is always positive and a decrease is always negative. Net investment is assets minus liabilities. A negative financial account balance means that the change in liabilities is greater than the change in assets, while a positive financial account balance means that the change in assets is greater than the change in liabilities.

As a percent of short-term debt.

In percent of goods and nonfactor services exports.

Current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at the end of the previous period.

Table 7.

Philippines: Medium-Term Outlook, 2013–21

(In percent of GDP, unless otherwise indicated)

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Sources: Philippine authorities; and IMF staff projections.

Includes the national government, 14 government-owned enterprises, social security institutions, and local governments. Cash basis.

In BPM6.

Reserves as a percent of short-term debt (including medium- and long-term debt due in the following year).

Based on the depository corporations survey. In addition to universal and commercial banks, it includes thrift banks, rural banks, non-stock savings and loan associations and non-banks with quasi-banking functions.

Table 8.

Philippines: Baseline and Staff’s Preferred Scenarios, 2015–21 1/

(In percent of GDP, unless otherwise indicated)

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Sources: Philippine authorities; and IMF staff calculations.

The assumptions underlying the baseline and staff’s recommended scenario are presented in Box 2. Staff’s recommended scenario includes a tax reform that raises 3 percent of GDP in extra revenue over time, in increments of 1 percentage point per year starting in 2017. The extra revenue is used to finance additional social and capital expenditure by equal amounts. The larger fiscal multipliers of investment and social expenditure than that of taxes lead to an increase in real GDP growth of 0.5 percent relative to the baseline scenario in 2017-19, with growth increasing by another 0.1 percent in 2018 and 0.2 percent in 2019 due to crowding in of private investment and enhanced public investment efficiency. Over the medium term, growth rises to 8 percent in 2020-21 due to higher public and private investment, gains in productivity associated to the liberalization of FDI and reform of land titles, and faster employment growth due to labor market reforms. Inflation raises somewhat reflecting the demand stimulus partly offset by a tightening of monetary policy and higher potential growth, and the current account surplus declines because of higher investment and lower saving.

The estimated impact of the reforms included in the staff’s recommended scenario are based on Komatsuzaki 2016 (Improving Public Infrastructure in the Philippines, IMF WP/16/39) and Dabla-Norris and others 2015 (Structural Reforms and Productivity Growth in Emerging Market and Developing Economies, IMF WP/16/15).