Positive outlook: The economy is well-positioned to generate ongoing growth

In the third quarter of 2013, the Philippines was one of the best-performing economies in the region, second to China (7.8%) and outpacing Indonesia (5.6%), Vietnam (5.1%), Malaysia (5.0%) and Thailand (2.5%). Its GDP was up 7% year-on-year, the fifth consecutive quarter that growth was at least 7%. The Philippines has been laying the groundwork for this over the last few decades. The country has been slowly tackling its problems and putting into place much of what is now underpinning expansion. Indeed, the Philippines’ economy has been doing reasonably well for many years.

SLOW & STEADY: While other countries in the region may have been taking the spotlight as top performers, the Philippines has been recording steady growth. In 2012, the Philippines’ nominal GDP reached P10,565trn ($254.62bn), up 8.8% on the P9706trn ($233.9bn) posted in 2011. The country has not had a serious annual drop in GDP since 1985, experiencing only minor setbacks in 1991 and 1998 (GDP declined 0.58% in both instances). Going forward, expectations are positive. While the IMF has been reducing growth forecasts in the region, the organisation’s 2014 prediction for the Philippines is staying stable at 6%.

What has become apparent over the long term is that the Philippines has a relatively balanced economy, one that is not overly dependent on any single source of growth. Exports, minerals and tourism are important, but the fortunes of the nation are not reliant on any individual sector. Unlike its neighbours, which rely on many of the same sectors as the Philippines, the local economy has two more growth drivers that further hedge against downturns: business process outsourcing and remittances from overseas Filipino workers (see analyses). Although many economies in the West remain sluggish and the markets of the East have been challenged by volatility caused by hot money flows, the Philippines has been at least partially insulated from these issues. While it has missed out on some of the booms enjoyed in South-east Asia, especially those related to exports, electronics and investment, it has also avoided some of the busts. Like many emerging market economies, the country has been, and will likely be further affected, by the current economic turmoil in the West. A recent example is the drop in the value of the peso, which fell by about 5% following indications that the US Federal Reserve would begin lessening its economic stimulus programme. But the sense is that any currency losses will be limited due to the diversified nature of the Philippine economy. The peso has in fact stabilised since potential quantitative easing tapering was first announced in May 2013.

NEW OPPORTUNITIES: Observers point out that a new development in the country promises to help the Philippines sustain its high growth rates. The government is now placing greater emphasis on transparency and corporate governance, and the expectations are that this new push will gain traction and have a lasting effect. Many say that the election of President Benigno Aquino III in 2010 was a watershed event in this respect. They argue that while much attention was paid before to transparency issues, the tone from the top changed considerably under the leadership of the new president, and most of the nation, from individuals to civil servants, support the push towards a more open, fair and just economy. In September 2013, President Aquino reiterated that the success of his government’s anticorruption policies should not only be measured by improving conditions, but also by the number of successful convictions of those accused of corruption.

TURNAROUND: In the Transparency International’s 2010 Corruption Perception Index, the Philippines was ranked 134th, tied with countries like Ukraine and Sierra Leone. However, in just two years the country had jumped nearly 30 rankings and took the 105th place in the 2012 edition of the index. Transparency International noted that, although corruption is still a major issue, the Philippines was one of only two countries in Asia where the level of corruption was decreasing.

The Philippines’ also gained ground in the World Bank’s 2013 “Worldwide Governance Indicators”, moving from the 26th position to 33rd in the control of corruption category. Another noteworthy improvement is the Philippines’ advancement in the political stability category from a ranking of 9.9 to 14.7.

Importantly, key members of the Filipino business community have also joined in the campaign, and this is seen as critical in making any reforms effective and lasting. For example, the Makati Business Club (MBC), an influential organisation of local business leaders, is fully supporting change. In July 2013, the MBC hosted a citizen engagement forum along with the Coalition Against Corruption entitled, “Power Shift: How you can hold your government accountable”. Analysts say that this level of participation is vital and it will help ensure that ideas and buzz words translate into real policy and action. Rogier van den Brink, lead economist for the poverty reduction and economic management department for the East Asia and Pacific region at the World Bank, told OBG, “This is the country’s best shot at tackling corruption in a long time, probably since the 1950s.”

EXTERNAL INFLUENCES: According to the World Bank, in 2012 services represented about 56.9% of the country’s GDP, while industry made up 32% and agriculture accounted for 11.1%. While some Asian countries may be heavily dependent on exports, this is clearly not the case for the Philippines, whose exports were 48.4% of GDP in 2012. The diversified economy is in contrast to the economic mix of many of the Philippines’ regional peers. Thailand’s exports are 78% of GDP, Malaysia’s 87% and even Indonesia’s are 32%, leaving these countries highly exposed to downturns in export markets.

The Philippines’ exports are also relatively varied. While electronics is the biggest component of the export total, the IMF reports that this segment has dropped as a percentage of total exports from 73% in 2000 to 49% in 2012. A number of other items now make up the bulk of exports, including key products such as woodcrafts, furniture, chemicals, machinery and coconut oil. Strong export growth is being reported in some of these product categories, for example the overseas sales of machinery and transport equipment grew by 125% between 2011 and 2012, according to the National Statistics Office. At the same time, resources are important but not a major part of the export equation. In 2012 just over 4% of the country’s exports are from the mineral sector, 1.8% from petroleum and 1.6% from other agro-based products.

BENCHMARK INDICATORS: Positive changes in the country can be seen in the benchmark metrics. International reserves as a percentage of external debt have risen from 4.1% in 1985 to just over 139% in 2012. Debt service burden as a percentage of export shipments has been dropping over time from a high of 61.1% in 1985 to 12.7% in 2012. Government debt as a percentage of GDP fell from 73.8% in 2003 to 49.5% in the first half of 2013. Having hit a high of 50% in 1984 and spiking again to 19.4% in 1991, the inflation rate has fallen consistently since then, down to 3.2% in 2012. Unemployment, which had previously fluctuated in the 10-14% range in the early 2000s, has been running between 7% and 8% since 2006. The country has also been reporting fiscal successes. As of September 2013, the Philippines incurred a deficit of P101.2bn ($2.44bn), 3% lower than 2012’s P103.9bn ($2.5bn) and 30% lower than the P144.5bn ($3.48bn) programme for the period. The healthy fiscal performance was bolstered by solid revenue growth amid strong expenditures. These strides in lifting major indicators have not gone unnoticed. The Philippines made a clean sweep of getting its credit rating upgraded to investment grade, with upgrades coming from Fitch Ratings in March 2013, Standard & Poor’s in May, and Moody’s in October.

GREATER TRANSPARENCY: Many of the country’s economic gains are likely partially the consequence of changing attitudes. In Nielsen’s “Global Consumer Confidence Survey” for the second quarter of 2013, Filipinos ranked as the second most optimistic about their financial position, behind neighbouring Indonesia. This is likely to have a number of positive effects on the economy, including increased consumer spending and more hiring. Furthermore, the results showed that seven out of 10 Filipinos were saving at least some of their spare cash, and that much of these funds were being invested in the stock market, suggesting positive long-term prospects for local businesses.

There are also indications that perceptions are changing regarding the transparency of business operations. More companies, for example, are seeking credit ratings than ever, according to Philippine Rating Services, and they are getting these ratings done not because they are going to issue debt, but because they want to be known for being transparent. The trend is now to get ahead of the story and take a leadership position rather than hiding and avoiding scrutiny. This has the potential to improve the confidence in institutions and boost morale of everyone down the line. But the new push toward fairness and equity is also bringing practical benefits. It has resulted in real changes that have had a concrete impact on the state of the economy.

The government is also doing its part to encourage greater transparency, and recent work on improving taxation is a good example. According to the Bureau of Internal Revenue (BIR), self-employed professionals like doctors, lawyers and engineers were found to be grossly underpaying taxes. In total, this group of 1.7m people remitted P24.6bn ($592.8m) in taxes in 2010, whereas P7.4bn ($178.3m) came from income tax remitted directly by individuals, and P17.2bn ($414.5m) was from creditable withholding at source on individuals, according to the BIR. In January 2011 the BIR issued Revenue Memorandum Order No. 3-2011 requiring an audit of the professionals concerned. The response has so far been good, with business leaders vowing to improve compliance and the BIR saying that the drive for better reporting has resulted in higher collections.

FDI NEEDED: Bernardo Villegas, economics professor at the University of Asia and the Pacific, believes that the conditions are now right for an economic transformation and that there could be a strong surge of foreign investment. If industry can expand and close the gap with the service sector, he argues, the very nature of the economy can be altered and the country can be more like its regional peers. He notes, however, that steps need to be taken to guarantee that the envisioned scenario becomes a reality. Infrastructure must be improved, more special economic zones (SEZs) need to be created and, significantly, foreign investment limits in the constitution need to be revisited. Other observers and participants largely agree that the country is on a path toward prosperity, but the overall argument in favour of the Philippines is seen as depending on several reforms and major policy initiatives.

BEHIND: The Philippines was able to attract $2.8bn in foreign direct investment (FDI) in 2012, up 54% from the previous year. Compare this, however, to regional competitors such as Singapore, which attracted $56.7bn in FDI in 2012; Thailand, $8.6bn; Vietnam, $8.4bn; and Malaysia, $9.8bn, and attracting more FDI remains a key challenge for the Philippines. According to the Asian Development Bank (ADB), the ASEAN-6 – consisting of the six-largest ASEAN economies: Indonesia, Malaysia, Philippines, Vietnam, Singapore and Thailand – attracted a total of $111.3bn of FDI in 2012. The Philippine government and local economists say that the slower FDI to the Philippines is the key difference between it and the historically faster-growing economies of Southeast Asia. Villegas suggested that GDP could expand 8% to 10% annually and maintain that rate for a decade if the right steps are taken. He told OBG, “We should be able to replicate what China and Vietnam have been able to do once reforms are put into place in terms of liberalisation and good governance.”

Several factors contribute to the Philippines’ relative lack of FDI. For one, the country is not an easy place for investors. The Philippines performed poorly in the World Bank’s 2013 “Doing Business” survey. The government, cognisant of the need to improve, created the Ease of Doing Task Force to oversee the improvements required in the regulatory processes and policies being measured in the survey. For the 2014 survey, the Philippines showed a significant turnaround by moving 25 places to 108 out of 189 from the previous year’s 133 out of 185. The Philippines notably gained in seven out of 10 indicators and was the most improved economy in the world. Its “resolving insolvency” ranking was up 65 places from 165 to 100, its “getting credit” placement moved from 129 to 86, “getting electricity” from 57 to 33, “paying taxes” from 143 to 131, “trading across borders” from 53rd to 42nd, “dealing with construction permits” from 100 to 99, and “registering property” from 122 to 121.

NEGATIVE LISTS: The country has at times been particularly hostile towards foreign investment and has actively blocked endeavours by global players. In January 2013 the Court of Appeals ruled that Federal Express is a utility, and because foreign companies are prohibited from operating utilities in the Philippines, the courier company’s freight-forwarder permit was rescinded. In another example, Manila Water (which has foreign shareholders) has been challenged by consumer groups over how expenses, including taxes, are charged to the firm’s customers. Supporters of the company say that everything done is within the concession contract and that any action taken against the firms could scare away foreign investors.

The laws restricting foreign investment are seen as onerous but appear set to stay. All professions, from accounting to optometry, are reserved for locals under the constitution, as are mass media, small mines and the manufacture of pyrotechnics. Sectors allowing more but still limited foreign participation include advertising, public utilities, the exploitation of natural resources and Securities and Exchange Commission-regulated finance companies. Another list prohibits foreign ownership of security and defence-related industries, small firms and any business that could be harmful to public morals. Even for those sectors in which foreign investment is allowed, nearly all areas have equity ownership limited to between 25% and 40%.

EVEN MORE: In October 2012, the president signed Executive Order 98, otherwise known as the ninth foreign investment negative list, which added real estate services, respiratory therapy and psychology to the professions solely limited to Filipino nationals. Foreign business people, represented by the Joint Foreign Chambers of the Philippines, said in November 2012 that the country is unnecessarily restrictive and that this may be one of the key factors limiting FDI. They noted that over the past 20 years only two sectors have experienced any sort of opening: gambling and retail. The Retail Trade Liberalisation Act of 2000 allowed well-capitalised foreign investors to open shops in the country, while gambling was allowed within SEZs.

Critics point out that with so many key areas either partially or fully blocked, and so many restrictions placed on foreign companies operating in the country, that despite its good fundamentals and prospects, the Philippines is receiving relatively little FDI. The international business community suggests that the government look into areas where the prohibitions are by law rather than constitutional, as laws can be amended more easily than the constitution. Local leaders counter that any market openings must be done with great care, ensuring that liberalisation occurs in sectors where capital is needed and is undertaken in a way that creates more jobs than it destroys. Despite concerns, the IMF encourages further opening of the economy indicating that, “relaxing limits on foreign ownership could substantially raise FDI and increase competition in key sectors,” in its 2013 Article IV consultation for the Philippines. The government’s economic team has supported calls to further open up the country to foreign investment.

INFRASTRUCTURE NEEDS: The other significant impediment to foreign investment, and for that matter long-term economic growth in general, is the state of infrastructure in the country. According to critics at home and overseas, the poor state of the roads, power systems, bridges, canals, airports and sea ports is one of the major bottlenecks for the country (see Transport chapter). The 2013 “Global Competitiveness Report” rates infrastructure in the Philippines as the second-worst in the ASEAN-6, ahead of Vietnam, which ranked 110th. In the World Economic Forum’s Enabling Trade Index 2012, the Philippines was ranked 72 overall out of 132 countries and 91 in terms of transportation and communications infrastructure, the lowest ranking out of the ASEAN-6. To close the infrastructure gap, the government is targeting spending on infrastructure from the current 3% of GDP to 5% by 2016. In the first half of 2013, spending on infrastructure and other capital projects jumped 38.5% year-on-year. While some people may complain about the slow pace of awarding new contracts, much of the delay is the result of the administration ensuring that work is awarded fairly. The hope is that infrastructure spending can improve the economy on at least two fronts. It will stimulate growth in the near term as projects are implemented and bring higher growth rates as a result of better transport and communication.

GET TOGETHER: Inclusiveness is another area that needs attention. The government is aware that in order to achieve sustainable growth, the entire country must be engaged. Foreign investors and the wealthy cannot be solely responsible for driving the economy over the long term, and the alleviation of poverty and development of the middle-class must be promoted. Consumers are already an important component of growth. Household spending represents 74% of GDP, and according to the World Bank, they have very little debt and are consistently purchasing more. It is also expected, given that the population is young and literate, that the consumer will remain a pillar of the economy even if investment grows as a percentage of a whole.

WEAKNESSES: In the latter half of 2013, underlying weaknesses started to take their toll. GDP slowed, dropping to 7.5% in the second quarter and to an estimated 6.9% in the third quarter, while full-year growth is seen by the ADB as coming in at 6.1% (down from 6.8% in 2012). Much of the drop has been attributed to typhoon activity and conflict with separatists, but global instability likely contributed as well.

OUTLOOK: The prospects for the Philippines’ economy are good, and in some ways better than for many of its more extolled neighbours. The current government’s push for greater transparency has been having a positive effect on the domestic business climate and has helped improve the quality of information available about local businesses. With a relatively diversified economy, the country is largely sheltered from both internal and external risks, but improving infrastructure will be critical for boosting both domestic growth and FDI inflows. The economy’s strong fundamentals have received the recognition of the IMF and international credit ratings agencies; however, greater investment will be key to unlocking the country’s full potential.