Manufacturing versus services

“The Philippines shall transform into a vibrant services-oriented economy driven by the enlargement of a well-educated broad middle class.” This is the supposed Arroyonomics vision verbalized by Joey Salceda some months ago. Joey couldn’t have been clearer in declaring manufacturing all but marginal in his game plan, as the country focuses on a services sector where it is presumed, we have definite comparative advantage.

It isn’t just Joey. When I asked then DTI Secretary Mar Roxas where our comparative advantage is, he also thought it was clearly in the services sector. They are talking here of business process outsourcing, call centers, medical tourism, medical transcription, tourism in general and similar activities involving people rendering services versus factories making actual goods. Knowing your comparative advantage is critical in a world characterized by globalization.

In one of his many Powerpoint presentations articulating what he thinks should be the economic framework of the Arroyo administration, Joey announced “a new business model – growing without industrialization.” With services now at 55percent of nominal GDP, Joey pointed out, our future will continue to depend on service-oriented sectors for growth in output, jobs and incomes.

It is a no-brainer for Joey. “Competitive disadvantages of the Philippines were magnified by the entry of China into WTO in 2002 and aggravated by dysfunctional domestic politics.” Furthermore, our power costs are 3rd highest after Japan and Cambodia and PPA costs start to fall only by 2020 since IPPs are frontloaded. He also cited China’s 13 percent rebate to exports, cheap labor and that that further sweetened by an undervalued yuan estimated by at least 60 percent.

Clearly, Joey inisists, the Philippines should forget manufacturing and concentrate its efforts on a new business model that requires a new worldview focusing on services sector. “Current strategy is already in the correct direction but needs to be sharpened to optimize opportunities arising from the unique circumstances of the Philippine economy in the global market.”

So, is Joey’s strategy really the way to go? Is it viable for the long term?

Dr. Josef Yap, president of the Philippine Institute of Developmental Studies (PIDS) and economic seer, doesn’t think so. In a paper entitled “Is a breakthrough in the horizon?” Dr. Yap points out that there are issues that make that breakthrough elusive. “The crucial issue is whether the services sector can be the main source of high and sustained economic growth defined as seven to 10-percent GDP growth for an extended period, usually 10 years.”

“The overall outlook,” Dr. Yap predicts, “is a higher economic growth in 2007 but without a significant breakthrough for the economy.” I guess he is saying in so many words that Joey’s 7-8-9 (GNP growth rates in the next three years) plan based on a downgrade of manufacturing in favor of services, is in all honesty, a pipe dream.

Foremost of these issues, Dr. Yap points out, is the decelerating performance of the manufacturing sector—a critical factor that will keep a breakthrough in the economy at bay. Dr. Yap attributes this to the sector’s narrow base. He thus prescribes the expansion of the manufacturing base because “recent studies have shown that diversification of the economy, particularly the manufacturing sector, is a necessary condition for rapid economic development.” He emphasizes the primacy of manufacturing as an engine of growth and that it should not be abandoned in favor of the more prolific services sector.

Dr. Yap’s paper observes that the Philippines seems to be emulating the example of India as demonstrated by the growing number of call centers throughout the country. “However, as noted by ADB in a 2005 report, only a small proportion (about four percent) of the total labor force in the Philippines, just like in India, is absorbed by the IT and IT-enabled services (ITES) sectors simply because majority of the applicants have failed to meet the skills that the positions demand.”

In India’s case, the share of the services sector grew from 40 percent to 52 percent of GDP, accounting for 63 percent of cumulative increase in GDP from 1991 to 2005. A large portion of this growth was attributed to India’s ITES sectors, which were able to capture the increased demand from the US and other developed countries for this type of services.

But, Dr. Yap’s paper points out, while their double-digit GDP contribution may have been nothing short of astonishing, for a huge fraction of the Indian population, the glass is viewed as ‘half-empty’. This is because only a small proportion of the working population is absorbed by these sectors. The ITES sectors cater only to the very few educated and young upwardly mobile professionals, and offer limited opportunities for low-skilled and semi-skilled workers that constitute a huge bulk of India’s poverty-stricken regions. That sure sounds like our situation too.

Furthermore, it was pointed out, the nature of jobs outsourced to India “create little or no intellectual property for Indian firms. With few barriers to enter or to exit, these jobs will shift to other countries for the same reasons they moved to India”. Hence, fears about this growth being unsustainable may not be unfounded.

Dr. Yap’s paper compared our performance to our ASEAN neighbors. “Compared to Indonesia , Malaysia, and Thailand, only the Philippines failed to increase the share of the manufacturing sector between 1980 and 2005. It is no coincidence that it had the lowest economic growth rate during this period. The employment shares of agriculture, industry, and services in the Philippines stood at 37, 15, and 48 percent, respectively, while manufacturing accounted for only 9 percent. These data indicate problems not only with the size of the manufacturing sector but also with its weak ability to absorb labor from the agriculture sector since the share of industry has been stagnant for at least 25 years.”

So, Dr. Yap asks, what kind of policies should be implemented to turn around the moribund manufacturing sector? “Ideally, they should be those that promote diversification of production activities into new areas, facilitate restructuring of existing activities, and foster coordination between public and private entities to make all of these happen.”

In more concrete terms, our new found strength in IT should be harnessed to upgrade manufacturing, improving its productivity and competitiveness. It cited a study in India that points out “for countries with low-levels of per capita income like India, where the demand for manufactures is going to remain high for a very long time, the contribution of manufacturing cannot be ignored or overly emphasized.”

Dr. Yap’s piece is a reminder of the urgency for more immediate steps to revitalize the manufacturing sector, and the need for more in-depth analyses of the actual potential and sustainability prospects of the country’s services sector. In other words, Joey’s new business model isn’t as much of a no-brainer strategy as Joey’s presentations make them out to be.

It would now seem that it’s premature to declare the manufacturing sector irrelevant to our country’s development. Let not the fast growth of call centers and other ITES ventures lull our policy makers into believing that there is this easy way to development via ITES that would allow us to neglect manufacturing until it simply vanishes from our landscape.

That’s real food for thought that challenges conventional wisdom… even for me.
Birth control
Here’s Dr. Ernie E.

“I’ve got to get to the doctor and renew my prescription of birth control pills. I can’t afford to get pregnant!” said Rita to Nancy.

“But I thought you said your husband had a vasectomy,” Nancy replied.

“He did. That’s why I can’t afford to get pregnant.” –Boo Chanco, The Philippine STAR

Boo Chanco ‘s e-mail address is bchanco@gmail.com