Worthwhile investments

MANILA, Philippines- I wrote recently on the perverse Philippine experience wherein poverty had risen in recent years even as the economy reportedly grew at the fastest rate achieved in 30 years. The fact is, compared to the rest of the world, Asia as a region had actually translated every percentage point of economic growth into much faster rates of poverty reduction, even as Asian economies in general had also grown faster than most of the rest. This makes the Philippine experience stand out like a sore thumb. One might say that our experience lately has been giving economic growth a bad name.

What the data say

In a study covering 51 developing countries around the world, the Asian Development Bank found that on average, a one percent growth in average income comes with a 1.5-percent drop in poverty incidence. But when the list of countries analyzed is confined to countries in Asia, each percentage point of income growth comes with a 2-percent decline in poverty incidence. In other words, the data suggest that growth has served the poor better in Asia than elsewhere in the developing world. These findings were reinforced by a recent World Bank study by Ferreira and Ravallion, which similarly points to the dominant role of Asia in accounting for the bulk of the world’s poverty reduction since 1981.

I have been researching on this phenomenon over the past six months, motivated primarily by the Philippines’ anomalous experience. My particular interest was to identify what factors explain differences in this growth-poverty reduction linkage across Asian countries, wherein our perverse experience puts us on one end of the spectrum, while Malaysia lies at the other end, having posted the strongest poverty reduction for every one percent of GDP growth in recent years. Also among the best performers were Singapore, Thailand, Vietnam and Mongolia.

Poverty reducers

What were the drivers of the growth-poverty reduction link? My analysis showed the most significant factor to be public expenditures in health, education and housing. Quality of governance also had significant impact, along with sectoral sources of economic growth. While it is not surprising that government spending on health, education and housing influenced how growth has translated to poverty reduction, what was surprising to me was the strength of the effect. Measured as ratios to GDP to permit comparability across countries of varying sizes, graphing these expenditures against the strength of the poverty reduction response to economic growth almost traces a straight line.

While not as strong, the effect of governance was also significant. Six aspects of governance were examined for the study, namely political stability and absence of violence; control of corruption; regulatory quality; government effectiveness; rule of law, and voice and accountability. These have been regularly tracked by the World Bank’s World Governance Indicators project since 1996, drawing on numerous established international surveys and combining their results into an index that is calculated every year. This has permitted measurement of the governance variable in its six aspects for the numerical analysis.

Spending on people

Examining the variation in social sector spending across Asian countries was interesting in itself. The data reveal that Mongolia and Malaysia spent the most on education in recent years (i.e. 2000-2006), exceeding 6 percent of GDP. At the bottom is Indonesia, which spent less than one percent of GDP on education. For health, Mongolia made the largest public investments, while Indonesia and the Philippines made the smallest, at less than half a percent of GDP. Malaysia made the largest public investments in education and health combined, at almost 8 percent of GDP; Indonesia made the smallest with barely over 1 percent. Singapore made the largest public investments in housing (over 2 percent of GDP), while the Philippines emerges as having made the smallest, at barely one-tenth of one percent of GDP.

Why did Indonesia and the Philippines stand out as bottom-dwellers in social spending? It turns out there is a ready explanation: Debt. Both countries stood out in the region as spending large portions of their government budgets on debt service, especially in 2000-2006. In Indonesia, this was the legacy of the huge costs incurred by the government to bail out banks in the aftermath of the Asian financial crisis. In the Philippines, this was the result of a continuous fall in tax collection efficiency (measured in the tax-to-GDP ratio) that started in 1998, and only got arrested with the introduction of the expanded value added tax (e-VAT) in 2006. Debt service had effectively crowded out worthwhile investments in human development in both countries.

For this reason and in light of the above discussions, embarking on a fiscal stimulus program in response to the global financial meltdown will require, for us, paying particular attention to two things. One, our taxpayers’ money would be best spent on health, education and housing in any such stimulus. But two, we have to carefully balance any such surge in spending with the need to avoid incurring an excessively heavy debt burden that would only get back to crowding out such worthwhile public investments in the future.–Cielito Habito, Philippine Daily Inquirer

Comments welcome at chabito@ateneo.edu