The new big, bad G word

THE annual meeting of the Philippine Economic Society (PES) held last week ended with a panel discussion on the outlook for the Philippine economy, now a regular feature of the organization’s yearly gathering. The panel—composed of PES past presidents Dondon Paderanga, Arsi Balisacan and yours truly, along with incoming president Art Corpuz—focused on three key challenges facing our economy: weak government finances, low levels of investment, and failure of our economic growth to translate into poverty reduction.

The same challenges were identified in the recent World Bank Panibagong Paraan forum that I wrote about last week, and there appears to be wide consensus that these are the prime challenges to the economy that the incoming government in 2010 must overcome. There also appears to be wide agreement that the three challenges trace back to a common problem: that of bad governance.

Shaky finances

There are two sides to government finances: revenues and expenditures. Both are fraught with problems, all tracing to governance issues. On the expenditure side, the problem of leakages due to widespread corruption is well known.

Traveling around parts of Mindanao last week, I was struck at how the number “40 percent” spontaneously came up three times in conversations with officials in three different places. It seems that 40 percent is now the “going rate” for overpricing and kickbacks in government projects (although we also hear of overpricing far more than that). There was a common sentiment that we can look the other way with 5-10 percent, but 40 percent is inordinate greed—a phrase made famous by the now infamous NBN-ZTE project (and one of those where the alleged overpricing was far beyond 40 percent).

On the revenue side, the damning fact is that collections so far this year are not only way below target, they are also well below what we got in the same period last year.

And yet we are told that we have avoided recession, meaning that gross domestic product (GDP), or the tax base, had continued to grow in the past year. This could only mean one or both of two things: Either the GDP did not really grow as reported, or there was a severe deterioration in tax collection efficiency (and severe rise in tax evasion). I prefer to believe it’s the latter.

I have heard quite a lot of people assert that taxpayers evade paying the proper amount of taxes on the belief that doing so would only feed corrupt pockets. This tells me that we cannot expect tax collection efficiency to improve much until we have a more trustworthy government than this one.

Raising investments

On low investment levels, Arsi Balisacan presented data showing how the traditional investment-savings gap our country had suffered—whereby total national savings had fallen far short of investments—had reversed by 2004. By then, total savings in proportion to GDP had already been rising, clearly propelled by surging remittances.

But just when savings had been rising to catch up with our neighbors, total investments had been progressively declining. Thus, what we now have is the reverse of the traditional gap—a savings surplus! In other words, investments are low at this time, no longer because of lack of savings to fuel them, but due to other deterrents to investment. And we are, once again, pointed back to governance problems that raise the cost of doing business in the country—ranging from cumbersome local government procedures for starting a business, to the 40 percent add-on for government projects described above.

With so much domestic savings, the financial system is awash with money, and yet not enough of it is accessible to small and medium enterprises, who I argued last week to be a viable source of potential investments to fill the gap. After I wrote about this problem last week, readers wrote in attesting that their banks continued to be unwilling to extend SME loans, still apparently preferring to deal with fewer but larger borrowers. And yet, the banks have been turning to consumer lending in a big way, which precisely entails dealing with large numbers of small borrowers. But what makes it attractive for banks is that they can charge interest rates higher than what they charge the big guys.

Experience elsewhere has shown that SMEs will borrow from banks even at higher rates than what they normally charge large clients; I have cited before how credit flows to SMEs surged in Thailand after interest rate caps were lifted. After all, the alternative has been to borrow at much higher cost from informal lenders, and Philippine SMEs have gotten by with such high-cost financing for many years.

Poverty-reducing growth

Finally, how do we make our economic growth lead more to poverty reduction? Growth built on a flourishing SME sector would do it. My own recent research also shows that public spending on education, health and housing has been a key factor in the growth-poverty reduction linkage across Asian countries. But what proved to have the greatest impact was the quality of governance. Our own governance index (based on the annual World Governance Indicators published by the World Bank) has been successively declining in recent years, in direct contrast to the experience in most of our neighbors—who also saw poverty declining significantly as their economies grew.

When I first started this column eight years go, I referred to globalization as the big, bad G word. Now it is Governance, with a capital G. Clearly, so much of our economic future relies on what happens in 2010. –Cielito Habito, Philippine Daily Inquirer

(Comments welcome at chabito@ateneo.edu)