Unique consequences of the Philippine ‘labor surplus’ story

Last week, I explained the Philippine “labor surplus” story by referring to the roles played by (a) high population growth rate; (b) misdirected economic nationalism; (c) the long process of protectionist policies promoting import substitution; and (d) the high welfare standards pursued by government intervention in the labor market.

Today, I will elaborate on the unique consequences of all these policies and initial conditions on “capital” and “labor” which represent the most important “factors of production” determining the level of output or GDP.

“Capital.” Capital (or new investment) comes from savings. Low income countries do not generate much saving. Consumption propensity of these economies is high, therefore leaving little by way of saving. By the same token, the government’s tax system does not collect enough revenues to generate a high rate of public saving. There is often a low capacity to tax.

It is enterprise – in the form of highly profit-making enterprises – that often becomes the dynamo for generating high savings in a poor economy. When such enterprises are profitable, they can finance their own growth through reinvestment of their profits and through access to further borrowing of capital.

In the Philippine case, much of the borrowings of new enterprises were extended to them by government financial institutions. A large segment of these borrowings helped to finance highly protected import substituting industries.

The restrictive provisions against foreign direct investments were first initially confined to the Constitutional definitions. But during the heyday of protectionist policies, broader nationalistic restrictions extended to many economic sectors.

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As the scarcest of the factors of production, capital should have been more openly encouraged by government. But the measures that arose from a misguided economic nationalism erected more barriers against the attraction of foreign capital. The relatively poor record of attraction of FDI in the country arose mainly from irrational and pervasive fear of foreign competition often exaggerated by those enjoying the perks of investment incentives that awarded them specific advantages as stakeholders in the domestic economy.

The restrictive provisions on foreign investments became an effective barrier to entry as long as it succeeded in getting the government to refuse to open markets. The restrictions of the Constitutional provisions were mainly on strategic industries considered important to the national interest and yet, the logic of other laws in the past have gone far beyond the strategic restrictions, either by virtue of new laws passed by Congress (such as the retail trade nationalization law, detailed incentives under the BOI), and the plethora of regulations in industry, finance, and other areas of economic activity that were designed to guide the direction of foreign investments.

The nationalistic economic provisions in the Constitution – and the inclusion and extension of other policies that echoed these provisions – contributed to the constrictions of economic markets and have given license and voice to many policies that encouraged the prevention of competition from foreign investments in domestic markets.

“Technology.” Technology is highly associated with new investments. Foreign direct investment is a major agent of technological improvements. When FDI is confined, so is technology. When competition is limited, so is technological innovation.

Of course foreign technology could be bought, or be imitated. Imitation has been a route followed by Japan and other countries, although in the present world where intellectual property institutions have been strengthened, the possibilities for imitation are less today.

The highly protectionist model based on import substitution discouraged technological innovation. Foreign capital threatened the monopolistic hold on domestic markets of those already enjoying the perks of existing economic policy. As long as the market restrictions prevented FDI promotion from coming in, technological innovations in the domestic market would also be held back.

“Labor.” Labor market policy in the country is marked by state intervention in the setting of the minimum wage and also in creating barriers against termination of employment of excess or unwanted workers. (Oftentimes, the latter is a flexibility required under changing economic conditions.) Even though efforts have been made to modulate these wage standards with the introduction of a regional wage system to take account of regional wage variations, the system is still marked by a high level of minimum wage directives – forcing firms either to contract labor employment at high rates of wages or to move out of labor-intensive operations.

On the other hand, because domestic investment was not complemented heavily by the inflow of FDIs (as in the case of other countries), the creation of new employment was not enough to erase the labor surplus through the expansion of the formal sector of the economy.

Such failure in enlarging sufficient employment growth contributed to the relative standstill or even deterioration of real wages within the economy. Such standstill in wages helped to breed a less hopeful future even for those workers who enjoyed steady employment.

“OFW (overseas Filipino worker) route.” The lack of robust employment opportunities at home induced skilled workers and managers to be attracted by the high income differentials offered by work abroad. The OFW phenomenon became a common alternative route of escape from unemployment or low incomes at home. Labor became an export commodity just like the export of goods at home.

Over time with their great increase in numbers, the OFW route presented an alternative source of earnings for the Philippine economy. The remittances of the large number of Filipino workers became a major source of strength of the Philippine balance of payments, steadying the receipts of dollar inflows for the economy.

The relative failure of home policies brought about an accidental success to the Philippine economy through the migration of Filipino workers where capital is more abundant and where wages, as a consequence, are higher. In many respects, all these developments provide an indication of where economic forces make adjustments to bad economic policy decisions at home, sometimes even creating accidental but beneficial results overall. –Gerardo P. Sicat (The Philippine Star)

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