Duterte’s regional dev’t bias to boost economy
President-elect Rodrigo Duterte’s bias for countryside development bodes well for the economy, but budget priorities that require a larger fiscal deficit ratio should not be implemented in tandem with income tax cut plans to sustain the government’s investment grade status, an economist from international banking giant Citigroup said.
In a research note titled “Fear the DDS— Duterte’s Development Strategy?” dated June 7, Citi Philippines economist Jun Trinidad said the next President would likely have a sharper fiscal focus on regional structural problems.
“Regions with a lower share of the national budget have high poverty incidence ratios. A long-term objective of a fiscal bias favoring the regions is to attract private businesses, [which is the] key to regional jobs and income creation, while hoping for entrepreneurship to flourish. Over time, if Duterte’s development strategy converts regions into ‘net exporters’, poverty incidence could fade,” Trinidad said.
Trinidad said targeting a looser fiscal deficit of 3 percent of gross domestic product (GDP) would be most welcome. However, the economist warned that proposed income tax cuts with foregone revenue and a narrower revenue base—defined as having a tax to GDP ratio of less than 14 percent—would put the government’s fiscal position at risk.
Overall, he said Duterte’s budget priorities would hopefully correct regional budget disparities, address poverty incidence in the provinces and address infrastructure gaps through public-private partnerships and offer a favorable growth backdrop over the medium term.
“Fiscal policy can bring about regional structural transformation particularly if public investments attract more private investments, create higher production opportunities and enable the different regions to export their surpluses,” Trinidad said.
While he said it’s premature to adjust Citi’s GDP forecasts of 6.3 percent in 2016 and 6.5 percent in 2017, Trinidad said favorable medium term prospects beckoned, assuming a regional fiscal spending bias by the government. A Duterte presidency, he said, could increase likelihood of national GDP prospects banking on stronger growth outside Metro Manila.
“A key macro risk is pursuit of fiscal actions with noble intentions that increase potential fiscal weakness and entertain risk of credit rating downgrades,” Trinidad said, noting that the country’s investment grade status—a seal of good housekeeping—was a requisite for having greater investments among emerging markets.
“Having a looser fiscal deficit target if packed with infrastructure would not lead to sudden loss of IG status. However, having a fiscal expansionary bias and entertaining tax cut proposals that are unlikely to be revenue neutral (despite proposed alternative tax hikes) amid a narrow revenue base will not assure markets and investors that fiscal stability will stay intact,” he said.
Citi prefers strong fiscal spending leading to larger but manageable deficit ratios at the start, in step with tax reforms starting with consolidation of fiscal investment incentives and stronger enforcement of tax rules.
“Later in Duterte’s term, firmer growth prospects and revenue collections may enable income tax cuts and other tax reforms that would not cast doubt on fiscal stability. Sequencing fiscal reform actions given Duterte’s budget priorities would offer a strong assurance as well that Congress will not plunge headlong into populist tax initiatives only to weaken public finances, reverse the declining government debt ratio trend and risk losing IG status that the Aquino government along with contributions from other past administrations, worked so hard to obtain,” the economist said.
The government expects to lose P224 billion in the first year of implementation of income tax rate cuts assuming tax rates are lowered to 25 percent for both personal (from 32 percent tax rate) and corporate incomes (from 30 percent tax rate) and all-in income tax exemptions for those earning P1 million and below annually.
“Fiscal prudence calls for either a delay in these tax cuts or phased implementation later in Duterte’s term, after two to three years of enacting fiscal plans, and assuming conducive GDP growth and revenue collections,” Trinidad said.
Nonetheless, Citi expects that from the top down, larger regional budget shares would benefit consumption and construction and strengthen domestic demand in these beneficiary regions.
“Coupled with expectations that spending on big-ticket public transport investments would be revived through the PPP by undertaking auctions for NEDA (National Economic Development Authority)-approved projects exceeding P400 billion, investment momentum can be sustained,” he said.
