Underspending posing biggest risk to growth

MANILA, Philippines—Fiscal underspending by the government is likely to be the biggest macroeconomic risk for the Philippines over the next six to 12 months, as the nation looks up to President Aquino’s “legacy” spending for rehabilitation and reconstruction as the “key spark” to growth, an economist from Citigroup said.

In a December research note, Citi economist Jun Trinidad said the institution kept its gross domestic product (GDP) growth forecast for the country at 6.3 percent in 2014 and 6.5 percent in 2015 despite rising macro challenges.

“After Japan’s third-quarter 2014 recession and imminent second-quarter 2015 power crisis [in the Philippines], persistent fiscal underspending could be the spoiler,” Trinidad said.

Among the things to count on in the coming year, the economist said, would be the power commitments from Manila Electric Co.’s industrial customers to the “Interruptible Load Program (ILP)” as a means of easing the second-quarter power crisis. ILP compensates customers with self-generation facilities to run their generation assets for their own use, thus reducing overall demand.

Citi is likewise closely monitoring the government’s accelerated fiscal spending as reconstruction efforts began in typhoon-devastated areas. Another is the upside inflation risk arising from the second-quarter power crisis.

The recent recession in Japan alongside risks to the bilateral trade surplus and remittance flows, Trinidad said, might compound the weak Philippine peso sentiment and bond market preference in the near term. He is expecting a weaker peso at 45.80:$1 over the next six to 12 months. As of the last trading day before the market paused for the long Christmas break, the peso closed at 44.680:$1.

“Fiscal underspending risk in 2015 could elevate potential for rate cuts,” he said.

While the looming power crisis and potential offshore headwinds would be the primary things to watch out for, Citi believes fiscal underspending would constitute the largest macro risk over the next six to 12 months as domestic demand continues to be the country’s key growth driver.

He said net exports could provide one-off surprises just like in the third quarter of 2014. In July to September, the country registered two-digit export gains and benign imports. This implied a hefty net export gain that mitigated lackluster fiscal spending and propelled third-quarter GDP to post a 6-percent growth year on year.

“We believe there’s subdued risk of fiscal underspending prospects from fourth quarter 2014 with the government having approved and started implementation of the P170.9-billion budget for [Supertyphoon] Yolanda’s rehabilitation and reconstruction efforts over 2014-16,” Trinidad said.

The budget is broken down as follows: P35.1 billion for infrastructure; P26.4 billion, social services; P75.7 billion, resettlement; and P33.7 billion for livelihood projects. Officials claim to have spent P37.4 billion under the recovery program.

The average annual fiscal expenditure devoted to the rehabilitation program is P57 billion, largely coming from non-infrastructure components or at least 2 percent of the annual budget, Trinidad noted.

The annual fiscal spending of P57 billion under the Yolanda rehabilitation program could increase output by 0.74 percent on the assumption that there would be no implementation slippage, Trinidad said. This means that on a three-year cumulative period, he said, the country could be assured of 2.2 percent additional growth.

Trinidad estimated a 1.65x multiplier from potential income of P94.3 billion for annual fiscal spending of P57 billion.