Information about Asia and the Pacific Asia y el Pacífico
Chapter

III Public Finance: Sustainable Fiscal Adjustment

Author(s):
Markus Rodlauer
Published Date:
March 2000
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Information about Asia and the Pacific Asia y el Pacífico
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Author(s)
Kristina Kostial and Victoria Summers 

Since the early 1990s, there has been a significant improvement in the Philippines’ fiscal accounts. The consolidated public sector balance moved from deficits in the range of one-half of 1 percent of GNP to 2 percent of GNP at the beginning of the 1990s to a balanced position in 1996. This reflected not only a substantial reduction in the deficit of the monitored government-owned and -controlled corporations and a strong consolidation in the national government balance, but also an improvement in the position of other public sector entities. Since 1997, fiscal balances have moved back into higher deficits, as fiscal policy turned expansionary in support of domestic demand mainly by accommodating the revenue losses associated with the crisis-related slowdown of growth.

This section describes Philippine fiscal developments in recent years and outlines the reform agenda to ensure medium-term fiscal sustainability. It describes the evolution of the tax system and changes in the level and composition of government expenditures; and developments in public sector entities outside of the national government. It then analyzes the response of fiscal policy to the challenges posed by the Asian crisis, and evaluates the sustainability of Philippine fiscal policy. The last part presents the remaining reform agenda.

The performance of fiscal policy can be assessed along many interrelated dimensions. Tanzi, Chu, and Gupta (1999) provide general considerations that should guide such an evaluation:

  • Quality of the tax system. Does fiscal policy rest on a fair, efficient, and transparent system of taxation (ideally, a system of easily administered taxes, moderate tax rates, and a minimum number of exemptions)?
  • Level and composition of public expenditures. Are the aggregate level of expenditures and the composition of expenditures appropriate to the governments objectives with respect to growth and equity?1 How well has policy been geared toward curtailment of unproductive public expenditures?
  • Fiscal stance. How well has fiscal policy responded to changing economic circumstances, in particular to the sharp changes as a result of the Asian crisis?
  • Fiscal sustainability. Could current fiscal policies be maintained into the (indefinite) future without leading the government into insolvency?

Applying these considerations to the conduct of Philippine fiscal policy, the main conclusions of the section are the following:

  • Tax policy. Major lax reforms since 1986 have been beneficial in increasing the progressivity of taxes, lessening distortions, and simplifying the tax system. However, tax incentives continue to erode the tax base and administration remains weak, resulting in an inadequate revenue yield and weak buoyancy (positive cyclical response) of the tax system.
  • Expenditure policy. Continued weaknesses in the tax effort and substantial debt service payments have constrained policy choices, particularly by limiting much-needed outlays for infrastructure and social sectors (health and education). Some unproductive expenditures have been scaled down (for example, military expenditures), but others have not, including the cost of an overstaffed civil service and an inefficient intergovernmental transfer system.
  • Fiscal stance. Policymakers responded appropriately to the regional financial crisis by allowing fiscal deficits to widen in line with the slowing economy. However, faster progress with tax administration reform may have prevented the need for expenditure cuts in 1998. and allowed the provision of a larger expenditure stimulus.
  • Fiscal sustainability. Indicators of sustainability have improved considerably in recent years. Nevertheless, a review of prospective fiscal developments suggests that the fiscal situation remains vulnerable. Strong economic growth and continued progress in key fiscal reform areas are needed to keep government on a debt sustainable path over the medium-term.

Fiscal Developments During the 1990s

The consolidated public sector deficit declined sharply during 1990–96 (Figure 3.1). Although some of this improvement was due to nonrecurrent elements such as receipts from the privatization of government assets, the underlying consolidated public sector deficit (which excludes privatization receipts) also improved substantially. Three-fifths of the improvement in the underlying consolidated public sector deficit occurred in 1991. Since then, improvement has been less rapid, and has resulted largely from favorable interest rate developments and from lower expenditure rather than strengthened revenue effort. Fiscal deficits widened in 1997–98, mainly as a result of the slowdown in economic activity associated with the Asian crisis (Tables 3.1-3.8).

Figure 3.1.Public Sector Balance and National Government Balance

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

Table 3.1.Consolidated Public Sector Balance
199319941995199619971998
(In billions of pesos)
Consolidated public sector balance–25.9–8.7–4.14.6–23.3–84.3
Monitored public sector borrowing requirement–55.8–7.5–16.7–12.4–40.3–116.4
National government balance–21.90.011.16.31.6–50.0
Central Bank-Board of Liquidation net income–15.1–8.1–20.0–13.8–25.7–26.4
Monitored corporations’ balance–25.6–9.7–1.3–11.2–17.9–41.7
Oil Price Stabilization Fund balance–7.92.6–9.24.8–0.80.7
Adjustments for intrapublic sector borrowing requirement transfers14.77.62.81.52.50.9
Borrowing requirement of remaining public sector29.9–1.212.617.017.032.1
Surplus of government financial institutions6.13 15.08.44.45.4
Net income of Bangko Sentral ng Pilipinas–1.05.33.6–2.37.77.2
Local government5.84.62.03.04.22.0
Social security11.7–12.00.08.53.917.7
Adjustment for transfers within the public sector7.2–2.22.0–0.62.3–0.3
(In percent of GNP)
Consolidated public sector balance–1.7–0.5–0.20.2–0.9–3.0
Monitored public sector borrowing requirement–3.7–0.4–0.9–0.5–1.6–4.2
National government balance–1.50.90.60.30.1–1.8
Monitored corporations’ balance1–1.7–0.6–0.1–0.5–0.7–1.5
Underlying consolidated public sector balance–2.1–2.4–1.5–0.1–1.5–3.1
Memorandum item
GNP (in billions of pesos)1,5001,7361,9592,2612,5232,794
Sources: Data provided by the Philippine authorities: and IMF staff estimates.

For 1998, includes outlays for an infrastructure project of the National Power Corporation, which is not shown In Table 3.7.

Sources: Data provided by the Philippine authorities: and IMF staff estimates.

For 1998, includes outlays for an infrastructure project of the National Power Corporation, which is not shown In Table 3.7.

Table 3.2.Operations of the National Government(In billions of pesos)
199319941995199619971998
Revenue and grants260.4348.9374.6431.7493.4472.7
Tax revenue230.2271.3310.5367.9412.2416.6
Domestic147.5189.0212.6263.0317.0340.2
Income and profits74.891.9111.2136.4164.2183.9
Excise30.339.638.548.463.060.9
Sales tax/license133.536.546.359.367.767.9
Other domestic taxes9.021.116.519.022.127.6
International trade taxes82.782.398.0104.995.276.4
Import duties and taxes282.081.697.6104.694.876.0
Others30.70.70.40.30.40.4
Non tax revenue30.277.664.163.881.256.1
Domestic28.276.863.163.379.555.7
Other offices21.126.525.435.147.842.5
Sequestered assets0.115.31.30.32.71.22
Sales of assets1.614.621.65.46.70.5
Interest on central bank deposits4.85.51.20.80.50.5
Central Bank-Board of Liquidators interest, rebate, and dividend12.713.421.321.510.1
Interest from nonfinancial government corporations0.62.20.30.50.20.8
Enhanced Structural Adjustment Facility0.50.00.00.00.00.0
Foreign grants1.50.71.00.61.70.4
Domestic grants0.00.00.00.00.00.0
Expenditure282.3348.8378.7439.3502.9544.2
Current expenditure226.6296.4305.8363.6403.7456.1
Personnel services78.792.7109.1135.4172.8198.5
Maintenance and operations34.646.847.048.751.964.4
Interest payments76.5108.1101.1111.6110.6131.5
Domestic56.288.879.294.191.0105.2
Of which: Central Bank-Board of Liquidators restructuring external29.028.435.132.631.7
Foreign20.319.321.917.519.626.3
Subsidies49.111.47.222.612.04.9
Of which: tax expenditures3.94.43.66.76.70.2
Allotments to local government units27.837.441.445.356.456.9
Capital expenditure and net lending55.752.472.975.799.288.0
Capital expenditures44.843.464.569.693.686.5
Infrastructure and other capital outlays37.833.652.757.579.171.3
Transfers to local government units6.99.811.812.114.515.1
Equity and net lending9.49.08.43.23.01.6
Comprehensive Agriculture Reform
Program land acquisition and credit1.50.00.02.92.60.5
Deficit (-)(21.9)0.1(4.1)(7.6)(9.5)(71.5)
Excluding central bank restructuring(21.9)16.311.16.31.6(50.0)
Financing21.9(16.3)(11.1)(6.3)(1.6)50.0
Foreign (net)12.9(11.6)(13.3)(5.9)(6.8)12.4
Domestic (net)9.0(4.7)2.3(0.4)5.237.6
Sources: Data provided by the Philippine authorities; and IMF staff estimates.

Including domestic VAT.

Including VAT on imports.

Including travel tax.

Including transfer to the Oil Price Stabilization Fund and tax expenditures.

Sources: Data provided by the Philippine authorities; and IMF staff estimates.

Including domestic VAT.

Including VAT on imports.

Including travel tax.

Including transfer to the Oil Price Stabilization Fund and tax expenditures.

Table 3.3.National Government Revenues and Grants
199319941995199619971998
(In billions of pesos)
Total revenue and grants260.4348.9374.7431.7493.4472.7
Tax revenue230.2271.3310.5367.9412.2416.6
Taxes on net income and profits74.891.9111.2136.4164.2183.9
Taxes on domestic production
and consumption63.776.084.8107.7130.7128.7
Sales and business taxes33.536.546.359.367.767.9
Of which: VAT22.825.528.840.947.347.5
Excises130.339.638.548.463.060.9
Tobacco products10.311.713.815.015.917.1
Alcoholic beverages8.29.710.111.113.414.3
Petroleum products8.710.610.116.129.327.1
Taxes on international trade
and transactions82.782.398.0104.995.276.4
Import duties and import taxes82.081.697.6104.694.876.0
Others20.70.70.40.30.40.4
Other domestic taxes39.021.116.519.022.127.6
Nontax revenue430.277.664.163.881.256.1
(In Percent of total revenues)
Total revenue and grants100.0100.0100.0100.0100.0100.0
Tax revenue88.477.882.985.283.588.1
Taxes on net income and profits28.726.329.731.633.338.9
Taxes on domestic production
and consumption24.521.822.624.926.527.2
Sales and business taxes12.910.512.413.713.714.4
Of which: VAT8.87.37.79.59.610.0
Excises111.611.310.311.212.812.9
Tobacco products4.03.43.73.53.23.6
Alcoholic beverages3.12.82.72.62.73.0
Petroleum products3.33.02.73.75.95.7
Taxes on international trade
and transactions31.823.626.224.319.316.2
Import duties and import taxes31.523.426.024.219.216.1
Others20.30.20.10.10.10.1
Other domestic taxes33.56.04.44.44.55.8
Nontax revenue411.622.217.114.816.511.9
(In percent of GNP)
Total revenue and grants17.420.119.119.119.616.9
Tax revenue15.315.615.916.316.314.9
Taxes on net income and profits5.05.35.76.06.56.6
Taxes on domestic production
and consumption4.24.44.34.85.24.6
Sales and business taxes2.22.12.42.62.72.4
Of which: VAT1.82.01.51.81.91.7
Excises12.02.32.02.12.52.2
Tobacco products0.70.70.70.70.60.6
Alcoholic beverages0.50.60.50.50.50.5
Petroleum products0.60.60.50.71.21.0
Taxes on international trade
and transactions5.54.75.04.63.82.7
Import duties and import taxes5.54.75.04.63.82.7
Others20.00.00.00.00.00.0
Other domestic taxes30.61.20.80.80.91.0
Nontax revenue42.04.53.32.83.22.0
Source; Data provided by the Philippine authorities.

Data on the components of excise duties are based on Bureau of Internal Revenue collections, which differ slightly from the records of the Treasury.

Foreign exchange tax and travel tax.

Including property taxes.

Including grants and Economic Support Fund and central bank restructuring.

Source; Data provided by the Philippine authorities.

Data on the components of excise duties are based on Bureau of Internal Revenue collections, which differ slightly from the records of the Treasury.

Foreign exchange tax and travel tax.

Including property taxes.

Including grants and Economic Support Fund and central bank restructuring.

Table 3.4.National Government Expenditures and Net Lending
199319941995199619971998
(In billions of pesos)
Total expenditure and net lending282.3348.8378.7439.3502.9544.2
Current expenditure226.6296.4305.8363.6403.7456.1
Personnel services78.792.7109.1135.4172.8198.5
Maintenance and other operational expenses34.646.847.065.458.063.4
Interest payments76.5108.1101.1111.6110.6131.5
Allotments to local government units27.837.441.445.356.456.9
Subsidies9.111.57.25.95.95.9
Capital expenditure44.843.464.569.693.686.5
Infrastructure and other capital outlays37.933.652.757.579.171.3
Transfers to local government units6.99.811.812.114.515.1
Equity and net lending10.99.08.46.15.61.6
Equity16.83.14.64.94.21.3
Loans less repayments4.25.93.81.21.40.3
(In percent of total expenditure and net lending)
Total expenditure and net lending100.0100.0100.0100.0100.0100.0
Current expenditure80.385.080.782.880.383.8
Personnel services27.926.628.830.834.436.5
Maintenance and other operational expenses12.313.412.414.911.511.6
Interest payments27.131.026.725.422.024.2
Allotments to local government units9.810.710.910.311.210.5
Subsidies3.23.31.91.31.21.1
Capital expenditure15.912.417.015.818.615.9
Infrastructure and other capital outlays13.49.613.913.115.713.1
Transfers to local government units2.42.83.12.82.92.8
Equity and net lending3.92.62.21.41.10.3
Equity12.40.91.21.10.80.2
Loans less repayments1.51.71.00.30.30.1
(In percent of GNP)
Total expenditure and net lending18.820.119.219.419.919.5
Current expenditure15.117.115.516.116.016.3
Personnel services5.25.35.56.06.87.1
Maintenance and other operational expenses2.32.72.42.92.32.3
Interest payments5.16.25.14.94.44.7
Allotments to local government units1.92.22.12.02.22.0
Subsidies0.60.70.40.30.20.2
Capital expenditure3.02.53.33.13.73.1
Infrastructure and other capital outlays2.51.92.72.53.12.6
Transfers to local government units0.50.60.60.50.60.5
Equity and net lending0.70.50.40.30.20.1
Equity10.50.20.20.20.20.0
Loans less repayments0.30.30.20.10.10.0
Source: Data provided by the Philippine authorities.

Including Comprehensive Agriculture Reform Program land and acquisition and credit.

Source: Data provided by the Philippine authorities.

Including Comprehensive Agriculture Reform Program land and acquisition and credit.

Table 3.5.Operations of Social Security Institutions 1(in billions of pesos)
199319941995199619971998
Revenues43.745.849.154.263.684.6
Contributions223.726.531.534.736.557.8
Of which: national government34.63.55.44.82.813.3
Other revenues20.119.217.619.527.126.8
Of which: national government securities12.212.49.27.99.012.8
Expenditures39.250.550.752.764.080.3
Social security benefits21.324.526.329.030.740.2
Operating and other expenditures3.511.06.37.86.812.1
Net lending14.315.018.115.926.528.0
Of which: national government7.1–7.21.66.94.313.5
Surplus/deficit4.6–4.8–1.61.6–0.54.2
Surplus/deficit before net
lending to national government11.7–12.00.08.53.817.7
Source: Data provided by the Philippine authorities.

Social Security System and Government Service Insurance System, including Philippine Health Insurance Corporation starting in 1997.

By employees and employers.

National government’s contribution as employer, to the Government Service Insurance System,

Source: Data provided by the Philippine authorities.

Social Security System and Government Service Insurance System, including Philippine Health Insurance Corporation starting in 1997.

By employees and employers.

National government’s contribution as employer, to the Government Service Insurance System,

Table 3.6.Local Government’s Budgetary Operations(In billions of pesos)
19931994199519961997119981
Revenue44.357.666.975.496.7106.9
Local source revenue16.321.726.128.737.446.7
Property taxes4.94.27.39.910.412.8
Business taxes5.38.88.48.712.515.8
Nontax revenue6.18.710.410.114.518.1
Grants and aid28.035.940.846.759.360.2
Statutory allotments27.535.240.145.958.559.5
Special aid from national government0.50.70.70.80.80.7
Expenditure38.553.064.972.492.5104.9
Current34.146.156.564.183.092.0
Of which: economic development5.37.49.19.711.614.2
Capital outlays4.46.98.48.39.512.9
Surplus/deficit5.84.62.03.04.22.0
Source: Data provided by the Philippine authorities

Preliminary actual.

Source: Data provided by the Philippine authorities

Preliminary actual.

Table 3.7.Statement of Financial Operations of Major Monitored Public Corporations 1(In billions of pesos)
199319941995199619971998
Total receipts112.3107.289.2113.7117.8147.0
Operating receipts102.469.273.496.9105.6133.4
Sales of goods and services97.964.269.992.0101.8129.9
Current subsidies4.54.93.54.93.83.6
Other9.938.015.816.812.213.6
Current expenditures96.474.868.193.399.9141.0
Operating expenditures73.037.240.157.970.3108.6
Of which: wages and salaries4.85.56.88.19.58.2
Other23.337.728.035.429.632.4
Of which: interest payments11.112.114.212.212.919.1
Tax payments to the national
government8.611.16.44.53.03.2
Interest on national government
advances0.50.60.00.91.50.7
Dividend payments0.611.10.510.54.71.3
Capital expenditures41.642.022.331.635.844.0
Acquisition of fixed capital assets33.939.523.826.930.531.3
Change in inventories1.11.50.52.83.210.5
Other6.61.0–2.02.02.12.2
Internal cash generation16.032.321.120.417.86.0
Financing requirement25.69.71.311.217.938.0
External financing (net)21.915.44.516.112.316.8
Domestic financing (net)3.8–5.7–3.2–4.95.721.2
National government equity25.61.50.51.20.10.6
National government net lending21.51.90.8–0.40.30.5
Domestic bank credits (net)1.40.8–3.7–3.4–1.112.5
Other domestic financing (net)–4.8–9.9–0.9–2.36.37.6
Source: Data provided by the Philippine authorities.

The Metro Manila Transit Corporation is included until its privatization in 1994.

Taken from corporations’ accounts; may differ from national government accounts.

Source: Data provided by the Philippine authorities.

The Metro Manila Transit Corporation is included until its privatization in 1994.

Taken from corporations’ accounts; may differ from national government accounts.

Table 3.8.Functional Classification of National Government Expenditures 1
199319941995199619971998
(in billions of pesos)
General public services40.456.160.876.487.897.5
Defense220.421.625.529.927.728.8
Economic services75.984.894.7101.6125.0111.6
Agriculture and agrarian reform12.615.417.122.629.718.7
Natural resources3.44.04.65.39.16.0
Trade and industry2.55.05.94.24.73.2
Power and energy6.65.83.21.11.50.9
Water resource development and flood control9.63.43.62.66.34.2
Transportation and communications23.233.537.941.445.944.3
Others18.017.722.424.427.834.3
Social services71.072.292.6118.6150.5174.6
Education, culture, and manpower development39.942.457.172.190104.3
Health, nutrition, population control7.27.47.810.913.413.5
Social security, labor, and employment8.44.66.49.719.220.7
Housing and community development1.41.23.15.02.31.6
Other14.116.618.220.825.734.6
Total207.7234.7273.6326.5390.9412.4
(In percent of GNP)
General public services2.73.23.13.43.53.5
Defense21.41.21.31.31.11.0
Economic services5.14.94.84.55.04.0
Social services4.74.24.75.26.06.2
(In percent of total)
General public services19.523.922.223.422.523.6
Defense29.89.29.39.27.17.0
Economic services36.536.134.731.132.027.0
Social services34.230.833.836.338.542.3
Source: Dm provided by the Philippine authorities.

Net of interest payments and net lending.

Derived by applying functional classification of obligation expenditures to cash disbursement.

Source: Dm provided by the Philippine authorities.

Net of interest payments and net lending.

Derived by applying functional classification of obligation expenditures to cash disbursement.

The improvement in the consolidated public sector deficit has to a large extent been driven by improvements in the balance of the national government, which went from a large deficit to an almost balanced position in 1996 and 1997. Supported by strong gains in revenues at the beginning of the 1990s, the national government deficit narrowed from about 2 percent of GNP in 1991 to 0.3 percent of GNP and 0.1 percent of GNP in 1996 and 1997, respectively, while the expenditure ratio remained roughly the same. Since then, the national government deficit has widened due to the adverse impact of the Asian crisis mainly on the revenue side. An increase in tax revenues between 1991 and 1998 was more than offset by declines in nontax revenues (excluding privatization). At the same time, noninterest current expenditure increased by about 1.5 percent of GNP, due to a sharp increase in the wage bill and transfers to local government units. In contrast, operation and maintenance outlays and capital expenditures were compressed in an effort to limit the overall deficit.

Other public sector entities also improved their financial position in the 1990s, with aggregate deficits declining to below I percent of GNP since 1995. An important element in this regard was the decision of the government in 1996 to discontinue its intervention in the petroleum market via the Oil Price Stabilization Fund. However, in recent years, growing surpluses of the social security institutions, local government units, and government financial institutions have masked a deteriorating position of government-owned and -controlled corporations, in particular, the National Power Corporation.

Reflecting these developments, the public debt-to-GNP ratio declined until 1997, but has picked up since then. Total gross liabilities of the public sector,2 as a ratio to GNP. fell from about 110 percent in 1990 to about 90 percent in 1997. but increased to more than 100 percent in 1998. For the national government, the debt-to-GNP ratio fell from 70 percent in 1990 to 51 percent in 1996. before rising to about 60 percent in 1998. As a result of the still high level of outstanding debt, interest still constitutes a significant share of national government expenditure.

Despite the reforms of the 1990s, particularly tax reforms, a number of public sector issues remain to be addressed. In the national government budget, a stronger revenue effort is needed by improving tax administration and curbing fiscal incentives. On the expenditure side, the rapidly rising wage bill and allotments to local government units will need to be contained through civil service reform and a restructuring of intergovernmental fiscal relations. Outside the national government, the most pressing issue is the restructuring and privatization of the National Power Corporation.

Trends in National Government Revenues and Expenditures During the 1990s

There has been substantial consolidation in the national government fiscal accounts in the early 1990s, although part of it was reversed over the past two years. The main issues in the national government budget are weak tax administration, the wide range of tax incentives, intergovernmental fiscal relations, and civil service reform.

Revenues

Historically, tax collection in the Philippines has failed to harness its full potential. Although the revenue effort has been similar to that in Indonesia and Thailand, it has been lower than in Korea and Malaysia (Table 3.9). As discussed below, revenue generation has suffered from weak tax administration and the provision of Fiscal incentives. Because of low collections from direct taxes (mostly caused by under-performance of the enterprise profit tax due to the extensive use of tax holidays), the Philippines has had to rely more on indirect taxes, particularly import duties.

Table 3.9.Revenue Generation and Structure in the Asian-5(In percent of GDP, 1990–96 average)
PhilippinesIndonesiaKoreaMalaysiaThailand
Tax revenues15.615.816.620.416.7
Taxes on income, profits, and capital gains5.39.35.99.25.2
Of which: corporate income tax2.14.92.46.83.0
Social security contributions0.00.01.30.30.2
Taxes on payroll and work force0.00.00.00.00.0
Taxes on property0.00.30.40.10.4
Domestic taxes on goods and services4.85.06.36.07.5
Taxes on international trade and transactions4.80.91.43.93.3
Other taxes0.60.11.20.90.0
Nontax revenues2.71.92.66.82.0
Total revenues18.317.719.227.218.6
Source: International Monetary Fund. Government finance Statistics Yearbook.
Source: International Monetary Fund. Government finance Statistics Yearbook.

Philippine revenue policy has aimed at reducing the reliance on international trade taxes while bolstering domestic tax revenue. Mainly because of reductions in the effective import tariff, revenue of the Bureau of Customs has fallen from more than 5 percent of GNP in the early 1990s to 4 percent of GNP in 1997, and 3 percent of GNP in 1998. At the same time, major tax reforms have yielded an increase in the domestic tax collections by 3 percent of GNP over 1991–98.

Since 1986, tax reform has been an ongoing concern (Appendix 3.1 describes the tax system in the Philippines). The two major phases of tax reforms have been the 1986 tax reform package and a comprehensive set of reforms started in 1994 (including the Comprehensive Tax Reform Package of 1996–97). The 1986 reforms included changes in the individual and corporate income tax, the adoption of a VAT, and abolition of most export duties. Starting in 1994, the government embarked on a comprehensive set of reforms that included expansion of the VAT, rationalization of excise and oil product taxes, and major amendments to income tax legislation (Box 3.1.).

While these reforms have produced a more structurally sound tax system, the improvement in collections intended under the Comprehensive Tax Reform Package has not materialized to the extent expected. In particular, the VAT expansion has failed to yield the envisaged revenue gains, with the ratio of domestically collected VAT to GNP falling from 2.1 percent of GNP in 1994 to 1.7 percent of GNP in 1998. While part of this can be attributed to the recent slowdown in economic activity, it is likely that weak administration and failure to rein in tax incentives have also contributed.3

Rationalization of tax incentives is an important unfinished item of the reform agenda (Box 3.2). Despite the government’s original plans, the final Comprehensive Tax Reform Package legislation did not address the tax incentives problem. Key areas for reform include abolishing tax holidays, rationalizing the granting of incentives under the Investment Priorities Plan, limiting the use of tax credits (which are vulnerable to fraud), and reducing the number of specific laws that render tax administration difficult. Rationalization of incentives and phasing out of tax holidays could result in a substantial, but unquantifiable gain in revenues.4

Improving tax administration is also critical. In recent years, both the Bureau of Customs and the Bureau of Internal Revenue have made progress in modernizing their operational procedures—building new computer and information systems and restructuring their organizations. While customs administration improved notably, the Bureau of Internal Revenue remains plagued by major deficiencies, including corruption, lack of large taxpayer control, inadequate audit programs, and weak enforcement. The Bureau of Internal Revenue is currently in the process of reassessing its reform strategy.

Expenditures

In addition to the weak revenue effort, sizable interest and wage bills have constrained the Philippines’ room for maneuver on the expenditure side (Table 3.10). As a result, capital outlays in the Philippines have been substantially lower than in most other Asian countries. The broad composition of national government expenditures has remained unchanged in the 1990s, with current expenditures of about 16 percent of GNP, and capital expenditures of about 3 percent of GNP. While expenditures show hardly any cyclical response, the composition of current spending has changed markedly in recent years as lower outlays on interest, operations and maintenance, and subsidies were offset by higher allotments to local government units and a ballooning wage bill. The temporary hike in the interest bill in 1998 owing to the regional crisis was countered by restraints in capital outlays.

Table 3.10.Expenditure Structure in the Asian-5(In percent of GDP, 1990–96 average)
PhilippinesIndonesiaKoreaMalaysiaThailand
Current expenditure16.58.714.420.911.0
Wage bill5.62.62.27.95.0
Purchase of goods and services2.81.73.14.33.9
Interest bill5.81.80.64.30.9
Subsidies and transfers2.32.78.45.11.2
Capital expenditure2.77.72.85.14.4
Net lending0.40.42.20.30.2
Total expenditure19.516.919.426.315.6
Source: International Monetary Fund. Government Finance Statistics Yearbook.
Source: International Monetary Fund. Government Finance Statistics Yearbook.

Transfers to local government units have become a rapidly growing burden on the national government budget. The 1991 Local Government Code, which restructured intergovernmental finances (see below), requires the national government to transfer a specific proportion of domestic tax revenue to local government units.5 Due to its design, transfers to local government units tripled to almost 3 percent of GNP in 1998, and are expected to increase further in the coming years.

While civil service reform has been on the agenda for over a decade, actual progress has been slow. A program to “streamline the bureaucracy” was launched in 1994 to rationalize the compensation structure for the civil service while reducing personnel, so as to maintain the overall wage bill at the 1995 level of 5.6 percent of GNP. While substantial wage increases have been granted to all employees, the size of the civil service has not been sufficiently reduced nor have the wages of senior officials been increased adequately. As a result, the national government wage bill has increased by almost 2 percent of GNP since 1994 to 7.1 percent of GNP in 1998 (Figure 3.2).6

Figure 3.2.National Government Wage Bill and Public Sector Employment

Sources: Philippine Civil Service Commission; and IMF staff estimates.

Capital spending in the 1990s has been insufficient to greatly reduce the backlog of decades of underinvestment in infrastructure. Despite a relatively high road intensity compared with other East Asian countries, road standards and maintenance are inadequate, and only 20 percent of the road network is paved. Also ports and the rail system suffer from lack of maintenance, and supply of clean and safe water for urban as well as rural residents is insufficient. While the government has tried to encourage private sector participation through build-operate transfer arrangements, private sector involvement in infrastructure has been limited.

Accommodated by a reduction in the interest bill, national government expenditure has been reallocated toward social and general public services (Figure 3.3).7 However, this development reflects mainly an increase in the wage bill (as discussed above), and has not led to an improvement in the provision of basic education and health care services, as discussed in Section VII.

Figure 3.3.National Government Expenditure in a Functional Breakdown

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

Military spending in the Philippines has been low during the 1990s, but could rise substantially in the future (Box 3.3).

Box 3.1.Tax Reforms Since 1994

In 1994, the government launched a reform program designed to correct the long-standing problem of low tax collection by expanding the tax base. Much of this ambitious program has been realized with the important exception of tax incentive rationalization. However, despite intentions to raise the tax revenue ratio, particularly for consumption taxes, the reform has turned out broadly revenue neutral.

  • The first phase of the program was a reform of the VAT system, bringing a significant number of services, previously not taxed, into the system. This law was passed in 1994, though its implementation was delayed until 1996 as a result of a legal challenge to its constitutionality.1 The effect on revenue has been disappointing as the collection of VAT on domestic consumption fell from 2.1 percent of GNP in 1994 to 1.7 percent of GNP in 1998.
  • The second phase of the reform, referred to as the Comprehensive Tax Reform Package, covered income and excise taxes, rationalization of tax incentives, and statutory changes to tax administration.

Excise tax reform was enacted effective at the end of 1996. This legislation rationalized excise taxation on alcohol and tobacco products, in part by levying specific rather than ad valorem taxes to reduce tax evasion. As a result, excise lax revenue jumped by one-half of I percent of GNP to 2.5 percent of GNP in 1997; however, with the adverse effect of the Asian crisis on the sale of gasoline, excise tax revenue fell to 2.2 percent of GNP in 1998.

Also during 1996, oil product taxation was rationalized, with a substantial reduction in import tariffs, which was partly offset by the introduction of petroleum excises.

Income lax reform was passed in December 1997. Ultimately, the net revenue gain from the overall income tax package in the form enacted was small.

Major amendments to the individual income tax included changes in the rate structure, bringing the top marginal rate into line with the corporate tax rate (currently at 33 percent, but scheduled to be reduced to 32 percent in 2000 and thereafter), and increases in the level of personal exemptions, (The provisions of the individual tax reform, while structurally sound, were anticipated to result in a revenue reduction of approximately £8 billion annually; however, a wage increase offset this revenue loss such that revenues from the individual income tax increased slightly). The package included the reimposition through final withholding at a 6 percent rate, increasing to 10 percent by 2000.

Important structural improvements were made to the corporate income tax, including most notably a gradual rate reduction to 32 percent in 2000: the enactment of a fringe benefits tax: adoption of a net operating loss carry forward; disallowance of tax benefits of interest arbitrage; taxation of interest paid to residents from foreign currency deposit accounts; and the adoption of a corporate alternative minimum tax (although not in the preferred form of a tax on net assets, as originally proposed by the government, but rather as a tax on gross receipts less cost of goods sold).

The Comprehensive Tax Reform Package also included various provisions designed to increase administrative efficiency and reduce the scope for fraud and abuse.

1Notably, the expanded VAT included within its base value added in financial intermediation services. Such services are universally exempt in existing VAT systems because of measurement difficulties in the credit/invoice VAT. The implementation of this portion of the expanded VAT has been repeatedly postponed und has not yet come into effect.

Other Public Sector Entities

After large deficits in the 1980s, the fiscal position of other public sector entities improved substantially in the 1990s. Besides the national government, the consolidated public sector encompasses the following entities:

  • Local government units;8
  • Government-owned and -controlled corporations;
  • Oil Price Stabilization Fund—abolished in 1996;
  • Central Bank-Board of Liquidators:
  • The old Central Bank of the Philippines, replaced in 1993 by the Bangko Sentral ng Pilipinas;
  • Social security institutions; and
  • Government financial institutions.

Their consolidated balance (excluding the national government) has been in the range of small surpluses (in 1991 and 1996) and deficits below 1.5 percent of GNP. Future reform efforts need to focus on intergovernmental fiscal relationships and the financial position of government-owned and -controlled corporations, in particular the National Power Corporation.

Local Government Units

The 1991 Local Government Code reformed the governance structure in the Philippines by transferring more powers to local government units. Along with this reform, many former national government expenditure responsibilities (in the areas of agriculture, environment and natural resources, health, infrastructure and maintenance, and social welfare) were devolved to local government units, which have become the main provider of the social safety net. To finance the increased local government unit spending, the code has guaranteed transfers from the national government and granted fiscal autonomy to local government units, including local taxing powers and the right to borrow.

Box 3.2.Tax Incentives

Philippine law includes a vast array of investment tax incentives of all types, granted by the Board of Investment, special economic zones, the Philippine Economic Zone Authority, and specific laws. Tentative estimates of the revenue loss due to these incentives point to an order of magnitude of at least 1 percent of GNP.

Board of Investment

As originally enacted in 1987, the Omnibus Investments Code provides a number of tax incentives for Board of Investment registered enterprises, including income tax holidays, customs duties exemptions, and export tax credits. Board of Investment registration may be given to firms in export-oriented industries, “catalytic industries” (that is, certain sectors of manufacture and agriculture/forestry), industries undergoing adjustment (for example, textiles), support activities (that is, infrastructure, telecommunications, transportation), and “mandatory inclusions” (for example, minerals, iron, and steel). The scope is broad—it is estimated that approximately one-third of all imports of capital equipment is by Board of Investment registered enterprises.

Investment priorities plan. Under the Omnibus Investment Code of 1987, an annual plan must be drawn up by the Board of Investment and approved by the president. This plan covers priority areas that receive tax and other incentives, and is viewed as a prime vehicle of industrial policy.

Income tax holidays. Board of Investment registered firms are eligible for income tax holidays lasting up to eight years. If tax holidays were to be abolished, this would most likely apply only to newly registered firms, as contracts with already registered firms would need to be grandfathered.

Tax credits. These are benefits designed to offset the adverse incentives of Board of investment duly exemptions for using imported capital equipment rather than domestically manufactured equipment. Board of In vestment enterprises are entitled to credits in the amount of the differential between the 3 percent minimum tariff (or the rate of zero, whichever applies) and the standard tariff rate that would have applied to domestic capital, which they purchase, had it been imported.

Special Economic Zones and Philippine Economic Zone Authority

Enterprises located in the former Clark and Subic bases (the “special economic zones”) are entitled to similar tax holidays and duty exemptions as those for the Board of Investment firms, but on a permanent basis. In addition, there are extremely broad provisions for retail duty-free shopping in these zones, extending not only to international travelers upon their return or departure from the Philippines, but to residents of the zones and even residents near the zones. The Philippine Economic Zone Authority (one of the monitored government-owned and -controlled corporations) administers numerous export processing zones that grant tax benefits to eligible firms; these zones have been multiplying rapidly.

Other Laws

Export Development Act of 1994. The Export Development Act allows for various incentives to encourage the growth of export industries.

Agriculture and Fisheries Modernization Act of 1997. This bill exempts from customs duty all imports (not just for capital) used for agriculture; implementing rules and regulations still need to be adopted, but—if interpreted liberally—the implementation of this bill could result in a revenue loss of up to 0.8 percent of GNP.

In addition to the above laws, there exist a plethora of special laws for certain industries (for example, the Iron and Steel Industry Act and Mining Act), many of which fall under the supervision of the Department of Trade and Industry.

Decentralization has more than doubled the size of local government unit budgets. Substantial transfers from the national government, but also improved internal revenue generation, have enabled local government units to increase their expenditures from 1.5 percent of GNP in 1990 to almost 4 percent of GNP in 1998, while running small surpluses in the range of 0.1–0.4 percent of GNP (Figure 3.4).

Figure 3.4.Local Government Units

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

However, implementation of the Local Government Code has revealed some structural weaknesses.

  • While the code has empowered local government units with many new responsibilities, it has left the existing administrative structures largely intact. As a result, many local government units are not equipped with the necessary organization and implementation capacity to discharge the mandate they received. At the same time, transparency and monitoring of local government units is weak as there are no unified accounting and reporting rules.
  • The transfer arrangements are not providing incentives to local government units to increase their tax effort and have created an overdependence of some local government units on the allotments from the national government (some provinces and municipalities now get more than 95 percent of their income from the national government allotment). Also, local government unit revenue collection appears to be inefficient, with the costs of tax collections estimated to range from 30 percent of revenue collected to more than 100 percent.
  • Coordination between different levels of government is deficient, and some expenditure responsibilities have not yet been completely devolved, resulting in duplication or inadequate delivery of services. This shortcoming has been exacerbated by the distribution formula, which does not ensure a minimum quality of goods and services provided by local government units.9
  • While only few local government units have tapped capital markets so far, there is a risk of moral hazard from implicit guarantees from the national government.10

Government-Owned and -Controlled Corporations 11

After a short period of consolidation through the mid-1990s, government-owned and -controlled corporation balances have deteriorated in recent years. Privatization in 1994 and 1995 reduced the size of the government-owned and -controlled corporation sector by roughly 30 percent. Since then, a rise in current spending of the remaining government-owned and -controlled corporations has led to a gradual increase in the consolidated government-owned and -controlled corporations’ deficit (Figure 3.5), Principally responsible for this deterioration have been the National Power Corporation and the National Food Authority.

Figure 3.5.Government-Owned and -Controlled Corporations

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

After major progress in the mid-1990s, privatization has leveled off in recent years. In 1986, the Committee on Privatization (to oversee the privatization program) and the Asset Privatization Trust (to deal with the marketing aspect of privatization) were created. After a slow start, the privatization process gained strong momentum in the mid-1990s with the sale of Petron and the National Steel Company. In light of the slow pace of privatization in recent years, the mandate of the privatization agencies has been extended until December 1999.

Box 3.3.Military Expenditures: Developments in the 1990s and Outlook

Military spending in the 1990s has been below the Asian average. Direct military spending has been cut by one-half in 1990–98 to about 1 percent of GNP in 1998, while military spending including outlays for health, education, social security, and housing has been about 1.5 percent of GNP.1 Currently, about 70 percent of the Department of National Defense’s budget is allocated to cover salaries, contributions to a pension fund, as well as direct pension benefits. While roughly 20 percent of the budget is used for operation and maintenance, capital outlays amount only to about 10 percent.

Military spending may increase substantially in the future. The implementation of the Armed Forces of the Philippines Modernization Act (enacted in 1995) will boost military spending as it appropriated an amount of £165 billion for the modernization of the Armed Forces of the Philippines over 15 years. The Armed Forces of the Philippines modernization will be financed through an extrabudgetary fund, which has been endowed with £30 billion from privatization receipts, but has not yet become operational.

Military Spending(In percent of GDP)
19931995199619971998
Philippines1.41.61.51.61.4
Developing Asian countries2.01.81.71.71.7
Sources: international Monetary Fund World Economic Outlook; and Philippine authorities.
Sources: international Monetary Fund World Economic Outlook; and Philippine authorities.
1Data from other sources (U.S. Arms Control and Disarmament Agency, Stockholm international Peace Research Institute, and Institute for International Strategic Studies) indicate that military spending was in the range of 1.4–2.8 percent of GDP for 1992–96. The variance can be explained by different definitions employed to measure military spending. However, most sources report a declining trend in military spending.

Since the power crisis of the early 1990s, the National Power Corporation has been incurring sizable deficits. The National Power Corporation entered the 1990s in a fragile position as it had financed its 1980 expansions by extensive external borrowings (Box 3.4.). its position was further weakened by the power crisis at the beginning of the 1990s, Part of the government’s response involved the signing of contracts with Independent Power Producers that locked the National Power Corporation into power purchases on relatively expensive terms for the next decades. Bolstered by fast growing sales, the National Power Corporation’s position improved temporarily in the mid-1990s, but it has deteriorated sharply in recent years, reflecting depressed power sales as a result of the economic slowdown and delays in the implementation of tariff increases. Plans for reform of the power sector and privatization of the National Power Corporation have been held up by delays in passing enabling legislation (the Omnibus Electricity Bill).

The National Food Authority’s financial position has been somewhat volatile due to its principal mandate to stabilize the domestic market for rice.12 The National Food Authority was created 27 years ago, with a temporary mandate, until the agricultural sector develops sufficiently. To date, it continues to handle procurement, marketing, and distribution of grains, and its interventions have been costly at times. In addition to its regulatory and supervisory function, the National Food Authority is involved in providing a limited social safety net to the poorest 10percent of the population in some regions (by distributing vouchers to poor families, with the help of nongovernmental organizations, for buying fortified rice at a subsidized price). With support from the Asian Development Bank, the government intends to liberalize the grain market in the near future.

Oil Price Stabilization Fund

The government ceased to intervene in the oil market by deregulating the sector in 1996 and subsequently abolishing the Oil Price Stabilization Fund. The Oil Price Stabilization Fund was set up in 1984 to shield consumers from fluctuations in world oil prices and the exchange rate, but delays in price increases led to the accumulation of large deficits in the Oil Price Stabilization Fund. Since deregulation (completed in early 1998), prices for petroleum products are allowed to move freely, and the Oil Price Stabilization Fund has discontinued its operations.

The Central Bank

With the liquidation of the old central bank, a new central bank—Bangko Sentral ng Pilipinas—and a fund to liquidate the old central bank’s debt (Central Bank-Board of Liquidators) were created in 1993. The old central bank had been running deficits in the range of 1–2 percent of GNP. The Central Bank Board of Liquidators assumed the (entirely external) debt of the old central bank and—to service the principal and interest on its liabilities—was endowed with government securities for £220 billion and mandated to receive a certain share of Bangko Sentral ng Pilipinas’ profits. In 1994–98, the Central Bank-Board of Liquidators has had annual deficits of about 1 percent of GNP, and the Bangko Sentral ng Pilipinas has achieved moderate profits in most years.

Box 3.4.Electricity Sector and National Power Corporation

The National Power Corporation is the largest government-owned and -controlled corporation in the Philippines, it is the only seller of electricity in the wholesale market and has a monopoly in transmission. Distribution is handled by the private sector.

Background

  • During the 1980s, the National Power Corporation’s substantial expansion was covered almost exclusively by external borrowings guaranteed by the national government (in part because electricity tariffs were not adjusted in a timely manner).
  • At the beginning of the 1990s, the Philippines faced severe shortages of electricity, brought on by neglect of maintenance and inadequate capital investment in the late 1980s. The power crisis was alleviated by large and expensive emergency investment projects in new capacity, financed by external borrowing (and some build-operate-transfer arrangements). In addition, the National Power Corporation signed contracts with Independent Power Producers, which locked the National Power Corporation into expensive power purchase agreements for the next several decades.

Main Problems in the 1990s

  • The National Power Corporation’s debt-to-equity ratio increased from 1.6 in 1993 to 4.2 in 1997, reflecting high operating expenses, increased financing charges, and currency depreciation,
  • The arrangements with Independent Power Producers are lucrative to the Independent Power Producers
  • and expensive for the National Power Corporation. For example, in the wake of the Asian crisis, power sales were depressed, but since the National Power Corporation has minimum off-take agreements with Independent Power Producers, it has had to buy power for which demand did not exist. The National Power Corporation’s room for increasing its tariffs is limited, as Philippine end-user tariffs are the highest in Asia outside Japan, reflecting not only the National Power Corporation’s costs, but also inefficiencies in the distribution sector that are mainly handled by rural electric cooperatives.1

Reforms

Plans for reform of the power sector and privatization of the National Power Corporation hinge on passage of the reform program of the Omnibus Power Restructuring Bill currently before congress. Under the reform program, the National Power Corporation’s monopoly in power generation would cease. The generating assets would be grouped into several generating companies that would be privatized, and power generation would be private sector-dominated. Open access transmission and distribution systems would be established to support competitive markets in electricity.

1While East Asian countries’ distribution losses were about 13 percent in 1992–95. Philippines’ distribution losses were higher by 3 percent. Moreover, the average collection efficiency of the distribution sector is only about 90 percent.

Social Security Institutions

Reflecting sizable increases in their membership while the number of beneficiaries has been lagging, the social security institutions have been running substantial surpluses.13 With the exception of 1994, when the social security institutions invested in shares of Meralco (the Manila Electric Company), the aggregated balance of the social security institutions has been in surplus. After a decline in the surplus in the mid-1990s owing to an increase in benefits, the surplus increased in 1998, reflecting, inter alia, an increase in membership and contribution rates.

However, the financial viability of the social security institutions system is a matter of concern at present levels of benefits and returns. The social security institutions’ capacity to pay may be undermined by sizable lending at below-market interest rates to their members and the government and in-house management that is not independent from political interference. This could result in a cut in future pension benefits or the need to raise membership contributions.

Government Financial Institutions

After taking action to improve their lending practices and financial controls in the 1980s, the government financial institutions have been producing profits. The government financial institutions comprise the Development Bank of the Philippines, Phii Guarantee (recently renamed TIDCORP), and the Land Bank. The aggregated balance of the government financial institutions has been in surplus, hovering about 0.3 percent of GNP in the 1990s. The Development Bank of the Philippines is slated for privatization.

Fiscal Response to the Asian Crisis, 1997–99

The overall fiscal response to the Asian crisis was broadly appropriate, although better tax administration might have prevented the need for expenditure cuts. With monetary policy geared toward stabilizing the peso, fiscal policy took up the task of supporting domestic demand (Box 3.5.). The extent of fiscal relaxation reflected the more modest economic slowdown compared with other crisis countries, as well as constraints imposed by the high level of public debt, and concerns over adverse market reaction to a higher deficit. In implementing fiscal policy, better tax collection would have helped shield critical expenditures from cuts, particularly on social priorities and infrastructure.

To examine further the policy response to the crisis, fiscal developments in 1997-98 are decomposed into those caused by economic elements and policy elements, respectively. The analysis decomposes changes in the fiscal balances into:

  • endogenous changes owing to economic elements, which are further broken down into three main components: growth and imports, exchange rate, and interest rate;
  • changes induced by policy measures, defined to include both active and passive discretionary policy measures;14 and
  • residual changes that cannot be accounted for by either of these elements.

The decomposition highlights the following developments (Table 3.11).

  • In 1997, the fiscal deficit widened slightly relative to the previous year, although economic elements worked in the direction of shrinking the deficit.Among the economic elements, a lower domestic interest bill was the dominant influence on the fiscal outcome.The major policy measures in 1997 were a substantial increase in the wage bill (by 0.9 percent of GNP) and somewhat higher capital expenditure, partly offset by the elimination of the transfer to the Oil Price Stabilization Fund.
  • In 1998, the fiscal deficit widened further by almost 2 percentage points of GNP (relative to 1997), with the widening of the deficit owing to changes in economic elements partially contained by policy measures.
Table 3.11.Changes in National Government Fiscal Balances(Relative to previous pear; in percent of GNP)
199619971998
Expenditures19.219.919.5
Change in expenditure0.7–0.5
Cyclical change0.11.2
Change in exchange rate0.41.1
Change in domestic interest costs
(including Central Bank-Board of Liquidators)–0.30.2
Other0.7–1.7
Identifiable policy changes 10.8–1.6
Of which: personnel costs (wage adjustment)0.90.3
Allotments to local governments0.2–0.2
Transfers to Oil Price Stabilization Fund–0.40.0
Other–0.1–0.1
Revenues18.619.216.9
Change in revenue0.6–2.3
Cyclical change0.4–1.2
Income decline/increase0.4–1.2
Change in exchange rate0.30.6
Change in mix of dutiable imports–0.3–0.6
Other0.1–1.1
Identifiable policy changes–0.1–0.2
Other 20.2–0.9
Balance–0.6–0.7–2.6
Change in balance–0.2–1.9
Due to cyclical factors0.4–2.4
Other–0.50.5
–0.91 4
Identifiable policy changes0.4–0.8
Memorandum item
Nominal GNP (in billions of pesos)2,2612,5232,794
Sources: Data provided by the Philippine authorities; and IMF staff estimates.

Including changes to maintain a constant expenditure/GNP ratio.

includes change in the effectiveness of tax administration and Central Bank-Board of Liquidators’ operations.

Sources: Data provided by the Philippine authorities; and IMF staff estimates.

Including changes to maintain a constant expenditure/GNP ratio.

includes change in the effectiveness of tax administration and Central Bank-Board of Liquidators’ operations.

Three economic ingredients (income growth, interest rates, and change in the mix of dutiable imports) contributed to a widening of the fiscal balance. The predominant ingredient was the slowdown in growth and the change in the mix of imports, which affected tax revenues by more than 1.5 percent of GNP.

The policy measures were almost entirely on the expenditure side, as outlays were compressed to contain the effect of economic ingredients on the fiscal balance.

Fiscal Sustainability and Medium-Term Outlook

As a minimum policy requirement, fiscal policy should not lead to a situation in which the public debt-to-GNP ratio is increasing continuously. Historical data can be analyzed to determine whether Philippine fiscal policies so far have been sustainable. A medium-term projection can be used to take into account prospective developments that could have a significant bearing on the future sustainability of fiscal policies.

Although there are risks to fiscal sustainability, historical indicators and the medium-term outlook both suggest “sustainable” public debt dynamics. Historical indicators point to a substantial improvement in the national government position.15 While some developments pose a threat to fiscal sustainability (for example, the system of intergovernmental fiscal finances and the recent increase in the wage bill), the medium-term fiscal outlook appears sustainable provided the government follows through with reforms.

Key indicators of sustainability—fiscal balances and debt-to-GNP ratios—have improved in recent years. However, with a shift to more expansionary fiscal policies in response to the Asian crisis, there has been some deterioration in 1998.

  • Overall balances. The reduction in the consolidated public sector deficit as well as in the national government budget deficit in the 1990s have resulted in an improvement in fiscal sustainability during the 1990s (see section on fiscal developments). In response to the Asian crisis, however, both the national government as well as the consolidated balance deteriorated significantly.
  • Sustainable primary deficit. The national government budget has registered primary surpluses throughout the 1990s. Moreover, after a period of unsustainable fiscal policies at the time of the debt crisis in the 1980s, the national government’s primary balance has been more contractionary than a “sustainable primary balance,” with the exception of the crisis year 1998. In Figure 3.6, fiscal sustainability fs is measured by comparing the actual primary deficit pds 16

Figure 3.6.Sustainability of National Government Primary Balances

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

Note: Negative indicates sustainable policies; positive indicates unsustainable policies.

1 Sharp peaks in 1985 and 1998 reflect substantial increases in the debt stock.

where g is real domestic growth, r real domestic and foreign interest rates, c the rate of real exchange rate depreciation, and d the domestic and foreign debt ratios to GNP.17 A positive sign indicates that the primary deficit exceeds the sustainable level, resulting in an increase in the debt-to-GNP ratio, while a negative sign implies a decline in the ratio.18

Box 3.5.Fiscal Stance, 1997–99

Following several years of fiscal consolidation, 1997–98 witnessed a shift to a more expansionary fiscal policy.

  • Although the fiscal program for 1997 had envisaged a further deficit reduction, a sizable revenue shortfall resulted in a widening of the deficit, implying a fiscal stimulus of 0.6 percent of GNP. The revenue shortfall reflected mainly administrative slippages in revenue collection, as economic growth was not seriously affected by the regional crisis until 1998; delays in implementing the Comprehensive Tax Reform Package also played a role.
  • While the initial program for 1998 aimed at returning gradually to the earlier consolidation path by reversing the policy slippages in 1997, it was modified to accommodate a significant increase in the fiscal deficit to take into account the effects of lower growth and somewhat higher social spending. As a result, fiscal policy imparted a stimulus of 1.2 percent of GNP, reflecting a sharp fall in revenues that was only partly offset by expenditure restraint.

The original program for 1999 had foreseen a return to fiscal consolidation assuming the recovery was well established by then. As prospects for recovery remained uncertain, however, the government decided not to withdraw fiscal stimulus, while medium-term considerations prevented provision of additional stimulus. Thus, the fiscal program was revised to keep a broadly unchanged fiscal stance, with a further fall in revenue offset by expenditure savings.

Fiscal Balances(In percent of GNP)
1996199719981999
ActualActualActualProjection
Underlying consolidated public sector balance10.0–1.5–3.1–3.2
National government balance2–0.6–0.7–2.6–2.7
Primary balance34.13.62.11.6
Neutral national government balance4–2.3–2.0–2.7–2.9
Fiscal stance5–1.7–1.2–0.1–0.1
Fiscal impulse6–0.60.61.20.0
Of which:Revenue–0.7–0.12.20.3
Expenditure0.10.7–1.0–0.3
Memorandum items
Real GDP growth (in percent)5.75.2–0.52.2
Potential GDP growth (in percent)4.34.33.03.0
Sources: Philippine authorities: and IMF staff estimates.Note: A caveat needs to be added to this kind of analysis. The analysis is based on the assumption of recurrent cycles around potential output, contrasting the actual fiscal balance with a measure of the cyclically adjusted balance or neutral balance. However, when there are large adjustments including possibly persistent changes in economic conditions (for example, in the exchange rate) and structural changes in the economy, the assumption of a recovery back toward the original equilibrium may be less valid.

Consolidated public sector minus privatization receipts of the national government and government-owned and -controlled corporations.

includes the net deficit of the Central Bank Board of Liquidators and excludes privatization receipts.

The primary balance is defined as the national government balance excluding interest payments.

Describes a fiscal policy that is neither procyclical nor countercyclical (neutral revenue is defined as the revenue ratio in the base year 1991. when actual output is assumed to have been equal to potential, multiplied by actual GNP; neutral expenditure is the expenditure ratio in the base year, multiplied by potential GNP in the current year).

Defined as the difference between the actual and the neutral fiscal balance. A positive fiscal stance represents an expansionary fiscal policy relative to the base year, while a negative fiscal stance represents a contractionary fiscal policy relative to the base year.

Defined as the change in the fiscal stance between succeeding years. Positive fiscal impulse stems either from a revenue impulse, a situation in which actual revenues grow more slowly than neutral revenues, or one in which actual expenditures grow more rapidly than neutral expenditures, or both.

Sources: Philippine authorities: and IMF staff estimates.Note: A caveat needs to be added to this kind of analysis. The analysis is based on the assumption of recurrent cycles around potential output, contrasting the actual fiscal balance with a measure of the cyclically adjusted balance or neutral balance. However, when there are large adjustments including possibly persistent changes in economic conditions (for example, in the exchange rate) and structural changes in the economy, the assumption of a recovery back toward the original equilibrium may be less valid.

Consolidated public sector minus privatization receipts of the national government and government-owned and -controlled corporations.

includes the net deficit of the Central Bank Board of Liquidators and excludes privatization receipts.

The primary balance is defined as the national government balance excluding interest payments.

Describes a fiscal policy that is neither procyclical nor countercyclical (neutral revenue is defined as the revenue ratio in the base year 1991. when actual output is assumed to have been equal to potential, multiplied by actual GNP; neutral expenditure is the expenditure ratio in the base year, multiplied by potential GNP in the current year).

Defined as the difference between the actual and the neutral fiscal balance. A positive fiscal stance represents an expansionary fiscal policy relative to the base year, while a negative fiscal stance represents a contractionary fiscal policy relative to the base year.

Defined as the change in the fiscal stance between succeeding years. Positive fiscal impulse stems either from a revenue impulse, a situation in which actual revenues grow more slowly than neutral revenues, or one in which actual expenditures grow more rapidly than neutral expenditures, or both.

  • Level of public indebtedness. After a steep rise in the 1980s, national government debt has been on a declining trend from a peak near 90 percent of GNP in 1986 to about 60 percent at end-1990. A similar picture emerges for gross liabilities of the public sector (“public debt” in the following) (Figure 3.7). The peak in the debt stocks in the mid-1980s, with public debt reaching almost 150 percent of GNP. coincides with the debt crisis, when the government had to assume guaranteed private sector obligations in the context of debt rescheduling.

Figure 3.7.Public and National Government Debt

(In percent of GNP)

Sources: Philippine authorities; and IMF staff estimates.

A number of prospective fiscal developments could pose a risk for sustainability. Pressure for more expansionary fiscal policies might arise on both the revenue and expenditure sides, including intergovernmental finances. Moreover, the national government’s finances may be adversely affected, as it has to take over contingent liabilities of some sectors (such as the National Power Corporation).

National Government Revenues

  • A significant part of the fiscal adjustment in the 1990s was based on non recurrent receipts from privatization—a development that is not likely to be repeated in the medium term.
  • Planned changes to the tax system are likely to have a substantial impact on revenues. To bolster revenues, the losses from continued trade liberalization need to be offset by gains from curbing tax incentives (in contrast with continued pressures to expand such incentives).
  • Weak lax administration remains a major risk.

National Government Expenditures

  • The rapidly increasing wage bill threatens future consolidation.
  • Weaknesses in intergovernmental finances also endanger fiscal consolidation. In particular, continually rising national government transfers to local government units (partly caused by the present transfer formula) would raise the fiscal deficit unless national government expenditures are devolved at the same lime. In addition, as local government units have the right to borrow, there is a risk of weakening fiscal discipline unless appropriate debt management and control procedures are in place.

Other Public Sector Entities

  • It is possible that the government may have to assume some liabilities of other sectors as part of their restructuring. These sectors include the banking sector, the energy sector, and other sectors with public enterprise involvement. Even if the government intends ultimately to privatize many of the government-owned and -controlled corporations, it may need first to “clean up” their balance sheets.
  • While a comprehensive assessment of the financial position of the social security institutions is not available, some current features of the system might endanger actuarial solvency.
  • The continued intervention in the grain market is financially risky, and may result in a drain on the budget. Owing to the unpredictable nature of the National Food Authority’s operations, its intervention adds volatility to the consolidated balance.

Under an illustrative medium-term scenario—which assumes that many of the areas of vulnerability discussed above are addressed satisfactorily—the public sector debt stock declines from 73 percent of GNP in 1998 to about 60 percent of GNP in 2010, despite the assumption of debt from other sectors. The illustrative scenario (detailed assumptions and results are presented in Appendix 3.2) assumes that the national government takes over part of the liabilities and implements reforms in the banking and energy sectors and other sectors with public enterprise involvement. Despite the consequent increase in the interest bill, the improvement in the revenue ratio and the reduction in the wage bill assumed under the scenario are sufficient to permit a decline in the debt-to-GNP ratio. Even if medium-term real GNP growth turned out to be somewhat weaker than the assumed 5 percent, fiscal policies would remain sustainable—albeit, of course, with a slower reduction of the debt stock.

Remaining Reform Agenda

Further public sector reforms are essential to support sustainable rapid growth. The following summarizes the key items on the reform agenda considered in the Medium-Term Philippine Development Plan, 1999–2004:

  • A strengthened revenue effort under a less distortionary and more efficient tax system. Tax administration needs to be strengthened to ensure sufficient revenues, transparency, and uniform treatment of taxpayers. Strategic priorities are better control of large taxpayers and adequate enforcement procedures.Fiscal incentives should be streamlined and substantially reduced. This will help raise the revenue ratio, make the tax system less distortionary. and reduce discretion in tax administration.
  • More growth-oriented expenditure. Further reform of intergovernmental finances will be key to sustained fiscal consolidation. To avoid duplication of responsibilities and rationalize expenditures, the scope of devolved services should be reviewed with a view to improving efficiency and quality of services. The revenue-sharing formula should be revised to encourage the mobilization of local revenues and ensure regional equity, and the credit policy framework should include appropriate incentives for prudent local government unit borrowing decisions.

The structure and size of the civil service need to be rationalized.

  • Reforms in other public sector entities. The reforms should focus, in particular, on the National Power Corporation, whose financial position is not sustainable. Deregulation of the electricity market, and reform and privatization of the National Power Corporation should proceed swiftly after passage of the Omnibus Electricity Bill.

The National Food Authority’s intervention in the grain market should be phased out gradually. Increasing private sector participation in the rice market should be allowed, and rice should be sold at cost-recovery prices.

Appendix 3.1.Summary of the Tax System(AS of December 31, 1999)
TaxesNature of TaxSpecial Rules, Exemptions,

Allowances, and Deductions
General Rates
National taxes (Presidential Decree No. 1158, the “National Internal Revenue Code.” as amended by Presidential Decree No. 1994, Executive Order No. 273, and Republic Act No. 8424, “The Tax Reform Act of 1997”)
1. Profit taxes
1.1. Individual income taxResident citizens are taxable on worldwide income. Nonresident citizens, including overseas contract workers, and resident and nonresident aliens are taxable only on Philippine source income.



In the cases of resident citizens, nonresident citizens, resident aliens, and nonresident aliens engaged in a trade or business in the Philippines, income subject to tax is in general taxed under the schedule in the far right column. Philippine source income of nonresident aliens not engaged in a trade or business is subject to tax at the flat rate of 25%. (Capital gains on sales of untraded shares and on real estate are treated the same as for residents. Special rules apply to income of alien individuals employed by regional or area headquarters of multinational corporations and offshore banking units.)
Exceptions—treatment of certain passive income:

Interest, royalties, dividends, and prizes are taxed on a scheduler basis through final withholding in the case of all citizens, resident aliens, and nonresident aliens engaged in a trade or business, as follows:



Rate schedule Annual taxable incomeMarginal

rate
Interest, prizes, and royalties

Interest on deposits in foreign currency deposit system

Interest on long-term deposits held more than five years

Royalties on books and literary works

Dividends
20%

7½%

Exempt

10%

6% 1/1/98;

8% 1/1/99;

10% 1/1/00
(Thousands of pesos)
Not over £10

More than £10 but not exceeding £30



More than £30 but not exceeding £70



More than £70 but not exceeding £140



More than £140 but not exceeding £250



More than £250 but not exceeding £500



More than P500
5%



£500+ 10% of excess over £10

£2,500+ 15% of excess over £30



£3,500 + 20% of excess over £70



£22,500 + 25% of excess over £140



£50,000 + 30% of excess over £250



£125,000 + 34% of excess over £500 in 1998
Net capital gains on shares not traded on the stock exchange are subject to final tax at the rate of 5% if the net gain is P100,000 or less, and 10% if more than P100,000 in the year.
Decedents’ estates and trusts are subject to income tax on their income, subject to the same rules as for individuals. Income distributed currently is deducted. Estates and trusts are subject to a P2CQ00 exemption. Gross income includes all income from whatever source derived, unless specifically exempted.Capital gains from the disposition of real estate are subject to a final tax of 6% of the gross sales price. (Gain realized on sale of a principal residence may be deferred if the proceeds are reinvested in a new principal residence, not more than once every 10 years.)



Exemptions, allowances, and deductions from gross income included in the calculation of taxable income:
Effective January 1, I999, thewp marginal rate shall be 33%, and effective January 1,2000, the top marginal rate shall be 32%.
Personal exemption:

Single individual

Head of family

Married individual

Each dependent up to 4
£20,000

£25,000

£32,000

£8,000
Filing:

Universal filing, except for individuals whose gross income does not exceed their personal exemptions: whose only income is passive income subject to final withholding; or whose income is compensation derived from a single employer, which does not exceed £60,000, and which was properly withheld by the employer.



Estimated tax:



Quarterly estimated tax payments are required for both self-employed individuals and corporations.
Exclusions (most significant):.

Life insurance proceeds; gifts and bequests: compensation for injuries and sickness: retirement benefits: certain prizes and awards; certain 13th month pay; social security contributions; gains from the sale of bonds and certificates of indebtedness with maturity In excess of five years:gains on redemptions of mutual fund shares; fringe benefits—see next section.



Deductions;

No deductions for expenses of earning Income are permitted to scatutory employees other than limited health care Insurance premiums. In lieu of the following, individuals may elect a standard deduction amount. Otherwise, deductions include all ordinary and necessary expenses incurred in the conduct of a trade or business, including losses (with three-year carryforward and capital loss limitation), taxes, bad debts, interest paid (subject to reduction by 39% (38% beginning 1/1/00) of the interest income subject to final withholding tax), depreciation and depletion, charitable concributions, and pension contributions.
1.2. Tax on the profits of enterprisesThe same definition of gross income and deductions applies to corporations as to individuals—the income tax is unified. Rules detailed here regarding depreciation, fringe benefits, and the foreign tax credit would apply to individuals as well as to corporations.



Resident foreign corporations are subject co the same rules as domestic corporations, with the addition of a branch profits tax of 15% on profics remitted. Regional operating headquarters are subject to tax ac 10% of taxable income.



Nonresident foreign corporations are subject to tax of 34% (reducing to 32%) of gross income from Philippine sources, with special rules for interest and dividends.



Special rules apply to insurance companies.



Extensive income tax holidays have been previously granted under the auspices of the Board of Investment.
Intercorporate dividends: exempt.



Depreciation:

Rules are prescribed by regulation, and may include the straight line method; declining balance method: sum of the years digit method.



Fringe benefits tax:

A final tax of 34% (declining to 32%) of the grossed-up monetary value of fringe benefits furnished to employees {other than rank and file employees), including (but not limited to) housing, expense accounts, vehicles, household servants, interest on below-market loans, membership fees and dues, expenses for foreign travel, vacation expenses, educational ass i seance (including co dependents), life or health insurance in excess of what the law allows. Pension contributions to plans and de minimis benefits are excluded.



Foreign tax credit:



Credit available to citizens and domestic corporations for income tax paid or incurred to any foreign country, subject to a per country limitation rule.
Effective January 1. 1998, tax rate is 34% of taxable income; January 1, 1999, rate is 33%; January 1,2000. rate is 32%. (Effective January 1.2000, and subject to certain general economic conditions being satisfied (e.g.. tax effort of 20%). the president may permit corporations to be taxed ac the rate of 15% on gross income less cost of goods sold.)



Nonprofit educational institutions and hospitals are subject to tax of 10% of taxable income.



Passive income is subject to tax under the same rules as applicable to individuals, described above.



Corporate minimum tax: 2% of gross income less cost of goods sold, beginning In fourth year of operation of the business. Excess over the regular tax may be carried forward and credited against the income tax for three succeeding years.
2. Social security contributions (payroll taxes)Rates (as percentage of average monthly income):
(a) Pension funds (SSS: RA 1161 (Social Security Act); R.A. 8282 (amendments to Social Security Act): GSIS: R.A. 8424)



(b) Health insurance R.A. 7875 (National Health Insurance Ace)
Government pension funds consist of the GSIS (Government Service Insurance System) and SSS (Social Security System; general populace government pensions for other workers). Employers, including government agencies, withhold applicable tax and make contributions. The funds also provide disability, death, sickness, unemployment, and maternity benefits.



Health insurance premiums are now paid to the new health care fund (Philippine Health Insurance Corporation (PHIC)). which was separated from the GSIS and SSS in 1998 under a separate new agency.
GSIS. SSS, and PHIC contributions are excluded from gross income for purposes of determining the income tax.



Benefits received from GSIS under R.A. 8291, including retirement gratuity received by government officials and employees, are tax exempt.
SSS



GSIS



PHIC
8.4% (employer S.04%: employee 3.36%); for income not exceeding £10,000; 1% (employer 1%) for sickness, death, and disability; for income not exceeding £1,000 per month.



21% (9% employee and 12% employer) for income not exceeding £10,000 per month; 14% (2% employee and 12% employer) for income in excess of £10,000 per month.



2.5% (employer 1.25%; employee 1.25%) for income not exceeding £3,000 per month.
3. Taxes on goods and services
3.1. Value-added taxCredit-Invoice VAT through the retail level. Imposed on sales, etc., of goods and services and on the import of goods.



Threshold of P550.000 per year, adjusted by the CPI annually. Persons making otherwise taxable sales whose gross sales are below the threshold are subject to a presumptive tax of 3% of gross quarterly sales or receipts.



Under the statute, financial services are subject to the VAT, but the tax has not yet been implemented with respect to financial services.



Excess credits carry forward, except for those attributed to capital goods purchases or zero-rated sales. At the taxpayers’ option, these may be refunded or credited against other national taxes.
Zero rated: (1) export sales and certain related sales of goods and services; (2) foreign currency denominated sales.



Exemptions: various food and nonfood agricultural, marine, and forest products in their original states; fertilizers, seeds, feeds; coal and natural gas and petroleum products subject to excise tax. including raw materials therefore; import of vessels of more than 5,000 tons and spare parts; personal effects, professional instruments and implements, household effects, etc. imported in connection with settlement; services subject to Percentage Tax (see section 3.2); certain services of agricultural contract growers; medical, hospital, veterinary, and dental services; educational services; sales by artists of their work; services rendered by regional headquarters; sales by various types of cooperatives; sale of real property not primarily held for sale in the course of a trade or business, or of low-cost housing; lease of residential units with monthly rentals not exceeding P8,000; sales or imports of books, newspapers, and magazines.
10%.
3.3.3. Petroleum productsSpecific rates vary with product, per liter of volume capacity.Rates by product, per liter of volume:
Lubricating oils

Processed gas

Naphtha, regular gasoline

Leaded premium gasoline

Unleaded premium gasoline

Aviation turbo jet fuel

Kerosene

Diesel fuel

Liquefied petroleum gas

Bunker fuel oil
£4.5

£5.0

£4.8

£5.35

£4.35

£3.67

£0.6

£1.63

£0

£0.3
3.3.4. AutomobilesAd valorem rates based on engine displacement. In the case of imported automobiles not for sals, tax imposed on base equal to total customs value including duties, plus 10%.Rates;
Engine displacement in cc’s
Gasoline

up to 1,600

1,601 to 2,000

2,001 to 2,700

2,701 or over
Diesel

up to 1,800

1,801 to 2,300

2,301 to 3,000

3,001 or over
Rate of tax

15%

35%

50%

100%
3.3.5. LuxuriesAd valorem rate on jewelry, perfumes, and pleasure vessels and yachts.20% of wholesale price or Import value used by Customs, net of excise and VAT.
4. Documentary stamp taxesStamp tax falls upon issuance and transfer of financial instruments, deeds, mortgages, other instruments (but not upon financial derivatives). Tax applies to bonds, stocks, debentures issued in foreign countries if sold or transferred in the Philippines.Some rates:

Issuance of debentures and certificates of indebtedness—£1.50 per P200 face value; sales and transfers of shares—£1.50 per P200 par value.

Each bank check or order for payment—£1.50 bonds; loan agreements, deposit substitutes, bills of exchange, government securities,—P0.30 per P200 face value.
5. Customs duty (Tariff and Customs Code)
(a) Import tariffsTariffs are being reduced gradually under the reform program.Exemptions: Many import tariff incentives have been granted under Board of Investment programs. There are also various special economic zones, including the former Clark and Subic airbases, in which imports are duty free. The annual investment incentive plans entail tariff exemptions as well.Effective protection rates:

Overall weighted average in 1998:



Agriculture, fishery, and forestry

Agriculture

Fishery

Forestry

Mining

Manufacturing




13.2%

14.3%

18.8%

8.2%

2.7%

0.6%

13.5%
(b) Export tariffsNone.
6. Mineral excisesTax based on gross output (but see metallic minerals).Rates:

Coal and coke

Nonmetallic minerals

Metallic minerals





Indigenous petroleum
£10 per metric ton

2% of actual market value

Rates increasing from 1 % to 2% of actual market value over six years

3% of fair international market price, first taxable sale after extraction
7. Estate and donor’s taxes

7.1. Estate tax
Net estate of both resident and nonresident decedents is subject to tax.

Only that part of the gross estate located in the Philippines is included In the net estate of a nonresident.
Exemption for first £200,000.

Deductions from gross estate for: expenses and claims against the estate: property received by bequest or gift within five years of death and previously subject co estate or donor’s tax (proportionate phaseout of deduction over five years): bequests from the escate for public use; net share of surviving spouse in conjugal property.



Foreign tax credit for estate tax imposed by other countries, subject to per country limitation.
Marginal rates of estate tax range from 5%, from £200.000 to £500,000, up to 20% on the value of the net estate in excess of £10,000,000.
7.2. Donor’s taxTotal net gifts annually made by resident or nonresident persons, direct or indirect, in trust or outright, are subject to tax for the donor.Exemption for the first £100,000.



Exemptions in the case of residents for dowries or gifts made on account of marriage by parents up to £10,000; gifts made to the national government or its subdivisions; charitable gifts to accredited organizations, The latter two exemptions also apply to nonresidents. Foreign tax credit for donor’s taxes Imposed by foreign countries.
Marginal rates of donor’s tax range from 2% from £100,000 to £200,000. up to 15% where net gifts exceed £10,000,000.



Net gifts to “strangers” (those outside specified degrees of relationship) are taxable at 30% regardless of amount.

The actuarial solvency of social security institutions needs to be preserved, including by improving the management of their investment resources and delinking them from political interference. Moreover, the coverage of social security institutions should be extended.

Appendix 3.2. Illustrative Medium-Term Scenario

The illustrative scenario (see Table 3A1) is predicated on the following principal assumptions and reforms:

Table 3A1.Illustrative Medium-Term Fiscal Scenario(In percent of GNP)
1998199920002001200220032004200520062007200820092010
Public debt72.990.880.280.579.578.076.274.272.069.566.964.161.3
Foreign38.547.941.739.036.133.531.128.826.724.823.021.319.8
Domestic34.542.938.641.643.444.545.145.445.344.743.942.841.5
National government deficit–1.9–2.3–4.3–3.9–3.7–3.5–3.4–3.2–2.9–2.72.4–2.3–2.1
Revenues16.515.816.616.917.217.517.717.918.118.218.318.318.3
Expenditure18.318.120.920.820.921.021.121.121.020.920.720.620.4
Of which: interest bill13.63.45.55.35.45.45.45.45.35.25.04.94.7
Of which: capital expenditure3.13.03.43.53.63.73.83.94.04.04.04.04.0
Of which: wage bill7.16.46.46.36.15.95.85.75.65.65.65.65.6
Of which: maintenance2.32.12.42.52.62.72.72.72.72.72.72.72.7
Government-owned and -controlled
corporation deficit–1.5–1.1–0.9–0.8–0.7–0.6–0.5–0.4–0.3–0.3–0.2–0.2–0.1
Central Bank-Board of Liquidators
deficit–0.9–0.4–0.7–0.6–0.5–0.4–0.4–0.3–0.3–0.2–0.2–0.1–0.1
Source: IMF staff estimates.

Assumes that the national government will service all public sector debt (including Central Bank-Board of Liquidators and government-owned and controlled corporations) and assume liabilities of 15% of GNP of other sectors.

Source: IMF staff estimates.

Assumes that the national government will service all public sector debt (including Central Bank-Board of Liquidators and government-owned and controlled corporations) and assume liabilities of 15% of GNP of other sectors.

  • Real GNP growth will pick up to 5 percent in the medium term, while inflation will stabilize at 5 percent.
  • Government savings rise by 2 percent of GNP over the next 10 years, with capital spending increasing from 3 percent of GNP to 4 percent of GNP.
  • Impending reforms of the taxation of the financial sector, the tariff structure, and tax incentives will be revenue neutral. At the same time, the revenue ratio (excluding Central Bank-Board of Liquidators) will be raised by about 2 percent of GNP over the next five years, to return to the level of 1997.
  • The wage bill will be reduced gradually over the next five years from 6.5 percent of GNP in 1999 to 5.6 percent of GNP in 2006.
  • The reform of intergovernmental relationships will stabilize national government transfers to local government units at about 4 percent of GNP from 2003 onward.
  • As a working assumption, the national government budget will assume long-term debt from other sectors of about 15 percent of GNP.
  • The deficit of the government-owned and -controlled corporations will be eliminated gradually over the medium term.
  • For presentational simplicity, it is assumed that the national government will take over the debt service for the entire stock of public debt and the financing of the government-owned and -controlled corporation and Central Bank-Board of Liquidators deficits from 2000 onward. The scenario does not take into account any surpluses of the remaining public sector entities (social security institutions, government financial institutions, and local government units).
References

    BlanchardOlivier Jean1990Suggestions for a New Set of Fiscal Indicators,OECD Working Paper No. 79 (Paris: Organization for Economic Cooperation and Development).

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    BuiterWilliam H.1985A Guide to Public Sector Debt and Deficits,Economic Policy Vol. 1 (September).

    TanziVitoKe-youngChu and SanjeevGuptaeds.1999Economic Policy and Equity (Washington: International Monetary Fund).

1The impact of fiscal policy on equity is discussed in Section VII.
2Defined as domestic and foreign gross liabilities of the national government, the central bank, Central Bank-Board of Liquidation, government financial institutions, the Oil Price Stabilization Fund, all government-owned and -controlled corporations, and the Bangko Sentral ng Pilipinas; this is a broader definition than employed in the Staff Report Tables.
3In addition, the full positive impact of the income tax changes were not realized in 1998, the first year of enactment, due to delays in implementation of some provisions.
4The government is in the process of reviewing the fiscal incentive system with a view to rationalizing it.
5The national government transfers to local government units 40 percent of domestic revenue of the third preceding year (including 8 percent that is earmarked for capital outlays of local government units).
6Following adoption of the 1991 Local Government Code, there was a small drop in national government employment that was reversed in later years.
7This breakdown includes national government transfers to local government units, but does not cover total local government unit spending.
8Comprising 78 provinces, 81 cities, 1,526 municipalities, and more than 40,000 villages.
9The distribution formula is based on population, land area, class of local government, but not on the cost of devolved functions, the capacity to raise own revenues, or an equalization of needs across jurisdiction.
10Local government unit borrowing is not managed within the overall public debt management.
11The government-owned and -controlled corporations consist of 13 holding companies, namely the National Power Corporation, Philippine National Oil Corporation, Metropolitan Water and Sewerage System, National Irrigation Administration, National Development Company, Light Rail Transit Authority, National Electrification Authority, National Housing Authority, National Food Authority, Philippine Economic Zone Authority, Philippine National Rail, Local Water Utilities Administration, and Philippine Port Authority. Metro Manila Transit Corporation was included in the list of government-owned and -controlled corporations until its privatization in 1994.
12For example, this mandate explains the substantial deficit of 0.4 percent of GNP in 1998 to finance rice emergency stocks in preparation for potential crop damage by La Niña.
13There are three payroll tax-funded social security institutions with about 20 million members. Public employees are covered under the Government Service Insurance System. Private sector employees have to enroll at the Philippine Health Insurance Corporation and the Social Security System.
14Active policy refers to discrete and well-defined policy measures taken by the authorities, usually in the form of nominal changes in spending or revenue measures. Passive policy refers to not adjusting nominal expenditures as income changes. It should be noted that some judgment is involved in assigning changes in the fiscal balance to one of the categories. Any form of policy inaction can be viewed as a deliberate policy action in favor of the status quo—a problem that is particularly acute in the area of expenditure policy.
15Econometric analyses (unit root tests), however, cannot fully rule out nonsustainability of total gross liabilities of the public sector.
16Defined as the deficit level that could be financed without adding to the debt burden and without resorting to monetary financing.
17The character “*” indicates foreign debt and foreign interest payments. This formula does not include a seignorage component, since it is assumed that most of Bangko Sentral ng Pilipinas’ profits are transferred to the government.
18Alternative fiscal sustainability measures (such as the constant net worth deficit (Buiter (1985)), the primary gap (Blanchard (1990)), and the medium-term tax gap (Blanchard (1990)) are not taken into account, as they are based on a smaller information set of macroeconomic variables.

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