Information about Asia and the Pacific Asia y el Pacífico
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VIII Equity, Growth, and Economic Policies

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)
Prakash Loungani

Equity considerations are playing an increasingly important role in the operational work of the IMF. According to Fischer (1999), this is because “we accept the view that poverty in the midst of plenty is not socially acceptable,” and because equitable adjustment programs are more likely to be sustainable. In the case of the Philippines, the importance of equity considerations is heightened by the persistence of significant poverty, in part a consequence of the weak and uneven growth performance discussed in Section II.

This section presents key trends in equity in the Philippines and evidence on how growth and economic policies have influenced these trends.1 Highlights include measures of poverty incidence, measures of income distribution, human development, and governance to arrive at a broad view of trends in equity. Economic policies are also discussed, with evidence on the impact of economic growth on equity, as well as specific economic policies that can have an impact on equity (in particular, fiscal policies, external sector policies, and policies toward the agricultural sector).

The main conclusion of the section is that while continued economic growth is a sine qua non for gains in equity, more targeted interventions may be needed, particularly in rural areas. The conclusion that growth helps equity is based on consideration of the cross-country evidence as well as an analysis of time-series and cross-regional data for the Philippines. However, this analysis also reveals that growth by itself may not be sufficient to achieve the desired reduction in poverty, particularly in rural areas.

Trends in Equity

Indicators of poverty have shown a decline since 1985, but remain high in absolute terms, particularly in rural areas (Table 8.1.).

Table 8.1Indicators of Poverty(allocation areas and rural areas)
19851988199119941997
Incidence of poverty—all areas44.240.239.935.532.1
Rural areas50.746.348.647.044.4
Subsistence incidence—all areas24.420.320.418.116.5
Rural areas30.025.326.425.624.8
Adjusted measure of incidence41.535.035.532.2
Sources: National Statistical Office; and Balisacan (1998).
Sources: National Statistical Office; and Balisacan (1998).
  • Preliminary figures from the recent Family Income and Expenditure Survey indicate that in 1997, incidence of poverty (the percent of families classified as “poor”) was 32 percent, and 16.5 percent of families lived below a subsistence threshold. Indicators of poverty in rural areas have shown a much slower rate of decline, and in 1997. remained considerably above the average for all areas.
  • Balisacan (1998) calculates an adjusted measure of incidence that embeds a “consistency” feature for a poverty norm, namely that the poverty threshold is the same across various population subgroups and time periods in terms of the implied standard of living. The measures of incidence based on the Family Income and Expenditure Survey, in contrast, are based on poverty thresholds that differ by region, areas, and years. The adjusted measure of incidence (which will be used further in the next section) shows the same broad pattern as the official measure.

The aggregate figures on poverty incidence conceal a great deal of spatial variation. The National Capital Region (Metro Manila) has consistently had the lowest incidence of poverty—7 percent in 1997—and subsistence incidence (less than 1 percent); outside of the capital region, the poverty incidence ranged from 17 percent to 59 percent (Figure 8.1, top panel). As might be expected, there is a strong positive correlation between the incidence of poverty in a region and the share of families in the region that are rural (Figure 8.1, bottom panel).

Figure 8.1.Poverty Incidence and Rural Share

Source: Family Income and Expenditure Survey, National Statistics Office, the Philippines.

1 NCR–National Capital Region; CAR–Cordillera Administrative Region; and ARMM–Autonomous Region in Muslim Mindanao.

Income inequality has not changed much over the past two decades, and over the most recent period (1994–1997), inequality has actually increased slightly (Figure 8.2). Over the past two decades, the richest 20 percent of the population has received a little over one-half the country’s total income, whereas the poorest 20 percent has received about 5 percent. Understanding the reasons for the recent increase in income inequality requires an analysis of the detailed “raw” data underlying the Family Income and Expenditure Survey (which were only released recently).

Figure 8.2.Income Inequality, 1994 and 1997

Source: Family Income and Expenditure Survey (Manila: National Statistics Office).

Recent advances in equity research (See (1999)) have emphasized that poverty should be seen as the deprivation of basic capabilities. Premature mortality, significant undernourishment, and widespread illiteracy are examples of deprivations that directly impoverish human life. Hence, the allocation of economic resources as well as arrangements for social provision must give some priority to removing these disadvantages.

A variety of indices have been developed by the United Nations Development Program (UNDP) to measure differences across countries in the degree of human development and material well-being; the Philippines tends to be placed in the middle of the group of developing countries, roughly consistent with its per capita income.

  • The Human Development Index, measured on a scale of 0 to 1, is a composite of three measures: health, as proxied by life expectancy; knowledge, as proxied by functional literacy; and standard of living, as proxied by real per capita income. The Philippine Human Development Index for 1995 was 0.672, placing it in the UNDP’s “medium” human development category. The Philippines ranks 98th out of 174 countries for which the index is computed and 89th in per capita GDP; the “negative gap” between the GDP rank and the Human Development Index rank suggests that there is some “potential of redirecting resources to human development” (UNDP (1999)).
  • A related measure, the Human Poverty Index, attempts to measure the extent of deprivation of the most materially deprived people in the country; it is derived as a composite of the following features: a short life (as proxied by the percentage of people expected to the before age 40); a lack of basic education (proxied by the percentage of adults who are illiterate); and lack of access to public and private resources (proxied by the percentage of people without access to health services and safe water, and the percentage of underweight children under five). In 1995, the Human Poverty Index calculated for the Philippines indicated that 17.7 percent of the population was affected by the forms of deprivation included in the measure, roughly comparable to the Human Poverty Index for China and Indonesia.

Corruption is inequitable. The benefits from corruption tend to accrue to the better-connected individuals in society, who belong mostly to the high-income groups (Tanzi (1995)). Recent work by IMF staff (Gupta, Davoodi, and Alonso-Terme (1998)) demonstrates that high and rising corruption increases income equality and poverty by (1) reducing economic growth; (2) lowering the progressivity of the tax system; (3) reducing the effectiveness of social spending and the formation of human capital; and (4) perpetuating an unequal distribution of asset ownership and unequal access to education. An important implication of these results is that policies that reduce corruption will also reduce income inequality and poverty.

Cross-country surveys of perceptions of corruption place the Philippines in the middle of the group of emerging market economies. Transparency International’s Corruption Perceptions Index measures the level of corruption as perceived by business people, risk analysts, investigative journalists, and the general public. The index focuses on corruption in the public sector and defines corruption as the abuse of public office for private gain. In 1998, the Philippines ranked 55th out of 85 countries for which the index was computed.2

Impact of Growth and Economic Policies on Equity

Growth-Oriented Policies and Equity

The relative efficacy of growth-oriented and re-distributive policies in promoting equity continues to be a matter of discussion and debate. Countries adopt different strategies to promote equity. Some focus on redistributive policies, for example, by actively promoting the use of public resources to raise the share of income going to the bottom tier of the distribution or by imposing highly progressive taxes to reduce the share going to the top tier. Some of the support for redistributive policies is based on the belief that growth has an adverse effect on equity in the early stages of development (the so-called “Kuznets curve”). Other countries rely largely on growth to help low-income families, without emphasis on redistribution.

Recent cross-country empirical evidence provides little support for the view that growth is detrimental to equity (Summers (1999)); the Philippines, however, appears to be an exception.

  • Deininger and Squire (1998) find scant evidence of a Kuznets curve for most countries; indeed, periods of growth are just as likely to improve equity as to reduce it. The study uses a much larger data set, covering 91 countries over more than 30 years (1960–92), and better econometric methods than many of the previous studies in the literature. The Philippines, however, is one of five countries where the data do support the presence of a Kuznets curve.
  • More generally, the cases of Japan, the “Asian tigers,” and China provide evidence of enormous reductions in poverty as a result of sustained and rapid growth. Deininger and Squire find that growth produced rising incomes for the bottom fifth of the population in all but a handful of the economies in their study.

In contrast, analysis of Philippine time-series data on poverty incidence points to the importance of growth in improving equity. One way to measure the relative importance of redistributive policies and growth-oriented policies is by performing some counterfactual experiments using the adjusted poverty incidence measure discussed earlier. In particular, the poverty measure can be decomposed into two components:

  • the “growth” component is the change in the measure due to a change in per capita income growth, holding the distribution of income constant (at some reference level); and
  • the “redistribution” component is the change in the poverty measure due to a change in the distribution of income, holding per capita income constant (at some reference level).

The results of the decomposition for the Philippine case are given in Table 8.2. The results show that over 1985–94 as a whole, the growth component has been responsible for essentially all the decline in poverty; the redistribution component has actually been responsible for a slight increase in poverty over the period. Even for subperiods, the growth component has been dominant in periods when the change in per capita growth has been significant: in these periods, the redistribution component has augmented the favorable impact of growth on poverty.

Table 8.2.Decomposition of Poverty Incidence into Growth and Redistribution Components
Change in

Incidence

of Poverty
Growth

Component
Redistribution

Component
1985–88–6.5–6.2–0.3
1988–91–0.5–3.13.6
1991–94–3.3–1.1–2.2
1985–94–9.3–10.31.0

Philippine regional data also support the view that growth contributes to a reduction in poverty incidence, but the effect is weak in rural areas.

  • This conclusion is based on panel regression estimates using data on regional poverty incidence and regional real income from the Family Income and Expenditure Survey for 1988, 1991, 1994, and 1997. These data are used to compute the growth in poverty incidence and real income growth for 13 regions over three periods (1998–91, 1991–94, and 1994–97), giving a total of 39 observations. The Family Income and Expenditure Survey also reports poverty incidence for urban and rural areas within each region, which allows for a test of whether the response of poverty to growth is different between the two groups.
  • The regression estimates, reported in Table 8.3, show that the higher the real income growth in a region, the faster is the decline in poverty incidence. In particular, a 1 percent increase in regional income leads to about a 0.4 percent decline in poverty incidence (regression 1). This relationship continues to hold after accounting for year-fixed effects, that is, elements that were common to all regions in a given year (regression 2). Poverty responds much more to growth in urban areas than in rural areas. In urban areas, the estimated elasticity is 0.8 (regression 3), whereas in the rural areas, it is only 0.2 and not precisely estimated (regression 4). The use of an alternate, and arguably more relevant, measure of rural income growth—gross value added in agriculture and forestry—raises the. estimated elasticity to 0.3, but once again, it is not estimated precisely.
Table 8.3.Regional Poverty Incidence and Regional Growth(Regression estimates)
independent variables
Regression #Sector of the EconomyInterceptReal incomeYear fixed effects?R2
1All areas–0.02–0.44no0.11
(0.03)(0.20)
2All areas0.05–0.45yes0.25
(0.04)(0.25)
3Urban areas0.06–0.80yes0.46
(0.04)(0.26)
4Rural areas0.12–0.23yes0.22
(0.05)(0.28)
5Rural areas0.13–0.33yes0.23
(0.05)(0.28)
Source: Author’s calculations.Notes: (a) the variables are specified in growth rates; hence, the estimated coefficients can be interpreted as elasticities; and (b) numbers reported in parentheses are standard errors.
Source: Author’s calculations.Notes: (a) the variables are specified in growth rates; hence, the estimated coefficients can be interpreted as elasticities; and (b) numbers reported in parentheses are standard errors.

These results suggest that while growth can be expected to alleviate poverty, it may not be sufficient (as indicated by the relatively low R 2 of the regressions). The remainder of the discussion in this section focuses, therefore, on other economic policies that could have an impact on equity (in particular, policies toward the agricultural sector, fiscal policies, and external sector policies).

Agrarian Reforms and Equity

The poor performance of Philippine agriculture in the past two decades has severely constrained the gains in poverty alleviation. Some of the elements responsible for the poor performance include:

  • Heavy regulation of the agricultural sector. As noted in Section II, beginning in the 1970s, price controls on rice and other products were imposed, and imports of wheat and soybeans were monopolized. Controls on the production, marketing, and processing of coconuts—long the country’s most important crop in terms of export earnings and employment—were put in place. Fertilizer and pesticide imports were controlled through licensing requirements. While many of these restrictions have been relaxed or eliminated under the administrations of Aquino and Ramos, reforms in this area have not yet been completed, and important regulations remain in effect that restrict the ability of fanners to increase their earnings or acquire inputs at the lowest possible prices.
  • Uncertainty concerning the implementation of land ownership reform under the government’s Comprehensive Agrarian Reform Program, Launched in 1987, the reform program was intended to redistribute about three-fourths of all agricultural land to landless farmers and farm workers. The program, however, has been plagued by bottlenecks owing to a tack of financing for the enormous costs of the program as well as cumbersome administrative requirements. Uncertainty about the program has discouraged planting and the How of private investments into agriculture, and encouraged conversion of agricultural lands into nonagricultural uses; agricultural land percent a year in the 1970s, but only 0.8 percent a year in the 1980s and early 1990s. Since the government is now the only buyer and seller of a large chunk of agricultural land subject to agrarian reform in the country, the agricultural land market is distorted and the collateral value of agricultural land has been adversely affected, thus further reducing the already inadequate access to formal credit in rural areas (World Bank (1999)).
  • A sharp fall in investments in agriculture, both private (as a consequence of the bias against agriculture introduced by the overvalued real exchange rate and the heavy regulation of the sector) and public (especially rural roads, irrigation, and agricultural research and development).3

Equitable Fiscal Policies

Fiscal policies can contribute to improvements in equity. The main ingredients of equitable fiscal policy are (1) implementation of a fair and efficient system of taxation—ideally a system of easily administered taxes, moderate tax rates, and minimum number of exemptions; and (2) provision of adequate social expenditures, particularly on education and health, to increase equality of opportunity.

In the Philippines, the Comprehensive Tax Reform Program and expansion of the VAT are likely to increase the contribution of the tax system to equity. While there is little evidence to date of the effects on these tax changes on equity, they are likely to improve equity for the following reasons:

  • The extension of the VAT has increased the taxation of many services that are consumed largely by the upper income groups of the population.
  • The reform of the income tax system is intended to ensure that families living below the poverty line have no income tax liability. In addition, the reform is intended to bring into the tax net many individuals, mostly wealthy individuals, who were previously outside the net.
  • The net impact of corporate tax reforms on equity is difficult to predict. Certain features of the reform, such as the lax on employee fringe benefits, would improve the progressivity of the system. Other features, such as elimination of corporate tax breaks and investment incentives, may have an impact on equity only through their likely impact on growth.
  • The impact of the increase in excise taxes on cigarettes and alcohol is likely to be regressive, though the effect is dampened to some extent by the higher tax imposed on premium brands.

In addition, better tax administration can be expected to improve equity by ensuring sufficient revenues for critical social expenditures, and providing a more transparent and uniform treatment of taxpayers.

Education has gained a larger share of total expenditures in recent years; however, concerns about poor quality of educational resources and lack of equity in their distribution remain valid. Since 1994, the share of education in total expenditures has risen—to about 25 percent at present—roughly the same share as in Malaysia and Thailand (Figure 8.3). However, concerns about the intrasectoral and regional allocation of educational resources, as well as the efficiency of educational expenditures remain as valid as ever. In particular:

Figure 8.3.Share of Education and Health Expenditures

Source: International Monetary Fund, Government Finance Statistics.

  • The increased expenditures have gone largely for higher personnel costs, while expenditures on maintenance and other operating expenditures have remained at levels that are incompatible with the provision of quality education (World Bank (1999)).
  • There are significant differences in the regional distribution of educational resources and consequently in educational out comes lot instance, in 1997, the National Capital Region accounted for about 10 percent of total enrollment in public educational institutions, but received 34 percent of the education budget. As a consequence of this uneven distribution of resources, poorer regions tend to have higher proportions of inexperienced teachers and lower completion rates.
  • The share of educational resources devoted to elementary education has declined sharply over time, whereas the share devoted to tertiary education has increased. A reallocation of spending toward elementary education could contribute to a significant improvement in the quality of schooling and higher retention rates for lower-income students, especially in rural areas, and in the process help equity.

Spending on health and nutrition is relatively low in the Philippines by ASEAN standards, biased toward personal health care (rather than preventive care interventions), and inefficient in its interregional allocation of resources.

  • Health is underfunded in the Philippines relative to other ASEAN countries (Figure 8.3, bottom panel).
  • Despite the conventional wisdom that preventive care interventions should have the first claim on resources because of their substantial positive externalities, such programs receive only between 10–15 percent of the Department of Health’s budget.
  • Spending is allocated in a manner that does not target the poorest segments of the population.

External Sector Policies and Equity

In principle, realistic exchange rates and an outward-oriented trade policy are presumed to be consistent with growth, reduced poverty, and improved equity in the medium to long run. Evidence from a recent cross-country study by Sarel (1997) finds partial support for this view. He finds that real exchange rate overvaluation leads to a more unequal income distribution, especially in poorer countries. He concludes that the government should try at least not to contribute to such overvaluation, and be prepared to take corrective measures when such overvaluation occurs. Sarel does not find any link between openness to international trade and changes in the income distribution.

In the Philippines, exchange and trade policies historically have contributed to inequity through a number of channels; changes in many of these policies during the 1990s should have a favorable impact on equity, at least in the medium to long run.

  • As noted in Section II. the Philippines followed a policy favoring import substitution until the tariff reforms of the early 1990s. Trade policies over this period penalized the primary and agricultural sectors—where the poor are predominantly employed—in favor of the manufacturing sector. For instance, estimates of the effective rate of protection indicate that in 1985, the average effective rate of protection for manufacturing was 43 percent higher than that of agriculture.
  • Even within manufacturing, an overvalued exchange rate coupled with fiscal and other incentives encouraged the substitution of capital for labor.

The shift toward outward-oriented policies and market determination of exchange rates should, in principle, contribute to a increase in equity; however, there is as yet little reliable evidence on this issue.

Conclusions

Sustained growth, combined with targeted interventions in some areas, are required to make further gains in equity in the Philippines. Poverty rates remain high, particularly in the rural areas, and the income distribution is highly unequal. While poverty is responsive to growth, attaining the government’s targets for poverty alleviation (poverty incidence of 25–28 percent by 2004) is likely to require targeted interventions in the rural areas, as well as equitable fiscal and external sector policies.

References

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1The discussion draws extensively on the work of IMF staff, particularly Gerson (1998), as well as on manuscripts provided by Philippine scholars Arsenio Balisacan and Solita CoJJas-Mon-sod. particularly Balisacan (1998). Collas-Monsod (1998), and Collas-Monsod and Monsod (1998).
2Coronel (1998) presents nine case studies of the nature and extent of corruption in the Philippines, and the steps being taken to combat it.
3In general, the amount of budget spending devoted to agriculture is quite moderate (1–2 percent of GNP in recent years). However, agriculture is supported through substantial tax privileges and by the National Food Authority (which regulates the rice market and protects domestic farmers from being undercut by cheaper imports).

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