Only air-conditioners and other cooling devices are overheating in the Philippines, where the onset of the summer season is causing tempers to flare. As far as government officials and experts are concerned, “overheating” is not a term that would best describe the current state of Philippine economy.
While the Philippine economy is growing at a faster pace—the highest in three, or even four decades—growing concerns related to its sustainability have recently surfaced. Last week the World Bank said the Philippines may already be showing signs of economic overheating on account of the country’s average capacity-utilization rate rising to a two-decade high.
An “overheated” economy, simply defined, is an economy that is growing an unsustainable pace. One of the first signs of this is high inflation. Birgit Hansl, World Bank lead economist and program leader for Equitable Growth, Finance and Institutions for Brunei Darussalam, Malaysia, Philippines and Thailand, said rising inflation and high credit growth have already been observed in the Philippines.
The Washington-based lender expects the Bangko Sentral ng Pilipinas (BSP) to tighten monetary policy after inflation averaged 3.3 percent for the year.
Hansl noted that the World Bank’s report, titled, “Philippines Economic Update,” indicated that the capacity of the local manufacturing sector is peaking to 84.1 percent and this shows the economy’s ability to produce and grow more is reaching its limit. She also said the increase in real wages has been almost flat in the past 10 years. The report stated that while employment increased, mean wages remained stagnant between 2006 and 2015.
“Increasing inflation together with high credit growth…the recent output rising to capacity level…labor market indicates really that the economy is operating at capacity and there is, perhaps, the risk of overheating in the economy,” Hansl said.
Socioeconomic Planning Secretary Ernesto M. Pernia said, however, that concerns about imminent risks of overheating were simply “exaggerated.” He added the country’s solid macroeconomic conditions and ongoing reforms make the economy disposed for sustained and even higher growth. He also reiterated that concerns on overheating are being met head on with reforms that focus on addressing red tape, closing infrastructure gaps and investing in human capital, which has been lagging in the past few years.
The National Economic and Development Authority (Neda) chief said the government is exerting efforts to enforce and monitor the Anti-Red Tape Act (ARTA), which is expected to reduce the unnecessary burden the government is imposing on the private sector.
The impact of the massive infrastructure campaign of the Duterte administration, dubbed as “Build, Build, Build,” is expected to be felt this year. At least 34 flagship projects of the administration will be rolled out this year or early next year. The Neda is also pushing for the full implementation of the Republic Act 10687, also known as the Unified Financial Assistance System for Tertiary Education Act, which will expand access to higher education as the government continually invests in teacher training and other critical inputs to ensure the quality of education.
“As we tread a high growth trajectory, risks are typically present on both domestic and external fronts. Nevertheless, we remain vigilant in monitoring these developments. And we already have the platform to effectively address these concerns,” Pernia said.
“This is also the first time that we are seriously implementing measures to maximize our demographic dividend. At this point, we want families to attain their desired family size while the government pours sufficient investments into programs helping children reach their full potential,” he added.
Inflation and growth
Commodity prices are among the most important economic indicators that Filipino households are sensitive to. High prices are crucial in sending millions to poverty, while low prices mean more resources for various needs and wants.
However, in the past five years, the Philippines has enjoyed low prices and high economic growth —a “rare” combination, according to economists.
Between 2013 and 2017 full-year inflation was at its highest in 2014 at 3.6 percent, using the new base year and methodology to compute the Consumer Price Index employed by the Philippine Statistics Authority (PSA). The lowest annual average inflation rate was at 0.7 percent in 2015.
In terms of economic growth, which is expressed in constant 2000 prices or real terms, the Philippine economy grew an average of 6.6 percent between 2013 and 2017. The highest annual economic growth the country posted was in 2013 at 7.1 percent, while the lowest was in 2015 at 6.1 percent. At current prices or nominal terms, economic growth averaged 8.4 percent. Nominal GDP was highest in 2014 at 9.5 percent and was lowest in 2015 at 5.4 percent.
“Real GDP growth and inflation have a negative relationship. When inflation is low, real GDP growth is relatively high. Nominal GDP growth, however, can have a positive relationship with inflation, since an increase in demand can raise prices,” University of Asia and the Pacific School of Economics Dean Cid Terosa told the BusinessMirror.
“At present, inflation lowers nominal GDP by less than 3 percentage points. This is low relative to some Asean countries,” Terosa added.
Neda Undersecretary for Policy and Planning Rosemarie G. Edillon said inflation is not entirely bad for the economy as it is an indicator of demand. Edillon said between 2010 and 2017, nominal GDP increased by 76 percent, but real GDP grew by 52 percent on average. She added that nominal GDP grew by 8.4 percent, while commodity prices increased by 2.2 percent on average during the period.
“It should also be understood that economic growth comes with some inflation. When inflation becomes too high, then it can negatively affect future growth,” Edillon said.
This “high” level of inflation, especially if it is accompanied by a 20-percent peso depreciation, is “deadly” for the country’s GDP, according to Emilio S. Neri Jr., lead economist of the Bank of the Philippine Islands (BPI).
Neri told the BusinessMirror that the current level of inflation, which averaged 3.8 percent in the first quarter of 2018, is not dangerous to the country’s economic growth. This is the case even if inflation averaged 4.3 percent in March alone.
Neri said as long as inflation is lower than nominal GDP growth, the economy remains to have a “fighting chance.” He added that even if 2018 nominal GDP rises to 14 percent, from 10 percent in 2017 and even if inflation rises from 3.2 percent in 2017 to 4.5 percent in 2018, the economy will be fine.
The inflation rate of 4.3 percent in March is above the 2-percent to 4-percent inflation target of the BSP. The target is the same for the years 2017 to 2022. However, Neri said this target is very low and could even be bad for economic growth. He added the low inflation target may have also been the reason that kept the economy from maximizing its growth potential in the past few years.
“It might be counterproductive if the inflation target is that low. We were just lucky in 2015 and 2016 when global oil prices fell below $25 per barrel. Now that it has normalized to $60 to $70 per barrel, raising interest rates to keep inflation below 4 percent might be bad for growth. We should widen the target to maybe 1 percent to 6 percent,” he said.
‘Goldilocks period’
Despite the threat of rising inflation, there is no stopping the engines of the Philippine economy from growing by 7 percent to 8 percent in the medium term, according to the Neda. In a presentation in Cebu last Thursday, Pernia said the economy is, indeed, in the golden age of growth, a “Goldilocks period” that will allow it to provide more jobs and lift millions out of poverty. This meant that the economy was “neither too hot nor too cold” and that growth is “just right.”
The Asian Development Bank agreed with this pronouncement. ADB Philippine Country Office Director Kelly Bird said what the country is now experiencing is
simply a golden age of economic growth that has never been seen in at least 40 years.
Bird said this kind of growth is based on solid macroeconomic fundamentals that can be sustained in the medium term. He also said the Philippines’s recent economic growth occurred at a time when there is also moderate inflation, low deficit, declining debt and
investment grade rating.
The ADB Philippine country official said the Philippines’s fiscal position remains strong with a deficit of only 2.2 percent of GDP and national debt standing at around 42 percent of GDP, the lowest in 20 years. This will be strengthened by the revenues to be collected from the Tax Reform for Acceleration and Inclusion program. Bird said the country is expected to collect P90 billion this year and P140 billion next year.
Bird added the country’s fixed- investment rate increased to 25 percent of GDP after years languishing at only 10 percent to 20 percent of GDP. He also pointed out the strong employment numbers, which, as of the January Labor Force Survey, showed an unemployment rate of 5.3 percent and employment rate of 94.3 percent.
“I say this to my colleagues, the Philippines is in like a golden age for its economic growth, it’s been growing at this pace for several years and it is its strongest economic expansion in over 40, 50 years,” Bird said. “It’s quite a virtuous cycle, that’s why I call it a golden age for the Philippines because its growing in a very sound macroeconomic policy framework.”