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Arroyo's Promise

Can President Gloria Macapagal-Arroyo steer the Philippines through the global downturn?

  • By Allen T. Cheng

There is never a good time for a crisis. But for the Philippines, which has known more than its share of difficulties, the global economic downturn comes at a particularly tricky moment. After decades of failed promise, the country in recent years has registered some of its best economic performances ever as a result of the fiscal reforms and pro-business policies of President Gloria Macapagal-Arroyo. Now those gains are threatened by the recession in the U.S. and Europe, which has caused the country’s exports to plunge and growth to slow sharply.

But Arroyo, who took office eight years ago when the Philippines was on the brink of recession and turned the economy around, is confident that the country can meet the new challenges. Her government is taking advantage of its fiscal reforms, which have dramatically lowered the deficit and the national debt in recent years, to ramp up spending to combat the economic slowdown. The 2009 budget, which Congress approved in January, contains a stimulus package of 300 billion pesos ($6.4 billion) for infrastructure spending and tax breaks. The president also believes that the Philippines’ business-process outsourcing industry, which she has actively promoted, stands to benefit from recessions abroad as hard-pressed American and European companies look to cut costs.

“The important thing now is to work on the global recovery together and to prevent the global crisis from becoming a crisis in the Philippines,” Arroyo tells Institutional Investor in a recent interview in Hong Kong, where she was attending a meeting of the Clinton Global Initiative. “Reform has been the central pillar of our administration. Key among the reforms is the expanded value-added tax, which allowed us to have the revenue to invest in human and physical infrastructure as well as social services.”

Although the country resisted the early stages of the financial crisis, its economy — like most across Asia — is feeling the global slowdown that followed the collapse of Lehman Brothers Holdings in September. Exports dropped by 11.9 percent in November, with shipments to the U.S. — the country’s biggest market — plunging by 18.8 percent. Foreign direct investment, which had surged in recent years, declined 47 percent in the first ten months of 2008, to $1.42 billion. Remittances from Filipinos working overseas have held up well so far, but they too are likely to be hit by recessions in foreign markets, the International Monetary Fund warned last month.

The government’s budget calls for growth of 3.7 percent to 4.7 percent this year, compared with 4.6 percent in 2008 and a record 7.2 percent in 2007, but economists have been rapidly downgrading their forecasts. The IMF last month predicted that the newly industrialized Asian countries, a group that includes the Philippines, would see their output decline by 3.9 percent this year. “There is no question that growth will slow, given that 60 percent of the nation’s exports are electronics,” says Robert Sears, executive director of the American Chamber of Commerce of the Philippines.

Arroyo is no stranger to crisis, though. She took power in 2001 when the country was reeling from the forced resignation of President Joseph Estrada over corruption allegations and suffering from the global economic downturn sparked by the collapse of technology stocks. By moving steadily to reduce the government deficit and actively courting foreign investment, Arroyo succeeded in bolstering confidence and putting the economy on a robust growth track.

“When President Arroyo took over, she wasn’t dealt the best of hands,” notes Tom Byrne, head of sovereign ratings in Asia for Moody’s Investors Service. “She stabilized the worsening of the budget deficit. They managed to hit their target in the past couple of years.” Moody’s gives the Philippines a relatively low B1 sovereign rating but retains a “positive” outlook.

Neeraj Jain, Philippines country director at the Asian Development Bank in Manila, is equally optimistic. “She has shown fantastic economic management and good economic leadership,” he says. “They have a good road map. They also built up a huge fiscal capacity in the past five years to deploy to face off the global crisis.”

The Philippines can also boast some positive employment news, a stark contrast to the layoffs sweeping the U.S. and Europe. Executives at global banking giant JPMorgan Chase & Co. say they plan to hire an additional 4,000 Filipinos in 2009 for business-process outsourcing, bringing its total employment in the country to 7,000.

“India may be No. 1 in terms of providing back-office support for global companies, but it’s important to diversify and not concentrate risk,” says Barry Marshall, head of JPMorgan’s customer care center in the Philippines. “The level of English is fantastic here. They speak American English.”

The country’s banks are also in relatively good health. Some 4 percent of all loans are nonperforming, down from 17.3 percent in 2001, when Arroyo took office. Banks came into compliance with Basel II requirements in 2008 and boast an average capital adequacy ratio of 15.5 percent. “Philippine banks are basically quite conservative,” asserts central bank governor Amando Tetangco. “They are still domestically oriented. They generate deposits, the bulk of which are in pesos, and they extend loans, again in pesos.”

The daughter of popular politician Diosdado Macapagal, Arroyo first moved into Malacanang Palace at age 14, when her father, known by his nickname “the Incorruptible,” won election as president in 1961. Born to a peasant family, Macapagal enacted land reforms that helped poor farmers, boosted growth by floating the peso and changed the national independence day from July 4 — a legacy of U.S. colonial rule — to June 12, the date the Philippines declared independence from Spain in 1898. He lost his bid for reelection four years later to Ferdinand Marcos, whose embrace of authoritarianism stunted the Philippines politically and economically for the next two decades.

Arroyo spent two years at Georgetown University’s Edmund A. Walsh School of Foreign Service in the 1960s, where she got to know classmate and future U.S. president Bill Clinton, before graduating with a BA in economics in 1968 from Assumption College in Manila. She earned a doctorate in economics from the University of the Philippines in 1985, became a professor and later chaired the economics department at Assumption.

Arroyo entered politics in 1987 at the invitation of then-president Corazón Aquino, becoming an assistant secretary and later undersecretary at the Department of Trade and Industry. She won a Senate seat in 1992 and in 1998 was elected vice president under Estrada, succeeding him on his resignation.

The president’s background is critical for a country that has trailed economically for decades. In the 1960s per capita income was $612 in the Philippines, well ahead of Thailand’s $329 and Indonesia’s $196 and just behind Malaysia’s $784, according to the Asian Development Bank. But the Philippines was mired in corruption and political turmoil during the Marcos era and beyond, while most of its neighbors powered ahead. As a result, the country’s per capita income stood at $3,400 in 2008, well behind Thailand’s ($8,700) and Malaysia’s ($15,700), according to the U.S. Central Intelligence Agency. China, which had an average annual income of just $100 in the 1960s, has leapfrogged ahead to $6,100.

The key to reviving growth has been Arroyo’s success in getting control of the government budget. Initially, her administration focused on cutting spending growth and boosting revenues by setting targets for tax collectors.

In 2006, Arroyo overcame the opposition of many wealthy Filipinos and pushed through Congress an increase in the value-added tax, to 12 percent from 10 percent. “This allowed a lot of resources to come in and helped us fund a lot of the social services and infrastructure expansion and cut our debt-to-GDP ratio,” Finance Secretary Margarito (Gary) Teves tells II in an interview in his Manila office. The government deficit was 1 percent of GDP in 2008, down from a peak of 5.3 percent in 2002, and the national debt had declined to 57 percent of GDP at the end of last year, from 76 percent in 2004. The government’s medium-term plan calls for balancing the budget in 2010 and reducing the debt to 43 percent of GDP that year, but the stimulus spending will delay that target, Teves concedes, without specifying a new date.

The new budget calls for the deficit to increase by P27 billion, to P102 billion, or 1.2 percent of GDP, this year. The P1.4 trillion budget, up nearly 16 percent from 2008, contains a near-tripling of infrastructure spending, to P260 billion, and will finance many projects already under way, including 32 airports, 28 power plants, 27 seaports and nine railways. “The spending is targeted — it is not just spending for the sake of spending,” notes Arroyo.

Arroyo is also ramping up investment in agriculture in a bid to make the country self-sufficient in rice. She drafted the program in response to a global rice shortage last year that saw wholesale rice prices more than double, to P40 a kilogram, inflation surge to a high of 12.4 percent and fights erupt as hundreds of thousands of people queued up for scarce supplies of the staple. The Philippines, whose population of 91 million is growing by 2 percent a year, imported 2 million tons of rice in 2007, roughly 10 percent of its consumption and 7 percent of the global trade in rice.

The government’s program aims to more than double investment in agriculture, to P50 billion a year for five years, with spending focused on building rural roads, irrigation canals and regional warehouses to store rice, says Agricultural Secretary Arthur Yap. “Since the time of martial law [under Marcos], this is the first time we had such a large-scale investment in agriculture,” he points out.

Former Agriculture secretary Salvador (Sonny) Escudero, who advised Yap and Arroyo on the program, says, “If implemented properly, the president’s program can make the Philippines self-sufficient in many agricultural products, especially rice.” More than 50 percent of the population lives in rural areas, and creating jobs there will slow the migration of people into urban slums, he notes.

Many Filipinos have long migrated overseas for work, of course. Currently, some 8 million workers live abroad, and they send $1.4 billion a month back to the Philippines. Remittances account for 11 percent of GDP and are a major reason foreign exchange reserves reached a high of $36 billion in November, compared with $15.6 billion in 2001. The government launched a financial planning and investment program for overseas workers to encourage a continued flow of funds.

The global downturn poses a threat to these flows, but the president remains optimistic that remittances will continue to grow this year. “The bulk of our expatriates are in the Middle East and Asia, which are fairly resilient in the face of the downturn in the U.S. and Europe,” she says. “And our workers are increasingly becoming skilled workers. So the higher the skill, the higher the income and the higher the remittance.”

The wealth effects of remittances are apparent in Manila. Romson Velez, who runs Expat Realty and Services Co., which manages condos on behalf of investors in the capital’s Makati business district, says most luxury condominium projects cater primarily to Filipinos living abroad. “Many who spend a lifetime working overseas tend to buy property at home as a way to save for retirement,” he explains.

But President Arroyo doesn’t believe that the country can continue to rely on earnings from abroad. Since taking office she has been nurturing the business-process outsourcing industry, trying to lure multinationals to set up call centers and back-office operations in a bid to create jobs in a country where the unemployment rate stands at 10 percent.

More than 380,000 Filipinos now work at call centers and in back-office support operations run by multinationals, notes Oscar Sañez, chief executive officer of the Business Processing Association of the Philippines, which has more than 200 international members, including Accenture, Dell Computer, HSBC Holdings, IBM Corp., JPMorgan, Microsoft Corp. and Procter & Gamble Co. The industry produced $6.8 billion in revenues in 2008, up 35 percent from 2007, and may employ close to 1 million people by 2012, with revenues topping $13 billion, he says.

Vikas Kapoor, CEO of New York–based business-process solutions provider iQor, which employs 2,500 people at three call centers in the Clark Special Economic Zone north of Manila, a former U.S. Air Force base, recalls telling Arroyo last February that his staff didn’t have many places to eat or take a break during graveyard shifts. “She was on the phone within minutes of our conversation and was telling one of her cabinet secretaries to look into enticing private investors to build more shopping malls and restaurants that operate around the clock at Clark,” Kapoor says.

Trade and Industry Secretary Peter Favila says he and the president will “do everything possible” to help foreign investors. One such move is a cut in the corporate income tax rate, to 30 percent from 35 percent. The reduction was enacted in 2008 as part of a long-term tax strategy but took effect in January, which could provide another bit of timely stimulus.

Notwithstanding incentives, foreign investors continue to complain about corruption in the Philippines. “Even getting appointments with government officials often involves paying individuals’ ‘fees,’” says David Elefant, who runs a Wi-Fi network on the resort island of Boracay. The Philippines comes in a lowly 141st in Transparency International’s corruption perceptions index, tied with Iran and Yemen and trailing Indonesia.

Arroyo denies opposition allegations of corruption, saying they are part of “hardball politics” in the country. “We don’t want to tolerate corruption,” she says. “That is why we made anticorruption an agenda for the remainder of my term. Unfortunately, the Philippines has a long legacy of corruption. Although you can’t solve it overnight like Hercules going to the Augean stables, we are making progress.”

Philippine politics is indeed rough-and-tumble. Over the past eight years, Arroyo has survived three coup attempts by insurgents in the military, and in December she beat back a fourth impeachment attempt by congressional opponents. Undaunted, the president continues to look ahead to completing her term in 2010 and putting the Philippines on track to achieve developed-economy status in 20 years.

“My goal is to help the Philippines become a first-world nation,” she says. “What we’re doing is bringing our country well on the road toward that goal. To do that we have to make sure our progress is maintained on a fiscal front. We have to make sure it translates into benefits for the people.”