RA 10574: Only a gesture, but a welcome one


foto Ben Kritz

In what was hailed as “opening up another area where foreign capital can go into” by his grammatically-challenged spokespeople, President Benigno Aquino 3rd signed Republic Act (RA) 10574 on May 24, raising the ceiling on foreign ownership of rural banks to 60 percent. The new law also permits rural banks to foreclose on property covered under the Agrarian Reform Act, up to a five-hectare limit.

The opportunity for increased foreign investment in any sector of the Philippine economy is in general a good thing, so RA 10574 is laudable for that reason alone. It does not mean the investment will automatically come, and it does not mean that domestic capital generation—the surfeit of which is actually the Philippines’ bigger problem—will necessarily be encouraged by it, but an opportunity is better than no opportunity, and there are a number of potential benefits to attracting foreign investment to the country’s troubled rural banking sector.

Ideally, and this is probably the thinking behind RA 10574, increasing foreign investment in rural banks will bring added capital to the sector and expand the access of the vast lower-income sector of the country’s population to formal banking. The potential boost to microfinance will reduce reliance on the informal money sector, encourage the growth of the micro- and small-enterprise sector and provide legitimate opportunities for lower-income families to build some savings. In addition, bringing in foreign investors potentially brings in better management, so the performance of rural banks will improve.

These are the hypothetical potential benefits of RA 10574, and to be clear, there is no real reason any of those things cannot happen. But there are some realities that should temper everyone’s enthusiasm. The biggest potential problem is the uncertainty as to whether, or not RA 10574 is actually legal. The law is apparently in conflict with the “60-40” provision of the Constitution, reserving majority ownership in Philippine businesses to Filipinos, a framework that was confirmed by the Supreme Court’s “national patrimony” ruling in 1997 and has not been seriously challenged since. The validity of RA 10574 according to the Constitution is not clear one way or another, at least not to a non-lawyer reader and so there is a good chance that it will be challenged before it can be implemented. Realistically, the law should be challenged. Whatever one’s view on constitutional amendment might be, it is an unfortunate fact that despite its great detail (the 1987 Constitution is more than three times longer than the US Constitution), there are a great many inconsistent or vague provisions in the 1987 Constitution that need to be clarified. Subject RA 10574 to a test before the Supreme Court, while probably an unappealing prospect for those hoping for greater economic liberalization, will help to clarify the current state of investment restriction and bring the economic liberalization debate into much sharper focus.

Even if the preferable decision that RA 10574 is valid is reached, our enthusiasm for “another area where foreign capital can go into” should be tempered by reality. Rural banking is a small-capital, high-risk sector anywhere, and particularly here in the Philippines where the sector’s recent history has been characterized by a number of failures, regulatory interventions and a couple of high-profile fraud cases. Just on Friday (May 31), the Monetary Board placed the Rural Bank of Naval (Leyte) under Philippine Deposit Insurance Corp. (PDIC) receivership, the eighth such takeover of a rural bank so far this year. While on the face of it the proactive stance of the nation’s monetary regulators in removing bad banks from the system might look like a positive sign to investors, the fact that it happens so often is not an encouraging assessment of the rural banking industry as a whole. And some of the Monetary Board’s and PDIC’s actions have been sufficiently “murky,” so to speak—such as in the controversies that erupted in the wake of the closures of Banco Filipino, LBC Bank and Export and Industry Bank—that investors might sense an unreasonably high risk of loss.

Nor should the benefits to the wider economy of a new area for foreign investment be oversold to the Filipino public. The entire banking industry in the Philippines, measured in terms of deposit liabilities, is worth about P5.75 trillion; of that, rural banks only account for about P127.7 billion, or roughly 2.2 percent of the entire industry, according to PDIC statistics as of December 2012. Even under the most ideal circumstances, the impact of increased foreign investment in rural banks on the economy as a whole or even just the banking system will be negligible at best.

Nevertheless, the President’s signing RA 10574 into law was better than not doing it. It provides an opportunity to debate and hopefully clarify some aspects of the legal issues regarding foreign investment, and if it works as its proponents hope it will, presents a chance to provide some fiscal opportunity to the part of the population that needs it the most. But it is by no means a sure winner, nor a really significant liberalization initiative. It’s a mildly-positive first step and a positive gesture at least and that is good, but much work still lies ahead.


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