Higher deficit target allows focus on ‘capacity-building’, but raises near-term risks
The incoming administration’s plan to raise the government’s budget deficit target to 3 percent of gross domestic product (GDP) can provide spending space to potentially push the Philippines to above 8-percent annual growth, but could lead to short-term pressure in the form of higher interest rates.
“I do not doubt the capacity of our strong macroeconomic foundation to accommodate expansionary budgets, but . . . we should continue to make sure that our implementing agencies are able to improve on their budget execution and absorption capacities,” outgoing Budget and Management Secretary Florencio Abad told reporters over the weekend.
Since 2013, the Philippine budget deficit has remained below the target of 2 percent of GDP. In 2013, the gap was at 1.4 percent before going down to 0.6 percent in 2014 and bouncing back to 0.9 percent last year.
Incoming Finance Secretary Carlos Dominguez and Abad’s successor, Benjamin Diokno, have both said the new administration is likely to raise the deficit limit to 3 percent of GDP.
Abad stressed that the role of implementing agencies in efficient and timely budget execution is vital to meet the target.
“Even if you expand that [deficit], but your absorption is limited, then you still have to deal with agencies being able to use the funds that are available,” Abad added.
Focus on infrastructure
Bank of the Philippine Islands (BPI) Vice President and lead economist Emilio Neri Jr. said an economic growth rate of as much as 8 percent per year is not impossible if the next administration will focus on infrastructure development.
“The Aquino administration’s budget deficit averaged at 1.5 percent, which would be doubled by the next administration,” Neri explained. The key, he explained, would be for the spending to be directed to value-added areas such as infrastructure.
“If they will deliver in infrastructure and hopefully all the corruption indices of the country do not deteriorate too fast, an 8-percent sustainable economic growth is not impossible for the Philippines,” he pointed out.
Neri stressed that this will boost the inflow of job-generating foreign direct investments in the country.
“If the market sees that the money spent is being mobilized into capacity-building projects like infrastructure, they will have the confidence to pour in more money to the Philippines,” he said.
Interest rate risk
Going forward, Neri said failure of the new administration to focus on these capacity-building projects immediately would entail bigger financing requirements for the government that could create pressure for higher interest rates.
“When spending is not able to benefit the government, that would imply that government cannot tax immediately. They will not be able to recover immediately what they spend today in the form of new taxes in the future,” he said.
“In between that period when they spend and they are not able to get it back from taxes, the financing requirement of the government will be quite significant and assuming that all things are equal, that could pressure interest rates to go up,” Neri explained.
He said the worst-case scenario from an immediate significant increase in government spending is that interest rates could increase by as much as 100 basis points as early as 2017.