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Thursday, November 20, 2008

Statement of an IMF Staff Mission at the Conclusion of the 2008 Article IV Discussions with the Philippines

The following statement was issued in Manila on November 14 after the conclusion of an International Monetary Fund (IMF) staff mission to the Philippines for the 2008 Article IV Consultation:
"An IMF mission visited Manila during November 5-14, 2008 to hold the 2008 Article IV Consultation discussions with the authorities. The findings will be relayed to the IMF's Executive Board in early 2009 but a preliminary assessment is as follows:
"As the global economy reels from the biggest financial shock since the Great Depression, the major challenge for emerging economies is to navigate through these turbulent times without sustaining major damage. As for the Philippines, significant reforms in fiscal and banking sectors in the past few years, as well as the build-up of reserves in good times, have lessened the economy's vulnerability. Nevertheless, the economy is not immune to the turmoil and it is important to undertake preemptive measures to face the challenges that lie ahead. Trade and financial linkages, including through workers' remittances, between the Philippines and advanced economies have grown over time. On the back of recent mark downs in advanced country growth, the mission expects growth in the Philippines to slow from an expected 4.4 percent this year to 3½ percent in 2009.
"The mission expects the national government deficit be 0.9 percent of GDP this year (on the authorities definition which includes privatization). The tax effort is expected to remain broadly unchanged at around 14 percent of GDP as windfall revenue gains from high oil prices were broadly offset by changes to the income tax law and weakness in VAT revenues. On a note of concern, domestic taxes have performed weakly through the year and need to be carefully monitored in the period ahead. On the expenditure side, higher current spending (including through National Food Authority (NFA) operations) will likely be offset by lower capital expenditure reflecting weak absorptive capacity. Non-financial public sector debt in percent of GDP is expected to rise modestly this year, due largely to a weaker exchange rate, reversing the recent trend. The NFA is expected to incur a deficit of 1 percent of GDP this year from a broadly balanced position in 2007. The authorities' goal of protecting the poor can be better realized instead by using well-targeted conditional cash transfer schemes.
"For 2009, the key challenge for fiscal policy is to balance the need for cushioning the impact on the real sector against the benefits of maintaining fiscal discipline. On the one hand, an expansion of the deficit would help to soften the impact of the global shock on the domestic economy. On the other hand, on account of recent changes to the income tax law and the planned reduction in the corporate income tax, the tax effort may fall close to levels seen before the reform of the VAT. This could re-kindle investor concerns, especially in the context of expected tight external financing conditions for emerging markets next year. In the mission's assessment, a measured expansion of the national government deficit, to up to 1.7 percent of GDP in 2009 (authorities basis), would help to soften the reduction in growth while containing any adverse market reaction. Reforming excises on tobacco and alcohol products and rationalization fiscal incentives, as well as accelerating the implementation of the tax administration reform program, would provide more resources. These could be devoted to raising public investment and protecting the poor. In this regard, the mission reiterates the need for legislative and administrative action to raise the tax effort.
"Monetary policy has appropriately changed course. The mission shares the Bangko Sentral ng Pilipinas' (BSP's) assessment that inflationary pressures are beginning to stem. The mission expects inflation to average 9.8 percent this year and 6 percent in 2009. If the economic slowdown proves protracted and inflation expectations adjust sufficiently downwards, which appears to be a likely scenario, monetary policy could be eased in the period ahead. Also, preserving the level of reserves at a sufficiently high level will help sustain confidence in the peso as well as the resilience of the financial system.
"Recent reforms have strengthened the financial system but spillovers from the global financial crisis need to continue to be monitored. The fallout of the global financial crisis on the domestic financial system has to date been limited. While direct exposure to Lehman Brothers and to toxic assets has been small, rising sovereign spreads have led to mark-to-market losses on banks' holdings of Philippine sovereign bonds. To provide some relief from these losses, the BSP has allowed banks to reclassify assets. The mission welcomes the BSP's resolve to not allow these measures to impair transparency about the soundness of financial institutions. The BSP has also appropriately introduced a number of measures to support liquidity positions. These include the U.S. dollar denominated deposit facility and repurchase agreement with banks and lowering of the reserve requirement by 2 percentage points and doubling the size of the rediscount window. The mission supports the authorities' plan to raise the deposit insurance limit to P500,000 and suggests that some flexibility be allowed on the coverage limit. At the same time it is important to recapitalize the Philippine Deposit Insurance Corporation to match the higher insurance liabilities under the new limits. There is scope to strengthen the banking resolution framework, including through making restructuring decisions irreversible."

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